What led the P V Narasimha Rao government to bite the reforms bullet in 1991?

Like all major economic upheavals, the origins of the one in 1991 have to be traced back in time. In the 1980s, Mrs (Indira) Gandhi was persuaded that borrowings, if purposefully used, would enhance public goods and bump up the growth rate, which was then somewhat less than 6 per cent. This, obviously, resulted in fiscal profligacy.

In 1985, when I was serving in the Indian Embassy in Japan as Minister (Economic and Commerce)… I received instructions from the finance ministry to seek access to the Asian Development Bank’s (ADB’s) resources. In April 1985, [the ADB] agreed.

Multilateral borrowing has real advantages — long tenure, no trigger buttons — but there are limits. During Rajiv Gandhi’s tenure in office from 1984 to 1989, the current account deficit climbed from 1.1 per cent to 2.4 per cent of the gross domestic product (GDP). That was also the context of the International Monetary Fund suggesting a safety net even without a formal Fund programme. Due to elections, implementation was deferred until late 1989.

Perhaps that might have succeeded had two unfortunate events not intervened. First, Rajiv Gandhi lost the 1989 elections. This led to a rapid churn at the top between December 1989 and June 1991. Political instability eroded investor confidence and made reliance on multilateral and official aid ever more important.

How did the administration respond to this?

By then Venkitaramanan, once the great advocate of purposeful borrowing, had become RBI Governor, tasked with fighting the BOP crisis he had helped build. The irony is that his success in securing multilateral and bilateral borrowings in the 1980s came full circle when, as RBI Governor, he had to draw upon all his ingenuity to stave off a default on the country’s debt obligations. The policy matrix had come full circle. The lesson was enduring: Profligacy never pays, while prudence yields multiple dividends.

When I moved from Home Affairs to Finance in June 1991 as the key interlocutor with the IMF and World Bank in the Department of Economic Affairs, S P Shukla was Finance Secretary and Deepak Nayyar was Chief Economic Advisor. Both played a critical role in keeping the country afloat while the world had lost faith in India’s political stability.

On July 4, 1991, P Chidambaram unveiled the trade component of the reform programme — dismantling export-import (EXIM) controls, abolishing cash compensatory support, strengthening the EXIM scrip — well before Manmohan Singh’s formal Budget outlined the dismantling of the licence-permit raj and industrial de-licensing. All this happened even as growth had dipped to 1.1 per cent in 1991-92, before climbing sharply once the reforms took hold.

So the 1991 crisis was not an accidental event, but the culmination of profligacy through the 1980s, unheeded warnings, and the political instability that shattered investor confidence — with due credit to Chandra Shekhar’s team, which kept the country going before the 1991 team arrived.

Was the response to the crisis driven by conviction or compulsion?

I call the phenomenon the triple C: Circumstances, compulsion and conviction. The line between them shifts over time — circumstances shape compulsions, and when compulsions produce good outcomes, they become part of one’s conviction. Our circumstances — political instability, fiscal profligacy, shattered investor confidence — left little option but to act as we did; and because the outcomes were good, they became part of our conviction.

A few features stand out. First, the ethos within the IMF and World Bank had already changed, which meant you could not access one institution’s resources without satisfying the other’s terms. Second, Prime Minister P V Narasimha Rao’s understated sagacity. He recognised that reforms of this scale required building support across the political spectrum. As Manmohan Singh once told me: “Finance ministers are as strong or as weak as the Prime Minister chooses to make them”, and Rao staked his own political capital in giving Singh that strength.

Third, there was the deep-rooted Indian distrust, pre-dating Independence, of private and especially foreign capital — the “Bombay Club” feared de-industrialisation.

What we achieved by 1993 was macroeconomic stability, restored investor confidence, de-licensing, and an acceptable inflation range with rising growth. One of our IMF interlocutors told me: India is a tiger that has been caged for decades — injured, but now roaming free, digging up long-delayed reforms. His worry was that once its wounds healed, it might return to its cage, to complacency. He was hinting at the unfinished agenda: Land, labour, capital. Such was our success, in fact, that we exited the IMF programme two years early, in June 1993, curtailing the Fund’s ability to press us further on those very reforms.

In that sense, the very success of the Indian negotiators — of which I was privileged to be a part — also contained our failure. Many have said that we got away rather lightly: That we ducked the more basic reforms of land, labour, and capital, deferring them to another day. These remain unfinished.

Was there anything the IMF or World Bank pushed the government to do, but it did not budge?

Many things — agricultural reforms, labour reforms, a faster opening of the capital account, deeper changes to the foreign direct investment (FDI) regime, and early moves on the statutory liquidity ratio), cash reserve ratio and banking-sector competition.

Were there serious differences within the finance ministry over the pace of liberalisation?

It would be unnatural, in a democratic Cabinet system, if there weren’t. Shukla and Nayyar were both fierce nationalists and intellectually honest, but Nayyar felt the World Bank’s structural conditions intruded on decisions that should belong to India, even while accepting the macro adjustments on the fiscal and current account side. Shukla was the balancing factor, with Singh taking the final call. Singh was an exceedingly democratic finance minister.

How did Prime Minister Atal Bihari Vajpayee carry forward the liberalisation process?

Vajpayee was acutely aware of the 1991 crisis, and senior BJP leaders had, in some form, been kept in the loop even then. As Prime Minister he gave economic reform fresh impetus, reconciling his own forward-looking instincts with more conservative elements in his party.

His clearest legacy is telecom reform: The New Telecom Policy of 1999 moved the sector from an unsustainable fixed-licence-fee regime to revenue-sharing. This rescued a financially unviable sector and laid infrastructure that information technology (IT) and IT-enabled services firms would later build on, feeding into India’s digital-services expansion and its emergence as a hub for global capability centres.

Second was highway connectivity, complemented by the Pradhan Mantri Gram Sadak Yojana for rural India. Third was the Fiscal Responsibility and Budget Management Act of 2003 itself, which embedded fiscal prudence into statute rather than leaving it to individual governments’ discretion — a framework later extended to states via the Twelfth Finance Commission, and one I would later be asked to review and recalibrate.

Fourth, disinvestment took institutional shape — a dedicated department in 1999, later a ministry, with landmark divestments, alongside the opening of insurance to private participation. Fifth was power-sector reform through the Electricity Act, 2003, which delicensed generation, enabled open access, and unbundled state electricity boards into separate generation, transmission, and distribution companies.

How should India set macroeconomic targets in an increasingly uncertain, volatile world?

Macro stability is dear to the Prime Minister (Narendra Modi) personally. Fiscal rectitude, not profligacy, has been his consistent instinct, evident across both BJP governments’ FRBM initiatives: the original 2003 Act under Vajpayee, and the review committee I chaired under Modi.

The pandemic upset that trajectory. The finance minister has since set a fresh, more realistic terminal target of 50 per cent, plus or minus 1 per cent, by FY31 for the Centre, recognising that too sharp a fiscal compression would compromise growth. The critical variable remains the growth rate: At 7-8 per cent, the debt-to-GDP ratio will fall faster on its own. This government, unlike some predecessors, has never sought to inflate away debt — successive RBI governors have adhered to the inflation-targeting framework. I remain confident the 50% target is achievable.

The finance ministry’s latest monthly economic report speaks of India needing to reinvent itself in light of the disruption caused by artificial intelligence (AI) and the weaponisation of trade. What would such a reinvention look like?

Three things. First, FDI: India still draws far less than its potential — around 0.4-0.5 per cent of GDP, against a realistic target closer to 3 per cent. Second, legal reform: India has a fair, transparent judiciary, but lags as a credible seat for commercial dispute resolution compared even to the Gulf, let alone Singapore or the UK — fast-track commercial courts would meaningfully lift India’s growth trajectory. Third, integrating AI as a productivity enhancer rather than treating it as external to economic activity — alongside scaling up apprenticeship and skilling programmes, and building further on India’s role in global capability centres.

There is real rivalry among middle powers, including India and China. Can economic cooperation still grow?

The world is no longer bipolar; it is plurilateral. Coalitions form around specific issues — energy, technology, AI — rather than as overarching blocs. India has long championed the Global South, and middle powers — Brazil, European countries now relegated from great-power status, Australia, Indonesia — all have a role to play in improving cooperation, not deepening rivalry. On climate finance, for instance, the fact that the US has stepped back from the Paris Agreement and UNFCCC does not absolve the world of its responsibility to the next generation.

On China specifically: We have genuine security concerns, but that does not mean we halt all business. We need to be responsible and case-by-case, not categorical, in dealing with Chinese investment — this government has balanced these geopolitical tensions responsibly, to India’s overall benefit.