CONCEPT AND SIGNIFICANCE OF BUSINESS ENVIRONMENT

I. Concept of Business
A Meaning of Business
B Scope of Business
C Characteristics of Business
D Business in the 21st century

II. Business Goals and Objectives

Vision, Mission, Objectives

iii. Significance of Business Environment

A Introduction
B Process of Environmental Analysis
C Internal Environment
D External Environment
Micro Environment
Macro Environment

IV. Objectives and uses of study of Business Environment

 CONCEPT AND SIGNIFICANCE OF BUSINESS ENVIRONMENT

Learning Objectives

To understand the concept and meaning of Business

To learn and understand the scope and characteristics features of Business
To comprehend Business functioning in the 21 st century
To know the importance of Vision, Mission and Objectives of a Business
To know and understand the process of Environmental analysis and the
significance of study of Business Environment
To know and understand the factors of the internal environment and its
controllable nature
To know and understand the effect of micro and macro environmental factors on
business and its uncontrollable nature

CONCEPTS AND SIGNIFICANCE OF BUSINESS ENVOIRNMENT:

Let us understand business first-
Business is an activity wherein a group of persons get together for production
and transfer of goods and services and is aimed at making profit.

The term business is used in different senses - in its functional sense it is used
to refer functions or activities of an organization or an individual. Sometimes
it is used to refer to the enterprise or unit rendering business. Traditionally
the term business is referred to commercial activities aimed at making profits.
In the past, Economic theory made a fundamental assumption that profit
maximization was basic objective of every business. Now for many
organizations profit maximization in short run is not the primary objective.

BUSINESS

 Organized efforts of enterprises to supply goods and services to

consumers for profit.
 Businesses vary in sizes …measured by the size of the employees or the
sales volume. Large organizations like SAIL, TISCO count employees in
thousands and sales in crores.
 Whether a business unit has one or two or 100’s of people in a factory
they share the same purpose earning profits.
 Purpose of business goes beyond earning profits i.e. being an important
institute in the society, be it for the supply of goods and services, creating job
opportunities, offer better quality of life or contribution to economic growth of
the country, the role of business is crucial.
 Society cannot do without business and vice versa.
SCOPE OF BUSINESS

The scope of business is very vast.

Assume that you have decided to buy an automobile – behind your purchase
there is a supplier of materials - the manufacturer converts raw materials and
other inputs into usable vehicles - there are dealers who make the vehicles
available - transport agents who assist in moving these vehicles from one place
to the other - bankers to finance such activities - advertising agencies to provide
information - insurance agents for covering the risks and other activities.
Even a simple product like a chocolate necessitates a long chain of activities.

 These activities involve in bringing raw materials to the factory and end
products from the factory to the market are very much under the scope of
business
 Thus business includes all activities concerned with production and trade,
banking and insurance, finance, agency, advertising, packaging and grading
and numerous other related activities.
 Business also includes all efforts to comply with legal restrictions and
government requirements and discharging obligations to consumers,
employees, owners and other interest groups, which have a stake in business
directly or indirectly.
 What’s important & needs emphasis in terms of business is that all above
activities are being organized and carried on with an important purpose: i.e. to
earn profit by supplying goods and services to consumers to satisfy their felt
needs. Thus people occupy a central place.
CHARACTERISTICS OF BUSINESS

Govt Change Vast Canvas

Interference

Competition Diversification
Business

Information Science Globalisation

Characteristics of Business involves:

1. Change- a single word to best describe today’s business i.e. modern

business is dynamic. New technology heralds the arrival of new products
leaving the old ones behind. Theodore Levitt rightly said “ Today’s growth
products may be tomorrow’s earthen pots”. Eg.. man made fiber to cotton
fibers, Bajaj vehicles bid goodbye to Garnar & Lambretta, from radio to T.V
viewer ship. Changes make companies substantially spend on R & D to
survive. In future business will become more complex i.e. knowledge based
e.g. software, production of watches, tyres that notify pressure etc.

2. Vast Business Canvas- mass production and mass marketing are the
norms followed. Machines have replaced manual labour, thus with machine
operation bulk production is possible. Marketing activities are geared to
 match production. Mass production and mass marketing fetch economies of
scale and thus benefits are passed on to the final buyers. Today in India
some projects have failed & faltered because of inexperience in
implementing mega projects. There are high interest rates and finance costs,
inconsistent and immature industrial policies. Recent decline in value of
rupee has added problems to those importing capital goods.

3. Diversification - business is characterized by diversification. TATA has iron

and steel, Automobiles, power, chemicals, tea and it plans to enter
biotechnology and housing development. Diversification is of three types:-
 Concentric- process of adding new but related products or services e.g.
HLL in one line of soaps it has many brands i.e. Liril, Rexona
 Horizontal - adding new unrelated products or services for present
customers in horizontal dives e.g. Sony Corporation taking over
Columbia Pictures.
 Conglomerates - adding new and unrelated products and services e.g.
TATA, JK Group. This type always follows mergers and acquisition route
for diversification e.g. Ranbaxy and Crosslands, ICICI with SCICI.

4. Globalization- going international is another trend: political boundaries are

no barriers to business. Production facilitates set up in different countries for
sales through a global network. In fact globalization is the interface for
modern business due technological innovation, crumbling trade barriers and
global flow of capital and technology, intensity and demand for new
products.

5. Science-occupies a major role in global economic scenario. Development of

atomic power, advances in metallurgy, accomplishments in space age
program, application of math’s in management decision making. Scientific
breakthrough will offer attractive opportunities for alert businessmen.
6. Information –another characteristics is recognition and need of for
information including data procession, info system analysis, preparation of
effective records and reports has achieved major status. Vital reason for
progress in these areas is availability of computers and electronic devices
that have made feasible quick and accurate gathering process and
distribution information. Man is now free from drudgery paper work
IT is subject to revolutionary changes- from handwritten sheets- to typing
stencils- to photocopy-to floppies- to cyber space-online information

7. Government Interference - Interference is common in every country for self-

reliance and protection of domestic industry. Govts impose restriction on
imports. In other cases to reduce inequalities in income, prevent
concentration of economic power and to realize other socio- economic
objectives, government imposes restrictions and levy taxes on domestic
industries. Government intervention was in the rise upto 1980’s. From
1980’-90’s scenario changed. Govt intervention is sometimes seen as
bottlenecks. Institutions such as WTO advice that government must keep
away from economic activities.

8 Competition : gone are the days of sheltered marketing subsidies, licences,

quotas & restrictions – businesses now formulate strategies to cut down
costs , eliminate inefficiency& improve productivity. Competition is beneficial
to both competing firms & consumers. Companies benefit from strong
domestic rivals, determination of providing the best
BUSINESS IN 21st CENTURY

Totally different from what we see today.

 Large organizations with large work force will not exist. Mini organizations will
evolve in business of sharing, gaining & creating knowledge for eg: old –
HAL, BHEL. New Infosys.

 Business will be knowledge based - Manufacturing process will be complex -

Jobs will be intellectual.- intelligent employees. Brain power will be in
demand & balance sheet will include on asset that is not existing today i.e;
knowledge base.

 Managers need not spend time on file pushing & paper shuffling. Information
Technology will take care of it – networked computers, software for easier
use, e- mails.

 Organizations will become flat that is 10-12 layers will be replaced by 2-3
layers. Organization will be like orchestras that is 2 layers of Mgt-. Conductor
& rest of crew. The conductor may have no mastery on any instrument but will
be responsible for overall performance - thus a facilitator’s role.

 No definite jobs in 21St century – jobs will last for 2 - 5 yrs – real growth from
frequent job changes. Eg.. a project will have a definite beginning & definite
end – when the project is over, the team will be disbanded & members will
look for new projects – no definite jobs & fixed salaries – remuneration will be
based on one’s contribution.
BUSINESS GOALS & OBJECTIVES

Lets understand Vision & Mission

Vision – goals, broadset & most general – describes aspirations for future
without specifying means to achieve – they inspire.
Eg.. BIRLA “To be the most innovative enterprise & the preferred supplier”.

Mission - statement specifies leaders belief of organization & direction in which it

would move & mentions its uniqueness.

VISION states – what do we want to become.

MISSION states – what is our business / task that a group is to perform.

OBJECTIVES
Mission statements make a vision more specific & objectives attempts to make
missions concrete. Objectives represent operational side of organization – firms
have more than one objective….

(1) Profit

(2) Growth – business should grow in all directions over a period.

Growth will include more production, diversification, integration, increase market
shares, expand markets. If there is no growth, then the organization wont
survive.
(3) Power - Business house with vast resources command power – next to
politicians.
ADITYA BIRLA asserted that he built his empire for power.

(4) Employee satisfaction & development

“If you want to plan for a year – plant corn, if you want to plan for 30 yrs plant a
tree , but if want to plan for 100 yrs –plant men” Chinese proverb – which talks
about caring & concern for employees. (e.g. govt. enterprises don’t recognize
employee contribution but firms like infosys do )

(5) Quality production. & services – no quick money , no compromise.

(6) Market leadership –e.g. blow plast in soft luggage & bags.

(7) Challenging – vast scope, worth of an individual is tested in business.

(8) Joy of creation – new ideas & innovations for benefit e.g. drugs to cure
cancer.

(9) Service to society

(10) Good corporate citizenship – obeys rules of land, pays taxes & care for
employees & customers.
SIGNIFICANCE OF BUSINESS ENVIRONMENT

Significance of business environment can be explained by relating all factors &

their effects on business. The critical challenge is to cope up with the
environmental dynamics of change.
There are two challenges …

(1) To combat the environmental threats

(2) To exploit business opportunities.

Environment includes factors outside the firm which can lead to opportunities or
threats for the firm. Environment factors have profound impact on business &
thus environment analysis & diagnosis forms the 1 ST step in management
process.
Environmental analysis is defined as the process by which strategists monitor the
economic, govt./legal, market/competitive, suppliers /technological geographic &
social settings to determine opportunities & threats to their firms.
“Environmental diagnosis consists of managerial decision made by analyzing the
significance of data of ( opportunities.& threats ) the environmental. Analysis.
Environmental analysis is the cornerstone of new business opportunities. Just as
life & success of an individual depend on his capability, including psychological
factors, traits & skills , to cope up with the environment.- survival & success of
business – depend on its innate strength – resources & adaptability to
environment.
Process of Environmental Analysis – challenging, time consuming &
expensive affair.

(1) Scanning :general surveillance of all environmental factors

(2) Monitoring: Tracking environment Trends – following signals unearthed

during scanning specific description of environment trends, identification of
trends & inputs forecast.

(3) Forecasting – scanning & monitoring – provides a picture of what is

already taken place concerned with developing plausible projection of direction,
scope & intensity of environment change .

(4) Assessment: assess implication for organizations current & potential

strategies – answers & questions as to what are key issues presented by the
environment

Every business has a set of internal factors & confronted with a set of
external factors.

Internal Business External

environ decision environ
ment ment .
A business decision is therefore influenced by both internal environment &
external environment.

INTERNAL ENVIRONMENT (controllable factors)

(1) Value systems: Value system of founders (BOD) has important bearing on
choice of business , mission , objective , business policies & practices. If extent
of sharing of value system is high in organization then its an important factor of
success. eg value system of JRD TATA & acceptance by others was imp in
voluntary incorporation of its social & moral responsibilities to consumers,
employees , share holders , society & people.

(2) Mission & objectives : Business domain of co., priorities , direction of

development, business philosophy & policies are guided by mission & objectives

(3) Management structure & nature: Organization structure, composition of

BOD , professionalisation of mgt are imp factors in influencing decisions.

(4) Internal power relationship: Amount of support top mgt enjoys from levels of
employees, shareholders & BOD have influence on business decisions.

(5) Human resource: Characteristics like – skill, quality ,morale , commitment

,attitude all contribute to strength & weakness of an organization. Some
organizations find difficulty in restructuring & modernization because of
resistance to change by employees. Involvement, initiative etc of people at
different levels may vary from organization to organization.

6) Company image & Brand Equity

Image of company matters while raising finance, forming joint ventures,
diversifying, soliciting marketing intermediaries, entering purchase over sale
contracts, launching new product. Brand equity is relevant here.

7) Other Factors
Physical Assets & Facilities- production capacity, technological efficiency,
distribution logistics have strong influences on competitiveness of firm.
 R&D Technological capabilities
 Marketing Resources- Organization for marketing, quality of men,
brand equity, distribution networks have direct bearing.
 Financial Factors- financial policies, financial position.

EXTERNAL ENVIRONMENT

Micro Environment and Macro Environment

Micro Environment
It consists company’s immediate environment and affects performance of
company, it is more immediately linked - need not necessarily affect all the firms
in a particular industry in same way. (E.g.) In industries where competing firms
have some microelements, relative success depends on relative effectiveness in
dealing with these elements.
Elements of Micro Environment are….

1) Suppliers
An important force - raw material is supplied – what is important is a reliable
source of supply for smooth functioning of business. If there is uncertainty in
supply, firms maintain high inventory thereby increasing costs (3-4 months).
Supply is very sensitive - thus important for vendor development. It is risky to
depend on single supplier because of problems of strikes, lock out or any
production problem, even change in attitude or behavior of suppliers. It is an
important element & needs to be properly managed.

2) Customers
Task of business is to create & sustain customers. - business exists only
because of customers, thus monitoring customer sensitivity is important and pre-
requisite for business. Companies can have different categories of consumers
like individuals, households, industries, other commercial establishments, and
government. Eg.-customer for tyres can be automobile owners, manufacturing
companies, public sector, transport companies etc. Depending on a single
customer segment is risky, it places the company in poor bargaining position,
there is risk of losing business leading to consequent winding and switching
over. A company can choose its consumer segment by considering factors as
relative profitability, dependability, demand, growth prospects and extent of
competition.

3) Competitors
firms competing include not only other firms which market similar products but
also those which compete for discretionary income of consumers.
E.g.- competition for TV manufacturer could come from 2 wheelers, refrigerators,
cooking ranges, stereos and investment saving schemes. This is called desire
competition –as task is to influence basic desire. -it is high in countries of limited
disposable incomes.
If consumer decides to spend discretionary income on recreation then he /she is
confronted with alternatives such as TV sets, radio etc. this is called generic
competition.
If he decides to purchase a T.V., then he would choose from either B/W, color,
with remote - this is product form competition.
Brand competition - competition between different brands - marketer should
strive to create primary and selective demand for his products.

4) Marketing Intermediaries
immediate environment consists of marketing intermediaries - firms that aid
company in promoting, selling and distributing goods. Middlemen as agents-help
company to find customers or close sales. They assist company in moving stock
from origin to destination as warehouses and transportation firms, marketing
agencies, advertisement agencies, market research firms, consulting firms,
media, financial intermediaries. They are a vital link between company and final
consumer. A wrong choice or disturbance of this link as heavy costs. E.g...- retail
chemists and druggists in India once decided to boycott production of leading
company due to poor margins.

5) Publics
Company encounters them - any group that has actual or potential interest in or
impact on an organization ability to achieve interests. They are media publics,
citizen action publics, local publics. Some companies are seriously attacked by
publics. Sometimes they might bring down the image of company. E.g...- a
leading daily, in order to bring the share price of a company down, attacked it by
tarnishing is image. Environment pollution issue are taken by local publics -
actions sometimes suspend operations. All publics need not be threats, but some
might provide opportunity- like media.
 MACRO

Economic factors

International Political
factors factors

MICRO
Supplier’s customers

Business

Public’s competitors

Natural marketing Social &

factors intermediaries
cultural
factors

Demographic factors
Macro Environment
large macro environment that provides opportunities and poses threat to
companies - more uncontrollable than micro environment.
Elements of Macro Environment are…..

1) Economic Environment
they consist of economic conditions, economic policies, economic systems which
are important external factors. One has to consider nature of economy, stage of
economic development, economic resources, level of income, distribution of
income and assets which are imp determinants.
In developing country low income is reason for low demand of products and
hence firms are unable to increase purchasing power. Thus company may have
to reduce costs or develop new low cost products. In countries where
investments and incomes are steadily rising there are bright prospects.

Economic policies Govt. policy has a great impact on business - some categories
of business are favored while some are adversely affected while others remain
neutral. E.g..- restrictive import policy may help domestic industries, while
liberalization of import policy will affect them. e.g..- if industry is in priority sector,
then by favourable terms of Govt. policy they get incentives and other support.
For instance development in backward region of India avail of incentives. There
are Monetary and fiscal policies etc…

Economic Systems - Scope of business depends on economic systems. There

are free market economies or capitalist economies at one end and centrally
planned economies at the other,- between these are mixed economies. Freedom
of enterprise is greatest in free market economies, as factors of production are
privately owned and production is at the initiative of private enterprise, members
have freedom of choice for consumption, saving, occupation, investment. E.g.-
America, Japan, Australia, Canada etc.
Communist countries – centrally planned system - state owns all means of
production, determines consumption pattern, goals of production & controls
economy in centralized manner. Eg…China, Hungary, Poland etc. recently some
have disregarded this system & moved to market economy.

Mixed Economy - between capitalist & communist economies – both public &
private sector co-exist. The strategic & important industries are state owned. (Eg-
India). The extent of participation between the public & private depends on each
such mixed economies.

2) Political & Governmental Environment

The government frames rules & law in governance of economy. There are laws
that regulate conduct of business, standards of production, packaging, laws to
protect consumer interests, regulations to protect purity of environment.
Promotional activities too are subject to controls. Eg - media advertisement is
banned in Libya. Cigarette ads in India were banned so were alcohol ads MRTP
companies in order to expand have to convince government on such
expansions in public interest. Government of India has restrictive influence on
various aspects of business i.e. industrial licensing, location, capacity, process,
import licensing for machinery, and size of capital issue, loan etc. There are laws
for unfair competition & dilution of monopoly power. Change in industrial policy,
tariff policy, fiscal policy has profound impact on business. Some policy
development creates opportunities & some threats. Industrial policy liberalization
opened market & helped enterprises develop better production & diversify, but
these can prove to be threats for existing product by way of competition.
3) Socio –Cultural Environment
Important factor to be analysed. Cost of ignoring customs, traditions, tastes &
preferences could be high. Buying & consumption habits of people, language,
beliefs, values etc. affect business.
Strategy of business should be to successfully operate in a socio cultural
environment. Eg.. Nestle brews 40 different varieties to suit different tastes.
People of different cultures using some product vary in mode of consumption,
condition & use, purpose of use, perceptions –thus positioning, promoting,
presentation to be varied. Eg.. USA & Japan are important shrimp markets for
India. In USA – correct weight, bacteriological factors are imp. In Japan – color,
eye appeal, uniformity in size are imp.
Difference in language poses problem necessitating change in brand name.
Eg.. Preett was a good brand name in India but did not suit
overseas market, hence changed to “Prestige”.
Values & beliefs associated with color very significantly between different
cultures. Eg – green is favorite color of Muslim world, but in Malaysia it is
associated with illness.
The social environment has assumed great importance. Earlier business had
traditionally been responsible to society by supply of goods, jobs, & standard of
living etc... now societal expectations from business is --concern for health of
society. The Marketing personnel who are an interface between the company &
society have responsibility of designing marketing strategies sensitive to
demands of society.

4) Demographic Environment
Factors like size, growth rate, age, and sex composition of population family size,
educational levels, language, cast, and religion are important sources of
information to business. Demographic factors like size of population, age,
consumption, life expectancy, occupational states affect demand .Eg – decline in
birthrates in US have affected demand for baby products.
Rapidly increasing population indicates growing demand but also leads to
enormous increase in labour supply. Eg – developed countries normally witness
excess labour, thus governments here encourage labour intensive methods of
production.
Cheap labour & growing market have encouraged MNCs to invest. In such
countries. Population growth rate is an important economic factor.
Considering population as factor, thus labour employed can be heterogeneous in
respect of language, cast, religion etc. it is a complex task for personnel
department to manage human resources.

5) Natural Environment

Geographical & ecological factors, natural resource, weather, & climate

conditions, topographical factors, locational aspects affect business decisions.
Difference in geographical condition between market leads to changes in
marketing mix.
Geographical factors affect locations .Eg – industries with high material
requirement are normally located close to raw material sources. (Cooking oil
industries). Climatic & weather conditions affect location of cotton textile industry.
Ecological factors have great importance – depletion of natural resources,
environment pollution, disturbance of ecological balance. Thus govt. policies for
protection of ecology affects business which can be a barrier to investment
decisions..
6) Physical & Technological Environment
Physical factors like weather & climatic condition call for modification in products
to suit environment. Eg (cotton).
Technological factors pose problems to firm, those who are unable to cope with
technological changes may not survive. Different technological environment of
diff. market or countries may call for modifications .Eg- instruments designed in
USA are for 110volts. In other countries 240 volts. Such conversions are required
for different countries.
Fast changes in technology create problems for enterprises as they render plants
and product obsolete quickly. Eg :- product lines that comprised half of HLL’s
business exports in 1980 did not exist in 1987.

7) International Environment
Very important for industries depending on import export and import competing
industries eg.. recession in foreign market or protectionist policies, these may
create difficulties for industries depending on exports and vice-versa…
Liberalization of import policies helps import dependent industries but adversely
affects import competition firms.
Major international developments have their affects spread on domestic
business. Eg: - oil price hikes affects no. of economies thus increasing cost of
production and price of production. This high oil price also leads to increase in
demand of automobiles that would economize energy conversion.
A good export market enables firm to develop a more profitable product mix to
consolidate its position in domestic market.
Companies now plan production capacities and investments taking into account
foreign markets. As it facilitates optimum utilization of capacities and be able to
mitigate effects of domestic recession or even if fall in foreign markets.
Objectives & uses of study of Business Environment

 Environment analysis provides an understanding of current and potential

changes taking place in the Environment.
 Environment analysis provides inputs for strategic decision making i.e.
development of broad strategies& long term policies of the firm.
 It leads to development of action plans to deal with technological
advancements.
 To foresee impact of socio-economic changes at national &international
level on the firm’s ability
 Undertaken for analysis of competitor’s strategies & formulation of
effective counter measures.
 To keep oneself dynamic
 By anticipation of future changes, decisions of management can be better
taken.
 Environment analysis provides description of current potential & future
change and thus provide organization with lead time to identify,
understand and adapt to external issues.
Review Exercises

1 Select any one company that has been in business for some time. Make a
note of its Vision and Mission statement and objectives. Find out why it is
important for any business organizations to have strong and powerful
Vision and Mission statements. (For this, choose a well known company
and search with the use of internet).

2 Select a company/dealer in your locality. Interview the company official to

find out how the factors of the external environment affect their business.

Review Questions

Q1 What do you mean by Business ? Explain the importance of study of

Business Environment.
Q2 Define Business ? Elucidate on the scope and characteristics of
Business.
Q3 What is Business ? In your own words, explain the conduct and working of
Business on the 21st century.
Q4 What do you understand by Vision, Mission and Objectives? Explain in
details the goals and objectives of business.
Q5 What is business environment? Is the study of business environment
significant? Why?
Q6 Environmental scanning is of immense significance to business activity.
Do you agree? Justify.
Q7 What is business environment? Internal environment have factors that are
generally controllable. Elucidate.
Q8 What are the micro and macro environment? Describe with suitable
examples.
 UNIT NO 2

NATURE, SCOPE, CHARACTERISTICS OF BUSINESS

I. Insurance
A Introduction
B Principles Of Insurance
C Types of Insurance

II. Population
A Introduction
B Factors of Population
C Population growth as a retarding factor to economic growth

III. Agriculture
A Introduction
B Importance of Agriculture
C Problems in Indian Agriculture
D Green Revolution
E Benefits of Green Revolution
F Agenda for Action in Agricultural sector
IV. Industry
A Introduction
B Importance and scope of industrialization
C Types of Industry
D Importance of Industries
E Industrialisation in India

V. Trade
A Introduction
B Types of Trade

VI. Transport
A Nature and scope
B Types of Transport
C Transport sector in Indian economic environment

VII. Banking and Financial Institutions

A Introduction
B Banking System
C Financial Institutions
D Problems and constraints of Banking system
E Progress of Banking in India
F Reforms for improvement in the Banking sector
 NATURE, SCOPE, CHARACTERISTICS OF BUSINESS

Learning Objectives

To know and understand the meaning, principles and types of Insurance and
its importance to Business
To acquire information on the Insurance companies in India and the present
Insurance scenario
To learn and understand the factors of population and the effect of growing
population in the country’s economic development
To understand the importance of Agriculture in economic development of the
country and comprehend the characteristics problems faced by the Indian
Agricultural sector
To gain information on the concept and benefits of Green revolution
To explore the possibilities of suitable action plan for development in the
Agricultural sector
To know and understand the meaning and concept of Industry, types of
Industry and seek to review Industrialization in India
To know and understand trade, types of trade
To seek information on the nature and scope of transport, types and the role
of transport sector in economic development
To learn and understand the Banking and Financial system, progress and
reforms for improvement in the Banking sector
 INSURANCE

 Business is associated with risk .

 Businessman has to drive with caution & foresight to reach objectives
 There are many risks involved (eg. Risk of machine failure, transport-cargo,
etc)
 Some can be avoided by various means & devices & some are borne by the
businessman.
 & some are shifted by him to agencies or persons willing or qualified to share
them
 Insurance is means of shifting the risks to insurers in consideration of a
nominal cost called premium

PRINCIPLES OF INSURANCE

1. Utmost Good Faith

Contracts of insurance are those which require absolute & utmost good faith
on the part of the parties concerned. Such contracts differ from ordinary business
contracts. In ordinary contracts buyer has no remedy against seller in case goods
turn out to be otherwise. But in insurance contracts, each one of the parties are
under obligation to make fullest disclosure of such facts which may have some
bearing on decision of other party to enter into such contracts

2. Insurable Interest
No person can enter into a valid contract of insurance unless he had an
insurable interest in the object or life insured. Insurable interest is understood as
an interest in the preservation of thing or continuance of a life recognized by law.
Whosoever has such interest in a thing or life may insure that thing or life. It
follows that one can have insurable interest only when one would stand to
Benefit financially by the continuance of life or object insured. Pecuniary interest
& it follows that the loss caused by risk be estimated in
terms of money
Example: a person has insurable interest in his own life & there is no limit
as regards to amount for which a person may insure his life provided he pays
premium without inconvenience.
Example: creditor has insurable interest in debtor; husband & wife have
insurable interest in each other.

3. Indemnity
All contracts of insurance except for life insurance are contracts of indemnity.The
Basic purpose of insurance is to transfer loss of a person to insurance company
which can easily spread it over a large no. of policy holders. It is necessary that
person gets exactly the same amount that he lost due to loss and nothing more
i.e. cannot make a profit due to loss. e.g. : if co. insures goods against fire worth
of Rs 20000 & if loss is loss is 15000 then owner will be indemnified up to Rs
15000 only.

4.Subrogation
Insurer steps into the shoes of the insured (person property goods) and becomes
entitled to all rights of the insured regarding subject matter of insurance after
claim of insured has been satisfied. Hence this is subrogation i.e. whatever is left
of destroyed or damaged goods or property will pass on to the hands of the
insurance company.

5. Contribution
Sometimes person gets goods insured from more than one insurer i.e. Double
insurance. In event of loss the indemnified only avails of cover against actual
amount of loss. .Thus companies concerned will follow principle of contribution.
Each company will contribute that proportion of loss which the policy issued by it
bears to total amount for which insurance is effected with all companies. Here
insured can choose to receive amount of loss from one company, where the
company might adjust accounts from other insurers.

6. Mitigation of loss
If mishap occurs it is the duty of insured to take steps to mitigate/minimize
losses. The idea is that insured should not be careless and inactive during
mishap just because property is insured.

7. Causa Proxima
Insurance company will meet loss only if it is established that said loss was
caused directly by an event covered by the policy. i.e. nearest or direct cause
and not remote cause is to be looked into. .

TYPES OF INSURANCE

1.Life insurance
A contract where by the insurer inconsideration of premium paid either in lump sum
or in periodical installments undertakes to pay annuity or a certain sum of money
either on the death of insured or on expiry of a certain numbers of years
In business life insurance has definite advantages. Provides protection against
premature death of members of a staff ,develops loyalty among employees if
extended to them, ideal collateral security for securing loans and repayment of debts
of business.

2.Fire Insurance:
Contract of indemnity and insured cannot claim more than value of goods lost by
fire or the amount of policy whichever is lower. On agreement where by one party
(insurer) in return for consideration undertakes to identify the insured against
financial loss by fire. Claim for loss should satisfy two conditions:
i) There must be act
ii) Fire must be accidental.
Thus it is important for the business to understand a fire policy (Fire in factory,
office transportation, warehouse etc)

3.Marine insurance:
It is oldest type of insurance. Insurance company agrees to identify owner of ship
or cargo (goods) against risks of marine nature cargo exposed to natural
calamities, storms etc called cargo insurance. Cargo destroyed on ship or lost,
shipper or shipping will loose freight (charge) thus shipping companies takes out
a policy to cover such risk freight insurance. Ships exposed to perils get covered
by hull insurance.

4.Motor insurance:
All motor vehicles of business (transport service) can be insured against loss. i.e.
risk of loss arising from damage to vehicles by fire or accident or theft , Injury or
death to some other party due to accident., personal injury to owner of vehicle.
Policy covering all above 3 risks is called comprehensive policy

5.Fidelity insurance:
Considerable use to business as cash and goods handled by employees.
Business takes precaution that no employee would cheat him in goods or cash In
spite of precaution there can still be dishonesty and fraud on employee. Thus
owner of business may take policy to cover such risks
6.Credit insurance:
Type of insurance consists in shifting some of trade losses arising due to bad
debts. Under this policy insurer undertakes to identify policy holder
(businessman) against risk arising from insolvency of debtors.

7.Buglary, theft and robbery insurance:

A comprehensive policy can be taken out. Here business has to give all facts and
information regarding purpose of business, its material holding etc.

LIFE INSURANCE IN INDIA

Introduction
With such a large population and the untapped market area of this population
Insurance happens to be a very big opportunity in India. Today it stands as a
business growing at the rate of 15-20 per cent annually. Together with banking
services, it adds about 7 percent to the country’s GDP .In spite of all this growth
the statistics of the penetration of the insurance in the country is very poor.
Nearly 80% of Indian populations are without Life insurance cover and the Health
insurance. This is an indicator that growth potential for the insurance sector is
immense in India. It was due to this immense growth that the regulations were
introduced in the insurance sector and in continuation “Malhotra Committee”
was constituted by the government in 1993 to examine the various aspects of the
industry. The key element of the reform process was Participation of overseas
insurance companies with 26% capital. Creating a more efficient and competitive
financial system suitable for the requirements of the economy was the main idea
behind this reform. Since then the insurance industry has gone through many
sea changes .The competition LIC started facing from these companies were
threatening to the existence of LIC. since the liberalization of the industry the
insurance industry has never looked back and today stand as the one of the most
competitive and exploring industry in India. The entry of the private players and
the increased use of the new distribution are in the limelight today. The use of
new distribution techniques and the IT tools has increased the scope of the
industry in the longer run.

Insurance sector reforms

In 1993, Malhotra Committee, headed by former Finance Secretary and RBI
Governor was formed to evaluate the Indian insurance industry and give its
recommendations. The committee came up with the following major provisions
 Private Companies with a minimum paid up capital of Rs.1bn should be
allowed to enter the industry
 Foreign companies may be allowed to enter the industry in collaboration
with the domestic companies
 Only one State Level Life Insurance Company should be allowed to operate
in each state
It was after this committee came into affect the regulatory body for insurance
sector was formed with the name of IRDA

IRDA: The IRDA since its incorporation as a statutory body has been framing
regulations and registering the private sector insurance companies. IRDA being
an independent statutory body has put a framework of globally compatible
regulations.

Impact of liberalization
The introduction of private players in the industry has added to the colors in the
dull industry. The initiatives taken by the private players are very competitive and
have given immense competition to the on time monopoly of the market LIC.
Since the advent of the private players in the market the industry has seen new
and innovative steps taken by the players in this sector. The new players have
improved the service quality of the insurance. The market share was distributed
among the private players. Though LIC still holds the 75% of the insurance
sector but the upcoming natures of these private players are enough to give
more competition to LIC in the near future. LIC market share has decreased from
95% (2002-03) to 81 %( 2004-05).The following companies has the rest of the
market share of the insurance industry.

Name of the player market share (%)

LIC 82.3
ICICI PRUDENTIAL 5.63
BIRLA SUN LIFE 2.56
BAJA ALLIANZ 2.03
SBI LIFE 1.80
HDFC STANDARD 1.36
TATA AIG 1.29
MAX NEW YORK 0.90
AVIVA 0.79
OM KOTAK MAHINDRA 0.51
ING VYASA 0.37
AMP SANMAR 0.26
METLIFE 0.21

CURRENT SCENARIO OF THE INDUSTRY

Insurance market in india

India with about 200 million middle class household shows a huge untapped
potential for players in the insurance industry. Saturation of markets in many
developed economies has made the Indian market even more attractive for
global insurance majors. The insurance sector in India has come to a position of
very high potential and competitiveness in the market. Innovative products and
aggressive distribution have become the say of the day. Indians, have always
seen life insurance as a tax saving device, are now suddenly turning to the
private sector that are providing them new products and variety for their choice.
Life insurance industry is waiting for a big growth as many Indian and foreign
companies are waiting in the line for the green signal to start their operations.
The Indian consumer should be ready now because the market is going to give
them an array of products, different in price, features and benefits. How the
customer is going to make his choice will determine the future of the industry.

Customer service
Consumers remain the most important centre of the insurance sector. After the
entry of the foreign players the industry is seeing a lot of competition and thus
improvement of the customer service in the industry. Computerisation of
operations and updating of technology has become imperative in the current
scenario. Foreign players are bringing in international best practices in service
through use of latest technologies. The one time monopoly of the LIC and its
agents are now going through a through revision and training programmes to
catch up with the other private players. Though lot is being done for the
increased customer service and adding technology to it but there is a long way to
go and various customer surveys indicate that the standards are still below
customer expectation levels.

Distribution channels
Till date insurance agents still remain the main source through which insurance
products are sold. The concept is very well established in the country like India
but still the increasing use of other sources is imperative. It therefore makes
sense to look at well-balanced, alternative channels of distribution. LIC has
already well established and have an extensive distribution channel and
presence. New players may find it expensive and time consuming to bring up a
distribution network to such standards. Therefore they are looking to the diverse
areas of distribution channel to have an advantage. At present the distribution
channels that are available in the market are:
Direct selling
Corporate agents
Group selling
Brokers and cooperative societies
Bancassurance

To make all these channels a success the companies have to be very alert and
skillful to know how to use these channels in a proper way. Bancassurance is on
of the most upcoming channels of distribution and therefore is being discussed in
details.

Bancasurance
India has an extensive bank network established over the years. What Insurance
companies have to do is to just take advantage of the customers' long-standing
trust and relationships with banks. This is a mutually beneficial situation as banks
can also expand their range of products on offer to customers, while the
insurance company will also earn profits from the exposure. Another advantage
is that banks, with their network in rural areas, help to fulfill rural and social
obligations stipulated by the Insurance Regulatory and Development Authority
(IRDA) recently. Insurance companies should see bancassurance as a tool for
increasing their market penetration in India. It is also good for the one who sees
bancassurance in terms of reduced price, high quality product and delivery at
doorsteps. Everybody is a winner here. The creation of bancassurance
operations has made an important impact on the financial services industry at
large. This is though a new concept but it has gained a lot of importance in the
industry at present and has a great future.

Product innovation
There has been a plethora of new and innovative products offered by the new
players. Customers have tremendous choice from a large variety of products
from pure term (risk) insurance to unit-linked investment products. Customers are
offered unbundled products with a variety of benefits as riders from which they
can choose. More customers are buying products and services based on their
true needs and not just traditional money-back policies, which is not considered
very appropriate for long-term protection and savings. There is lots of saving and
investment plans in the market. However, there are still some key new products
yet to be introduced - e.g. health products.

Rural marketing
Rural India seems to have an appetite for mobile phones, computers, and cars
and to add to it we have insurance. In India with the private players having
entered into the insurance industry, the expected explosion in job opportunities
may not actually happen but for them the catchments area is the opportunities in
the rural India. In India the insurance business can be said to be "a marathon, not
a sprint". This is because of the nature of the business being long term. With
merely two years of the industry being opened, not surprisingly, the new comers
are making losses. The public sector companies, notably the LIC, have gained in
strength, thanks to the deepening of the market consequent to the awareness
created by the new companies. However this does not deterred the private
sector, which knows know that the race is a marathon, not a sprint. However it
seems that they if not anything, are only increasing their spending, though only
out of the capital. Today, there are 18 insurance companies in India excluding the
PSU’s, with 12 in the life insurance business and the rest in non-life .As
insurance companies go more and more rural in search of business, there will be
opportunities in the rural sector. Those who understand rural India better will be
in demand. Already United India The rural consumer is now exhibiting an
increasing propensity for insurance products. A research conducted exhibited
that the rural consumers are willing to dole out anything between Rs 3,500 and
Rs 2,900 as premium each year. In the insurance the awareness level for life
insurance is the highest in rural India, but the consumers are also aware about
motor, accidents and cattle insurance. In a study conducted by MART the results
showed that nearly one third said that they had purchased some kind of
insurance with the maximum penetration skewed in favor of life insurance. The
study also pointed out the private companies have huge task to play in creating
awareness and credibility among
the rural populace. The perceived benefits of buying a life policy range from
security of income bulk return in future, daughter's marriage, children's education
and good return on savings, in that order, the study adds. Regulatory and
Development Authority (IRDA) have set stiff rural targets for insurance
companies. For the life sector, in the first year, 5 per cent of the total policies
written

IMPACT OF BUDGET ON INSURANCE

The 2005-06 Budget has dampened the spirit of insurance companies. Hardly
any changes have been made in the general insurance sector. The change in the
tax structure may have some impact on the life insurers. With the removal of the
Section 88 relief there is not much for the insurance players to cheer for.

FDI hike in insurance sector:

The Finance Minister commended on the growth in the insurance sector, there
was no mention of the steps being taken for increasing FDI in insurance sector.
There is a dire need to attract more foreign capital in the sector. However it
seems that the Union Finance Ministry is looking at proposals to delink the FDI
limit from the Insurance Act, when it is amended. This move would empower any
future government to increase the FDI limit through an executive order without
taking the issue to the Parliament.
 POPULATION

Study of resources is vital from the point of view of economic welfare because
human being are not only instruments of production but also ends in themselves .
It is necessary to know in quantitative terms the number of people living in a
country at a particular time, the rate at which they are growing and the
composition and distribution of population. Population to has effects on business
with regards to its size, growth, composition, density, education, decline,
occupation etc. and thus influences business decision. Present features of
population are resultant of past development.

FACTORS OF POPULATION

1.Theory of Demographic Transition:

Relationship between birth rate and death rate- increase or decease in any of
these affect business. Changes in these rates occur as a consequence of
economic development. There are three stages:

1ST STAGE: High birth rate and high death rate

 Low growth of population
 Low levels of income and under developed economy
 High birth rate-by social factors and traditions
 High death rate –people are poor and no balanced diet. Before 1921
India’s population was in 1st stage i.e. population grew from 236 million to
251 million.

2nd STAGE-Rapid falling death rate and high birth rate

 Due to economic development, death rate falls.
  Availability of better food, adequate housing, adequate clothing, decrease
in epidemics, public health facilities etc. decrease death rate
 Population explosion – at present India in this stage example: population
grew from 251 to 361million and now crossed the 1000 million mark

3rd STAGE- Low birth rate and death rate

 With growing industrialization , population tends to commercial centers
and urban areas for employment .There is concept of small families.
 Lower death rate due to advancement in science and medicine

2. Size and growth of population:

If size increases there are more customers thus increased competitors, and
hence customers have variety of products to choose which leads to improvement
in quality, cost reduction etc. But if population is too large than levels of income
are low due to unemployment hence no buying capacity leading to fall in
demand.
High population gives employers choice of labor and bargain able wages rates.
Population of India is rapidly growing. High rate of growth of population has
adverse effect on economic development as much of current production used for
maintenance of population through provision of consumption goods leaving little
for saving and investment. Low per capita income affects welfare of people
adversely.

3. Density of population
i.e. number of persons per sq km, number of persons in area of region/country
If high density better for some companies operating in particular area of high
density Eg: local soap manufacturers etc –fast distribution, low distribution costs.
Scarce density leads to high cost of distribution to business. Density is
dependant on climate conditions –rainfall etc. Density depends on soil conditions
eg: Punjab and Rajasthan.
Industrial development in certain areas /states attract huge population.
Density in India according to 1991 census was 267/sq km, it is very high
Density also depends on viability of natural recourses and the extent of use of
technology to exploit resources i.e. natural recourses coupled with degree of
industrialists determine extent of density Eg: Japan support high density (316/sq
km) & high standard of living .

4) Age & sex composition

Age composition
Information on age composition of significance i.e. size of labour force, i.e. if
falling in workable age (15-59) important for business as they can know the total
labour force, availability age wise to know labour mkt.

Important because- products of business caters to different age groups. eg:

consider jeans which might attract teenagers.

Sex composition
That is no. of females per 1000 males.

Important statistics for companies-to assess kind of labour force and also for
companies because catering especially to males or females. Eg : females beauty
items like nail polish, apparels company manufacturing these would be interested
in size of female market along with age composition etc..

It is Important to know whether ratio is increasing or decreasing ,ratio can be

high and low in different regions and countries. ie in 1991 census sex ratio was
927 females /1000 males.
5) Urbanisation
An urban area is defines as all places with municipality corporation , cantonment
board or notified town area committee, and all other places which satisfy criteria:
1) Minimum population of 5000
2) At least 75% of males working in non agricultural organization
3) Density of population at least 400/sq km.
Due to industrial development there is urbanization as people from rural areas
move to places of work/industries thus there is development of big towns and
cities.

Causes of urbanisation:
1) Natural increase in population .
2) Migration
Rural to urban migration because of industries, railways, occurrence of famines
in 19th century, creation of landless laborers, tendency of wealthy landlords to
settle in urban areas.

Consequence of urbanization on business:

Because of urbanization i.e. as large industries are situated all around growth of
service sectors like –transport, financial and banking, repair, maintenance etc.
It also gives growth and impetus to other industries involved in manufacture of
household goods like- TV, radios, cycles, motors, washing machines,
refrigerators etc. thus product per head / per capita income increases.

Degree of urbanization:
India compared to other countries is far behind because India is passing through
a period of high population growth thus natural increase of population in urban
areas is also high and increased but process of urbanization started about a
decade or so thus yet together momentum. In 1992 Australia had 89% of urban
population while India 1991 census showed 25.7% thus employment strategies
be formed to attract.

6) Quality of population:
Judged by life expectancy, level of literacy and level of technical training literacy
rate improved to 52.2%in 1991 male literacy was 64.1%and female literacy was
39.3%. Government encouraging female literacy. India- improving at a rate of 2%
per annum. If this trend continues India would achieve goal of universal literacy
by 2015.
Life expectancy in India is better than before i.e. 60 yrs .in 1993-1994 initially
infant mortality was high but now due to greater care by improvement in
maternity services, hospitals, doctors, nurses, discovery of medicines to control
epidemics has helped save lives.

POPULATION GROWTH AS A RETARDING FACTOR TO ECONOMIC

DEVELOPMENT

Process of economic development involves utilization of physical resources by

labour force but impact of rising pop. acting as a drag on economic resources is
felt in various ways:
- Population & growth of national income-high increase in population
decreases per capita income.

- High population decreases food supply- may increase in rural areas thus
share of family consumption increases leaving little for markets.
- Population & burden of unproductive consumers- productive consumers
contribute to national income i.e. working class. Thus India has high
numbers of dependants on one-person thus high consumption.

- Population & unemployment -high population thus less jobs etc

- Population and burden of education, medical care & housing- rising

populations increases children & hence demand for higher expenses on
education, medicine & housing as they may study in other places.

- Increase in population & capital formation-national income should grow at

same level as growth of population so that existing per capita income is
maintained – to achieve this investments must increase.
 AGRICULTURE

- Backbone of Indian economy, largest private sector industry in country

- Covers 180 million hectares of cropped area and provides employment to

65%of (1991) total work force

- Agriculture accounts for 30% of national income

- Fluctuations in agricultural outputs have influence on state of national

economy as general price level fluctuates with rise & fall in agriculture prices.

Agriculture is the lifeblood of our country. The livelihood and economic well being
of the majority of our population depends on how agriculture fares. The key to
their prosperity - and the prosperity of the entire nation - depends critically on
transforming and rejuvenating Indian agriculture. Extremely advanced forms of
agriculture and industry coexist with other forms from a bygone era. The
importance of agriculture has many dimensions to it. Not only is it a major
segment of our economy, contributing almost a quarter of our GDP, but is also
the provider of gainful employment and incomes to the maximum number of
people. Given the state of our economy, agriculture and the rural economy act
as the only social safety net available in rural areas, particularly for those who
have no other employable skills. This aspect is often forgotten when there is talk
of liberalizing agriculture. Further, agriculture is at the core of many elements of
our social and cultural heritage. Given this centrality of agriculture to our
economy and society, the key breakthroughs that we have to make in our country
to spread the benefits of economic reform lie in the area of agriculture.

Agricultural growth has a strong multiplier effect across the economy. A modest
incremental growth of 3% in agriculture would lead to another 2.6% growth for
the manufacturing sector.
IMPORTANCE OF AGRICULTURE

1) Occupational patterns
In 1971 agriculture workers constituted 70% and in 1991 it was 65%, which
means that agriculture has a very high, and dominant position as source of
livelihood. In developed countries less than 10% on agriculture i.e. 2%-3% in US
UK. In India development in other sector not sufficient to provide employment
hence high dependence on agriculture.

2) National income
Share of agriculture & allied activities –51% in 1950-51 and now in 1993-94 it
was 27%. -but yet this is a positive contribution. The share of agriculture in
national incomes is taken as an indicator to economic development as
percentage increase in agriculture increases industrial production by 7%.
Its performance sets pace for economic growth and has potential to contribute to
national income.

3) Industrial development
Provides raw material to industries as sugar, cotton textile, jute, oil industries.
Many small scale & cottage industries depend on agriculture for raw materials.
As 1% agriculture growth rate increases industrial production by 5%.
thus responsibility of agriculture to contribute and provide food, raw materials,
employment, capital & earnings cannot be ignored.

4) International trade
Agricultural exports support necessary stimulus to India’s exports. Comprises of
13 key agriculture export items i.e., coffee, tea, oilcakes, tobacco, cashew,
kernels, spices, sugar, raw cotton, rice, fish, meat preparation, vegetable oils and
fruits, i.e., 90% share in agriculture exports. 16% of agricultural exports of total
of India’s exports. Agricultural exports have great potential they may reach $5
billion by end of 8th plan out of estimated $35 billion.

5) Planning strategy
Agriculture and rural development is center of planning process, control of
inflation, reduction in poverty levels, promotion of employment, improvement
in external account are l inked with agriculture production. Sometimes short
falls in food production reduce rural income and generate inflation which hurts
poor thus proper food security system i.e., increase in food grain production,
buffer stocking, public distribution need to be planned.

6) Indian budget
Heavy dependence of economy agriculture as 70% of population represented by
farming community. Thus Indian budget gamble to monsoon as single crop failure
sets a vicious circle of poverty and bankruptcy thus affecting natural economy.

7) Price stability
Price of agricultural commodities has influence on behaviour of general price
level e.g. food products account for 60% of All India Consumer Price Index for
industrial workers and over 75% in Consumer Price Index for agriculture labour.
Output of agricultural commodities subject to fluctuations thus a marginal rise or
fall cause disproportionate increase in prices. Maintenance of relative price
stability and reduction in seasonal fluctuations in agricultural planning.
CHARACTERISTICS OF INDIA AGRICULTURE / PROBLEMS FACED

Indian agriculture is beset with certain basic problems that have been a
constraint to its growth.

1.Wide gap between output and value added:

Gap between growth in production and value added in agriculture is widening.
Costs of agricultural production i.e., on account of chemical fertilizers, pesticides,
electricity, diesel, water charges is increasing.
Thus actual output desired as per value added to crops is decreasing, thus high
input costs and no results in production is decreasing farmer’s rate of return.

2. Dependence on monsoon:
70% of cropped area depends on monsoon (weather Gods). Between 1965-66 to
1983- 84 was hit by drought conditions. Good weather in 1988-89 boosted
agricultural output by 21%. Thus monsoon plays pivotal role.

3. Feudal land tenure relation/ concentration of land ownerships:

57% of area is covered by zamindari land tenure prior to abolition of systems that
played no positive role in production. Change in land relation systems/ structures
has been important in agricultural planning in India. Abolition of zamindari
system charged agrarian structure in U.P., Bihar, W.B., and helped inflation of
modern agri practices. Land holdings by zamindari and Ryotwari tenures
characterized by high degree of land at upper levels. Land owned up to 5 acres
(2.02 hectare)-1954- 74% of total households but constituted 34% of total land.
No. of holdings below 2 hectares gone up from 69% in 1970-71 to 76% in 1985-
86 and area covered by them gone up from 20% in 1970-71 to 28% in 1985-86.
4. Minimal impact of modernization in agriculture:
Process of technological modernization in agriculture just begun, its use just
spread in 1965. Yield/ hectare of food grain increased by 2% p.a. from 64-65 to
78- 79. Most farms small thus demanding manual and animal operated tools and
implements. To achieve better results imperative to use modern techniques/
trained mobile personnel to render efficient service.

5. Regional imbalances/ inter state disparity

Imbalance in regional development have partly resulted from disparities in
agricultural progress in different parts of country. States with high per capita
income owe this to their improved position in agricultural incomes.
Output growth is different among different regions i.e., analysis of irrigated
farming in Punjab, Haryana, U.P., M.P. revealed variation in output levels despite
the fact that they have comparable store of irrigation, rain fall.
E.g., there was progress in North West India and stagnation of growth in East
India

6. Co-existence of small and big farmers:

No high yielding varieties neutral to scale and they require fertilizers, water and
other inputs. Constraints in water utilization as big farmers appropriate a large
share of water and other support services as fertilizers, pesticides marketing
facilities by Government.

7. Over crowding in agriculture :

Too many dependants as high population led to fragmentation of holdings,
decline in per capita income and productivity that may be zero or negative.
8. Inadequate non form services:
Inadequacy of finance, marketing, dependence on moneylenders.

What is alarming, however, is that there seems to have been a neglect of

agriculture in the past decade. No one can deny the fact that Indian agriculture
has been performing much below its potential in recent years. There is, to begin
with the sheer tyranny of numbers. . Unfortunately, there has, in fact, been a
deceleration in the past decade. While the Tenth Plan assumed that agricultural
production would grow at the rate of 4.0%, the reality is that in the first three
years of the Plan we have not been able to ensure even 1.5% rate of growth.

The main problem before the Indian Agriculture, today, is that on the one hand
more than 60 million tons of foodgrains are lying in the central godowns and on
the other hand, about 30 per cent of our population i.e. 30 crore people do not
get a full meal a day and are under-nourished. The second aspect of this
problem is that three items of agricultural produces i.e. wheat, rice and
sugarcane (including sugar) are being produced continuously more than the
demand while edible oils and dals have to be imported

IMPACT OF ECONOMIC REFORMS ON AGRICULTURE

The serious foreign-exchange crisis in 1990 led to a number of well-publicized

economic reforms in the early 1990s dealing with trade, industrial licensing, and
privatization. The reforms had an impact on the agricultural sector through the
central government's effort to withdraw the fertilizer subsidy and place greater
emphasis on agricultural exports. The cut in the fertilizer subsidy was a result of
the government's commitment to reduce New Delhi's fiscal deficit by removing
grants and subsidies from the budget. The government action led to a reduction
in the use of chemical fertilizers and protests by farmers and opposition political
parties. The government was forced to continue the subsidies but at a somewhat
lower level.

New import and export policies aim at enhancing export capabilities of the
agricultural sector by increasing productivity and promoting modernization and
competitiveness. The measures to facilitate export growth include allowing the
import of capital for the agricultural sector, reducing the list of agricultural
products that cannot be exported, and removing the minimum export price from a
number of products. Agricultural exports increased by 30 percent in FY 1991 and
14 percent in FY 1992 in terms of rupee value, but declined by 8 percent from FY
1990 to FY 1992 in United States dollar terms because of the devaluation of the
rupee in 1991.

In the mid-1990s, it was expected that agriculture would continue to be the most
important sector of the economy for the rest of the decade in terms of the
proportion of GDP. However, even when it is not the sector providing the largest
share of GDP, the importance of agriculture is not likely to diminish because of its
critical role in providing food, wage goods, employment, and raw materials to
industries. Despite their preoccupation with industrial development, India's
planners and policy makers have had to acknowledge the critical role of
agriculture in the early 1990s by changing basic policy. The gains in agricultural
production should not lead to complacency, however. Continuing increases in
productivity, developing allied activities in rural areas, and building infrastructure
in rural areas are essential if India is to continue to be self-reliant in food and
agricultural products and provide a modest surplus for exports.
GREEN REVOLUTION

Agriculture contributes 1/3rd of national incorporation and 2/3rd of population

depend on it. Considering high rate of population growth and critical need to
increase nutritional standards of people, self-sufficiency in food grains has been
of paramount objective. Heavy food imports, inadequate domestic production,
growing needs of population, scarcity of foreign export lead to launching of yield
augmenting technology (HYV) i.e., High Yielding Varieties. A package of new
agricultural practices introduced in country on wide scale since mid 60s – new
crop varieties and crop sequence required by new technology helped maximize
crop production. This biotechnology promoted use of high variety seeds with
other inputs like fertilizers, pesticides, insecticides, irrigation and modern
agricultural implements. The term Green Revolution coined by Williams Gaud of
US agency for international development in 1968 drew attention to high wheat
yields in India and Pakistan. Green Revolution is the name given to science
based transformation of 3rd world. Agriculture apart from yield annual gross
capital formation in agriculture rose much faster i.e., in 60’s gross irrigated area
was 1 million hectares in 70s –2.5 million hectares. Green Revolution rests on 5
major elements-water, fertilizers, irrigation, farm machinery and seeds. Total
agriculture production increased at an annual rate of 2.6% from 1950-1989.
Productivity of food grains thus improved.

BENEFITS OF GREEN REVOLUTION:

Self-confidence among farmers, scientists, politicians in bringing improvement to

food production. Spread of new technologies led to demand of inputs.
Infrastructures as rural roads, power supply, marketing arrangements, irrigation
improved in rural areas.
Farmers, farming gained social prestige and recognition
Land reforms started getting attention to alter land rights and laws
Rural development significant from country’s viewpoint.
In pre Green Revolution period (1965) area expansion was an important factor
to agriculture growth but in post 1965- output growth, productivity gained
importance.
Increase in food production due to use of HYV seeds has seen a stability and
even decline in prices of food grains as rice. There has also been considerable
production gains.

AGENDA FOR ACTION: IN THE AGRICULTURAL SECTOR

If agriculture to record abundance, if poverty to be abolished ,then agriculture

must grow at the rate of 4% p.a. For this following action must be taken:

i) Building institutions for people’s participation:

People’s participation at different levels is required especially representation in
decision making bodies input agencies as irrigation, electricity, seeds and in
output marketing boards for better resource use and efficiency in agriculture. At
present these bodies have “top down” approach, which causes delays and
inefficiency.

ii) Freeing Up Agricultural Markets:

It means cleaning up all mess accumulated in output and input markets over
years and clean sweep in domestic output markets i.e., controls on free
movement, stocking limits, future trading, levies on rice and sugar be abolished.
On outputs like irrigation, power, land – non tradable be tackled by institutional
reforms. Tradable inputs i.e., seeds, fertilizers, pesticides, farm machinery should
have drastic reforms by politicians, etc.

iii) Carving On Investment Policy:

While building institutions on lines of participatory development model expected
to attain higher efficiency, freeing up markets would make Indian agriculture more
remunerative thus attracting great levels of private investments- thus government
to carve comprehensive policy for raising investments on long-term perspective.

iv) Restructuring Rural Credit:

Since agriculture falls under priority sector thus banks are reluctant to extend
specified rural credit because of concessional rates of interest and high default
rates in agriculture.
The steps needed are :-
Withdraw concessional rates of interest to agriculture
Resort to group lending to check defaults
Loans be lent to women: less defaults
Local NGO’s be involved: pressure on borrowers.

v) Irrigation:
Water scarcest resource- country has ultimate irrigation potential of 153.5 million
hectares. During 1950-91 country’s irrigated area increased from 23-78 million
hectares. Crop yields on irrigated lands higher. Requirement of proper planning
for growth and efficiency of irrigation sector is needed to:
Improve maintenance of existing canal network
~Involve farmers in maintenance of canal system
~Leave distribution of water and collection of dues to farmers organization
~Introduce volumetric pricing of electricity for ground water irrigation.

vi) Dry Land Farming:

One third of cultivated area depends on monsoon. Thus yields are low and
fluctuative and thus high risk. High priority should be given to water harvesting
and soil conservation programmes in rain fed areas. Dry land suitable for
horticultural crops need less water and high investment thus credit should be
strengthened and live stock development should also be boosted.

vii) Revitalizing Research:

Research is vital to introduce cost reduction technology and better seeds There
should be more investment on research for the use of private agri based
industries. Government research should be focused on fundamental (foundation
seeds) and private research on production of certified seeds. Government
research should go beyond food grains in sunrise areas such as horticulture and
animal husbandry. ICAR(Indian council for agriculture research) give high priority
to dry land crops and thrust on biotechnology, which requires huge investments.

If we want to step up the rate of growth of the economy to 7 to 8%, we have to

accelerate the rate of growth in agriculture

This "New Deal" requires reversing the declining trend in investment in

agriculture; stepping up credit flow to farmers; increasing public investment in
irrigation and wasteland development; increasing funds for agricultural research
and extension; creating a 'single market' for agricultural produce; investing in
rural healthcare and education; investing in rural electrification; investing in rural
roads; setting up commodities futures markets; and, insuring against risks which
are inevitable in an increasingly commercialized agrarian economy.

In each of these areas, government has articulated a clear programme of action.

A comprehensive programme has been announced for rural infrastructure
development under the umbrella of "Bharat Nirman". This is a programme for
time-bound investment in rural housing, rural roads, rural water supply, rural
electrification and rural connectivity. The Rajiv Gandhi Gramin Vidyutikaran
Yojana programme was launched to implement the promise of reaching electricity
to all our villages by 2009. In the area of irrigation, the govt is committed to
bringing an additional 1 crore hectares in the next four years through Bharat
Nirman. This would mean Central and State Governments have to step up
investment for completion of projects at hand.

In the area of agricultural diversification, the govt is setting up a National

Horticulture Mission which will ensure an end-to-end approach having backward
and forward linkages covering research, production, post-harvest management
processing and marketing, under one umbrella in an integrated manner. We all
know that horticulture contributes nearly 28 per cent of GDP in Agriculture and 54
per cent of export share in Agriculture from the cultivated area share of 8.5%
only. This shows that there is tremendous scope of increasing production and
exports in Horticulture. We are committed to make this happen.

To address the issue of drylands in India, we now have a huge opportunity

through the proposed National Rural Employment Guarantee Programme. The
Government has asked the Ministry of Panchayati Raj to work on a People's
Water Conservation Movement to persuade Panchayats to invest maximum
resources on an agenda of Water Conservation. This would considerably step up
current levels of investment that go into dryland farming.

On the credit front, steps have been taken to increase agricultural credit , but
what is needed is a quick revamp plan for agricultural credit as the institutional
framework for providing long-term capital for investment in agriculture is weak,
perhaps non-existent.

removal of controls in the agricultural sector, upgradation of technology in order

to accelerate agricultural productivity and facilitating active participation by the
private sector.
Rationalisation of Buffer stocks:
Provision should be made for having a buffer stock of around 20 million tons at
the most 30 million tons, which should be kept in reserve for use in times of
scarcity and famine. Every year fresh procurement should be added to it at the
time of arrival of new crop and old stock should be disposed off. This foodgrain
stock could even be used for mutual exchange with crisis-ridden countries in time
of scarcity at the international level. Excess food stock would not only result in
burden on the exchequer in the form of heavy carrying cost but also has the risk
of not being able to be utilised-specially when not stored scientifically.

Removal of Restrictions
Free Movement of Agricultural Commodities: There are restrictions even today,
on trade--internal as well as international--in foodgrains and agricultural
commodities. All these restrictions must be removed.

Promotion of Traditional Farming:

The main reason for this is excessive use of inputs including chemical elements
in the case of dwarf variety of foodgrain plants. The farmers at individual levels
and the NGOs have produced successful models at several places in the
country, where the same quantity and of better quality foodgrains could be
produced with less than half of the chemical elements. It is, therefore, essential
to chalk out a programme to prepare compost with the residue of agricultural
commodities and the garbage of villages, towns and cities. Similarly, wormi-
culture which has been successfully experimented in regions like Rajasthan
should get due attention. It is also necessary to set up financial and institutional
frame-work and promote food processing industry for this purpose. This would
reduce cost, improve quality of production and bring down pollution and would
also reduce adverse effect on human health.
Meaningful Minimum Support Price
Minimum support price should also strike a healthy balance keeping in view
interests of consumers so that the latter would also play supporting role to
farmers. However, when MSP is kept at unrealistically high level, the
government's supporting role would be curtailed as the same could not be
extended to consumers due to high issue prices. This is the reason behind
paradox of over flowing godown with poor offtake. If farmers and consumers
have to be mutually supportive the each other, the MSP should be at scientifically
acceptable level and which would take interests of the both

Removal of Export Restrictions:

The biological diversity of India is unique in the whole world. Our traditional crops
could be sold at remunerative prices in the international market. For example, C-
281, C-591 and Duram varieties of wheat could be produced with less than 40
per cent of water and less than 50 per cent of fertilizers. These varieties could
also be produced for international market, where there is considerable demand
for such varieties because of superior quality

Need to Promote Agro-based Industries:

Encouragement to Medicinal Plants: There are vast potentialities of international
trade in medicinal and fragrance giving plants and their products. Government of
India should immediately set up a mission at national level which should look into
the required financial assistance and technical information for promoting
traditional medicine through their vegetations, use, reseach and their integration
into the medical system.
Promotion of Animal Husbandry
Step up Investment on Water Resources:
Development of Agricultural Infrastructure:
 INDUSTRY

The term industry means companies/firms producing similar products .

e.g. Cement industry will comprise of several companies such as ACC, Gujarat
Ambuja, Indian Rayon, etc. Chocolate industry will comprise of companies like
Cadbury, Nestle, etc.
Industries are classified as large scale and small-scale industries.
Development of industries is thus imperative for economic growth. Economic
growth is characterized by transformation of agricultural economy into which
industrial sector occupies a dominant place.
Close relationship between industrialization and growth of national income.
Country’s economic progress is conditioned by level of industrialization.
Development of industries: Industrialization is defined as process in which
changes of a series of strategically production functions are taking place. It
involves changes in mechanization of enterprise, building of new industry,
opening of new markets and exploitation of new territory. It’s a process of
deepening and widening capital and transformation of society as it touches
behavioral patterns, value systems, and religious beliefs, strengthening of social
grouping.

A Collection of firms that use same raw material or manufacture same product.
Industry refers to that part of business activity concerned with raising production,
processing or fabrication of products. The Products of an industry may be used
by final customer or others industrial undertaking. Thus it is a consumer goods
industry if used by final consumer and Producer goods/capital goods industry if
used for production of other goods

Eg…: Engineering concern manufacturing machine tools is producer goods as

products will be used by other factories for production of certain other products.

Eg: automobile parts used in making automobiles.

In some cases industry may produce materials to be further processed by others
for conversion into finished products. These are intermediate goods.

Eg: plastics and aluminium.

IMPORTANCE AND SCOPE OF INDUSTRIALIZATION:

i) Raising income – Industrialization development alone can provide a secure

basis for a rapid growth of income. Man can by putting more efforts and
application of new technology push on with the objective of producing more
economic goods (large production) and thus reap benefits of large scale
production.

ii) Meeting high income demands – After having met needs of food, income of
people spent on non-food items i.e., there is limitation in incomes of agricultural
industry whereas income earned by manufacturing industries has no limit.

TYPES OF INDUSTRY

1) Extra active Industries:

Activities where forms on wealth are drawn out, extracted or raised from soil, air
or water or beneath of earth
Products used by manufacturing and construction industries i.e mining, hunting,
agriculture, fishing.

2) Genetic industries:
Engage in reproducing and multiplying certain species of plants and animals with
object of profit
Eg: cattle breeding farms, poultry, and nursery.
3) Construction industries:
Construction of buildings, bridges, dams. Distinctive characteristic in that product
not marketed by being taken to markets and sold but erected, built or fabricated
at a fixed site.

4) Manufacturing industries:
Involved in conversion of raw materials of semi-finished products into finished
products. The Products of extractive industries are raw material of this industry.
Example- iron and ore from mining into steel etc.

Industries classified by size and investment:

1. Large scale/heavy industries - requiring big capital and long

production cycle.
2. Small-scale industry – less investment and short production cycle.

Industries are classified by types of product ie. firms manufacturing similar

products fall in one industry.
Examples- cement industry, Metallurgical industry, Iron and steel industry, Ferro
Alloys, Electrical industry & Transportation industry

IMPORTANCE AND SCOPE OF INDUSTRIES

Development of industries (industrialization) is imperative for economic

growth….
 Close relationship between industrialization and growth of national income
 Industrialization- process in which changes of a series of strategical
production functions are taking place i.e. Change in mechanization, building
of new industry, opening new markets etc.

 Raising income- industrial development provides for rapid growth of income

by putting efforts and application technology involves mass production and
higher economies of scale and high per capita income.

 Development of Industries takes care of disparities in export and income

elasticity – to maintain high exports as compared to imports so as to have
healthy foreign exchange.

 Absorbing surplus labour

 Strengthening the economy – development of industries producing capital

goods. i.e. machines to enable to produce variety of goods at low cost and
new technology-healthy for economy. Industrialization provides for
development of infrastructure i.e. railways, roads, power for future growth

 Providing for security- all round development as in cases of international crisis

source for defense industry-thus self-reliance.

INDUSTRIALIZATION IN INDIA – A REVIEW

Industrialization has a major role to play in economic development. Due to

unfavorable world trade i.e. negative balance of import and export,
industrialization is the only effective answer for growth of our country’s economy.
With increasing population combined with diminishing returns in agriculture,
leading to poverty, Industrialization is thus essential for development & rise in
high productivity & higher economies of scale.
Indian manufacturers earlier had a world wide market especially muslin cloth.
Indian manufacturers exported cotton, silk, fabrics, artistic ware, and woolen
cloth. But with the advent of British regime, industrialization in India declined as
British encouraged imports of manufactured goods and exports of raw materials
from India.
 The process of industrialization has been a striking feature since 1951 in
India’s economic development. Under the Industrial policy Resolution of 1956
and 5-yrs plans, heavy investments in building capacities of industries have been
undertaken, as a result industrial production in these 50 yrs went up by about 5
times making India the 10th most industrial country of the world.

 Progress is reflected in India’s foreign trade where share of imports of

manufactured goods has declined and engineering goods have become a
growing component of India’s export.

 India has achieved impeccable progress in metallurgical industries, chemical

and petroleum, fertilizers, capital goods, transportation, construction industry etc.

 The planners emphasized on development of heavy engineering industries

that would boast technological skills and lead to higher productivity, thus thereby
reducing imports and maintain healthy forex by thrusts in exports. Thus there
was a shift in favor of basic and capital goods sector. Its share in productive
capital was about 79% in 1991-92.

 Per-capita consumption power has increased 10 fold, which is a good

indicator of mechanization or technological sophistication.

 Growth of public sector was in a big way as they concentrated on heavy

industries. The public sector accounted for 7% of total factories as compared to
91% of private sector but they (public) employed 32% of productive capital as to
56% of private sector.
 There has been rapid growth of infrastructure i.e. refineries, pipeline,
irrigation, railways, roadways, etc. Science & technology in fields of agriculture,
space tech., telecommunication, refineries, etc. has seen tremendous growth.

 Yet the share of industry in national income is quiet low i.e. 1996-97 it was
just 21%. Its low compared to share of industry in developed countries i.e. 30%-
50%

 The process of industrialization has not yet been able to solve the problem of
unemployment

 Rapid industrialization of the large sector resulted in comparative neglect of

small & medium sectors.

INDIAN INDUSTRY - SOME FACTS

 Diversified and large industrial base, which is becoming globally competitive.

Examples, Tata Steel and NALCO are the lowest cost manufacturers of steel
and aluminum globally. Moser Baer is one of the top three manufacturers of
CD ROMs in the world. Bharat Forge is one of the leading suppliers to auto
giants, such as Ford, General Motors, and Toyota.

 India's Hero Honda is the world's largest motorcycle manufacturer with

production of 2.62 million units in the Financial Year 2004 -05. India is one of
the largest markets for motorcycles. Honda and Kawasaki have made India
their global export hub.

 The Indian companies have drawn up ambitious plans for expanding and
diversifying their manufacturing activities with investments of about US$ 12
billion in the next three years. Most of the companies have been able to
generate the funds from their own operations. The areas whose output is
 being scaled up are automobiles, auto parts, metals, chemicals,
pharmaceuticals and electronics.

 Growth rate of industry in 2004 - 05 was 8.1% while manufacturing registered

growth of 8.7%.

 The pharmaceutical industry's turnover is expected to increase to US$ 12

billion by 2008 from US$ 6 billion in 2003-04.

 The Indian pharmaceutical industry is a knowledge-based industry and has

gained global recognition as a producer of low cost high quality bulk drugs
and formulations. Some of the Indian companies have gone global with
presence in 60 countries, including USA, Europe and China. India is one of
the top ten producers of bulk drugs in the world and 60% of India's bulk drugs
production is exported. India has the highest number of annual bulk drugs
filings (120) with US FDA accounting for one-fifth of the total. The filings have
been broad-based involving over 20 Indian companies. India is home to the
largest number of pharmaceutical plants (61) approved by USFDA outside
US. Indian pharmaceutical companies are expected to generate revenue of
US$ 2.17 billion by 2008 (from US$ 554 million in 2003) in the US generics
market. Ranbaxy has become the ninth largest generics company in USA.
Ranbaxy has manufacturing operations in 7 countries including China.
Pharmaceutical exports of India reached approximately US$ 2 billion in 2003-
2004. It is to be noted that one third of pharmaceutical production in India is
exported.

 The chemical industry is becoming competitive and has very high growth
potential for production for local markets as well as exports. Bayer AG, the
German chemical and pharmaceutical company has identified India as the
outsourcing hub for basic and specialty chemicals.

 There are 150 biotechnology companies whose business is growing

exponentially.

 The auto parts industry has emerged as one of the country's fastest-growing
manufacturing sectors and a globally competitive one with a turnover of US$
 5.1 billion in 2002. This is expected to reach US$ 6.5 billion in 2005. 'Bharat
Forge' of India is the world's largest manufacturer of front axles for trucks.
India has emerged as an outsourcing center for auto parts for companies
such as Ford, Daimler Chrysler, Fiat, Volvo and Renault. Visteon and Delphi,
the world's largest auto component manufacturers have entered India for
production. Toyota has made India its global hub for transmission systems.
Volvo and GM have set up purchasing offices. A rising share of Indian auto
parts exports goes to original equipment manufacturers (OEMs).

 The Indian auto industry has grown to a capacity of 1.2 million units per year.
Car sales in 2004-05 were 1.09 million units.

 Tata Motors have developed cars based on indigenous design , manufactured

with 100 per cent Indian parts and have established themselves as one of the
leaders in Indian automobile industry. It is credible that they have got a four-
year contract for supply of 100,000 cars to UK under the brand "City Rover".
Tata is opening a manufacturing plant in Germany for supply of auto parts to
Ford. They have also made forays into the South African market.

 Hyundai has made India its hub for worldwide exports of small cars.

 According to a DHL-Mckinsey Study of 2004, India's share in world textiles

will go up from 4 per cent to 6.5 per cent by 2008.

 India is the second largest cement producer in the world with a production of
117 million tons per year.

 India is the world's premier center for diamond cutting and polishing. Nine out
of every 10 stones sold in the world pass through India.

 India has one of the world's biggest entertainment industries, which produces
800 movies per year overshadowing Hollywood. The turnover of the industry
in the year 2004 was US$ 4.5 billion and according to the FICCI - PWC Study
- " Indian Entertainment Industry - An Unfolding Opportunity" released in April
2005, this figure is expected to reach 10 billion by 2009, an average annual
increase of 18%.
 TRADE

Commerce is an activity whereby goods are transferred to those who need them.
It is an organized system for the exchange of goods between members of the
industrial world-necessary link between producers and consumers. Function of
Trade is essential for maintaining free and uninterrupted flow of goods and
services between them. Thus it is clear that trade is an important part of
commerce –hence its nucleus. Trade thus refers to sale transfer or exchange of
goods.

TYPES OF TRADE:

Internal trade- home trade i.e. sale and exchange of goods within bounds of
nation
May be conducted in either by way of…

 Wholesale trade- sale of goods in large quantities to traders who are in

direct contact with customers- link between producers and retail traders.

 Retail trade- supply of requirements of consumers in small quantities.

-Link between whole sellers and consumers.

International or foreign trade

 Supply of goods to buyers located in foreign countries, hence when goods
moved between countries, payments have to be converted into currency
of other country and means of international transportation have to be
used.
It is divided into…
1. Import trade- procuring of foreign goods for home use i.e. type of goods
that country lacks.
 Initially India for its industrial development imported capital goods like
machines, transport equipment.

 There are imports for inputs for industrial development i.e. petroleum
fibers, chemicals and inputs of consumer goods industries i.e. crude
rubber, raw wool, animal and vegetable oils.

2. Export trade-
 Supply of home goods for foreign use

 It brings out the fact the kind of goods that a country has and how
much it is willing to sell.

 In India over the years there has been a lesser dependence on

traditional items in composition of export of manufactured items like
textiles, chemicals, machinery, transport equipment.

 There has been broad based expansion an export items in respect of

engineering goods, iron and steel, sugar, leather, cashew kernels,
tobacco, coffee, fish, etc

 There has been a considerable increase in exports of manufactured

items like textiles, chemicals, machinery etc..
 TRANSPORT

Physical movement of materials and goods from the point at which they are
available to the point that they are required.

NATURE AND SCOPE / ROLE / BENEFITS.

 In a planned economy, location of industries, development of backward areas,

distribution of products – necessities a proper transport system.

 Lack of transportation facilities retard economic growth.

 In Agricultural sector transport enables supply of seeds, manure, fertilizers,

pesticides, and agricultural implements and provides for conveyance of
produced crops. Improvement in transport facilities will not only increase
agricultural production but also make production and agricultural operations
market oriented.

 In industrial sector it helps carry raw materials from distant places enabling
production, manufacture and again carries manufactured products to markets.

 Development of transport gives fillip to production of transport equipments for

locomotives, motor vehicles, ships, aero planes, etc…

 Availability of transport determines location of industry and economic activity

as it touches cost factor & also leads to development of Industries.

 Consumption and standard of living also related to transport.

 In political sphere improved transport enables proper administration, justice

and security
 Defence of our country is largely dependent on transport

 Economic benefits: Serves consumers by taking products to them,

stimulates demand by availability of products, facilitates production with
movement of raw materials and finished goods, key agency for promotion of
planned development; provision of transport is a factor in expanding national
product and growth of industrialization.

 Non –economic benefits: social; benefits by getting together people of

different race, religion, cultures, as making a homogenous group, weakens
evils of caste, untouchability etc. helps defence administration and politicians.

TYPES OF TRANSPORT.

 Railways-
contributes a sizeable part of country’s infrastructure route length of 62,500
kms. Biggest public undertaking with staff of 1.6 million. Passengers carried
are 300 billion, Asia’s largest and world’s fourth largest system.

 Roads and road transport-

next to railways roads play a key role. India has extensive road network
catering all types of traffic. There are national highways, state, inter and intra
district roads. Basic infrastructure for socio economic development. Without
road transport, mail and other means of communication would not reach
villages. Road transport is good over short distances and represents a
technological advance in transportation field.
  Water transport-
though not fully developed, still important with a large potential for
development. Marine shipping is very helpful to economy and for foreign
trade. It is cheaper over other means as large freights carried over water that
involves low cost, good for long distance.

 Civil aviation-
newcomer, fastest means, offers substantial savings on long hauls in transit
times. Vital role to play on routes of difficult terrain. Air transport helps to
optimize technological, managerial and administrative skills in resource
scarce company.

ROAD TRANSPORT
It has certain advantages as only roads can reach vast areas and it will create
employment in building roads elites maintained. It is quicker for short distances
as it can easily collect passengers, goods and drop them wherever they want to.
It’s only by way of roads that good and passengers can be dropped to railway
stations. It is of particular advantage to farmers to move their requirements and
their produce.

Road transport has gone up over the period of years i.e. from .3 million in 50-51
to 30 million in 1994-95, but the expansion of road transport has been restricted
by-
1. High rate of taxation,
2. Huge hike in oil prices
3. Large No. Of operators causing inefficiency and difficulties in exercising
control.
4. Very high costs of operation partly because of duties, taxes, and badroad.
Causing wear and tear, accidents, high fuel consumption etc.
Roadways Major initiatives

The National Highways Development Project and other initiatives in the road
transport sector will result in immense economic and social benefits for our
country, like:

o Employment generation

o Thrust to road construction, cement and steel industries

o Savings in vehicle operating costs

o Faster, comfortable journeys

o Reduced fuel consumption

o Benefits to trade especially in movement of perishable goods

o Reduced maintenance costs

o Safer travel

o All round development of areas

The NHDP is a major initiative towards qualitative and quantitative enhancement

of National Highways, involving development and 4/6 laning of about 13,150 km
of road at a cost of over Rs. 54,000 crore.

Golden Quadrilateral project

National Highways are the lifelines of any nation. They provide an impetus to the
growth of the economy of a nation in several ways. India has started exploiting its
newfound strengths to win global recognition and respect. What India requires
now, is a giant leap towards economic reform, social upliftment and infrastructure
development considering internal strengths and capabilities. Hence, from this
point of view, a massive development programme is vital. This development
programme must act immediately to avail the current confluence of low interest
rates and abundant capital. The massive development programme must include
upgradation of social and physical infrastructure in education, healthcare,
commerce and industry on an unprecedented scale. This would include building
schools, hospitals, roads, bridges, ports, power plants, and transmission facilities
to cater to all sections of the population, including the urban sectors. In
consideration of all the above stated aspects, the Government of India has
launched many infrastructure projects in recent years and the Golden
Quadrilateral project is one of the prime projects among them. The Golden
Quadrilateral road project links the four metropolitan cities of Delhi, Mumbai,
Chennai and Kolkata having a total length of 5846 kms under the guidance of the
National Highways Authority of India (NHAI) and the Ministry of Road Transport
and Highways, Government of India. The project was launched by AB Vajpayee,
former Prime Minister, during his tenure, on January 2, 1999 and is supposed to
be the biggest highway project in the world in the proposed time frame. The
Asian Development Bank (ADB) has also contributed to ease the chronic
capacity shortage of India’s National Highways Development Programme
(NHDP) by helping to upgrade arterial corridors. The Golden Quadrilateral
comprises a widening and rehabilitation programme for the existing roads.
Golden Quadrilateral - 5,846 Kms connecting Delhi-Kolkata-Chennai-Mumbai

 NH 2 Delhi - Kolkata 1,453 kms

 NH 4,7 & 46 Chennai - Mumbai 1,290 kms

 NH 5 & 6 Kolkata - Chennai 1,684 kms

 NH8 Delhi - Mumbai 1,419 kms

THE INDIAN RAILWAYS-

the countries largest public enterprise has one of he largest railway system of the
world –i.e. 63000 route Kms carrying 11 million passengers and 1.12 million
tones if freight. The railway have been earning sufficient income from 1980’s with
on expected surplus of Rest 1600 cores in 1998-99, but there are several
constraints to its growth mainly because it is called upon to play the role of a
public utility service and a commercial are

1. Impact of inflation i.e. they don’t have freedom to adjust their freights
compared to increase in their in puts.

2. Increase inefficiency due to strikes, go slow tactics by workers causing

financial losses.

Indian Railways - the catalyst of socio-economic development

Rail transportation has a number of favourable characteristics as compared to

road transportation. It is six times more energy-efficient than road and four times
more economical. The social costs in terms of environment damage or
degradation are significantly lower in rail. Rail construction costs are
approximately six times lower than road for comparable levels of traffic. It is the
only major transport mode capable of using any form of primary energy.

Contributing to Modern Market Economy

Since its inception, the Indian Railways has served to integrate the fragmented
markets and thereby, stimulating the emergence of a modern market economy. It
connects industrial production centres with markets and with sources of raw
materials and facilitates industrial development and link agricultural production
centres with distant markets. It provides rapid, reliable and cost-effective bulk
transportation to the energy sector, to move coal from the coal fields to power
plants and petroleum products from refineries to consumption centres. It links
places, enabling large-scale, rapid and low-cost movement of people across the
length and breadth of the country. In the process, the Indian Railways has
become a symbol of national integration and a strategic instrument for enhancing
our defence preparedness.

The Indian Railways contributes to India's economic development, accounting

for about one per cent of the GNP and the backbone of freight needs of the core
sector. It accounts for six per cent of the total employment in the organised sector
directly and an additional 2.5 per cent indirectly through its dependent
organisations. It has in vested significantly in health, education, housing and
sanitation. With its vast network of schools and investment in training, the Indian
Railways plays an important role in human resource development. The Indian
Railways, with nearly 63,000 route kilometres fulfils the country's transport
needs, particularly, in respect of long-distance passenger and goods traffic.
Freight trains carry nearly 1.2 million tonnes of originating goods and 7,500
passenger trains carry nearly 12 million passengers every day.

Freight and passenger traffic carried by the Indian Railways has recorded an
impressive growth ever since Independence. While the input indices in terms of
route kms, locomotives, passenger coaches and wagon capacity have only
doubled during this period, the traffic output indices have increased by six times.
These achievements were due to selective inputs of affordable technology,
adoption of innovative operational strategies, phased reduction of staff and
operating costs and intensive monitoring of movements and maintenance areas.

The Railways has developed indigenous capacity for rolling stock

manufacture, including state-of-the-art electric and diesel locomotives and high-
speed passenger coaches. It has introduced high-speed Rajdhani and Shatabdi
Express trains and Mass Rapid Transit Systems in the metropolitan areas.

Commissioning of the Konkan Railway, extension of Electric Traction to cover

30 per cent of the broad gauge network, gauge conversion of about 8,000 kms.
and provision of about 15,000 kms of double/multiple lines are some of the major
achievements. It has computerised passenger reservation facility covering 95 per
cent of the workload. It has constructed bridges - engineering marvels across
major rivers like the Ganga, Godavari and Brahmputra.

Development of Inland Water Transport – Trends and Issues

The inland waterways have played an important role in the Indian transport
system since ancient times. Though inland water transport is comparatively a
cheaper and efficient means of transportation in recent times the importance of
this mode of transport has declined considerably with the expansion of road and
rail transport. In addition diversion of river water for irrigation has also reduced
the importance of inland water transport. The decline is also due to deforestation
of hill range leading to erosion, accumulation of silt in rivers and failure to
modernize the fleet to suit local conditions. The transportation of goods in an
organized form is confined to West Bengal, Assam, parts of North Eastern
Region and Goa.
Development of land water transport commenced from the Second Five Year
Plan and upto the end of Fifth Plan the total expenditure on this sector was Rs 34
crores. It was only in the sixth plan that this sector was given priority and specific
schemes of inter – state and national importance for development of inland water
transport were taken up. The Seventh Plan was an important landmark in the
development of inland water transport. The expenditure on this sector in the plan
(at Rs. 131.85 crores) was more than expenditure incurred right up to the end of
the sixth plan.

Even today, waterways are the cheapest mode of transport. According to a

recent study conducted by National Council for Applied Economic Research
(NCAER), the per-tonne km cost of transportation by inland waterways is Re.
0.55, compared to Re. 1 by road.
For the movement of bulk cargo, inland waterways are considered more fuel-
efficient than any other mode. Yet today this potential remains highly unexploited.
The development of motorable roads, particularly national highways, and the
introduction of large trucks, has left the country boats far behind. The motorboats
and the passenger vessels that replaced the country boats were hit by
infrastructure deficiencies.
According to surveys, India has 15,000 km of navigable inland waterways. By
2005, the IWT traffic is expected to go up to 50 billion tonne kilometers. The
Inland Waterways Authority of India, the autonomous body responsible for
regulation and development of waterways, had declared three national highways.
NW – 1 is Ganga-Bhagirathi-Hooghly river system from Allahabad to Haldia,
covering a distance of 1,629 km, and passing through three states – UP, Bihar
and West Bengal. The NW – 2 is on the Brahmaputra river from Dhubri to
Sadiya, covering 891 km, passing through Assam and linking the North – East
region to the main ports of Calcutta and Haldia. It is also a major link to
Bangladesh. The NH – 3, the west coast canal from Kottapuram to Kollam,
including Chambakara and Udoygamandal in Kerala consists of natural lakes,
backwaters, a river section and man-made canals.

Greater involvement of State governments in developing the inland water

transport (IWT) sector would be essential to derive the benefits of the country’s
IWT policy so as to accelerate the economic growth.
Since India has vast IWT potential, it could play a significant role in augmenting
the country’s transport infrastructure. India has about 14,500 km of inland
waterways network comprising rivers, lakes and canals and the IWT sector has
only recently received its due attention. Much more needs to be done to really
take advantage of this sector.
With Global economy and the WTO regime, there would be greater movement of
goods to and fro. This would create heavy pressures on the already burdened
transport system of rail and road. There is limit for expansion of rail and road
capacity on account of constraints of available land, exorbitant cost and
environmental considerations. Inland Water Transport can play a supportive role
for Rail and Road Transport.
The cost effectiveness of IWT can be addressed from the fact that while the
development of 1 km of highway costs Rs 6 crores, much less than this amount
is enough to develop 100 km of waterways.
There are some hazardous commodities that should cannot be allowed to be
transported on road. In view of these constraints and considerations, the
development of inland water transport has been relevant in today’s context.
IWT has advantages over railways and roadways both in terms of cost and
energy consumption in cargo transportation. As per estimates, for every one
rupee spent for IWT development, the corresponding cost for development of
same length of roadways and railways would be Rs 2 and Rs 5, respectively. In
case of energy consumption, the ratio would be between 1.5 and 4, respectively.
The major inherent advantages of IWT include doubling of load capacities for a
small increase in depth thereby providing an aging flexibility and cost elasticity,
which do not exist in other modes of transport.
Besides lower fuel consumption and construction costs, the IWT has the
advantage of ensuring minimum human loss against very frequent accidents
occurring in case of roads and railways.
Regional cargo transportation using riverine systems is confined to Goa, West
Bengal, Assam and Kerala. According to the estimates made by IWAI, the total
cargo moved using IWT is about 20 million tonnes, corresponding to just over 1.5
billion tonnes kms or 0.15% of the total inland cargo. The balance being served
by Rail and Road. However if the inland waterways were developed with the
necessary infrastructure such as fairway, terminals and navigational aids, the
inland water transport mode could become quite competitive and attract
considerable cargo.

The interlinking of major rivers, a mega project undertaken by Government of

India will not only solve the problem of water supply through out the country but
also encourage low cost inland water transportation. Interlinking of major rivers
will allow North – South and East – West inland water linkages resulting into
efficient cargo and passenger transport. The interlinking of major rivers in the
country will provide a smooth way for inland water transport ultimately reducing
the transport cost to the considerable extent. The heavy load of road and rail be
reduced and these sectors will be in a position to increase their efficiency.
Development of inland water transport will directly help transport cargo from
manufacturing center to a major/minor port where it can find its market place
easily.
Interlinking of rivers and the development of Inland Water Transport will make
ports handle larger cargo quantities and result into their development. Interlinking
of the rivers and the development of Inland Water Transport will prove as an
efficient alternative to Road and Rail for transportation of cargo as well as
passenger from North to South and East to West in the country.

TRANSPORT SECTOR IN INDIAN ECONOMIC DEVELOPMENT

Problems and growth:

 Indian planners gave high priority to the development of transport in he five-
year plans for economic growth. Rail and road transport dominate this sector
but considering India’s geographical feature other forms are important too.

 Transport development has seen impressive growth over the periods but yet
there are certain constraints to its growth. Capacity constraints of railway
have leas to movement of bulk commodities like coal over long distance by
roads at a high cost to the economy. Inefficiencies, delays, and corruption
prevent in railways gave way for road transport which is expensive, but now
the situations improving.

 There was no proper planning of the transport system in India, as population

and economic growth concentrated in few areas, causing massive traffic and
hence pressure on rails and road in these regions.

 Due to overage and obsolete assets use in transport i.e. equipment, buses,
routes, causes inefficiency and high cost of services. The technology used is
 primitive and hence there should be up gradation in technology modernizing
transport system.
BANKING AND FINANCIAL INSTITUTIONS

Finance is a prerequisite to mobiles real recourses for organizing production

thus necessary for development of economy. Thus banks and financial
institutions provide for finance in economy development. In an economy a
business unit needs funds for wages and purchases, traders, farmers. All
required funds provided by India’s financial system that includes institutions that
mobilize savings and distribute to those who demand them. The Indian financial
system comprises of banking system, insurance corporations, development of
financial institutions etc.

Banking System

Comprises of:

1.Reserve Bank of India –

central bank, supreme monetary and banking authority and has responsibility of
controlling entire banking system, it keeps ‘reserves’ of all commercial banks
hence called Reserve Bank Of India.

2.Commercial banks –
Include banks in public sector, private sector, foreign banks and RRB’s (regional
rural bank). They form largest part of banking systems. Public sector bank
account for 90% of total banking business in India. State bank of India is largest
commercial bank. Foreign banks specialize in foreign trade and international
banking. Registered rural banks have responsibility of developing agricultural
trade, commerce, and industry in rural areas.
3.Co-operative banks-
These banks are originally set up for farmer’s savings and to meet their credit
needs. To support them district and state co-operative banks were established.
Funds of RBI meant for agricultural sector pass through state co-operatives.
There are also scheduled and non-scheduled banks. Scheduled with paid up
capital and reserves of not less than 5 lacks expansion of bank credits,
development oriented bank (i.e. covering all sectors of economy instead of few)
priority sector leading i.e. to agriculture

FINANCIAL INSTITUTIONS
Called development banks or DFI is a multipurpose institution, which shares
entrepreneurial risk, changes approach in tune with industrial climate and
encourages new industrial projects to speed economic growth. Discovery of
investment projects, preparation of projects reports, provide technical advice and
management service and assisting in managing industrial units They are owned
by the government i.e. central or state. Consists of IDBI, ICICI, IFCI, UTI, LIC,
GIC, SIDBI, EXIM BANK etc.

The financial institutions in India can be broadly classified into three categories,
viz.,
All-India Financial Institutions (AIFIs),
State level institutions and
other institutions.

On the basis of functions and activities, the AIFIs have four segments;
(i)all-India development banks,
(ii) specialised financial institutions,
(iii) investment institutions and
(iv) refinance institutions.

The State level institutions comprise State Financial Corporations (SFCs) and
State Industrial Development Corporations (SIDCs).
Other financial institutions include Export Credit Guarantee Corporation of India
(ECGC) Ltd. and Deposit Insurance and Credit Guarantee Corporation (DICGC).
Out of 17 AIFIs, the Reserve Bank regulates and supervises only nine. Out of
these nine, six FIs, viz., Industrial Development Bank of India (IDBI), Industrial
Finance Corporation of India (IFCI) Ltd., Industrial Investment Bank of India (IIBI)
Ltd., Tourism Finance Corporation of India (TFCI) Ltd., Infrastructure
Development Finance Company (IDFC) Ltd. and EXIM Bank are ‘Term Lending
Institutions’, while the remaining three FIs, viz., National Bank for Agriculture and
Rural Development (NABARD), National Housing Bank (NHB) and Small
Industries Development Bank of India (SIDBI) are termed as ‘Refinance
Institutions’ for regulatory and supervisory purposes.
Role of development financial institution is praise worthy in following areas

 Promotion of SSI (Small Scale Industries) SSI have played vital role in
economy and boosting exports
 Promotion of entrepreneurs i.e. identifying training entrepreneurs.
 Development of backward areas
 Industrial development
 Long term finance on fixed interest rates
 Promoted specialized institutions (financial)
 Have kept financial position on sound lines

Weakness of Development Financial Institutions:

Profitability has been low due to bad assets quality, poor quality of portfolio due
to uni- sectoral lending. Financial institutions operating in a competition free
environment i.e. they join hands with investment institutions and acts as cartel
i.e. their investor become borrowers of financial institutions unhealthy practices .
Government control and political interference damage the institutions these
should be autonomous. Thus ownership is broad based like ICICI.

Policy Initiatives for Financial Institutions

The Reserve Bank regulates and supervises nine AIFIs 1 under Section 5 of the
Reserve Bank of India Act, 1934. The FIs are currently on the transition path as
recommended by the Narasimham Committee II, by making endeavours, to
convert themselves either into a bank or NBFC. The focus of the policy initiatives
by the Reserve Bank and the Government has been on financial as well as
organisational restructuring to facilitate their transition into universal banks. As a
corollary, the Reserve Bank has been harmonising its various policy measures
for banks and FIs in such a manner that FIs, on becoming banks, are in a
position to fully integrate themselves into the banking system. The Reserve Bank
initiated various regulatory and supervisory initiatives including facilitating
organisational restructuring of the FIs during 2003-04. Policy initiatives for select
AIFIs laid emphasis on asset classification and provisioning, disclosures,
consolidated accounting and supervision, infrastructure financing and measures
to facilitate market developments.

Problems of Financial Institutions

Although setting up of the development finance institutions (DFIs) was an

important feature in the overall development of the financial system; with the
emergence of the capital market as an important source of finance in the late
1980s and early 1990s, and the renewed role of banks in term-financing, DFIs
have been increasingly exposed to greater competition. Liberalisation of the
financial sector, with its associated processes of decontrol, deregulation and
globalisation, has led to increased competition for financial intermediaries across
different segments. The competitive pressures have come into the business
domain of FIs on account of the entry of new players. Moreover, with the initiation
of financial sector reforms in the early 1990s, access of FIs to assured sources of
long-duration/concessional funds from the Government, particularly ‘SLR bonds’
that were subscribed to by banks and insurance companies, has been gradually
phased out. FIs at present are overwhelmingly dependent on market borrowings
- wholesale and retail, domestic and foreign - for their resource mobilisation. As a
consequence, DFIs are required to raise funds from the capital market. With the
removal of administrative controls on the interest rate structure, it has become
increasingly difficult for DFIs to raise long-term funds. This in turn has affected
their ability to offer competitive rates to their borrowers.
Apart from the competitive pressure for raising resources, the role of DFIs as an
exclusive source of development finance has diminished as other intermediaries
especially banks have also entered into long-term and high risk project financing.
Therefore, FIs are increasingly facing competition not only in terms of raising
resources but also in the deployment of funds. In short, the change in the
operating environment coupled with the legacy of high non-performing assets
has led to serious financial stress on the term lending financial institutions.

in the pre-reform period, DFIs faced little competition in the area of long-term
finance as funds were available to them at cheaper rates from multilateral and
bilateral agencies duly guaranteed by the Government. The reforms in the
financial sector have changed the operational environment for the DFIs

While on the supply side, the access of DFIs to low-cost funds has been
withdrawn, on the demand front, they have to compete with banks for long-term
lending.

The role of DFIs as exclusive providers of development finance has diminished

during the 1990s with the emergence of a well-diversified banking system
operating efficiently and acquiring skills in extending long-term finance.

Reforms for improvement in the Financial Institutions

 As a result of the exposure of DFIs to certain sectors with cyclical downturn,

DFIs have accumulated large NPAs. To overcome this, Government should
undertake a social cost-benefit analysis, on the basis of which Government
should decide which sectors need development finance and which
institutions can continue as DFIs. The rest of the DFIs should be converted
either to a bank or a regular NBFC as recommended by the Narasimham
Committee II.
 The Group identified that the main problems of SFCs were the centralised
decision making, lack of corporate culture, high transaction cost and poor
appraisal skills. The SFCs, according to the Group have lost their relevance.
The Group is uncertain regarding the revival of financially sick SFCs and
recommended phasing out of SFCs.
 Since long-term project finance is a risky proposition for any financial
intermediary whose portfolio is almost exclusively comprised of project
financing, the DFIs should consciously scale down the proportion of project
financing by resorting to diversified products, before transformation into
banks. Highly illiquid asset profile may be risky from the systemic point of
view.
 DFIs seeking transformation should restructure themselves like a company
with a large and diversified share holding. DFIs, converted into banks, could
be accorded certain exemptions/relaxations for a period of three to five years
after conversion. l The Group also emphasised on the need for ongoing
monitoring of the business and strategic plan till the DFIs are fully integrated
into the banking system.
 The regulatory framework needs further strengthening and should be so
designed so as to ensure financial soundness of DFIs and overall systemic
stability.
 The Group recommended that risk weightage for certain categories of
investments such as bonds of public financial institutions should be raised
from the present level of 20 per cent to 100 per cent as such investments
involve substantial credit risk.
 DFIs, viz., NABARD, NHB, EXIM Bank and SIDBI work as instruments of
public policy and the Reserve Bank may continue to regulate the financial
and other related aspects of these institutions.

Restructuring of Financial Institutions

Transformation into Universal Banking

With the blurring of functions between banks and FIs, the business model of a
bank is being increasingly accepted for FIs also. Accordingly, there is a move to
restructure FIs like IDBI and IFCI. The merger of the ICICI with ICICI Bank on
March 30, 2002 was the beginning of the conversion of DFIs into universal
banks as a solution to their problems. Universal banks would engage not only in
traditional banking, but also investment banking and other financial activities.
Since the merger of ICICI with ICICI Bank, similar moves are underway to
transform the other principal DFIs in the country, viz., IFCI and IIBI. In the Union
Budget 2004-05, it was indicated that IFCI will be restructured through transfer of
its impaired assets to an asset reconstruction company and by effecting merger
with a large public sector bank.

In view of the changing operating environment following initiation of reforms

since the early 1990s, Government of India decided to transform IDBI into a
commercial bank without eschewing its traditional development finance
obligations. The migration to the new business model of commercial banking,
with its access to low-cost current/savings bank deposits, would not only enable
it to overcome most of the limitations of the current business model of
development finance but also
simultaneously help in diversifying its client/ asset base by offering various retail
liability products. Towards this end, the IDBI (Transfer of Undertaking and
Repeal) Act 2003 was enacted in December 2003 which became effective since
July 2, 2004. The Act provides for repeal of IDBI Act, corporatisation of IDBI (with
majority Government holding) and transformation into a commercial bank. On
July 29, 2004, the proposal to merge IDBI and IDBI Bank was accorded in-
principle approval. IDBI became IDBI Ltd. on October 1, 2004 and being a
‘scheduled bank’ under the Reserve Bank of India Act, 1934, IDBI Ltd. can
formally enter the portals of banking business over and above the business
currently being transacted.

On the basis of recommendations of the Working Group and the feedback

received thereon, the Reserve Bank in its mid-term Review of annual policy
Statement 2004-05 proposed: i) the Reserve Bank would continue to supervise
NABARD, SIDBI, NHB and EXIM Bank, ii) the Reserve Bank would supervise
DFIs accepting public deposits while DFIs and large NBFCs not accepting public
deposit but having asset size of Rs.500 crore and above would be subjected to
limited off-site supervision.

PROBLEMS & CONSTRAINTS OF BANKING SYSTEM

Causes of low productivity

Declining interest income due to high CRR & SLR. CRR at 15% and SLR at
38% &40% for priority sector lending. Deposits of 5& 25% to be maintained with
RBI. High proportion of bank deposits for priority sector lending &low interest rate
for these sectors under concept of social banking. Public sector banks have
been forced to lend to dubious parties by the government i.e. , pressure of
political parties thus lending to huge over dues. High operational costs because
of uneconomic branch expansion , heavy recruitment, growing inefficiency-thus
expenses are mounting. Credit subsidy to priority sectors caused losses to
banks.

PROGRESS OF BANKING IN INDIA:

The banking system recorded rapid progress due to planned economic growth,
increase in money supply, growth of banking habit, controlled guidance by RBI,
deposit Mobilisations etc. Nationalisation of 14 major banks in 1969 was a
historic event to encourage small scale & cottage industries & also for agricultural
funding.
Rapid economic growth necessitated opening of branches at all regions thus
bank expansions activities progressed after nationalization. This led to integration
of rural &urban areas & also of organized & un-organised money market in
India.
Nationalisation & branch expansion in India have yielded higher deposits ; thus
banks have contributed greatly to development of banking habit among people.

There has been continuous expansion of bank credit meeting requirements of

industry ,trade &agriculture i.e,4700cr in 1970-71 to about 4,34,180cr in 1999-00.
Concept of banking i.e. (receiving & lending)has widened to development
oriented banking i.e., assisting small &weak industrial units ,farmers , for
improving productivity of firms , creating employment etc. Priority sector lending
progressed catering to agriculture ,small industry housing loans , small transport
etc. Goverment of India has used public sector banks to finance programmes to
reduce poverty i.e .social banking.
There has been diversification of banks in India in fields of – merchant banking ,
mutual funds , housing loans, venture capital funds , advide on funds raising ,
underwriting or issues of shares etc.

REFORMS FOR IMPROVEMENT OF THE BANKING SECTOR .

Reforms in the Banking Sector

The reform process in the financial sector has been taken forward with the
primary objective of having a strong and resilient banking system. Considerable
progress has been made in strengthening the regulatory and supervisory norms
with a view to inducing greater accountability and market discipline amongst the
participants. This has enabled the Indian banking system to acquire strength,
efficiency, and vibrancy necessary to meet global competition. The most
significant achievement in the banking sector has been the marked improvement
in financial health of banks in terms of capital adequacy, profitability and asset
quality with an increasing focus on risk management.
In the Union Budget 2004-05, the Central Government announced a broad
outline of programmes for doubling the flow of credit to agriculture in three years
with a credit growth of 30 per cent for 2004-05. The flow of credit to agriculture
may lead to greater credit penetration by replacing non-institutional sources of
finance.

In order to enable the banks to determine appropriate pricing of loans to small

and medium enterprises, development of a system of proper credit records would
be very helpful. For this purpose, the Credit Information Bureau of India Ltd.
(CIBIL) would work out appropriate mechanisms in consultation with the Reserve
Bank, SIDBI and IBA. The Reserve Bank has also exhorted banks to make
persistent efforts in obtaining consent from all their borrowers, in order to
establish an efficient credit information system. This would help in enhancing the
quality of credit decisions and improving the asset quality of banks, apart from
facilitating faster credit delivery. As the risk profile of bank lending is more
diversified and banks are expanding their loan books, it is essential that banks
pay adequate attention to quality of lending so that credit expansion could be on
a sustained trajectory building upon higher profitability while ensuring financial
stability.

Reserve Bank initiated various measures in its mid-term Review of annual policy
for 2004-05. These measures include raising of limits for direct finance to the
housing sector, raising of the composite loan limit for small-scale industries,
removal of the restrictive provisions of service area approach, enhancing limits
on advances under the priority sector for dealers in agricultural machinery and
distribution of inputs for allied activities and allowing banks to extend finance to
Non-Banking Financial Companies (NBFCs) against second hand assets
financed by them subject to the approval of the policies by the banks’ Boards.
The Reserve Bank has announced several policy measures in the recent years
to facilitate infrastructure financing. These measures included enlarging the
scope of the definition of infrastructure lending, permitting banks to raise long-
term bonds with a minimum maturity of five years to the extent of their exposure
of residual maturity of more than five years to the infrastructure sector, etc.

The Basel Committee on Banking Supervision, after a protracted consultative

process, issued the framework of New Capital Accord (Basel II) in June 2004,
which is expected to be implemented in many jurisdictions by end-2006. An
important pre-requisite for implementation of advanced approaches under Basel
II is a well-established risk management system in banks. Risk management
comprises various risks that a financial institution has to manage viz., credit risk,
operational risk, market risk, including interest rate risk and forex risk. Basel II
aligns the capital measurement framework with sound contemporary practices in
banking, promotes improvements in risk management, and is intended to
enhance financial stability.

New private banks and foreign banks have been granted licences in order to
allow the financial system to benefit from greater competition through better
technology, specialised skills, better risk management practices, greater portfolio
diversification relating to treasury operations and deepening of the financial
markets.

With increased deregulation, globalisation and greater competition from within

the country, cross border dealings have exposed banks to greater risk.
Diversification into non-traditional products like insurance, derivatives, etc., has
added to the complexity of banking business. Internet banking, e-commerce, e-
money, etc., have added new dimensions to risks in the banking sector A
significant development during 2003-04 was a successful pilot programme run for
risk-based supervision, aimed at allocating supervisory resources in accordance
with the risk profile of banks.
The Reserve Bank framed a set of guidelines known as Uniform Regulations and
Rules for the bankers’ clearing houses to provide a uniform framework for the
conduct of clearing throughout the country and have been adopted individually by
the general body of each clearing house in the country.

Most public sector banks with their extensive branch networks are still in the
process of making a shift over from the ledger book accounting practices to
computer-balanced spreadsheets and from cashier-dispensed currency to ATMs.
However, the transformation towards computerised functioning in public sector
banks is beginning to set in and the response is becoming evident. The Reserve
Bank has been playing a key role in the development of a modern, state-of-the-
art payment and settlement system in India. Accordingly, the modernisation of the
system has been accorded high priority in the financial sector reforms. The thrust
of these reforms has been towards greater consolidation, development and
integration of the payment and settlement systems in India.

The Indian banking sector is gradually heading towards consolidation of core

competencies of different financial intermediaries and to universal banking, with
banks being permitted to diversify into long-term finance and the DFIs into
working capital. The universal banking may lead to greater economic efficiency in
the form of lower cost, higher output and better products . The need is to design
the consolidation process so as to achieve and harness convergence between
the reforms undertaken in real sector, external sector and the financial sector.
The Indian Banks’ Association, the bankers’ apex body, has recently set up a
committee to look into the intricacies of mergers and acquisitions in the banking
sector.

In order to enhance transparency in banks’ pricing of the loan products, in the

monetary and credit policy 2003-04 banks were advised to announce a
Benchmark Prime Lending Rate (BPLR) taking into account actual cost of funds,
operating expenses and a minimum margin to cover regulatory requirement of
provisioning/capital charge and profit margin, with the approval of their Boards to
ensure that the PLR truly reflects the actual cost. The BPLR guidelines were
modified suitably in consultation with banks and Indian Banks’ Association so as
to evolve an operationally flexible system. As of now, almost all commercial
banks have adopted the new system of benchmark PLR.

The Reserve Bank is currently examining various policy options for further
strengthening the financial sector. A well-calibrated deregulation process is
currently underway. As the process of strengthening financial sector unfolds, it
would have to take into account factors such as emerging market structure in
banking sector after the likely mergers and acquisitions, restructuring of
development financial institutions and appropriate timing of the entry of foreign
banks so as to be co-terminus with the transition to greater capital account
convertibility while being consistent with continuing obligation under the WTO
commitments.

With emphasis on reducing NPA(Non Performing Assets)

Improvement in profitability & efficiency. :

Banks provide loans to various institutions business etc. recovery of these

sometimes is not because of losses incurred by firms these resulting in liability to
banks called NONPERFORMING ASSETS Thus remedies by way of recovery of
huge over dues , better loan management i.e. involving a proper system of
appraisal of projects –to finance those projects which are feasible , provision of
extension services to help borrowers make satisfactory use of funds .
States to insure that burden of nursing sick industries be kept in strict limits.
According to ARASIMHAS committee setting up of asset reconstruction fund is
needed to take a position of bad debts from banks &recover the same borrowers
by the govt. Special recovery tribunals was set up in 1993 to facilitate quicker
recoveries of loans& debts.

Reduction in SLR & CLR to increase bank reserves for lending .

Reduction in directed credit programmes i.e. ,reduction in priority sector lending

i.e., agriculture &other neglected sectors .Hence improvement in quality of loans
& to be given to weakest sections of rural community &fixed at 10% of aggregate
bank credit .

Prudential norms by implementing International accounting practices so as to

properly reflect income ,assets &bad debts for effective supervision.

Supervision in banks have tightened by setting up Board of financial supervision

so as to appraise portfolio& lending activities which might arise due to political
pressure.

Changes in organization structures of banks was recommended i.e. , there could

be 3 - 4 large banks by way mergers & acquisitions , take overs , so as to
increase efficiency &reduce costs . Confining operations of local banks to a
specified region itself . Stringent capital adequacy norms were recommended
&enforced to meet the minimum level of 87%. banks could enhance capital
either directly from the markets or government would provide a loan or invest in
their equity , this will bring down the proportion of net NPA.
NON-PERFORMING ASSETS (NPAS)

Introduction

It's a known fact that the banks and financial institutions in India face the problem
of swelling non-performing assets (NPAs) and the issue is becoming more and
more unmanageable. In order to bring the situation under control, some steps
have been taken recently. The Securitisation and Reconstruction of Financial
Assets and Enforcement of Security Interest Act, 2002 was passed by
Parliament, which is an important step towards elimination or reduction of NPAs.

Indian economy and NPAs

Undoubtedly the world economy has slowed down, recession is at its peak,
globally stock markets have tumbled and business itself is getting hard to do. The
Indian economy has been much affected due to high fiscal deficit, poor
infrastructure facilities, sticky legal system, cutting of exposures to emerging
markets by FIIs, etc.

Further, international rating agencies like, Standard & Poor have lowered India's
credit rating to sub-investment grade. Such negative aspects have often
outweighed positives such as increasing forex reserves and a manageable
inflation rate.

Under such a situation, it goes without saying that banks are no exception and
are bound to face the heat of a global downturn. One would be surprised to know
that the banks and financial institutions in India hold non-performing assets worth
Rs. 1,10,000 crores. Bankers have realized that unless the level of NPAs is
reduced drastically, they will find it difficult to survive.
Global Developments and NPAs

The core banking business is of mobilizing the deposits and utilizing it for lending
to industry. Lending business is generally encouraged because it has the effect of
funds being transferred from the system to productive purposes which results
into economic growth.

However lending also carries credit risk, which arises from the failure of borrower
to fulfill its contractual obligations either during the course of a transaction or on a
future obligation.

A question that arises is how much risk can a bank afford to take ? Recent
happenings in the business world - Enron, WorldCom, Xerox, Global Crossing do
not give much confidence to banks. In case after case, these giant corporates
became bankrupt and failed to provide investors with clearer and more complete
information thereby introducing a degree of risk that many investors could neither
anticipate nor welcome. The history of financial institutions also reveals the fact
that the biggest banking failures were due to credit risk.

Due to this, banks are restricting their lending operations to secured avenues
only with adequate collateral on which to fall back upon in a situation of default.

Meaning of NPAs

An asset is classified as non-performing asset (NPAs) if dues in the form of

principal and interest are not paid by the borrower for a period of 180 days.
However with effect from March 2004, default status would be given to a
borrower if dues are not paid for 90 days. If any advance or credit facilities
granted by bank to a borrower becomes non-performing, then the bank will have
to treat all the advances/credit facilities granted to that borrower as non-
performing without having any regard to the fact that there may still exist certain
advances / credit facilities having performing status.
Why such a huge level of NPAs exist in the Indian banking system (IBS)?

The origin of the problem of burgeoning NPAs lies in the quality of managing
credit risk by the banks concerned. What is needed is having adequate
preventive measures in place namely, fixing pre-sanctioning appraisal
responsibility and having an effective post-disbursement supervision. Banks
concerned should continuously monitor loans to identify accounts that have
potential to become non-performing.

Why NPAs have become an issue for banks and financial institutions in
India?

To start with, performance in terms of profitability is a benchmark for any

business enterprise including the banking industry. However, increasing NPAs
have a direct impact on banks profitability as legally banks are not allowed to
book income on such accounts and at the same time banks are forced to make
provision on such assets as per the Reserve Bank of India (RBI) guidelines.

Also, with increasing deposits made by the public in the banking system, the
banking industry cannot afford defaults by borrower s since NPAs affects the
repayment capacity of banks.

Further, Reserve Bank of India (RBI) successfully creates excess liquidity in the
system through various rate cuts and banks fail to utilize this benefit to its
advantage due to the fear of burgeoning non-performing assets.

RBI guidelines on income recognition (interest income on NPAs)

Banks recognize income including interest income on advances on accrual basis.

That is, income is accounted for as and when it is earned.

The prima-facie condition for accrual of income is that it should not be

unreasonable to expect its ultimate collection. However, NPAs involves
significant uncertainty with respect to its ultimate collection.
Considering this fact, in accordance with the guidelines for income recognition
issued by the Reserve Bank of India (RBI), banks should not recognize interest
income on such NPAs until it is actually realized.

Excess liquidity? No problem, but no lending please !!!

One should also not forget that the banks are faced with the problem of
increasing liquidity in the system. Further, Reserve Bank of India (RBI) is
increasing the liquidity in the system through various rate cuts. Banks can get rid
of its excess liquidity by increasing its lending but, often shy away from such an
option due to the high risk of default.

In order to promote certain prudential norms for healthy banking practices, most
of the developed economies require all banks to maintain minimum liquid and
cash reserves broadly classified into Cash Reserve Ratio (CRR) and the
Statutory Liquidity Ratio (SLR).

Cash Reserve Ratio (CRR) is the reserve which the banks have to maintain with
itself in the form of cash reserves or by way of current account with the Reserve
Bank of India (RBI), computed as a certain percentage of its demand and time
liabilities. The objective is to ensure the safety and liquidity of the deposits with
the banks.

On the other hand, Statutory Liquidity Ratio (SLR) is the one which every
banking company shall maintain in India in the form of cash, gold or
unencumbered approved securities, an amount which shall not, at the close of
business on any day be less than such percentage of the total of its demand and
time liabilities in India as on the last Friday of the second preceding fortnight, as
the Reserve Bank of India (RBI) may specify from time to time.

A rate cut (for instance, decrease in CRR) results into lesser funds to be locked
up in RBI's vaults and further infuses greater funds into a system. However,
almost all the banks are facing the problem of bad loans, burgeoning non-
performing assets, thinning margins, etc. as a result of which, banks are little
reluctant in granting loans to corporates.

As such, though in its monetary policy RBI announces rate cut but, such news
are no longer warmly greeted by the bankers.

High cost of funds due to NPAs

Quite often genuine borrowers face the difficulties in raising funds from banks
due to mounting NPAs. Either the bank is reluctant in providing the requisite
funds to the genuine borrowers or if the funds are provided, they come at a very
high cost to compensate the lender’s losses caused due to high level of NPAs.

Therefore, quite often corporates prefer to raise funds through commercial

papers (CPs) where the interest rate on working capital charged by banks is
higher.

With the enactment of the Securitisation and Reconstruction of Financial Assets

and Enforcement of Security Interest Act, 2002, banks can issue notices to the
defaulters to pay up the dues and the borrowers will have to clear their dues
within 60 days. Once the borrower receives a notice from the concerned bank
and the financial institution, the secured assets mentioned in the notice cannot
be sold or transferred without the consent of the lenders.

The main purpose of this notice is to inform the borrower that either the sum due
to the bank or financial institution be paid by the borrower or else the former will
take action by way of taking over the possession of assets. Besides assets,
banks can also takeover the management of the company. Thus the bankers
under the aforementioned Act will have the much needed authority to either sell
the assets of the defaulting companies or change their management.

But the protection under the said Act only provides a partial solution. What banks
should ensure is that they should move with speed and charged with momentum
in disposing off the assets. This is because as uncertainty increases with the
passage of time, there is all possibility that the recoverable value of asset also
reduces and it cannot fetch good price. If faced with such a situation than the
very purpose of getting protection under the Securitisation Act, 2002 would be
defeated and the hope of seeing a must have growing banking sector can easily
vanish.

Conclusion

To conclude with, till recent past, corporate borrowers even after defaulting
continuously never had any real fear of bank taking any action to recover their
dues despite the fact that their entire assets were hypothecated to the banks.
This is because there was no legal Act framed to safeguard the real interest of
banks.

However with the introduction of Securitisation Act, 2002 banks can now issue
notices to their defaulters to repay their dues or else make defaulters face hard
and tough actions under the aforementioned Act. This enables banks to get rid of
sticky loans thereby improving their bottomlines. Also a hallmark of a good
business is approaching it with a fresh, new perspective and requires
management that is fully awake, fully alive and of course fully focused on making
things better.

Also, the passing of the Securitisation Act, 2002 came as a bonanza for investors
in banking sector stocks that in turn resulted into an improvement in their share
prices.
Review Exercises

1 Visit the local branch / office of any one insurance company. Discuss with the
official / manager to find out and understand the various policies marketed
through them.
2 Visit the local municipal authority of the place you stay. Find out the total
population figures for the last 5 years. What do you think are reasons for its
growth? What perspective would you put forward to channelise the
population numbers to positive economic development.
3 Survey the place that you stay in. find out the major agricultural produce in
terms of volume and value for each commodity.
4 In your area, find out the prominent industry. What are the attributes for its
rise and development.
5 What are the various transport modes available in your locality. Do the
benefits justify its significance. What measures would you suggest for its
development.
6 Visit a local Bank. Find out the type of bank, the services offered, the social
obligation met and the present competition that the bank faces.

Review Questions

1 What is Insurance? Explain principles and types of Insurance.

2 What is the importance of Insurance to Business ? Describe the
current Insurance scenario.
3 What are the various types of Insurance ? Illustrate on Life Insurance
sector in India
4 Explain what is population ? What are the factors affecting population ?
5 The study of population is vital for any business firm. Justify ?
6 Is population a retardant to economic development ? Justify.
7 What is agriculture? Explain the importance of agriculture to the Indian
economy.
8 Enumerate the various problems faced by the Indian agricultural
sector.
9 Examine the impact of economic reforms on the agricultural sector.
10 What do you think are the necessary steps that should be taken to
improve the agricultural sector?
11 Explain the term Industry? What is the importance and scope of
industrialization ?
12 What are the various types of Industry ? Explain the importance and
scope of industries ?
13 Highlight on industrialization in India.
14 What is trade ? What are the various types of trade ?
15 Explain trade ? Describe Foreign trade ?
16 What is transport ? Explain the benefits of transport sector to Business
and economy ?
17 What are the types of transport ? Highlight the role of each.
18 Explain the significance of transport sector to economic development .
19 What is a bank ? What does the Banking system comprise of ?
20 What are Development Financial Institutions ? Classify various
financial institutions ?
21 Discuss the role and weakness of development financial institutions.
22 What are the various problems faced by Financial Institutions ?
23 Highlight the various reforms undertaken for improvement in the
financial institutions
24 Discuss the various problems faced by the banking system in India.
25 Discuss the progress of Banking sector in India.
26 Highlight the various reforms undertaken for improvement in the
Banking sector
27 What are N P A’s ? Suggest how NPA’s in banks can be reduced.