Introduction and The Choice of Economic System

A New Dawn: Nation Building after Independence

On 15th August 1947, India gained independence after two centuries of British rule, placing the task of nation-building into the hands of its leaders. A crucial decision was to choose an economic system that would promote the welfare of all citizens, not just a select few. The leaders of independent India, particularly the first Prime Minister, Jawaharlal Nehru, sought an alternative to the extreme versions of capitalism and socialism.

While Nehru was deeply influenced by socialism, he was not in favour of the model adopted by the former Soviet Union, where the government owned all means of production and there was no private property. Such a system was incompatible with a democratic country like India.

Types of Economic Systems

Every society must answer three fundamental economic questions:

1. What goods and services should be produced?
2. How should the goods and services be produced? (e.g., using more labour or more machines)
3. How should the goods and services be distributed among the people?

The answers to these questions define the type of economic system.

India's Path: The Mixed Economy

Indian leaders opted for a mixed economy, a system that combines the best features of socialism without its drawbacks. The vision was for India to be a socialist society with a strong public sector, but also with private property and a democratic framework.

• The government would provide essential goods and services that the market might fail to provide adequately.
• The market (private sector) would provide whatever goods and services it could produce well.
• The government would plan for the economy, and the private sector would be encouraged to be a part of the plan effort.

This outlook was reflected in the ‘Industrial Policy Resolution’ of 1948 and the Directive Principles of the Indian Constitution. To implement this vision, the Planning Commission was set up in 1950 with the Prime Minister as its Chairperson, marking the beginning of the era of Five Year Plans.

The Goals of Five Year Plans

What is a Plan?

A plan outlines how the resources of a nation should be utilised. It contains general goals and specific objectives to be achieved within a specified period. In India, these plans had a five-year duration and were known as Five Year Plans, a concept borrowed from the former Soviet Union. These plans were designed to provide the basis for a long-term 'perspective plan' spanning twenty years.

The goals of the Five Year Plans were: growth, modernisation, self-reliance, and equity. Due to limited resources, each plan had to prioritise certain goals, but the overall policies aimed not to contradict any of these four foundational objectives.

The Four Core Goals

1. Growth

This refers to the increase in the country’s capacity to produce goods and services. A good indicator of economic growth is a steady increase in the Gross Domestic Product (GDP). The GDP is the market value of all the final goods and services produced in the country during a year. Growth implies an increase in the size of the "economic cake," so that more people can enjoy a richer and more varied life. The GDP of a country is derived from its three sectors: agriculture, industry, and services. The contribution of these sectors forms the structural composition of the economy.

2. Modernisation

Modernisation involves the adoption of new technology to increase the production of goods and services. For instance, a farmer using High Yielding Variety (HYV) seeds or a factory using a new machine are examples of modernisation. However, it also refers to changes in social outlook, such as the recognition of women's rights and their participation in the workforce. A modern society utilizes the talents of all its citizens, which often leads to greater prosperity.

3. Self-Reliance

The first seven Five Year Plans gave high importance to self-reliance. This means avoiding imports of those goods which could be produced within India. This policy was considered essential to reduce dependence on foreign countries, especially for food. As a nation recently freed from foreign domination, it was feared that dependence on imported food, technology, and capital could make India’s sovereignty vulnerable to foreign interference.

4. Equity

Growth, modernisation, and self-reliance by themselves do not guarantee an improvement in the quality of life for all. It is crucial to ensure that the benefits of economic prosperity reach the poor sections of society and are not just enjoyed by the rich. Equity means that every Indian should be able to meet their basic needs (food, housing, education, healthcare) and that inequality in the distribution of wealth should be reduced.

Agriculture (1950-1990)

Addressing Colonial Stagnation: Land Reforms

At the time of independence, India's agricultural sector was characterized by low productivity and deep-seated inequity. The land tenure system was dominated by intermediaries like zamindars and jagirdars, who merely collected rent from the actual tillers without contributing to farm improvements. To address this, the government introduced land reforms.

Abolition of Intermediaries

Steps were taken to abolish intermediaries and make the tillers the owners of the land. The idea was that ownership would provide an incentive for cultivators to invest in improving their land. This policy, known as 'land to the tiller', brought about 200 lakh tenants into direct contact with the government, freeing them from exploitation by zamindars.

Land Ceiling

This policy aimed to promote equity by fixing the maximum size of land that could be owned by an individual. The purpose was to consolidate land from large landholders and redistribute it among the landless, reducing the concentration of land ownership.

Successes and Failures of Land Reforms

The abolition of intermediaries gave tenants the incentive to increase output, contributing to agricultural growth. However, the goal of equity was not fully achieved.

• Loopholes: Former zamindars exploited loopholes in the legislation to retain large areas of land. In some cases, tenants were evicted, and landowners claimed to be 'self-cultivators' to claim ownership.
• Legal Hurdles: Big landlords challenged the land ceiling legislation in courts, delaying its implementation and using the time to register their lands in the names of relatives.
• Uneven Implementation: Land reforms were successful in states like Kerala and West Bengal, where governments were committed to the policy. In many other states, a lack of political will led to the persistence of vast inequalities in landholding.

The Green Revolution

The stagnation in agriculture during the colonial rule was permanently broken by the Green Revolution. This refers to the large increase in the production of food grains, particularly wheat and rice, resulting from the use of High Yielding Variety (HYV) seeds.

Phases and Impact

• First Phase (mid-1960s to mid-1970s): The use of HYV seeds was restricted to more affluent states like Punjab, Andhra Pradesh, and Tamil Nadu, and primarily benefited wheat production. This required reliable irrigation, fertilizers, and pesticides, which only wealthier farmers could afford.
• Second Phase (mid-1970s to mid-1980s): The HYV technology spread to a larger number of states and benefited a wider variety of crops.

The Green Revolution enabled India to achieve self-sufficiency in food grains and build a buffer stock to be used during food shortages. The increase in production led to a decline in the relative price of food grains, benefiting low-income groups. The portion of agricultural produce sold by farmers in the market, known as marketed surplus, increased substantially.

Ensuring Equity in the Green Revolution

There was a fear that the Green Revolution would increase the disparity between small and big farmers. However, the government took steps to prevent this:

• It provided loans at low interest rates to small farmers.
• Fertilisers were provided at subsidised rates.
• Government-established research institutes provided services to reduce the risk of pest attacks on HYV crops.

These measures ensured that small farmers could also access the new technology and its benefits.

The Debate Over Subsidies

The economic justification for agricultural subsidies is a hotly debated topic.

Industry (1950-1990)

The Drive for Industrial Development

Economists widely agree that poor nations can progress only with a strong industrial sector. Industry provides more stable employment than agriculture and promotes modernisation and prosperity. The Five Year Plans, therefore, placed great emphasis on industrial development to diversify an economy that was largely confined to cotton textiles and jute at the time of independence.

The Leading Role of the Public Sector

A major question for policymakers was the respective roles of the government (public sector) and the private sector. The government had to play an extensive role for several reasons:

• Indian industrialists lacked the capital to undertake large-scale industrial ventures.
• The market was not big enough to encourage private industrialists to make major investments.
• The decision to develop India on socialist lines meant the state would control the "commanding heights of the economy," as stated in the Second Five Year Plan.

Industrial Policy Resolution 1956 (IPR 1956)

In line with the goal of state control, the IPR 1956 was adopted. This resolution formed the basis of the Second Five Year Plan and classified industries into three categories.

The "Permit License Raj"

Even though a category was left for the private sector, it was kept under state control through a system of licenses.

• No new industry was allowed unless a license was obtained from the government.
• This policy was used to promote industry in backward regions by making it easier to obtain a license for units established there.
• Existing industries also needed a license to expand output or diversify production. This was meant to ensure that production did not exceed the economy's requirements.

Promotion of Small-Scale Industry (SSI)

In 1955, the Village and Small-Scale Industries Committee, known as the Karve Committee, highlighted the potential of SSIs for promoting rural development. An SSI is defined by the maximum investment allowed on its assets (in 1950, this limit was ₹5 lakh; today it is ₹1 crore).

SSIs were promoted because they are more 'labour-intensive', meaning they use more labour than large-scale industries and thus generate more employment. To protect them from competition from large firms:

• The production of a number of products was reserved exclusively for the small-scale industry.
• They were given concessions like lower excise duty and bank loans at lower interest rates.

Trade Policy and Overall Conclusion

Trade Policy: Import Substitution

In the first seven plans, India's trade policy was characterized by an inward-looking trade strategy, technically known as import substitution. The policy aimed at replacing or substituting imports with domestic production. For example, instead of importing cars, industries would be encouraged to produce them within India.

Tools of Protectionism

Under this policy, the government protected domestic industries from foreign competition using two main tools:

1. Tariffs: A tax on imported goods, which makes them more expensive and discourages their use.
2. Quotas: These specify the maximum quantity of a good that can be imported.

The effect of tariffs and quotas was to restrict imports and shield domestic firms from foreign competition. The rationale was that industries in developing countries were not in a position to compete with those in developed economies. It was assumed that with protection, they would eventually learn to compete.

Effect of Policies on Industrial Development

Achievements (1950-1990)

• The proportion of GDP contributed by the industrial sector increased from 13% in 1950-51 to 24.6% in 1990-91.
• The industrial sector grew at an annual rate of about 6%, which was commendable.
• The industrial sector became well-diversified, moving beyond just cotton and jute textiles, largely due to the public sector's role.
• Promotion of small-scale industries provided opportunities for entrepreneurs with limited capital.
• Protection from foreign competition enabled the development of indigenous industries in sectors like electronics and automobiles.

Criticisms and Shortfalls

• Inefficiency of Public Sector Enterprises (PSUs): Many public sector firms incurred huge losses but continued to function, becoming a drain on the nation’s resources. The state continued to operate in areas like bread-making and hotels, which the private sector could manage effectively.
• Misuse of Licensing (Permit License Raj): The license system was misused by big industrialists to prevent competitors from starting new firms. Excessive regulation stifled efficiency and entrepreneurship.
• Negative Effects of Protectionism: While protection helped initial development, its continuation led to a lack of competition. Producers had a captive market and no incentive to improve the quality of their goods. Consumers had to purchase whatever was produced domestically, often of low quality and at high prices.

Conclusion

The progress of the Indian economy during the first seven Five Year Plans (1950-1990) was impressive in many respects. India became self-sufficient in food production due to the Green Revolution, and the industrial base became far more diversified. Land reforms led to the abolition of the exploitative zamindari system.

However, by 1990, significant weaknesses had emerged. Many public sector enterprises were inefficient. Excessive government regulation under the "Permit License Raj" prevented the growth of entrepreneurship. The inward-oriented policy of self-reliance protected producers from foreign competition but failed to give them the incentive to improve quality or develop a strong export sector. In the context of a changing global economic scenario, the need for reform was widely felt, leading to the introduction of the New Economic Policy in 1991.

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