Insights into Editorial: BoP Crisis and Rupee Devaluation + Mindmaps on Issues

Insights into Editorial: BoP Crisis and Rupee Devaluation + Mindmaps on Issues

11 November 2015

1991 BoP crisis was one of the worst crises that India had to face. The then government was close to default, as RBI had refused new credit and foreign exchange reserves had been reduced to such a point that India could barely finance three weeks’ worth of imports. This necessitated the Indian government to keep national gold reserves as a pledge to the International Monetary Fund (IMF) in exchange for a loan to cover balance of payment debts.

Main causes for the deterioration of India’s balance of payments (BoP) during 1990 and 1991:

Widening of trade gap due to rise in imports against a small growth in exports and increased cost of imports.
The sharp rise in crude prices due to the Gulf crisis.
Deterioration in the Exchange Rate of Rupee.
Rising Current Account Deficit. India’s current account deficit (CAD) had already touched 2.7% of the GDP in 1988-89. From mid-1990, financing the CAD became arduous. Traditional sources of financing started drying up. The main factor contributing to the rising current account deficit was decline in the growth of net invisible earnings.
Decline in migrants’ remittance from abroad.
Non-resident deposits, which contributed significantly to bridge the CAD, had also started flowing out.

By end-December 1990, foreign exchange reserves were enough for only three weeks of imports.

Measures taken by the then government to overcome the crisis:

The first decisive action of the new government was with respect to the exchange rate. In 1991, rupee was devaluated.
The RBI shipped about 47 tonnes of gold to the Bank of England as security to raise foreign currency from England and Japan. The government also sold 20 tonnes of gold to a Swiss Bank for acquiring foreign currency, with the condition that it would be repurchased after six months.
In the short run, to relieve the pressure of foreign exchange, imports were compressed through certain monetary measures.
Licence raj was liberalized. Many industries were delicensed.
Import tariffs were lowered.
Import restrictions were eased.
Market determined exchange rate system was introduced.
Foreign investment was encouraged.