Business Environment I. National Income Accounting Basic Concepts II. Economic System Activities : Role of the Government III.

. Economic & Non Economic factors affecting Business Environment I. National Income Accounting Basic Concepts It is defined as the Market value of Final Goods and Services produced in an economy during a period. 1. Market value increases due to increase in prices or output . Real income is the index of growth . Measure income on constant prices or real prices . 2. Includes both goods & services and both are called National activities . Final goods are counted to measure national income . Each value added will increase the income . 3. During a period : Everyone follow one year and can be considered for comparison. GNP Includes net foreign income . GDP Within the physical boundaries of the country . GDP = GNP NY from abroad GNP = GDP + NY from abroad NDP = GDP Depreciation (Wastage of resources) Rate of Growth = Change in GDP (NY) during last one year. Per Capita Income Total income / Total population : explains per capita availability of goods & services. Per Capita income is a better growth index than NY. Distribution of income is a important social phenomena . It is not merely the increase in total income which is important from the welfare point of view rather it is also the distribution of income from the welfare point of view i.e gap between the rich and the poor is minimized. Social Aspect of Economic Reforms National incomes generates economic activities .Generation of NY is the result of the effort of Factors of Production(Land, labor , Capital & Entrepreneur).And it results into various types of activities resulting into the flow of goods & services or Flow of Funds in an economy.

More interdependence generates more activities , thats why there are few activities in villages as compared to the urban cities.

Flow of Goods and Services

Y produced is consumed Y = C , Modern economy is a exchanged economy Y=C+S Y=C+I Y=C+S+T Y=C+I+G Aggregate Supply Aggregate Demand Aggregate Supply Aggregate Demand

Y = C + S + T + M Aggregate Supply Y=C+I+G+X Aggregate Demand

Income generated through flow of Goods & Services and results in various activities . These activities generates aggregate demand and aggregate supply pressures known as injections (Aggregate Demand) and leakages (Aggregate Supply). Thus we can say , NY is both the aggregate demand & aggregate supply . It is aggregate demand in terms of factors of production and it is aggregate supply in terms of output of goods & services .then only it leads to Economic Growth . II. Economic System Activities : Role of the Government : Type of the economic system will define the role of the govt. Free Market or Capitalist Economy Where factors of production are owned & managed by the Private Entrepreneurs which are having Profit as the main objective .The role of government is restricted to the maintenance of law and Order and the external security of the country .The government does not direct interfere in the economic activities . Most of the

economic problems are solved with the help of market forces of demand and supply , also known as Price Mechanism .We have large inequalities in Capitalist Systems . Communalism is the last stage of Socialism.

Socialist Economy A system where factors of production are owned and managed by the state . All economic decisions are taken by a central planning authority .The main objective of that authority is not profit but welfare of society. There is a direct intervention of the state through which economic problems are solved. Normally it is presumed that there are lesser inequalities in a socialist economy. Mixed Economy A system where public and private sector go side by side .Activities of National priorities or the social priorities are controlled by the Public sector and the rest of the activities are left for the Private sector ,however government through various economic legislations and polices control the private sector so that the Private sector does not work against the Social Economic objectives, i.e. growth , stability. Indian Economy System A Mixed Economy After independence India adopted a constitution where India has been declared a Social Republic .The Ist Industrial policy resolution of 1948 and then the Industrial Policy of 1956 clearly categorized Industrial and other activities which emphasized that India adopted a mixed economic system. India also decided to have a Planning commission which was assigned a job of formulating a economic plan after every 5 years known as 5 year plans. Major economic decisions about the economy were taken by the Central Planning Commission right from 1956 to 1985. Government emphasized the role of Public Sector, State control and direct intervention of the state , even external activities were regulated & controlled by the state in such a manner that India was basically a Semi Closed Economy. In 1990 , India faced monetary , fiscal and Trade deficit . Breakdown of Russia and growth of China forced India for major Economic Reforms through Liberization, Privatization and Globalization (LPG). Now emphasis was on market economy rather than on Public sector i.e. Disinvestment of PSU , slowly minimizing the role of Public Sector. III. Economic & Non Economic factors affecting Business Environment To analyze business environment, we have to examine 3 basic propositions. (a) Business is an economic activities. (b) Firm is a business unit.

(c) Business decision making is an economic process. A Business firm is a micro economic unit, on the other hand, business environment explains macro activities within which the firm has to operate.

Environment is a set a external forces which affects the operation of the business firm. In other words, we assume that the environment remains external to the firm and the firm has to adjust itself to the external environment, therefore the firm must demonstrate the adaptability as well as adoptability to the environment & the firms manager must have the capability to deal with the environment. Economic & Non Economic factors affecting environment of Business Economic Factors are : Economic systems : Role of the Govt. a) Economic structure of the economy : India is developing economy having a poor infrastructure, it is an agricultural economy, technology level is poor ,cost efficiency is not like world standard, our structure is underdeveloped. b) Functioning of the economy : - In 1990 or before economic reforms were started, rate of growth 3.5 lacs p.a., Per Capita growth less than 2%, population growth 2.4% average, except the agriculture growth, all other sectors were not functioning well. After 1995-96, the rate of growth were 9 10% The overall growth was not satisfactory. c) Long term policy : - Under 5 year plan, we plan for long term, here we see Govt. role. d) Short term policies : (i) (ii) (iii) Monetary Fiscal Physical Policy Administrative policy of Govt. Quota, rationing, exchange control, Import export policy.

e) Overall economic growth & development of economy Non economic factors

(a) Social Factors : - In social factors, we study about demographic features male female sex ratio, literacy rate, response of the society, attitude of people. (b) Geographical : - Natural Resources, cultivable land, water resources, forest etc. (c) Historical Factors : - The background. (d) Political Factors : - System of Governance.

Aggregate Demand : - Keyans definition - Expected sales proceeds i.e income earned which a firm or employer expects to get from factors of production employed. Aggregate demand is determined as total expenditure of economy on the goods and services at a given level of income & employment . Goods and services are demanded for two purposes i.e Consumption and Investment. AD = C + I two sector AD = C + I + G three sector AD = C + I + G + exports four sector (Exports is a demand of our goods in other countries. AD increases with the increase the level of employment, however the rate of increase depends on the rate of production functions. Aggregate supply : - According to Keyans, it is minimum sales proceeds which a factor of production must produce so that the factor can be kept employed. It can also be defined as the total supply of goods & services in an economy. AS increases with the increase in employment till we reach full employment. At full demand, AS curve will become partially elastic. Output produced is consumed & saved. NI = C + S two sector NI = C + S + T three sector NI = C + S + T + M four sector Income Determination : - Income is determined where AS = AD. This equilibrium can be at less than full employment or at full employment. If AD > AS, normally it is inflationary situation. If AS > AD, it is deflation or recessionary or goods produced are not sold resulting in unemployment. CSI Behaviour

Consumption : - Expenditure on consumption goods, intermediate goods, consumer goods & capital goods. A part of Income is not saved - C = Y S

We can explain consumption function with a help of a schedule known as consumption schedule. a. There is always some consumption at zero level of income & at negative income. b. Income = Consumption or S = O. c. Normally as Y increases both Consumption & savings increases.

Investment means expenditure on Capital Goods or when we purchase a new capital assest that is known as a investment, i.e. because the purchase of a new capital asset results into the increase in the stock of the capital. That means investment results / leads to capital formulation. We must be clear that investment is purchase of new capital asset and not the old one within the country, because when we purchase an old capital asset, it is just not the transfer of asset from one hand to another hand. However, when we import an old asset from abroad that is know as investment because it adds to the capital stock of the economy. When we talk of investment, we are concerned with net investments and not the Gross Investments Net Investments = Gross Investments Depreciation (Depreciation depends on the level of technology, role of infrastructure and human being}. Types of Investment 1) Autonomous Investment also know as Public Investment made by Govt. or Public Institutions with the objective of welfare of the society. The size of this investment is not affected by level of income. Normally this investment is made for the creation of basic investment, for the development of social sector like health & education. 2) Induced Investment also known as Private Investment made by the private entrepreneurs with the objective of profit (economic consideration ). The size of this investment is affected by level of income, as income increases investment increases.

Factor affecting induced investment. 1) 2) 3) 4) 5) Level of income Positive relationship Income increases AD increases. Size of Markets depends on disposable income. Level of Technology Technology increases, Investment increases. Rate of Interest investment increases, rate decreases. Monetary & Fiscal policy Monetary about credit & ROI & Fiscal about Govt. Expenses & taxation.

Income produced either consumed or saved. Y -= C+S Y = C+I S=I At equilibrium level of income S = I Money Supply : - Money is demanded in economy. Why we need money, money demanded is based on functions of money. We use money as a medium of exchange in our day to day life. Money has a value in store (short value function). Money as an asset i.e. most liquid asset depends on the knowledge where to invest money. In order to fulfill the demand of money, we need supply of money. Money supply consists of mainly two variables (I) (II) Currency (C) - Currency is issued by Central Bank - Gold Standard Demand deposit - Total credit created by Banks

To minimize the use of currency, we have to increase the instruments of the Bank i.e. cheques, D.D., Travellers Cheque. Increase in money supply affect the economic activities e.g. Car Loan. Fiscal Deficit : - Terminology used in connection with Govt. Budget / Budgetary activities. It is excess of total Govt. expenditure over total Govt. Revenue (both tax & non Tax) financed through borrowings. How Fiscal Deficit is financed is called Deficit Financing. Deficit cover through new tax proposals.

Expenses Income New Tax = uncovered deficit. 1000 800 -50 = 150 150 is recovered from Public Savings i.e. say 100, balance 50 is recovered through treasury bills (printed by Govt. and given to RBI, than RBI will print Rs. 50 or extend credit) Any loan / overdraft given by RBI against treasury bill is money supply, though amount recovered from Public saving is a part of Fiscal Deficit.

Demand side & Supply side management of the Economy DSM means when economy is assured of regular supplies i.e it has a fully developed basic infrastructure, as a result of which supplies can be increased as & when there is an increase in demand. Under such circumstances, if there is either recession i.e. goods produced are being sold resulting into un-employments, therefore we have to generate demand, create aggregate demand. In order to increase AD we can use both monetary & fiscal policy to increase AD or we can increase our exports to increase AD. Monetary Policy : Liberal credit policy at a lower rate of interest e.g. car loan cheaper leads to higher consumption. Fiscal Policy : - Tax concessions (TC) either to increase disposable income, boost Investments or TC to the exporters i.e. duly drawback, excise duty / rebate, Export income tax free, Increase in Govt. expenditure on purchase of goods & services by the Govt., for providing subsidiaries to the private sector, for making provision of transfer payment (Mid day meal, Rs. 2/ kg. rice) leads to increase in disposable income lead to AD. Supply Side Management SSM was emphasized by classical economists to solve economic problems of an economy, because classical economists consider capital formation or investment as engine of economic growth. And in order to improve capital formation in the economy, we have to mobilize our savings or consume less. C = Supply of Durable Consumer Goods.

The first aspect of SSM is that we have to encourage savings i.e household savings, corporate savings or flow of capital from aboard so that sufficient funds are available for capital formation for investment purposes. SSM also emphasized on improving productivity or capital output ratio. Corporate saving = reserves and surpluses SSM emphasis on development of technology either within the country or transfer of technology from aboard. Emphasis is also laid on development of social sector i.e. investment in health, education, R & D so that there is a qualitative improvement of population which ultimately helps in improving the quality of human being. SSM emphasis on development of basic infrastructure i.e. road, transport, communication, irrigation, power generation etc because development of infrastructure helps in the promotion of direct productive activities.

SSM also emphasized on liberal imports so that availability of goods and services increases so that economy also becomes more competitive. SSM emphasized on improvement in government revenues so that sufficient funds are available for various government activities especially productive activities and budgetary deficits are kept at the minimum.

Indian Economy Basic Structure. Pre independence era, medival period. India was rich nation primarily because of the fact that India along with agricultural country was a manufacturing country also. We have fully developed small scale industrial sector and Indian products were in huge demand through out the world especially textiles, Indian silk & spices were in great demand resulting in huge foreign exchange earnings. There was a huge degree of complementarity between agriculture and small scale industries which were primarily located in villages resulting in increase in dependency of agriculture. Even in the agriculture sector, they did not do anything substantial to improve agriculture infrastructure say irrigation facilities, no agriculture research, no provision for agriculture funds. On top of it, they introduced social institutions like land tenure systems, Zamindari system which was totally exploited resulted into not only to backwardness of agriculture, also concentration of land to a few rich Zaminder and highly exploiting agriculture tenancy / labour systems. All this resulted in further backwardness of Indian agriculture, hence on the eve of independence India was highly underdeveloped country with the following futures:

1. 2. 3. 4.

5. 6. 7. 8.

Over dependence on agriculture. Backward agriculture both socially and economically Low level of national income & per capita income. Huge population pressure and the quality of population being very poor because of high illiteracy rate, high infant mortality rate, lower expectancy of life, large size of population living in rural areas, lack of civic facilities to the population etc. Low level of technology. Absence of strong industrial base. Low level of productivity. Mainly primary goods exporting country.

As the result of the above, there was a mass poverty and poor standard of living of people, hence we require structural transformation. Growth can be quantified were as development is qualitative.

To bring structural changes in economy, huge investment is required at the time of independence. The availability of entrepreneur class and funds with private sectors were limited. So we adopted after independence a mixed economy system due to a) Preamble of Indian constitution. b) The industrial policy resolution of 1948 & 1956 clearly classified economic or industrial activities which would be completely controlled by the state and the private sector was prohibited to operate. c) In order to make huge investment in the desired sectors, 5 year plans was started and a planning commission was established. d) In order to achieve social justice, agriculture land reforms were introduced, abolishism of Zamindari system and other economic legislation were passed to regulate the industrial activities and to protect the rights of social security of labour i.e. industrial dispute Act, minimum wage Act and to regulate foreign trade policy and to control the use of foreign exchange earning i.e. exchange controls. In order to transform the economy during the 2nd 5 year plan, emphasis was laid on the development of basic and heavy industries and the major responsibility was assigned to the public sector to make India as industrial country. Therefore we can say, a public sector was assigned a major role to industrialized the economy. Through economic planning, government also played important role for the

development of basic infrastructure like roads, public health, education, R & D, power generation etc so that direct productive activities both in the public sector and private sector can be promoted. Along with this, certain institutional reforms in the agriculture sector and economic legislations like MRTP, industrial licensing, exchange control, import export license and quotas were introduce to ensure social justice i.e. benefit of economic growth not restricted to a few rich people rather it should also reach to the poorest of the poor. And in this direction was Public Distribution System. Till 1985 / 1990, this economic system continued i.e. mixed economy with major role of public sector i.e. quotas, licensing, Inspector raj, direct intervention of state. However, In 1990, India faced on of the worst economic crises as a) Fiscal imbalance b) Monetary imbalance NPA increased, Increased credit creation, Public sector failure c) Services trade imbalance foreign trade imbalance d) Unemployment

Therefore our foreign exchange depleted to minimum level and we do not have sufficient reserves of import of essential items eg. Defence Items. Our creditability at international level has gone down. Because of this economic crisis & various other international factors i.e. break down of USSR, emergence of China forced India to rethink about its economic policy framework. Indian policy framework requires structural adjustments i.e. change from social economics to market economics and frequent use of stabilization of monitory and fiscal policy to solve economic problems. Hence economic reforms were introduced in the form of LPG a) Liberalization b) Privatization c) Globalization When we are talking of policy framework ,there are 2 authorities in the country. 1. Central Bank (RBI )- Normally it is expected RBI will work independently 2. Treasury of the the Government (a) Ministry of finance or Budgetary policy, also called fiscal policy. (b) The policies related to the functioning of various departments which basically determine the overall role of the government. This concerns Trade policy, Industrial policy and Foreign capital investment i.e level of

intervention of government in Industrial system, who will regulate or control the Private Sector , Policy for abroad Liberal Imports. Monetary Policy: - is framed by the Central bank of the country or Say that Central bank is the chief monetary authority. It concerns with control over money supply & credit planning. Monitory policy is adopted to achieve certain social economic objectives like encouraging economic activities ,controlling inflation or recession, boosting a particular economic activity and achieving a social objective i.e. helping the poor or promoting the growth in backward areas. It focuses not only money supply but also how to use that money. Central Bank as a part of the monitory policy uses various quantitative and qualitatative tools to achieve these objectives. Quantitative Methods : are used to control the size of credit. There are 3 tools to control the quantity of credit. (a) Bank Rate - Repo rate at which Commercial Bank borrows from central bank. (b) Cash Reserve Ratio (CRR) :- Each Commercial Bank is required to keep certain % of their deposit in liquid form with central bank .% is fixed by the central bank and is known as CRR .If you want to increase the credit for money supply, we decrease CRR and vice versa .

(c) Open Market Operations One of the main function of Central Bank is to deal with government securities i.e. Buys and sells government securities (Inverse relationship between interest rate & bond) The third measure required a fully developed government bond market which does not exist in country like India. In a country like India, the most successful weapon is change in CRR or change in the repo rate.

Qualitative Method of Monitory Policy These methods are used to control the direction of Credit or use of Credit or the purpose for which credit is given .The tools are: (i) Safety Margin : Keeping safely margin say 10% to give more loan of car, housing loan. (ii) Credit Rationing - Banker will fix the total amount of loan to be given for a particular purpose. (iii)Moral Persuasion: Make banking regulations liberal. (iv)Selective Credit Controls: where supply constrains exits. (v) Control of Exchange rate , Quotas.

Fiscal Policy: Also known as the budgetary policy, framed by treasury or ministry of finance. It has got 3 aspects. (a) Taxation Programme. (b) Government Expenditure programme (c) Public Borrowings . In a country like India, since government bond market has limited scope, therefore ,the budget/fiscal policy is limited to taxation program & expenditure programme. Two types of tax 1. Direct Tax : The burden on whom it is lived, Income Tax, Expenditure tax . 2. Indirect Tax: Levied on a person A , collected from person A , But person A can legally transfer the burden of tax on the consumer eg. Excise duty ,Sales tax, entertainment tax . Progressive Taxation: The rate of tax increases with the increase in the level of income in case of Direct Tax and in case of Indirect Tax , the rate of tax increases as the nature of the commodity changes from necessity to Luxury. The objective of Progressive taxation is the burden of tax is more on rich then on poor. Regressive taxation is reversal of Progressive taxation.

Objective of Taxation: (a) Increase the investment - Income Tax rebate of Rs. 20,000/- on Government Bonds (b) Distributive IT limit increase from 1 Lacs to 2 Lacs (c) Stability Government expenditure (i) Productive: Expenditure which helps in increasing the production in the economy eg. Government expenditure on basic infrastructure, on Industrial activities, on health & education , on research & technology. (ii) Unproductive: Government Expenditure on unproductive activities also called as consumption expenditure eg. Expenditure on wages, salaries, on purchase of goods & services. (iii) Government expenditure on transfer payments- Subsides

Normally as a part of the welfare state , Government provides relief or subsides or transfer payment to help the poor or to promote a particular type of economic activity eg low cost housing or to develop a backward area or to promote a particular community or class in the society eg. ST/SC training programme. Government expenditure programme is used to (a) Promote economic activities i.e Allocation of resources. (b) To Stabilize during inflation Government expenditure is curtailed and during recession Government expenditure is increased even through the policy of deficit financing . (c) To reduce inequalities or to promote social justice i.e when the aim of Government expenditure is to help the poor and not to the rich.

Industrial Policy

IP of a country reflects the economic system, the country plans to adopt. It also indicates the participation of Govt. in economic activities. It is an instrument through which Govt. regulate industrial activities in an economy. It also explains the pattern of Industrial Development & the speed of industrialization desired by the Govt. To some extent, it also mentions about the participation of foreign capital or the role of multinational in the overall industrial development of the economy. The 1st Industrial resolution was passed in India in 1948 which clearly indicated that India is going to be a democratic - socialist country where state is going to play a dominating role in the overall domestic growth of the country. But by this time ie. in 1948 though India has become independent but neither we have a duly elective Govt. nor a constitution nor we have started economic planning, therefore a new Industrial policy was framed. In 1956 in which Industrial Policy was declared considered as a

important document to bring the socio economic change in the country and the main stress was to bring more comprehensive economic development in the economy / country. By 1956, it was also clear that what kind of industrial pattern India is going to adopt because in the 2nd 5 year plan, it was proposed that emphasis will be on the development of basic, heavy & capital goods industries, & for this the then prevailing economic conditions require larger participation of the Govt. in the overall industrial development (without social change economic changes or against is not possible).

Main Feature of 1956 Industrial Policy.

1) New Classification of Industries Industries were classified into three schedules depending upon the role of the state. a) Industries whose future development was the exclusive responsibility of the state. This included 17 industries such as defense, steel, machinery, heavy electrical, mining, energy & power, transport & communication etc. b) Included 12 industries where the role of the state will increase. These industries included Ferro Alloys, fertilizers, bulk drugs, ocean transport, airways, construction of roads & bridge etc. c) Other residual industries were left for the private sector, however the state had the power to start or undertake any industry or unit in the interest of the public.

2) Promotion to cottage & small scale industries By providing them financial assistance ,by reserving some of the list of products to be made only by cottage & small scale Industries ,by establishing industrial estates & workshops in the rural areas. 3) Reduction in equalities of income through reduction in regional disparities. Emphasis on industrial peace harmony relationship between labour & management . Right from the 1st 5 year plan to 1990, the emphasis was on the increasing role of the state in the industrial growth of the country. Also is was emphasized that India was trying to become self reliant & would be able to achieve industrial growth & comprehensive industrial development with much participation of foreign capital &

multinationals. However by 1990, the overall economic condition of the economy deteriorated and India faced 1st economic crisis after independence which require a structural change in the overall economic policy framework and hence the industrial policy of 1991 was announced. In 1991, India launched the policy of LPG as a part of the strategy or policy adopted under economic reforms. The main objective of new policy were 1) to consolidate the gains made during 1951-1990. 2) To correct the distortion or weakness of earlier policy framework. 3) To integrate Indian economy with the rest of the world so that we can become competitive in the international market.

Main feature of Industrial Policy 1) Abolishing of industrial licensing except 6 industries related to security & strategic concern & environmental hazards, all other industries were opened to private sector. 2) No more growth of public sectors except for point 1 (6 industries), rather there will be disinvestment of PSU for resource mobilization & technical up gradation of public sector. (Sales of public sector assets will be utilized for upliftment of public sector only). 3) Foreign Investments a) Approval will be given for direct foreign investment up to 51% equity in high priority industries. Some exchange control relaxation for the import of capital goods would be given for such industries. b) Access will be provided to the international market i.e. majority of foreign equity holding up to 51% will be allowed for trading companies primarily engaged in export activities. c) Foreign equity though will be preferred with foreign technology agreement but it will not be a condition. d) Portfolio investment will be permitted in capital market.

4) Foreign Technology Agreement Automatic permission will be given for foreign technology agreement in high priority industries up to a lump sum payment of 5% royalty for domestic sales & 8% of foreign export subject to the total payment of 8% over a period of 10 years from the date of agreement.

5) MTRP Act

The new industrial policy scrapped the limit of assets in respect of MRTP companies. The MRTP companies will now be at par with other companies i.e. these companies will not require license from the Govt. for making investment in de-licensed companies .

The MRTP act has been amended accordingly. The new competition Act of 2002 gives more emphasis to the prevention & control of monopolies, cartel and unfair trade practices.

Business & Govt. Policies As a part of indirect control of the Govt.business, Govt. introduced various legislations.

I) Industrial licensing Policy a) It is a tool for channelizing scare resources in a predetermined priority sector of an economy. b) The industrial regulation & development act of 1951 was amended so that it can further help in the industrial development of the country.

II) Industrial licensing policy 1991 significant changes were made in the industrial licensing policy a) Industrial licensing was abolished except for 6 industries of security & strategic concerns. b) The list of public sector units will remain restricted. c) In project where imported capital goods were required, automotive clearance will be given. d) Similarly other provisions were amended so that day to day intervention of the state can be restricted.

FDI Policy

Adequate supply of Capital is the necessary condition not only for the industrial growth of the economy but also for the overall economic development of the country. One of the main problem most of the developing countries faced is the shortage of capital in these economies. There are different sources of capital which can be classified as internal sources & external sources.

Internal sources of savings are a) Household Savings b) Corporate Savings c) Public Savings

These savings are sources of capital formation in an economy.

External sources of savings are a) b) c) d) Export Surplus Foreign Aid Foreign Loans In flow of capital from abroad

Since most of the developing countries are short of capital, therefore foreign capital fills up the gap between Savings & Investments. Foreign Capital refers to the investment made by foreign business enterprises in different type of activities in a country like India.

Foreign Capital inflows takes place in two forms a) Foreign Direct Investment (FDI) b) Portfolio Investment (PI)

a) Foreign Direct Investment (FDI) FDI means when a Multinational Co. of Foreign Business firm makes investment in some capital assets or machines or in some units which directly result into the increase in production of goods & services e.g. Enron made investment in power plant to generate & produce electricity. Similarly if some Multinational Co. enters in the building & maintenance of roads & highways, then it is defined as FDI.

b) Portfolio Investment (PI) PI on the other hard takes place when Foreign Financial Institution or Foreign Investment Institutions enters Indian capital market & by engage themselves in buying & selling of equities in Indian market.

(FDI is preferable as capital formation takes place whereas in PI the ownership changes and there is no investment)

In 1991, both the industrial policy of 1948 & 1956 had reservations about the inflow of capital from abroad. As a matter of facts, there were lots of restriction on the inflow of capital from abroad.

However, in 1990 India faced the worst economic crisis when we had a serious balance of payment problem, our foreign exchange reserves had depleted to the lowest level. Indias creditability in the world market was very low.

Foreign Direct Investment (FDI) - The 1st phase of policy towards foreign capital 1950-1967 : A period when some foreign investment was permitted in specified areas only, but India has adopted a policy of caution because we had very bad experience of colonial rule.

1968-1980 : During this period, there were restrictions on FDI, Govt. passed various legislation, FERA, ______________ of Foreign Exchange Act which had put restrictions on the flow of FDI. India had some break through in the process of growth. We have successful green revolution, we have changed composition in exports from primary goods to engineered goods, growth of human resources scientific technology growth, infrastructure growth with the help of public sector & we were under the impression that India could become self reliant & could manage with own resources. But poor Governance, political industry poor performance of PSUs, large scale corruption could not hold on or sustain the growth process which we had initiated. As a result, a thinking emerged that India had to change its overall economic framework and a part of it we have to restrict our policy with foreign capital. 1981-1990 : During this period, our balance of payment position was deteriorated. Our foreign exchange reserves were depleting. Growth of exports were very low, oil crisis in the world had put pressure on the foreign exchange reserves. India was facing a serious Balance of Payment problem. This necessitated the need for capital from abroad. And some liberalization process started especially in the tenure of Late Sh. Rajiv Gandhi. 1991 onwards : Since July 1991, there has been a major shift in the thrust & direction of FDI policy which can be described as open door policy on foreign investment & transfer of technology. The industrial policy resolution of 1991 clearly stated that foreign investment & foreign collaboration will be welcomed to obtain higher technology to increase export & expands the production base. FDI policy was made transparent under the liberalized policy, concessions were announced for foreign equity capital in 1992, as a result, the existing companies were permitted to raise foreign equity up to 51% subject to certain prescribed guidelines. In an effort to further liberalize FDI, planning commission has set up a steering committee in Aug.2001 for suggesting measures for enhancing FDI inflow in India. The committee recommended to eliminate entry barriers, committee recommended that emphasis should be shifted from broader Macro aspect to targeted specific sector approach. Committee also recommended the SEZ should be developed as per the International Standards so that export oriented FDI could be attracted. It was suggested that laws, rules, procedures, bureaucratic handles must be removed & simplified so that our exports can grow on the lines of Chinese economy. Domestic policy reforms empower urban infrastructure and real estate should be expedited for attracting more FDIs, now 100% FDI is permitted in most of the activities except in the areas which has been specifically reserved to have license for foreign investment. A comprehensive review of FDI policy was undertaken in 2006 with a view to control rate the liberalization measures already undertaken & to further rationalize FDI policy. Features of FDI Policy Self Study

Foreign Trade Policy (Pre 1991) 1. After independence, India adopted an inward looking development strategy known as the policy of Import Substitutions. (Importing Technology or component and assembling in our country). This policy has twin objectives. a) To save scare foreign exchange so that essential & developmental goods could be imported. b) To achieve self reliance in the production of as many goods as possible. The policy of Import Substitution heavily dependent upon domestic production capacity to produce so that domestic producers not only get an enlarge market but are also protected from external competition.

2. India adopted a policy of restrictive foreign trade i.e. the policy of Import restriction and this policy was vigorously followed till 1977-78. 3. As a part of overall industrial growth, India needed heavily raw material, spare parts and machinery, therefore liberal imports were allowed of all these items so that industrial growth may not suffer. 4. In 1980s, India adopted a policy of Export Promotion and in order to promote export, basic infrastructure for export promotion was planned i.e. setting up of export processing zones, 100% export oriented units, setting of export promoting councils, commodity boards, trade fare authority of India and Indian institute of foreign trade. Apart from the above, certain incentives & concessions were given to the exporters, like cash compensatory scheme, duty drawback schemes, market development assistance and various tax concessions to the exporters. But inspite of all this, Indias foreign trade especially the exports did not pick up. The overall performance of export sector was not satisfactory at all, trade gap was increasing, foreign exchange reserves were depleting, overall credit rating of Indian was going down. The share of Indias foreign in the world trade was decreasing, hence as in case of other economic policy framework, economic reforms were introduced in Indias trade policy.

The Main features of 1991 Economic Policy

1. Liberalization of Import & Exports : - The emphasis was on phasing out quantitative restrictions such as licensing & quotas and discriminating controls & bureaucratic controls, discrimination of business units. 2. Liberalize exchange rate management system : - under this a) Exchange rate will be determined by the market forces. b) Rupee is convertible on trade account. c) No prior permission for obtaining & purchasing exchange rate for certain specified purposes. d) Repatriation of foreign exchange by MNCs was permitted on account of royalty & profit under certain conditions. 3. Rationalization of Tariff Structure : - Tariff i.e. peak rates were brought down from 150% to 50% and basic custom duties were also reduced. 4. Change in the system of Export Incentives : - Cash or compensatory cash incentives were withdrawn. Value based advanced licensing system was introduced, duty free import were allowed to produced export goods, procedural & documentational formalities were minimized. After this, Export - Import policy 1997-2002 was introduced. The objective of this EXIM policy were : a) b) c) d) e) Raising the quantum of Exports. Creation of Export promotion infrastructure. Liberalize duty free Imports. (OGL) Reducing the no. of items in the negative list of Exports. Establishment of self reliant country.

Another EXIM Policy was introduced in 2002-2007, the main features were : a) Creation of Special Economic Zones. b) Employment oriented measures through the promotion of agriculture sector & cottage Small Scale Industries. c) Growth oriented EXIM Policy. d) Duty neutralization instruments i.e. duty exemption & entitlement certificate system was abolished & export Promotion measures for capital goods were initiated.

The latest EXIM Policy 2009-2014 2008-09 witnessed a severe global recession. Country across the world have been affected because of decrease in foreign trade, restrictive capital flows, increasing unemployment, decreasing per capita consumption & investments. As per the estimates of WTO, global trade is likely to decline by 9% to 10% . The recessionary trend has huge societal implication. As per the world bank estimates, approx. 50 million people would come under the below poverty line and over a billion people all over the world will face the problem of hunger. Keeping this international scenario in mind, the foreign trade policy of 2009-2014 was announces. The short term objectives were a) To check the declining trend of Exports. b) To provide additional support to those sectors which has been hit by the recession. c) To achieve annual growth of Exports of 15% on average by the end of 2011 and next coming 3 years, the growth rate of Exports should be around 2.5% p.a. In the long run the policy objective were to double the Indias share in the world trade by 2020.

Silent features of this policy Self study

WTO aims at achieving a free flow of goods & services in between the countries by eliminating old trade barriers i.e. tariff and non tariff barriers. The objective of WTO is to quicken the process of global integration of various economics, promote international competition and make available gains of specialization to member countries. WTO also seeks to promote economic efficiency of international specialization on the principle of comparative cost advantage and promote multilateral trade that promotes economic cooperation between the developed and developing countries and helped in the growth process of developing countries. WTO was established in Jan 1995. It replaced GATT (General agreement on Trade and Tariff) which was established in 1948. WTO aims at administering the new global trade rules which would ultimately helped in establishing the rule of law in international trade. WTOs constitution provides for general elimination of quantitative restriction (Quota) on imports and reductions in tariffs or if developing countries cannot eliminate tariff, then these must be progressively relaxed as their balance of payment improved. Technically speaking, WTO overseas the implementation of all agreements & commitments that emerge from Uruguay round of GATT negotiations. It administers all agreements in goods & services, intellectual property rights & manage the dispute settlement system. As a matter of fact WTO acts as a forum of further trade negotiations.

India & The WTO

India is a major signatory to the WTO agreements , however there are fears both in India and most of under developed countries. Under the WTO free trade regime farmer, small businessmen would be placed out of the market by the goods from advanced countries especially the agricultural products from developing countries would not find any place in foreign markets because of highly subsidized agriculture in advanced countries. Not only this ,under TRIPS Indian indigenous products like basmati rice, haldi are being registered as patents and copyrights by the foreigners in their own countries i.e. some of the clauses of TRIPS denied India its legitimate rights on its own products and Indians may have to pay royalties on these foreign seeds, medicine etc. India, therefore need to actively and forcefully participate in WTO negotiations to abstract more concessions & favorable terms for their exports.