Chapter-4

Impact of Liberalisation and Reforms

In Services on the Indian Economy

4.1 Productions and Employment in Services Sectors

Reforms in infrastructure and services were undertaken since the early 1990s with
varying degrees of success. Reforms in telecommunications have been very successful
leading to rapid expansion of telecommunications infrastructure and significant reduction
of tariffs. Reform in other key infrastructure sectors, including civil aviation, maritime
services, and ports has been slower, although steps have been taken to allow private
sector investment in civil aviation, seaports and airports in recent years to augment
capacity and improve efficiency.

As a result of these reforms and liberalisation, services sectors had achieved significant
growth during 1990s. Share of services in GDP increased from 43 per cent in 1993-94 to
51 percent in 2002-03. Services sector employed around 19% of the total workforce in
1999-2000, which suggest that the sector's labour productivity may be considerably
higher than the national average. Other infrastructure services, such as electricity, ` gas
and water, accounted for 2.5% of GDP. As a significant and growing contributor to the
economy, an efficient services sector is crucial for economic growth.

4.1 Sectoral shares in GDP (in per cent)

Sectors 1993-94 1995-96 2000-01 2001-02 2002-03

1. Agriculture 31.0 28.0 23.8 23.9 22.2
2. Industry 26.3 28.1 27.2 26.6 27.1
 Mining & quarrying 2.6 2.6 2.3 2.2 2.2
 Manufacturing 16.1 17.9 17.2 16.8 17.1
 Electricity, gas and water supply 2.4 2.5 2.5 2.5 2.5
 Construction 5.2 5.1 5.2 5.1 5.3
3. Services 42.7 43.9 49.0 49.5 50.7
 Trade, hotels and restaurant 12.7 14.0 14.6 15.1 15.6
 Transport and communications 6.5 6.9 8.3 8.4 8.6
 Financial, real estate & business services 11.5 11.4 12.6 12.5 12.7
 Community, social & personal services 12.0 11.6 13.5 13.5 13.8
4. All Sector 100.0 100.0 100.0 100.0 100.0

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As regards employment, during the period from 1993-94 to 1994-95, overall employment
increased by only 1.1 per cent per annum and the employment in agriculture
was almost stagnant. While employment declined in mining and quarrying,
electricity, gas and water supply, and employment growth in manufacturing
was only 2.6 per cent per annum. However, all the services sectors (except
community, social and personal services which had a negative growth rate)
achieved growth rates exceeding five per cent (Table4.2).

4.2 Sectoral Employment during 1983 to 2000

Employment (per cent to total) Annual growth rate (%)

Sector 1983 1987- 1993- 1999- 1983 to 1987- 1983 to 1993-

1988 1994 2000 1987- 1988 to 1993- 1994 to
1988 1993- 1994 1999-
1994 2000
Agriculture 63.2 60.1 60.4 56.7 1.8 2.6 2.2 0.0
Mining & quarrying 0.7 0.9 0.8 0.7 7.4 1.0 3.7 -1.9
Manufacturing 11.6 11.9 11.1 12.1 3.6 1.2 2.3 2.6
Electricity, gas and 0.3 0.3 0.5 0.3 2.9 7.2 5.3 -3.6
water supply
Construction 3.0 4.4 3.5 4.4 12.1 -1.4 4.2 5.2
Trade, hotels and 7.6 8.3 8.5 11.1 4.9 3.0 3.8 5.7
restaurant
Transport, storage 2.9 3.0 3.1 4.1 3.2 3.5 3.4 5.5
and communication
Financial, real estate 0.9 1.0 1.1 1.4 4.7 4.5 4.6 5.4
& business services
Community, social 9.8 10.1 11.1 9.2 3.6 4.1 3.6 -2.1
& personal services
All Sector 100 100 100 100 2.9 2.5 2.7 1.1

4.3 Growth in Telecom Services

The number of DELs which had increased form 2.15 million in 1981 to 5.07 million in
1991 (CAGR 8.95) had increased to 9.80 million by 1995 and further to more than 32
million on April 1, 2001. In addition, about 3.6 million mobile phones were also added
during the later half of the 90s. It needs to be noted that during the last five years the
addition in DELs was more than three and half times that of the achievement up to 1995.

The traffic in terms of Metered Call Units has also displayed substantial growth
during the later half of nineties. The MCUs increased from 5860 crore in 1995 to 18502
crore in 2001 displaying the compound average growth of more than 21.0% during the
period. It is quite evident that with the opening of the Telecom sector, both the service
providers and also be consumers/subscribers have benefited.

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Investments:

During this period, the public sector operators viz. BSNL, MTNL and VSNL made the
major investments. The bulk of the investments in cellular mobile segment were by the
private operators. In the basic telephony, the private basic operators added only 0.27
million DELs (fixed phones) during the first four years i.e. about 1.0% of the total DELs
added during the Ninth Plan.

The total estimated investments by the public sector operators during the first four
years of the Ninth Plan (1997-2002) was Rs.62358 crore. The total estimated investment
by the private sector (domestic private investment and FDI) during the first four years of
the Ninth Plan is Rs.10550 crore. The average annual investment by the public sector
operators (viz. BSNL and MTNL) during the first four years of Ninth Plan has been about
Rs.12, 952 crore per annum, whereas the investment by the private sector during the
same period is about Rs.2637.6 crore per annum. The position of investment by public
and private sector operators is given below:

ISP Industry - A snapshot As on Nov '01

• ISP licenses signed - 486

• ISPs operational - 132
• Dial-up subscribers - 3.5 million
• Internet users - 14 million
• Average Annual Growth so far - 200 %
• 12000 plus Cyber café’s/Public Access Kiosks
• 300 plus cities covered
• 45 + ISPs given In-Principle approval for setting up Int'l Gateways
• 8-9 ISPs have operationalised Int'l Gateways
• Total Estimated Investment made so far - 5570 Cr.
• Estimated Investment made on equipment - 2335 Cr.
• Estimated Revenue Generated so far - 2050 Cr.
• Employment Provided (Direct/Indirect) - 1.1 lack

Internet Telephony

• ISPs made heavy investment on Internet Infrastructure and have taken Internet to
thousands of homes/ Cyber Cafes across the Country.
• ISP Network capable of providing low cost Voice Telephony both for National & Int'l
Long Distance
• ISPs willing to share revenue with Govt. & meet obligations to USO Fund

4.4 Impact of financial sector reforms

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Scheduled commercial banks (SCBs) improved their performance in 2001-02. The ratio
of operating profits to total assets improved from 1.53 per cent in 2000-01 to 1.94 percent
in 2001-02. There was also a decrease of net non-performing assets (NPAs) of the
commercial banks, which amounted to 5.5 per cent of net advances at end March 2002
compared with 6.2 per cent at end March 2001 and 9.2 per cent in 1996.

92 commercial banks out of 97 banks attained the minimum capital adequacy ratio
(CAR) of 9 per cent by end March 2002. The ratio is to be raised to 10 per cent by end
March 2003. 23 banks out of 27 public sector banks and 62 banks out of 70 private sector
banks had already achieved CAR exceeding 10 per cent by end March 2002.

In the early 1990s, along with liberalization policies, the Indian Government began
gradually introducing competition in the banking sector. As a result, the number of
private banks increased from 46 in 1990 to 73 in 2001. The public sector, however,
controls some 80% of total bank assets (2001). In the Export-Import Policy 2002-2007,
the Government permitted overseas banking units (OBUs) in the special economic zones;
these banks are exempted from prudential requirements such as minimum capital asset
ratios and statutory lending requirements.

4.5 India’s Software Exports

One of the striking examples of a developing country service export success story is the
Indian software industry. Indian software exports increased from $225 million in 1992 to
$1.75 billion in 1997 and further to $4 billion in 2000. A recent report projects annual
revenues of $87 billion, 2.2 million jobs and market capitalization of $225 billion for the
Indian information technology (IT) sector by the year 2008. By that year the IT sectors
could account for 35 per cent of India’s exports and can attract $5 billion of FDI per year.

These forecasts are feasible considering that India now accounts for only half a percent of
the world software market and it has substantial comparative advantage in IT industry.
The average cost per line of code at $22 in Germany (the most expensive country) is
more than four times of that at $5 in India (the cheapest country) compared with $18 in
the USA, and $10 in Ireland and Italy. On considering that the total market for software
services amounts to $58 billion in the USA, $42 billion in Europe, $10 billion in Japan,
cost savings could be substantial. Other gains from trade liberalisation include a more
competitive market structure, wider choice and greater diffusion of knowledge.

The movement of service-supplying personnel remains a crucial means of delivery.

Although the share of on-shore services in total Indian software exports has a declining
trend, about 60 per cent of Indian exports are still supplied through the temporary
movement of programmers to the client’s site overseas, compared with 90 per cent share
of on-shore services in 1998.

4.6 Information Technology in India

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The advancement in information technology has a profound impact in country's
economy, thus the quality of human life. The convergence of computer, communications
and content creates tremendous opportunities as well as challenges. The IT revolution
will be of much greater significance than the Industrial Revolution of 17th century. This
revolution has opened up new possibilities of economic and social transformations from
which both developed and developing countries can potentially benefit.

The software industry has emerged as one of the fastest growing sectors in the economy
with an annual average growth rate exceeding 50% over the last decade and with a
turnover of US$ 8.3 billion (Rs.37, 750 crores) and exports of US$ 6.2 billion (Rs.28,
350 crores) during 2000-01. Despite a series of negative developments, US economic
recession, global slowdown and WTC disaster, India's export of Computer
Software/Services was able to achieve a growth of 32.73% (27% in US$ term) in the year
2001-02 over the previous year. In value terms export of Computer Software/Services
increased to Rs.36500 crore (US$ 7652 million) during 2001-02. Computer software
industry achieved an average annual growth rate of over 52% and Software exports
growth rate of 61% in the Ninth Plan. The Indian electronics & IT industry have recorded
a production of Rs.68, 450 crores in 2000-01 and Rs.86, 900 crores in 2001-02. The
Government has targeted an export of US$50 billion by the year 2008 for the Indian
software industry.

The IT sector in India now employs about 300,000 software developers by about 1000
companies. India has the potential to become a major base of outsourcing data
management, customer services, e-commerce, e-business and computer applications for
entertainment, scientific research, media work, transport and communications, health,
financial and banking services. The ITC sector is setting new standards of corporate
governance and transparency due to largely overseas listings. Leading Indian software
firms such as Satyam Infoway, Infosys, and Silverline Technologies are listed on U.S.
stock exchanges, and more are likely to follow.

The sector is projected to generate exports of $20 billion by 2003 (about 4 per cent of
current GDP or half of current merchandise exports) and more than ten-fold increase in
jobs by 2008. During the last decade FDI inflows into export-oriented production
contributed too much of the 250 per cent growth in Chinese exports and to over 200 per
cent growth in Philippine exports. If properly promoted, the IT sector could have a
similar impact on Indian economy as in the case of East Asian economies in 1990s.

The IT software and services industry in India accounts for 2% of India's GDP. It is
expected that the Indian software industry will account for 7.7% of India's GDP by 2008.
Indian IT software and services exports accounted for 14% of India's total exports of US$
44 billion during 2000-01. It is expected that by the year 2008, Indian IT software and
services exports will account for 35% of India's total exports.

India's vibrant IT software and services industry represents around 2% of the overall
global software market. The Government and software industry however have set an

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ambitious goal for the software sector amounting to around $50 billion of software
exports by 2008. This implies a share of 6% of the relevant global market.

The Indian software professionals have already created their brand image in the global
market. Today, more than 260 of the Fortune 1000 companies, i.e. almost one out of
every four global giants, outsource their software requirements to India. This clearly
establishes that more and more global companies are outsourcing their software
requirements to India and are gaining competitive advantage.

The Indian software industry has not only been growing exponentially but has been
moving up the value chain as well. The industry has evolved from manpower provider to
software development to integration and IT business consulting. The Indian software
industry moved faster on the value chain ladder and got involved in strategic consulting,
brand management, Research & Development and provision of web based and e-
commerce kind of interactive services to the customers.

Top Indian Computer Software/Services have attained critical mass, in terms of both
revenue and market capitalization. Many Info Tech companies with strong branch
leadership and famous for system integration & network services are listed on American
Stock Exchange and London Stock Exchange.

Quality

Indian software industry has achieved a remarkable distinction for quality. Currently 46
out of 69 SEI CMM Level 5 certified companies worldwide are located in India. Over
250 Indian Software companies have acquired international quality certifications
compared with only 19 in USA, 2 in China and 1 each in Canada and Russia). Further,
there is only one company worldwide to have acquired PCMM Level 5 certification,
which is an Indian. The SEI-CMM framework has been devised by the Software
Engineering institute (SEI), and represents a path of improvements recommended for
software organizations to enhance their software process capability.

Today, majority of the multinational companies in IT have either Software Development

or Research Development Center in India. One third of the e-Commerce start-ups in the
Silicon Valley continue to be by Indians. Over half of Fortune 500 companies are
outsourcing their software requirements to India.

Research & Development(R&D) spending in the software industry in India increased

from 2.5% of total spending in 1997-98 to over 4% during 2000-01. It is expected that in
the years ahead, spending on R&D would increase to 10% of the total spending.

Software Export Destinations

India's Computer Software/Services are being exported to 103 countries and demand for
Indian IT professionals is increasing from countries such as USA, Germany, Japan,
Australia, UK etc. This sector is one of the highest net foreign exchange earners for the

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country. Almost 62% of the total software exports to North America (USA and Canada);
24% to Europe; 4% to Japan; and 10% to Rest of the World. With the backdrop of
slowdown in the US economy, Indian companies are actively expanding into newer
markets, increasing their presence in Europe and setting up alliances in Asia. However,
contrary to popular belief, in the last few months, many US companies have shown
increased interest in the Indian software industry. Also, companies in Europe and Japan
are increasing there outsourcing to India.

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Domestic Market

Domestic consumption of IT has also been steadily rising. Since the rapid emergence of
minicomputers and microcomputers in the late 70s and the domination of PCs and PC
LANs in late eighties, the Indian market has kept pace with technological developments.
Uses for IT spread to various sectors with applications such as Passenger Reservation
Systems (PRS) of Railways publicly demonstrated the benefits of computerization to the
common man. However, the penetration of computers, appliances or internet connections
are still too low even by the yardstick of many newly industrialized countries such as
China, Malaysia, Singapore, Korea etc.

Strengths and Weaknesses

India has today the advantages of skilled manpower base envied by a number of nations,
strong government-industry-academia user-collaborative relationship for high level R&D,
active and healthy competition among states in attracting investment in infrastructure as
well as framing IT applications in areas such as e-governance, e learning, e-commerce
and promoting entrepreneurship etc., growing software exports and a large potential
domestic market.

Against the above, India has a rapidly growing yet inadequate infrastructure base, still
inconclusive structural reforms in telecom to match the band width demand, a hardware
industry yet to come to terms with lack of global production skills, standards,
technologies, inability to attract foreign investment and consequent erosion of
competitiveness in price and quality for domestic and export markets and poor
penetration beyond urban areas in terms of IT appliances, infrastructure and services.

Infrastructure, especially telecom, is another major area where future of IT industry

would significantly depend on. National backbone, international bandwidth, local access,
cost of all these and competitive provision of services have all to develop fully in series
of evolutionary steps being undertaken the telecom area.

4.7 Services Trade of India

The statistics on international trade in services of India are compiled by the

Reserve Bank of India following the recommendations of the IMF's Balance of Payments
Manual (BPM5). Unlike trade in goods, between residents and non-residents, which are
recorded at the frontier, trade in services suffers from a basic problem due to their
intangibility nature. Transactions are usually estimated using either foreign exchange
records or surveys of establishments. Foreign exchange records often give insufficient
information regarding the precise form of service transaction, while the coverage of
survey may not be complete. In compiling the services statistics, a combination of both
the methods is adopted.

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 While disseminating the BOP statistics, only the major items under services,
necessary for reporting of BOP data to the IMF, are listed. The major heads under
'services' include: travel, transportation, insurance, government not included elsewhere,
miscellaneous (communication services, construction services, financial services,
software and computer services, news agency services, royalties and license fees,
management services and others).

Stylized Facts

On the basis of BOP data, Pattanaik, Sahoo and Dhall (2002) of the Reserve Bank
of India analysed the trend of services exports and imports during 1971 to 2001 and their
impact on the overall economic growth. After achieving an average growth rate of 4.5 per
cent per annum in 1950s, services exports remained almost stagnant in 1960s, while
average growth rate of payments declined from 1.9 per cent in 1950s to 1.1 percent in
1960s (Table-4.3). A strong boost occurred in the 1970s, with the decadal growth of
payments at 18 per cent and growth of receipts at 23 per cent. However, the high growth
could not be sustained in the 1980s. With structural reforms and liberalization of external
sector, the growth rates of both services exports and services imports accelerated in the
range of 17 to 18 per cent in the 1990s.

Table-4.3: Average Annual Growth Rates of Services Receipts and Payments

In the Current Accounts of BOP in India (per cent)

Decade Services receipts Services payments

1950s 4.5 1.9

1960s 0.0 1.1
1970s 22.7 17.6
1980s 4.4 8.8
1990s 17.7 17.0
1950-2001 9.1 9.9
Source: Pattanaik, Sahoo and Dhall (2002)

The mean and variance of shares of different components of services set out in Table-4.4
indicate that there had been a significant change in the structure of services in 1980s and
1990s. Miscellaneous receipts accounting for software and other modern services
occupied a predominant position in the 1990s compared to the level in previous decades.
The share of travel receipts in total services exports increased to 33-36 per cent in 1980s
and 1990s compared with 26% in 1970s and 10% in 1960s. The transport sector had a
structural break in 1980's with significant decline in its share in total trade in services
from 33-37 per cent in 1950s to 1970s to only 18 per cent in 1990s. However, its share
improved marginally to 20 per cent in 1990s.

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 Table-4.4: Components of Services in Balance of Payments (as percentages in total services)

Period and Xtrav Mtrav Xtrp Mtrp Xins Mins Xgnie Mgnie Xmsc Mmsc
Items
1950s:
Mean 8.6 18.3 32.9 22.6 7.7 6.7 23.4 22.6 27.3 29.8
SD 1.7 6.8 2.0 4.8 1.1 2.2 4.6 4.7 2.8 6.0
1960s:
Mean 10.5 9.5 34.6 29.5 5.2 2.4 29.7 16.9 19.9 39.0
SD 2.4 1.2 5.5 5.5 1.1 1.6 10.2 4.1 4.4 3.1
1970s:
Mean 25.5 7.5 37.3 36.9 4.7 1.1 10.8 9.4 21.8 40.8
SD 9.1 1.7 11.0 6.2 1.4 2.0 3.2 1.5 6.6 5.9
1980s:
Mean 35.9 11.8 17.1 31.5 2.4 0.5 3.1 4.2 41.5 49.6
SD 6.8 2.5 3.1 3.1 0.4 0.8 1.3 0.7 8.0 3.7
1990s:
Mean 33.0 14.6 20.3 30.6 2.3 0.3 1.8 2.7 42.6 49.8
SD 10.0 2.9 6.8 7.2 0.6 0.8 1.7 0.4 15.2 6.2
Source: Pattanaik, Sahoo and Dhall (2002)

Notes:
Xtrav: Travel receipts; Mtrav: Travel payments
Xtrp: Transportation receipts; Mtrp: Transportation payments,
Xins: Insurance receipts; Mins: Insurance payments
Xgnie: Govt not included elsewhere receipts; Mgnie: Govt n.i.e. payments
Xmsc: Miscellaneous services receipts; Mmsc: Miscellaneous services payments.

4.8 Services and Economic Growth

Pattanaik et.al. (2002) regressed GDP at constant factor cost on capital stock,
organised employment and an indicator of progress in trade in services. Results given in
Box-1 indicate that services exports had significant positive impact on GDP.

Box-1: Production Fuctions

(1) log Y = -4.01 + 0.43 log K + 1.26 log E + 0.05 Ratio + 0.04 Dummy
(33.0) (7.42) (5.62) (2.14) (5.68)

R-SQ = 0.999, DW = 1.86, Sample: 1979-80 to 2000-01

(2) log Y = -4.05 + 0.60 log K + 1.50 log E + 0.07 Trade + 0.04 Dummy
(31.0) (6.11) (6.12) (2.74) (5.70)

R-SQ = 0.999, DW = 2.15, Sample: 1979-80 to 2000-01

Where Y stands for GDP at current market prices, K for net fixed capital stock, E for organised
employment, Trade for services trade (i.e. services exports plus services imports), Ratio for the
ratio of services trade to GDP, and Dummy for the dummy variable having a value of zero for the
years before 1990-91 and a value of 1 for the years 1990-01 to 2000-01.

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 The imports demand for services depend on the level of domestic income, relative
prices, import demand of goods and the overall importance of domestic services in the
economy. The supply of services exports depends on domestic income, world income,
relative prices, and the importance of domestic services in the economy. The regression
results taken from the study by Pattanaik et.al. (2001) are given in Box-2.

Box-2: Determinants of Services Exports and Imports

(a) Demand for Services Imports

log MSER = -12.51 + 0.95 log GDP + 0.62 log VM + 0.83 log QM + 0.06 R + 0.57 D
(3.59) (3.40) (4.32) (4.57) (1.78) (2.90)

R-SQ=0.99, DW=1.50, Sample 1971 to 2001

(b) Supply of Services Exports

log XSER = -16.61 + 0.54 log GDP + 2.67 log WY + 0.87 log VX + 0.03 R + 0.96 D
(4.18) (1.85) (7.77) (3.60) (1.34) (29.5)

R-SQ=0.99, DW=1.30, Sample 1971 to 2001

Where MSER stands for services imports, XSER for services exports, GDP for GDP at
constant factor cost, VM for unit value index for imports, QM for volume index for
imports, VX for unit value index of exports, WY for index of world income, R for ratio
of services GDP to overall GDP, and D for the dummy variable having a value of zero
for the years before 1990-91 and a value of 1 for the years 1990-01 to 2000-01.

The estimated demand and supply equations have yielded significant coefficients
with appropriate signs. The coefficient of income elasticity with regard to world income
is greater than unity in the case of service receipts. The relative price impact on service
receipts was observed to be higher than that on service payments. It was further observed
that real GDP has higher effect on service imports than on service exports with elasticity
coefficients of 0.95 and 0.54, respectively.

RBI study also indicates that the services exports have a perceptible impact on
merchandise trade, as exports and imports are heavily dependent upon the level of
infrastructure services including transport, insurance etc.

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