ICAI Notes 5.1 - Nature of Indian Economy | Business Economics for CA Foundation PDF Download

Learning Objectives

• Know about the criteria of classifying an economy as underdeveloped, developing or developed.
• Understand the factors which make Indian economy as underdeveloped.
• Understand the factors which make Indian economy as developing.
• Understand how Indian economy can be classified as mixed economy.

India - An Underdeveloped Economy

Features of an Underdeveloped Economy 

Generally an economy is said to be underdeveloped, if it has the following characteristics:

• Agriculture is the main occupation of the people. Nearly 60 to 80 per cent of the population is engaged in agriculture and its related activities.
• Poverty is wide-spread. The ability to save of people is very low. Due to the low rate of saving, the rate of capital formation/investment is very low.
• Population grows at a high rate (about 2 per cent per annum) and the burden of dependent population is also high.
• The standard of living of people is generally low and the productivity of labour is also considerably low.
• The production techniques are backward. Investment in research and development is quite low.
• The incidence of unemployment and underemployment is quite high.
• The level of human well-being measured in terms of real income, health and education is generally low.
• Income inequalities are widespread.
• Apart from the above features, such economies have low participation in foreign trade, their social life is traditional; people are generally orthodox in their outlook and they seldom make any changes in their socio-economic relations.

India's case

If we analyze Indian economy we may say that it is an undeveloped economy. This is because it has most of the characteristics mentioned above.

• Agriculture is the main occupation of the people in India. At the time of Independence nearly 72 per cent of the population was dependent on agriculture. At present, nearly 52 per cent population is dependent on agriculture (2008-09). There has been an increase in the absolute number of people engaged in agricultural activities in India.
• In India, the incidence of poverty is very high. Every third poor person in the world is an Indian. That means one third of the world's poor live in India. According to the latest available data (results of the latest round of the National Sample Survey Organization (NSSO) - 2004-05) nearly 22 per cent of the population is below poverty line. The corresponding ratio was 36 per cent in 1993-94 and 26 per cent in 1999-2000.
• Over the years, Indian population has grown at a fast rate of more than 2 per cent. The country is facing the problem of population explosion as the death rate is falling but there is no corresponding fall in the birth rate. The dependency rate i.e. percentage of people in non-working age group (below 15 and above 64 years of age) is nearly 40 per cent in India as compared to developed countries where it is about 33 per cent.
• India's per capita income was $950 in 2007. It is low not only compared to developed countries like USA, UK, Germany but also developing countries like China, Sri Lanka, Indonesia etc. Because of low level of per capita, income the standard of living of people is quite low.
• In India, because of low per capita income and low saving rates, the gross capital formation rates have remained considerably low. Gross domestic savings were generally below 20 per cent of GDP (at current prices) between 1950-1990. As a result, gross domestic capital formation has also remained below 20 per cent during these years. Consequently, the rate of economic growth has remained stuck at a relatively low level. Since 1990-91, there have been improvements in saving and investment rates. Beginning with around 23 per cent in 1990-91 the gross domestic savings rate reached 29.8 per cent in 2003-04 and became 37.7 per cent in 2007-08; similarly gross domestic capital formation became 36.9 per cent in 2006-07 and 39.1 per cent in 2007-08 starting from 26 per cent in 1990-91.
• Techniques of production, especially in the agriculture sector are still backward. Productivity in agriculture as well as in industrial sector is low in India as compared to advanced countries.
• The incidence of unemployment in India is quite high. The Tenth Plan aimed to create approximately 50 million employment opportunities during the plan period. The results of the 61st NSSO round show that about 47 million persons were provided job during 2000-05. Thus, we find that there are a large number of unemployed people in India. Not only this, the unemployment rate over the years has increased. This will be clear from the following table (NSSO - 55th and 61st Rounds).

Table 1 : Rate of unemployment (CDS Basis) (in percentage)

• Not only there is high rate of open unemployment the rate of disguised unemployment is also very high. Disguised unemployment means apparently people are employed but their contribution to the production is very-very low. In other words, their productivity is nil or negative. Such type of unemployment is more common in the agricultural sector. Here, many people work in a small farm land but their contribution is almost nil. So they are disguisedly unemployed. The actual extent of disguised unemployment is difficult to measure.
• In India, the level of human well-being is also quite low. For measuring human wellbeing, generally Human Development Index (HDI) constructed by the United Nations Development Programme (UNDP) is used. The HDI is a composite of three basic indicators of human development - longevity, knowledge and standard of living. Longevity is measured in terms of life expectancy at birth, knowledge in terms of education and standard of living in terms of real GDP per capita. The HDI is a simple average of the above indices. The UNDP finds this index for all countries and ranks them. According to the latest UNDP Report 2008, India's relative global ranking on this index has remained at a low of 132 among 179 countries. Its HDI was 0.577 in 2004 which improved marginally to 0.609 in 2006.
• The distribution of income and wealth in India is not equitable. In order to measure the inequality of income and wealth, generally Gini index is used. The Gini index measures the extent to which distribution of income/consumption among individuals or households within an economy deviates from a perfectly equal distribution. A Gini index of zero represents perfect equality while an index of one represents perfect inequality. The Gini coefficient lies between 0 and 1. According to the World Development Report - 2006, the Gini index for India in 1999-00 (survey year) was 0.33. It increased to 0.368 in 2004 (Central Intelligence Agency). The corresponding figure was 0.297 in 1994. Thus, over this period, the inequalities of income and wealth have increased.

India - A Developing Economy

If we go through the above facts, we may rush to the conclusion that Indian economy is an underdeveloped economy. But that is not completely true. Indian economy has over the decades shown marked improvements. It is in fact moving fast on the path of development. The following facts are important here:

Rise in National income

• India's national income i.e. Net National Product (NNP) at factor cost was Rs. 2,04,924 crore in 1950-51 which rose to Rs. 27,64,795 crore (at constant prices) in 2007-08. 
• Thus, over a period of 58 years the NNP has increased by more than 12 times. 
• On an average, the NNP has increased at a rate of a little less than 5 per cent per annum. 
• During the 27 years, NNP rose at a rate of more than 5.5 per cent per annum as against 3.5 per cent per annum during the first three decades of planning. 
• Thus, we see that India is growing although at not so high rate of growth.

Rise in Per Capita Income: 

• Per capita income in India was Rs. 5,708 in 1950-51 (at constant prices). It rose Rs. 24,295 in 2008-09. 
• Thus, over a period of 57 years, the per capita income has increased by more than three times. On an average, the per capita income has increased at a rate of around 2.2 per cent per annum. 
• In fact, in the last 27 there has been a spurt in the growth rate of per capita income. It rose at an average rate of 3.5 per annum, during this period compared with 1.4 per cent per annum during the first 30 years of planning.
• Significant changes in occupational distribution of population: By occupational structure of a country we mean the distribution of work force in different occupations of the country. All occupations are broadly divided into three groups.
  (a) Primary Sector: Primary sector includes agriculture and other activities related with agriculture such as animal husbandry, forestry, poultry farming etc.
  (b) Secondary sector: This includes all types of manufacturing activities including construction etc.
  (c) Tertiary sector: This sector includes trade, transport, communication, banking and other such services.In general, it has been found that as an economy grows, there is a shift of labour force from primary sector to secondary and tertiary sectors.
  The proportion of working population in agriculture and allied activities falls and the proportion of working population in secondary sector and tertiary sector rises.
  This happens basically because of two reasons:
  Firstly, as economic development takes place income increases but demand for agricultural goods does not increase proportionately. On the other hand, rise in incomes brings about a large increase in demand for goods and services produced by secondary and tertiary sectors.
  Secondly, as an economy develops, better techniques of production become available to the agricultural sector which improve productivity of land and labour in this sector. The result is that there is a less need for labour in agriculture. On the other hand, although productivity also improves in the industrial sector, the increase in demand for industrial goods is far greater than the rise in productivity in this sector. This necessitates engagement of more labour in this sector, hence the shift takes place.

Occupational structure in India

The following table shows the occupational structure in India.

Table 2: Occupational Distribution of Working Population in India

During 1951, Primary sector offered work to about 72 percent of the working population, secondary sector to 10.6 percent and tertiary sector to 17.3 percent of the working population. In 2001 there was some change in the occupational distribution. The primary, secondary and tertiary sectors respectively occupied 59.3 percent, 18.2 percent and 22.5 percent of the working population.

According to the Economic Survey 2007-08, around 52.7 per cent of the working population was engaged in primary sector, 18.8 per cent in secondary sector and 28.5 per cent in tertiary sector in 2004-05.

Thus, over a period of five and a half decades there has been shift of work force from primary to secondary and tertiary sectors signifying development in the economy.

Important changes in sectoral distribution of domestic product

An important indicator which shows that India is growing is decline in the share of agricultural sector in the overall gross domestic product. The following table shows how over a period of five and a half decades, structural changes have taken place in India - the share of agricultural and allied activities has fallen and shares of secondary (industrial) sector and tertiary (services) sectors have improved in the GDP.

Table 3 : Composition of GDP

National Income statistics, CMIE 

Growing capital base of the economy: 

• Another characteristic which hints that the economy is growing is the development of strong industrial base in the country. 
• At the time of Independence, we had very few basic and capital goods industries. But after Independence, especially in the Second Plan a high priority was given to establishing basic industries. 
• As a result, a large number of industries have been established during the planning period. These include, iron and steel, heavy chemicals, nitrogenous fertilizers, heavy engineering, machine tools, locomotives, heavy chemicals, heavy electrical equipment, petroleum products and many more.

Improvements in social overhead capital: 

Social overhead capital mainly includes transport facilities, irrigation facilities, energy, education system, health and medical facilities. When there is an expansion in these facilities, we say that the economy is growing. In India, since Independence, these facilities have improved a lot as can be seen from the following points.

• The railways' route length has increased by nearly 10 thousand kilometers. Indian railways has been world's third largest rail network under a single management. In two metro-cities - Kolkata and Delhi, Metro Rail system has been working. This system has solved the problem of traffic congestion in these cities to a great extent.
• Diesel and electrical locomotives have replaced steam engines.
• The Indian road network has become one of the largest networks in the world aggregating 3.34 million kilometers.
• Although the country is still facing energy crisis, there has been an impressive increase in the installed capacity. In 2008-09, the installed electricity generating capacity was 1,49,390 MW (Mega Watt) against 2,300 MW in 1950-51. 74,700 MW in 1990-91 and 1,17,800 MW in 2000-01.
• Similarly, irrigation facilities have increased raising the land under irrigation from 22.6 million hectares in 1950-51 to 87.2 million-hectares in 2006-07.
• In the field of education, during the planning period, the number of primary educational institutions has more than doubled. The number of higher secondary educational institutions has increased by 20 times and number of colleges has increased by around 30 times. The literacy rate has increased from 18.33 per cent in 1951 to 67.6 per cent in 2005-06.
• In the field of medicine and health also, some development has taken place. The number of doctors has increased by more than 9 times increasing from 61.800 in 1951 to around 7 lakh in 2008. The bed-population ratio is now 1.03 per 1,000 population increasing from .32 per 1,000 in 1950-51.

Development in the banking and financial sector: 

Since Independence, important developments have taken place in the banking and financial sector. Initially banks were under private ownership. But after Independence, the process of nationalization was started. In 1949 Reserve Bank of India was nationalised and later in 1969 and 1980 many big banks were nationalised. As a result, banks which earlier catered to very small population have now reached at every nook and corner. Agricultural sector, small scale industries and other sectors have been getting bank's funds on a priority basis and at concessional rates of interest.

Thus, we can say, that although India is economically not so strong economy, but it is on the road of development. If its present pace of development continues, in the near future it will become an economic force to reckon with.

India - A Mixed Economy

In chapter one, we studied different types of economies on the basis of ownership of means of production. In India, we observe that the following characteristics exist:

1. Private ownership of means of production - Agriculture and most of the industrial and services sectors are in the private hands.
2. Important role of market mechanism - Market forces of demand and supply have free role in determining prices in various markets. Government regulations and control over period of time have reduced a lot.
3. Growth of monopoly houses - Over a period of time, many big business houses have come into being and have been growing such as Tatas, Birlas, Reliance, Infosys etc.
4. Presence of a large public sector along with free enterprise - After Independence, the government recognised the need to provide infrastructure for the growth of the private sector. Also, it could not hand over strategic sectors like arms and ammunition, atomic energy, air transport etc. to the private sector. So public sector was developed on a large scale.
5. Economic planning as a means of realizing overall national economic goals - Economic planning has been an integrated part of the Indian Economy. The Planning Commission lays down overall targets for the economy as a whole, for public sector and even for the sectors which are in the private hands like agriculture. The government tries to achieve the laid down targets by providing incentives to these sectors. Thus, here planning is only indicative in nature and not compulsive.

Observing the above characteristics we conclude that Indian economy is a mixed economy.

Summary

Generally an economy is said to be underdeveloped if agriculture is the main occupation of its people, population is growing at a high rate, techniques of production are backward, incidences of unemployment and poverty are high and there are wide-spread income-inequalities and so on. If we observe Indian economy, we may conclude that Indian economy is undeveloped. But, if we observe growth in national income, per-capita income, occupational structure, capital base, social overheads etc. we may say that Indian is a developing economy. Besides, India is a mixed economy since here the means of production are partly owned by the private sector and partly by the public sector.