Section B

Section B

Basic of Money supply, money supply The total supply of money in circulation in a given country's economy at a given time. There are several measures for the money supply, such as M1, M2, and M3. The money supply is considered an important instrument for controlling inflation by those economists who say that growth in money supply will only lead to inflation if money demand is stable. In order to control the money supply, regulators have to decide which particular measure of the money supply to target. The broader the targeted measure, the more difficult it will be to control that particular target. However, targeting an unsuitable narrow money supply measure may lead to a situation where the total money supply in the country is not adequately controlled. point in time.[1] There are several ways to define "money", but standard measures usually include currency in circulation and demand deposits.[2][3] Money supply data are recorded and published, usually by the government or the central bank of the country. Public and private-sector analysts have long monitored changes in money supply because of its possible effects on the price level, inflation and the business cycle.[4] That relation between money and prices is historically associated with the quantity theory of money. There is strong empirical evidence of a direct relation between long-term price inflation and money-supply growth. These underlie the current reliance on monetary policy as a means of controlling inflation.[5][6] This causal chain is however contentious, with heterodox economists arguing that the money supply is endogenous and that the sources of inflation must be found in the distributional structure of the economy. Money supply is divided into multiple categories - M0, M1, M2 and M3 - according to the type and size of account in which the instrument is kept. The money supply is important to economists trying to understand how policies will affect interest rates and growth. M0 M1 M2 M3 explainsM0 M0 (M-zero) is the most liquid measure of the money supply. It only includes cash or assets that could quickly be converted into currency. This measure is known as narrow money because it is the smallest measure of the money supply explainsM1 This is used as a measurement for economists trying to quantify the amount of money in circulation. The M1 is a very liquid measure of the money supply, as it contains cash and assets that can quickly be converted to currency. explainsM2 M2 is a broader classification of money than M1. Economists use M2 when looking to quantify the amount of money in circulation and trying to explain different economic monetary conditions. explainsM3 This is the broadest measure of money; it is used by economists to estimate the entire supply of money within an economy. Money Supply Money supply is divided into multiple categories - M0, M1, M2 and M3 - according to the type and size of account in which the instrument is kept. The money supply is important to economists trying to understand how policies will affect interest rates and growth.

DEFICIT FINANCING AND INFLATION Introduction The government is committed to socio-economic responsibilities for breaking the vicious circle of poverty and uplifting the economic conditions of the masses and developing the economy into a self-reliant one. In 1950, it was thought that these objectives could be achieved through the process of planned economic development. Throughout the period of planned economic development in the country one basic problem has been that of mobilisation of resources. Sources of financing economic development are broadly divided into domestic and foreign sources. Domestic sources of finance at the disposal of the government consist of taxation, public borrowing, government savings which include surpluses of public enterprises and deficit financing. The foreign finances consist of loans, grants and private investments. All these sources of finance have their social costs and benefits on the basis of which an upper limit can be determined for the use of any one method of financing development. Since the financial requirements of development are enormous and all various sources have their own limitations, it becomes almost essential to make use of all the sources as far as possible. The choice is not between which one is to be used but between the various combinations of using all of them. Thus both the domestic and foreign sources of finance have their own place and importance in a developing country. It is essential to formulate appropriate policies for different sources of finance and successful implementation of these policies is required for achieving the desired objectives of rapid economic development. Taxation is an old source of government revenue. Not only that, it is also regarded as the most desirable method of financing public investment in developing countries. But it is a well known fact that taxation has a narrow coverage in developing countries and the tax revenuetnational income ratio isnot only low but the increase in this ratio is also very slow during the process of development. Hence various conventional sources of finance, such as taxation. public borrowing, having been found to be inadequate, deficit financing has been resorted to for meeting the resource gap. The idea of resorting to deficit financing for economic development, which is of relatively recent origin, has remained very controversial.

Definition In one sense by deficit financing we mean the excess of government expenditure over its normal receipts raised by taxes, fees, and other sources. In this definition such expenditure whether obtained through borrowing or from the banking system measures the budget deficit.Deficit financing is said to have been used whenever government expenditure exceeds its receipts.

In under-developed countries deficit financing may be in two forms: a) Difference between overall revenue receipts and expenditure b) Deficit financing may be equal to borrowing from the banking system of the country.

Definition

Macroeconomics: Planned expenditure by a government to put more money into the economy than it takes out by taxation, with the expectation that increased business activity will bring enough additional revenue to cover the shortfall. Also called deficit spending.

ROLE DEFICIT FINANCING Deficit financing has been resorted to during three different situations in which objectives and impact of deficit financing are quite different. These three situations are war, depression and economic development. Deficit financing during war Deficit financing has its historical origin in wlr finance. At the time of war, almost every government has to spend more than its revenue receipts from taxes and borrowings. Government has to create new money (printed notes or borrowing from the Central Bank) in order to meet the requirements of war finance. Deficit financing during war is always inflationary because monetary incomes and demand for consumption goods rise but usually there is shortage of supply of consumption goods. Deficit financing during depression The use of deficit financing during times of depression to boost the economy got impetus during the great depression of the thirties. It was Keynes who established a Xgositive role for deficit financing in industrial economy during the period of ,depression. It was advocated that during depression, government should resort to construction of public works wherein purchasing power would go into the hands of people and thereby demand would be stimulated. This will help in fuller utilization of already existing but temporarily idle plants and machinery. Deficit spending by the government during depression helps to start the stagnant wheels of productive machinery and thus promotes prosperity. Deficit financing and economic development Deficit financing for development, like depression deficit financing, provides stimulus to economic growth by financing investment, employment and output in the economy. On the other hand "development deficit financing7' resembles "war deficit. financing" in its effect on the economy. Both are inflationary though the reasons for price rise in both the cases are quite different. When government resorts to deficit financing for development, large sums are invested in basic heavy industries with long gestation periods and in economic and social overheads. This leads to immediate rise in monetary incomes while production of consumption goods cannot be increased immediately with the result that prices go up. It is also called the inflationary way of financing development. However, it helps rapid capital formation for economic development. -

14.4 DEFICIT FINANCING AND INFLATION

Deficit financing in a developing country is inflationary while it is not so in an advanced country. In an advanced country the government resorts to deficit financing for boosting up the economy. There is alround unemployment of resources which can be employed by raising government investment through deficit financing. The result will be an increase in output, income and employment and there is no danger of inflation. The increase in money supply leading to demand brings about a corresponding increase in the supply of commodities and hence there is no increase ' in price level. But, when, in a developing economy, the government resorts to deficit financing for financing economic development the effects of this on the economy are quite different. Public outlays financed by newly-created money immediately create monetary incomes and, due to low standards of living and high marginal propensity to consume in general, the demand for consumption of goods and services increases. But if the public investment is on capital goods, then the increased demand for the consumer goods will not be satisfied and prices will rise. Even if the outlay is on the production of consumption goods the prices may rise because the monetary incomes will rise immediately while the production of consumer goods will take time and in the meanwhile prices will rise. Though investment is being continuously raised (through taxation,

borrowing and external assistance), most of it goes to industries with long gestation period and for providing basic infrastructure. Though there is effective demand, resource5 lie under or unemployed. Lack of capital, technical skill, entrepreneurial skills etc. are responsible in many cases for unemployment or underemployment of resources in a developing economy. Under such conditions, when deficit financing is resortea to, it is sure to lead to inflationary conditions. Besides, in a developing economy, during the process of economic development, the velocity of circulation of money increases through the operation of the multiplier effect. This factor is also inflationary in character because, on balance, effective demand increases more than the initial increases in money supply. Deficit financing gives rise to credit creation by commercial banks because their liquidity is increased by the creation of new money. This shows that in a developing economy total money supply tends to increase much more than the amount of deficit financing, which also aggravates inflationary conditions. The use of deficit financing being expansionary becomes inflationary also on the basis of quantity theory of money.

II. Implications for Macroeconomic Policy The IDMF conceptual framework provides an empirical basis for systematically coordinating fiscal and monetary policy as complementary rather than alternative policy tools. [11]

Monetary Policy.

The primary objective of monetary policy should be to manage the GDP growth rate more precisly, by an explicit and open Monetary Policy Formula (rather than indirectly and secretly through interest rates), to achieve a stable "soft landing" (asymptotic) approach towards the economy's maximum non-inflationary operating rate and lowest unemployment rate. Control of interest rates should be delegated to fiscal policy; control of non-monetary sources of inflation to other policy tools.

Monetary Policy Formula: [12] Real M1 growth rate

Fiscal Policy

= Policy-target real GDP growth rate + [13] Current trend value of the MDR growth rate

In the IDMF conceptual and policy framework, the federal deficit is considered as one component -- along with consumer, business and rest-of-world borrowing -- of total borrowing in the National Credit Balance. But the federal deficit (or surplus) differs fundamentally from other sectors' borrowing in that the federal government can (if it wishes) control the stabilization component of its borrowing (see below) by controlling the growth -- and unemployment rate -- of the whole economy -- as the U.S. Federal Reserve and the Clinton Administration so effectively demonstrated during 1992-99. Thus, the main objective of fiscal policy -- as distinguished from budget policy -- should be to maintain a stable National Credit Balance (between the economy's total supply and demand for credit), at appropriate low real interest rates. It can best do this by pro-actively adjusting the amount of the total budget deficit (positive or negative) so as to compensate for destabilizing changes in private consumer and business borrowing. To do this most effectively -- with optimum public understanding and political support -- the

deficit must be separated, explicitly and clearly, into its two functional economic components, the Policy Budget Deficit, and the Stabilization Deficit: [14] The Policy-Budget Deficit -- the deficit component controlled by political tax and spending decisions. This is also traditionally called the structural -- or full-employment, or standardized-employment -- deficit, because it is an estimate of what the deficit would be with a constant (policy-determined) rate of unemployment (in the U.S., preferably below 4%).

A fiscally responsible budget policy aims to maintain this deficit close to zero. Moreover, to maintain stable social insurance contribution and benefit rates, a fiscally responsible Policy Budget also separates social insurance and pension Trust Fund reserves from the current operating budget and treats them as part of the economy's Primary Saving, as private business firms are required to do -- and as the Flow of Funds accounts do. Thus, the current U.S. "unified budget" surplus is a fiscally irresponsible accounting fiction, rather than a real surplus which can be responsibly re-allocated. [15] The Stabilization Deficit -- total deficit minus the Policy-Budget Deficit. Governments have traditionally allowed this component to be controlled passively, by the economy. In this context, economists call it an "automatic stabilizer" because economic fluctuations automatically cause changes in government borrowing opposite to the corresponding changes in private business and consumer borrowing. But this stabilization effect is only partial and depends on the very business fluctuations that should be avoided. However, if the Stabilization Deficit is managed pro-actively, it becomes a powerful and precise fiscal policy tool that can be systematically coordinated with monetary policy. FASTA. The most efficient policy device for pro-actively managing the Stabilization Deficit would be an explicitly temporary Formula-Administered Stabilization Tax Adjustment of the most potentially flexible tax rate[16] -- usually the withholding tax on computer-calculated payrolls. Until the FOFA can provide a reliable empirical basis for these adjustments, the formula should target stable real interest rates at historically normal levels. When interest rates are above normal (usually indicating excessive private borrowing), the Stabilization Deficit is reduced by a higher tax rate; when interest rates are below normal (usually indicating insufficient private borrowing), the Stabilization Deficit is increased by a lower tax rate. If made relatively frequently (e.g. monthly or quarterly) in relatively small increments, these adjustments would be almost unnoticable by most taxpayers. (For a more in-depth treatment, see the FASTA Summary.) Managing the Stabilization Deficit by an automatic formula would tend to depoliticize it and make it more easily understandable and acceptable to financial markets, legislative bodies and the general public. It would also help to educate the public on the crucial relationship between private and public borrowing.

Implication for International Monetary Fund policy.

The IMF needs to adopt the IDMF conceptual framework. It highlights the apparent failure of the International Monetary Fund to distinguish between the two functionally-very-different deficit components, and the counterproductive nature of their demands for budget "austerity" and total deficit reduction in severely depressed economies.

Economic Development(Structural change) and Economic Trends(economic growth) An essential insight of classical development economics was that economic growth is intrinsically linked to changes in the structure of production. According to this view, industrialization is the driver of technical change, and overall productivity increases are mainly the result of the reallocation of labour from low- to high-productivity activities. The present chapter investigates to what extent this view is still relevant today and thus how the degree and nature of structural change explain the diverging growth trends between developing countries.

Economic growth requires structural change

Productivity growth in developed countries mainly relies on technological innovation. For developing countries, however, growth and development are much less about pushing the technology frontier and much more about changing the structure of production towards activities with higher levels of productivity. Th is kind of structural change can be achieved largely by adopting and adapting existing technologies, substituting imports and entering into world markets for manufacturing goods and services, and through rapid accumulation of physical and human capital. A few developing countries have been able to undertake original research and development in some fields, but technological innovation continues to be highly concentrated in the industrialized world. These fundamental diff erences in the nature of the growth process between developed and developing countries remain subject to considerable debate among economists. Among the most important analytical developments in recent decades has been the explicit recognition by the so-called new growth theories of the role of external economies in human capital formation and technological innovation, dynamic economies of scale associated to learning by doing, and institutional factors in the growth process. These new insights have moved away from the more traditional perspective that accumulation of capital was the key to economic development. They also held the promise of a better linking of policies to economic growth performance. On the other hand, economists who follow the tradition of classical development thinking have held that economic growth in developing countries is about structural change towards high-productivity sectors and that industrialization plays a key role in that process (Ros, 2000). According to this view, the development of the modern industrial sector will contribute more in dynamic terms to overall output growth, because of its higher productivity growth which results from increasing returns to scale3 and gains from innovations and learning by doing.4 The underemployed labour force of the rural sector, but increasingly also of the urban informal sector, provides a fairly elastic supply of labour that allows this process to take place without facing signifi cant labour supply constraints.

Productivity and output growth reinforce each other Notions similar to those of classical development thinking are also embedded in the early, non-neoclassical growth theories of Verdoorn (1949) and Kaldor (1957, 1978), among others. Kaldor (1978) suggested that productivity and output growth reinforced each other. The positive eff ect of productivity increases on output growth has been extensively discussed in the economics literature. Learning by doing, innovations and sectoral linkages are all factors that infl uence productivity positively when growth accelerates. Indeed, as the economy expands, these factors become more important for productivity growth as more resources become available for investment in new technology and for the training of workers. Learning by doing and experience accumulated during the production process by both entrepreneurs

and labourers are also essential for productivity growth and these factors become increasingly important when growth is dynamic.

Less unemployment can lead to higher productivity growth If resources initially are not fully utilized—because of un- and underemployment—not only will growth lead to better utilization of existing resources, but productivity growth will also accelerate as resources are shifted from low- to high-productivity activities, an idea consonant with classical development thinking. Inversely, slow economic growth will lead to increasing underutilization of resources and hence to adverse eff ects on productivity. In this sense, the association that is usually established between slow productivity performance and slow economic growth may have its basis not in a lack of technological change, but rather in the growing underutilization of resources that characterizes a low-growth environment, refl ecting the reverse causality mentioned above. In other words, if resources are not fully utilized or are underutilized, weak productivity performance may be the result rather than a determinant of low output growth.

The degree and nature of structural change explain the diverging growth trends among developing countries

Building upon these foundations, one can develop a broader perspective on structural change and growth. In this view, dynamic structural change involves more than just growth of industry and modern services. It is about the ability to constantly generate new activities as well as about the capacity of the new activities to absorb surplus labour and to promote the integration of production sectors within the domestic economy. From this angle, the industrial sector tends to have larger potential to induce deeper domestic integration by processing raw materials and semi-industrial inputs and requiring a number of ancillary services. In this sense, only when it is based on or can help create strong domestic linkages, will integration into the world economy generate rapid technological progress and contribute to high and sustained growth

Patterns of growth and structural change, Developing economies grow faster as the importance of the industrial and services sectors increases and that of agriculture decreases. Fast growth in China, South-East Asia and South Asia was associated with a rapid decline in the importance of agriculture and strong expansions of industry and services during 1970-2003. In contrast, sluggish long-term growth after the 1970s in the semi-industrialized countries and in Central America and the Caribbean as well as in countries in the Middle East and the Commonwealth of Independent States (CIS) was associated with a process of deindustrialization (of variable intensity). In these groups, growth was generally concentrated in the services sector with the share of agriculture in output also declining or remaining stagnant.

The economy of China underwent an impressive and rapid structural change These aggregate patterns may further hide important diff erences across regions and countries. Th e Asian countries followed a dynamic pattern of structural change. China is the most important case in point. Starting around 1978, its economic system went through a gradual change from Soviet-style central planning towards greater market orientation. Despite its large population, China witnessed an impressive and rapid change in the sectoral composition of output. Between 1970 and 2003, the share of manufacturing and mining in overall output increased from 28 per cent to 60 per cent, while the share of agriculture dropped from 49 to 12 per cent.

South Asia, and particularly India, showed an early shift towards services South Asia showed less dynamism and structural change relative to the fi rst-tier newly industrialized economies in East Asia. Th e share of manufacturing and mining peaked at 22 per cent of total output in the region in the 1990s, up from 14 per cent in 1970. Th e pattern

for the region largely refl ected what had happened in India. Most recently, India’s growth has been driven by a fast-growing service sector. By the traditional standards of patterns of structural change, this trend implies a premature shift into services given the relatively low income level of the country.

Investment patterns and structural change Capital accumulation is no longer viewed—as in some of the early theories of economic development— as the only driving force of economic growth. Th is does not mean, however, that investment is not important. Capital investment is essential to economic development and growth, as it is a major carrier of technological change and productivity increases. It also plays a crucial role in the development of infrastructure and the construction of urban centres, where manufacturing and services cluster. In combination with other factors, capital accumulation also sets off structural changes. Economic transformation thus will require changes in patterns of accumulation as new resources are invested in new sectors of the economy, thus increasing their contribution to overall output. The composition of investment also matters for growth performance. A review of empirical studies by the United Nations Conference on Trade and Development (UNCTAD) (2003) suggests that investment in machinery and equipment contributes more strongly to growth than does investment in construction. Comparable data on the composition of investment by commodity—for example, machinery and buildings—are scarce and hence evidence is somewhat dispersed. Also, as argued in chapter IV, the “optimal” composition of investment also depends on the level of development of the economy, with investments in infrastructure exercising significant growth effects at relatively lower income levels

Investments in financial and business services are supportive of industrial growth Investment data by sector of destination are even less readily available. Yet, it is possible to argue that the anticipated structural change in developing countries implies that much of investment will initially move into the industrial sector. At higher stages of development, economies are likely to invest in (a technologically advanced) manufacturing sector and financial and business-oriented service sector. For instance, in developed economies, such as the United States of America and Japan, where the service sector provides over 60 per cent of output, most of investment is expected to go towards services

Employment, productivity and structural change

For the economy as a whole, labour productivity growth can be achieved through technological progress and/or by moving resources from low- to higher-productivity sectors. As mentioned earlier, the type of productivity growth achieved by the latter approach tends to be more important for the developing countries. The introduction of new technology and a structural shift of the economy may, however, cause employment problems if output is not increased (since, by definition, the higher-productivity sectors use less workers per unit of output). Hence, sufficient dynamism (output growth) in the higher-productivity sectors will be required in the process of structural change if remunerative jobs are to be generated for all workers and the creation of unemployment is to be prevented. In countries without a labour surplus and where the agricultural sector had access to capital and technological knowledge, the lag in productivity growth between agriculture and industry was not observed. This was the case, for example, in Argentina, Canada and New Zealand, where land was not a constraint. In many other developing countries, however, a relatively slow rise in agricultural productivity might well also have reflected rapid population growth and the lack of employment opportunities elsewhere, both of which may imply growing underutilization of labour in the rural sector.

Conclusions Diverging patterns of growth among developing countries are also visible in diff erences in terms of structural change. An examination of the patterns of structural change over the past four decades indicate that the fast-growing East and South Asian economies were clearly characterized by dynamic transformations. Economies with relatively little structural change lagged behind, particularly those in sub-Saharan Africa. Sluggish long-term growth in the middle-income countries of Latin America and the Caribbean as well as in countries in Central and Eastern Europe, the Middle East and the former Soviet Union has been associated with a process of deindustrialization. In these countries, growth—and particularly employment growth—has been concentrated in low-productivity services, with agriculture and industry remaining nearly stagnant. Fast growth in East and South Asia, in contrast, has been associated with a rapid decline in the importance of agriculture and strong expansions of both the industrial and modern service sectors. These fast-growing economies also show sustained increases in labour productivity and labour has moved from low- to high-productivity sectors, including modern service sectors. In the regions with low-growth performance, the employment shift to the service sector has been rather pronounced. However, in contrast with the service sectors of Asia, those of subSaharan Africa, Latin America and the former Soviet Union have shown declining productivity, as many workers have sought employment in services with low productivity and weak linkages with the more dynamic sectors of the economy, owing to lack of job creation in other parts of the economy. Dynamic structural change involves strengthening economic linkages within the economy—in other words, integrating the domestic economy—and productivity improvements in all major sectors. The degree of integration of the domestic economy also influences how much countries are able to gain from international trade and investment. The following chapters explore how the external environment, macroeconomic policies and governance structures have shaped these diff erences in patterns of structural change.

ECONOMIC DEVELOPMENT ISSUES Community economic development is a major concern for residents and local officials in rural areas as population and economic stagnation continues. Local economic development practices have undergone several waves since the second world war. Initially, attention was paid almost exclusively to attracting large manufacturing plants to drive the local economy. Smoke-stack chasing efforts, including tax and expenditure incentives, were adopted by many small and medium size communities in rural areas. A growing realization that the number of large manufacturing firms was insufficient for meeting local economic development needs caused policy-makers to turn attention to small business already in the community with potential for expanding operations. The "grow your own" philosophy became popular as local officials worked with local entrepreneurs and firms to start new businesses or expand existing ones. While a large proportion of new jobs occur within small companies, policy-makers have come to realize that small companies have a high risk of failure and it takes a large number of these small businesses to create many jobs in the community. Thus, a "third wave" of economic development policies was created to include strengthening the competitiveness of small businesses, increasing the skills of local labor markets, and promoting the competitive environment of regions. Flexible manufacturing networks (FMNs), tailored educational programs, and school-business partnerships are examples of these activities. This Community Economics Newsletter reports results from the Illinois Rural Life Panel, created in 1989 to gather information on views and attitudes of residents in 76 nonmetro

counties in Illinois. The Panel contains approximately 2,000 residents who are surveyed annually about policies and issues facing rural Illinois. Long Run Strategy and Policy of Economic Development Overall, residents strongly support local economic development efforts and seem to have a reasonable perspective on programs that might work; 95 percent reported that the focus should be on expanding existing industries. When Panelists were asked whether economic development efforts should focus on manufacturing, retail, or services, 74 percent reported manufacturing. This will be difficult, given the limitations that rural areas face in transportation deficiencies and fiscal problems experienced by schools. Residents also are concerned about attracting high technology industries; 81 percent supported this approach. Not always realized, however, is that many high-tech jobs are relatively low-paying or may require specialized knowledge not provided in local schools. The importance assigned to manufacturing may suggest that more education may be needed about the potential for rural areas to attract manufacturing companies. Manufacturing employment moved from large urban areas in search of lower wages in rural areas. Next, companies moved from the higher wage North to lower wages in the South. Now jobs are leaving the U.S. for even lower wages overseas. It is very shortsighted, indeed, for rural communities to compete on the basis of wages.

for Economic Development Given the interest in assisting small businesses to promote local economic development, panelists were asked whether local governments are adequately supporting new small businesses at present. On average, 46 percent responded that local governments are not doing enough and only 35 percent reported sufficient assistance from local governments. Rural residents, however do not think that local governments should be the only source of funds for economic development. Statewide, 79 percent reported that state governments should assist and 64 percent reported that Federal government should be directly involved. This compares with 62 percent who reported that voluntary contributions from other sectors should be used as well. Panelists also are concerned about whether rural areas, in general, provide a good opportunity for business to develop. On average, 47 percent responded that business opportunities are below average and only 17 percent reported opportunities as above average. Panelists also are somewhat pessimistic about opportunities in their community. One-half reported that development opportunities in their community were below average and 16 percent reported their community as above average in opportunities.

Conclusions Given the concern about rural economic development, a feeling that local governments are not doing enough to promote small businesses, and a general view that rural areas offer too few opportunities, what types of policies are likely most effective? Studies of successful projects in small communities reveal several common characteristics. First, residents and policy-makers have a clear vision of what they are trying to accomplish or have a project (or projects) clearly in mind. Second, there is strong local leadership, although it may come from several sectors within the community. Third, local leaders have tapped into external resources as needed. Fourth, there is broad-based community support for the projects and there is follow-through on the economic development plan. Perhaps the most important factor in successful economic development in rural areas is that communities understand that local initiatives are necessary for successful development to occur. The Federal and state governments cannot solve local issues. Rather, local leaders and residents must build a reasonable strategy and implement it.

Economic Planning Meaning and Need for Planning The 20th century was an era of planning. Almost every country had some sort of planning. In socialist countries, planning is almost a religion. Even in countries like the U.S.A. and the U.K. with a capitalistic system, they have partial planning. The 19th century State was a Laissez faire state. It followed a policy of non –intervention in economic affairs. But the modern State is a Welfare State. The two World Wars, the Great Depression of 1930s and the success of planning in former Soviet Russia have underlined the need for planning. Planning is a gift of former Soviet Russia to the world. For, it was the first country to practise economic planning on a national scale. Deffination According to Lionel Robbins, “strictly speaking, all economic life involves planning…. To plan is to act with a purpose, to choose and choice is the essence of economic activity”. In the words of Barbara Wootten, “Planning may be defined as the conscious and deliberate choice of economic priorities by some public authorities”. Many economists today agree that planning is an organized, conscious and continuous attempt to select the basic available alternatives to achieve specific goals. Planning involves the economizing of scarce resources. Most of the underdeveloped countries of the world became independent only fifty or sixty years back and most of them were poor at that time. So it became the main business of the Governments of the newly emergent nations to provide food, clothing and shelter to their people. For that, first of all, they had to increase their national income. Since most of them were agricultural countries, they had to evolve some programmes for agricultural development. Not only that, they had to industrialize their economies. And they had to provide more jobs to their people. That means, they had to do something for expanding employment opportunities. Further, as most of them were wedded to some kind of socialism, they had to reduce inequalities of income and wealth. All these things, the poor countries attempted to do by means of economic planning.

Laissez faire policy is a luxury for modern governments. So they have economic plans. In the developed nations of the world, they plan for economic stability. But in the underdeveloped nations, they plan for economic growth and development. Another main reason for the emergence of planning in underdeveloped countries is the failure of the market mechanism. The capitalist economy is basically a market economy and price mechanism works through the market system. The price system is a basic institution of capitalism. The allocation of resources and distribution of rewards are done through the price system. All decisions of the businessmen, farmers, industrialists and so on are guided by the profit motive. If the market is perfect, price system is good. But if there is monopoly and other types of imperfect competition, the market system fails. And it calls for government intervention by way of planning. The dispute between planning and Laissez faire is essentially about efficiency. The case against Laissez faire rests on the following grounds: 1. Under Laissez faire, income is not fairly distributed. As a consequence, less important and less urgent goods are produced for the wealthy people while the poor lack basic goods like education, health, housing, good food and ordinary comforts. Under such a situation, the State can control economic activity by means of planning and reduce inequalities of income and wealth.

2. The market economy is a victim of trade cycles. And there will be alternating periods of prosperity and depression. And during depression, there will be bad trade, falling prices and mass unemployment. So there is need for state intervention. By means of proper planning, the State can control trade cycles as they did in the case of former Soviet Russia. During the latter half of the 20th century, planning was popular in many underdeveloped countries, in addition to former Soviet Russia and Eastern European countries. It does not mean that they believed in complete central planning. The central issue in planning is not whether there shall be planning but what form it shall take. The debate, in fact, centered on whether the State shall operate through the price system or by getting rid of it.

Problems of Planning in backward countries

Planning is much more necessary and much more difficult to execute in backward than in advanced countries. First of all, “planning requires a strong, competent and incorrupt administration” (Arthur Lewis). But most of the economically backward nations have weak, incompetent and corrupt administration. Further, they have democratic planning. So they cannot do things in a quick manner as was done in former Soviet Russia. They have to go slow. And agriculture is the main stay of their economies. Since agriculture depends upon natural factors which are uncertain, there is a lot of uncertainty about their agricultural programmes. Over–population and low capital formation are some other important problems of planning in underdeveloped nations.

Characteristics of Economic Planning

In a planned economy, major economic decisions such as what and how much is to be produced, when and where it is to be produced and to whom it is to be allocated will be determined by a central authority such as the State, through the Planning Commission. And the Government will have the powers of implementation. Before the Plan is drawn up, a detailed survey of all available resources – physical resources, financial resources and human resources – has to be made. For example, in the former Soviet Russia, after the Revolution in 1917, there was War Communism between 1918 – 1921. And there was New Economic Policy (NEP) from 1921 to 1924. And from 1924, the Government made a detailed survey of all available resources and only in 1928, it implemented its First Five Year Plan. After the survey of resources, the objectives of planning will be determined. For example, one of the long term objectives of Soviet Planning was that Soviet Russia should catch up with the production levels of the leading capitalist nation of the world, namely U.S.A., in steel, coal and electricity. Keeping in mind, the objectives of the Five Year Plan, the physical targets will be fixed. And ways and means of mobilising financial resources will be explored. The Plan will also spell out the details in which the fruits of planning will be distributed in a fair and just manner. The nature of planning is determined by the type of economic system – capitalism, socialism, mixed economy - in which it is practised. There will be partial planning in a capitalist economy, (e.g., U.K.) but a socialist economy is a totally planned economy (e.g., Former Soviet Russia). In a mixed economy like India, both public sector and private sector play important roles in economic planning. Usually, the period of a Plan is five years. The Plan has to be drawn in advance. It is done by the Planning Commission in India. A plan will be of a definite size and it will fix the targets for the Plan period and it will also indicate the ways by which the financial resources are to be mobilized for the Plan.

Types of Planning

1. Centralized Planning : In a socialist economy (eg. Former Soviet Russia), there was centralized planning; it was planning by direction. In a socialist state, most of the means of production are owned by the State. All basic economic decisions such as whether priority is to be given for industrialization or for development of agriculture ; if it is decided to give importance to industrialisation, whether to give importance to basic and heavy industries or for consumer goods industries will be made by the central authority. 2. Planning by Inducement : In a democracy, Planning is done by inducement. For example, ours is a mixed economy where there is a public sector and a private sector. The government has to persuade the industries in the private sector to fulfil the goals of the Plan through inducements such as tax concessions and by providing incentives. 3. Indicative planning – In this type of planning, the government invites representatives of industry, and business and discuss with them in advance what it proposes to do in the Plan under question and indicates to them its priorities and goals. Then the Plan is formulated after detailed discussions with varied interests. Planning in France is a good example of indicative planning. After we embraced liberalization and privatization policies in 1991, even Indian planning, in a way, has become indicative planning. Economic plans can also be divided into midterm plans, shorterm plans and perspective plans. Our Five Year Plans are in fact, midterm plans. Short term plans are Annual Plans. During the period of implementation, Five Year Plans operated by dividing them into Annual Plans. Perspective Plans are long term plans and the period ranges from 20 to 25 years. The Five Year Plans are formulated by taking into account the long term objectives of the Perspective Plan. Rolling Plan : Unlike the Five Year Plan with fixed targets, in the case of the rolling plan, at the end of each year, targets will be fixed by adding one more year to the Plan. That is, without fixed targets for all the five years, depending upon the performance of the Plan in the current year, targets will be fixed for one more year. Like this, it will go on a continuous basis. That is the idea behind the rolling plan. A great advantage of centralized planning is that plans can be implemented with great speed and targets and goals can be achieved. For example, by means of planning, former Soviet Russia transformed its economy, which was predominantly agricultural into a predominantly industrial nation, within a short span of 12 years. But a demerit of centralized planning is that as the State enjoys a considerable degree of monopoly, in the absence of competition, it is rather difficult to test the productive efficiency of state owned units. Under planning by inducement (democratic planning), though there is a good deal of freedom for people, because of the procedures and delays associated with the democratic process and because of Parliamentary democracy, there will be a lot of delay in the implementation of programmes and economic growth will be slow.

Objectives of Planning in India The central objective of planning in India is to raise the standard of living of the people. Our Five Year Plans aim at increasing output. At the same time, they aim at reducing inequalities of income and wealth and providing equal opportunities for all. Growth with social justice is our basic goal. The major objectives of developmental planning in India may be listed as follows: 1.To raise the national income. This is known as Growth Objective ; 2.To increase investment to a certain level within a given time ; 3.To reduce inequalities in the distribution of income and wealth and to reduce concentration of economic power over resources ; 4.To expand employment opportunities ; and

5.To remove bottlenecks in agriculture, manufacturing industry (especially capital goods) and the balance of payments. In the agricultural sector, the main objective was increasing agricultural productivity and attaining self–sufficiency in foodgrains. In the industrial sector, the emphasis was on basic and heavy industries. In the foreign trade sector, the emphasis was on having a ‘viable balance of payments position’. The strategy adopted in Indian Planning is often referred to as ‘Mahalanobis strategy’. In this strategy, emphasis was laid on rapid industrialization with priority for basic and heavy industries.

Tenth Five Year Plan (2002 – 2007) The Tenth Five Year Plan aimed at explicitly addressing the issues of equity and social justice. It fixed a target of 8 percent GDP growth rate for 2002 – 2007. The key targets fixed for the Plan are as follows : 1.Reduction of poverty by 5 percentage points by 2007 and 15 percentage points by 2012. 2.Gainful employment to the addition to the labour force during the Plan period; 3.Universal access to Primary education by 2007 ; 4.Reduction in the decadal rate of population growth between 2001 to 2011 to 16.2 percent ; 5.Increase in literacy to 75 percent by 2007 6.Reduction in infant mortality rate (IMR) to 45 per 1000 live births by 2007 and to 28 by 2007; 7.Reduction of maternal mortality ratio (MMR) to 2 per 1000 live births by 2007 and to 1 by 2012. 8.Increase in forest and tree cover to 25 percent by 2007 and to 33 percent by 2012 ; 9.All villages to have access to potable water by 2012 ; and 10. Cleaning of all major polluted rivers by 2007. The past experience raises doubts about fulfilment of many targets such as the GDP growth rate of 8 percent, and fulfilment of employment target. Agriculture and small scale industries are still at a low priority level. And there is too much of faith in the private sector

Conclusion So far, we implemented nine Five Year Plans and we are in the last year of the Tenth Plan. Growth with stability will be a real challenge for the government and the people. And we have not yet solved the problem of unemployment. Though we have reduced poverty to a certain extent, a lot has to be done in the area. An encouraging feature is since the Fifth Five Year Plan, employment schemes have been integrated into poverty alleviation programmes. Unless we contain the growth of population, it would be rather difficult to achieve the goals of economic planning in India. Furthermore, we have to increase our savings, investment and exports. Above all, the administrative machinery must become strong, competent and incorrupt to make our economic planning a success. Since the introduction of economic reforms in 1991, there has been a qualitative change in our planning. In due course, it may become indicative planning.