Import substitution was a strategy for economic development that was popular in the 1950s and 1960s. Advocates of import substitution development strategies believed that industrialization was the key to economic development and looked for policies that would encourage domestic industries to grow. Although it is now largely discredited as an economic development strategy, it has been resuscitated in recent years by ant globalization and environmental activists as an alternative to free trade not because it can bring about economic development but because of a preference for locally produced goods.
To use import substitution as an economic development strategy, a country would erect tariff and other trade barriers to raise the cost of goods and services imported from elsewhere. The trade barriers would provide a sheltered market in which a domestic company could learn the business without competition. For example, a country lacking a domestic automobile industry might place a high tariff on imports of automobiles. A domestic auto manufacturer would then be established and, protected by the tariffs from international competition, could compete for domestic market share despite its higher costs. In practice, import substitution policies proved largely ineffective at fostering economic development. India aggressively pursued an import substitution strategy during the 1950s through the 1970s and as a result developed a locally based industrial sector, but did not significantly raise living standards until it began to dismantle trade barriers in the 1980s and 1990s.
In practice, import substitution strategies were difficult to implement. In theory, once the local industry had developed, the tariff barriers could be lowered and the domestic company would then compete with the foreign companies both domestically and internationally. In practice, a flaw in the import substitution policy was that the protected industries rarely agreed that they were ready to face international competition and lobbied fiercely to maintain the trade barriers. India’s example demonstrates this as well. Import substitution strategies produced what some economists have termed near-autarky by the mid-1970s, with ever-tightening controls. Only when the inability to import domestically unavailable machinery and other supplies began to hamper Indian business generally did the business community begin to support reducing the protective trade barriers.
An additional problem with import substitution as a development strategy was that the sheltered firms were not competitive internationally. As a result, to the extent countries diverted resources into industries producing substitutes for imports, they harmed their competitive position in export industries. This effect can be seen in the stagnation of Brazilian exports at the end of the 20th century. Brazil’s economic program for much of the 1970s and 1980s was built around import substitution. During that same period, Brazilian exports remained at roughly 7 percent of gross domestic product.
A final problem with import substitution strategies is that they introduced significant rigidities into economies where they were pursued. This made the economies less able to respond quickly to economic change. For example, Latin American economies recovered much more slowly from the 1970s oil price shock than did many east Asian economies, in part because Latin American economies were burdened more heavily with debt relative to their exports than were east Asian economies, with the extra debt from investment in uncompetitive industries as part of import substitution strategies.
Today, import substitution is largely promoted by organizations seeking to produce local development rather than economic growth. Rather than focusing on increasing economic growth through trade, the modern proponents of import substitution take a mercantilist view of economies and look to retain resources within the local economy. By providing local substitutes for imported goods, import substitution theorists argue, local economies will prevent money from leaving the local economy. Because their goals are different, the modern proponents argue that import substitution strategies’ historical record is not relevant to evaluating the merits of the policy today.
Bibliography:
- Richard Grabowski, Sharmistha Self, and Michael P. Shields, Economic Development: A Regional, Institutional, and Historical Approach (M.E. Sharpe, 2007);
- Michael J. Kinsley, Economic Renewal Guide: A Collaborative Process for Sustainable Community Development (Rocky Mountain Institute, 1997);
- Anne O. Krueger, Trade Policies and Developing Nations (Brookings Institution, 1995);
- Jeffrey D. Sachs and John Williamson, “External Debt and Macroeconomic Performance in Latin America and East Asia,” Brookings Papers on Economic Activity (v.1985/2, 1985).
India
One of the fastest growing of the world’s major economies, India witnessed rapid transformation from a socialist economy of the post-independence era to a globalized one from the 1990s. With a population of about 1.1 billion (July 2006 estimate), it is the second most populous nation of the world, and the seventh largest nation in land area, covering 3,287,590 sq. km, stretching from the Bay of Bengal in the east to the Arabian Sea in the west.
It was Prime Minister Jawaharlal Nehru (1889–1964) who formulated most of India’s post-independence policy. A planning commission was set up in 1950 with him as chairperson to modernize large sectors of economy. Increase in agricultural productivity and industrialization within the framework of a socialist pattern of society was emphasized. The mixed pattern of economy saw private ownership of agriculture and industrial firms. Manufacturing, railways, aviation, electricity, communication, infrastructural activities and more were under state control. About four decades of a socialist economy with centralized planning brought about economic woes in various sectors.
The Nehru model slowed down the economy and hampered business acumen due to the prevailing License Raj, or control system. There were innumerable hurdles for private enterprise, and foreign direct investment (FDI) was abhorred by Indian think tanks. In the three decades after independence, the annual economic growth was about 1 percent per capita. The growth of industry was 4.5 percent a year. The centralized planning put a damper on productivity and profitability of industries. The trade deficits increased. Import was not encouraged with all the tariffs and controls. India played a negligible role in world trade. It was high time for Indian policy makers to abandon the decades-old centralized planning model and join the mainstream of globalization with a market-driven economy.
Reform
During the premiership of Rajiv Gandhi (1944–1991), India moved toward economic reforms with far-reaching results pertaining to India’s economy and business. During the congress ministry of P. V. Narasimha Rao (1921–2004) with the present premier Manmohan Singh (1932–) in charge of finances, economic reforms accelerated. These formed a watershed in the history of independent India, and their impact was felt in politics, society, and the economy. Privatization encouraged business. Private enterprise, both indigenous and foreign, began to play an important role. State control and public sectors ceased to be important actors in Indian business. A liberalization policy did away with the rigid license system, making starting a business comparatively easier. Import substitution was not emphasized and exports were encouraged. Multinational corporations (MNCs) began to invest in the Indian market.
India shifted to a market-driven economy from its decades-old centralized planning model and joined the mainstream of globalization at the international level. India marched ahead with business process outsourcing (BPO), and Indian technical personnel were sought after in information technology (IT) globally. Indian companies went on a corporation-buying spree on a worldwide basis.
India surged ahead in the Human Development Index (HDI) as a country in the category of medium human development. Per the report of the United Nations Development Programme for 2007–08, its rank was 128, with an HDI value of 0.619 in 2005. The HDI value was only 0.419 in 1975. With a population of more than 1.1 billion, India is expected to take its place in the global economy in the future. Despite 29 percent of its people living below the poverty line, India has become the world’s fifth-largest economy in terms of purchasing parity. India became the world’s fourth-largest foreign currency holder in January 2008 with a $285 billion reserve. With a gross national product (GNP) of $450 billion, the country has become a leading player in the global economy. The gross domestic product (GDP) in 2006 was $911.8 billion, with growth of 9.2 percent.
India has attracted private investment in various sectors of Indian economy. This along with BPO to the Indian labor market resulted in economic growth. Indian industry benefited immensely from the availability of skilled labor. The emergence of a nouveau riche class generated demand for consumer goods. Earlier, access to imported goods was difficult. But trade liberalization has witnessed import of high-quality consumer items from foreign countries. The sale of these items, which were earlier prohibited in the open market, was possible in malls and various outlets. Indian companies have not lagged behind. They are endeavoring to produce quality goods that will compete on an equal footing with imported goods. An economic expansion in various sectors has put India in the forefront of international economics.
Foreign Trade
The foreign trade regime of India changed dramatically in the last few years after the onset of the liberalization process. A beginning was made in the 1970s, but its impact was not significant. From the 1990s, the trade scenario of India changed a great deal. Exports accelerated in relation to GDP and world trade. Within a decade after 1991–92, it increased from US$18 billion in 1991–92 to $44 billion in 2000–02. India had total export earnings of $43.1 billion in 2000. It created a record of $80 billion in 2004–05. Indian exports had tripled between 2001–02 and 2006–07.
The composition of India’s exports was transformed as emphasis was given to diversification of exports as well as manufactured goods. There was a perceptible fall in agricultural products, ores, and minerals, whereas manufactured items like pharmaceuticals, chemicals, leather goods, paints, enamels, plastic, glass, rubber, textiles, engineering equipment, jewelry, and computer software were on the rise.
Industrial policy changed a great deal with virtual abolition of licenses and the earlier practice of getting permission under different acts was not required. With competition from internal as well as external players, Indian businesses produced quality goods in domestic and foreign markets. Indian business became competitive worldwide; consumers were offered quality products and exports surged ahead.
The government of India did not remain complacent. It wanted a twofold increase in the country’s share of global trade and took further steps in August 2004 to cover five years. This Foreign Trade Policy (FTP) had two motives: doubling India’s share in world merchandise trade and giving emphasis to employment generating industries. With a target of average annual growth rate of 16 percent in merchandise trade, the government established an Inter State Trade Council, Export Promotion Capital Goods Scheme, duty-free import of jewelry samples, advance licensing scheme, and bank guarantees, and worked toward procedural simplification. A target of $150 billion was set at the end of the FTP, which was within reach as the figure was $125 billion in 2007–08, notwithstanding an appreciating rupee ($111 billion in April–December 2007). The value of exports had been increasing continuously after the start of the free trade policy. The growth rate of India’s share in the world market was increasing, although it lagged behind China, Thailand, and Brazil.
Economic Growth
With the growth of the Indian economy, free trade, and World Trade Organization (WTO) commitments for lowering trade barriers, import demand for consumer goods, raw materials, capital goods, edible oils, petroleum and its products, fertilizers, cereals, and precious stones had increased. The quantitative restrictions had become a historical relic of the socialist path of development. Quotas, tariffs, and import duties had been significantly slashed in Indian trade and commerce so as to keep pace with globalization. The five-year Export Import (EXIM) Policy for 1992–97 took substantial measures in these directions. Imports were free, but subject to a Negative List of imports, which was removed in the EXIM policy of 1999–2002. The country witnessed an increase in merchandise imports to the tune of 24 percent with a value of $185.7 billion in 2006–07. There was a rise in share of capital goods imports of about 4.9 percent in 2006–07; it was 3.7 percent in 2000–01.
Concomitant with the information highway’s development worldwide, it became easier to access different services. With a growth rate of 29 percent in import services in 2006, India commanded the top position, closely followed by Saudi Arabia’s 27 percent. Commercial services had reached $44.4 billion in 2006–07, having a growth rate of 28.7 percent. Business services had a phenomenal growth rate of 120.6 percent in 2006–07. India surged ahead in import of services like transportation, travel, finance, and software. Total imports that amounted to about $60.8 billion in 2002–03 increased to $168 billion in 2007–08.
Foreign Investment
The development and growth of India’s business also can be measured by other indicators like capital inflow, investment, and industrial growth. The net foreign investment in India had remained a steady part of capital inflows. After the 1990s, the FDI as a part of globalization had helped in the growth of GNP, balance of payments, and employment. From 1991, the government of India introduced the Structural Adjustment Program (SAP), changing a great many regulatory policies. Public sector areas were thrown open, registration requirements became easier, the ceiling of 40 percent of foreign-held equity was abolished, and tax rates were reduced.
Foreign companies were no longer required to obtain prior approval of the Reserve Bank of India. It became common for foreign investors in mutual funds, pension funds, and investment trusts and asset management companies to invest in the Indian stock market. Foreign capital flowed into the stock markets of India. The Indian economy was gradually being integrated into the global economy. Net capital flows increased from $25 billion in 2005–06 to $46.4 billion in 2006–07—a growth of 85.8 percent. FDI in India was $6.2 billion in 2001–02, but ballooned to $23 billion in 2006–07. It was spread over various sectors like manufacturing, banking, information technology, finance, and construction. This was the result of a vibrant economy. Nonresident Indians (NRI) also contributed a lot.
It was not only foreign companies that invested in India. Indian companies were turning to international markets. Indian business magnates undertook trans-border operations—investing abroad, buying companies, and starting joint collaborations. Tata Motors took over the luxury brands Jaguar and Land Rover from Ford for about $2.3 billion. Tata Tea purchased Tetley, Britain’s largest tea company, and thus became the second-largest tea manufacturer globally. Reliance Communications discussed mergers with the MTN group of South Africa. L. N. Mittal (1950–), the London-based Indian steel magnate and the fourth-richest person in the world, brought his company to the forefront. The juggernaut of Mittal Steel acquired companies all over the world, one after another, the latest being European steel giant Arcelor SA. Four Indians had made it into the Forbes list of world’s 10 richest persons. In the Forbes Global 2000 List, 48 Indian firms were named. India had placed second after Brazil as far as growth of the world’s largest public companies was concerned.
Indian business was shining in every respect inside the country as well as outside. But there were also dark clouds in the otherwise rosy picture in Indian business. There remained many hurdles to doing business in India. Its ranking in “ease of doing business” was 120 out of 178 economies of the world in 2008, well behind neighboring Pakistan’s 78th rank. Corruption, bureaucratic impediments, and difficult entry procedures were to be removed. There had been enormous amassing of wealth, with different groups controlling resources of the country. The per capita consumption of about 836 million persons was less than a dollar per day. With an HDI ranking of 128 and 29 percent of the people living below the poverty line, India has to do much more to alleviate the living conditions of its people as a whole. Policy makers need to both increase the pace of reforms and provide India’s citizens the basic amenities of life.
Bibliography:
- K. Bhattacharya, Business History of India (Gyan Books, 2006);
- Anthony P. D’Costa, The Long March to Capitalism: Embourgeoisment, Internationalization, and Industrial Transformation in India (Palgrave Macmillan, 2005);
- Peter Enderwick, Understanding Emerging Markets: China and India (Routledge, 2007);
- Rajesh Kumar and Murali Patibandla, Institutional Dynamics and the Evolution of the Indian Economy (Palgrave Macmillan, 2009);
- Neela Mukherjee and Amitava Mukherjee, India’s Foreign Trade by Regions, 1950–1986 (Indus, 1988);
- Kamal Nath, India’s Century: The Age of Entrepreneurship in the World’s Biggest Democracy (McGraw-Hill Professional, 2007);
- Amar Nayak, Multinationals in India: FDI and Complementation Strategy in a Developing Country (Palgrave Macmillan, 2008);
- Arvind Panagariya, INDIA—The Emerging Giant (Oxford University Press, 2008);
- Vinay Rai and William L. Simon, Think India: The Rise of the World’s Next Superpower and What It Means for Every American (Dutton, 2007);
- Dwijendra Tripathi and Jyoti Jumani, The Concise Oxford History of Indian Business (Oxford University Press, 2007);
- United Nations Development Programme, Human Development Report 2007/2008 (Palgrave Macmillan, 2007).
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