ECONOMY CLASSES
Economics QRM
The complete economy notes in one reading edition — twenty chapters running from National Income Accounting to Infrastructure. Every topic opens with a plain-language note and an example, and every concept card carries its own simple explanation and example. Pick a chapter from the contents, search any topic, or read straight through.
Table of Contents
National Income Accounting
National income accounting is the framework used to measure a country's economic activity — through metrics like GDP, GNP, NDP, NNP, GNI and NNI. This chapter covers the circular flow of income, the core concepts, methods of measurement, the difficulties involved, and related indices used by India's statistical system.
Read chapter- The Circular Flow of Income
- Some Basic Concepts
- Components of National Income
- Measurement of National Income by NSO
- Difficulties in Measuring National Income
- Recent Developments in GDP Measurement
- Factors Affecting National Income
- HDI — Human Development Index
- Gross National Happiness (GNH)
- Statistical Systems of India
- Sustainable Development Goals (SDGs)
Money & Monetary Policy
Money underpins every transaction in the economy — and the tools used to manage its supply and cost shape growth, inflation and employment. This chapter covers what money is, how it evolved, how banks create it, the RBI's structure and functions, and the full monetary policy toolkit.
Read chapter- Definition of Money
- Functions of Money
- Evolution of Money
- Problems with the Barter System
- Demand for Money
- Supply of Money
- Money Creation by the Banking System
- RBI and Its Functions
- Monetary Policy
- Monetary Policy Tools / Instruments
- Monetary Policy Transmission
- Monetary Policy Committee (MPC)
- Key Terms & Definitions
Taxation
Taxes can be defined as a compulsory contribution from a person to the government to cover expenses incurred in the common interest of all, without reference to special benefits conferred. This chapter covers direct and indirect taxes, the constitutional basis of taxation, tax types, GST in full, tax reform committees, and key terms.
Read chapter- Types of Taxes
- Direct Taxes
- Indirect Taxes
- Specific and Ad Valorem Taxes
- Constitutional Status of Taxation
- Taxation System — Types by Behaviour
- Goods and Services Tax (GST)
- Cascading Effects of Taxation: MODVAT & CENVAT
- Tax Reforms
- Key Changes in Taxation — Budget 2021-22
- Social and Economic Objectives of Taxes
- Key Terms
External Sector — Part 2
A deep dive into the instruments through which foreign capital enters India — FDI, FPI, ECBs, SDRs, GDRs/ADRs, currency swaps — plus how exchange rates are determined, capital and current account convertibility, and the ladder of global economic integration.
Read chapter- External Investment Types
- Foreign Direct Investment (FDI)
- Foreign Portfolio Investment (FPI)
- External Commercial Borrowing (ECB)
- Special Drawing Rights (SDR)
- Global/American Depositary Receipts (GDR/ADR)
- Currency Swap Agreements
- Foreign Exchange Reserves & External Debt
- Foreign Exchange Rate — Key Concepts
- Capital & Current Account Convertibility
- Economic Integration
Poverty & Inequality
Poverty can be defined as a condition in which an individual or household lacks the financial resources to afford a basic minimum standard of living. This chapter covers its types and causes, India's poverty-line estimation history, the SECC and MPI, government approaches to poverty reduction, and the measurement and drivers of inequality.
Read chapter- Types of Poverty
- Causes of Poverty
- World Bank's Classification of Countries by Income Level
- Poverty Line in India — Estimates and Committees
- Socio Economic and Caste Census (2011)
- Multidimensional Poverty Index (MPI)
- Government's Approach to Poverty Reduction
- Inequality
- Causes, Impact & Measures to Reduce Inequality
Agriculture
Agriculture is the primary source of livelihood for about 58% of India's population. The share of agriculture in total Gross Value Added (GVA) of the economy has declined from 35% in 1990-91 to 15% in 2022-23. India ranks first in the world with the highest net cropped area, followed by the US and China.
Read chapter- Agriculture & Allied Sectors
- Cropping Pattern & Cropping System
- Recent Trends in the Agriculture Sector
- Organic Farming
- Hydroponics, Aeroponics & Aquaponics
- Horticulture
- Zero Budget Natural Farming (ZBNF)
- Conservation Agriculture (CA)
- Sustainable Agriculture
- Agricultural Marketing
- Agricultural Research and Extension
- Animal Husbandry and Allied Sector
- Major Crop-Growing Regions
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ECONOMY CLASSES
National Income Accounting
National income accounting is the framework used to measure a country's economic activity — through metrics like GDP, GNP, NDP, NNP, GNI and NNI. This chapter covers the circular flow of income, the core concepts, methods of measurement, the difficulties involved, and related indices used by India's statistical system.
The Circular Flow of Income
IN SIMPLE WORDS
The economy is a loop. Households sell their labour, land, capital and enterprise to firms and get paid; they spend that income on what firms produce. Savings, taxes and imports leak money out of the loop; investment, government spending and exports pump it back in.
EXAMPLEYou work at a bakery (factor service), get a salary (factor payment), and buy bread there (consumption). The bakery's sales become your next salary. Money you save in a bank gets lent to firms, so it re-enters the loop as investment.
Open economy — with government & foreign sector
(Land, Labour, Capital, Enterprise)
(on Goods & Services)
(Rent, Wages, Interest, Profit)
MARKET
Some Basic Concepts
IN SIMPLE WORDS
The key question is where and by whom output is produced. GDP counts output inside the country's borders; GNP counts output by the country's own people, wherever they are. The 'N' (net) versions subtract depreciation, the wear and tear of machines.
EXAMPLEA Japanese company makes cars in Gujarat. Those cars count in India's GDP. The profit sent home to Japan counts in Japan's GNP, not India's. GNP = GDP + net income from abroad.
GDP
Value of final goods and services produced within a geographic boundary, regardless of the nationality of the individual or firm producing them.
e.g. cars made in India by a Japanese company count in Indian GDP.
SIMPLYEverything produced inside the country's borders, whoever owns the producer.
E.G.A Korean-owned phone plant in Tamil Nadu adds to India's GDP.
GNP
Value of output produced by the nationals of a country, irrespective of geographical boundary.
GNP = GDP + Net Factor Income from AbroadIndia's GNP is lower than its GDP — net income from abroad has stayed negative.
SIMPLYEverything produced by a country's own citizens and firms, wherever in the world they operate.
E.G.An Indian company's profit from its US branch counts in India's GNP, but in the US's GDP.
NDP
GDP after adjusting for depreciation.
NDP = GDP − DepreciationSIMPLYGDP minus depreciation, the wear and tear of machines and buildings.
E.G.A factory economy produces ₹1,000 crore but its machines lose ₹100 crore in value, so NDP = ₹900 crore.
NNP
GNP after adjusting for depreciation. NNP is always lower than GNP, since depreciation can never be reduced to zero.
NNP = GNP − DepreciationSIMPLYGNP minus depreciation: what the nation really adds after keeping its capital intact.
E.G.GNP ₹1,000 crore − depreciation ₹100 crore = NNP ₹900 crore.
Factor Cost (FC)
Cost of all factors of production used or consumed in producing goods and services.
FC = Market Price − Net Indirect TaxesSIMPLYThe cost of the factors of production alone (wages, rent, interest, profit), with taxes and subsidies stripped out.
E.G.A phone sells for ₹10,000 including ₹1,500 net indirect tax, so its factor cost is ₹8,500.
Market Price (MP)
The actual transacted price of goods and services.
FC = MP − Indirect Taxes + SubsidiesSIMPLYThe price a buyer actually pays, with indirect taxes included and subsidies deducted.
E.G.The ₹10,000 tag on the phone is its market price.
Transfer Payments
Payments made by government to individuals for which no economic activity is produced in return — e.g. old-age pensions, scholarships.
SIMPLYMoney the government hands over without getting any output in return, so it is not income earned from production.
E.G.An old-age pension of ₹1,500 is a transfer. A government clerk's salary is not, because the clerk provides a service.
National Income (NI)
Sum of all factor incomes earned by the citizens of a country, whether within the country or abroad.
NI at FC = NNP at MP − Indirect Taxes + SubsidiesSIMPLYThe total of all incomes earned by the nation's factors of production.
E.G.Wages ₹50 + rent ₹10 + interest ₹15 + profit ₹25 (in lakh crore) = national income ₹100 lakh crore.
Personal Income (PI)
All income (including transfer payments) received by all individuals in a year.
PI = NI + Transfer Payments − Corporate Retained Earnings − Income Taxes − Social Security TaxesSIMPLYAll income actually received by individuals, including transfers, before they pay personal tax.
E.G.A household earning ₹40,000 salary and getting a ₹2,000 scholarship has personal income of ₹42,000.
Disposable Personal Income (DPI)
The amount actually at the disposal of individuals to spend as they like.
DPI = PI − Personal Taxes = Consumption + SavingsSIMPLYWhat households are left with after personal taxes, to spend or save as they like.
E.G.Personal income ₹42,000 − tax ₹4,000 = ₹38,000, which can be split as ₹30,000 spent and ₹8,000 saved.
Real GDP
Current year production of goods and services valued at constant base-year prices — a better measure since it isn't inflated by price rise.
SIMPLYOutput measured at fixed base-year prices, so it changes only when the quantity produced changes.
E.G.A country makes 100 loaves at ₹10 last year and 100 loaves at ₹12 this year. Real GDP is unchanged; only prices moved.
Nominal GDP
Current year production of final goods and services valued at current year prices.
SIMPLYOutput measured at current-year prices, so it can rise even when only prices rise.
E.G.In the same loaf example, nominal GDP rises from ₹1,000 to ₹1,200, a 20% 'growth' with no extra bread.
EXAM ANGLE
Prelims questions often flip these formulae — e.g. asking which is larger, GNP or NNP, or testing whether transfer payments (pensions, scholarships) enter National Income directly. Memorise the four relationships (GDP↔GNP, NDP↔NNP, FC↔MP, and NI's link to NNP at FC) as a single connected chain rather than in isolation.
Components of National Income
IN SIMPLE WORDS
National income is one flow of money seen at different stages, like a staircase. Each step adds or removes something (taxes, retained profits, transfers) to move from what the economy earns to what households can actually spend.
EXAMPLESalary ₹100 minus income tax ₹10 leaves disposable income of ₹90. If you spend ₹70 and save ₹20, then Consumption + Saving = Disposable Income.
(Disposable Personal Income — PDI)
+ Misc. fees & fines paid by households / misc. receipts of Govt.
+ Undistributed corporate profit
− Interest on National Debt
− Current transfers from Govt.
− Rest of the World (Net)
+ Savings of non-departmental enterprises
Measurement of National Income by NSO
IN SIMPLE WORDS
The same 'cake' can be counted three ways: when it is made (value added), when it is earned (income), or when it is bought (expenditure). All three should give the same total. Only final goods are counted, to avoid double counting.
EXAMPLEA farmer sells wheat for ₹40 to a miller, who sells flour for ₹70 to a baker, who sells bread for ₹100. Value added is 40 + 30 + 30 = ₹100, which equals the final bread price. Adding 40 + 70 + 100 = ₹210 would count the wheat three times.
Value Added Method
Also called Product Method. Focuses on the supply side.
SIMPLYCount the extra value each producer adds at its own stage, looking at it from the production (supply) side.
E.G.A baker buys flour for ₹70 and sells bread for ₹100, so the baker adds ₹30.
Income Method
Aggregates factor payments made by firms to households — demand side.
SIMPLYCount the incomes earned by the people who took part in production.
E.G.Add the bakery's wages, rent, interest and profit, along with those of every other producer.
Expenditure Method
Measures the total final expenditure on currently-produced goods & services.
SIMPLYCount how much is spent on finally produced goods and services: consumption + investment + government + net exports.
E.G.Households ₹60 + firms' investment ₹20 + government ₹15 + net exports ₹5 = ₹100.
Value Added Method
GDP is calculated at market prices — the total value of outputs produced at different stages of production. Only final goods, not intermediate goods, are taken for calculation, to avoid double counting.
INCLUDED IN PRODUCTION
- Goods & services sold in the market
- Goods & services not sold but supplied free of cost
- Services provided by agents
NOT INCLUDED IN PRODUCTION
- Purchase and sale of second-hand items
- Production due to illegal activities
- Non-economic goods such as air and water
- Transfer payments such as scholarships, pensions
Income Method
Focuses on aggregating factor payments made by firms to households.
Expenditure Method
Measures total spending on currently-produced final goods and services in the economy.
GDP = C + I + G + (X − IM)- Consumption Expenditure (C) — personal consumption by households, paid directly to firms.
- Investment Expenditure (I) — addition to capital stock, by firms and government.
- Government Expenditure (G) — value of goods and services purchased by government. Pensions, scholarships and unemployment allowances are excluded — they're transfer payments.
- Exports (X) — expenditure by other economies on our production.
- Imports (IM) — expenditure on foreign-made products; it escapes the domestic system.
Base Year
The beginning or reference year for constructing an index. It is usually assigned an arbitrary value of 100.
SIMPLYThe reference year against which other years are compared, usually set at 100.
E.G.If the index is 100 in the base year and 130 now, the measured quantity is 30% higher.
GDP Deflator
Ratio of GDP at current prices to GDP at constant prices — published quarterly since 1996, with a two-month lag.
GDP Deflator = (Nominal GDP / Real GDP) × 100SIMPLYA price index for the whole economy: nominal GDP divided by real GDP, times 100.
E.G.Nominal GDP ₹120 and real GDP ₹100 give a deflator of 120, so prices rose 20% since the base year.
Gross Value Added (GVA)
Value of output less the value of intermediate consumption.
GVA AT BASIC PRICES
Includes production taxes, excludes production subsidies.
= GVA + Production Taxes − Production SubsidiesGVA AT FACTOR COST
Includes no taxes, excludes no subsidies.
= GVA at Basic Prices − Production Taxes + Production SubsidiesSIMPLYThe value a producer adds: its output minus the cost of inputs bought from others.
E.G.A bakery's bread is worth ₹100 and its bought-in flour, gas and packaging cost ₹70, so GVA = ₹30. Add product taxes, subtract product subsidies, and you reach GDP.
Difficulties in Measuring National Income
IN SIMPLE WORDS
GDP only counts what gets recorded and valued in money. Anything outside the market (home work, barter, black money) goes missing, so GDP can understate the real economy.
EXAMPLEA mother cooking for her family adds nothing to GDP. If the family hires a cook for the same work, GDP rises. The work is identical, but only the paid version is counted.
Recent Developments in GDP Measurement
IN SIMPLE WORDS
A base year is the reference year whose prices are used to compare output over time. Updating it refreshes the 'shopping basket' so that GDP reflects today's economy. 'Growth is not development' means GDP can rise while inequality, gender gaps or pollution get worse.
EXAMPLEA base year from 2004-05 had no room for app-based services or UPI-era businesses. Moving to 2011-12 meant the data captured many activities that older figures missed.
- Change in base year for national accounts from 2004-05 to 2011-12.
- Measurement of GDP growth at constant market prices instead of the earlier constant prices.
- Sector-wise estimates of GVA at basic prices instead of the earlier factor cost.
- Use of the MCA21 database of the Ministry of Corporate Affairs.
- Comprehensive coverage of the financial sector.
- Improved coverage of activities of local bodies and autonomous institutions.
Debates Around GDP
Higher economic growth may not necessarily transform into higher economic development:
- Gender disparities are not indicated in GDP data.
- Does not measure sustainability of growth — growth may come at the cost of environmental exploitation.
- Condition of the poor is not indicated — even at 7–8% growth, food inflation hit the poorest hardest.
- Economic inequality not revealed — India grapples with high income and wealth inequality despite rapid growth.
- Other intangibles like leisure and quality of life are not valued.
Factors Affecting National Income
IN SIMPLE WORDS
Many things drive national income: stable politics, good policy, technology, skilled labour, capital and natural resources. Green GDP adds a reality check by subtracting the environmental damage that growth causes.
EXAMPLEA factory adds ₹100 crore to GDP but its pollution costs ₹30 crore in clean-up and health costs. Green GDP shows a net gain of about ₹70 crore.
Green GDP
An index of economic growth with the environmental consequences of that growth factored in.
Green GDP = GDP − Value of Environmental Degradation − PWhere P = all expenditure on cleaning up pollution, avoiding further environmental damage, and health costs of pollution-induced illness. The Government of India is yet to implement the recommendations of the Partha Dasgupta Committee in this direction.
HDI — Human Development Index
IN SIMPLE WORDS
Money income does not capture well-being. HDI blends three things: a long and healthy life, knowledge (schooling), and a decent standard of living (income per head).
EXAMPLETwo countries have the same income per person. In one, people live longer and children stay in school more years. That country scores higher on HDI.
UNDP published its first Human Development Report (HDR) in 1990, introducing the HDI as the first attempt to define and measure levels of development.
Health
Life expectancy at birth
SIMPLYHealth: how long people can expect to live.
E.G.A country where a newborn is expected to live 75 years scores higher than one where it is 60.
Education
Mean years of schooling; Expected years of schooling
SIMPLYEducation: how much schooling adults already have, and how much children are expected to get.
E.G.Adults average 7 years in school, while a 5-year-old today is expected to complete 12 years.
Living Standards
Gross national income per capita
SIMPLYLiving standard: average income per person.
E.G.GNI of $3,000 billion shared by 1,000 million people is $3,000 per person (illustrative).
Gross National Happiness (GNH)
IN SIMPLE WORDS
GNH argues that a country's progress should be judged by how people live and feel, not only by how much money is produced. It balances economic growth with good governance, nature and culture.
EXAMPLEBhutan follows a 'high value, low impact' tourism approach. It limits mass tourism to protect its environment and culture, even though more tourists would raise GDP.
Given holistic importance in sustainable development, resting on four pillars:
- Sustainable and equitable socio-economic development
- Good governance
- Environmental protection
- Cultural promotion
Important Timelines
Idea coined by Bhutan's 4th Dragon King, Jigme Singye Wangchuk.
Current version developed by the Centre for Bhutan Studies.
UN Resolution recognises GNH as a chief development indicator.
World Happiness Report, covering 83 countries, published.
Finland topped the list; India ranked 125th.
Statistical Systems of India
IN SIMPLE WORDS
Think of MoSPI as the country's data office. Its National Statistical Office (NSO) publishes national accounts (GDP, IIP), prices and sample surveys (employment, consumption), which the government and economists use to plan.
EXAMPLEWhen the news says 'GDP grew by x%' or 'the unemployment rate is y%', the number came from NSO releases and surveys.
National Statistical Office (NSO)
Note: the Programme Implementation Wing has three divisions — Twenty Point Programme, Infrastructure Monitoring & Project Monitoring, and Member of Parliament Local Area Development Scheme.
National Statistical Office (NSO)
The Statistics Wing of MoS&PI, comprising the Central Statistical Office (CSO), the Computer Centre, and the National Sample Survey Office (NSSO). It is mandated to:
- Provide and maintain norms and standards in the field of statistics.
- Prepare national accounts and publish annual estimates of national product.
- Maintain liaison with international statistical organisations.
- Compile and release the Index of Industrial Production (IIP), Annual Survey of Industries (ASI), etc.
- Organise and conduct periodic all-India Economic Censuses.
- Conduct large-scale all-India sample surveys on employment, consumer expenditure, housing and environment.
- Compile and release Consumer Price Index (CPI) numbers and annual inflation rates.
National Statistical Commission (NSC)
Set up in 2005, based on the recommendation of the Rangarajan Commission.
COMPOSITION
- A part-time Chairperson and four part-time Members, specialised in statistical fields
- CEO of NITI Aayog — ex-officio member
- Chief Statistician of India — Secretary to the NSC (also Secretary of MoS&PI)
FUNCTIONS
- Serve as the nodal, empowered body for all core statistical activities.
- Evolve, monitor and enforce statistical priorities and standards.
- Ensure statistical coordination among different agencies.
Index of Industrial Production (IIP)
Measures the performance of industrial activity in the economy. Released monthly by the NSO; base year 2011-12.
Index of Eight Core Industries
Released by the Office of the Economic Adviser, DPIIT. Measures performance of 8 key sectors.
Annual Survey of Industries (ASI)
- Conducted by the NSO on an annual basis — the principal source of industrial statistics in India.
- Covers most industries under the Factories Act; broader in coverage than the IIP.
- Excludes: defence establishments, oil storage & distribution depots, restaurants, hotels, cafés, computer services, and technical training institutes.
Sustainable Development Goals (SDGs)
IN SIMPLE WORDS
The SDGs are 17 global goals meant to be achieved together, not one at a time, covering poverty, hunger, health, education, equality, climate and more. They apply to every country, not just poor ones.
EXAMPLEA school mid-day meal programme advances several goals at once: No Poverty, Zero Hunger, Good Health and Quality Education.
- Adopted at the 70th UN General Assembly session (2015) as "Transforming our World: the 2030 Agenda for Sustainable Development" — 17 goals, 169 targets.
- Countries hold primary responsibility for follow-up and review at the national level.
- In India: MoSPI develops the National Indicator Framework (NIF) to measure SDG progress; NITI Aayog holds overall implementation responsibility and aligns government schemes with the SDGs.
ECONOMY CLASSES
Money & Monetary Policy
Money underpins every transaction in the economy — and the tools used to manage its supply and cost shape growth, inflation and employment. This chapter covers what money is, how it evolved, how banks create it, the RBI's structure and functions, and the full monetary policy toolkit.
Definition of Money
IN SIMPLE WORDS
Money is whatever people widely accept as payment without asking questions about who is paying or what it is made of. Acceptance is what makes something money.
EXAMPLEA shopkeeper takes your ₹500 note without testing the paper. He would not accept a stranger's handwritten IOU in the same way.
It is anything which is generally acceptable as a means of payment. It can be understood from the following features:
Functions of Money
IN SIMPLE WORDS
Money does four jobs: a medium of exchange (you can buy things), a unit of account (prices are quoted in it), a store of value (you can save it) and a standard of deferred payment (you can pay later).
EXAMPLEYour salary buys groceries (exchange). The price tag says ₹50/kg (unit). You keep savings for next month (store). You buy a bike on EMI and pay over time (deferred payment).
Medium of Exchange
Money acts as an intermediary in the exchange process.
SIMPLYMoney stands between buyer and seller, so goods need not be swapped directly.
E.G.You pay ₹40 for milk; the dairy then uses that ₹40 to pay a worker.
Unit of Account
Value of all goods and services can be expressed in monetary units.
SIMPLYMoney gives one common yardstick to quote every price.
E.G.Without it, you would say 1 shirt = 3 kg of rice = 2 haircuts. With money, the shirt is simply ₹600.
Store of Value
Wealth can be stored in the form of money for future use.
SIMPLYMoney lets you keep purchasing power for later. It works as a store only while prices stay reasonably stable.
E.G.You save ₹5,000 this month for next month's fees. High inflation would shrink what it can buy.
Standard of Deferred Payments
Facilitates credit transactions — present goods are exchanged against future payments.
SIMPLYMoney lets people buy now and pay later, because debts can be fixed in money terms.
E.G.A home loan gives you the house today and you repay in EMIs over 20 years.
Evolution of Money
IN SIMPLE WORDS
Each form of money solved a problem of the one before it: barter was clumsy, metals were durable but heavy, paper was light, plastic cards and digital payments removed the need to carry cash.
EXAMPLEImagine buying a TV with sacks of rice, then with silver coins, then with a ₹20,000 note, then by tapping a card. Each step is easier.
Barter
Goods like furs, salt, rice, wheat, weapons and animals were used as an exchange — known as "Barter Exchange".
SIMPLYSwapping one good directly for another, without money.
E.G.A villager trades a sack of rice for a bag of salt in an old village market.
Metallic
Metals like gold, silver, copper and nickel were used as they could be easily handled and their quantity readily ascertained.
SIMPLYCoins of gold, silver or copper were durable, divisible and easy to weigh.
E.G.The silver rupee coin introduced by Sher Shah Suri.
Paper
Carrying metallic currency seemed too dangerous and difficult because of thefts and weight. Today, money consists mainly of currency notes.
SIMPLYLight paper notes replaced heavy coins; their value comes from the issuer's promise.
E.G.One ₹500 note replaces carrying five hundred ₹1 coins.
Plastic
Credit and debit cards aim to eliminate the need for carrying cash. With a debit card, money comes directly from your bank account; a credit card is a loan from the bank.
SIMPLYCards let you move bank money without handling cash. Debit uses your own balance; credit uses the bank's loan.
E.G.A debit swipe deducts ₹800 from your account immediately. A credit card swipe creates a bill you must pay later.
Crypto
A new type of currency with value only because people give it value — designed to cut out the middle person (a central bank), with lower fees and faster transactions.
SIMPLYA digital token with no central bank behind it; its value rests on belief and limited supply.
E.G.Bitcoin is an example. It is different from a central bank digital currency, which is issued by the central bank.
Problems with the Barter System
IN SIMPLE WORDS
Barter needs a 'double coincidence of wants': each person must want what the other has. Money breaks this link. Fiat money has no value in itself (a ₹10 note is only paper); its value comes from the guarantee of the issuing authority.
EXAMPLEYou have rice and want shoes, but the cobbler wants wheat, so no deal. With money you sell rice to anyone and buy shoes from anyone.
- Lack of Double Coincidence of Wants — both parties must simultaneously want what the other is offering.
- Problem of a Common Measurement of Value — no shared unit to express the value of goods.
- Difficulty in Storage of Wealth — perishable or bulky goods are hard to store or accumulate.
Fiat Money
Currency notes and coins are called fiat money. They do not have intrinsic value like a gold or silver coin.
Their value is derived from the guarantee provided by the issuing authority — every note bears a promise from the RBI Governor that RBI will give the bearer purchasing power equal to the value printed on it.
SIMPLYMoney that has value because the government declares it so, not because of the material it is made of.
E.G.A ₹100 note is a few paise worth of paper. People accept it because the law and RBI back it.
Legal Tenders
Currency notes and coins are legal tenders as they cannot be refused by any citizen for settlement of any transaction.
Cheques, however, can be refused — so cheques are not legal tenders. They are fiduciary money, accepted on the basis of trust between payer and payee, not government order.
SIMPLYLegal tender must be accepted when offered for settling a debt.
E.G.You cannot refuse a ₹100 note offered to settle your bill, but you can refuse a cheque.
Demand for Money
IN SIMPLE WORDS
People hold money for two main reasons: to make transactions (more income means more spending, so more money held) and for speculation (when interest rates fall, holding cash costs little, so people hold more of it).
EXAMPLEYour salary doubles and you keep more in your account for bills. When FD interest drops from 7% to 3%, locking money away seems less attractive, so you hold it in liquid form.
Since money is required to conduct transactions, more transactions imply a larger demand for money.
TRANSACTION DEMAND
Since the quantum of transactions depends on income, a rise in income leads to a rise in the demand for money.
SPECULATIVE DEMAND
When interest rates fall, people prefer holding money over deposits (whose returns have dropped). So at lower interest rates, money demanded rises.
Supply of Money
IN SIMPLE WORDS
Money supply is the money people can actually use: cash plus bank deposits. The more easily a deposit can be spent, the narrower the measure that includes it (M1), and broader measures (M3 and beyond) add less liquid deposits.
EXAMPLE₹10,000 in your wallet and ₹50,000 in a savings account are both money. A fixed deposit is less liquid, so it appears only in the broader measures.
The supply of money at any point of time consists of
Currency with People
Notes & coins
SIMPLYCash held by the public, not cash locked in bank vaults.
E.G.The cash in your wallet counts. The cash in a bank's strongroom does not.
Demand Deposits
Savings & current accounts with banks
SIMPLYMoney that can be withdrawn at any time on demand.
E.G.Savings and current accounts, from which you can withdraw cash or pay by UPI whenever you want.
Time Deposits
Fixed deposits & recurring deposits with banks
SIMPLYMoney placed with a bank for a fixed period.
E.G.A one-year fixed deposit, which pays more interest but costs a penalty if broken early.
NOTE
In India, currency notes are issued by the RBI. Coins, however, are issued by the Government of India under the Currency and Coinage Act.
Measures of Money Supply
Most liquid. Currency + net demand deposits held by commercial banks. ("Net" = only public deposits, not interbank deposits.)
M1 + savings deposits with Post Office savings banks.
M1 + net time deposits of commercial banks. Most commonly used measure — also known as aggregate monetary resources.
Least liquid. M3 + total deposits with Post Office savings organisations (excluding National Savings Certificates).
In decreasing order of liquidity: M1 → M2 → M3 → M4
NOTE
M3 includes nothing of the Post Office Savings.
Money Creation by the Banking System
IN SIMPLE WORDS
Banks lend out most of each deposit and keep a small reserve. The loan is spent, lands in another bank as a new deposit, and gets lent again. Total deposits therefore grow to a multiple of the original: 1 ÷ reserve ratio.
EXAMPLEWith a 10% reserve, a ₹1,000 deposit allows a ₹900 loan. That ₹900 is deposited elsewhere, and ₹810 is lent next, and so on. The total heads toward ₹10,000 (1,000 ÷ 0.10), as in the table.
Depositors place funds with the bank; the bank lends to borrowers, who repay with interest.
Assets for a Bank
= Reserves + Loans
Reserves are deposits of commercial banks (like SBI) with the RBI. Loans are given to the public.
SIMPLYAssets are what the bank owns and earns from: its reserves and its loans.
E.G.Your home loan is an asset for the bank because it earns interest.
Liabilities for a Bank
= Deposits which people keep with it.
SIMPLYLiabilities are what the bank owes: mostly deposits.
E.G.Your savings balance is a liability for the bank, since it must return the money whenever you ask.
The Process of Credit Creation by the Banking System as a Whole
MONEY MULTIPLIER
Requirement of reserves acts as a limit to money creation. With CRR = 10%:
Money Multiplier = 1/CRR = 1/0.1 = 10Reserves of Rs. 1,000 therefore create deposits worth 10 times — i.e. Rs. 10,000.
RBI and Its Functions
IN SIMPLE WORDS
RBI is the 'banker's bank' and the government's bank. It issues currency, runs monetary policy, regulates banks, manages foreign exchange and acts as lender of last resort.
EXAMPLEIf a bank runs short of cash overnight, it borrows from RBI. That is RBI acting as lender of last resort.
Its Origin
Established on the recommendation of the Hilton Young Committee. Privately owned. 1st Governor — Sir Osborne Smith. 1st Governor after independence — CD Deshmukh. Benegal Rama Rau served the longest, for 8 years.
Nationalised — fully owned by the government. HQ at Mumbai. Works as per the RBI Act, 1934. RBI is not an autonomous body — though it acted as one in the past.
Functions
- Formulates, implements and monitors monetary policy.
- Objective: maintaining price stability, while keeping in mind the objective of growth.
- Prescribes the broad parameters of banking operations.
- Objective: maintains public confidence in the system, protects depositors' interest & provides cost-effective banking services.
- Manages it via the Foreign Exchange Management Act, 1999.
- Objective: facilitate external trade and payment, and promote development and maintenance of the forex market.
- Issues, exchanges, or destroys currency and coins not fit for circulation.
- Objective: give the public an adequate supply of currency notes and coins, in good quality.
- Performs a wide range of promotional functions to support national objectives.
- Regulator and supervisor of the Payment and Settlement Systems.
- Objective: maintain public confidence in the payment and settlement system.
- Banker to the Government.
- Banker to banks: maintains banking accounts of all scheduled banks.
NOTE
The RBI also publishes various reports — Financial Stability Report, Monetary Policy Report, and Quarterly Statistics on Deposits and Credit of Scheduled Commercial Banks in India.
Monetary Policy
IN SIMPLE WORDS
Monetary policy is RBI adjusting the amount and cost of money to keep prices stable while supporting growth. India targets CPI inflation of 4%, with a tolerance band of ±2%.
EXAMPLEPrices are rising too fast, so RBI raises interest rates. Loans become costlier, people borrow and spend less, demand cools and inflation eases.
It is the process by which the RBI manages the money supply in the economy using the monetary instruments under its control.
Prime Objective — Price Stability
Inflation targeting is the primary objective. Target for consumer price headline inflation = 4% (+/- 2%). The inflation target for the RBI each financial year is determined by the Government in consultation with the RBI itself.
SIMPLYRBI's main job: keep inflation within the target band.
E.G.The target is 4% with a tolerance band of 2% to 6%. If inflation hits 7%, RBI tightens policy.
Other Objectives — Growth
Employment generation and exchange rate stability.
SIMPLYBeyond prices, RBI also supports jobs and exchange-rate stability.
E.G.In a slowdown, RBI cuts rates so that firms borrow, expand and hire.
Monetary Policy Tools / Instruments
IN SIMPLE WORDS
RBI has tools that act on how much banks can lend. CRR and SLR set how much of deposits banks must set aside; the repo rate is the price at which RBI lends to banks; reverse repo is what RBI pays to absorb surplus money; open market operations are RBI buying or selling government securities.
EXAMPLEIf CRR is 4.5%, a bank with ₹100 in deposits must keep ₹4.50 with RBI as cash and can lend the rest. Raising CRR leaves less to lend. A repo hike makes bank loans costlier.
Quantitative Tools
- Cash Reserve Ratio (CRR) — % of a bank's total deposits kept as cash with the RBI. 4.5%
- Statutory Liquidity Ratio (SLR) — % of deposits banks must invest in safe, liquid assets like unencumbered government securities, cash and gold. 18%
- Purchase and sale of government securities.
- Repo Rate — rate at which RBI provides overnight liquidity to banks against government/approved securities. 6.5%
- Reverse Repo Rate — rate at which RBI absorbs liquidity, overnight, against eligible government securities. 3.35%
- Rate at which RBI is ready to buy or rediscount bills of exchange or other commercial papers.
- Aligned to the MSF rate — 6.75% (BR = MSF).
- Amount of overnight money scheduled commercial banks can borrow by dipping into their SLR portfolio, up to a limit, at a penal rate — 6.75%.
- Consists of overnight as well as term repo/reverse repos (fixed and variable rates), SDF and MSF.
- Standing Deposit Facility (SDF) rate — rate at which RBI accepts uncollateralised deposits, overnight, from all LAF participants. SDF = 6.25%.
- Special bonds floated by RBI on behalf of the government for mopping up excess liquidity when regular government bonds prove inadequate.
- Mostly shorter-tenure bonds, of less than six months maturity — though tenure differs depending on requirement.
Qualitative Tools
- The difference between the market value of the assets and its maximum loan value.
- Issuing rules regarding down payments and maximum maturities of instalment credit for purchase of goods.
- Control over the credit granted / allocated by commercial banks.
- Request by the RBI to commercial banks to take certain measures as per the trend of the economy.
- Action taken by the RBI against banks that don't fulfil conditions and requirements.
Monetary Policy Transmission
IN SIMPLE WORDS
Policy works through a chain: policy change, then money supply, then demand, then prices and jobs. Expansionary ('dovish') policy boosts spending; contractionary ('hawkish') policy cools it.
EXAMPLERBI cuts the repo rate, banks cut home-loan rates, more families buy homes, and construction jobs rise. The risk is that higher demand also pushes up inflation.
EXPANSIONARY MONETARY POLICY
Aim: increase money supply by —
- Decreasing interest rates
- Purchasing government securities by central banks
- Lowering reserve requirements for banks
Impact: lowers unemployment, stimulates business & consumer spending — can also lead to higher inflation.
Also known as: Dovish Money Policy
CONTRACTIONARY MONETARY POLICY
Aim: decrease money supply by —
- Raising interest rates
- Selling government bonds
- Increasing reserve requirements for banks
Impact: controls inflation.
Also known as: Hawkish / Tight Monetary Policy, Dear Money Policy
Monetary Policy Committee (MPC)
IN SIMPLE WORDS
The MPC is a six-member committee (3 from RBI and 3 external experts) that decides policy rates by majority vote. Decisions by committee, not one person, make policy more credible.
EXAMPLEIf the vote is 3–3, the Governor casts the deciding vote, like a tie-break in a jury.
SIX-MEMBER PANEL
- 3 members from the RBI: the Governor, a Deputy Governor, and another official. The RBI Governor is the head.
- 3 independent members (government appointees) — a search committee recommends three external experts in economics, banking or finance.
FUNCTIONING
- Meets at least four times a year to decide on monetary policy by a majority vote.
- In case of a tie, the RBI Governor gets the deciding vote.
- Responsible for deciding the different policy rates including the MSF, Repo Rate, Reverse Repo Rate, and the Liquidity Adjustment Facility.
Key Terms & Definitions
IN SIMPLE WORDS
These terms appear often in exam questions. High-powered money is the base of the money supply, and the money multiplier builds a larger supply on top of it. Priority sector lending directs a share of bank credit to areas the economy needs.
EXAMPLEUnder PSL, a bank must direct a fixed share of its lending to farmers, small businesses and other priority areas, rather than only to large corporates.
Double Coincidence of Wants
Both parties agree to sell and buy each other's commodities.
SIMPLYBoth sides must want what the other offers at the same time.
E.G.A wheat farmer wants shoes, and the cobbler happens to want wheat: that is a rare match.
Barter System
A system where goods are directly exchanged without the use of money. Double coincidence of wants is an essential feature.
SIMPLYA system of directly swapping goods, which depends on double coincidence of wants.
E.G.Exchanging 10 kg of wheat for a pair of sandals with no cash involved.
High-Powered Money
Also called Reserve Money or Monetary Base — the currency issued by the central bank, which can be held by the public or by commercial banks.
SIMPLYThe base money created by RBI (currency plus banks' reserves), on which the banking system builds more money.
E.G.With a 10% reserve ratio, ₹100 of base money can support deposits of up to ₹1,000.
Priority Sector Lending (PSL)
Focuses on increasing bank lending towards specified sectors and activities in the economy.
All scheduled commercial banks and foreign banks (with 20+ branches) must set aside 40% of Adjusted Net Bank Credit (ANBC) for PSL. Regional rural banks and small finance banks allocate 75% of ANBC. Urban cooperative banks' PSL target rises from 40% to 75% of ANBC from FY2025-26.
Categories: Agriculture, Micro/Small/Medium Enterprises, Export Credit, Education, Housing, Social Infrastructure, Renewable Energy, Others.
SIMPLYBanks must direct part of their lending to priority areas such as farming, MSMEs and housing.
E.G.Of every ₹100 a bank lends, a set portion must go to such sectors, instead of only to large companies.
Liquidity Trap
Monetary policy becomes ineffective due to very low interest rates combined with consumers who prefer to save rather than spend or invest in higher-yielding bonds.
SIMPLYA situation where rate cuts no longer work because rates are already near zero and people prefer to hold cash.
E.G.Japan in the 1990s cut rates to near zero, yet households kept cash and demand stayed weak.
Monetary Policy Dilemma
RBI must target inflation while maintaining adequate growth. Tightening money to contain inflation also means less money for manufacturing and economic activity, hindering growth.
SIMPLYRBI faces a trade-off: controlling inflation can slow growth.
E.G.Raising rates cools prices, but a small factory finds loans costlier and may hire fewer people.
Interest Rate Spread
The difference between the interest rate a bank pays to depositors and the interest rate it receives from loans to consumers.
SIMPLYThe gap between what a bank charges on loans and pays on deposits; it is the bank's margin.
E.G.A bank pays 6% on deposits and charges 10% on loans, so the spread is 4%.
Quantitative Easing (QE)
An unconventional monetary policy where a central bank purchases longer-term securities from the open market to increase money supply and encourage lending and investment.
SIMPLYThe central bank buys long-term bonds with newly created money to push rates down and encourage lending.
E.G.After the 2008 crisis, the US Federal Reserve bought government bonds in large amounts to bring long-term rates down.
Gresham's Law
Bad money drives out good money from circulation.
SIMPLYIf two forms of money have the same face value, people hoard the better one and spend the worse.
E.G.If a pure gold coin and a debased coin both buy a ₹10 item, people keep the gold and spend the debased coin.
MCLR
Marginal Cost of Funds-Based Lending Rate — the minimum lending rate below which a bank cannot lend (except in RBI-permitted cases). Replaced the earlier base rate system; based on marginal cost of funds, negative carry on CRR, operating costs, and tenor premium.
SIMPLYMCLR is the minimum rate below which banks normally cannot lend, based on their own cost of funds.
E.G.If a bank's MCLR is 8% and it adds a 1% margin, your loan costs about 9%.
ECONOMY CLASSES
Banking
Banks intermediate between those with surplus funds and those who need them. This chapter covers the structure of India's banking system, non-banking financial institutions, nationalisation, banking reforms, financial inclusion, NPAs and the initiatives to tackle them, and key terms.
A Bank is a: financial institution / financial intermediary that accepts deposits and channels those deposits into lending activities. Thus a bank intermediates between customers who have surpluses of funds and customers who need funds.
Functions of a Bank
IN SIMPLE WORDS
A bank is an intermediary: it collects money from people who have a surplus and lends it to people who need funds. Taking deposits and giving loans are its primary functions; everything else is secondary.
EXAMPLEYour savings account and a loan from the same bank are primary functions. Using a bank locker or having it collect a cheque for you are secondary (utility and agency) functions.
Accepting Deposits
Savings Account, Current Account, Fixed Deposits.
SIMPLYTaking money from the public for safekeeping, usually paying interest.
E.G.Opening a savings account and depositing ₹5,000.
Granting Advances
Overdrafts, Loans, Cash Credits.
SIMPLYLending money to customers: loans, overdrafts and cash credit.
E.G.With an overdraft, your balance is ₹0 but the bank lets you withdraw up to ₹20,000, charging interest only on what you use.
Agency Functions
Transfer of funds, sale/purchase of securities, collection of cheques, bills, etc.
SIMPLYDoing financial tasks for customers as the bank's agent.
E.G.Transferring money to a supplier by RTGS or collecting a cheque for you.
Utility Functions
Safety vaults or lockers, underwriting of shares/debentures, social welfare programmes.
SIMPLYExtra services that make banking convenient.
E.G.Renting a locker for jewellery, or a bank underwriting a company's share issue.
EXAM ANGLE
Accepting Deposits and Granting Advances are Primary Functions of a bank; Agency and Utility Functions are its Secondary Functions.
Banking System in India
IN SIMPLE WORDS
India's banking system is a family tree: commercial banks (public, private, foreign), cooperative banks, regional rural banks and small finance banks. 'Scheduled' banks are those listed in the Second Schedule of the RBI Act, 1934.
EXAMPLESBI is a public sector bank (government holds a majority). A private bank such as HDFC has private owners. Both are scheduled commercial banks.
Public Sector Banks (PSBs)
Majority ownership is with the government (shareholding >51%).
Nationalised Banks
Banks earlier functioning under the private sector, transferred to the public sector via nationalisation, in two phases — 1969 and 1980.
State Bank of India
All associate banks were merged into one consolidated SBI. Largest bank in India, ~23% market share by assets. Formed from the Imperial Bank of India (1921), restructured and renamed SBI in 1955.
SIMPLYBanks where the government holds more than 51%.
E.G.State Bank of India and Punjab National Bank.
Private Sector Banks
Majority ownership is with private shareholders.
SIMPLYBanks where private shareholders hold the majority.
E.G.HDFC Bank, ICICI Bank and Axis Bank.
Regional Rural Banks (RRBs)
Set up by a PSB (Sponsor bank); jointly owned by the Centre, the state government concerned, and the Sponsor bank (50:15:35% respectively). Regulated by RBI, supervised by NABARD.
SIMPLYBanks set up to serve rural areas, owned 50:15:35 by the Centre, the state and the sponsor bank.
E.G.A rural branch giving a small farmer a loan for seeds and tools.
Small Finance Banks (SFBs)
Scaled-down versions of commercial banks; provide a full suite of basic banking products in a limited area of operation. Cater primarily to unserved/underserved sections — small businesses, marginal farmers, micro and small industries, unorganised sector entities.
SIMPLYSmaller banks that serve people mainstream banks often miss, within a limited area.
E.G.AU Small Finance Bank and Ujjivan Small Finance Bank.
Payment Banks (PBs)
Perform most banking operations but cannot advance loans or issue credit cards. Can accept demand deposits (up to Rs. 2 lakhs), offer remittance services and other banking services like ATM/debit cards, net banking, and third-party fund transfers.
SIMPLYBanks that accept deposits and make payments but cannot lend or issue credit cards.
E.G.India Post Payments Bank lets a villager keep a small balance and send money digitally.
Indian Banks
Banks incorporated and headquartered in India.
SIMPLYBanks incorporated and headquartered in India.
E.G.SBI is an Indian bank, whether public or private.
Foreign Banks
Banks with their headquarters in a foreign country but operating in India as a private entity — obligated to follow the regulations of both countries.
SIMPLYBanks headquartered abroad but operating in India, which must follow the rules of both countries.
E.G.HSBC and Standard Chartered operate branches in Indian cities.
NOTE
Scheduled banks are listed in the 2nd Schedule of the RBI Act, 1934. Non-scheduled banks are not listed in the 2nd Schedule, have reserve capital of less than Rs. 5 lakh, and are not entitled to borrow from the RBI for normal banking purposes. All banks classified under Commercial Banks above are scheduled commercial banks.
Non-Banking Financial Institutions (NBFIs)
IN SIMPLE WORDS
NBFIs do bank-like work (lending, investing) but are not banks: they cannot accept demand deposits and are outside the payment system. The apex institutions are specialised wholesalers of credit for particular sectors.
EXAMPLEA company that offers you a vehicle loan or gold loan is an NBFC. NABARD refinances agriculture, SIDBI helps small industry, NHB supports housing and EXIM Bank supports foreign trade.
All India Financial Institutions
- National Bank for Agriculture & Rural Development — apex institution for financing agricultural and rural sectors; provides short-term and long-term credit through regional rural banks.
- Small Industries Development Bank of India — apex institution to promote MSMEs by refinancing institutions that provide them credit.
- National Housing Bank — apex institution for housing finance in India; earlier wholly owned by the RBI, now owned by the government.
- Export Import Bank of India — apex institution to promote foreign trade.
Non-Banking Financial Companies (NBFCs)
- Authorised to accept and hold public deposits.
- Do not accept public deposits, but raise debt from the market and banks.
- Do not accept public deposits; acquire shares/securities of subsidiary companies to the extent of not less than 90% of total assets.
An NBFC is a company registered under the Companies Act, 1956. They are engaged in the business of loans and advances, acquisition of shares, etc., and serve customer segments that are unserved or under-served by banks. Their principal activity is providing financial services.
Unlike banks, NBFCs are not required to maintain a reserve ratio. They differ from banks in that they:
- Cannot accept demand deposits.
- Do not form part of the payment and settlement system.
- Cannot issue cheques drawn on themselves.
RBI doesn't regulate all NBFCs — SEBI, IRDAI, etc. are also involved, depending on the type of NBFC.
Nationalisation of Banks
IN SIMPLE WORDS
Nationalisation put the largest banks under government ownership to make credit reach farmers, small industries and backward regions, not just big businesses in cities.
EXAMPLEBefore 1969, a village farmer often had no bank nearby and relied on a moneylender. After nationalisation, banks opened rural branches and began farm lending.
Background
- Carried out in two phases.
- 1969 — 14 largest commercial banks nationalised by an Ordinance (later approved by Parliament).
- 1980 — 6 more commercial banks nationalised.
SIMPLYThe two waves of nationalisation: 1969 (14 banks) and 1980 (6 banks).
E.G.Memory aid: 1969 → 14, 1980 → 6, so 20 banks in all.
Objectives
- Expansion of the banking sector.
- Reducing regional imbalance.
- Prioritizing sector lending.
- Controlling private monopolies.
- Developing banking habits in people.
- Social welfare.
SIMPLYThe aims: spread banking to the masses, reduce regional imbalance and direct credit to priority sectors, not just big industrialists.
E.G.A farmer who relied on a moneylender could now get a bank loan at lower interest.
Impact
- Growth of farm credit; credit to weaker sections.
- Branch expansion to areas other than major urban centres.
- Credit to small-scale industries; increased growth of deposits.
- Slow financial growth of banks.
SIMPLYResults of nationalisation were mixed: more rural credit and branches, but weaker financial health in many banks.
E.G.Rural branches multiplied, but lending under pressure later added to bad loans.
Banking Reforms in India
IN SIMPLE WORDS
The reform committees aimed to make banks stronger and freer. They cut the cash that banks had to park with RBI and in government bonds, deregulated interest rates, tightened bad-loan norms and allowed new private banks.
EXAMPLEReducing CRR and SLR is like loosening a tight budget: banks can lend more of each deposit instead of locking it away.
Narasimham Committee I (1991)
- Reduction in CRR and SLR.
- Interest rate deregulation.
- Structural reorganization of banks.
- Establishment of Asset Reconstruction Fund (ARF) tribunal to take over bad and doubtful debts.
- Allowing banks to raise capital through the capital market.
- Scaling down PSL quota from 40% to 10%.
- Allowing entry of new private banks.
SIMPLYThe 1991 reforms freed banks from excessive control.
E.G.Cutting CRR and SLR left more deposits free to lend. New private banks were allowed in.
Narasimham Committee II (1998)
- Merger of strong banks.
- Stricter norms for NPAs.
- Greater autonomy for the PSBs.
- Improvement in capital adequacy norms.
SIMPLYThe 1998 reforms focused on strengthening and cleaning up banks.
E.G.Stricter NPA recognition, and merging strong banks for scale, like the 2017 merger of SBI's associate banks into SBI.
PJ Nayak Committee (2014)
- Repeal the Bank Nationalisation Act, which requires government to hold above 50% share in banks.
- Government to transfer its share in banks to a Bank Investment Company (BIC).
- Until the BIC is formed, a temporary Bank Boards Bureau (BBB) advises on board appointments, chairman and other executive directors.
SIMPLYThe 2014 committee suggested the government step back from managing banks.
E.G.A Bank Investment Company would hold the government's shares, so that banks are run at arm's length from ministries.
Financial Inclusion
IN SIMPLE WORDS
Financial inclusion means every person, especially the poor, can use basic financial services at affordable cost. India uses accounts, credit, technology and awareness together.
EXAMPLEA daily-wage worker with no account opens a Jan Dhan account and receives a government subsidy directly in it, with no middleman.
It is the process of ensuring access to financial services and timely and adequate credit to the weaker sections and low-income groups at an affordable cost.
- Kisan Credit Cards
- No Frills Account
- Lead Bank Scheme
- Service Area Approach
- Pradhan Mantri Jan Dhan Yojana
- Pradhan Mantri Mudra Yojana
- Financial education
- Mobile Banking
- Aadhaar-Enabled Payment Systems
- Simplified KYC norms
- Priority Sector Lending
- Self Help Group – Bank Led Initiative
Micro Finance Institutions (MFIs)
Financial institutions that provide small loans to the poor. Depending on the type of registration, they may be NGO MFIs, Cooperative MFIs, NBFC MFIs, etc.
SIMPLYInstitutions giving very small loans to the poor, often without collateral.
E.G.A women's self-help group borrows ₹10,000 to buy sewing machines and repays in small instalments.
MFIs vs SFBs vs PBs
NOTE
The RBI directly regulates NBFC-MFIs (with ~85% market share) and indirectly regulates the other MFIs.
Priority Sector Lending (PSL) Targets
NOTE
*ANBC is the total credit forwarded by banks together with other investments made by it which are not its obligation. It is used for calculating a bank's loans/advances for its PSL targets.
Non-Performing Assets (NPAs)
IN SIMPLE WORDS
An NPA is a loan on which interest or principal stays unpaid for more than 90 days. SMA categories are early warnings (30, 60 and 90 days overdue) so that banks can act before an account turns into an NPA.
EXAMPLEA bank lends ₹10 lakh and the borrower stops paying EMIs. After 90 days of default the loan becomes an NPA, hurting the bank's profit and its capacity to lend.
NPAs are loans made by a bank or finance company on which repayments or interest payments remain overdue for more than 90 days. Banks are required to classify non-performing assets further into the following categories:
- Assets/accounts that show symptoms of bad asset quality within the first 90 days itself — i.e. before being identified as NPA.
- Categorised by duration of default, for early identification of potential NPAs: SMA 0 (1–30 days), SMA 1 (31–60 days), SMA 2 (61–90 days).
- An asset that has remained NPA for a period less than or equal to 12 months.
- An asset is classified as doubtful if it has remained in the sub-standard category for a period of 12 months.
- A loss asset is one where loss has been identified but the amount has not been written off wholly — i.e. the asset is considered uncollectible.
NOTE
Due to economic disruption caused by the Covid-19 pandemic, the bad-loan classification period was increased by the RBI from 90 days to 180 days.
For Agriculture/Farm Loans, NPA is defined as under:
- Short duration crop loan: termed NPA if instalment or interest is not paid for 2 crop seasons — e.g. paddy, jowar, bajra.
- Long duration crops: termed NPA if unpaid for 1 crop season from the due date.
Initiatives Taken to Tackle NPAs
- Allows the RBI to impose certain restrictions on a bank when certain limits are breached.
- Restrictions may include halting branch expansion, stopping dividend payments, special audit, and more.
- An umbrella scheme for banking reforms, including seven elements such as capitalisation by infusion of capital, separating the post of Chairman and Managing Director, etc.
- Provides a time-bound 180-day recovery process for insolvent accounts where borrowers are unable to pay their dues.
- Proceedings are adjudicated by the National Companies Law Tribunal (NCLT) for companies, and the Debt Recovery Tribunal (DRT) for individuals.
- The bank converts loan into equity and finally takes over the management.
- Aims at deep financial restructuring of big debted projects by allowing the lender (bank) to acquire equity of the stressed project.
Important Terms
IN SIMPLE WORDS
These terms show how banking has grown beyond branches. CBS links all branches on one network; white label ATMs are run by non-banks; shadow banks act like banks but sit outside bank regulation.
EXAMPLEWith CBS you can open an account in Cuttack and deposit cash at another branch of the same bank in Delhi. A white label ATM has no bank's logo but serves customers of any bank for a fee.
White Label ATMs
Owned and operated by non-bank entities. Customers from any bank can withdraw money but pay a fee. They display no particular bank's logo and are often in non-traditional locations.
SIMPLYATMs owned by non-bank companies that serve customers of any bank for a fee.
E.G.An ATM at a railway station with no bank logo, where any bank's card works.
Shadow Banks
Organisations that function like banks but sit outside banking regulation. They help provide quick credit to the public, but have been criticised for creating bubbles and default-driven crises, as seen in the US.
SIMPLYLenders that behave like banks but sit outside banking regulation.
E.G.Before the 2008 US crisis, such lenders gave risky loans quickly, and their collapse spread panic.
Core Banking Solution
The networking of branches that enables customers to operate their accounts and avail banking services from any branch on the CBS network, regardless of where they maintain their account.
SIMPLYBranches are linked on one network, so your account is available at any branch of the bank.
E.G.You open an account in Cuttack and deposit cash at the same bank's branch in Delhi.
Banking Ombudsman
A quasi-judicial authority functioning under India's Banking Ombudsman Scheme, 2006, to enable resolution of customer complaints relating to certain banking services.
SIMPLYA grievance forum for bank customers, outside the bank.
E.G.If a bank does not refund a wrongly debited ATM withdrawal, you can complain to the ombudsman. Since 2021, RBI's Integrated Ombudsman Scheme covers this.
Domestic Systemically Important Banks (D-SIBs)
Enjoy a huge customer base and are perceived as "Too Big to Fail" (TBTF). SBI among public sector banks; HDFC Bank and ICICI Bank among private banks.
SIMPLYBanks so big that their failure would shake the whole system, so they face extra capital requirements.
E.G.SBI, HDFC Bank and ICICI Bank are D-SIBs.
Basel Norms
Broad supervisory standards formulated by the Basel Committee on Banking Supervision (BCBS) to regulate individual countries' banking systems — upgraded from Basel I to II to III. Require banks to hold additional capital against liquidity, market, credit, and cyclical risks.
SIMPLYInternational rules that make banks hold enough capital against their risks.
E.G.After the 2008 crisis, Basel III required higher-quality capital and liquidity buffers.
Liquidity Coverage Ratio (LCR)
The proportion of highly liquid assets held by financial institutions, to ensure their ongoing ability to meet short-term obligations.
SIMPLYBanks must hold enough easily sold assets to survive 30 days of stress.
E.G.If a bank expects ₹100 of net outflows in a stressed month, it should hold at least ₹100 in highly liquid assets.
Capital Adequacy Ratio (CAR)
The ratio of a bank's capital in relation to its risk-weighted assets.
SIMPLYCapital as a percentage of risk-weighted assets, which is the bank's cushion against losses.
E.G.Capital of ₹12 against risk-weighted assets of ₹100 gives a CAR of 12%.
Islamic Banking
Islamic or Sharia banking is a finance system based on the principle of not charging interest, which is prohibited under Islam.
SIMPLYBanking without interest, using profit-sharing or mark-up sales.
E.G.A bank buys a car and resells it to the customer at a marked-up price payable in instalments (murabaha).
Twin Balance Sheet Problem
Refers to the stress on balance sheets of banks due to NPAs or bad loans on one hand, and heavily indebted corporates on the other — both lenders and borrowers under stress.
SIMPLYBanks with huge bad loans and companies with huge debts, both stressed at the same time.
E.G.A steel company cannot repay its loan, the bank's NPA rises, the bank cannot lend to new projects, so investment slows down.
ECONOMY CLASSES
Inflation
A sustained rise in the general price level in the economy over a period of time. This chapter covers the types and causes of inflation, its wide-ranging impacts, measures to curb it, how it is measured in India, and an extensive glossary of associated terms.
Types of Inflation — Based on Causes
IN SIMPLE WORDS
Inflation has two main causes. Demand-pull: too much money chasing too few goods. Cost-push: producers' costs rise (wages, raw materials, fuel) and they pass it on in prices.
EXAMPLEIn a festival season, buyers rush to shops and prices rise (demand-pull). When crude oil gets costlier, transport costs rise and vegetable prices follow (cost-push).
Demand-Pull Inflation
Demand > Supply. Too much money chasing too few goods.
Causes:
- Increase in government expenditure — putting large money in the hands of the public.
- Rising population.
- Increase in black money.
- Changing consumption pattern — rise in income leads people to eat certain foods more frequently, e.g. protein-rich foods.
- Increased wages.
- Decrease in direct taxes → increase in disposable income.
- Increase in exports and decrease in imports.
- Depreciation of currency.
SIMPLYPrices rise because total demand outruns what the economy can supply.
E.G.At festival time everyone rushes to buy clothes and sweets, and shops raise prices because stock is limited.
Cost-Push Inflation
Supply shock inflation — a reduction in Aggregate Supply (AS), because of increased prices of inputs.
Causes:
- Rise in wages → increases the cost of production.
- Increase in indirect taxes → increases the cost of the product.
- Increase in administered prices — e.g. MSP, or reduction of subsidies.
- Hoarding and speculation.
SIMPLYPrices rise because the cost of producing goods rises, and producers pass it on.
E.G.Diesel gets costlier, trucking charges go up, and so do prices of vegetables in the city.
Structural Inflation
Bottleneck inflation — due to the operation of structural weaknesses (supply bottlenecks, lack of infrastructure, etc.)
Causes:
- Infrastructure bottlenecks — lack of proper roads, electricity, water, etc.
- Fluctuation due to seasonal and cyclical reasons — e.g. failed monsoon.
- High number of middlemen.
- Cartelisation practices adopted by some traders.
SIMPLYPrices rise because of structural weaknesses that limit supply, like poor roads, storage or markets.
E.G.Tomatoes rot for lack of cold storage in one region while another region faces shortage and high prices.
Types of Inflation — Based on the Rate
IN SIMPLE WORDS
Inflation is also classified by speed. Mild inflation is normal in a growing economy; as it speeds up it becomes harder to manage, and hyperinflation destroys the value of money.
EXAMPLE2% a year is creeping inflation and is manageable. Zimbabwe in 2008 had hyperinflation, where prices doubled within days and money became nearly worthless.
Creeping Inflation
Rate: 1% to 3%Referred to as manageable, and sometimes inevitable in a growing economy.
SIMPLYSlow, mild price rise that a growing economy can live with.
E.G.Prices rising 2% a year: a ₹100 item costs ₹102 next year.
Trotting Inflation
Rate: 3% to 10%If not controlled, becomes "Galloping Inflation", which may worsen into "Runaway Inflation."
SIMPLYA faster rise that can get out of hand if not checked.
E.G.At 8% a year, a ₹100 item costs ₹108 next year and the pinch is clearly felt.
Hyperinflation
Rate: Exceeds 50% for a period of a monthVery high within a very short span of time. It rapidly reduces the value of the currency.
SIMPLYExtremely rapid price rise that destroys the value of money.
E.G.In Zimbabwe in 2008, prices doubled in a day or so and people carried bundles of notes to buy bread.
Impact of Inflation
IN SIMPLE WORDS
Inflation reduces what money can buy, and that hurts people unevenly. Fixed-income earners and savers lose, borrowers often gain, and uncertainty discourages long-term investment.
EXAMPLEA pensioner gets ₹30,000 a month. If prices rise 8%, the same pension buys less every month. A borrower repaying a fixed loan repays in 'cheaper' rupees.
Recession in Some Sectors
SIMPLYWhen some goods become costlier, buyers cut back and the producers of those goods suffer.
E.G.If house prices spike, fewer people buy houses, and the construction sector slows.
Adversely Impacts Wage Earners
SIMPLYIf wages are fixed while prices rise, workers can buy less.
E.G.A worker earning ₹20,000 faces 8% inflation: the same salary buys about 8% fewer goods.
Creates Distortions in Production Pattern
SIMPLYRising prices make producers shift to what is more profitable, such as luxury items, instead of basic needs.
E.G.A farmer switches from pulses to a costlier cash crop because it pays more.
Impacts Growth & Availability of Credit for Industry
SIMPLYTo fight inflation, rates rise, so loans cost more and firms invest less.
E.G.A small manufacturer postpones buying a new machine as the loan interest goes from 9% to 12%.
Impacts Exports
SIMPLYCostlier home goods are less attractive to foreign buyers.
E.G.If Indian garments cost 10% more, foreign buyers may shift to cheaper suppliers elsewhere.
Impacts Imports
SIMPLYForeign goods become relatively cheaper, so people import more.
E.G.If local electronics get costlier, buyers prefer imported ones.
Adverse Impact on Foreign Exchange
SIMPLYMore imports need more foreign currency, which pushes the home currency down.
E.G.Importers buy extra dollars to pay for imports, so the dollar gets costlier in rupees.
Discourages Savings
SIMPLYWhen money loses value, saving it seems pointless.
E.G.A family sees savings earning 5% while prices rise 8%, so it spends now instead.
Creates Unequal Distribution of Income
SIMPLYSpeculators and hoarders gain while ordinary people lose.
E.G.A trader hoards onions, sells later at double the price, and profits, while households pay more.
Breeds Corruption
SIMPLYScarcity and high prices encourage black marketing and hoarding.
E.G.Fuel is scarce and sold in black at higher than the fixed price.
Increased Fiscal Deficit
SIMPLYHigher prices raise the government's own costs, so it borrows more.
E.G.The government pays more for food subsidy and fuel subsidy when prices rise, widening the deficit.
Measures to Curb Inflation
IN SIMPLE WORDS
Different causes need different cures. Monetary measures (by RBI) reduce money supply; fiscal measures (by government) cut spending or raise taxes; supply-side measures raise availability of goods.
EXAMPLEIf tomato prices spike because of a bad harvest, RBI raising rates will not grow more tomatoes. The government may instead release stock or allow imports.
Monetary Measures
Taken by the Central Bank (RBI in India's case) — Contractionary / Dear Money Policy, to reduce money supply.
- Tools: raise CRR, raise SLR, raise Repo Rate, etc.
- Also, qualitative control methods — raising margin of loan.
Limitations:
- Not successful if inflation is caused by cost-push factors.
- High interest rate reduces flow of credit to the productive sector → growth falls.
- Large presence of the unorganised banking sector.
SIMPLYRBI tightens money: higher repo, CRR and SLR, to cool demand.
E.G.RBI raises the repo rate; home loans and car loans get costlier; spending cools.
Fiscal Measures
Taken by the Central Government — implemented through fiscal policy, i.e. budgetary policy.
- Increase in direct taxes.
- Decrease in indirect taxes.
- Decrease in government expenditure.
Limitations:
- Increasing direct taxes discourages spending.
- Decreasing indirect taxes reduces government revenue.
- Government expenditure is hard to decrease — political constraints, and expenditure on critical projects cannot be reduced suddenly.
SIMPLYThe government uses taxes and spending to control demand.
E.G.Raising direct taxes leaves people with less to spend, and cutting government spending reduces demand.
Administrative Measures
Taken by administrative agencies:
- Banning export of certain items — e.g. edible oil, onions, pulses.
- Strengthening the PDS system to reduce leakages.
- Restrictions on hoarding and speculation.
- Import of commodities in short supply.
- Imposing temporary bans on futures trading in some essential commodities.
SIMPLYDirect orders and steps by the administration to ease prices.
E.G.Banning export of onions so more stays at home, or action against hoarders.
Measurement of Inflation
IN SIMPLE WORDS
WPI tracks prices at the wholesale level (goods only, no services); CPI tracks prices consumers pay in shops, including services. RBI targets CPI inflation.
EXAMPLEWPI is roughly what traders pay; CPI is what you pay at the grocery store. Your household budget is closer to CPI.
(a) Wholesale Price Index (WPI)
- Based on wholesale prices of selected goods (NOT services) from selected markets.
- Constitutes three major groups: Primary Articles (22.6%), Fuel & Power (13.1%), and Manufactured Products (64.2%).
- Estimated by the Office of the Economic Advisor under the Ministry of Commerce and Industry.
- Base year: 2011-12.
NOTE
1. Indirect taxes are not included while estimating the WPI.
2. It doesn't account for products of the unorganised sector in India.
(b) Consumer Price Index (CPI)
Inflation is calculated at the consumer level (Retail Inflation). Because of wide disparities in consumption baskets across consumer segments, 4 CPIs are adopted by India:
- Mainly used for determining Dearness Allowance (DA) paid to central/state government employees and workers in industrial sectors.
- Compiled and maintained by the Labour Bureau, an attached office of the Ministry of Labour & Employment.
- Base Year: 2016.
- Depicts changes in the average retail prices of goods and services consumed by the urban segment of the population.
- Discontinued since January 2011, due to an outdated base year and because CPI (Urban) is now brought out.
- Used for revising minimum wages for agricultural labourers in different states.
- Compiled by the Labour Bureau, Ministry of Labour and Employment.
- Base Year: 1986-87.
- Proposed for determining minimum wages for the government's rural jobs programme under MGNREGA — though CPI-AL is currently used for MGNREGA wages.
- Compiled by the Labour Bureau, Ministry of Labour and Employment.
- Base Year: 1986-87.
RECENT CHANGES IN CPI
In 2011, the CSO (now NSO) brought out a revised CPI — CPI (Urban), CPI (Rural), and CPI (Combined) — with base year 2012.
(c) Inflation Measurement Based on Period
Annual Average Inflation Rate
Average of the inflation rate over the last 52 weeks.
SIMPLYThe average of inflation over the last 52 weeks, a smoother picture.
E.G.Weekly readings of 6%, 7% and 8% average out over the year; the annual average does not jump about.
Point-to-Point Inflation Rate
Reflects the change in the inflation rate between a particular week of the last year and the same week of the current year.
SIMPLYCompares this week with the same week last year.
E.G.If the price index this week is 5% above the same week last year, point-to-point inflation is 5%.
(d) GDP Deflator
The ratio between GDP at current prices and GDP at constant prices. A better measure of price behaviour, as it covers all goods and services produced in the country.
(e) Producer Price Index (Proposed Index)
Measures the increase in prices/cost till the last stage of production — i.e. it does not include the cost incurred at the distribution stage (e.g. transportation cost, profit margins).
Important Associated Terms
IN SIMPLE WORDS
Disinflation, deflation and reflation sound alike but mean different things. Disinflation: prices still rise, only more slowly. Deflation: prices actually fall. Reflation: prices rise deliberately after a slump.
EXAMPLEInflation falls from 8% to 5%: that is disinflation. Prices are lower than last year: that is deflation.
Disinflation
A reduction in the rate of inflation. Price level decreases without a decrease in National Income, output, or employment. Generally desirable.
SIMPLYInflation is falling, but prices are still rising.
E.G.Inflation goes from 8% to 5%: prices are still going up, only more slowly.
Deflation
A persistent fall in the price level, alongside a fall in output, employment, etc. Leads to a recession.
SIMPLYA sustained fall in the general price level, usually with weak output and jobs.
E.G.Prices keep dropping, so people delay buying, firms cut production and workers lose jobs.
Reflation
When the economy overcomes recession/depression — price level increases along with an increase in output and employment during economic recovery.
SIMPLYPrices are pushed up deliberately to recover from a slump.
E.G.After a recession, policy boosts demand, so prices and output rise together.
Inflationary Gap
A situation where Aggregate Demand (AD) exceeds the productive capacity of the economy (Aggregate Supply at full employment). Leads to inflation.
SIMPLYDemand is more than the economy can supply at full employment, which pushes prices up.
E.G.Everyone wants to buy more than factories can produce.
Deflationary Gap
The amount by which Aggregate Demand (AD) falls short of Aggregate Supply (AS) at full employment level. Leads to deflation and recession.
SIMPLYDemand is less than supply at full employment, which causes recession.
E.G.Households spend little, factories have unsold stock and cut production.
Recession
Characterized by a negative growth rate of GDP in two successive quarters.
SIMPLYTwo successive quarters of falling GDP.
E.G.GDP shrinks in Jan–Mar and again in Apr–Jun: a recession.
Depression
An extreme form of recession that has gone on for too long. Rule of thumb: a 10 percent decline in GDP (versus two quarters of negative growth for recession).
SIMPLYA deep and prolonged recession, roughly a 10% fall in GDP.
E.G.The Great Depression of the 1930s with mass unemployment and shutdown of factories.
Inflation Spiral
Results from a process of wage-price interaction — "when wages press prices up and prices pull wages up." Also known as the wage-price spiral.
SIMPLYWages and prices chase each other upward.
E.G.Prices rise, unions demand higher wages, firms raise prices to pay them, and prices rise again.
Overheating of Economy
During a boom, further increases in Aggregate Demand (AD) fail to raise real output/employment, resulting in inflation instead.
SIMPLYDemand keeps rising but real output cannot, so prices take the strain.
E.G.Factories already running at full capacity cannot produce more; extra demand only raises prices.
Suppressed / Repressed Inflation
A situation where AD > AS, but government prevents price levels from rising through direct price control — price regulation, ceiling prices, etc.
SIMPLYPrices are held down by government control, even though demand exceeds supply.
E.G.A ceiling price on kerosene; the shop runs out of stock and a black market appears.
Open Inflation
Price level increases without any price-suppressive measure by the government — a persistent increase in the price level.
SIMPLYPrices rise without any government control on them.
E.G.Vegetable prices rise freely in the market because of shortage.
Misery Index
The summation of the inflation rate and the unemployment rate.
SIMPLYInflation rate plus unemployment rate: a rough indicator of public hardship.
E.G.Inflation 6% + unemployment 7% = misery index 13.
Stagflation
High inflation accompanied by recession or unemployment — caused by cost-push inflation.
SIMPLYHigh inflation along with weak growth and high unemployment.
E.G.In the 1970s oil shock, prices rose while economies stagnated.
Core Inflation
Based on prices of only those commodities whose prices are non-volatile; excludes food and fuel items. Used to show the trend of inflation.
SIMPLYInflation excluding food and fuel, which are volatile.
E.G.If vegetable prices spike for a month but other prices are stable, core inflation hardly moves.
Headline Inflation
Based on prices of all groups/types of commodities.
SIMPLYInflation counting all items, including food and fuel.
E.G.The CPI figure in the news is headline inflation.
Agriflation
Refers to food inflation.
SIMPLYInflation driven by food prices.
E.G.A poor monsoon makes pulses and vegetables costly.
Skewflation
Caused by an uneven increase in the price level of a few items.
SIMPLYInflation that comes from a sharp rise in a few items, while others stay stable.
E.G.Onions, tomatoes and edible oil rise sharply while most other goods barely change.
Engel's Law
The percentage of income allocated for food purchases decreases as income rises.
SIMPLYAs incomes rise, the share of income spent on food falls.
E.G.A poor family spends 60% of income on food and a rich family only 15%, even if the rich family spends more rupees.
Base Effect
Refers to distortion in the growth rate of a variable due to its extreme value during the corresponding period of the previous year.
SIMPLYA figure looks unusually high or low because last year's figure was unusual.
E.G.If prices were very low last year, this year's inflation looks high even if prices only rose normally.
ECONOMY CLASSES
Employment & Unemployment
Unemployment: A situation under which a person who is able and willing to work (at the prevailing wage rate) but fails to find a job. This chapter covers the key concepts, employment types, the many forms unemployment takes in India, how it's measured, its causes, and the policies used to reduce it.
Key Concepts
IN SIMPLE WORDS
The labour force is everyone working or looking for work; it does not include those who are not available or not looking. The unemployment rate divides the unemployed by the labour force, not by the whole population.
EXAMPLEOut of 100 working-age people, 40 are employed, 5 are jobless but looking, and 55 are neither working nor looking. LFPR = (40 + 5) ÷ 100 = 45%. Unemployment rate = 5 ÷ 45 ≈ 11%.
Labour Force
Includes people in the working-age group 15–59 years who are able and willing to work. Includes both Work Force and Unemployed — i.e. No. of Employed + No. of Unemployed.
SIMPLYPeople in the working ages who are working or looking for work.
E.G.Of 100 working-age people, 40 employed + 5 jobless but looking = labour force of 45.
Labour Force Participation Rate (LFPR)
The percentage of persons in the labour force (working, seeking, or available for work) in the population.
LFPR = (Persons Employed + Persons Unemployed) / Working-Age Population × 100SIMPLYThe share of the working-age population that is in the labour force.
E.G.45 out of 100 working-age people: LFPR = 45%.
Workforce
Refers to those actually working or being engaged in economic activity.
SIMPLYPeople actually doing work.
E.G.A farmer, a shop assistant and a teacher are all part of the workforce.
Worker Population Ratio (WPR)
The percentage of employed persons in the population.
WPR = Persons Employed / Total Population × 100SIMPLYThe share of the population that is employed.
E.G.If 40 of every 100 people work, WPR is 40%.
Number of Unemployed
Number of Unemployed = Labour Force − Work ForceSIMPLYUnemployed = labour force minus workforce.
E.G.Labour force 45 − workforce 40 = 5 unemployed.
Unemployment Rate (UR)
The percentage of persons unemployed among the persons in the labour force.
UR = (Unemployed Persons / Total Labour Force) × 100SIMPLYThe share of the labour force that is unemployed (the denominator is the labour force, not the population).
E.G.5 unemployed ÷ 45 in the labour force ≈ 11%.
Breakdown of the Labour Force
IN SIMPLE WORDS
The labour force is split into employed, unemployed and those outside it. Underemployment lies within the employed: they work, but fewer hours than they would like.
EXAMPLEA full-time student not seeking a job is outside the labour force. A graduate searching for work is unemployed. A part-timer wanting more hours is underemployed.
- Time-related underemployed: have a job but work fewer hours than the threshold, want to work more, and are available.
- Potential labour force: unavailable jobseekers (jobless, looking but not available) + available potential jobseekers (jobless, available but not looking).
Employment: Types
IN SIMPLE WORDS
'Formal' and 'informal' describe job security and benefits, not the size of the employer alone. Formal jobs have security and benefits; informal ones are short-term or contract work without them.
EXAMPLEA government clerk has a formal job. A daily-wage construction worker has an informal one. Informal workers can also be found inside large organised firms through contractors.
Types of Unemployment in India
IN SIMPLE WORDS
Unemployment has different types with different causes. Cyclical happens in recessions; frictional is the gap between jobs; structural is a mismatch between skills and jobs; seasonal follows the crop calendar; disguised means more people on a task than needed.
EXAMPLEFive family members farm a plot that needs only two. Removing three would not reduce output at all. Their unemployment is hidden, which is why it is called disguised.
- Occurs when there is not enough demand in the market for workers.
- Varies with the trade cycle — high during economic slowdown/recession/depression, reduces during recovery and boom.
- Keynesian unemployment (deficiency of Aggregate Demand) is cyclical unemployment.
- Occurs when a person leaves/loses a job and starts looking for another.
- Higher when the economy is not doing well or working conditions are unsatisfactory.
- Occurs during certain parts of the year — e.g. in agriculture or tourism sectors.
- Occurs when the structure of an industry changes, mainly due to changes in technology or tastes.
- The skills of the person do not match the new skills required for the job.
- Can be used in multiple connotations.
- A situation where a person with high skills works a low-wage, low-skill job.
- E.g. candidates with a B.Tech or MBA applying for Group D jobs.
- Occurs when people are employed in a job where their presence or absence makes no difference to output — e.g. in agriculture.
- Occurs when workers are willing to work at the prevailing wage rate, but are forced to remain unemployed in the absence of work.
- Frictional, structural, and cyclical are different types of open unemployment.
- The minimal percentage of unemployment that cannot be eliminated at all.
- Unemployment ranging between 2 to 3% in the country is considered natural and inevitable.
- Caused by adoption of capital-intensive technology by a firm — e.g. automation.
- Main reason for jobless growth in developing countries.
- A situation where an educated/trained person remains unemployed.
Nature of Unemployment in India
IN SIMPLE WORDS
Four trends describe India's workforce: most workers live in rural areas, women participate far less, nearly all work is informal, and regular jobs are giving way to casual work.
EXAMPLEA factory hires through a contractor instead of giving permanent jobs. The work is the same, but the worker loses security. This is casualisation.
Measuring Unemployment
IN SIMPLE WORDS
The same person can count as employed or unemployed depending on the time window used. Usual status looks at the past year; weekly status at the past 7 days; daily status counts each day.
EXAMPLESomeone works only 2 days in a week. Weekly status calls the person employed, but daily status counts the other 5 days as idle, so it captures underemployment better.
The National Sample Survey Office (NSSO) is the principal source of data on employment/unemployment. NSSO uses three different concepts:
Usual Status Approach
Estimates only those persons as unemployed who had no gainful work for a major time during the 365 days preceding the survey date and are seeking or available for work. Captures long-term unemployment in the economy.
SIMPLYLooks at the last 365 days and counts people unemployed for most of the year.
E.G.A person without work for 9 months of the year and still looking is counted as unemployed. It shows long-term unemployment.
Current Weekly Status Approach
Records only those persons as unemployed who did not have gainful work even for an hour on any day of the week preceding the survey date. Captures both long-term open chronic unemployment and seasonal unemployment.
SIMPLYCounts someone as unemployed only if they did not work even one hour in the past week.
E.G.A casual worker with 2 hours of work last week is counted as employed under this approach.
Current Daily Status Approach
Unemployment status is measured for each day in a reference week. A person having no gainful work even for 1 hour in a day is described as unemployed for that day. Considered a comprehensive measure of unemployment, including both chronic and invisible unemployment.
NOTE
A person who works for 1 hour or more but less than 4 hours is recorded as employed for the half day.
SIMPLYMeasures employment day by day over a week, so it captures partial unemployment best.
E.G.A worker with work on 3 days of the week is employed for 3 days and unemployed for 4.
Constraints in Measuring Unemployment in India
- Informal sector dominance.
- Data collection challenges.
- Societal norms discouraging women from actively seeking work.
- Disguised unemployment — surveys may classify everyone involved as employed, even though the work could be sustained by fewer people.
Causes of Unemployment in India
IN SIMPLE WORDS
Jobs do not grow automatically with GDP. Where growth comes from capital-intensive industries or services, it creates fewer jobs per rupee, which is called jobless growth.
EXAMPLEA factory installs robots. Output rises and GDP grows, but only a handful of workers are hired.
- Economic growth primarily contributed by the service sector failed to create proportionate jobs.
- Adverse impact on MSMEs due to LPG reforms.
- Automation and capital-intensive investment by the private sector and foreign investment.
- Capital scarcity — reduction in investment in PSUs.
- Inadequate infrastructure.
- Policy issues — including lack of a comprehensive approach in the education system, employment planning, and rising population.
- Rapidly growing population, leading to a significant increase in the labour force.
- Reliance on agriculture, which is seasonal, leading to underemployment or disguised unemployment.
Relationship Between Unemployment and Inflation
IN SIMPLE WORDS
The Phillips curve describes a short-run trade-off: when unemployment is low, wages and prices tend to rise faster; when unemployment is high, inflation is lower. It can break down, as in stagflation.
EXAMPLEIn a boom, firms hire more (unemployment falls), workers get raises, demand rises and prices climb (inflation rises).
Phillips Curve: States that the rate of inflation and the rate of unemployment are inversely proportional to each other — i.e. higher the inflation, lower will be the rate of unemployment, and vice versa.
High Inflation
Corresponds to low unemployment.
SIMPLYThe Phillips curve links high inflation with low unemployment.
E.G.In a boom, firms hire more and demand pushes prices up.
Low Inflation
Corresponds to high unemployment.
SIMPLYThe same curve links low inflation with high unemployment.
E.G.In a slowdown, firms cut jobs and prices rise slowly.
Policies to Reduce Unemployment
IN SIMPLE WORDS
Policies work on two sides. Supply-side policies make workers more employable (skills, mobility); demand-side policies create demand for labour (spending, public works).
EXAMPLEMGNREGA guarantees wage work in villages (demand side). A skilling programme trains youth for jobs in demand (supply side).
SUPPLY SIDE
- Education and training to solve occupational immobility.
- Geographical subsidies to help workers and firms move.
- Remove labour market regulations to increase flexibility.
- Employment subsidies to encourage firms to take on the long-term unemployed.
- Lower minimum wage / reduce trade union power — to reduce real-wage unemployment.
DEMAND SIDE
- Monetary policy — cutting interest rates to boost Aggregate Demand.
- Fiscal policy — cutting tax / higher spending to boost Aggregate Demand.
- Depreciation of exchange rate — to boost export demand.
ECONOMY CLASSES
Union Budget
The Annual Financial Statement of the Government of India — its constitutional basis, the documents that accompany it, how it moves through Parliament, its components, the various types of deficits, and the fiscal responsibility framework that governs it.
Constitutional Background
IN SIMPLE WORDS
The Constitution never uses the word 'budget'. Article 112 calls it the Annual Financial Statement: the government's estimate of receipts and expenditure for the coming year.
EXAMPLEThink of it as a household's yearly plan: expected income on one side, planned spending on the other. Exam tip: Article 112 for the Centre, Article 202 for states.
- The Constitution of India does not mention the term 'budget'.
- Article 112 provides for the Annual Financial Statement (AFS) — commonly known as the Budget.
- It shows the estimated receipts and expenditure of the Government of India.
- The Budget Division of the Department of Economic Affairs is the nodal agency responsible for preparing the Budget.
- In 2016, the Railway Budget was merged with the Union Budget, starting with FY 2017-18.
Budget Documents
IN SIMPLE WORDS
The Budget comes as a set of documents. Some give the full picture (Annual Financial Statement, Demands for Grants), others summarise (Budget at a Glance, Highlights), and the Finance Bill carries tax changes.
EXAMPLEJournalists read 'Budget at a Glance' for headline numbers; a ministry's details sit in its Demand for Grants.
Budget documents presented by the Finance Minister (FM) during the Budget session:
Annual Financial Statement (AFS)
SIMPLYThe main budget statement showing estimates of receipts and expenditure.
E.G.It is like the master sheet of the government's yearly income and spending.
Demands for Grants (DG)
SIMPLYThe ministry-wise requests to Parliament for money.
E.G.The Ministry of Defence asks Parliament to approve a certain amount for the year.
Receipts Budget
SIMPLYA document showing how the government expects to earn money.
E.G.Tax collections, dividends and borrowings are listed here.
Expenditure Budget
SIMPLYA document showing where the money will be spent.
E.G.Spending on defence, subsidies and interest appears here.
Finance Bill
SIMPLYThe Bill that gives legal effect to the government's tax proposals.
E.G.A proposed change in income tax slabs becomes law through it.
Memorandum Explaining the Provisions in the Finance Bill
SIMPLYExplains the provisions of the Finance Bill in plain terms.
E.G.A change in customs duty is explained along with its reason and effect.
Budget at a Glance
SIMPLYA short summary of the Budget's key numbers.
E.G.A quick table of receipts, expenditure and deficits for readers in a hurry.
Highlights of Budget
SIMPLYA brief list of the main announcements.
E.G.New schemes or tax changes announced in the speech are highlighted here.
Status of Implementation of Announcements made in FM's Budget Speech
SIMPLYReports progress on promises made in the previous budget speech.
E.G.If a scheme was announced last year, this document tells what has been done.
FRBM Act-related Documents
I. Macro-economic Framework Statement
II. Medium Term Fiscal Policy Statement
III. Fiscal Policy Strategy Statement
SIMPLYFiscal-discipline statements laid by the government under the FRBM Act.
E.G.The government states its fiscal deficit target for the medium term.
Budget Process
IN SIMPLE WORDS
The Budget goes through Parliament in stages: presentation, general discussion, scrutiny by committees, voting on demands, then the Appropriation and Finance Bills. At the end, the remaining demands are voted on together, which is called the guillotine.
EXAMPLEImagine a school passing its yearly spending plan: the principal presents it, teachers debate it, a committee checks departments, then everything is voted and approved.
Annual Financial Statement
IN SIMPLE WORDS
The statement shows three sets of figures so the House can compare: what really happened last year, the current year's budget and revised estimate, and next year's estimate.
EXAMPLEA Budget presented in February 2026 shows actuals for 2024-25, budget and revised estimates for 2025-26, and the estimate for 2026-27.
Article 112 (central government) and Article 202 (state government) of the Constitution require the Annual Financial Statement to be laid before the respective legislatures. It contains three types of information:
Actual Figures
Receipts and expenditure of the previous year.
SIMPLYActual figures are what really happened last year.
E.G.The final spending recorded for the year just ended.
Budget & Revised Figures
For the current year.
SIMPLYBudget and revised figures for the current year.
E.G.Initial estimate of ₹100 crore, revised to ₹110 crore after mid-year changes.
Budget Estimate
Of the upcoming year.
SIMPLYThe estimate for the coming year.
E.G.The planned spending on a scheme in next year's budget.
Receipts and disbursements are shown under three parts in which Government Accounts are kept:
- The Consolidated Fund of India (Art. 266)
- The Contingency Fund of India (Art. 267)
- The Public Account of India (Art. 266)
Government Accounts — Comparison
Consolidated Fund
Constitutional Status: Article 266.
Income/Credit: All revenues received by GOI; all loans raised through treasury bills, loans or ways and means advances; all money received through repayment of loans.
Expenditure: All legally authorised payments, such as repayment of debt and loans to state governments.
Parliamentary Authorisation: Required prior to expenditure.
SIMPLYThe main government account: revenues and borrowings go in, and spending comes out only with Parliament's approval (Article 266).
E.G.Tax revenue is credited here, and salaries and subsidies are paid from it.
Public Account
Constitutional Status: Article 266(2).
Income/Credit: Public money other than that under the Consolidated Fund — Provident Funds, Small Savings collections, funds set aside for specific expenditure like road development, primary education.
Expenditure: Developmental works — infrastructure, healthcare, education.
Parliamentary Authorisation: No prior approval needed.
SIMPLYMoney held by government as a trustee, outside the Consolidated Fund. Can be spent without Parliament's prior vote (Article 266(2)).
E.G.Provident fund deposits belong to employees; the government only holds them.
Contingency Fund
Constitutional Status: Article 267(1).
Income/Credit: Fixed corpus of Rs. 500 crore, under the Contingency Fund of India Act, 1950.
Expenditure: Unforeseen expenditure.
Parliamentary Authorisation: Approval sought after the expenditure.
SIMPLYA small emergency fund for unforeseen needs (Article 267), of ₹500 crore.
E.G.Funds for an unexpected disaster relief can be drawn from it first and approved by Parliament later.
Public Account — Includes
Small Savings, Provident Fund, Reserve Funds, Deposits and Advances, Suspense, Remittances, and Cash Balance.
Components of the Budget
IN SIMPLE WORDS
Spending is split into revenue account (day-to-day running costs that create no asset) and capital account (spending or borrowing that creates assets or liabilities).
EXAMPLEPaying salaries and subsidies is revenue expenditure. Building a bridge is capital expenditure, because it creates a lasting asset.
The Constitution requires the Budget to distinguish expenditure on revenue account from other expenditure. The Budget therefore comprises the Revenue Account and Capital Account.
Revenue Budget
Receipts: Government's tax revenues and other revenues, and the expenditure met from these. Tax revenues comprise proceeds of taxes and duties levied by the Union, plus various taxation proposals made in the Finance Bill. Other receipts mainly consist of interest and dividend on government investments, fees, and receipts for services rendered.
Expenditure: Normal running of government departments and services, interest payments on debt, and subsidies. Expenditure that does not result in creation of assets for the GOI is treated as revenue expenditure — this includes all grants to States/UTs, even if some are used for asset creation.
SIMPLYDay-to-day income and spending that creates no asset.
E.G.Salaries, pensions, interest and subsidies are revenue spending; taxes are revenue receipts.
Capital Budget
Receipts: Loans raised by government from the public (market loans), borrowings from RBI and others via sale of Treasury Bills, loans from foreign governments and bodies, and recoveries of loans from States and UTs.
Expenditure: Acquisition of assets — land, buildings, machinery, equipment — plus investments in shares, and loans and advances granted by the Central Government to State/UT governments, government companies, corporations, and other parties. Also incorporates transactions in the Public Account.
SIMPLYSpending and receipts that create or reduce assets or liabilities.
E.G.Building a highway (asset) and raising a loan (liability) are capital items.
Demands for Grants, Appropriation & Finance Bills
IN SIMPLE WORDS
Money cannot leave the Consolidated Fund of India without Parliament's approval. Demands for Grants ask for money; the Appropriation Bill authorises the withdrawal; the Finance Bill gives legal effect to tax proposals.
EXAMPLEIt is like a bank cheque that needs a signature. The Appropriation Bill is the signature that lets the government draw the money.
- Article 113 requires that any estimate seeking withdrawal of money from the Consolidated Fund of India (CFI) be presented to the Lok Sabha as a demand for grants.
- Generally, one Demand for Grant is presented per Ministry or Department — though large Ministries may have more than one.
- After demands for grants are voted by the Lok Sabha, Parliament's approval for withdrawal from the Consolidated Fund of the voted amounts, plus the amount to meet expenditure charged on the Consolidated Fund, is sought through the Appropriation Bill.
- Under Article 110(1)(a) of the Constitution, it details the imposition, abolition, remission, alteration, or regulation of taxes proposed in the Budget.
- A Finance Bill is a Money Bill as defined in Article 110 of the Constitution.
Types of Budgeting
IN SIMPLE WORDS
Budgets are named by their balance. Balanced: spending equals revenue. Surplus: revenue exceeds spending (cools an overheated economy). Deficit: spending exceeds revenue (stimulates a weak economy).
EXAMPLEDuring COVID, the government ran a large deficit to support families and businesses. In an inflation spurt, a surplus budget could reduce demand.
Balanced Budget
An ideal situation — estimated government expenditure equals estimated revenue in a financial year.
Not viable for developing nations, as it restricts the scope of government spending on public welfare schemes.
SIMPLYSpending equals revenue.
E.G.₹100 crore of expected income and ₹100 crore of planned spending.
Surplus Budget
Expected revenue surpasses estimated expenditure. Can be considered during inflation to reduce aggregate demand.
Not appropriate in cases of deflation, economic slowdown, or recession.
SIMPLYRevenue is more than spending.
E.G.Expected income ₹110 crore against spending of ₹100 crore, which could cool inflation.
Deficit Budget
Estimated expenditure exceeds estimated revenue. Helpful in times of economic recession, and in boosting the employment rate.
Disadvantage: can lead to excessive government expenditure or debt accumulation.
SIMPLYSpending exceeds revenue.
E.G.₹100 crore of revenue and ₹120 crore spending: ₹20 crore deficit, helpful in recession.
Types of Deficits
IN SIMPLE WORDS
Each deficit measures a different gap. Revenue deficit: revenue spending minus revenue receipts. Fiscal deficit: total spending minus all receipts other than borrowing, so it equals borrowing needed. Primary deficit: fiscal deficit minus interest payments.
EXAMPLESay revenue receipts ₹70, other non-debt receipts ₹5, revenue spending ₹80, capital spending ₹20, interest ₹15. Revenue deficit = 80 − 70 = 10. Fiscal deficit = 100 − 75 = 25. Primary deficit = 25 − 15 = 10 (all illustrative).
Revenue Deficit
Definition: Difference between total revenue expenditure and total revenue receipts.
Meaning: Indicates the government lacks sufficient revenue for normal functioning; happens when government spends more than it earns; forces disinvestment or borrowing to cover the shortfall.
Remedial Measures: Curtail government expenses; increase tax and non-tax receipts via new taxes; increase tax on higher-earning slabs.
SIMPLYRevenue spending minus revenue receipts: borrowing to pay running costs.
E.G.Revenue receipts ₹70, revenue spending ₹80: revenue deficit ₹10 (illustrative).
Fiscal Deficit
Definition: Excess of total expenditure over total receipts, excluding borrowings.
Meaning: Measures how much the government needs to borrow from the market to meet expenditure when its resources are inadequate.
Remedial Measures: Reduce public expenditure like subsidies, bonuses, LTC, leave encashment; broaden the tax base; sell shares in public sector units.
SIMPLYTotal spending minus all non-borrowing receipts: how much the government must borrow.
E.G.Spending ₹100, receipts excluding loans ₹75: fiscal deficit ₹25.
Primary Deficit
Definition: Fiscal Deficit of the current year minus interest payments on previous borrowings.
Meaning: Shows the amount of government borrowing specifically to meet expenses, excluding interest payments. A zero Primary Deficit means borrowing is needed only to meet interest payments.
Remedial Measures: Similar measures as for Fiscal Deficit.
SIMPLYFiscal deficit minus interest payments: borrowing for current needs, apart from past debt.
E.G.Fiscal deficit ₹25 − interest ₹15 = primary deficit ₹10.
The FRBM Act, 2003
IN SIMPLE WORDS
The FRBM Act commits the government to fiscal discipline by setting limits on deficits and debt and requiring transparency. It is like a household pledging not to borrow beyond a set share of its income.
EXAMPLEThe Act originally aimed for a fiscal deficit of 3% of GDP. Later amendments allow temporary deviations in emergencies.
Objectives
Key Features of the Act
Mandatory for the government to place the following along with the Union Budget documents in Parliament annually:
- Medium Term Fiscal Policy Statement.
- Macroeconomic Framework Statement.
- Fiscal Policy Strategy Statement.
Proposed that Revenue Deficit, Fiscal Deficit, Tax Revenue, and Total Outstanding Liabilities be projected as a percentage of GDP.
EXEMPTIONS
On grounds of national security, calamity, etc.
N K Singh Committee's Recommendations
- Proposed replacing the FRBM Act, 2003 with a Debt Management and Fiscal Responsibility Bill, 2017.
- Use debt as the primary target for fiscal policy.
- Debt-to-GDP ratio should be 38.7% for the Centre and 20% for state governments by FY 2022-23.
- Fiscal deficit should be 2.5% of GDP by FY 2022-23.
- Create an autonomous Fiscal Council with a chairperson and two members appointed by the Centre to: prepare multi-year fiscal forecasts, improve fiscal data quality, suggest changes to fiscal strategy, and advise government on fiscal matters.
- Grounds for the government to deviate from FRBM Act targets should be clearly specified.
- Government must not borrow from the RBI, except when: the Centre must meet a temporary shortfall in receipts; RBI subscribes to government securities to finance deviations; or RBI purchases government securities from the secondary market.
Fiscal Policy
IN SIMPLE WORDS
Fiscal policy is the government's taxing and spending used to steer the economy. Lower taxes or higher spending boost demand; higher taxes or lower spending cool it.
EXAMPLEIn a recession, the government builds roads and cuts taxes to revive demand. When inflation is too high, it trims spending. Compare monetary policy, which is run by RBI.
Definition: According to the IMF, Fiscal Policy is the use of government spending and taxation to influence the economy.
Objectives in the Indian Context
Economic Growth
Maintains the economy's growth rate so that economic goals are achieved.
SIMPLYFiscal policy aims to keep the economy growing.
E.G.Spending on roads and railways raises demand and creates jobs.
Price Stability
Controls the country's price level, so that when inflation is too high, prices can be regulated.
SIMPLYIt aims to keep prices stable.
E.G.Cutting spending or raising taxes when inflation is high.
Full Employment
Aims to achieve full or near-full employment, as a tool to recover from low economic activity.
SIMPLYIt aims at full employment.
E.G.Public works like MGNREGA provide jobs in a slack season.
Significance of Fiscal Policy in India
- Plays a key role in elevating the rate of capital formation, in both public and private sectors.
- Taxation helps mobilize resources for financing social and physical infrastructure development projects.
- Provides stimulus to increase the savings rate.
- Gives adequate incentives to the private sector to expand its activities.
- Aims to minimize imbalances in the dispersal of income and wealth.
Revenue
IN SIMPLE WORDS
Revenue comes from taxes and non-tax sources. The Constitution divides taxing powers between Centre and states, and the Finance Commission recommends how central taxes are shared with the states.
EXAMPLENon-tax revenue includes dividends from PSUs, fees and interest. The Finance Commission acts like an elder dividing the family's income among members.
- Taxation remains the major source of government revenue.
- There is a clear demarcation of taxation powers between the Union and the states in the Seventh Schedule of the Constitution, under Article 246.
- Article 292 empowers the GOI to borrow (internally or externally) upon the security of the Consolidated Fund of India.
- The Finance Commission recommends allocation of central taxes to the states.
Deficit Financing
IN SIMPLE WORDS
A government can finance a deficit by borrowing (selling bonds) or printing new money. Each has side effects: borrowing can push up interest rates, and printing money can push up prices.
EXAMPLEPrinting money to pay salaries puts more rupees into the economy, chasing the same goods, so prices rise. Heavy borrowing competes with private firms for funds (crowding out).
Meaning
A method of generating funds to finance the deficit that results from expenditure exceeding revenue — by borrowing from the public via the sale of bonds, or by printing new money.
SIMPLYDeficit financing means covering a gap by borrowing or printing money.
E.G.The government sells bonds to cover a ₹20 crore gap.
Need
For developing countries, higher economic growth is indispensable. Growth requires expenditure, but tax and non-tax revenues often fail to mobilize enough resources on their own.
SIMPLYDeveloping countries need high spending for growth, but taxes alone are often not enough.
E.G.India needs roads and ports, but tax revenue cannot finance all of it.
Impact
SIMPLYDeficit financing by printing money pushes prices up and can discourage investment.
E.G.The government prints ₹100 crore to pay for projects. More money chases the same goods, so prices rise and firms face higher costs.
ECONOMY CLASSES
Taxation
Taxes can be defined as a compulsory contribution from a person to the government to cover expenses incurred in the common interest of all, without reference to special benefits conferred. This chapter covers direct and indirect taxes, the constitutional basis of taxation, tax types, GST in full, tax reform committees, and key terms.
Types of Taxes
IN SIMPLE WORDS
The test is who ultimately bears the tax. A direct tax is paid by the person it is levied on and cannot be passed on. An indirect tax is collected from one person but passed on to someone else.
EXAMPLEYou pay income tax from your own pay (direct). On a soap bar, the shopkeeper adds GST to your bill and pays it to the government (indirect).
Direct Tax
One that the taxpayer pays directly to the government.
Examples: Income Tax, Corporation Tax, Property Tax.
SIMPLYA tax paid directly by the person on whom it is levied.
E.G.Income tax deducted from your salary.
Indirect Tax
A tax that can be passed on to another person or group.
Examples: VAT, Service Tax, Entertainment Tax.
SIMPLYA tax that can be passed on to someone else.
E.G.GST on a restaurant bill: the restaurant collects it from you.
Direct Taxes
IN SIMPLE WORDS
Direct taxes include income tax (progressive, charged slab by slab), corporation tax and property tax. Slabs tax only the portion of income in each band at that band's rate.
EXAMPLEIf the first ₹3 lakh is nil, the next ₹3 lakh is at 5% and the next at 10%, someone earning ₹8 lakh pays 5% only on the second ₹3 lakh and 10% on the rest above ₹6 lakh. Rates change with budgets, but this logic stays.
1. Income Tax
A tax charged by the central government on the income earned by individuals during a financial year.
2. Corporate Income Tax
Tax paid by domestic and foreign companies on their income in India.
Domestic Companies
Rate varies by company type under different sections of the Income Tax Act, 1961 — ranges from 15% for newly established companies to 30% for others (excluding surcharges and cess).
SIMPLYTax rates for Indian companies depend on type and turnover.
E.G.A newly set up manufacturing company can pay a lower rate than an older one.
Foreign Companies
Royalties or fees received are taxed at 50%; other income is taxed at 40%.
SIMPLYForeign companies are taxed at higher rates on their Indian income.
E.G.A foreign firm earning royalty from India pays at a higher rate than a domestic company.
3. Minimum Alternate Tax (MAT)
All companies (including foreign companies) must pay MAT at the rate of 15% on book profits if tax calculated at normal tax rates is less than 15% of book profits.
Indirect Taxes
IN SIMPLE WORDS
Indirect taxes are built into the price of goods and services. VAT taxed each stage of value addition; customs duty applies to imports; GST later replaced most of these taxes.
EXAMPLEA ₹100 shirt with 5% tax costs you ₹105. You bear it, and the shop deposits the ₹5 with the government.
- An ad-valorem tax on domestic final consumption, levied and collected at all stages between production and the point of final sale.
- Covers both manufacturing and distribution stages, and does away with the multiplicity of domestic indirect taxes like sales tax, excise duty, wholesale tax, turnover tax, etc.
- A producer pays tax on the value of final output, but the excise duty paid on inputs in earlier stages of production is reimbursed back to the producer on presentation of sales invoices.
- Introduced as a revamped MODVAT, with all its features, except a uniform tax rate of 16% — and its coverage was extended to include capital goods.
Specific and Ad Valorem Taxes
IN SIMPLE WORDS
A specific tax is a fixed amount per unit (per litre, per metre). An ad valorem tax is a percentage of value, so costlier goods pay more.
EXAMPLE₹5 per litre on fuel is specific. 28% on a car's price is ad valorem: a ₹20 lakh car pays more tax than a ₹5 lakh car.
Specific Tax
Imposed on the basis of specific attributes of commodities — unit, weight, length, size, or volume. E.g. cloth taxed by length units.
SIMPLYA tax fixed on quantity, not value.
E.G.₹5 per litre of fuel, regardless of the price.
Ad Valorem Tax
Tax imposed on the basis of the value of the commodity. E.g. 28% GST imposed on luxury cars.
SIMPLYA tax as a percentage of value.
E.G.28% on a luxury car: costlier cars pay more.
Constitutional Status of Taxation
IN SIMPLE WORDS
Article 265 says no tax can be levied without authority of law. The Seventh Schedule lists which taxes the Centre and states can levy; local governments get limited powers.
EXAMPLEThe Centre levies income tax; states levy taxes such as state excise on liquor. Each government taxes only what the Constitution assigns it.
- The Government of India is authorised to levy taxes on individuals and organisations according to the Constitution.
- Article 265 of the Constitution says "No tax shall be levied or collected except by authority of law".
- The 7th Schedule has defined the list upon which the Centre, state, or both can levy taxes.
- Limited financial powers have been given to local governments, enshrined in Part IX and IX-A of the Constitution.
Taxation Under Centre/State List
Union List (List I)
Contains matters on which the Central Government has the power to make laws.
SIMPLYSubjects where only the Centre can make laws.
E.G.Income tax (other than agricultural income) and customs duty.
State List
Contains matters on which the State Government has the power to make laws — Article 246(3).
SIMPLYSubjects where states make the laws.
E.G.Tax on land and buildings, and state excise on alcohol.
Concurrent List
Contains matters on which both the Central and State Governments have the power to make laws — Article 256(2).
SIMPLYSubjects both can legislate on.
E.G.Labour laws and criminal law.
Distribution of Tax Powers
Central Government
Covered under Entries 82–92B in List I of the 7th Schedule.
SIMPLYTaxes the Centre can levy.
E.G.Income tax, corporation tax and customs duties.
State Government
Covered under Entries 45–63 in List II of the 7th Schedule.
SIMPLYTaxes the states can levy.
E.G.State excise duty, stamp duty on land documents and property taxes.
Residuary Powers
Belong only to the Centre — covered under Entry 97 in List I of the 7th Schedule.
SIMPLYPowers not listed in any list go to the Centre.
E.G.A new type of tax that did not exist in 1950 would fall to the Centre.
Distribution of Tax Revenues — 15th Finance Commission (NK Singh)
- The share of states in central taxes for the 2021-26 period is recommended at 41%, same as for 2020-21.
- This is less than the 42% share recommended by the 14th Finance Commission for the 2015-20 period.
- The 1% adjustment provides for the newly formed union territories of Jammu & Kashmir, and Ladakh, from the resources of the Centre.
Taxation System — Types by Behaviour
IN SIMPLE WORDS
Taxes are classified by how the rate changes as income changes. Progressive: higher incomes pay a higher share. Proportional: same share for all. Regressive: lower incomes pay a bigger share. Degressive: the rate rises, but more slowly than income.
EXAMPLEA ₹10 tax on a packet of salt takes a bigger share of a poor family's income than a rich family's. That makes it regressive.
Taxes can also be categorized as regressive, proportional, progressive, or degressive — the distinction relates to the behaviour of the tax as the taxable base changes.
Progressive Tax
Takes a larger percentage of income from high-income groups than from low-income groups.
SIMPLYRich pay a higher share of income as tax.
E.G.Someone earning ₹5 lakh pays 5% and someone earning ₹50 lakh pays 30% on the higher portion.
Proportional Tax
Takes the same percentage of income from all income groups.
SIMPLYEveryone pays the same percentage.
E.G.A flat 10% tax on every income level.
Regressive Tax
Takes a larger percentage of income from low-income groups than from high-income groups.
SIMPLYThe poor pay a larger share of their income.
E.G.A fixed tax on a basic item (say salt) takes a bigger share from a poor family's income.
Degressive Tax
The rate of progression in taxation does not increase in the same proportion as the increase in income.
SIMPLYThe rate rises with income, but not as fast.
E.G.The tax rate goes from 10% to 12% while income doubles.
Goods and Services Tax (GST)
IN SIMPLE WORDS
GST taxes only the value added at each stage. A business subtracts the tax it already paid on its inputs (input tax credit), so tax does not pile up on tax.
EXAMPLEA manufacturer buys raw material for ₹100 plus 18% GST (₹18) and sells the product for ₹150 plus ₹27 GST. He deposits only ₹27 − ₹18 = ₹9, which is 18% of his ₹50 value addition.
A single tax on the supply of goods and services, right from the manufacturer to the consumer. It is essentially a tax only on value addition at each stage, as input tax credit paid at each stage is available at the next stage of value addition.
Under GST, the consumer bears only the GST charged by the last dealer in the supply chain — eliminating the cascading effect.
GST Tax Slabs
Goods and Services Tax Network (GSTN)
The Central and State Governments jointly registered GSTN as a not-for-profit, to provide shared IT infrastructure and services to Central and State Governments, taxpayers, and other stakeholders.
- Initially, the Centre and states together held a 49% stake in the company.
- Cabinet in 2018 converted the GST Network into a government-owned company.
- The stake of private companies is being acquired by the Centre and state governments.
- The restructured GSTN, with 100% government ownership, has an equity structure of Centre (50%) and States (50%).
Taxes Subsumed Under GST
Components of GST
CGST
Central GST — levied by the Centre on intra-state supply.
SIMPLYCentral GST on sales within a state, collected by the Centre.
E.G.On a ₹100 item with 18% GST, the Centre gets ₹9 as CGST.
SGST
State GST — levied by the State on intra-state supply.
SIMPLYState GST on sales within a state, collected by the state.
E.G.The state gets the other ₹9 as SGST.
IGST
Integrated GST — levied on inter-state supply of goods and services.
SIMPLYIGST on sales between states, collected by the Centre and shared.
E.G.A trader in Odisha sells to a buyer in Gujarat and charges IGST.
GST Council
- Union Finance Minister.
- Chosen amongst the Ministers of State Government.
- MoS (Finance), and all Ministers of Finance/Taxation of each State.
- 50% of total members.
- By 75% majority.
Cascading Effects of Taxation: MODVAT & CENVAT
IN SIMPLE WORDS
Cascading means tax on tax: each buyer pays tax on a price that already includes earlier taxes. MODVAT and CENVAT gave credit for input tax and reduced this; GST extends the idea across goods and services.
EXAMPLEWheat is taxed, then flour is taxed on a price that includes the wheat tax, then bread on a price including both. The final price is inflated by taxes on taxes.
- Taxation of inputs like raw materials and intermediaries had a key limitation: the tax burden kept increasing as raw material and the final product passed from one stage to another, because each subsequent purchaser had to pay tax again on material that had already been taxed. This is called the cascading effect or double taxation.
- MODVAT (Modified Value Added Tax): introduced to avoid cascading effects. A producer pays tax on the value of final output, but the excise duty paid on inputs in earlier production stages is reimbursed on presentation of sales invoices.
- CENVAT: introduced as a revamped MODVAT, with all its features except a uniform tax rate of 16%; coverage was extended to include capital goods.
Tax Reforms
IN SIMPLE WORDS
Reform committees since 1991 pushed a common idea: broaden the tax base, lower rates and simplify. More taxpayers paying lower rates means less evasion and more revenue.
EXAMPLEA wide net with a smaller catch from each person can collect more than a narrow net with a heavy catch from a few.
Tax reforms were initiated in India in 1991, following the economic crisis of that year.
Raja Chelliah Tax Reform Committee (1992)
- Broaden the tax base.
- Lower marginal tax rates.
- Reduce rate differentiation.
- Simplify the tax structure.
SIMPLY1992 recommendations: wider base, lower rates, simple structure.
E.G.Fewer tax rates and fewer exemptions.
Kelkar Committee (2002)
Two Task Forces under Dr. Vijay L. Kelkar — on Direct and Indirect Taxes.
- Direct Taxes: raise basic exemption limit in income tax from Rs. 50,000 to Rs. 1 lakh.
- Indirect Taxes: widen the tax net by expanding the service tax base, and improve taxpayer compliance.
- Both recommendations were accepted by the government.
SIMPLY2002 recommendations: simpler tax laws and higher exemption limits.
E.G.Raising the basic income-tax exemption from ₹50,000 to ₹1 lakh.
Parthasarathi Shome Commission / TARC (2013)
- CBDT and CBEC should coordinate and eventually merge within 10 years.
- Taxpayer services to be included.
- Taxpayers should be treated as customers.
- A Taxpayers' Council to be established under the Finance Minister.
- The scope of the PAN card needs to be increased.
SIMPLY2013 suggestions to improve tax administration and treat taxpayers as customers.
E.G.A simple grievance system and merged tax departments (CBDT and CBEC).
Key Changes in Taxation — Budget 2021-22
IN SIMPLE WORDS
These changes aim to make tax administration simpler and less personal. Faceless assessment allocates your case by system to an officer anywhere in the country.
EXAMPLEUnder faceless assessment you never meet the tax officer; notices and replies go online, which reduces scope for harassment.
- Corporate tax rate slashed to the lowest in the world.
- Faceless Assessment and Faceless Appeal introduced.
- Exemption from filing tax returns for senior citizens over 75 years.
- Agriculture and Infrastructure Development Cess: levied on petrol and diesel at Rs. 2.5 and Rs. 4 per litre respectively.
- The tax holiday for startups extended to 31st March 2022.
Social and Economic Objectives of Taxes
IN SIMPLE WORDS
Taxes do more than raise money. They fund public goods, redistribute income and can discourage harmful goods through higher rates.
EXAMPLEA tax on cigarettes raises revenue and also discourages smoking. Progressive income tax narrows the gap between rich and poor.
- Aid economic development — roads, bridges, flyovers, railways, ports, etc.
- Provide welfare policies for marginalised sections — e.g. pensions for the elderly, benefit schemes for the unemployed or those below the poverty line.
- Fund public health and education — schools, hospitals, housing projects for the poor, etc.
- Improve income distribution.
- Bring about rapid economic growth, reduce income inequalities, promote stability, and achieve other socio-economic objectives.
Key Terms
IN SIMPLE WORDS
These terms describe tax mechanics. TDS deducts tax at the source of income; capital gains tax applies to profit on selling assets; presumptive taxes assume a taxable capacity.
EXAMPLEYour employer deducts tax from your salary before paying you (TDS). Buy shares for ₹1,000 and sell for ₹1,500, and the ₹500 gain can be taxed.
Capital Gains Tax
Levied on capital gains incurred by individuals and corporations — e.g. sale of stocks, bonds, precious metals, and property.
SIMPLYTax on profit from selling assets.
E.G.You buy shares for ₹1,000, sell for ₹1,500: ₹500 profit can be taxed.
Presumptive Tax
Imposed on the assumption that a firm or person possesses tax-paying capacity but is avoiding it. E.g. Minimum Alternate Tax (MAT).
SIMPLYTax on the assumption that a person has taxable capacity.
E.G.A profitable company showing zero tax must pay minimum alternate tax (MAT).
Tax Deducted at Source (TDS)
Deducted from an individual's income on a periodical or occasional basis. Applicable for regular and irregular incomes — e.g. salary, commission, interest, rent.
SIMPLYTax deducted at the time of payment.
E.G.Your employer deducts tax from your salary before paying you.
Angel Tax
Income tax payable on capital raised by unlisted companies via issue of shares, where the share price is in excess of the fair market value of the shares sold.
SIMPLYTax on unlisted companies raising capital at a price above fair value.
E.G.A start-up sells shares at much more than their fair value and the excess may be taxed as income.
Round Tripping
Transfer of funds (usually black money) to a foreign country — usually a tax haven or low-tax jurisdiction — for investing back in the home country, to convert black money into white money and avoid tax.
SIMPLYSending black money abroad and bringing it back as foreign investment.
E.G.A person moves cash to a tax haven, then invests back in India as 'foreign money'.
Tax Buoyancy
The responsiveness of tax revenue to the overall change in national income/GDP, and to changes in tax provisions.
SIMPLYHow strongly tax revenue grows as GDP grows.
E.G.If GDP grows 10% and tax revenue grows 12%, buoyancy is 1.2.
Tax Havens
Usually small countries that maintain secrecy of capital flows, liberal economic laws, and very low tax rates. Example: Mauritius.
SIMPLYLow-tax countries with secrecy and few restrictions.
E.G.Mauritius has been used to route investment into India.
Pigovian Tax
Imposed on commodities that have negative externalities (harmful to society) — e.g. pollution tax.
SIMPLYA tax on activities that harm others (negative externalities).
E.G.A pollution tax on a factory that pollutes a river.
Tax Terrorism
When the government puts illegal and extra-legal pressure on taxpayers to extract more tax from honest taxpayers.
SIMPLYExcessive or unfair pressure on taxpayers to extract tax.
E.G.Repeated retrospective demands on honest taxpayers.
Sin Tax
Levied on goods deemed harmful to society and individuals — e.g. cigarettes, gutka, fat tax.
SIMPLYA tax on goods harmful to health or society.
E.G.Higher tax on tobacco, gutka and sugary drinks.
Tax-to-GDP Ratio
The ratio of taxes collected by a government to the GDP of the nation. The gross tax-to-GDP ratio was 11.2%, and direct taxes-to-GDP hit a 15-year high of 6.1% in 2022-23.
SIMPLYTax collected as a share of GDP.
E.G.Tax of ₹110 on a GDP of ₹1,000 is an 11% tax-to-GDP ratio.
Tax Avoidance
Reducing tax liability through legal means, by misusing exemptions, deductions, and loopholes in the taxation system.
SIMPLYLegally reducing tax by using loopholes.
E.G.Investing in a tax-saving scheme to get deductions. It is different from evasion, which is illegal.
ECONOMY CLASSES
External Sector — Part 1
The Balance of Payments (BOP) records the transactions in goods, services, and assets between residents of a country and the rest of the world. This chapter covers its components, why it always balances to zero, the Current Account Deficit, and India's present external sector strength.
Balance of Payment (BOP)
IN SIMPLE WORDS
The BOP is a country's record of all transactions with the rest of the world over a period, much like a passbook of the economy's dealings abroad.
EXAMPLEAn Indian software firm earns dollars by exporting services (a credit). India pays dollars to import crude oil (a debit).
- Records transactions in goods, services, and assets between residents of a country and the rest of the world.
- Includes transactions by a country's individuals, companies, and government bodies.
- Transactions include imports and exports of goods, services, and capital, as well as transfer payments such as foreign aid and remittances.
Components of BOP
IN SIMPLE WORDS
BOP has two main accounts. The current account covers trade in goods and services, income and transfers; the capital (financial) account covers investment and borrowing flows.
EXAMPLEA Gulf-based worker sending money home is a current account transfer (remittance). A US fund buying Indian shares is a capital account inflow.
Trade in Goods
Exports and imports of physical goods.
Exports of Goods
Imports of Goods
SIMPLYThe export and import of physical goods.
E.G.India exports rice and imports crude oil.
Trade in Services
Net factor and non-factor income.
Net Factor Income
Net income from compensation of employees + net investment income.
Net Non-Factor Income
Shipping, banking, insurance, tourism, software services, etc.
SIMPLYTrade in services and income flows.
E.G.Indian IT firms earn dollars from software services, while India pays foreign shipping lines.
Transfer Payments
Consists of gifts, remittances, and grants.
SIMPLYOne-way payments with nothing received in return.
E.G.A worker abroad sends ₹50,000 to family back home.
Investments
Direct Investment
E.g. FDI, equity capital, reinvested earnings, and other direct capital flows.
Portfolio Investment
E.g. FII, offshore funds.
SIMPLYForeign investment flowing in.
E.G.A foreign company opens a plant (FDI), or a foreign fund buys Indian stocks (portfolio).
External Borrowings
E.g. External Commercial Borrowings, short-term debt.
SIMPLYLoans taken from abroad.
E.G.An Indian company borrows $20 million from a foreign bank.
External Assistance
E.g. government aid, inter-governmental, multilateral and bilateral loans.
SIMPLYAid and loans from governments and agencies.
E.G.A World Bank loan for a rural road project.
IMPORTANT NOTE — BPM6
The IMF introduced new accounting standards in the sixth edition of the Balance of Payments and International Investment Position Manual (BPM6). Under this classification, transactions are divided into three accounts: current account, financial account, and capital account. Almost all transactions in financial assets — such as bonds and equity shares — are now placed in the financial account. The RBI has updated its BoP account structure accordingly, but continues to also publish BoP accounts under the old system.
Why Balance of Payment Is Zero
IN SIMPLE WORDS
The BOP always balances in accounting terms because every transaction has two sides. A deficit in one account is matched by a surplus in another or by use of reserves.
EXAMPLEIndia imports ₹100 of oil. To pay, it must earn, borrow or attract investment in foreign currency, or draw down reserves. That 'other side' makes the total zero.
The sum of all transactions recorded in the balance of payments is zero because:
- Every credit appearing in the current account has a corresponding debit in the capital account, and vice-versa.
- If a country exports an item (a current account transaction), it effectively imports foreign capital when that item is paid for (a capital account transaction).
In reality, the central bank/tax authorities do not have complete details of all financial transactions, and currency rates keep fluctuating — so there will be statistical discrepancies, errors, and omissions. BoP is therefore expressed as:
Current Account + Capital Account + Net Errors and Omissions = 0Current Account Deficit (CAD)
IN SIMPLE WORDS
CAD occurs when the country pays out more foreign exchange than it earns through goods, services, income and transfers. It is wider than the trade deficit, which counts goods only.
EXAMPLEExports and other receipts bring $400bn, imports and payments take $430bn. CAD = $30bn (illustrative). India usually earns surpluses on services and remittances that reduce its trade deficit.
The shortfall between the money flowing in on exports and the money flowing out on imports.
It measures:
- The gap between money received into and sent out of the country on the trade of goods and services.
- The transfer of money from domestically-owned factors of production abroad.
CAD and Balance of Trade
Balance of Trade (BoT)
Measures only the gap in earnings and expenditure on exports and imports of goods.
SIMPLYThe gap between exports and imports of goods only.
E.G.Exports $300bn − imports $450bn = trade deficit of $150bn (illustrative).
Balance on Current Account
Includes the Balance of Trade and the balance on invisibles.
SIMPLYBalance of trade plus invisibles (services, income, transfers).
E.G.A trade deficit of $150bn offset by $120bn invisibles surplus leaves a CAD of $30bn.
Net Invisibles
The difference between the value of exports and value of imports of invisibles. Invisibles include services, transfers, and flows of income between countries.
Factor Income
Net international earnings on factors of production — labour, land, and capital.
Non-Factor Income
Net sale of service products — shipping, banking, tourism, software services, etc.
SIMPLYInvisibles are non-goods earnings: services, factor income and transfers. Factor income is earnings on labour and capital abroad; non-factor income is the sale of services.
E.G.Software exports and remittances are net invisibles that help India reduce its deficit.
Ways to Deal with CAD
The Current Account Deficit could be reduced by:
- Boosting exports and curbing non-essential imports, such as gold, mobiles, and electronics.
- Currency hedging and easing rules for manufacturing entities to raise foreign funds.
- Reviewing debt investment limits for FPIs (Foreign Portfolio Investors).
Global Economic Environment
IN SIMPLE WORDS
Global conditions spill over into India. Growth abroad, oil prices, supply chains and interest rates in rich countries all affect India's exports, capital flows and the rupee.
EXAMPLEWhen US interest rates rise, foreign investors may pull money out of India for higher returns at home, weakening the rupee.
The post-pandemic global economic recovery has been incomplete and unequal.
Incomplete
Stronger-than-expected recovery in the second half of 2020, but GDP remains below pre-pandemic levels in most countries.
SIMPLYThe recovery has been incomplete: output is still below the pre-pandemic path in most countries.
E.G.Many countries' GDP is still lower than it would have been without the shock.
Unequal
Countries (such as China) that have recovered are witnessing an unbalanced growth trajectory — private consumption lagging investment.
SIMPLYThe recovery has been unequal: some countries bounced back faster than others.
E.G.China recovered quicker, but its growth leaned towards investment, with weaker consumer spending.
Amid an uncertain global economic environment, India's external sector looks strong due to:
ECONOMY CLASSES
External Sector — Part 2
A deep dive into the instruments through which foreign capital enters India — FDI, FPI, ECBs, SDRs, GDRs/ADRs, currency swaps — plus how exchange rates are determined, capital and current account convertibility, and the ladder of global economic integration.
External Investment Types
IN SIMPLE WORDS
Foreign investment is either direct (long-term, with control) or indirect (portfolio, shares and bonds without control).
EXAMPLEA foreign company building a factory in India is direct investment. A foreign fund buying Infosys shares on NSE is indirect.
Wholly Owned Subsidiary
Investment in the businesses by foreign citizens, usually involving majority stock ownership of the enterprise.
SIMPLYA foreign company owns the Indian business fully or with a majority stake.
E.G.A foreign carmaker sets up a fully owned Indian manufacturing unit.
Joint Venture
Joint ventures between the foreign and domestic companies.
SIMPLYA foreign firm and an Indian firm share ownership and control of a new business.
E.G.Maruti Suzuki began as a joint venture between the Government of India and Suzuki of Japan.
Investment by Foreign Institutional Investors
An entity established or incorporated outside India which proposes to make investment in India.
SIMPLYForeign institutions invest in Indian shares and bonds, without running companies.
E.G.A foreign pension fund buys shares and government bonds listed in India.
Foreign Direct Investment (FDI)
IN SIMPLE WORDS
FDI means investing to build a lasting interest in a business: setting up a unit, buying a controlling stake, or forming a joint venture. It brings capital, technology and jobs.
EXAMPLEGreenfield FDI builds something new, like a fresh car plant. Brownfield FDI buys or expands an existing company.
An investment from a party in one country into a business or corporation in another country, with the intention of establishing a lasting interest.
NOTE
More than 95% of FDI comes into India through the Automatic Route, where no government approval is required, and investment is subject only to sectoral laws. The remainder requires the Government Route.
Forms of FDI
Greenfield Investment
Direct investment in new facilities, or the expansion of existing facilities. The principal mode of investing in developing countries.
SIMPLYBuilding a brand-new facility from scratch.
E.G.A foreign company buys land in Odisha and builds a new plant, which creates new jobs.
Mergers and Acquisitions
Occurs when a transfer of existing assets from local firms takes place.
SIMPLYBuying or merging with an existing company, so only ownership changes.
E.G.A foreign firm buys an Indian pharmaceutical company. No new factory is built.
Types of FDI
Horizontal FDI
A company establishes the same type of business operation in a foreign country as it operates in its home country. E.g. a US-based cellphone provider buying a chain of phone stores in China.
SIMPLYA firm opens the same kind of business abroad that it runs at home.
E.G.A fast-food chain from the US opening outlets in India.
Vertical FDI
A business acquires a complementary business in another country. E.g. a US manufacturer acquiring an interest in a foreign company that supplies it with raw materials.
SIMPLYA firm buys a business in the supply chain abroad.
E.G.A carmaker buys a foreign tyre maker that supplies it.
Conglomerate FDI
A company invests in a foreign business unrelated to its core business. Since the investing company has no prior experience in that area, this often takes the form of a joint venture.
SIMPLYA firm invests in an unrelated business abroad.
E.G.A software company buys a hotel chain in another country.
Foreign Portfolio Investment (FPI)
IN SIMPLE WORDS
FPI is investment in financial securities for returns, with no control over the company. It can leave quickly, so it is called 'hot money'.
EXAMPLEA foreign fund buys shares worth ₹1,000 crore and sells them a week later in a global scare, pulling the market down. A factory built under FDI cannot leave overnight.
An investment by non-residents in Indian securities — such as shares, bonds, debentures, and derivatives.
FDI vs FPI
External Commercial Borrowing (ECB)
IN SIMPLE WORDS
ECB is borrowing by Indian firms from foreign lenders. It is debt, not ownership, and has to be repaid in foreign currency with interest.
EXAMPLEA company borrows $50 million abroad at lower interest. If the rupee weakens, repaying costs more rupees. Masala bonds avoid that risk for the borrower because they are issued abroad but denominated in rupees.
Refers to commercial loans availed from non-resident lenders, with a minimum average maturity of 3 years.
ECB vs FDI
FDI is foreign money invested to finance equity capital. ECB is any kind of funding other than equity.
SIMPLYFDI means owning a part of the business; ECB is a loan that must be repaid.
E.G.An FDI investor shares in profits and losses. An ECB lender gets only the agreed interest and principal back.
Routes
ECB can be accessed under two routes — the Automatic Route and the Approval Route.
SIMPLYThe Automatic Route needs no prior approval; the Approval Route needs RBI or government permission.
E.G.A loan within the standard limits and purposes goes through the automatic route; an unusual loan needs approval.
Masala Bonds
A kind of ECB where the bonds are issued outside India but denominated in Indian Rupees, rather than the local currency.
SIMPLYRupee-denominated bonds issued abroad. The foreign investor, not the Indian borrower, bears the exchange-rate risk.
E.G.An Indian company raises ₹ through bonds in London. If the rupee falls, the investor loses, not the company.
Special Drawing Rights (SDR)
IN SIMPLE WORDS
SDR is an international reserve asset created by the IMF. Its value is based on a basket of five currencies, and members can swap it for usable currencies.
EXAMPLEIt works like a voucher that countries hold in IMF accounts and can exchange for dollars, euros or other currencies when needed.
- An international reserve asset, created by the IMF to supplement its member countries' official reserves.
- Its value is based on a basket of five major currencies — the US Dollar, Euro, Chinese Renminbi (RMB), Japanese Yen, and the British Pound Sterling.
- SDRs are allocated to member countries in proportion to their quota subscriptions. Only IMF members can participate in the SDR facility.
- SDRs are costless, as they are just a book entry in the Special Drawing Account of the IMF — often called "paper gold."
Global/American Depositary Receipts (GDR/ADR)
IN SIMPLE WORDS
Depository receipts let investors buy foreign companies' shares through a certificate traded locally. The real shares sit with a custodian bank.
EXAMPLEAn American investor buys an Indian company's ADR on a US exchange, without opening an account in India.
- A negotiable instrument that can be traded like any other security instrument, freely.
- Via this, an investor wants to invest money in a company listed in India (in which it cannot directly invest).
- Under this, the Overseas Depository Bank gives an acknowledgement slip to the investor, stating that some shares are being held on their behalf.
- This acknowledgement slip is called a Global Depository Receipt (GDR), or an American Depository Receipt (ADR) in the case of a US/American investor.
Currency Swap Agreements
IN SIMPLE WORDS
In a currency swap, two central banks agree to exchange currencies and reverse the deal later. It gives a country quick access to foreign currency without selling reserves.
EXAMPLEUnder the India–Japan arrangement, India can get yen or dollars up to a set limit, and Japan gets rupees in return.
Entered into between the Central Banks of two countries. One country exchanges its national currency for that of another, or even a third one.
India–Japan (2018)
Currency swap agreement worth $75 billion. India can get Yen (or Dollars) from Japan worth up to $75 billion, and Japan will get equivalent Indian Rupees as per the market exchange rate at the time of transaction.
SIMPLYA central bank arrangement for borrowing foreign currency against local currency.
E.G.If India needs yen or dollars, it can swap rupees with Japan up to $75 billion, then reverse the deal later.
India–Sri Lanka (July 2020)
Currency swap agreement worth $400 million, in which India gives Dollars to Sri Lanka, and in return receives Sri Lankan Rupees.
SIMPLYA smaller swap that helps a neighbour in a foreign exchange squeeze.
E.G.India provides dollars to Sri Lanka, which provides its own rupees in return.
Foreign Exchange Reserves & External Debt
IN SIMPLE WORDS
Forex reserves are a country's foreign-currency cushion, used for imports, debt payments and defending the currency. A common test is how many months of imports they can cover.
EXAMPLEFrom the figures above, $636 billion ÷ $50 billion a month is about 12–13 months of import cover.
Forex Reserves
India's forex reserves stood at around $636 billion as of March 8, with monthly imports (goods and services) around $50 billion.
SIMPLYForeign currency kept by the central bank as a cushion.
E.G.$636 billion of reserves with imports of $50 billion a month gives about 12 months of import cover.
External Debt
At end-September 2023, India's external debt was placed at US$ 635.3 billion.
SIMPLYWhat a country owes to foreign lenders, to be repaid in foreign currency.
E.G.India's external debt of about $635 billion is similar in size to its reserves, which is a comfort when debts fall due.
Foreign Exchange Rate — Key Concepts
IN SIMPLE WORDS
Depreciation is a market-driven fall of a currency in a floating system; devaluation is an official cut in a fixed system. Appreciation is the opposite of depreciation.
EXAMPLEThe rupee moves from ₹80 to ₹85 per dollar: depreciation. That helps exporters, because their goods become cheaper abroad, but makes imports costlier.
Depreciation
A decrease in the value of a currency in a floating exchange rate system, due to market forces.
SIMPLYA currency losing value against another because of market forces.
E.G.The rupee moves from ₹80 to ₹85 per dollar. Imports become costlier and exports cheaper for foreign buyers.
Appreciation
An increase in the value of a currency.
SIMPLYA currency gaining value.
E.G.The rupee moves from ₹85 to ₹80 per dollar. Imports become cheaper but exporters become less competitive.
Devaluation
The official lowering of the value of a country's currency, within a fixed exchange rate system.
SIMPLYAn official, deliberate cut in the value of a currency under a fixed-rate system.
E.G.In 1991, India devalued the rupee during the balance of payments crisis.
Flexible Exchange Rate
Central banks do nothing to directly affect the level of the exchange rate. Also known as the floating exchange rate system.
SIMPLYThe market decides the exchange rate through demand and supply.
E.G.When importers demand more dollars, the rupee weakens with no central bank action.
Fixed Exchange Rate
The central bank typically uses an open market mechanism, and is committed at all times to buy and/or sell its currency at a fixed price to maintain its pegged ratio.
SIMPLYThe central bank commits to buy and sell its currency at a set price.
E.G.Hong Kong pegs its dollar to the US dollar within a narrow band.
Managed Floating Rates
A mix of the flexible and fixed rate systems. If the Rupee is depreciating against the Dollar, RBI sells Dollars from its forex reserves to check the Dollar's appreciation and keep the Rupee stable.
SIMPLYMostly market-determined, but the central bank steps in to smooth big swings.
E.G.If the rupee falls sharply, RBI sells dollars from its reserves to slow the fall.
Types of Exchange Rate System
- The relative price of the currencies of two countries. E.g. if the exchange rate between the US Dollar and the Indian Rupee is Rs. 60 per dollar, one dollar can be exchanged for 60 Rupees in world currency markets.
- The rate at which one country's goods can be traded for another's — the relative price of the goods of two countries.
- The weighted average value of the nominal exchange rate of the Rupee against the currencies of India's major trading partners.
- The weighted average of Real Exchange Rates of the Rupee against the currencies of India's major trading partners.
- How much of a basket of internationally traded goods and services can be bought with Indian Rupees in India, compared to the same basket bought with Dollars in the US.
Capital & Current Account Convertibility
IN SIMPLE WORDS
Convertibility is how freely a currency can be exchanged for another. India allows full current account convertibility, but capital account convertibility is partial.
EXAMPLEA student can easily pay fees abroad (current account). An individual cannot move unlimited money abroad for investment, because RBI sets limits (capital account).
Currency convertibility is the ease with which a country's currency can be converted into gold or another currency.
At present, India allows full convertibility in the current account, but only partial convertibility in the capital account. The S. S. Tarapore Committee has recommended moving towards full Capital Account Convertibility (CAC).
POSITIVES OF FULL CAC
- Would facilitate further liberalisation and increase foreign investment.
- Increasing openness creates opportunities for avoiding capital account restrictions.
- Can lead to free exchange of currency at lower rates.
NEGATIVES OF FULL CAC
- Could destabilise an economy.
- Could lead to massive capital flows in and out of the country.
- Currency appreciation/depreciation could affect the trade balance.
Current Account Convertibility
- RBI does not allow full conversion of Rupee into foreign currencies (and vice versa) for transactions under the capital account of BoP.
- There are restrictions/limits imposed by the RBI and government on the value of transactions anybody can make under the capital account.
- Example: if someone wants to borrow $5 billion as ECB, the RBI has put restrictions in place and may not convert the whole $5 billion into Rupees.
Economic Integration
IN SIMPLE WORDS
Economic integration comes in deepening stages: FTA, customs union, common market, economic union. Each stage involves more shared rules.
EXAMPLESAFTA is an FTA (tariffs cut among members only). In a customs union members also share an external tariff. The EU goes further, with free movement of labour and capital.
Free Trade Agreement (FTA)
A preferential arrangement where members reduce tariffs on trade among themselves, while maintaining their own tariff rates for trade with non-members.
E.g. South Asia Free Trade Agreement (SAFTA).
SIMPLYMembers cut tariffs on each other's goods but keep their own tariffs on others.
E.G.Two countries remove duties on each other's tea and machinery. Each still taxes imports from everyone else in its own way.
Customs Union (CU)
An FTA in which members apply a common external tariff (CET) schedule to imports from non-members.
E.g. EU–UK Customs Union.
SIMPLYAn FTA plus a common tariff on outsiders.
E.G.Members charge the same duty on imports from non-members, so goods cannot sneak in through the lowest-tariff member.
Common Market (CM)
A customs union where movement of factors of production is relatively free among member countries.
E.g. East African Common Market.
SIMPLYA customs union plus free movement of labour and capital.
E.G.A worker from one member country can take a job in another without a work permit.
Economic Union (EU)
A common market where member countries coordinate macroeconomic and exchange rate policies.
E.g. European Union.
SIMPLYA common market whose members also coordinate their economic policies.
E.G.The European Union, with its single market and a shared currency for many members.
ECONOMY CLASSES
Money Market & Capital Market
Financial Market: A system consisting of financial institutions (banks, NBFCs), instruments (shares, bonds), organisations (stock exchanges), and regulatory bodies (RBI, SEBI) which facilitate financial transactions. Objective: to mobilize household savings and capital flow for the benefit of the market.
Money Market vs Capital Market
IN SIMPLE WORDS
The money market deals in short-term funds (up to one year) and the capital market in long-term funds. The first supports working capital, the second funds assets and expansion.
EXAMPLEA firm borrowing for three months to pay suppliers uses the money market. A firm issuing shares to build a new plant uses the capital market.
Money Market
IN SIMPLE WORDS
The money market is where banks, governments and companies borrow and lend for short periods. Instruments are low-risk and highly liquid.
EXAMPLEIn a T-bill you lend the government money for a short term: buy at ₹98, get ₹100 at maturity. The call money market is overnight lending between banks.
The short-term financial market of an economy — trading of money between individuals or groups (financial institutions, government, companies, etc.).
Segments of the Money Market
Banks
SIMPLYBanks are the biggest players in the organised money market, lending and borrowing short-term funds.
E.G.A bank with surplus cash lends overnight to another bank that is short of cash.
Sub-markets of Money Market
Treasury Bill
Commercial Paper
Commercial Bill
Certificate of Deposit
Call Money Market
SIMPLYMoney market instruments are short-term and low risk: T-bill (government), commercial paper (company), commercial bill (trade), certificate of deposit (bank) and call money (overnight).
E.G.A large company issues commercial paper to raise cheap funds for three months.
Money Lenders & Indigenous Bankers
SIMPLYInformal lenders outside the regulated system.
E.G.A village moneylender lends to a farmer at a high rate of interest.
Hundi
SIMPLYA traditional paper instrument for transferring payment between traders.
E.G.A trader in one city hands a hundi to an agent who pays the supplier in another city.
Money Market Instruments
- Used by the Central Government to fulfil its short-term (up to 364 day) liquidity requirement.
- Variants: 14-day (issued every Friday), 91-day, 182-day, and 364-day T-Bills.
- Unsecured security — a short-term debt instrument issued by companies to raise funds, generally for up to one year.
- Issued at a discount to face value, in multiples of Rs. 1 lakh, subject to a minimum value of Rs. 25 lakh.
- Maturity: 14 days to 1 year. One of the most important sources of working capital finance for large firms.
- Unsecured security, issued by one merchant firm to another against a credit transaction.
- A source of working capital for small companies.
- A security/bond issued by a bank to depositors of funds.
- Issued in multiples of Rs. 1 lakh, subject to a minimum value of Rs. 25 lakh, at a discount.
- Similar to FDs, but negotiable and tradable in the money market.
- A short-term money market that allows large financial institutions to borrow and lend money at interbank rates.
- Very short-term loan — usually 1 or 2 days, up to a maximum of 14 days.
- Interest charged is called the Call Money Rate (CMR), which is market-determined and serves as a benchmark for monetary policy operations — e.g. if the interest rate is high, RBI will buy securities.
- Helps in the optimum use of liquidity.
- A commercial bill of the unorganised sector/market, issued by one firm to another against credit transactions.
- Not discounted/accepted by banks — mostly on a trust basis.
NOTE
The Discount and Finance House of India (DFHI) serves as a secondary market for money market instruments — e.g. CDs, CPs.
Capital Market
IN SIMPLE WORDS
The primary market is where new securities are issued and the company receives money. The secondary market is where existing securities trade between investors.
EXAMPLEBuying shares in an IPO is primary: the money goes to the company. Buying shares through NSE from another investor is secondary: the company gets nothing.
The long-term financial market of an economy.
Primary Market
First-time sale of a security — e.g. an IPO. The company sells to the investor and fixes the price. The firm raises funds for the long term.
SIMPLYNew securities are sold for the first time and the company gets the money.
E.G.A company sells 1 crore new shares at ₹100 in an IPO and receives ₹100 crore.
Secondary Market
Existing securities are bought and sold. Investor sells to investor; prices are determined by demand and supply. Provides liquidity to existing securities.
SIMPLYExisting securities change hands between investors; the company receives nothing.
E.G.You buy shares of a listed company from another investor on NSE.
Indian Capital Market System
Government Securities
New Issue Market, Old Issue Market.
SIMPLYGovernment securities are loans to the government: T-bills are short-term, G-secs long-term.
E.G.Buying a 10-year G-sec means lending to the government and receiving fixed interest.
Industrial Securities Market
SIMPLYThe market for company shares, debentures and bonds.
E.G.A company issues debentures to finance a new plant.
Development Financial Institutions
IFCI, ICICI, SFC, IDBI, IIBI, UTI.
SIMPLYInstitutions that provided long-term finance to industry and infrastructure.
E.G.IDBI and IFCI gave long-term loans for factories and projects.
Financial Intermediaries
Merchant Banks, Mutual Funds, Leasing Companies, Venture Capital Companies, and others.
SIMPLYIntermediaries sit between savers and borrowers.
E.G.A merchant bank manages a share issue and a mutual fund pools small savings.
Primary Capital Market — Means of Raising Funds
Securities are issued to the public/investor for the first time — a transaction between the company and investors.
- An unlisted company raises funds by offering its shares to the public, and consequently gets listed on a stock exchange.
- A listed company issues fresh shares, or makes an offer for sale to the public, to raise funds. This is an issuance of additional shares after an IPO.
- The bulk allotment of fresh shares to a specific group — individuals, venture capitalists, companies, etc. — for fund raising. Neither a public issue nor a rights issue.
- Issue of shares to existing equity shareholders, in proportion to their existing shareholding.
- A company offers its securities (bonds, stocks, or others) to a small group of individual and/or institutional investors.
Secondary Capital Market
Existing securities are traded — bought and sold — between various investors. Provides liquidity to existing securities and reflects the company's performance.
Organised Exchange
E.g. BSE, NSE.
SIMPLYA formal exchange with fixed rules and a central trading venue.
E.G.BSE and NSE.
Over-the-Counter (OTC) Exchange
SIMPLYA market with no central venue, where dealers trade directly.
E.G.Shares of small unlisted firms traded through dealers.
Spot Market
Transactions are completed on the spot, at the prevailing price. Delivery is compulsory.
SIMPLYDeals are settled immediately at the current price, with delivery compulsory.
E.G.You buy 10 shares today; payment and delivery happen within a day or so.
Forward Market
Derivative trading — contracts are made to buy or sell something in future, at a pre-determined rate and date. Delivery is not compulsory.
SIMPLYContracts to buy or sell in the future at a price fixed today.
E.G.An importer agrees today to buy $10,000 at ₹85 in three months, which removes exchange-rate risk.
Types of Derivatives
Forward
A customized contract between two entities, where settlement takes place on a specific date in the future, at a pre-agreed price.
SIMPLYA customised private contract settled on a future date at an agreed price.
E.G.A farmer and a miller agree today on the wheat price for the harvest three months away.
Future
An agreement between two parties to buy or sell an asset at a certain time in the future, at a certain price.
SIMPLYA standardised contract traded on an exchange to buy or sell at a fixed price on a set date.
E.G.A Nifty futures contract expiring at the end of the month.
Option
Gives the right, but not the obligation, to buy or sell the underlying at a stated date and price.
Call: right to buy. Put: right to sell.
SIMPLYAn option gives the right, not the duty, to buy (call) or sell (put).
E.G.You pay ₹5 for a call option to buy a share at ₹100. If it rises to ₹120, you buy at ₹100. If it falls, you lose only the ₹5.
Swap
Contracts of forward markets to exchange a commodity or security with another, at a pre-determined ratio and date.
SIMPLYTwo parties exchange payment streams or assets.
E.G.A firm with a floating-rate loan swaps payments with another that pays a fixed rate.
Exchanges in India
IN SIMPLE WORDS
BSE and NSE are India's two main stock exchanges. An index is a thermometer for the market, tracking the prices of a basket of leading companies.
EXAMPLEIf Sensex rises 1% in a day, the weighted prices of its 30 constituent companies went up about 1% on average.
- The oldest stock exchange in Asia — established in 1875 as the Native Share and Stockbrokers Association.
- Over 5,000 companies listed.
- Indices: BSE Sensitive Index (Sensex), BSE-100, BSE-200, Bankex, etc.
- Established in 1992 on the recommendation of the Pherwani Committee, as the most modern stock exchange in the country.
- Promoted by IDBI and other public sector FIs. Over 1,500 companies listed.
- Indices: Nifty (50 companies), Nifty Junior, S&P 100, etc.
- Established in 2003; granted a license by SEBI in 2012 to operate as a stock exchange.
- Offers trading in commodity derivative contracts across bullion, industrial metals, energy, and agricultural commodities.
- Index: SX-40.
- Established in 1990, became operational in 1992.
- Facilitates trade in securities of companies whose paid-up capital is Rs. 30 lakh and above.
- Serve as a link between local companies and local investors.
- Each follows its own practice for listing, trading, clearing, settlement, and risk containment.
- Examples: Calcutta Stock Exchange, Pune Stock Exchange, etc.
Securities and Exchange Board of India (SEBI)
IN SIMPLE WORDS
SEBI is the capital market's regulator, like a referee: it protects investors, regulates intermediaries and prevents unfair practices.
EXAMPLEInsider trading means trading on non-public information. SEBI investigates and penalises such cases.
Established in 1988 as a non-statutory body. Granted statutory status on the recommendation of the Narasimham Committee in 1992, through the SEBI Act, 1992.
Functions:
- Regulation of the capital market (both primary and secondary market).
- Registers and regulates all intermediaries in stock exchanges — share brokers, underwriters, mutual funds, etc.
- Checks malpractices in stock exchanges.
- Protects investors' interests, and promotes investor education and awareness.
Depository Receipt (DR)
IN SIMPLE WORDS
A depository receipt represents shares of a foreign company held abroad but traded locally. Depending on the market, they are called ADR, GDR or IDR.
EXAMPLEAn Indian company's shares trading in the US as ADRs, or a foreign company's shares listed in India as IDRs.
A negotiable (transferable) financial security traded on a local stock exchange, usually in the form of equity, issued by a foreign publicly-listed company. The DR — a physical certificate — allows investors to hold shares in the equity of other countries.
ADR — If Issued in USA
American Depository Receipts — a certified negotiable instrument representing shares of a foreign company, issued by an American bank, that can be traded in US financial markets.
SIMPLYCertificates issued in the US that represent shares of a foreign company, and trade on US exchanges.
E.G.Infosys ADRs trade on the New York Stock Exchange.
IDR — If Issued in India
Indian Depository Receipts — transferable securities to be listed on Indian stock exchanges, in the form of depository receipts created by a domestic depository in India against the underlying equity shares of the issuing company (incorporated outside India).
SIMPLYCertificates listed in India that represent shares of a foreign company.
E.G.Standard Chartered issued IDRs listed in India.
GDR — In General
Global Depository Receipts — any instrument in the form of a depository receipt created by a foreign depository outside India and authorised by a company making an issue of such depository receipts.
SIMPLYCertificates issued abroad, often in several countries, representing a company's shares.
E.G.An Indian company raises dollars by selling GDRs on a London or Luxembourg exchange.
Mutual Funds, ETFs & Other Instruments
IN SIMPLE WORDS
A mutual fund pools many investors' money and a manager invests it in a basket of assets. An ETF is similar, but trades on an exchange like a share.
EXAMPLE1,000 investors put in ₹500 each; the fund buys a spread of stocks. Each investor owns units, and the unit price (NAV) moves with the basket.
Mutual Funds
A pool of money accumulated by several investors aiming to save and make money through investments. The corpus is invested in various asset classes — e.g. debt funds, equity. Gains and losses are shared proportionally. Registered with SEBI.
SIMPLYA pool of many investors' money invested by a fund manager.
E.G.1,000 investors put in ₹500 each, the manager buys a basket of stocks, and each investor owns units.
Exchange Traded Fund (ETF)
Mutual funds listed and traded on a stock exchange like shares — created by institutional investors swapping shares in an index basket for units in the fund. The government has used the ETF route to disinvest holdings in PSUs — e.g. Bharat 22 ETF (houses 22 public sector companies).
SIMPLYA fund listed on an exchange and traded like a share, usually tracking an index.
E.G.A Nifty ETF follows the Nifty 50. You buy and sell it through your broker.
Corporate Bond
Debt securities issued by private and public corporations to raise funds — e.g. building a new plant, purchasing equipment. Investors lend money to the corporation and receive interest plus principal. Unlike equity, does not confer ownership.
SIMPLYA loan to a company, which pays fixed interest and returns the principal.
E.G.A company raises ₹100 crore at 9%; bondholders receive interest each year and principal at maturity.
Participatory Notes (P-Notes)
Financial instruments (also called Offshore Derivative Instruments) issued by FIIs to investors and hedge funds who wish to invest in Indian stock markets — mostly used by overseas HNIs, hedge funds, and other foreign institutions, allowing investment via registered FIIs.
SIMPLYA route for foreign investors who are not registered with SEBI to invest through registered FIIs.
E.G.An overseas hedge fund gets exposure to Indian stocks through a registered FII's P-Note.
Important Associated Terms
IN SIMPLE WORDS
These terms describe market behaviour. A bull market is rising; a bear market is falling. Arbitrage profits from the same asset having different prices in two places.
EXAMPLEGold at ₹100 in one city and ₹101 in another: buy in the first, sell in the second, and pocket the ₹1 gap.
Arbitrage
Buying an asset and simultaneously selling it in another market, to take advantage of price differentials.
SIMPLYProfiting from price differences for the same asset in two markets.
E.G.Gold at ₹100 in one city and ₹101 in another: buy in the cheaper one, sell in the dearer.
Angel Investors
High Net-Worth Individuals (HNIs) who provide capital for a business start-up, usually in exchange for convertible debt or ownership equity — supporting start-ups when most investors are not prepared to back them.
SIMPLYWealthy individuals who fund start-ups at an early stage.
E.G.A high net-worth individual invests ₹50 lakh in an idea-stage app company for a share of ownership.
Bear Market
A market where share prices are continuously declining. The downward trend perpetuates itself as investors believe it will continue; the economy slows and unemployment rises.
SIMPLYA falling market with widespread pessimism.
E.G.Share prices fall for months as investors keep selling.
Bull Market
A market experiencing a sustained increase in share prices, signalling a strong economy and high employment levels.
SIMPLYA rising market with optimism.
E.G.Share prices rise steadily and more people begin to invest.
Bonds
High-security debt instruments that enable an entity to raise funds and fulfil capital requirements — classified by model of return and validity of legal obligations.
SIMPLYDebt instruments through which an issuer borrows and pays interest.
E.G.A 5-year ₹1,000 bond with 8% interest pays ₹80 each year and ₹1,000 at maturity.
Buy-Back of Shares
The company buys back a certain percentage of its shares directly from the market. SEBI imposes certain restrictions on buy-backs.
SIMPLYA company buys back its own shares from the market.
E.G.A cash-rich company buys back 5% of its shares, which reduces shares outstanding and often supports the price.
Derivatives
A contract between two parties that derives its value/price from an underlying asset. Common types: futures, options, forwards, and swaps.
SIMPLYContracts whose value comes from another asset.
E.G.A gold futures contract moves with the price of gold.
Demat / Dematerialised Trading
Trading where computer records of transactions are maintained instead of issuing physical documents like share certificates.
SIMPLYShares are held in electronic form, not as paper certificates.
E.G.You buy shares and they appear in your demat account.
Demutualization
Separation of ownership, management, and brokerage rights in a stock exchange.
SIMPLYSplitting ownership, management and trading rights of an exchange, so brokers don't run it for their own benefit.
E.G.BSE was once owned and run by its broker-members. After demutualization, professionals manage it.
Hedge Fund
A private portfolio of investments using investment and risk management strategies to generate returns — a relatively aggressive fund type used by high net worth investors.
SIMPLYA private investment pool for wealthy investors using aggressive strategies.
E.G.A hedge fund buys undervalued shares and bets against overvalued ones, borrowing to magnify returns.
Insider Trading
Buying/selling a company's shares on the basis of price-sensitive, unpublished information.
SIMPLYTrading on non-public price-sensitive information, which is illegal.
E.G.A company executive buys shares just before announcing a big deal, using information the public lacks.
Index
A benchmark used by investors and portfolio managers to measure market performance — e.g. Nifty and Sensex.
SIMPLYA benchmark number tracking a basket of shares.
E.G.The Nifty 50 rising 1% means the weighted prices of its 50 companies rose about 1%.
Liquidity
How easily a stock can be sold off. A share with high trade volumes that sells quickly is said to be highly liquid.
SIMPLYHow quickly an asset can be sold without a big price drop.
E.G.Shares of a large company sell in seconds. A plot of land can take months.
Over-the-Counter Market
A decentralized market where participants trade stocks, commodities, currencies, or other instruments directly between two parties, without a central exchange or broker.
SIMPLYA market where two parties trade directly, with no exchange in between.
E.G.Most currency trading in the forex market is done over the counter.
Net Asset Value (NAV)
A company's total assets minus its total liabilities. NAV per unit = net value of assets divided by the number of units outstanding.
SIMPLYNet value per unit of a fund: (assets − liabilities) ÷ units.
E.G.Assets ₹110 crore − liabilities ₹10 crore = ₹100 crore. With 10 crore units, NAV = ₹10.
Shares
The smallest denomination of a company's stock, indicating a portion of ownership of the company.
SIMPLYThe smallest unit of ownership in a company.
E.G.Owning 100 shares of a company with 1 lakh shares gives you 0.1% ownership.
Equity Shares
Long-term financing sources for a company, issued to the general public, non-redeemable in nature. Investors hold the right to vote, share profits, and claim assets.
SIMPLYOrdinary shares that carry voting rights and variable dividends.
E.G.Equity holders earn the most if the company thrives and lose first if it fails.
Preference Shares
Issued to investors as a guarantee of cumulative dividend payment before returns are distributed to ordinary shareholders — but without the voting/membership rights of common shares.
SIMPLYShares with a priority claim on dividends, but usually without voting rights.
E.G.A company pays its preference shareholders their fixed dividend before paying equity holders.
Sweat Shares
Shares given to employees of the company without any charge.
SIMPLYShares given to employees for their contribution rather than for cash.
E.G.A start-up gives its early engineers shares instead of higher salaries.
Speculation
Buying and selling an asset with a time lag, to profit from changes in market prices in the future.
SIMPLYBetting on short-term price movements.
E.G.Buying gold today, hoping to sell at a higher price next week.
Underwriting
Determining the risk and price of a particular security — most commonly seen during IPOs, where investment banks first buy/underwrite the issuer's securities before selling them in the market.
SIMPLYUnderwriters guarantee to buy unsold shares in a public issue.
E.G.If only 70% of an IPO is subscribed, the underwriting bank buys the remaining 30%.
Venture Capital
A form of private equity financing provided by VC firms/funds to startups and early-stage/emerging companies deemed to have high growth potential.
SIMPLYFunding from specialised investors to young firms with high growth potential.
E.G.A venture capital fund invests ₹10 crore in a start-up in exchange for a share of ownership.
ECONOMY CLASSES
Poverty & Inequality
Poverty can be defined as a condition in which an individual or household lacks the financial resources to afford a basic minimum standard of living. This chapter covers its types and causes, India's poverty-line estimation history, the SECC and MPI, government approaches to poverty reduction, and the measurement and drivers of inequality.
Types of Poverty
IN SIMPLE WORDS
Absolute poverty means being unable to afford basic needs; relative poverty compares one's living standard with the rest of society.
EXAMPLEA family that cannot afford two meals a day is in absolute poverty. A family that eats but earns far below the society's average is in relative poverty.
Absolute Poverty
Measured in relation to the amount of money necessary to meet basic needs such as food, clothing, and shelter.
The World Bank defines the extreme poor as those living on less than $1.90 a day (PPP, at 2011 price levels).
SIMPLYNot having enough income to meet basic needs.
E.G.A family that cannot afford two meals a day is in absolute poverty.
Relative Poverty
Measured in relation to the economic status of other members of society.
Reflects a lack of resources required to participate in the lifestyle and consumption patterns enjoyed by others in society.
SIMPLYBeing poor compared with others in your society.
E.G.A person who can eat but cannot afford what most people consider normal, like a phone or school supplies.
Causes of Poverty
IN SIMPLE WORDS
Poverty is a cycle of linked causes: low productivity, low wages, unemployment, illiteracy, population pressure and historical factors.
EXAMPLEA farmer with a tiny plot and no irrigation earns little, saves little, cannot invest, and stays poor. That is the vicious circle of poverty.
- Lack of gainful employment
- Low productivity in agriculture and industries
- Low wages
- Exploitative colonial rule causing drain of wealth
- Caste system and gender inequality
- High rate of population growth
- Illiteracy and lack of skilled labour
- Limitations of the state-led approach to growth in alleviating poverty
- Corruption in implementing poverty alleviation schemes
- Vicious cycle of poverty
- Frequent destruction of wealth due to natural disasters — floods, earthquakes, etc.
The Vicious Cycle of Poverty
Widespread poverty results in low food intake and under-nutrition, which manifests itself among large sections of the poor, particularly women and children. This under-nutrition reduces work capacity and productivity amongst adults, and enhances mortality and morbidity amongst children — reduced productivity translates into reduced earning capacity, leading to further poverty, and the cycle continues.
World Bank's Classification of Countries by Income Level
IN SIMPLE WORDS
The World Bank groups countries by GNI per capita into low, lower-middle, upper-middle and high income. Groups are updated every July 1.
EXAMPLEGNI per capita is national income divided by population. If a country's figure crosses a threshold, it moves up a group.
The World Bank assigns the world's economies to four income groups — low, lower-middle, upper-middle, and high-income countries. Classifications are updated each year on July 1, based on the GNI per capita of the previous year.
Poverty Line in India — Estimates and Committees
IN SIMPLE WORDS
A poverty line is a spending level needed to meet a minimum basket of basic needs. Different expert committees used different baskets, so estimates differ.
EXAMPLEIf the minimum basket costs ₹X per person per month, anyone spending below X is counted as poor. A bigger basket moves X up and the poor count rises.
Poverty Line is a monetary threshold below which an individual is considered to be living in poverty. The National Sample Survey Organization collects data for estimating poverty in India.
Pre-Independence Estimation
Dadabhai Naoroji (1901)
In "Poverty and Un-British Rule in India" — Rs. 16 to Rs. 35 per capita per year, based on the cost of a subsistence diet for emigrant coolies during their voyage.
SIMPLYThe first known estimate of a poverty line in India, based on the cost of a subsistence diet.
E.G.Naoroji argued British rule drained India's wealth, which kept incomes low.
National Planning Committee (1938)
Set up under the chairmanship of Jawaharlal Nehru — Rs. 15 to Rs. 20 per capita per month, based on a minimum standard of living.
SIMPLYEstimated a minimum standard of living for planning.
E.G.The Nehru-led committee estimated a monthly minimum per person, much higher than earlier estimates.
Bombay Plan (1944)
Rs. 75 per capita per year — much more modest than that of the NPC.
SIMPLYIndustrialists' plan with a modest poverty-line figure.
E.G.The Bombay Plan proposed a low per-capita figure compared with the NPC's.
Post-Independence Estimation
- Constituted by the Planning Commission.
- Rs. 20 and Rs. 25 per capita per month for rural and urban areas respectively.
- Based on a minimum requirement (food and non-food) of individuals.
- First systematic assessment of poverty in India.
- Based on the expenditure adequate to provide 2,250 calories per capita per day in both rural and urban areas.
- Rs. 15 and Rs. 22.5 per capita per month for rural and urban households respectively (at 1960-61 prices).
- Based on the expenditure to meet 2,400 kcal and 2,100 kcal per capita per day in rural and urban areas respectively.
- Rs. 49.09 and Rs. 56.64 per capita per month for rural and urban areas respectively (at 1973-74 prices).
- Retained the separate rural and urban poverty lines recommended by the Alagh Committee at the national level, based on minimum nutritional requirements.
- Disaggregated them into state-specific poverty lines, to reflect inter-state price differentials.
- Suggested updating using CPI-IW in urban areas and CPI-AL in rural areas.
- Recommended poverty lines be based not on calorie norms but on target nutritional outcomes.
- Recommended a uniform all-India Poverty Line Basket (PLB), instead of two separate baskets for rural and urban areas.
- Used Mixed Reference Period (MRP)-based estimates instead of Uniform Reference Period (URP).
- Incorporated private expenditure on health and education, and essential non-food items like clothing and house rent, while estimating poverty.
- Rs. 816 and Rs. 1,000 per capita per month for rural and urban areas respectively, for 2011-12.
- Reverted to the practice of having separate all-India rural and urban PLBs.
- Recommended separate consumption baskets for rural and urban areas, including food items ensuring recommended calorie, protein and fat intake, plus non-food items like clothing, education, health, housing, and transport.
- Rs. 972 and Rs. 1,407 per capita per month for rural and urban areas respectively.
- The government did not take a call on the report.
Rangarajan vs Tendulkar Committee (2011-12 Estimates)
Socio Economic and Caste Census (2011)
IN SIMPLE WORDS
SECC 2011 collected household-level data on deprivations instead of a single BPL label. It lets the government target benefits by multiple criteria.
EXAMPLEA household with no pucca house, no literate adult and no land could qualify for housing support under SECC criteria.
Launched by the Ministry of Rural Development in 2011, to provide information on the socio-economic condition and education status of various castes and sections of the population.
Unlike BPL censuses, SECC-2011 allows — for the first time — tracking the deprivation of households and addressing gaps effectively, with focus on the multi-dimensionality of poverty. It divides the total rural households (17.91 crore) into three categories:
Automatically Excluded
Total excluded households based on fulfilling any of 14 parameters of exclusion — e.g. motorized vehicle/fishing boat, mechanized agricultural equipment, KCC limit over Rs. 50,000, etc.
SIMPLYHouseholds obviously well-off are removed from the deprivation list.
E.G.A household owning a motorised vehicle or mechanised farm equipment is excluded.
Automatically Included
Households satisfying inclusion criteria — any one of 5 acute social destitution parameters, viz. primitive tribal groups, released bonded labour, those living on alms, manual scavengers, or households without shelter.
SIMPLYHouseholds in extreme destitution are automatically included for benefits.
E.G.A household of released bonded labour is included without further tests.
Others
Ranked on the basis of 7 indicators of deprivation:
- Households with kutchha house
- No adult member in working age
- Female-headed households
- Households with differently-abled members
- Households with no literate over 25 years
- SC/ST households
- Landless households engaged in manual labour
SIMPLYAll other households are ranked by deprivation indicators.
E.G.A household with a kutcha house and no working-age adult is more deprived and ranks higher for benefits.
NOTE
The Government has used SECC data to identify beneficiary households while implementing social welfare programmes, including Pradhan Mantri Awas Yojana-Gramin, Deendayal Antyodaya Yojana-National Rural Livelihood Mission, Pradhan Mantri Jan Arogya Yojana-Ayushman Bharat, Pradhan Mantri Sahaj Bijli Har Ghar Yojana, and Pradhan Mantri Ujjwala Yojana.
Multidimensional Poverty Index (MPI)
IN SIMPLE WORDS
MPI measures poverty beyond income: health, education and living standards. A household is poor if it is deprived in enough of these indicators.
EXAMPLEA family above the income line, but without a toilet, electricity or a child attending school, can still be counted as MPI-poor.
Launched in 2010 by the United Nations Development Program (UNDP) and the Oxford Poverty and Human Development Initiative (OPHI), the MPI measures multidimensional poverty covering more than 100 developing countries.
It goes beyond income as the sole indicator of poverty, and tracks deprivation across three dimensions and 10 indicators:
Child Mortality
Weight: 1/6
SIMPLYMPI health indicator: child mortality (weight 1/6).
E.G.A household where a child has died in the recent past is counted as deprived.
Nutrition
Weight: 1/6
SIMPLYMPI health indicator: nutrition (weight 1/6).
E.G.A household where an adult or child is undernourished is deprived.
Years of Schooling
Weight: 1/6
SIMPLYMPI education indicator: years of schooling (1/6).
E.G.A household where no member has completed six years of schooling is deprived.
School Attendance
Weight: 1/6
SIMPLYMPI education indicator: school attendance (1/6).
E.G.A household where a school-age child is not in school is deprived.
Cooking Fuel
Weight: 1/18
SIMPLYMPI living standard: cooking fuel (1/18).
E.G.Cooking with dung, wood or charcoal rather than LPG makes a household deprived.
Sanitation
Weight: 1/18
SIMPLYMPI living standard: sanitation (1/18).
E.G.A household without an improved toilet is deprived.
Drinking Water
Weight: 1/18
SIMPLYMPI living standard: drinking water (1/18).
E.G.A household without safe drinking water close by is deprived.
Housing
Weight: 1/18
SIMPLYMPI living standard: housing (1/18).
E.G.A house with a mud floor or rudimentary walls and roof is deprived.
Electricity
Weight: 1/18
SIMPLYMPI living standard: electricity (1/18).
E.G.A household with no electricity is deprived.
Assets
Weight: 1/18
SIMPLYMPI living standard: assets (1/18).
E.G.A household without basic assets such as a TV, phone, refrigerator or bicycle is deprived.
- A person is multi-dimensionally poor if deprived in one third or more (33% or more) of the weighted ten indicators.
- Those deprived in one half or more of the weighted indicators are considered to be living in extreme multidimensional poverty.
- The MPI ranges from 0 to 1, with higher values implying higher poverty. It is the product of the incidence of poverty (proportion of poor people) and the intensity of poverty (average deprivation score of poor people).
Government's Approach to Poverty Reduction
IN SIMPLE WORDS
India's approach shifted over time: from relying on growth to reach the poor (trickle down), to creating assets and jobs, to providing basic minimum services directly.
EXAMPLEBuilding factories and hoping the gains reach the poor is trickle-down. MGNREGA wages and PDS foodgrains reach them directly.
Growth-Oriented Approach
Major focus of planning in the 1950s and early 1960s — expectation that a rapid increase in GDP and per capita income would trickle down and spread to all sections of society (Trickle Down Theory). Did not produce the desired outcome.
SIMPLYThe early approach: grow GDP and trust the benefits to trickle down.
E.G.Build factories and dams, expecting jobs and income to spread to the poor.
Asset Creation & Work Generation
Initiated from the Third Five Year Plan (1961-66), progressively enlarged since. Launched programmes for self-employment opportunities for the unemployed — e.g. Rural Employment Generation Programme (REGP), Prime Minister's Rozgar Yojana (PMRY), Swarna Jayanti Shahari Rozgar Yojana. Recent initiatives: Deendayal Antyodaya Yojana (DAY-NRLM/NULM), MGNREGA.
SIMPLYDirect programmes to create jobs and assets for the poor.
E.G.A rural family gets a loan to buy a cow, or wage work under MGNREGA.
Provision for Minimum Basic Amenities
Traced from the Fifth Five Year Plan onwards — provision of food grains at subsidised rates, education, health, water supply, and sanitation. Major programmes: Public Distribution System, Integrated Child Development Scheme, Midday Meal Scheme. Recent initiatives: NFSA, Pradhan Mantri Jan-Dhan Yojana.
SIMPLYProvide basic needs directly.
E.G.A ration shop sells rice at a low price, a free school provides education, and a village gets safe drinking water.
NOTE
A 'Task Force on Elimination of Poverty in India' was constituted under the chairmanship of Dr. Arvind Panagariya (then Vice Chairman, NITI Aayog). It submitted its report in 2016, recommending faster poverty reduction through employment-intensive sustained rapid growth and effective implementation of anti-poverty programmes.
Inequality
IN SIMPLE WORDS
Inequality is about how unevenly income or wealth is shared. The Gini coefficient summarises it, where 0 is perfect equality and 1 is complete inequality. The Lorenz curve shows it graphically.
EXAMPLEIf everyone in a village earns ₹10,000, Gini = 0. If one person earned everything, Gini would be 1.
Inequality — the state of not being equal, especially in status, rights, and opportunities — is a concept central to social justice. Economic inequality, mostly meaning income inequality, refers to the extent to which income or wealth is evenly (or unevenly) distributed within a population.
Gini Coefficient is a statistical measure of economic inequality in a population, based on the Lorenz Curve — which plots percentiles of the population on the horizontal axis, and corresponding cumulative income or wealth on the vertical axis.
Gini Coefficient = Shaded Area A / Total Area BCDThe coefficient varies between 0 and 1, with 0 representing perfect equality and 1 representing perfect inequality (i.e. one person earns all the income or holds all the wealth).
Inequality in India — Oxfam Report (2020)
Other Measures of Inequality
Income Quintile Ratio
Ratio of the average income of the richest 20% of the population, to the average income of the poorest 20%.
SIMPLYAverage income of the richest 20% divided by that of the poorest 20%.
E.G.If the richest 20% average ₹100 and the poorest 20% average ₹10, the ratio is 10.
Palma Ratio
Ratio of the richest 10% of the population's share of gross national income, to that of the poorest 40%.
SIMPLYIncome share of the top 10% divided by that of the bottom 40%.
E.G.If the top 10% earn 40% of national income and the bottom 40% earn 10%, the Palma ratio is 4.
Kuznets Curve
Provides a way to study the relationship between inequality and economic growth. It says that as the economy grows, inequality increases in the beginning, and then decreases with further growth.
As per Kuznets' hypothesis, economic growth from the creation of better products usually boosts the income of workers and investors who participate in the first wave of innovation — industrialisation of an agrarian economy being a common example. This inequality tends to be temporary, as workers and investors initially left behind soon catch up, by helping offer the same or better products, improving their own incomes.
Causes, Impact & Measures to Reduce Inequality
IN SIMPLE WORDS
Inequality has causes (uneven growth, tax evasion, weak welfare delivery) and costs (poorer access to health and education, social tension). Policy responses include progressive taxes and public services.
EXAMPLEFree school meals and scholarships help poor children build skills, which weakens the link between a family's income and a child's future.
Causes of Inequality
- Inequitable and uneven distribution of economic growth.
- Tax avoidance and evasion.
- Rural job schemes and PDS performing far below their potential.
- Liberalization and deregulation of labour and product markets.
SIMPLYUneven growth, tax evasion, weak delivery of welfare schemes and market deregulation widen the gap.
E.G.A tech boom raises incomes of a few in a city, while a nearby village sees no change.
Impact of Inequality
- Increases relative poverty.
- Impacts poor citizens' access to education and healthcare.
- Erodes social cohesion, leads to political polarization, and ultimately lowers economic growth.
- Drives growth by allowing entrepreneurs to enjoy the rewards of their risk-taking.
SIMPLYInequality raises relative poverty and weakens access to health and education.
E.G.A poor child leaves school to work, which keeps the family poor for another generation.
Measures to Reduce Inequality
- Progressive taxation policy.
- Social security measures — pensions, subsidised foodgrains through PDS, etc.
- Provision for minimum wage rates.
- Provision of free-of-cost education and health services.
- Gender budgeting.
- Encouraging labour-intensive sectors that create more jobs, etc.
SIMPLYProgressive taxes, social security, minimum wages and public services reduce inequality.
E.G.Higher taxes on high incomes fund pensions and school meals for the poor.
ECONOMY CLASSES
India & International Institutions
After the Great Depression of the 1930s, there was a need to establish a framework for economic cooperation and development that would lead to a more stable and prosperous global economy. An international conference of 44 nations was held at Bretton Woods, New Hampshire, USA, in July 1944 — leading to the formation of the Bretton Woods Twins: the IMF and the World Bank.
International Monetary Fund (IMF)
IN SIMPLE WORDS
The IMF supports countries facing balance of payments trouble, mostly short-term, and promotes monetary cooperation. Loans usually come with policy conditions.
EXAMPLEIn 1991 India faced a severe foreign exchange shortage and took IMF support along with reforms. Think of the IMF as an emergency doctor for the payments system.
- Created in 1945.
- A specialized agency of the United Nations.
- 190 countries. India is a founder member of the IMF.
- Washington, D.C.
Governance Structure
Board of Governors
Every member country delegates a representative — usually heads of central banks or ministers of finance.
SIMPLYThe IMF's top body, with one representative per member country.
E.G.India's governor at the IMF is the Finance Minister.
Executive Board
Entrusted with the management of day-to-day policy decisions. Comprises 24 executive directors.
SIMPLYRuns the IMF day to day, with 24 directors.
E.G.It approves a loan programme for a country facing a balance of payments crisis.
Managing Director
Head of the IMF, elected by the Executive Board for a 5-year term of office.
SIMPLYThe head of the IMF, elected by the Executive Board for 5 years.
E.G.The Managing Director functions like the chief executive.
Primary Aims
- Promote international monetary cooperation.
- Facilitate the expansion and balanced growth of international trade.
- Promote exchange stability.
- Assist in the establishment of a multilateral system of payments.
- Make resources available (with adequate safeguards) to members experiencing balance-of-payments difficulties.
Ensuring Stability of the Global Monetary System
- Bilateral surveillance: On a regular basis, usually once a year, the IMF conducts in-depth appraisals of each member country's economic situation.
- Multilateral surveillance: Carries out extensive analysis of global and regional economic trends.
- Lending to countries with balance-of-payments difficulties.
- Giving practical help to members to modernise their economic policies and institutions.
IMF Quotas
IN SIMPLE WORDS
A quota is a member's share in the IMF: it sets how much money it contributes, how many votes it has and how much it can borrow.
EXAMPLELike shares in a company: a bigger economy has a bigger quota, contributes more and has more voting power.
Quotas are the capital subscriptions that each member country contributes to the IMF, broadly based on the relative position of the member country in the world economy.
Weighted average of GDP (50%) + Openness (30%) + Economic Variability (15%) + International Reserves (5%)Resource Contributions
Quotas determine the maximum amount of financial resources a member is obliged to provide to the IMF.
SIMPLYQuotas determine how much money a member has to contribute.
E.G.A larger economy contributes more to the IMF's resources.
Voting Power
A key determinant of voting power in IMF decisions. Members get one vote per SDR 100,000 of quota, plus basic votes (same for all members).
SIMPLYVotes depend on quota: one vote per SDR 100,000, plus basic votes for all.
E.G.A member with a quota of SDR 10 billion gets 100,000 quota votes plus the basic votes.
Access to Financing
Quotas determine the maximum amount of loans a member can obtain from the IMF under normal access.
SIMPLYQuotas set the limit on how much a member can borrow.
E.G.If the access limit is 150% of quota, a member with quota 100 can borrow up to 150 (illustrative).
SDR Allocations
Quotas determine a member's share in a general allocation of SDRs.
SIMPLYNew SDRs are distributed in proportion to quotas.
E.G.In the 2021 allocation, richer and larger members received more SDRs because of bigger quotas.
Voting Power — By Quota Share
Special Drawing Rights (SDR)
IN SIMPLE WORDS
SDRs are IMF-created reserve assets valued by a basket of currencies, with weights reflecting each currency's role in trade and finance.
EXAMPLEA country short of dollars can exchange its SDRs for dollars or euros through the IMF's arrangements.
An interest-bearing international reserve asset, which can be exchanged for freely usable currencies. Created by the IMF in 1969. SDRs are allocated to members in proportion to their quota subscriptions.
SDR Basket Composition
CRITERIA FOR INCLUSION IN THE SDR BASKET
The member must be one of the top five exporters in the world, and its currency must be determined to be "freely usable" by the IMF.
Lending by IMF
The total amount a country is entitled to draw is determined by the amount of its quota.
'Gold Tranche' or 'Reserve Tranche':
- The borrowing of the first 25% of the member's quota.
- Can be easily drawn by countries with BOP problems.
- No conditions are attached to such drawings.
- No interest is required for the first credit tranche.
- Repayment must be made within a 3–5 year period.
Beyond the reserve tranche, credit is available with limits on its amount, and is subject to IMF approval.
IMF Publications
External Sector Report
SIMPLYAn IMF report assessing global imbalances such as current accounts and exchange rates.
E.G.It says whether a country's large deficit looks excessive.
Global Financial Stability Report
SIMPLYAn IMF report on the stability of global financial markets.
E.G.It warns of risks like asset bubbles and bank stress.
World Economic Outlook
SIMPLYIMF's forecasts for world growth, published in April and October.
E.G.Newspapers cite it when saying 'the IMF expects India to grow at x%'.
Fiscal Monitor
SIMPLYA report on government budgets and public debt worldwide.
E.G.It compares deficits and debt levels across countries.
World Bank (WB)
IN SIMPLE WORDS
The World Bank funds long-term development. IBRD lends to middle-income countries; IDA gives low-cost loans to the poorest.
EXAMPLEA loan for rural roads or a school programme comes from the World Bank. A short-term currency crisis goes to the IMF.
Founded in 1944 as the International Bank for Reconstruction and Development (IBRD), soon called the World Bank. It has expanded into a group of 5 development institutions called the World Bank Group. The term "World Bank" is technically used for two organisations — IBRD and IDA.
Headquarters: Washington, D.C. (USA)
World Bank Group (WBG)
- International Bank for Reconstruction & Development — offers assistance to middle-income and poor, but creditworthy, countries.
- Works as an umbrella for more specialized bodies under the World Bank.
- Was responsible for the reconstruction of post-war Europe.
- International Development Association — founded in 1960.
- Puts greater emphasis on lending to the poorest countries.
- Loans come in the form of "credits" and are essentially interest-free.
- International Finance Corporation — founded in 1956 to promote private sector investments (foreign and local).
- Acts as an investor in capital markets and helps governments privatize inefficient public enterprises.
- Multilateral Investment Guarantee Agency — offers insurance against the political risk (turmoil or instability) that an investment in a developing country may bear.
- International Centre for Settlement of Investment Disputes — facilitates settlement of disputes between a foreign investor and a local country.
- India is not a member of ICSID.
MEMBERSHIP
To become a member, a country must first join the IMF. Membership in IDA, IFC, and MIGA is conditional on membership in IBRD.
Organisation Structure: The World Bank Group is governed through Boards of Governors and Boards of Executive Directors. The President of the World Bank comes from the largest shareholder (United States), and members are represented by a Board of Governors.
International Banks
IN SIMPLE WORDS
Regional and multilateral banks finance development in specific regions. They differ in membership, headquarters and focus.
EXAMPLEADB (Manila) focuses on Asia-Pacific; AIIB focuses on infrastructure; the New Development Bank was set up by BRICS countries.
Asian Development Bank (ADB)
Established in 1966 to foster economic growth and co-operation in the Asia and Far East region. Owned by 68 members, of whom 49 are from the Asian region. An official UN Observer.
Headquarters: Manila, Philippines
Organisation Setup
President
Also the Chairperson of ADB's Board of Directors. Elected by ADB's Board of Governors.
SIMPLYThe ADB's president is elected by its Board of Governors and chairs the Board of Directors.
E.G.The ADB has traditionally had a Japanese president.
Board of Governors
ADB's highest policy-making body — comprises one representative from each member nation.
SIMPLYADB's highest policy-making body, with one representative per member.
E.G.Governors meet at an annual meeting to review the bank's direction.
Board of Directors
The Governors elect 12 members to form the Board of Directors.
SIMPLYA 12-member board elected by the governors.
E.G.It oversees the bank's operations and approves loans.
New Development Bank (NDB)
- Founded by the BRICS nations (Brazil, Russia, India, China, and South Africa).
- Formed at the 6th BRICS Summit (Fortaleza, Brazil) in 2014.
- Initial authorized capital: US$ 100 billion.
- 1st chair of the Board of Governors: Russia. 1st chair of the Board of Directors: Brazil. 1st President of the Bank: India.
Headquarters: Shanghai, China
Function: To support infrastructure and sustainable development efforts in BRICS and other underserved, emerging economies, for faster development through innovation and cutting-edge technology.
Asian Infrastructure Investment Bank (AIIB)
- A multilateral development bank focused on developing Asia, but with members from all over the world.
- Established by the AIIB Articles of Agreement.
- Members: 109 countries.
Headquarters: Beijing, China
Board of Governors
Consists of one Governor and one Alternate Governor, appointed by each member country.
SIMPLYAIIB's top body, with one governor and one alternate from each member.
E.G.Each member country appoints its representative.
Board of Directors
Responsible for the direction of the Bank's general operations, and exercising all powers delegated to it by the Board of Governors.
SIMPLYAIIB's board that directs general operations under powers delegated by the governors.
E.G.It reviews and approves infrastructure loans, such as for a metro or power project.
Other International Banks
- A financial provider to African governments and private companies investing in regional member countries (RMC). Founded in 1964.
- Members: 81. India is a member.
- Headquarters: Abidjan, Côte d'Ivoire.
- Initially focused on the former Eastern Bloc; later expanded support to over 30 countries from Central Europe to Central Asia. Founded in 1991.
- Members: 71. India joined as the 69th member in 2018.
- Headquarters: London, United Kingdom.
- Focused on Islamic finance. Saudi Arabia is the largest shareholder. Founded in 1975.
- Members: 57. India is not a member.
- Headquarters: Jeddah, Saudi Arabia.
- Also known as Corporación Andina de Fomento – Banco de Desarrollo de América Latina. Founded in 1968.
- Members: 21. India is not a member.
- Headquarters: Caracas, Venezuela.
ECONOMY CLASSES
The WTO
The World Trade Organization (WTO) is the only global international organization dealing with the rules of trade between nations. At its heart are the WTO agreements, negotiated and signed by the bulk of the world's trading nations and ratified in their parliaments. The goal is to ensure that trade flows as smoothly, predictably, and freely as possible.
Fact File
IN SIMPLE WORDS
The WTO is the global body for rules of trade between nations. It is a forum for negotiations and a referee for disputes.
EXAMPLEIf one member believes another's trade measure breaks the rules, it can bring the dispute to the WTO instead of retaliating.
- Geneva, Switzerland
- 1 January 1995
- Uruguay Round negotiations (1986–94)
- 164 members, representing 98% of world trade
- 197 million Swiss Francs for 2020
- 623
- Ngozi Okonjo-Iweala
Functions
- Administering WTO trade agreements.
- Forum for trade negotiations.
- Handling trade disputes.
- Monitoring national trade policies.
- Technical assistance and training for developing countries.
- Cooperation with other international organizations.
MEMBERS & OBSERVERS
The WTO has 164 members, accounting for 98% of world trade. A total of 25 countries are currently negotiating membership.
Evolution of the WTO
IN SIMPLE WORDS
The WTO replaced GATT in 1995. GATT covered trade in goods; the WTO also covers services and intellectual property, and has a stronger dispute system.
EXAMPLEGATT began as a temporary 1947 arrangement after the planned International Trade Organization failed, and lasted until the WTO took over.
The WTO's creation on 1 January 1995 marked the biggest reform of international trade. It also brought to reality — in an updated form — the failed 1948 attempt to create an International Trade Organization. Over the years, GATT's efforts to reinforce and extend the multilateral system resulted in the Uruguay Round, culminating in the Marrakesh Declaration and the creation of the WTO.
The GATT Years
GATT — 23 countries. Subject covered: Tariffs.
Dillon Round — 26 countries. Subject covered: Tariffs.
Kennedy Round — 62 countries. Subjects: Tariffs & Anti-dumping measures.
Tokyo Round — 102 countries. Subjects: Tariffs & Non-tariff measures, "Framework" agreements.
Uruguay Round — 123 countries. Subjects: Tariffs, non-tariff measures, services, intellectual property, dispute settlement, creation of WTO, etc.
WTO founded — the Marrakesh Declaration.
WTO Secretariat
- Based in Geneva, headed by a Director-General.
- Main duties: supplying technical support for the various councils/committees/ministerial conferences, and analysing world trade.
Note: The Secretariat does not itself have a decision-making role.
Accessions
To join the WTO, a government has to bring its economic and trade policies in line with WTO rules, and negotiate its terms of entry with the WTO membership.
Decision Making of the WTO
IN SIMPLE WORDS
WTO decisions are normally made by consensus: no member must object. This gives every member a voice but makes agreement slow.
EXAMPLEIt is like a family choosing a holiday: all must agree. That is partly why the Doha Round got stuck.
The WTO is a member-driven, consensus-based organization. All major decisions are made by its members. A majority vote is also possible, but it has never been used. The WTO's agreements have been ratified by all members' parliaments.
Institutional Structure
Council for Trade in Goods
SIMPLYThe WTO council that oversees agreements on trade in goods.
E.G.It reviews complaints about tariffs on steel or rice.
Council for TRIPS
Trade-Related Aspects of Intellectual Property Rights.
SIMPLYThe council that oversees intellectual property rules (TRIPS).
E.G.It discusses patent protection for medicines and software.
Council for Trade in Services
SIMPLYThe council that oversees the services agreement (GATS).
E.G.It looks at rules for banking, telecom and education services across borders.
Trade Negotiations Committee
Oversees Doha Development Agenda negotiations.
SIMPLYThe committee that runs the Doha Round negotiations.
E.G.It tracks talks on farm subsidies and industrial tariffs.
Beneath these sit numerous specialised Committees (Trade and Environment, Trade and Development, LDCs, Regional Trade Agreements, Balance of Payments Restrictions, Budget/Finance/Administration, Agriculture, Anti-Dumping, Customs Valuation, Import Licensing, Market Access, Rules of Origin, Safeguards, SPS, Subsidies & Countervailing Measures, TBT, Trade Facilitation, TRIMs, State Trading Enterprises, and more), plus Working Parties (on Accession) and Working Groups (on Trade and Technology Transfer).
Basic Principles of the Trading System
IN SIMPLE WORDS
Two core ideas prevent discrimination. MFN: a favour given to one member goes to all. National treatment: imports are treated like domestic goods once inside.
EXAMPLEIf India lowers its tariff on one member's cars, MFN says it must offer the same to all. After import, a foreign soap cannot be taxed more than a local soap.
Trade Without Discrimination
Most Favoured Nation and National Treatment.
SIMPLYTreat trading partners equally: MFN between countries, national treatment between foreign and local goods.
E.G.A country cannot favour one supplier over another, nor tax foreign goods more than its own after import.
Encouraging Development & Reform
More beneficial for less developed countries — giving them more time to adjust, greater flexibility, and special privileges.
SIMPLYDeveloping countries get more time and flexibility.
E.G.A developing country gets a longer period to implement a new rule.
Promoting Fair Competition
Discouraging "unfair" practices such as export subsidies and dumping products.
SIMPLYDiscourage unfair practices such as export subsidies and dumping.
E.G.A country selling goods abroad below cost can face anti-dumping duty.
Predictability
Through binding and transparency.
SIMPLYMembers bind their tariffs and publish their rules, so traders know what to expect.
E.G.If India binds a tariff at 40%, it cannot raise it to 50% without negotiating.
Free Trade
Gradually, through negotiation — lowering tariff and non-tariff barriers through "progressive liberalization."
SIMPLYBarriers come down gradually through negotiation.
E.G.A tariff is cut from 20% to 15% to 10% over several years.
Most-Favoured Nation (MFN)
Non-discriminatory treatment between products of WTO Members. Exceptions include special access under FTAs, special access for developing countries, and protection against unfair trade practices.
SIMPLYGive every member the best treatment you give any one member.
E.G.If India cuts duty on Japanese cars to 20%, it must offer the same to other members, except where exceptions like FTAs apply.
National Treatment
Non-discriminatory treatment between imported and domestic products. Applies only once a product/service/IP item has entered the market — so charging customs duty on an import is not a violation of national treatment.
SIMPLYTreat imports like local goods once they are inside the market.
E.G.After customs duty is paid, an imported soap cannot face a higher sales tax than a local one.
Timeline of Ministerial Conferences
IN SIMPLE WORDS
Ministerial conferences are the WTO's top decision-making forum, held about every two years. Each is remembered for its host city and its main outcome.
EXAMPLEDoha (2001) launched the Doha Development Agenda; Bali (2013) is linked with the Peace Clause on food stockholding.
Singapore, 9–13 December.
Geneva, 18–20 May.
Seattle, 30 November – 3 December.
Doha, 9–13 November — DDA, NAMA taken up: Public stockholding, Special & Differential Treatment, Compulsory licensing, etc.
Cancun, 10–14 September.
Hong Kong, 13–18 December.
Geneva, 15–17 December.
Bali, 3–6 December — key takeaway: the Peace Clause.
Nairobi, 15–19 December.
Buenos Aires, 10–13 December — the Eleventh Ministerial Conference; TFA signed.
Geneva, 12–17 June — the 12th Ministerial Conference; "Geneva package" adopted.
Abu Dhabi, UAE, 26–29 February — the 13th Ministerial Conference.
Doha Development Agenda (DDA)
IN SIMPLE WORDS
The Doha Round was meant to make trade rules fairer for developing countries, but has stalled. Rich and poor members disagree on farm subsidies, market access and special treatment.
EXAMPLEDeveloped countries want developing countries to open up more; developing countries want developed countries to cut farm subsidies. Neither gives way.
The Doha Round of trade negotiations, which began in 2001, remains unfinished due to differences among members — "The Doha Deadlock."
G20 (incl. India & Brazil)
Seeking greater market access to industrial products and services.
SIMPLYA coalition of developing countries bargaining together, so their voice is stronger.
E.G.India and Brazil argue for their interests in farm and industrial goods through this group.
EU
Wants lowering of agricultural tariffs.
SIMPLYEach bloc bargains for its own interests. The EU wants lower agricultural tariffs.
E.G.The EU asks others to reduce duties on its farm products.
US
Wants deeper cuts in domestic agricultural subsidies, and accepting lower EU market access.
SIMPLYThe US wants deeper cuts in others' domestic farm subsidies.
E.G.This clash of interests is why Doha talks stalled.
Trade Facilitation Agreement (TFA)
An agreement for expediting the movement, transit, release, and clearance of goods, to enhance global trade. It needed ratification by two-thirds of WTO membership (110 members) to enter into force — this was reached on 22 February 2017, with 112 members.
Background — the TFA addresses:
- Bureaucratic inefficiencies and red tape.
- Unnecessary costs and delays for traders.
- High cost of trade.
- Restriction on global trade growth.
NAMA (Non-Agricultural Market Access)
Refers to all products not covered by the Agreement on Agriculture — sometimes called industrial products or manufactured goods. Part of the Doha Development Round negotiations, aiming to reduce both tariffs and non-tariff barriers.
Key WTO Agreements
IN SIMPLE WORDS
The WTO administers many agreements. The key ones cover goods (GATT), services (GATS), intellectual property (TRIPS), agriculture, investment measures and standards.
EXAMPLEUnder TRIPS, a patented medicine is protected for a minimum period (20 years), so others cannot copy it during that time.
The WTO oversees about 60 different agreements which have the status of international legal texts. Some of the most important are covered below.
1. GATT — General Agreement on Tariffs and Trade
Deals with reduction in trade barriers for goods. Covers: Agriculture, health regulations for farm products (SPS), textiles and clothing, product standards (TBT), investment measures, anti-dumping measures, customs valuation methods, rules of origin, import licensing, subsidies and counter-measures, etc.
GATT Exceptions & Waivers
General Exceptions
E.g. measures "necessary" to protect public health, provided their application does not constitute arbitrary or unjustifiable discrimination.
SIMPLYMembers may restrict trade for legitimate reasons such as public health, if they are not arbitrary.
E.G.A country bans an unsafe chemical, whoever supplies it.
Customs Unions & FTAs
Countries offering each other more favourable treatment within a customs union or RTA were allowed to waive full adherence to the MFN clause.
SIMPLYMembers of customs unions and FTAs are allowed to favour each other.
E.G.FTA partners give each other lower tariffs without extending them to all WTO members.
Others
Exceptions related to national security or balance-of-payments problems; waivers permitting a Member to not comply with normal commitments.
SIMPLYOther exceptions cover national security, balance-of-payments problems and waivers.
E.G.A country temporarily restricts imports during a foreign exchange crisis.
2. GATS — General Agreement on Trade in Services
Inspired by the same objectives as GATT. Services negotiations follow a positive list approach. The West is pushing to move to a negative list approach; India opposes this, as it would open almost the whole Indian services sector to Western multinationals.
Mode 1 — Cross-Border Supply
Supply via e-mail/electronic means. E.g. BPO, KPO, LPO services — in India's interest to push for liberalisation, given its large human resource pool and competitive IT industry.
SIMPLYServices sold across borders without anyone travelling.
E.G.An Indian call centre serving a US customer by phone.
Mode 2 — Consumption Abroad
Consumer travels to the supplier's country. E.g. a traveller, or an enterprise buying processing services.
SIMPLYThe consumer travels to the supplier's country.
E.G.A foreign patient comes to India for treatment.
Mode 3 — Commercial Presence
Supplier establishes an affiliate abroad. E.g. Education sector, Medical sector — in the West's interest to push for this mode.
SIMPLYThe supplier sets up a business in the other country.
E.G.A foreign university opens a campus in India.
Mode 4 — Presence of Natural Persons
A self-employed person or other individual travels to supply the service. E.g. visa fees and terms.
SIMPLYAn individual travels to provide a service.
E.G.An Indian software engineer works on-site in the US on a work visa.
3. TRIPS — Trade-Related Aspects of Intellectual Property Rights
Plays a critical role in facilitating trade in knowledge and creativity, and in resolving trade disputes over intellectual property. IP comprises two distinct forms:
- Literary & Artistic Works
- Industrial Property
Contains requirements for national laws on: copyright rights; geographical indications (incl. appellations of origin); industrial designs; integrated circuit layout-designs; patents; monopolies for developers of new plant varieties; trademarks; trade dress; and undisclosed/confidential information.
4. TRIMS — Trade-Related Investment Measures
States that WTO members may not apply any measure that discriminates against foreign products, or that leads to quantitative restrictions — both of which violate basic WTO principles. E.g. local content requirements.
5. Agreement on Agriculture (AoA)
Aims to reform trade in the agriculture sector and make policies more market-oriented. Allows governments to support their rural economies, preferably through policies causing less trade distortion, with some flexibility in how commitments are implemented.
Non-Tariff Measures (NTMs)
Three "Pillars" of the Agreement on Agriculture
Market Access
Tariffs — Tariffication, Reduction Commitments; Tariff Rate Quotas; Special Safeguards. Explicit non-tariff barriers were removed in most cases.
SIMPLYOpening agricultural markets: converting bans into tariffs and cutting them.
E.G.A country replaces an import ban on sugar with a high tariff, and then reduces the tariff over time.
Domestic Support
Green Box, Blue Box, Development Box, Amber Box (De minimis, Commitments).
SIMPLYFarm subsidies sorted into boxes by how much they distort trade.
E.G.Research spending is harmless, while price support tied to output can distort trade.
Export Competition
Export Subsidies; Anti-Circumvention (Food aid, Export credits). May result in dumping of cheap products — safeguards like SSM, SP come into play to avoid this.
SIMPLYLimits on export subsidies and tricks to get around them.
E.G.A government paying exporters to sell wheat cheaply abroad hurts farmers in other countries.
Categories of Domestic Support
Green Box
Exempt from reduction — no/minimal effects on trade or production.
SIMPLYSupport with little or no trade distortion, exempt from cuts.
E.G.Spending on agricultural research or pest control.
Blue Box
Exempt from reduction — production-limiting programmes.
SIMPLYSupport linked to limiting production, exempt from cuts.
E.G.Payments to farmers who agree to cultivate less land.
Development Box (Art. 6.2)
Exempt from reduction — development programmes.
SIMPLYProgrammes to help development in poorer countries, exempt from cuts.
E.G.Input subsidies for low-income farmers in a developing country.
Amber Box
Subject to reduction commitments — De minimis and all other support.
SIMPLYTrade-distorting support that has to be reduced beyond a small allowance (de minimis).
E.G.Price support linked to production quantity.
6. Technical Barriers to Trade Agreement (TBT)
Recognizes countries' rights to adopt standards they consider appropriate, while ensuring that regulations, standards, testing, and certification procedures do not create unnecessary obstacles. Its provisions do not apply to SPS measures.
Voluntary
Standards, and Conformity Assessment Procedures.
SIMPLYVoluntary standards are optional.
E.G.An optional organic quality mark on food.
Mandatory
Technical Regulations — safeguarding Members' right to regulate for legitimate objectives (human health/safety, environment protection, consumer protection, quality).
SIMPLYMandatory technical regulations must be met to sell the product.
E.G.A rule that all toys sold must pass safety tests.
Core aims: avoid unnecessary barriers to international trade, ensure non-discrimination, and encourage use of relevant international standards.
7. Sanitary and Phytosanitary (SPS) Agreement
Came into effect on 1 January 1995 with the establishment of the WTO. A government-to-government interaction, applying only to governmental measures that can affect international trade — concerned with food safety and animal/plant health regulations.
Economic Integration — The Seven Stages
IN SIMPLE WORDS
Integration deepens in steps: preferential trade, free trade area, customs union, common market, economic union, and full integration.
EXAMPLEEarly stages only cut tariffs. Later stages add a common external tariff, free movement of workers and capital, and eventually a common currency.
Economic integration is an arrangement among nations that typically includes the reduction or elimination of trade barriers, and the coordination of monetary and fiscal policies.
- A trading bloc giving preferential access to certain products from participating countries, by reducing (not abolishing) tariffs. First stage of economic integration — a positive list of products on which duty is reduced.
- E.g. Asia-Pacific Trade Agreement (APTA); India-Mercosur PTA.
- Eliminates tariffs, import quotas, and preferences on most (if not all) traded goods and services — only a negative list remains.
- E.g. SAPTA's evolution to SAFTA; ASEAN FTA.
- When countries go beyond an FTA for greater economic integration — improving attractiveness to capital/human resources, and expanding trade and investment.
- CEPA has a wider scope than CECA, as it also includes trade in services and investments.
- Free trade among member countries, plus common external tariffs against non-members.
- E.g. Mercosur, Gulf Cooperation Council (GCC), East African Community (EAC).
- A customs union with common policies on product regulation, and free movement of goods, services, capital, and labour.
- A common market plus a customs union — common product regulation, free movement of goods/services/capital/labour, and a common external trade policy.
- An economic union that also unifies currency. E.g. the Euro.
India and FTAs
IN SIMPLE WORDS
India mixes multilateralism (WTO) with bilateral and regional FTAs. FTAs open partner markets for exports but also open India to cheaper imports.
EXAMPLEAn FTA may cut duty on Indian tea in a partner country. It may also let cheaper partner goods compete with Indian producers.
- India has a long-standing commitment to multilateralism under WTO agreements, but — in line with global trends — has also used FTAs as a key component of its trade and foreign policy.
- India has mainly focused on partnering with other Asian countries, in goods more so than services — e.g. Sri Lanka, Afghanistan, Thailand, Singapore, Bhutan, Nepal, Korea, Malaysia, Japan, and the regional agreements SAFTA and ASEAN.
- More recently, India has signed 3 FTAs: India-Mauritius CECPA (implemented 2022), India-UAE CEPA (implemented 2022), and India-EFTA FTA (expected 2025).
Spaghetti-Bowl Effect / Noodle Bowl Effect
A concept propounded by trade economist Prof. Jagdish Bhagwati — he argues that having so many FTAs, each with differential tariff rates, rules, and procedures, leads to complexity and discriminatory trade policy, and results in often contradictory outcomes among bilateral and multilateral trade partners.
Mega-Regionalism
Until recently, FTAs were signed mainly bilaterally and regionally — but lately, PTAs have begun to transcend into mega-regional agreements encompassing a large share of world GDP and trade. E.g. TPP, TTIP (Trans-Atlantic Trade and Investment Partnership between the EU and USA).
ECONOMY CLASSES
Industry — Part 1
India's industrial journey — from a state-led, licence-controlled economy in the decades after Independence, to the liberalisation of 1991 and today's index-tracked, sector-specific industrial landscape. This chapter covers every major industrial policy, PSU classification, disinvestment framework, key industrial indices, and major sectors.
Industrial Policies — Pre-Reform Period
IN SIMPLE WORDS
Before 1991, the state controlled industry heavily through licences and public sector reservation. Private firms needed permission to start, expand or change products.
EXAMPLETo increase production capacity, a factory had to get a government licence first. This was the 'licence raj'.
Pre-Reform Industrial Policy Regime — Key Features
- Relied heavily on the public sector for developing infrastructure needs and providing direction.
- Certain strategic areas reserved for the public sector: iron and steel, coal, transport, power, mineral oils, atomic energy, arms and ammunition, and allied defence equipment.
- The state acted as the leading entrepreneur in machine tools, non-ferrous metals, fertilizers, etc.
- The private sector was expected to play a major role, especially in consumer goods provision and building up the small-scale industries sector — controlled through industrial licensing (required for new units and substantial capacity expansion).
- Protectionist Policy — high import tariffs, an 'Import Licence' required for items where domestic substitutes were being produced, and restrictive policies towards foreign investment.
Industrial Policy Resolution (IPR), 1948
Gave the public sector a vast area to operate, laid the foundation of a mixed economy, and divided industries into four broad categories:
Exclusive State Monopoly
Atomic energy, railways, and arms & ammunition.
SIMPLYOnly the state could run these industries.
E.G.Railways were run by the government alone.
Government Control
18 industries of national importance — e.g. fertilizers, heavy chemicals, heavy machinery.
SIMPLYIndustries of national importance where the state would take the lead.
E.G.Fertilisers and heavy machinery plants were set up by the government.
Mixed Sector
Both private and public sector allowed to operate; government could review the situation to acquire any existing private undertaking.
SIMPLYBoth public and private sectors could operate, with the state free to take over later.
E.G.Private and public firms both ran in the same industry.
Private Sector
Industries not covered under any of the above categories.
SIMPLYEverything else was open to private business.
E.G.Textiles and consumer goods.
Industries (Development and Regulation) Act — IDRA, 1951
Gave powers to the government to regulate industry capacity (and hence output) and prices. Main provisions:
Union Control
Brought under Union control the development and regulation of important industries deemed expedient in "public interest."
SIMPLYThe 1951 Act gave the Centre control over the development of important industries.
E.G.A firm needed central permission to start a scheduled industry.
Advisory & Development Councils
Provided for their constitution, to advise the Government on development and regulation of the Scheduled industries (First Schedule of the Act).
SIMPLYThe Act set up councils to advise on industries.
E.G.A council of experts advised the government on steel.
Registration & Licensing
Provided for registration, licensing, and investigation of Scheduled industries — regulating production, distribution and prices, including prohibition on reducing production.
SIMPLYIndustries had to be registered and licensed.
E.G.A factory had to get a licence before producing a new product.
Cess & Takeover
Enabled the Union to levy and collect a cess on Scheduled industries; management of any undertaking could also be taken over.
SIMPLYThe Centre could levy a cess and take over mismanaged units.
E.G.The government takes over a badly run factory to protect workers.
Industrial Policy Resolution, 1956
The state was given the primary role for industrial development, as capital was scarce and entrepreneurship not well developed.
New Classification of Industries:
Schedule A
Monopoly of the state/government — 17 industries. Of these, four (arms & ammunition, atomic energy, railways, air transport) were government monopolies; the remaining thirteen saw all new units established by government/public sector, though existing private units could continue and expand.
SIMPLYState monopoly industries of the 1956 resolution.
E.G.Arms, atomic energy, railways and air transport.
Schedule B
Government-owned, where private enterprises were expected to supplement government efforts. E.g. chemical industries, fertilizers, synthetics, rubber, aluminum.
SIMPLYState-led industries where private firms could supplement.
E.G.Chemicals and fertilisers.
Schedule C
Industries not mentioned in A or B — left to the private sector, but kept under state control through a system of licenses. No new industry was allowed unless a license was obtained from the government.
SIMPLYPrivate industries kept under state control through licences.
E.G.A soap factory needed a licence to expand.
ALSO INCLUDED
Encouragement to small-scale & cottage industries through cheap credit, subsidies, and reservation. Emphasis on reducing regional disparities: fiscal concessions were granted to open industries in backward regions.
- Inquired into the existence and effect of the concentration of economic power in private hands.
- Based on its recommendations, the Monopolies and Restrictive Trade Practices Act (MRTP Act), 1969 was enacted, to control establishment/expansion of industrial units with an asset size above a particular limit.
- Identified high-priority industries where investment from large industrial houses and foreign companies would be permitted.
- Expanded the list of industries reserved for the small-scale sector.
Industrial Policy Statement, 1977
Development of Small-Scale Sector (SSS)
Wide-spread promotional and supportive measures; SSS classified into 3 categories — cottage/household industries (self-employment), tiny sector, and small-scale industries. Specific policy measures for each; considerable expansion of the reserved list for exclusive SSS manufacture.
SIMPLYSupport for small industry: cottage, tiny and small units.
E.G.A handloom weaver (cottage) and a small unit making screws.
Restrictive Approach to Large Business Houses
Large sector allowed only in basic, capital goods and high-tech industries; expected to generate its own finance for new projects/expansion. Financial institution funds to be largely available for small-sector development.
SIMPLYLimits on big business houses.
E.G.A big business house needed special approval to enter many industries.
Expanding Role of the Public Sector
Used not only in strategic areas but also as a stabilizing force for maintaining essential consumer supply. Restrictive policy towards foreign capital, so that majority ownership and effective control rested in Indian hands.
SIMPLYThe public sector took on strategic roles and ensured essential supplies.
E.G.Government-run steel plants and fertiliser factories.
Industrial Policy, 1980
Guided by capital-intensive growth, with employment generation taking a somewhat back seat. Key measures:
- Effective Operational Management of the Public Sector, to re-establish its lost credibility.
- Promotion of Economic Federalism through integrated industrial development, removing divisions between small-scale and large-scale industries.
- Redefining small-scale industries: investment limits raised — tiny sector Rs. 1 lakh to Rs. 2 lakh; small-scale unit Rs. 10 lakh to Rs. 20 lakh; ancillaries Rs. 15 lakh to Rs. 25 lakh.
- Promoting competition in the domestic market, technological upgradation, and modernization — laying the foundation for competitive export-based industries and encouraging foreign investment in high-technology areas.
- Removal of regional imbalances through dispersal of industries to backward, rural, and urban areas.
- Simplified regularisation of unauthorised excess capacity in the private sector (not applicable to firms under MRTP Act and FERA).
- Promoted exports — exemption of export-oriented units from MRTP Act, duty-free import of capital goods and raw materials.
- Genuine sick units were proposed to be merged with healthy ones wherever possible, while deliberate mismanagement would not be tolerated.
Assessment of Pre-1991 Industrial Policies
POSITIVES
- Helped create broad-based infrastructure (power, communications, roads, etc.) and basic industries.
- Achievement of a diverse industrial structure with self-reliance for a large number of items.
- Modern management techniques were introduced.
- An entirely new class of entrepreneurs came up, with support from the Government.
- A large number of new industrial centres were developed in most parts of the country.
SHORTCOMINGS
- The industrial licensing system promoted inefficiency and resulted in a high-cost economy.
- Corruption and rent-seeking, due to considerable discretionary powers in the licensing authorities.
- Resulted in pre-emption of the entry of new enterprises, and adversely affected competition.
New Industrial Policy (NIP), 1991
IN SIMPLE WORDS
The 1991 policy freed the economy: delicensing, fewer industries reserved for the public sector, easier foreign investment and technology, and a role for disinvestment.
EXAMPLEA firm that earlier waited for permission to make scooters could now decide on its own how much to produce, subject to a short negative list.
The liberalized Industrial Policy aimed at rapid and substantial economic growth, and integration with the global economy in a harmonized manner.
Important Elements of NIP, 1991
1. Public Sector De-Reservation & Privatization through Disinvestment
- Reduced the number of industries reserved for the public sector to just three — atomic energy, mining, and railway operations.
- Emphasized bringing down government equity in all non-strategic PSUs to 26 percent or lower.
- Adopted the MoU system to improve the performance of PSUs.
- Many sick public sector units had been referred to the Board for Industrial and Financial Reconstruction (BIFR), for rehabilitation or winding up.
- Introduced VRS to shed surplus manpower in PSUs.
- Disinvestment and privatization of existing PSUs was adopted to improve corporate efficiency, financial performance, and competition amongst PSUs.
SIMPLYAfter 1991, only three industries remained reserved for the public sector.
E.G.Atomic energy, mining (certain minerals) and railway operations.
2. Industrial De-Licensing
- Objective: enable business enterprises to respond to fast-changing external conditions, and enable technological dynamism.
- With a few exceptions, investors were free to set up new industrial enterprises, expand substantially, change the location of an existing enterprise, and manufacture a new product through an already-established enterprise.
SIMPLYLicences were abolished except for a short list.
E.G.A scooter maker can now decide on its own output.
3. Amendment of the MRTP Act, 1969
- Previous restrictions removed regarding prior approval for establishment of a new undertaking, expansion, amalgamation, merger, takeover, and appointment of directors of companies.
- The asset restriction and market-share threshold for defining an MRTP firm were done away with.
- The MRTP Act became applicable to both private and public sector enterprises and financial institutions.
- Today, only restrictive trade practices are monitored and controlled. The MRTP Act has been replaced by the Competition Act, 2002, which aims at upholding competition in the Indian market.
SIMPLYThe MRTP Act was amended to remove prior approvals for expansion or mergers.
E.G.A large company can merge or expand without prior government approval.
Liberalized Foreign Investment Policy
- FERA, 1973 was repealed, and the Foreign Exchange Management Act (FEMA) came into force from June 2000.
- Investment and returns could be freely repatriated, except where approval was subject to specific conditions like lock-in period, foreign exchange neutrality, etc.
- The Foreign Contribution (Regulation) Act, 2010 was enacted to consolidate the law regulating acceptance and utilization of foreign contribution.
- FDI was allowed in all sectors including services, except atomic energy and railway transport.
SIMPLYFERA was replaced by FEMA in 2000, shifting from control to management of foreign exchange.
E.G.A foreign company can bring in capital and send home profits more freely.
Foreign Technology Agreement
- Automatic approvals for technology agreements were allowed for industries within specified parameters.
- Indian companies were free to negotiate the terms of technology transfer with foreign counterparts, per their own commercial judgments.
SIMPLYForeign technology agreements were allowed automatically.
E.G.An Indian firm can sign a technology deal with a foreign company without prior approval.
Dilution of Protection to SSIs, Emphasis on Competitiveness
- The number of items reserved exclusively for small industry manufacturing was gradually brought down.
- Concession elements in lending rates for small industry were largely withdrawn during the 1990s.
- The number of products reserved for exclusive government purchase from small industries was also reduced.
- Measures adopted to improve technology and export capabilities of SSIs.
SIMPLYSmall industries lost some protection and were encouraged to be competitive.
E.G.Items once reserved for small units were opened up to larger firms.
Organised and Unorganised Sector
IN SIMPLE WORDS
The organised sector has formal enterprises with regulation, regular pay and benefits. The unorganised sector is small, informal and has little security.
EXAMPLEA garment factory with hundreds of employees is organised. A neighbourhood tailor with two helpers is unorganised.
Public Sector Undertakings in India
IN SIMPLE WORDS
PSUs are government-owned enterprises. The government gives some of them greater autonomy (Maharatna, Navratna, Miniratna) based on performance.
EXAMPLEA Maharatna company can make larger investment decisions on its own, without taking every decision to a ministry.
There were 389 Central Public Sector Enterprises under the administrative control of various Ministries/Departments, as on 29.2.2024. Government endeavours to make CPSEs autonomous, board-managed companies — the Board of Directors enjoys autonomy in recruitment, promotion, and other service conditions of below-board-level employees. Enhanced powers have been granted to profit-making enterprises under the Maharatna, Navratna, and Miniratna schemes.
Maharatna Scheme
Empowers big-sized CPSEs to expand operations and emerge as global giants.
10 Maharatna CPSEs: Bharat Heavy Electricals Ltd., Bharat Petroleum Corp. Ltd., Coal India Ltd., GAIL India Ltd., Hindustan Petroleum Corp. Ltd., Indian Oil Corp. Ltd., NTPC Ltd., Oil & Natural Gas Corp. Ltd., Power Grid Corp. of India Ltd., and Steel Authority of India Ltd.
SIMPLYMaharatna is the top tier for big CPSEs, with greater investment powers.
E.G.A Maharatna company like BHEL can decide larger investments without ministerial approval.
Navratna Scheme
Identifies CPSEs with comparative advantages and supports their drive to become global giants. Boards get enhanced powers over: capital expenditure; investment in joint ventures/subsidiaries; mergers & acquisitions; human resources management.
SIMPLYNavratna firms get enhanced powers over capital spending and joint ventures.
E.G.A Navratna board can approve capital spending up to a limit by itself.
Miniratna Scheme
Government grants enhanced autonomy and delegation of financial powers to other profit-making companies, subject to certain eligibility conditions and guidelines, to make them efficient and competitive.
SIMPLYMiniratna is for profit-making PSUs with smaller autonomy.
E.G.A profitable PSU can start projects up to a set limit without government clearance.
Eligibility Criterion
Privatisation of Public Sector Enterprises
IN SIMPLE WORDS
Disinvestment means the government sells part of its stake in a PSU. In strategic sale, management control is also transferred.
EXAMPLESelling 10% of a PSU's shares to the public raises money while the government keeps control. Air India's sale to Tata was a strategic sale where management moved too.
Owing to several shortcomings, the functioning of the public sector has often been questioned. Privatization of some PSUs was advocated, and disinvestment was the process through which it could take place.
Rationale Behind Disinvestment
Proceeds of Disinvestment
National Investment Fund (NIF)
Created in 2005 — all proceeds from disinvestment of CPSEs were to be channelized into this fund. 75% of the fund is used in social sector schemes, while 25% is utilized in the revival of PSUs. This rule was relaxed during the global economic slowdown — the government approved 100% NIF income utilization for the social sector from 2009 to 2013.
Proceeds of NIF can further be utilized for:
- Subscribing to shares issued by the CPSE, including PSBs and Public Sector Insurance Companies, on a rights basis — ensuring the Government's 51% ownership is not diluted.
- Preferential allotment of shares to promoters as per SEBI (ICDR) Regulations, 2009, so Government shareholding doesn't fall below 51% when raising fresh equity for Capex.
- Recapitalization of public sector banks and insurance companies.
- Investment by Government in RRBs/IIFCL/NABARD/Exim Bank.
- Equity infusion in various Metro projects.
- Investment in Bhartiya Nabhikiya Vidyut Nigam Ltd. and Uranium Corporation of India Ltd.
- Investment in Indian Railways towards capital expenditure.
The role of advising the government on utilizing disinvestment proceeds, from the Department of Investment and Public Asset Management (DIPAM), has been given to the Department of Economic Affairs.
National Investment and Infrastructure Fund (NIIF)
NIIF is different from NIF.
- India's first sovereign wealth fund — seeks to create long-term value for domestic and international investors seeking investment in greenfield, brownfield, and stalled infrastructure projects.
- Invests only in commercially viable projects, which can pay back returns.
- Registered with SEBI as a Category II Alternative Investment Fund, with a planned corpus of Rs. 40,000 crore.
- Run as a professional body with a full-time CEO, but overseen by a governing Council headed by the Finance Minister.
Key Indices Related to the Industrial Sector
IN SIMPLE WORDS
IIP tracks industrial output volume against a base. Core industries are the eight infrastructure-linked industries that feed others.
EXAMPLEIf IIP this April is 140 and last April was 130, industrial output grew about 7.7%.
Index of Industrial Production (IIP)
Tracks the change in volume of production of Indian industries — a basket of industrial products is assigned different weights to create an index; monthly values are compared with the same month last year to arrive at the growth rate, which signals India's industrial health (or lack thereof). Classified two ways:
Sectoral Composition
Manufacturing (78%), Mining (14%), Electricity (8%).
SIMPLYIIP is mostly manufacturing (78%), then mining (14%) and electricity (8%).
E.G.A rise in factory output moves the IIP the most.
Use-Based
Primary Goods (34%), Intermediate Goods (17%), Consumer Non-Durables (15%), Consumer Durables (13%), Infrastructure Goods (12%), Capital Goods (8%).
SIMPLYIIP is also classified by how goods are used.
E.G.Primary goods (34%) such as coal, versus consumer durables like TVs.
- Measures short-term changes.
- Compiled and published monthly by the Central Statistics Office, under the Ministry of Statistics and Programme Implementation.
- Manufacturing, Mining, and Electricity are the three broad constituents of IIP.
- Base year is 2011-12.
- Primary Goods: mining, electricity, fuels, fertilisers.
- Capital Goods: e.g. machinery items.
- Intermediate Goods: e.g. yarns, chemicals, semi-finished steel items.
- Infrastructure Goods: e.g. paints, cement, cables, bricks and tiles, rail materials.
- Consumer Durables: e.g. garments, telephones, passenger vehicles.
- Consumer Non-Durables: e.g. food items, medicines, toiletries.
NOTE
IIP witnessed a contraction over a base that contracted in FY20. The maximum contraction is happening in manufacturing and mining — the two sectors most crucial for creating new jobs.
IIP Growth Rates — Sectoral
IIP Growth Rates — Use-Based
Index of Eight-Core Industries
Eight core industries supporting infrastructure — coal, crude oil, natural gas, refinery products, fertilizers, steel, cement, and electricity — have a total weight of nearly 40% in the IIP.
Maximum weightage: Refinery Products (28.04%). Least weightage: Fertilizers (2.63%).
Released by the Office of the Economic Adviser, DPIIT, Ministry of Commerce and Industry.
PMI — Purchasing Managers' Index
The Manufacturing PMI is a diffusion index incorporating survey results from manufacturing firms across the country. A reading above 50 suggests the manufacturing sector is expanding; below 50 suggests contraction.
Different Industrial Sectors
IN SIMPLE WORDS
Each major industry has its own story and policy push. Steel, for example, is the 'mother industry' because construction and manufacturing rely on it.
EXAMPLEMore roads, buildings and vehicles mean more steel demand, which lifts many other industries.
Steel — Key Facts
India is the second-largest steel producer globally after China, and the 2nd largest consumer of finished steel. Steel is a deregulated sector — the Government does not set annual production targets.
Mission Purvodaya: aims at accelerated development of eastern India through an integrated steel hub in Kolkata, encompassing Odisha, Jharkhand, Chhattisgarh, West Bengal, and northern Andhra Pradesh — raising the eastern region's contribution to total steel production from 70% to 87%.
National Steel Policy 2017: aims for production capacity of 300 million tonnes by 2030-31 (~200 MT from the five eastern states); raise per capita steel consumption to 160 kg by 2030 (from ~60 kg); emphasis on R&D via the Steel Research and Technology Mission of India (SRTMI).
Textile — Key Facts
- Domestic apparel & textile industry contributes approx. 2.3% to GDP, 13% to industrial production, and 12% to exports — a 4% share of global textile/apparel trade.
- India is one of the largest producers of cotton and jute, and the 2nd largest producer of silk; 95% of the world's hand-woven fabric comes from India.
- Total textile exports expected to reach $65 Bn by FY26, growing at 10% CAGR (2019-20 to 2025-26) to reach $190 Bn.
- The 2nd largest employer in the country — direct employment to 45 million people, and 100 million in allied industries.
MITRA Scheme: Mega Investment Textiles Parks — enables the textile industry to become globally competitive, attract large investments, and boost employment and exports, via world-class plug-and-play infrastructure.
PowerTex India Scheme: comprehensive scheme for powerloom sector development — Insitu Upgradation of Plain Powerloom, Group Workshed Scheme, Yarn Bank, Common Facility Centre, Solar Energy Scheme, Pradhan Mantri Credit Scheme, Tex Venture Fund, Grant-in-aid & modernization of Powerloom Service Centres, Facilitation and IT.
SAMARTH Scheme (Scheme for Capacity Building in Textile Sector): provides demand-driven, placement-oriented NSQF-compliant skilling, covering the entire textile value chain (excl. Spinning and Weaving); promotes skilling in handlooms, handicrafts, sericulture, jute; targets training 10 lakh persons (9 lakh organised, 1 lakh traditional sector).
Electronics Sector — Key Facts
- Domestic production grew at a CAGR of 13%, from $49 Bn (FY17) to $101 Bn (FY23); electronics exports expected to reach $120 Bn by FY26, and are already the 6th largest export commodity group (as of March 2023).
- Electronics market valued at $155 Bn, with domestic production accounting for 65%. 100% FDI allowed under the automatic route; for defence electronics, FDI up to 49% is automatic, beyond that requires government approval.
- India ranks 60th in the Network Readiness Index 2023 — a jump of 7 ranks from 67th in 2021.
The Electronics and Computer Software Promotion Council (ESC): provides a platform for India's IT & electronics industry — exports to 200+ countries, a comprehensive industry database, facilitation of import/export collaborations, joint ventures, sub-contracting tie-ups, technology transfers, and published market/trade reports.
Semicon India Program: launched with an incentive outlay of $10 Bn, to develop a sustainable semiconductor and display ecosystem — establishing India as a global hub for semiconductor and display manufacturing.
Petroleum and Natural Gas — Key Facts
- India is the 3rd largest energy and oil consumer in the world, and the 4th largest importer of liquefied natural gas (LNG).
- Consumed 192.7 MMT petroleum products and 55.1 BCM natural gas in Apr-Jan 2024 — growth of 5.2% and 9.9% over Apr-Jan 2023.
- As of April 2022, estimated crude oil reserves stood at 651.77 million tonnes, and natural gas at 1,138.67 billion cubic metres.
- India targets raising the share of natural gas in its energy mix to 15% by 2030, from about 6.7% now.
- Ethanol blending in petrol increased from 1.53% (2013-14) to 10.17% (2022); target of 20% blending advanced from 2030 to 2025-26. Blending was 12.2% in Jan 2024. Target of 12 Commercial Scale 2G Bio-Ethanol Projects, with viability gap funding up to Rs. 150 crore/project, under the Pradhan Mantri JI-VAN Yojana.
- Target of setting up 5,000 Compressed Biogas (CBG) units under the SATAT (Sustainable Alternative Towards Affordable Transportation) Scheme.
Key Terms
IN SIMPLE WORDS
A mixed economy has both private and public sectors. An MoU is a performance contract between a PSU and the government.
EXAMPLEIndia has private companies such as Tata alongside public enterprises such as Indian Railways.
Mixed Economy
A system that combines aspects of both capitalism and socialism — protects private property and economic freedom, while allowing governments to interfere in economic activities to achieve social aims.
SIMPLYAn economy combining private enterprise with state action.
E.G.India has private companies like Tata and public sector bodies like Indian Railways.
Memorandum of Understanding (MoU)
A performance contract — a freely negotiated document between the Government and a specific public enterprise.
SIMPLYA performance contract between the government and a PSU.
E.G.A PSU promises sales and profit targets and is rated on them at year-end.
Disinvestment
The government selling or liquidating its assets or stakes in PSEs — also called divestment or divestiture. Popularized in India post the New Economic Policy of 1991, and mainly done when a PSU has been running losses for years and becomes a burden on the government. Proceeds can help fund the fiscal deficit.
SIMPLYThe government sells part of its stake in a PSU.
E.G.Selling 10% of the government's shares to the public.
Privatisation vs Disinvestment
Disinvestment happens when a government sells only a part of its stake and retains the majority; privatization is when the entity is handed over to a private company — by selling its stake to below 50%, ownership passes and the company works like any other private sector enterprise.
SIMPLYDisinvestment keeps the government in the majority; privatisation hands over control.
E.G.Selling 10% keeps government control. Selling 51% or more passes control to private owners.
Strategic Sale / Strategic Disinvestment
When the government transfers the ownership and control of a public sector entity to some other entity, private or public. Implies sale of a substantial portion of Government shareholding in a CPSE — up to 50%, or higher as the competent authority may determine — along with transfer of management control.
SIMPLYSelling control of a PSU to another entity.
E.G.Air India's sale to Tata Group, where ownership and management both moved.
National Investment and Manufacturing Zones (NIMZ)
Envisaged as integrated industrial townships with state-of-the-art infrastructure, zoning-based land use, clean and energy-efficient technology, social infrastructure, and skill development facilities, to promote world-class manufacturing. At least 30% of the total proposed land area is reserved for manufacturing units. On final approval, the NIMZ is declared by the State Government as an industrial township under Article 243Q(1)(c). The Central government provides external physical infrastructure linkages (rail, road, ports, airports, telecom) in a time-bound manner, and viability gap funding where required. The Department for Promotion of Industry and Internal Trade (DPIIT, former DIPP) is the nodal agency for NIMZ.
SIMPLYPlanned industrial townships with good infrastructure.
E.G.A large zone with roads, power and water where many factories cluster.
ECONOMY CLASSES
Industry — Part 2
This chapter covers the MSME sector and its full suite of government schemes, infrastructure investment models (PPP, EPC, Swiss Challenge, Hybrid Annuity), the ongoing labour law reforms — including all four new Labour Codes — and the Companies Act, 2013 and its amendments.
MSME Sector
IN SIMPLE WORDS
MSMEs are classified by investment and turnover. They provide a large share of jobs and exports, and are a bridge between the informal sector and large industry.
EXAMPLEPer the classification above, a unit with ₹0.8 crore investment and ₹4 crore turnover is a micro enterprise.
Definition of MSME — Revised Classification
Composite criteria: Investment in Plant & Machinery/Equipment, and Annual Turnover.
Applies uniformly to both manufacturing enterprises and enterprises rendering services.
Uttar Pradesh has the largest number of MSMEs (~14.2%), followed by West Bengal (~14%).
Initiatives in the MSME Sector
- Ran for 100 days, covering 100 districts throughout the country.
- Central ministers visited these districts to apprise entrepreneurs about facilities extended to the MSME sector by government and financial institutions.
- Aims to generate self-employment opportunities through micro-enterprises in the non-farm sector, helping traditional artisans and the unemployed youth.
- National implementation agency: Khadi and Village Industries Commission (KVIC) — a statutory organization under the Ministry of MSME, established under the KVIC Act, 1956.
- Only new projects are considered for sanction; any individual above 18 years of age can apply.
- Maximum project cost: Rs. 50 lakh (manufacturing sector), Rs. 20 lakh (business/service sector).
- Covers collateral-free credit facility (term loan and/or working capital) extended by eligible lending institutions, including NBFCs, to new and existing micro/small enterprises — up to Rs. 2 crore per borrowing unit, without a third-party guarantee.
- Aims at facilitating technology upgradation in the MSME sector.
- Aims for development and refinancing activities relating to micro industrial units — launched in 2015 to give unsecured loans of up to Rs. 10 lakh to non-corporate, non-farm small/micro enterprises.
- Shishu: loans up to Rs. 50,000. Kishore: loans above Rs. 50,000 up to Rs. 5 lakh. Tarun: loans above Rs. 5 lakh up to Rs. 10 lakh.
- Public sector companies mandated to compulsorily procure 25% (up from 20%) of their total purchases from MSMEs.
- Zero Defect and Zero Effect — encourages MSMEs to upgrade quality standards, adopting Zero Defect production processes without impacting the environment.
- Empowers micro and small entrepreneurs to directly register cases relating to delayed payments by central ministries/departments/CPSEs/state governments.
- A Scheme for Promotion of Innovation, Rural Industry & Entrepreneurship — creates a framework for start-up promotion through a network of Technology Centres, and an Incubation & Commercialization of Business Idea Programme.
- Scheme of Fund for Regeneration of Traditional Industries — organizes traditional industries and artisans into competitive clusters.
- Regular Cluster (500 artisans): assistance up to Rs. 2.5 crore. Major Cluster (500+ artisans): assistance up to Rs. 5 crore.
- 100% guarantee coverage by National Credit Guarantee Trustee Company Ltd. for additional funding of up to Rs. 5 lakh crore, to eligible MSMEs and interested MUDRA borrowers.
- Incentivises lending institutions (Banks, FIs, NBFCs) to increase funding to MSME borrowers amid the COVID-19 crisis. ECLGS 3.0 covers Hospitality, Travel & Tourism, Leisure & Sporting sectors, etc.
Investment Models
IN SIMPLE WORDS
In a PPP, the government and a private firm share work on a public project. The private partner brings money and efficiency, and the government sets public goals.
EXAMPLEA highway built by a private company that collects tolls for 20 years and then hands it over is a BOT project.
Public Private Partnership (PPP): a partnership between an agency of the government and the private sector, for the delivery of goods or services to the public. A private-sector company can finance, build, and operate projects — e.g. public transportation networks, parks, convention centres.
Model Concession Agreement: the legal contract that forms the basis of PPP projects in India, laying down the terms and conditions, policy, and regulatory framework for executing a project until a private firm operates it.
Different PPP Models
DBFO: Design-Build-Finance-Operate · BTO: Build-Transfer-Operate · BOT: Build-Operate-Transfer · BOOT: Build-Own-Operate-Transfer · BOO: Build-Own-Operate
Pros and Cons of PPP
PROS
- Increased efficiency in project delivery, operation, and management.
- Availability of additional resources to meet growing investment needs.
- Access to advanced technology (hardware and software).
- Transfer of risk: private entities usually have more experience in cost containment, allowing fuller appraisal of project feasibility.
- Realistic objectives: the private partner can check against unrealistic government promises or expectations.
CONS
- Success often depends on regulatory efficiency.
- Private sector may avoid a project due to perceived high risks, or lack technical/financial/managerial capacity.
- May be costlier, unless additional costs (from higher transaction/financing costs) are offset through efficiency gains.
- Unequal distribution of benefits: private sector's profit motives can prioritize financial gains over public needs.
Recent Initiatives in PPP
- GoI has allowed private players to operate in the Railways sector through PPP mode, under the "New India New Railway" initiative.
- Changes to the Model Concession Agreement (MCA) for the BOT-toll model — under the amended MCA for TOT projects, frequency of checks increased from two to three times; the threshold for checking reduced from 20% to 5%.
- NHAI, under MoRTH, aims to bid out 53 projects worth over Rs. 2.2 lakh crore, covering 5,200 km.
- Projects are presently being awarded on EPC or Hybrid Annuity Mode (HAM), due to various challenges in implementing BOT projects.
- Government initiatives for revival of BOT projects include harmonious substitution, one-time fund infusion, rationalized compensation, premium deferment, and allowing refinancing.
Engineering, Procurement and Construction (EPC) Model
Cost is completely borne by the government, which invites bids for engineering knowledge from private players. Procurement of raw materials and construction costs are met by the government. All clearances, land acquisitions, and regulatory norms are completed by the government itself — private players are not involved in these time-taking procedures, reducing their risk and encouraging them to take up more projects. Private sector participation is minimal, limited to engineering expertise.
Issues: can't always be used, especially during government budget deficits; lacks incentive for private players to reduce project costs, since they're entitled to a pre-decided fixed service charge.
SIMPLYThe government pays all costs and hires a private firm to design and build.
E.G.A contractor builds a highway for a fixed fee. The government owns and runs it.
Swiss Challenge Model
A bidding method, often used in public projects, where an interested party initiates a proposal for a project. The government publicizes project details and invites proposals from others; the original contractor gets a chance to match the best bid. Allows competitive bidding and counter-bidding to realize the optimum cost. Used for the Mega Film City Venture (Jaipur Development Authority); Indian Railways used it in 2017 for renovation tenders of 23 railway stations.
SIMPLYA private firm proposes a project and the government invites others to beat the offer.
E.G.A firm proposes a metro line. Rivals bid better terms, and the original proposer may match the best bid.
Hybrid Annuity Model (HAM)
The government contributes 40% of project cost in the first 5 years through annual payments (annuity). The remaining payment is based on assets created and developer performance. Projects under the Namami Gange programme have been funded through HAM.
SIMPLYThe government pays 40% of the cost in the first 5 years and the rest depends on the asset and performance.
E.G.A highway builder gets annual payments from government and the rest linked to road quality.
Affermage
A type of leasing contract where the private entity shares part of the revenue with the government in lieu of a fixed rent — e.g. 10% of toll revenues.
SIMPLYA private operator pays the government a share of revenue instead of a fixed rent.
E.G.A private firm runs a toll road and gives 10% of toll revenue to the government.
Labour Reforms
IN SIMPLE WORDS
Labour is on the Concurrent List, so both Centre and states can legislate. Reforms aim to simplify many labour laws into a few codes.
EXAMPLEInstead of tracking dozens of separate laws, an employer follows a smaller set of codes on wages, industrial relations, social security and safety.
Labour is a subject under the Concurrent List of the Seventh Schedule of the Indian Constitution.
Articles directly concerning labour rights:
- Article 19(1)(c): right to form unions or associations.
- Article 23: prohibits forced labour.
- Article 24: prohibits child labour (a child below 14 years cannot be employed in hazardous jobs).
- Article 43A: secures participation of workers in the management of undertakings.
Evolution of Labour Laws
Primary intention: protect the interests of British industrialists — e.g. Factories Act, 1881.
Strong emphasis on securing industrial peace & labour support for industrialization, through trade-union cooperation — leading to a large number of labour laws for safety, employment, training, minimum wages, etc.
Demands to roll back over-regulation of labour and workplaces, particularly the capacity of enterprises to hire and fire more easily, and engage labour in more flexible arrangements. This phase saw increased use of contract labour.
Recent Codification of Labour Laws
Merger and codification of 29 existing central labour laws into 4 labour codes:
Code on Wages, 2019
SIMPLYA single law on wages: minimum wages, timely payment, bonus and equal pay.
E.G.It replaced four older laws on wages.
Occupational Safety, Health & Working Conditions Code, 2020
SIMPLYRules for workplace safety, health and working conditions.
E.G.Safety norms in a factory, and limits on working hours.
Industrial Relations Code, 2020
SIMPLYRules on trade unions, disputes, layoffs and strikes.
E.G.A firm must follow set steps before retrenching workers.
Code on Social Security, 2020
SIMPLYSocial security such as PF, ESI, gratuity and maternity benefit for more categories of workers.
E.G.A gig delivery worker can be brought under social security schemes.
Code on Wages, 2019
- Payment of Wages Act 1936; Minimum Wages Act 1948; Payment of Bonus Act 1965; Equal Remuneration Act 1976.
- Applies to all employees.
- Fixed by the Central Government, taking into account living standards of workers.
- Notified by the central or state governments; revised or reviewed at an interval of not more than 5 years.
- Overtime wage should be at least twice the normal rate of wages.
- Prohibition of gender discrimination; penalties for offences such as paying less than due wages.
- Constitution of Central & State Advisory Boards, to advise on fixing minimum wages, increasing women's employment opportunities, etc.
- Central Advisory Board: employers, employees (equal number as employers), independent persons, and 5 representatives of state governments. State Advisory Boards: employers, employees, and independent persons. One-third of members on both boards will be women.
Occupational Safety, Health and Working Conditions Code, 2020
Amalgamates 13 labour laws, including the Factories Act, Mines Act, and Contract Labour Act.
Coverage of Establishments
Factories employing >20 workers (with power) or >40 (without power); establishments in any business/trade/occupation with 10+ workers; all hazardous activity establishments; contractors employing 50+ workers. Prohibits contract labour in core activities (to be decided by appropriate government).
SIMPLYThe Code specifies which establishments are covered.
E.G.A factory using power with more than 20 workers is covered.
Work Hours & Employment Conditions
Daily work-hour limit: 8 hours/day. Employment of women permitted in all establishments for all types of work, with adequate safeguards.
SIMPLYWork hours are capped and women are allowed in all establishments with safeguards.
E.G.A worker cannot be made to work more than 8 hours a day under normal rules.
Inter-State Migrant Workers (ISMW)
Defined as someone who came on their own to another state and received employment, earning up to Rs. 18,000/month. Have the option to avail PDS in native or employment state; get insurance and PF benefits available to other workers in the same establishment.
SIMPLYA migrant worker employed in another state gets certain benefits.
E.G.A worker from Odisha employed in Kerala, earning up to ₹18,000 a month, is covered.
Other Provisions
Constitution of a Social Security Fund for welfare of unorganised workers, credited from penalties collected under the code. State governments can exempt any new factory from code provisions (to generate economic activity/employment). No charge can be levied on any employee for safety/health maintenance, including medical examination.
SIMPLYA fund for unorganised workers' welfare and other provisions.
E.G.Penalty collections go into a Social Security Fund for unorganised workers.
Industrial Relations Code, 2020
Subsumes three laws — the Trade Unions Act 1926, the Industrial Employment (Standing Orders) Act 1946, and the Industrial Disputes Act 1947.
- Establishments employing 300+ workers must prepare standing orders on classification of workers, work timing/holidays/pay days, termination of employment, and grievance redressal.
- Where multiple trade unions exist, sole negotiating union status goes to the one with 51% of employees as members.
- Where no union qualifies, the employer must constitute a 'negotiating council' from various unions, with only those having at least 20% membership included.
- Prior government permission required for lay-off, retrenchment, and closure of establishments employing 300+ workers (threshold can be raised by notification).
- The Code prohibits strikes and lock-outs in all industrial establishments without notice.
Code on Social Security, 2020
- Subsumes nine regulations relating to social security, retirement and employee benefits — including the Maternity Benefit Act, Unorganised Workers Social Security Act, and Payment of Gratuity Act.
- Expands the definition of 'employees' to include workers employed through contractors, ISMW, and platform workers.
- Universalizes social security coverage to those in the unorganised sector — migrant workers, gig workers, platform workers — and establishes a National Social Security Board for their welfare.
- The scheme for gig and platform workers may be funded through contributions from the central government, state governments, and aggregators — the Code specifies a list of nine aggregators, including ride-sharing, food delivery, content services, and e-marketplaces.
- For the first time, social security provisions will also be extended to agricultural workers.
Some Schemes Related to Labour
- Promotes apprenticeship training and incentivizes employers who engage apprentices.
- Reimburses 25% of prescribed stipend (max Rs. 1,500/month per apprentice); targeted 15 lakh apprentices in 2018-19, and 20 lakh in 2019-20.
- Provides financial security to unorganised-sector workers, with adequate flexibility and exit options.
- For workers earning ≤Rs. 15,000/month, aged 18-40, not covered under NPS/ESIC/EPFO, and not taxpayers.
- Minimum assured pension of Rs. 3,000/month after age 60; a voluntary, contributory scheme on a 50:50 basis with matching government contribution.
Labour Bureau Surveys
The Labour Bureau has recently been tasked with five major All India Surveys:
- All-India Survey of Migrant Workers: studies employment-related migration, working/living conditions, and COVID-19's impact.
- All-India Quarterly Establishment-based Employment Survey (AQEES): employment estimates for establishments with 10+ workers as well as 9 or fewer.
- All-India Survey on Domestic Workers: estimates the number of domestic workers for the first time ever, with incidence and characteristics of employing households.
- All-India Survey on Employment Generated in Transport Sector.
- All-India Survey of Employment Generated by Professionals — lawyers, medical professionals, cost accountants, chartered accountants.
These surveys use a path-breaking "Paperless" data collection approach, likely to reduce completion time by 30-40%, aided by BECIL for IT support, and conducted in major regional languages for the first time.
Companies Act, 2013
IN SIMPLE WORDS
The Companies Act, 2013 modernised corporate law: more shareholder power, disclosures, women directors and mandatory CSR for larger companies.
EXAMPLEA company above the profit threshold must spend 2% of its average net profit of the last three years on CSR, such as schools or sanitation.
- Provides for the need for approvals from shareholders on significant transactions.
- Stipulates appointment of at least one woman Director on the Board (for certain classes of companies).
- Companies with net worth/turnover/profits above a specified amount must constitute CSR Committees and spend 2% of their average net profits over the last 3 financial years towards their CSR policy.
- India became the first country in the world to make CSR legally mandatory, in 2014.
- Funds spent on Covid-19 vaccination-drive awareness and outreach campaigns were added under permitted CSR activities (Seventh Schedule).
- Introduced the NCLT and NCLAT to replace the Company Law Board and BIFR — relieving courts of some burden while providing specialized justice.
- Permits cross-border mergers both ways — a foreign company merging with an Indian company and vice versa — with prior RBI permission.
- Prohibits directors and key managerial personnel from purchasing call/put options of company shares, if reasonably expected to have access to price-sensitive information.
- All listed companies must have at least one-third of the Board as independent directors.
MCA-21
- An e-governance initiative of the Ministry of Corporate Affairs (MCA), enabling easy and secure access to MCA services for corporate entities, professionals, and citizens.
- Designed to fully automate processes for proactive enforcement and compliance under the Companies Act 1956, New Companies Act 2013, and Limited Liability Partnership Act 2008.
- The first Mission Mode e-governance project of the Government of India.
- MCA21 Version 3.0 (data-analytics driven) launched additional modules for e-adjudication, e-consultation, and compliance management.
Highlights of the Amendments in 2019
- Mandates companies transfer unspent CSR money to an escrow account for 3 years, after which any unspent amount goes to a government-specified fund.
- Strengthens SFIO (Serious Fraud Investigation Office) enforcement provisions for speedy, effective enforcement, including disgorgement actions.
- Makes it mandatory for companies to have a verifiable registered physical address.
- Aims to de-clog NCLTs by shifting routine matters to the central government.
- Re-categorizes 16 compoundable offences (e.g. failure to file returns, issuance of shares at a discount) as civil defaults, penalizable by adjudicating officers of the central government.
Highlights of the Companies (Amendment) Act, 2020
- Removes penalty/imprisonment for 9 offences relating to non-compliance with NCLT orders, and reduces fines in certain cases — no relaxation for serious offences including fraud or those causing "injury to public interest or deceit."
- Empowers the Centre, in consultation with SEBI, to exclude companies issuing specified securities classes from the definition of a "listed company."
- Exempts companies with CSR liability up to Rs. 50 lakh/year from setting up CSR Committees; allows eligible companies to set off excess CSR spending towards future-year obligations.
- Seeks to establish benches of the NCLAT in New Delhi.
Other Amendments to CSR
- International organisations permitted to design, monitor, and evaluate CSR projects — but cannot act as implementing agencies.
- CSR rules amended to permit companies engaged in R&D activity for new vaccines, drugs, and medical devices to be categorised as CSR activities.
- Funds donated to the PM CARES Fund by corporates classified as CSR spends.
ECONOMY CLASSES
Planning in India
Planning involves the process of thinking, formulation of a scheme or programme, and implementation of a set of actions to achieve some goal. Though it is a very broad term, here it has been used with reference to the process of economic development — from the pre-Independence plans through the Five Year Plans to today's NITI Aayog.
Need for Planning in the Newly Independent India
IN SIMPLE WORDS
After independence, India faced poverty, hunger and weak industry, and private investors could not build heavy industry alone. So the state took the lead through planning.
EXAMPLEBuilding steel plants and dams needed huge investment that private firms could not provide at that time.
History of Planning in India
IN SIMPLE WORDS
Planning ideas came from many sources before 1947: the Visvesvaraya plan, the Bombay Plan, the People's Plan and the Gandhian Plan.
EXAMPLEThe Bombay Plan (1944) came from leading industrialists, which shows planning was not only a socialist idea.
Great Depression — the Soviet experiment in planning began in 1928. During the 1930s the whole world was affected by the Great Depression, with only the USSR exempted.
First Systematic Work in India — M. Visvesvaraya formulated a ten-year plan for economic development of the country in his book, "Planned Economy for India."
National Planning Committee — set up by then INC President Subhash Chandra Bose, with Jawaharlal Nehru as Chairman. Due to resignation by all provincial INC governments, not much progress could be made.
Bombay Plan — several eminent Bombay industrialists (Purshottamdas Thakurdas, J.R.D. Tata, G.D. Birla, and others) published a development plan, aiming to double per capita income over 15 years. Sought government intervention and regulation to protect indigenous industries against foreign competition.
Gandhian Plan — put forward by S.N. Agarwal, based on Gandhian philosophy. Sought a decentralized economy with self-sufficient villages and industrial production, emphasizing small-scale industries and agriculture.
People's Plan — a 10-year plan prepared by M.N. Roy. Chief emphasis on agricultural and consumer goods industries through collectivization and state-owned industrialization; also advocated nationalization of land.
Sarvodaya Plan — drafted by Jaiprakash Narayan, inspired by the Gandhian Plan of S.N. Agarwal and Vinoba Bhave's idea of Sarvodaya. Emphasized agriculture and village industries — especially small-scale textile and cottage industries — and stressed land reforms and decentralized participatory planning.
Planning Commission & Five Year Plans (FYPs)
IN SIMPLE WORDS
The Planning Commission (1950) prepared five-year plans, setting targets and allocating resources across sectors.
EXAMPLEThink of a five-year syllabus: each plan lists goals, budgets and priorities for the period.
India adopted centralised planning after independence. The task was entrusted to the Planning Commission, constituted in 1950 by a resolution of the government, with the Prime Minister as its Chairperson. The 1st FYP was launched in 1951.
Broad Goals of the FYPs
Focus of Various FYPs
IN SIMPLE WORDS
Each plan had a main emphasis, from agriculture in the first plan to heavy industry in the second and later poverty and inclusion. The Harrod-Domar model links growth to investment.
EXAMPLEIf the investment rate is 20% and ICOR is 4, growth ≈ 20 ÷ 4 = 5%. The first plan used this logic.
Target: 2.1% · Actual: 3.6%
- Based on the Harrod-Domar Model — a Keynesian growth model where the growth rate equals the investment rate divided by the Incremental Capital-Output Ratio (ICOR — the amount of capital required to produce one unit of output).
- Focus on agriculture, price stability, power, and transport. Community Development Programme launched in 1952.
Target: 4.5% · Actual: 4.3%
- Based on the model prepared by P.C. Mahalanobis (also called the Mahalanobis Plan).
- Shifted basic emphasis from agriculture to industry — focus on rapid industrialization (heavy & basic industries).
- Industrial Policy Resolution 1956: state controlling the commanding heights of the economy. Advocated huge imports through foreign loans. Prices rose by ~30% during this period.
Target: 5.6% · Actual: 2.8%
- Aimed to make India a 'self-reliant' and 'self-generating' economy; agriculture given top priority to support exports and industry.
- Failed significantly in reaching targets due to unforeseen events — Chinese aggression (1962), Indo-Pak War (1965), and severe drought (1965-66).
- Failure of the Third Plan, along with inflationary recession, led to postponement of the Fourth FYP.
- Prevailing agricultural crisis and food shortage necessitated an emphasis on agriculture during the Annual Plans.
- A whole new agricultural strategy was implemented — distribution of HYV seeds, extensive use of fertilizers, and exploitation of irrigation potential (laid the ground for the Green Revolution).
Target: 5.7% · Actual: 3.3%
- Refusal of supply of essential equipment and raw materials from allies during the Indo-Pak war led to twin objectives of "growth with stability" and "progressive achievement of self-reliance."
- Main emphasis on growth rate of agriculture to enable other sectors to move forward; Family Planning Programmes were among major targets.
- Influx of Bangladeshi refugees before/after the 1971 Indo-Pak war was an important issue, along with a deteriorating price situation due to poor monsoons.
Target: 4.4% · Actual: 4.8%
- Proposed two main objectives: 'removal of poverty' (Garibi Hatao) and 'attainment of self-reliance.'
- Promotion of high rate of growth, better distribution of income, and significant growth in domestic savings rate seen as key instruments.
- Recognized that the 'trickle-down approach' wasn't working for the poor — direct attack on poverty through various Poverty Alleviation Programmes.
- After the 1975 Emergency, emphasis shifted to the Prime Minister's 20-Point Programme — the FYP was relegated to the background, and terminated when the Janata Party came to power in 1978.
- There were 2 'Sixth Plans'. The Janata government put forward a plan for 1978-1983, emphasising employment. However, the government lasted only 2 years — the Congress government returned to power in 1980 and launched a different plan.
Target: 5.2% · Actual: 5.7%
- Focused on increase in national income, modernization of technology, ensuring continuous decrease in poverty and unemployment, and controlling population explosion, etc.
Target: 5.0% · Actual: 6.0%
- Aimed at accelerating food grain production and increasing employment opportunities & productivity, with focus on 'food, work & productivity.' Private sector got priority.
Target: 5.6% · Actual: 6.8%
- Postponed by two years due to political uncertainty at the Centre.
- Worsening BoP position, rising debt burden, widening budget deficits, and recession in industry and inflation were the key issues at launch.
- Drastic policy measures undertaken through introduction of fiscal & economic reforms, including liberalisation (LPG Reforms).
- High growth rate achieved even though the share of public sector in total investment had declined — a shift towards Indicative Planning.
Target: 6.5% · Actual: 5.4%
- Focus on "Growth With Social Justice & Equality."
- Predominantly focused on the private sector — Indian as well as foreign (FDI); the State was envisaged to increasingly play the role of facilitator, involving itself with the social sector (education, health) and infrastructure, where private participation was likely to be limited.
Target: 8% · Actual: 7.6%
- Set 'monitorable targets' for key indicators of development, besides the 8% growth target.
- Targets included reduction in gender gaps in literacy and wage rate, reduction in infant & maternal mortality rates, improvement in literacy, access to potable drinking water, and cleaning of major polluted rivers.
Target: 9% · Actual: 8%
- Aimed "Towards Faster & More Inclusive Growth."
- Included inter-related components: rapid growth, reducing poverty and creating employment, access to essential services in health & education for the poor, extension of employment opportunities using MGNREGA, environmental sustainability, and reduction of gender inequality.
Target: 8%
- Focus on "Faster, More Inclusive and Sustainable Growth."
END OF THE PLANNING COMMISSION
In 2014, the government decided to dissolve the Planning Commission. It was replaced by the newly formed NITI Aayog. The FYPs were discontinued after the 12th FYP (2012-2017).
Mobilization of Resources
IN SIMPLE WORDS
Mobilisation means collecting resources for development: taxes, public sector surpluses, borrowing, small savings and, at times, deficit financing.
EXAMPLEA farmer's savings in a post office scheme eventually help finance public projects.
The government requires resources — human, physical and economic — to carry out its functions. Here, the reference is only to economic resources. Mobilization of resources, in this context, means efficient collection and channelizing of resources to achieve some goals.
Sources
- Tax Revenue: direct & indirect taxes.
- Non-Tax Revenue: interest on bonds held, dividends from PSUs, grants, etc.
- Capital Receipts: government borrowings like market loans, external commercial borrowings, loans from foreign governments/bodies, disinvestment receipts, etc.
SIMPLYResources for planning come from taxes, non-tax revenue and capital receipts.
E.G.Income tax (tax), PSU dividends (non-tax) and borrowing (capital).
Issues
- Distribution of financial resources between the centre and states (vertical imbalance) and among the states (horizontal imbalance).
- Fiscal Consolidation: meeting FRBM targets regarding fiscal deficit and controlling revenue expenditure.
- Low Tax-to-GDP ratio: India's tax-to-GDP ratio for 2017-18 was 11.6%, well below the emerging market economies' and OECD averages of ~21% and ~34% respectively.
- Large subsidy budget: food, fertilizers, and fuel (3Fs) are major components.
- Tax avoidance using various corporate tax exemptions, and tax evasion.
SIMPLYVertical imbalance is the gap between the Centre's revenue and the states' needs; horizontal imbalance is the gap among states.
E.G.A poorer state with weak revenues depends more on central transfers than a richer state.
Steps Taken
- Doing away with plan and non-plan expenditure; merger of the General and Railway Budget.
- Restructuring of Centrally Sponsored Schemes — Core of the Core, Core, and Others.
- Rationalization of subsidies through DBT and other initiatives.
- Tax-augmenting measures — levy of Long Term Capital Gains tax, Equalization Levy, renegotiation of Double Taxation Avoidance Agreements (DTAAs) with various countries, etc.
SIMPLYReforms to simplify planning and budgeting.
E.G.The plan/non-plan distinction was scrapped, and the Railway Budget was merged with the General Budget.
NITI Aayog
IN SIMPLE WORDS
NITI Aayog replaced the Planning Commission in 2015. It is an advisory think tank and promotes cooperative federalism, with states partnering in policy.
EXAMPLEThe Planning Commission allocated funds to states from the top. NITI gives ideas and advice, with states in the room.
The National Institution for Transforming India, also called NITI Aayog, was formed via a resolution of the Union Cabinet on January 1, 2015. It is the premier policy 'Think Tank' of the Government of India, providing both directional and policy inputs.
Functions of NITI Aayog
Present Composition of NITI Aayog (re-constituted 2019)
- The Prime Minister as its Chairman.
- A Vice-Chairperson and 3 full-time members.
- A Chief Executive Officer.
- 4 union ministers as ex-officio members.
- Other union ministers as special invitees.
Led by NITI Aayog
Cooperative Federalism
- Governing Council of NITI Aayog: comprises the Prime Minister as Chairman, Chief Ministers of all states and UTs with legislatures, and Lt. Governors of other UTs.
- NITI Forum for North East: strategies for improving rail, road and air connectivity, tapping hydel resources, developing agriculture and allied sectors, and promoting tourism in the region.
- Sustainable Development in the Indian Himalayan Region: NITI Aayog has constituted a 'Himalayan State Regional Council' for sustainable development, spread across 12 Indian states.
- Sustainable Action for Transforming Human Capital (SATH): focuses on Education and Health, to build three 'Role Model' States (Jharkhand, Madhya Pradesh, and Odisha were selected for the project).
SIMPLYThe Centre and states work together as partners.
E.G.NITI Aayog's Governing Council includes all Chief Ministers.
Competitive Federalism
- Transformation of Aspirational Districts Programme: aims to quickly and effectively transform these districts, through Convergence (of Central & State schemes), Collaboration (of Central, State-level 'Prabhari' Officers & District Collectors), and Competition among districts, driven by a mass movement.
- SDG India Index: measures India and its states' progress towards the SDGs for 2030 (NITI Aayog is the nodal agency for SDG implementation in India).
- Social Sector Indices: NITI Aayog has prepared state-wise Key Performance Indicators across three sectors, to encourage positive competition and propel states/UTs to improve outcomes — Water: Composite Water Management Index; Health: Health Index; Education: School Education Quality Index (SEQI).
SIMPLYStates and districts compete to perform better.
E.G.In the Aspirational Districts Programme, districts are ranked on health, education and other indicators, so they strive to improve.
ECONOMY CLASSES
Agriculture
Agriculture is the primary source of livelihood for about 58% of India's population. The share of agriculture in total Gross Value Added (GVA) of the economy has declined from 35% in 1990-91 to 15% in 2022-23. India ranks first in the world with the highest net cropped area, followed by the US and China.
Agriculture & Allied Sectors
IN SIMPLE WORDS
Agriculture contributes a modest share of GDP but supports a large share of the workforce, so income per worker is low. Its growth rate swings with monsoon and policy.
EXAMPLEIf many people share a small slice of national income, each gets less. This explains why farm incomes lag behind the rest of the economy.
Growth Rate of GVA at Basic Prices
Average Annual Growth Rate — GDP vs Agriculture (Constant Prices)
Share in Employment vs Share in GVA
Cropping Pattern & Cropping System
IN SIMPLE WORDS
A cropping pattern is what crops are grown, where and when. A cropping system is the set of patterns across a farm, including rotation and intercropping.
EXAMPLEGrowing rice in kharif and wheat in rabi on the same plot is a cropping system. Planting pulses between cotton rows is intercropping.
Cropping Pattern
Indicates the temporal and/or spatial arrangement of crops in a particular area. There are different types depending on the availability of various factors/resources.
SIMPLYWhich crops are grown, in what order, and where.
E.G.Rice in the monsoon followed by wheat in winter on the same field.
Cropping System
Comprises all cropping patterns grown on the farm and their interaction with farm resources, other household/farm enterprises, and available technology — which determine their makeup, along with physical, biological, technological, and sociological factors.
SIMPLYAll the cropping patterns on a farm and how they use farm resources.
E.G.A farm with rice–wheat rotation and a dairy that uses crop residue as fodder.
Major Categories of Cropping Pattern in India
Kharif — Rice Based
Relay Cropping: seeds of succeeding crops (lentil, gram, pea, lathyrus, berseem, linseed) sown through broadcasting into the maturing rice crop, in both upland and lowland rice culture.
Mixed Varietal Cropping: mixing seeds of early rice (ahu) with late maturing deep water rice (bao) — mainly practiced in West Bengal.
SIMPLYRice-based kharif systems include relay cropping, where the next crop is sown before the earlier one is harvested.
E.G.Lentil or gram seeds are scattered into a standing rice crop shortly before harvest.
Kharif — Non-Rice Based
Maize-based, Bajra-based, and Cotton-based cropping.
SIMPLYKharif systems built around maize, bajra or cotton.
E.G.Cotton grown in the monsoon on black soil in Maharashtra.
Rabi — Wheat and Gram Based
These two crops are grown under identical climate, and can often be substituted for each other.
SIMPLYWheat and gram are rabi crops grown in similar climates and can substitute for each other.
E.G.A farmer chooses wheat or gram based on water available and expected price.
Rabi — Rabi-Jowar Based
Along with jowar, bajra, pulses, oilseeds, and tobacco are grown as alternative crops.
SIMPLYRabi systems around jowar, with bajra, pulses, oilseeds and tobacco as alternatives.
E.G.In a dry region with low water, a farmer grows rabi jowar and some pulses.
Structure of the Cropping System
Monoculture
SIMPLYGrowing the same crop on the same land year after year.
E.G.Wheat every year drains the same nutrients and invites pests.
Rotation
SIMPLYGrowing different crops in sequence on the same land.
E.G.Wheat, then pulses, then wheat. Pulses add nitrogen to the soil.
Fallow Cropping
SIMPLYLeaving land uncultivated for a season to recover.
E.G.A field is kept idle for one season so soil moisture and fertility rebuild.
2A. Single Cropping
One crop, one piece of land — tree crop planting pattern, annual crop spatial pattern.
SIMPLYSingle cropping is one crop per piece of land in a year.
E.G.A rain-fed field growing only millet during the monsoon.
2B. Multi Cropping
More than one crop, one piece of land.
Sequential Cropping
Growing two or more crops consecutively — double crop, triple crop, relay crop, cover crop.
Intercropping
Growing two or more crops simultaneously — mixed crop, row inter-crop, strip crop, multi-storey crop.
SIMPLYMulti-cropping is more than one crop per piece of land: sequential (one after another) or intercropping (together).
E.G.Rice followed by wheat is sequential. Groundnut and pigeon pea in alternate rows is intercropping.
Irrigation, Soil Tillage, Harvest
SIMPLYCrop management covers how you water, plough and harvest.
E.G.Drip irrigation, zero tillage and mechanical harvesting.
Varieties, Weed Control, Fertilizer Application
SIMPLYCrop management also covers choice of variety, weed control and fertiliser use.
E.G.A farmer picks a drought-tolerant variety, weeds by hand, and applies fertiliser in two doses.
Mixed Cropping vs Intercropping
MIXED CROPPING
- Aimed at minimizing the risk of crop failure.
- Seeds of different crops are mixed together before sowing.
- All crops are sown at the same time; sowing is random.
- Pest control is relatively difficult.
- Equal emphasis is given to all crops; same fertilizer/pesticide applied to all.
INTERCROPPING
- Aimed at increasing productivity from a unit area.
- Seeds are not mixed; crops can be sown at the same or different times.
- Different crops are grouped in different rows or columns.
- Pest control is relatively easier.
- More emphasis is given to main crops; specific fertilizer/pesticide applied to each crop.
Cropping Intensity
The number of crops cultivated on a piece of land per annum.
Cropping Intensity = (Gross Cropped Area / Net Sown Area) × 100Gross Cropped Area (GCA) is the total area sown once as well as more than once in a particular year. Net Sown Area is the area sown with crops but counted only once.
Recent Trends in the Agriculture Sector
IN SIMPLE WORDS
Recent trends show changes in what farmers grow and how much agriculture contributes. Kharif crops depend on the monsoon; rabi crops grow in winter.
EXAMPLERice and cotton are kharif crops; wheat and mustard are rabi crops.
- Dominance of food crops over non-food crops.
- Dominance of cereals among food crops; decline in coarse cereals.
- Declining importance of Kharif crops — Kharif crops are more monsoon-dependent than Rabi crops.
- Declining share of agriculture in India's GDP — from 50% in the 1950s to less than 20% currently.
- Increasing trend in horticultural and floricultural output.
- Expansion of trade in agricultural products.
- Growing trend of institutionalization of agricultural credit.
- Growing volume of subsidies — fertilizer, irrigation, electricity charges, etc.
Organic Farming
IN SIMPLE WORDS
Organic farming avoids synthetic chemicals and GMOs, using natural inputs and rotation to maintain soil health.
EXAMPLESikkim became India's first fully organic state, with farmers using compost and bio-inputs rather than chemical fertilisers.
A holistic system designed to optimize the productivity and fitness of diverse communities within the agro-ecosystem, including soil organisms, plants, livestock, and people.
Principles
Crop rotation; no agrochemicals; no GMOs; no synthetic fertilizers; organic fertilizers; reducing use of non-renewable resources; use of local resources.
SIMPLYOrganic farming follows rotation and natural inputs, with no chemicals or GMOs.
E.G.A farmer uses compost and neem cake in place of chemical fertiliser and pesticide.
Effects
Reduced soil loss; lower energy use; lower water consumption; improved soil water-holding capacity; increased soil organic matter; larger floral, faunal, and microbiological biodiversity.
SIMPLYOrganic farming reduces soil loss and improves soil health.
E.G.Compost-rich soil holds more water, so crops cope better in dry spells.
STAT
India is home to around 55% of the total organic producers in the world, and accounts for 4.7 million hectares of the total global organic cultivation area of 96.4 million hectares (World of Organic Agriculture, 2024).
Issues
- Multiple certification systems — cumbersome, time-consuming, and expensive.
- Expensive organic produce discourages customers and affects sales.
- Productivity dips in the beginning, making the transition process more difficult.
Hydroponics, Aeroponics & Aquaponics
IN SIMPLE WORDS
These are soil-less or resource-saving methods. Hydroponics grows plants in nutrient water; aeroponics mists roots in air; aquaponics combines fish farming and plants.
EXAMPLEIn aquaponics, fish waste feeds the plants and the plants clean the water for the fish.
Hydroponics
Growing plants without soil, using mineral nutrient solutions in water. Plants are suspended with roots submerged in nutrient-bearing water; roots absorb water and nutrients but do not perform the anchoring function, so plants must be mechanically supported from above.
Core elements: Fresh water, oxygen, root support, nutrients, light.
Importance: Conservation of water and nutrients; controlled plant growth; effective alternative in deserts and arctic regions.
Advantages: Grow anywhere; higher yields; needs fewer resources; easy troubleshooting.
SIMPLYGrowing plants in nutrient-rich water without soil.
E.G.Lettuce grown in trays where roots sit in a nutrient solution.
Aeroponics
A high-tech type of hydroponic gardening where the growth medium is primarily air. Roots hang in the air and are misted with nutrient solution — usually every few minutes, as roots dry out rapidly if misting is interrupted.
SIMPLYGrowing plants with roots hanging in air and misted with nutrients.
E.G.Potato seedlings in a chamber where roots are sprayed with a nutrient mist.
Aquaponics
Combines conventional aquaculture with hydroponics in a symbiotic environment — plants are fed aquatic animals' excreta/waste, broken down by nitrifying bacteria into nitrites and then nitrates, which plants use as nutrients. Water is recirculated back to the aquaculture system.
SIMPLYFish farming combined with hydroponics: fish waste feeds the plants and plants clean the water.
E.G.Tilapia fish in a tank, with leafy vegetables on top of the tank.
Horticulture
IN SIMPLE WORDS
Horticulture covers fruits, vegetables and flowers. Each branch has its own name.
EXAMPLEPomology: mangoes and apples. Olericulture: potatoes and tomatoes. Floriculture: roses and marigolds.
A branch of agriculture dealing with the cultivation of fruits, vegetables, and ornamental plants. Four main classes:
Pomology
Fruit farming.
SIMPLYThe science of fruit growing.
E.G.Mango and apple orchards.
Olericulture
Vegetable farming.
SIMPLYThe science of vegetable growing.
E.G.Tomato and potato farming.
Floriculture
Flower farming.
SIMPLYThe science of flower growing.
E.G.Roses and marigolds grown for markets and festivals.
Landscape Gardening
SIMPLYDesigning and planting gardens and public green spaces.
E.G.Laying out a city park with lawns, hedges and flowering trees.
Zero Budget Natural Farming (ZBNF)
IN SIMPLE WORDS
ZBNF aims to bring the farmer's cash cost close to zero by using natural inputs available on the farm instead of bought chemicals.
EXAMPLEA farmer makes jeevamrutha from cow dung, cow urine, jaggery and pulse flour to enrich the soil, rather than buying fertiliser.
A natural farming technique developed by Subhash Palekar, in which farming is done without chemicals — reducing the cost of production to zero by utilizing natural resources available in and around the crops. The Andhra Pradesh government has planned to become the first "100% Natural Farming State" by 2024.
The Four Elements of ZBNF
Beejamrutham
Seed treatment with cow dung and urine-based formulations.
SIMPLYTreating seeds with a cow dung and urine mix before sowing.
E.G.Seeds are coated with the mix to protect them from soil diseases.
Jeevamrutham
Ensuring soil fertility through cow dung and cow urine-based concoctions.
SIMPLYA fermented mix that feeds soil microorganisms.
E.G.Cow dung, cow urine, jaggery, pulse flour and soil are fermented in water for a few days and applied to the field.
Mulching
Trees, cover crops, and crop residues.
SIMPLYCovering the soil with trees, cover crops or crop residue.
E.G.Spreading paddy straw around vegetable plants to keep the soil moist and stop weeds.
Waaphasa
Water vapour condensation for better soil moisture.
SIMPLYKeeping soil aerated and moist through vapour condensation in the soil.
E.G.A mulched, loose soil holds moisture so roots stay moist in dry weather.
Conservation Agriculture (CA)
IN SIMPLE WORDS
Conservation agriculture protects soil by minimal disturbance, permanent soil cover and crop diversification.
EXAMPLESowing wheat directly into rice stubble without ploughing or burning keeps soil moisture and reduces pollution.
A farming system that can prevent losses of arable land while regenerating degraded lands. Conserves natural resources, biodiversity, and labour. Zero/minimal tillage is combined with intercropping and crop rotation.
Minimum Soil Disturbance
SIMPLYReducing ploughing to protect soil structure.
E.G.Sowing wheat with a zero-till drill directly into last season's stubble.
Permanent Soil Cover
Crop residue or live mulch.
SIMPLYKeeping the soil covered with crop residue or living plants.
E.G.Leaving rice straw on the field, instead of burning it.
Crop Rotation or Intercropping
SIMPLYRotating or mixing crops to reduce pests and improve soil.
E.G.Maize planted with beans, where the beans enrich the soil.
IS CONSERVATION AGRICULTURE ORGANIC?
Both maintain a balance between agriculture and resources, use crop rotation, and protect the soil's organic matter. The main difference: organic farmers use a plow or soil tillage, while conservation agriculturists follow natural principles and do not till the soil.
Natural Farming vs Organic Farming
NATURAL FARMING
- No external fertilizers are added to the soil.
- No plowing, no tilling of soil, no fertilizers, and no weeding.
- An extremely low-cost farming method, completely molding with local biodiversity.
ORGANIC FARMING
- Organic fertilizers and manures are added to farmlands.
- Requires basic agro-practices — plowing, tilling, weeding, etc.
- Still expensive, due to the requirement of bulk manures, and has an ecological impact on the surrounding environment.
Sustainable Agriculture
IN SIMPLE WORDS
Sustainable agriculture means farming that can continue indefinitely without exhausting soil, water or the farmer.
EXAMPLEDrip irrigation gives 'more crop per drop', saving water while keeping yields.
A farming system "capable of maintaining its productivity and usefulness to society indefinitely — must be resource-conserving, socially supportive, commercially competitive, and environmentally sound."
Agricultural Marketing
IN SIMPLE WORDS
Agricultural marketing covers everything from the farm gate to the consumer: grading, storage, transport and sale. Better marketing means farmers keep a larger share of the final price.
EXAMPLEA farmer selling at a mandi through an agent pays commission. On e-NAM, buyers across states can bid online for the produce.
Refers to all the activities, agencies, and policies involved in the procurement of farm inputs by farmers, and the movement of agricultural produce from farms to consumers. The ICAR identifies three key functions:
- Assembling (concentration)
- Preparation for consumption (processing)
- Distribution
Types of Agricultural Marketing in India
Traditional Marketing Methods
Produce is directly sold by farmers involving a number of intermediaries. Close to 50% of India's agricultural produce is sold via these channels.
SIMPLYA chain of intermediaries sits between farmer and consumer.
E.G.A farmer sells to a local trader, who sells to a wholesaler, then a retailer, and each one takes a margin.
Cooperative Marketing Method
Agri-products are directly purchased from farmers through the marketing network of NAFED, eliminating middlemen.
SIMPLYCooperatives buy directly from farmers and cut out middlemen.
E.G.NAFED buys pulses directly from farmers at support prices.
Emerging Models of Agri Marketing
National Agriculture Market (eNAM); Farmer Producer Organizations; Contract Farming; Commodity and Futures Market.
SIMPLYNew models reach buyers more directly.
E.G.A farmer lists produce on eNAM and gets bids from traders in other states. An FPO pools many farmers' produce for better prices.
Agricultural Produce Market Committee (APMC)
A statutory market committee constituted by a State Government for trade in certain notified agricultural, horticultural, or livestock products, under the APMC Act.
Agriculture is a 'state' subject — numerous mandis exist under various state APMC laws, where the first sale of a notified commodity happens.
The Ministry of Agriculture and Farmers' Welfare attempted to overhaul the regulatory system by proposing the Model APMC Act, 2003 and the Model State/UT Agricultural Produce and Livestock Marketing (Promotion & Facilitation) Act, 2017.
Agricultural Research and Extension
IN SIMPLE WORDS
Research develops new varieties and techniques; extension carries them to farmers. Both are needed for innovation to reach the field.
EXAMPLEICAR scientists develop a high-yielding variety; a Krishi Vigyan Kendra shows farmers how to grow it.
Agricultural extension helps transfer relevant knowledge and information to farmers, and translates policy directions into action — connecting Education, Researchers, Farmers, and Extension in an Agricultural Knowledge Information System.
Agriculture Research Spending (% of Agri GDP)
Source: Agriculture Science and Technology Indicators (ASTI) data.
Historical Background
Department of Agriculture established in each Indian province.
In response to the Montagu-Chelmsford Reforms, the Imperial Agricultural Research Institute (IARI) was established to foster agricultural research and education.
ICAR began its participation in agricultural extension through National Demonstrations.
Transfer of research and education to State Agricultural Universities (SAUs); World Bank-sponsored Training and Visit System (T&V); ICAR launched Krishi Vigyan Kendras (KVKs).
Agricultural Technology Management Agency (ATMA) introduced to push agri-extension.
The Agri-Clinics and Agri-Business Centers (AC & ABC) Scheme was established to support private sector initiatives in extension. In the post-Independence era, agricultural extension was largely the function of State Departments of Agriculture.
DARE
Department of Agricultural Research and Education — established in December 1973, under the Ministry of Agriculture and Farmers' Welfare. Coordinates and promotes agricultural research and education in the country.
SIMPLYThe department that coordinates agricultural research and education, with ICAR under it.
E.G.It links research institutes and agricultural universities.
ICAR
Indian Council of Agricultural Research — established in 1929 as a registered society under the Societies Registration Act, 1860. An autonomous organization under DARE, and played a pioneering role in ushering in the Green Revolution.
SIMPLYThe apex body for agricultural research in India.
E.G.ICAR develops high-yield varieties and supports Krishi Vigyan Kendras.
Animal Husbandry and Allied Sector
IN SIMPLE WORDS
Animal husbandry supports farm incomes, nutrition and rural jobs, especially for small and landless farmers.
EXAMPLEOperation Flood linked village milk cooperatives to city markets and helped make India a leading milk producer.
The branch of agricultural sciences dealing with the study of various breeds of domesticated animals and their management, for obtaining better products and services.
Status of Animal Rearing in India
- The contribution of livestock in total agriculture and allied sector GVA (at constant prices) has increased from 24.32% (2014-15) to 30.13% (2020-21).
- The livestock sector contributed 4.90% of total GVA in 2020-21.
- India is the highest livestock owner in the world.
- As per the 20th Livestock Census, the total livestock population is 535.78 million — an increase of 4.6% over the 2012 Census.
- The number of usually-working persons engaged in Animal Production, Mixed Farming, Fishing, and Aquaculture is trending downward (2017-18 data).
LIVESTOCK CENSUS
The main source of livestock data in the country, conducted periodically since 1919 — covering all domesticated animals with head counts. 20 Livestock Censuses have been conducted so far, in participation with State Governments and UT Administrations. It is released by the Department of Animal Husbandry & Dairying.
Contribution of Milk Production by Species (2018-19)
Livestock Population by Species (2019)
Top livestock-holding states (2019 Census): Uttar Pradesh, Rajasthan, Madhya Pradesh, West Bengal, Bihar, Andhra Pradesh, Maharashtra, Telangana, Karnataka, Gujarat.
Major Crop-Growing Regions
IN SIMPLE WORDS
Crops follow climate, soil and water. Knowing which region suits which crop is basic exam geography with economic meaning.
EXAMPLERice does well in high-rainfall and irrigated areas, wheat in cooler irrigated plains, cotton on black soil and tea in Assam's hills.
Food Crop Zones
Major regions of India are mapped by dominant crop — rice, wheat, jowar (sorghum), and bajra (millet) — along with forest/scrub and sparse vegetation zones, and areas with two predominant crops.
SIMPLYMap of major food crop regions.
E.G.Rice belts in the east and south, wheat in the north-west, jowar and bajra in drier regions.
Commercial Crop Zones
Key commercial crop belts across India are mapped for sugarcane, cotton, jute, tea, and coffee.
SIMPLYMap of major commercial crop regions.
E.G.Sugarcane in Uttar Pradesh and Maharashtra, jute in West Bengal, tea in Assam, coffee in Karnataka.
ECONOMY CLASSES
Food Processing Industry & PDS
Food Processing Industries include a variety of operations by which raw foodstuffs are made into products suitable for consumption, cooking, or storage. This chapter covers the processing levels, supply chain, government schemes, and — on the distribution side — the Public Distribution System, FCI, NFSA, and Minimum Support Prices.
Levels of Food Processing
IN SIMPLE WORDS
Food processing turns raw farm produce into products in steps: primary (cleaning, grading), secondary (basic value addition) and tertiary (high-value, ready-to-eat).
EXAMPLEWheat to flour is primary; tomato to purée is secondary; purée into packaged ketchup or ready meals is tertiary.
Primary Processing
Cleaning, grading, powdering, and refining of agricultural produce.
E.g. grinding wheat into flour.
SIMPLYBasic preparation of raw produce.
E.G.Grinding wheat into flour.
Secondary Processing
Basic value addition.
E.g. tomato purée, ground coffee, processing of meat products.
SIMPLYAdding some value to primary products.
E.G.Making tomato purée or grinding coffee beans.
Tertiary Processing
High value-addition products.
E.g. jams, sauces, biscuits, and other bakery products ready for consumption.
SIMPLYMaking ready-to-eat, high-value products.
E.G.Jams, sauces and biscuits.
Supply Chain of the Food Processing Sector
IN SIMPLE WORDS
The supply chain connects farmers, processors, distributors and shops. Gaps such as poor storage or transport cause waste and price swings.
EXAMPLETomatoes travel from farm to collection centre, cold storage, a sauce factory, a distributor and a shop. Without cold storage, many rot on the way.
A network between suppliers (farmers) of raw material, the company (food processor), and the distribution network that markets the finished products.
UPSTREAM REQUIREMENTS
- Accessibility to raw materials.
- Modern extraction techniques.
- Good linkages with farmers.
- Storage facilities for raw materials — grains, meat, fish.
- Quality testing facilities.
- Transport facilities.
DOWNSTREAM REQUIREMENTS
- Latest processing techniques.
- Latest processing machinery.
- Quality testing facilities.
- Organized retail stores for faster distribution.
Logistics
The overall process of managing how resources are acquired, stored, and transported to their final destination.
Inbound Logistics
Related to upstream activities — all movement of the product before manufacturing, i.e. receiving materials, storing them, and the manufacturing process itself.
SIMPLYAll movement and storage of inputs before production.
E.G.Trucks bring tomatoes from farms to the plant, where they wait in cold storage before processing.
Outbound Logistics
Related to downstream operations — all movement of the product, once it is a finished good, to various markets.
SIMPLYAll movement of finished goods to markets.
E.G.Ketchup bottles go from the factory to a distributor and then to shops.
Linkages
Linkages measure an industry's capability to generate demand for the products of/in other industries.
Backward Linkages
The connectivity of FPIs with sources of raw material supply.
E.g. supply of tomatoes to a ketchup manufacturer.
SIMPLYLinks with the suppliers of raw materials.
E.G.A ketchup maker contracts with farmers to supply tomatoes.
Sideways Linkages
Linked with the use of byproducts and waste products of the main base industrial activity.
E.g. byproducts/waste used in production of fuel, biofuels, paper.
SIMPLYLinks through use of by-products and waste.
E.G.Sugarcane waste (bagasse) is used to generate electricity at a sugar mill.
Forward Linkages
The connectivity of FPIs with markets through a distribution network comprising physical infrastructure — storages, road and rail networks, etc.
SIMPLYLinks with markets and customers through distribution.
E.G.Cold storage, trucks and retailers that take food products to consumers.
Food Processing Industry & Economic Development
IN SIMPLE WORDS
Food processing links farms to markets, reduces waste, creates jobs near farms and raises farmers' incomes through value addition.
EXAMPLEA processing unit near a tomato-growing area lets farmers sell surplus that would otherwise be wasted, and gives local people jobs.
Government Schemes — Food Processing
IN SIMPLE WORDS
Government schemes support processing through grants, infrastructure like cold chains and incentives for production.
EXAMPLEA subsidised cold storage unit lets farmers keep produce longer and sell at better prices.
PM Kisan Sampada Yojana (PMKSY)
Key Features:
- Supports financial, technical, and business assistance for setting up/upgrading micro food processing enterprises.
- Total outlay: Rs. 10,000 crore, to support 2 lakh micro food processing enterprises.
Components:
Mega Food Parks
SIMPLYClusters of processing units with shared facilities, close to farms.
E.G.A park where several processors share cold storage, warehouses and a quality lab.
Integrated Cold Chain & Value Addition Infrastructure
SIMPLYAn unbroken cold chain from farm to consumer.
E.G.Milk is chilled at the village, moved in insulated tankers to the dairy, and stored cold until sale.
Creation/Expansion of Food Processing & Preservation Capacities
SIMPLYSupport for new or expanding processing capacity.
E.G.A grant helps a mango pulp unit to expand its production.
Infrastructure for Agro-Processing Clusters
SIMPLYInfrastructure for groups of small agro-processors.
E.G.Shared roads, power and water for 20 small units in a district.
Creation of Backward & Forward Linkages
SIMPLYConnecting farms to processors, and processors to markets.
E.G.Collection centres near farms and cold storage near cities.
Food Safety & Quality Assurance Infrastructure
SIMPLYLabs and standards that ensure food is safe.
E.G.A testing lab that checks pesticide residues in packaged food.
Human Resources & Institutions
SIMPLYTraining and institutions for skilled people in the sector.
E.G.Courses in food technology and institutes that train processors.
Operation Greens
SIMPLYA scheme to stabilise prices of tomato, onion and potato.
E.G.When tomato prices crash, support for transport and storage helps farmers move or hold produce.
Major Achievements (till Dec 2023):
- Beneficiaries: 61,796 individuals, 34 FPOs, 433 SHGs, and 19 Producer Co-operative Societies.
- Most SHG beneficiaries: Bihar (176).
- Most FPO beneficiaries: Karnataka and Tamil Nadu (7 each).
Mega Food Park — Processing Flow
- Aggregation points for produce from farmer groups, self-help groups, and farmers.
- Pre-cooling, grading & sorting, waxing, packing, temporary storage. Supplies to the Central Processing Centre, or direct to market.
- Core, basic enabling, and non-core infrastructure — SDF sheds, processing units. Produces value-added products for domestic sales, or fresh products for domestic retail sales.
PM Formalisation of Micro Food Processing Enterprises (PMFME)
- Total outlay: Rs. 10,000 crore.
- 2,00,000 FPOs/SHGs/Cooperatives and working micro-enterprises to be directly benefitted.
- Expected to generate 9 lakh skilled and semi-skilled jobs.
- To be implemented over a 5-year period, 2020-21 to 2024-25.
- Cluster approach, with focus on perishables.
Operation Greens
Announced in the Union Budget 2018-19 speech, on the lines of "Operation Flood." Initially limited to TOP crops (Tomato, Onion, Potato), it has since transformed from TOP to TOTAL, covering other fruits and vegetables too. Two-pronged strategy:
Short-Term — Price Stabilisation Measures
NAFED is the nodal agency. MoFPI provides 50% subsidy on transportation and storage facilities for TOP crops. The Market Intelligence and Early Warning System (MIEWS) Portal monitors prices, generates alerts, and disseminates information related to TOP crops.
SIMPLYShort-term actions to steady prices.
E.G.During an onion glut, a subsidy helps move onions to markets facing a shortage.
Long-Term — Integrated Value Chain Development
Formation and capacity building of FPOs, quality production, post-harvest processing facilities, agri-logistics, etc.
SIMPLYLong-term actions to build value chains.
E.G.Farmers form an FPO and set up a processing unit for tomatoes in their district.
Other Schemes
- The investor facilitation portal under the Ministry of Food Processing Industries.
- A one-stop solution for investors looking to invest in India's food processing sector — covering focus sectors, state policies, district-level agri-horti production resources, publications, and the latest updates on the sector.
- Aims to modernise existing abattoirs, or establish modern ones, under PPP mode with the involvement of local bodies (panchayats or municipalities).
- Initiated by the Ministry of Tribal Affairs, Ministry of FPI, and TRIFED.
- Aims to enhance tribal incomes through better utilisation and value addition of Minor Forest Produce (MFP) collected by tribal forest gatherers.
PDS — Food Distribution & Management
IN SIMPLE WORDS
The PDS distributes subsidised food through ration shops. The FCI buys grain from farmers, stores it and moves it to states.
EXAMPLEA card-holder buys rice at a ration shop at a low price; the grain was procured from farmers and stored by FCI.
The Public Distribution System (PDS) is a food security system established under the Ministry of Consumer Affairs, Food, and Public Distribution.
Central Government
On behalf of the central government, the Food Corporation of India (FCI) undertakes procurement, storage, transportation, and bulk allocation of food grains to State Governments.
SIMPLYThe Centre procures, stores and moves grain.
E.G.FCI buys wheat in Punjab and sends it to state godowns, including in Odisha.
State Governments
Undertake operational responsibilities like allocation within the state, identification of eligible families, issue of ration cards, and supervision of Fair Price Shops (FPSs).
SIMPLYStates identify beneficiaries and run ration shops.
E.G.A state identifies eligible households, issues ration cards and supervises fair price shops.
PDS Flow
NOTE
Commodities presently included under PDS are wheat, rice, sugar, and kerosene. Some States/UTs also distribute additional items such as pulses, edible oils, iodized salt, spices, etc.
Evolution of PDS in India
PDS — general entitlement scheme.
TPDS — Revamped PDS to target poor households.
Antyodaya Anna Yojana — targets the "poorest of the poor."
PDS Control Order — to administer TPDS.
PUCL vs UoI Case — the Supreme Court declared "right to food" a fundamental right.
National Food Security Act — provides the right to food to the poor.
Food Corporation of India (FCI)
A statutory organisation set up in 1965, under the Food Corporation Act, 1964. FCI has three basic objectives:
- Provide effective price support to farmers.
- Procure and supply grains to the PDS, for distribution to economically vulnerable sections of society.
- Maintain a strategic reserve to stabilize the market for basic food grains.
National Food Security Act (NFSA), 2013
IN SIMPLE WORDS
NFSA 2013 made food a legal right for eligible households, shifting from welfare to rights. Priority households get subsidised grain each month.
EXAMPLEEligible households get 5 kg of food grain per person per month at very low prices.
Marks a paradigm shift in the approach to food security — from a welfare-based to a rights-based approach.
Key Features:
- Covers about 67% of the total population — 75% of the rural and 50% of the urban population.
- Special focus on nutritional support to pregnant women, lactating mothers, and children up to 14 years.
- Ration cards are issued in the name of the eldest woman in the household.
- State Governments are responsible for identifying households within 365 days of the Act's passage.
- Provides a food security allowance, if the concerned state government is unable to provide the food grain.
Targeted Public Distribution System (TPDS)
- Targeted households are entitled to 5 kg of food grains per person per month at: coarse grains (Rs. 1/kg), wheat (Rs. 2/kg), rice (Rs. 3/kg).
- A joint operational responsibility of the Central and State/UT Governments; end retail price fixed by States/UTs.
- Intended beneficiaries: all-India coverage of up to 75% of the rural population and 50% of the urban population.
Antyodaya Anna Yojana (AAY)
Covers the poorest of the poor families among BPL families covered under TPDS. Part of the NFSA — households are entitled to 35 kg of food grains per month. States/UTs bear the distribution cost, including margins to dealers/retailers and transportation cost.
Intended beneficiaries:
- Landless agriculture labourers, marginal farmers, rural artisans, and persons earning their livelihood daily in the informal sector.
- Households headed by widows, terminally ill persons, disabled persons, or persons aged 60+ with no assured means of subsistence or societal support.
- All primitive tribal households.
- All eligible BPL families of HIV-positive persons.
Integrated Management of PDS & One Nation, One Ration Card
Integrated Management of PDS
A central sector scheme to integrate the PDS systems of States/UTs with the Central System — including National Portability, letting beneficiaries lift their entitled food grains from the FPS of their choice, at the national level.
SIMPLYA scheme to link all state PDS systems for portability.
E.G.A migrant worker can use the ration card in another state.
One Nation, One Ration Card
Enables intra-state and inter-state portability — a beneficiary can buy subsidized food grains from any FPS across the country, using their existing Aadhaar-linked ration card.
SIMPLYOne card works anywhere in the country.
E.G.A worker from Odisha employed in Gujarat buys subsidised grain there with the same card.
Issues Related to PDS in India
IN SIMPLE WORDS
PDS faces problems of targeting, leakages and storage. Technology and Aadhaar-based reforms try to fix these.
EXAMPLEA 'ghost beneficiary' is a fake or duplicate card holder. Digitised cards and biometric checks help remove them.
Minimum Support Prices (MSP)
IN SIMPLE WORDS
MSP is a price floor announced by the government to protect farmers from sharp price falls. CACP recommends it.
EXAMPLEIf the market price of paddy falls below MSP, government agencies buy at MSP, so the farmer does not sell at a loss.
A form of market intervention by the Government of India, to insure agricultural producers against any sharp fall in farm prices. The Commission for Agricultural Costs and Prices (CACP), an attached office of the Ministry of Agriculture and Farmers Welfare, recommends MSPs for 23 commodities.
7 Cereals
Paddy, wheat, maize, sorghum, pearl millet, barley, and ragi.
SIMPLYMSP is declared for these cereals.
E.G.If the market price of paddy falls below MSP, government agencies buy at MSP.
5 Pulses
Gram, tur, moong, urad, lentil/masur.
SIMPLYMSP is declared for these pulses.
E.G.A tur farmer sells to government agencies when market prices dip.
7 Oilseeds
Groundnut, rapeseed/mustard, soybean, sesamum, sunflower, safflower, nigerseed.
SIMPLYMSP is declared for these oilseeds.
E.G.A groundnut farmer is assured of a minimum price.
4 Commercial Crops
Copra, sugarcane, cotton, and raw jute.
SIMPLYMSP is also declared for these commercial crops.
E.G.Cotton farmers can sell to the Cotton Corporation of India when prices fall below MSP.
Factors Considered While Recommending MSPs
- Cost of production.
- Changes in input prices.
- Input-output price parity.
- Trends in market prices.
- Demand and supply.
- Inter-crop price parity.
- Effect on industrial cost structure.
- Effect on cost of living.
- Effect on general price level.
- International price situation.
- Parity between prices paid and prices received by farmers.
- Effect on issue prices, and implications for subsidy.
NOTE
In addition to the MSP announced by the Central Government, State Governments also declare a bonus over and above the MSP, to promote agriculture practices in their respective states.
Miscellaneous — Related Price Terms
Procurement Prices
Higher than MSP, meant essentially for the purchase of quantities needed by the Government to maintain the PDS and build up the buffer stock.
SIMPLYThe price at which the government buys grain for the PDS and buffer stock.
E.G.If the MSP of wheat is ₹X and a state adds a bonus, the procurement price is higher than MSP.
Central Issue Prices
The prices at which the Government supplies food grains through Fair Price Shops and ration depots.
SIMPLYThe price at which grain is sold to states for ration shops.
E.G.Under NFSA, issue prices were set at ₹3, ₹2 and ₹1 per kg for rice, wheat and coarse grains. Grain is now given free under a separate central scheme.
ECONOMY CLASSES
Infrastructure — Part 1
Infrastructure refers to the basic physical and organizational structures and facilities needed for the operation of a country, city, or area. Without infrastructure — power, transport, telecommunications, sanitation, etc. — economic production suffers or quality of life deteriorates. These activities can be viewed as essential inputs to the economic system.
Types of Infrastructure
IN SIMPLE WORDS
Infrastructure is the base on which the economy works. Hard infrastructure is physical (roads, power); soft infrastructure is institutional (schools, hospitals).
EXAMPLEA highway is hard and economic infrastructure; a school is soft and social infrastructure.
Classification I
Soft Infrastructure
Institutions that usually require human capital and help deliver certain services to the population.
E.g. hospitals, banks, schools, colleges, and the judiciary.
SIMPLYInstitutions that deliver services to people.
E.G.A school and a bank branch.
Hard Infrastructure
Physical systems necessary to run a modern, industrialized nation.
E.g. roads, highways, bridges, vehicles, oil rigs/refineries.
SIMPLYPhysical systems that the economy runs on.
E.G.Roads, bridges and refineries.
Critical Infrastructure
Assets defined by the government as essential to the functioning of a society and economy.
E.g. telecommunications, space, defence.
SIMPLYAssets so essential that their failure would harm society.
E.G.If the power grid fails, hospitals, trains and factories all stop.
Classification II
Social Infrastructure
- Helps the economic system from outside (i.e. indirectly).
- Improves the quality of human resources.
- Expenditure on it raises the stock of human capital.
E.g. health, education, and housing.
SIMPLYInfrastructure that helps the economy indirectly by improving people.
E.G.A school raises future workers' skills. The benefit comes slowly.
Economic Infrastructure
- Helps the economic system from inside (i.e. directly).
- Improves the quality of economic resources.
- Expenditure on it raises the stock of physical capital.
E.g. energy, transport, and communication.
SIMPLYInfrastructure that helps production directly.
E.G.A new port cuts the cost of exporting goods immediately.
Significance of Infrastructure
IN SIMPLE WORDS
Infrastructure raises productivity, links markets and improves living standards, so it supports growth and welfare.
EXAMPLEA new road lets a farmer take vegetables to town quickly, with less spoilage and a better price.
- Increases the productivity of the factors of production.
- Improves the quality of life and life chances.
- Improvements in water supply and sanitation reduce morbidity caused by waterborne diseases.
- Social infrastructure increases the quality of life of workers, thereby increasing their efficiency.
- Better means of transport and communication, and a robust system of banking and finance, generate better inter-industrial linkages.
Railways
IN SIMPLE WORDS
Railways carry people and freight at low cost, but their share of freight has fallen as road transport grew.
EXAMPLEDedicated Freight Corridors aim to move goods faster and win back long-distance freight for rail.
- Indian Railways is the fourth largest network in the world (by length).
- The largest passenger, and fourth largest freight, transporting railway system globally.
- The modal share of railways in surface freight transportation has declined from 86.2% in 1950-51 to 33% in 2015.
Recent Initiatives
- To develop infrastructure by 2030 to cater to traffic requirements up to 2050.
- A customer-centric approach to expand freight carried from traditional segments, as well as attracting new customers.
- Decongests the existing Indian Railway network, increases the average speed of goods trains from 25 to 70 kmph, runs heavy haul trains, and reduces the logistics cost of transportation.
- Indigenous installation for increased passenger safety.
- Focused action on the security of women travelling in trains.
- An information portal that brings key details from various sources onto a single dashboard, to promote transparency and accountability.
Telecommunications
IN SIMPLE WORDS
Telecom and the internet are now the backbone of services, digital payments and governance.
EXAMPLECheap mobile data and UPI let a roadside vendor accept digital payments.
- India is the world's second-largest telecommunications market, with a subscriber base of 1.16 billion.
- Internet subscribers increased to 881.25 million as of March 2023.
- Around 759 million Indians are active internet users, accessing the internet at least once a month — expected to grow to 900 million by 2025.
Recent Initiatives
- Provides network infrastructure with affordable broadband connectivity on a non-discriminatory basis, to all households in the country.
- The Prime Minister launched 5G services on 1 October 2022. Rolled out in all 28 states and 8 UTs — one of the fastest 5G rollouts in the world.
- PM Wi-Fi Access Network Interface Scheme — sets up Public Wi-Fi Networks through Public Data Offices (PDOs) across the country, to accelerate broadband internet proliferation.
- Earmarks Rs. 12,195 crore for manufacturing of telecom and networking products; over Rs. 4,000 crore earmarked for the Design Led Manufacturing Scheme within the existing PLI Scheme.
Energy
IN SIMPLE WORDS
Energy is the lifeblood of growth. India relies heavily on coal but is expanding renewables and improving access and efficiency.
EXAMPLEA rooftop or solar park reduces dependence on coal and imported oil. India co-founded the International Solar Alliance.
- India's energy mix is dominated by coal, followed by oil, biomass, renewable and clean energy, and nuclear energy.
- India is the world's third largest energy consumer — however, its per capita energy consumption is about one-third of the global average.
Recent Initiatives
- Deendayal Upadhyaya Gram Jyoti Yojana — launched 2014; achieved 100% village electrification on 28 April 2018.
- Pradhan Mantri Sahaj Bijli Har Ghar Yojana — aims at universal household electrification, providing connections to all willing un-electrified households in rural areas and all poor households in urban areas. Provided connections to 2.86 crore unelectrified households as of June 2023.
- Aims to provide free electricity to one crore households in India that opt to install a rooftop solar electricity unit.
- Aims to make India the global hub for production, usage, and export of Green Hydrogen and its derivatives.
- Comprises sub-schemes: Waste to Energy Programme (energy from urban, industrial, and agricultural wastes/residues), Biomass Programme, and Biogas Programme (family and medium-size biogas in rural areas).
ECONOMY CLASSES
Infrastructure — Part 2
India has the second largest road network in the world, at about 63.32 lakh km. The share of the transport sector in GVA for 2021-22 was about 4.5%. This chapter covers Roads, Railways, Civil Aviation, and Ports & Shipping — their scale, government initiatives, and reform committee recommendations.
Road Sector
IN SIMPLE WORDS
Roads carry the largest share of passenger and freight traffic and connect villages to markets. Programmes aim to build highways and rural roads.
EXAMPLEThe Golden Quadrilateral connects Delhi, Mumbai, Chennai and Kolkata, cutting travel time and cost.
Share of Transport Sector in GVA — 4.5% Total
Government Initiatives
- Aims at construction/up-gradation of National Highways of 34,800 km length, over 5 years (2017-18 to 2021-22).
- Funded through debt funds, private investment, the central road fund, or toll collection.
- Monetizes completed stretches of publicly funded national highways, to mobilize additional resources through capital markets.
- Similar to mutual funds — allows individual and institutional investors to invest in infrastructure projects and earn a portion of the income as return.
- Special Accelerated Road Development Programme for the North-Eastern Region — improves road connectivity from state capitals to district headquarters; targets ~4,099 km in Phase A.
- North-East Road Network Connectivity Project Phase I: improves infrastructure in Meghalaya and Mizoram, and enhances connectivity with inter-state roads and international borders.
- To widen and revamp 1.25 lakh km of roads under the rural road programme Pradhan Mantri Gram Sadak Yojana, at an estimated cost of Rs. 80,250 crore (US$ 11.48 billion).
Interim Budget 2024-25 — Proposals for Roads
- Allocation for the Road Ministry raised marginally to Rs. 2.78 lakh crore, from Rs. 2.7 lakh crore in Union Budget 2023.
- Of this outlay, Rs. 1.68 lakh crore is earmarked for investment in NHAI, for developing national highway corridors under Bharatmala Pariyojana.
- Government to soon modify the Model Concession Agreement, to attract private investment into the sector.
- Infrastructure expenditure increased by 11.1% to Rs. 11,11,111 crore, against a budgetary allocation of Rs. 10 lakh crore in 2023-24.
Speeding Ahead — National Highways Construction (km)
Source: MORTH Annual Report 2022-23
Recommendations of the Rakesh Mohan Committee — Roads
- Roads should not be looked at in isolation, but as part of an integrated multi-modal system of transport.
- The PMGSY programme should be expanded to achieve universal connectivity to all habitations, on a time-bound basis.
Railways
IN SIMPLE WORDS
Indian Railways is organised into zones and divisions, and reform ideas include private entry, independent regulation and modernisation.
EXAMPLEEast Coast Railway, headquartered in Bhubaneswar, is one of the 17 zones.
The national railway network is divided into 17 zones, further subdivided into 68 divisions. As on 31 March 2020, there were 40 Railway PSUs under the direct administrative control of the Ministry of Railways.
Key Developments — Bibek Debroy Committee
- Private entry into running both freight and passenger trains should be allowed.
- The Ministry of Railways has invited private participation for the operation of passenger train services.
- The Indian Railways network is attracting an estimated Rs. 30,000 crore in investment, expected to begin in 2023.
Pros and Cons of Privatization in Railways
BENEFITS
- Improved efficiency — a private firm is interested in making a profit.
- Private players face pressure from shareholders to perform efficiently.
- Would ensure improved quality of service, with competitive fares.
- Helps accommodate the latest technology — railway coaches, online services, etc.
CHALLENGES
- Privatization might create a private monopoly.
- A private enterprise running on profit might hike fares.
- Private companies are unpredictable in their dealings, and don't share governance secrets with the world at large.
- High costs, lower returns, policy uncertainty, lack of a regulator to create a level playing field, and procedural/operational issues like delays in land acquisition.
Dedicated Freight Corridors (DFCs)
The Indian Railways' quadrilateral linking Delhi, Mumbai, Chennai and Howrah — commonly known as the Golden Quadrilateral — and its two diagonals (Delhi-Chennai and Mumbai-Howrah), adds up to a total route length of 10,122 km, carrying more than 52% of passenger traffic and 58% of revenue-earning freight traffic of Indian Railways.
Western DFC
Dadri, U.P. to Jawaharlal Nehru Port, Mumbai — 1,504 km.
SIMPLYA dedicated freight line from Dadri to JNPT in Mumbai.
E.G.Goods trains run on their own track, so they don't wait for passenger trains.
Eastern DFC
Ludhiana, Punjab to Dankuni, West Bengal — 1,856 km.
SIMPLYA dedicated freight line from Ludhiana to Dankuni.
E.G.Coal from the east moves quickly to power plants in the north.
Other Announced Corridors
East-West Corridor (Kolkata-Mumbai); North-South Corridor (Delhi-Chennai); East Coast Corridor (Kharagpur-Vijayawada); Southern Corridor (Chennai-Goa).
SIMPLYMore freight corridors are planned.
E.G.East–West and North–South corridors to move goods across the country.
Government Initiatives — Railways
- Clone Train Scheme: runs a "clone" of an existing train under the same number, to provide relief during high-demand periods.
- Sanctioned a feasibility study for seven bullet train projects — all open to PPP investment.
- Created a special cell, the Project Development Cell, to attract foreign direct investment (FDI).
- Amrit Bharat Station Scheme: aims to enhance and modernize railway stations across the network.
- National Rail Plan (NRP) 2030: develops infrastructure by 2030 to cater to traffic requirements up to 2050, and increase the modal share of rail in freight to 45%.
Recommendations by Reform Committees
Bibek Debroy Committee
- Railway zones and divisions need to be re-drawn, consistent with nationally and internationally accepted norms.
- Set up an overarching Railway Regulatory Authority of India (RRAI) as an independent regulatory body.
- New suburban lines should be constructed as joint ventures with state governments.
- Too many Zones and Divisions exist — a rationalization exercise is required.
SIMPLYThe committee suggested restructuring railway zones and administration.
E.G.It helped push for merging the Railway Budget into the general budget.
Rakesh Mohan Committee
- Separation of railways management and operations from the Government.
- Accounting system to be revamped into a company account format, in line with Indian GAAP.
- Indian Railways should target growing FMCG, Consumer Durable and IT, containerized cargo, and segments like automobiles.
- Establishment of a National Board for Rail Safety, and a Railway Research and Development Council.
SIMPLYThe committee suggested separating management from government and using company-style accounts.
E.G.Railways would be run more like a business, with commercial accounting.
Budget 2024-25 — Proposals for Railways
Vande Bharat Upgrades
Indian Railways will upgrade 40,000 bogies to Vande Bharat standards.
SIMPLYUpgrading existing coaches to Vande Bharat standards.
E.G.Older coaches are made faster and more comfortable.
Three Economic Corridors
Energy, Mineral and Cement Corridor; Port Connectivity Corridors; and High Traffic Density Corridors.
SIMPLYThree planned corridors for heavy cargo and ports.
E.G.A corridor carrying coal from mines to power plants, and another linking ports to the interior.
Civil Aviation
IN SIMPLE WORDS
Civil aviation is growing fast. DGCA regulates safety; airport operators and regional connectivity schemes extend reach.
EXAMPLEUDAN makes regional flights affordable, so smaller cities connect to air routes.
- India is the third largest domestic market for civil aviation in the world.
- The civil aviation sector contributes 5% of GDP and 4 million jobs.
- There has been an increase in air cargo, both domestically and internationally.
- The Director General of Civil Aviation (DGCA) is the regulatory body in the field of civil aviation, under the Ministry of Civil Aviation.
Government Initiatives
- Regional Connectivity Scheme – Ude Desh ka Aam Nagrik.
- Applicable on flights covering between 200 km and 800 km — no lower limit set for hilly, remote, island, and security-sensitive regions.
- Reserves a minimum number of UDAN seats at subsidized rates, and caps fares for short-distance flights.
- Provides connectivity to un-served and under-served airports, through revival of existing air-strips and airports.
- India to become the 3rd largest civil aviation market by 2022, from 9th.
- Domestic ticketing to grow from 8 crore in 2015 to 30 crore by 2022.
- Cargo volumes to increase 4 times, to 10 million tonnes, by 2027.
- Ensuring availability of 3.3 lakh quality-certified skilled personnel by 2025.
Ports and Shipping
IN SIMPLE WORDS
Most of India's trade by volume moves by sea, so ports are critical. Inland waterways are cheap but underused.
EXAMPLESagarmala promotes port-led development. Paradip in Odisha is a major port, and National Waterway-1 runs along the Ganga.
- Shipping is essential to both commodity and services trade of any country. India has a coastline spanning about 7,500 km.
- Around 95% of India's trade by volume, and 68% by value, is transported by sea.
Inland Waterways
Inland Water Transport (IWT) carries less than 2% of India's organized domestic freight traffic. The Inland Waterways Authority of India (IWAI) is mandated to develop and maintain infrastructure for fairway, navigational aids, and terminals.
Government Initiatives
- Focuses on modernizing and developing ports, enhancing port connectivity, supporting coastal communities, and stimulating port-linked industrialization.
- Connects Uttar Pradesh, Bihar, Jharkhand, and West Bengal, through the development of National Waterway-1.
- 14 mega CEZs proposed — each an agglomeration of coastal districts within a state.
- Aims to double the share of water transportation in the modal mix.
- Aims to reduce logistics costs for foreign and domestic trade, saving an estimated Rs. 35,000–40,000 crore annually by 2025.
Model Concession Agreement (MCA) for Port Development
The Union Cabinet approved changes in the MCA for PPP projects in major ports conceived under the Sagarmala programme.
- Provides an exit route for developers — up to 100% equity divestment after two years from the Commercial Operation Date (COD).
- Royalty to the developer is charged per million tonne of cargo handled.
- A complaint portal for port users, and a monitoring arrangement, have also been introduced for periodical project status reports.
The Major Port Authorities Act, 2021
- Vests administration, control, and management of major ports in the Major Port Authorities Board — replacing existing Port Trusts.
- The Board has full powers to enter into contracts, planning and development, and fixing tariffs — except in matters of national interest, security, and emergencies arising from inaction or default.
- Defines PPP projects as those taken up through a concession contract by the Board, which may fix tariffs for initial bidding purposes.
- Reorients governance in central ports to the landlord model — port infrastructure is leased to private operators, while ownership remains with the port authority.
- Vadhavan Port: the Union Cabinet gave 'in-principle' approval for a Major Port at Vadhavan, about 190 km north of JNPT in Maharashtra.
For Inland Waterways
- The Ministry is augmenting the capacity of NW-1 under the Jal Marg Vikas project.
- To provide institutional funding, the Government has proposed to allocate 2.5% of the proceeds of the Central Road Fund (CRF) for development and maintenance of National Waterways.
Other Initiatives
- An exercise undertaken to prepare a quantitative and qualitative assessment of the efficiency parameters of Major Ports in India.
- Relates to the safe and environmentally sound recycling of ships.
- Captures the facial biometric data of seafarers.