Services Sectors In India- Trends And Prospects

Chapter 3 Service Sector Reforms in India 3.1 Agreements under GATS Agreement establishing the WTO was ratified by India on 30-12-1994. General Agreement of Trade in Services (GATS) covers the multilateral framework, sectoral annotations and the schedules of market access. Negotiations of specific commitments are mandated under Article XIX of GATS. A fresh round of comprehensive negotiations on specific commitments commenced in the WTO from 1.1.2000. The main aim of these negotiations was to achieve greater degree of liberalisation in all the service sectors and in all the four modes of supply of delivery of Services recognised under GATS. These modes of delivery include the following: (i) (ii) (iii) (iv)

Mode 1 - Cross border supply, e.g. supply of diskettes, architects blueprints, etc Mode 2 - Consumption abroad, e.g., a tourist availing of Services abroad. Mode 3 - Commercial presence, e.g. form of legal entity established abroad like a bank branch. Mode 4 - Movement of Natural Persons, e.g. physical movement of professionals and labour for temporary period. It does not cover permanent migration.

The schedule of specific commitments of each Member country involves a positive listing of sectors/ subsectors and modes of supply where the member country desires to undertake specific commitments. Those sectors or subsectors, which are not listed, are not subject to any commitments. Even for the listed sectors/ subsectors and for any particular mode, Members may keep the commitments as "unbounded" which means no commitments. In the listed sectors/ subsectors and modes of supply, a Member can schedule some limitations on market access, national treatment and additional commitments as permitted under relevant portions of GATS. Thus there is considerable degree of flexibility provided to the Members under the Approach. While the negotiations cover all sectors and modes of supply, the emphasis of developed and developing countries is different. Developed countries in general press for greater liberalization in mode 3 relating to commercial presence. On the other hand developing countries including India seek for greater liberalisation of mode 4 relating to "Movement of Natural Persons". India, in particular, has interests in seeking greater market access for its professional and skilled labour in mode 4 because of its surplus of skilled manpower in various service sectors such as financial, telecom, IT, transport and distribution etc. 3.2 India’s Commitment under GATS India scheduled commitments across a range of services under the GATS. These are: business services, communication services, construction and related engineering services, financial services, health and social services, and tourism and travel related services. MFN exemptions were scheduled for: communication services (audiovisual services and telecommunication services); recreational services; and transport services (shipping services). These commitments are unchanged since the previous Review of India. 1

India signed the Fourth and Fifth Protocols in 1997 and 1998, respectively. Under the Fourth Protocol, India scheduled commitments in voice telephony and cellular mobile telephony as well as value-added services, such as circuit switched data transmission services, facsimile services, and private leased circuit services. In general, India's current policy is more liberal than its scheduled bindings. For voice and mobile telephone services, commercial presence may be established through incorporation in India and a licence from the designated authority; total foreign equity in the company is scheduled not to exceed 25%, although the current policy allows foreign equity ownership of up to 49% for these services. India also declared that it would examine the issue of allowing competition from the private sector in international long-distance telecommunication services in 2004; this date was brought forward to 2002. Under the Fifth Protocol, India raised the limitation on licences for new and existing banks from 5 to 12 per year. In addition, banks were allowed to install automatic teller machines (ATMs) at branches and at other places identified by them (ATMs installed in premises other than branches are treated as new premises and would therefore require new licences). New commitments were also scheduled in stock broking and financial consultancy services. 3.3 India’s negotiations for Financial Services Negotiations in financial services are difficult and protected as none of the Member states particularly the developing countries was prepared to open up across the board. The framework agreement had two conditions: (i) (ii)

The first one is non-discrimination i.e. all countries shall be treated as a Most Favoured Nation (MFN) basis and The second is transparency i.e. all relevant laws and regulations shall be published.

Initial negotiations in financial services continued till 28-07-1995 when an interim agreement up to 31-12-1997 was arrived at. India's original schedule in financial services made the following commitments. (a) Banking (i) (ii) (iii)

Only a branch presence 5 licenses per year. Entry to new foreign banks may be denied if market share of assets of foreign banks exceeds 15% of total assets of banking system.

(b) Non-Banking Financial Services Items allowed

Limits on foreign equity

Merchant banking, Factoring, Financial leasing, Venture capital, Financial consultancy

Local incorporation with a maximum equity of 51 per cent by foreign financial services suppliers including banks.

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(c) Insurance No commitment was made by India in life insurance area. In non-life insurance, India committed to continue with the current practice, which was quite restrictive. (d) Reinsurance, Retrocession & Insurance intermediation relating to reinsurance. A minimum of 10% of the premium of overall was committed to be reinsured abroad. Perceptions regarding India's offer: India's offer though appreciated, was seen to be restrictive on many counts as given below: (i) (ii) (iii) (iv)

(v) (vi) (vii)

Limitation on the number of new branches. ATM restrictions outside branch premises, which was then construed as an additional branch. New branch licenses can be denied when assets of foreign banks exceeds 15% of the total assets of the banking system. Limitations on foreign bank investment: National treatment is denied and investment which is undertaken by foreign banks already operating in India in other financial services companies, is not allowed to exceed 10% of owned funds or 30% of the investee company's capital. Entry form by non-banking financial companies is limited to local incorporation and also that the foreign equity is limited to 51%. Incomplete sectoral coverage: India's schedule of commitments omits a number of important non-banking financial services. State monopoly on insurance.

India's Enhanced Offer During negotiations in June-July 1995, India made an enhanced offer, which included a liberalized policy on ATMs i.e. an ATM will not be treated as a separate branch, an increase in the number of new bank branches to 8 and inclusion of Stock Broking in the schedule, with a maximum foreign equity of 49%. This offer was made to obtain substantial improvements from major trading partners of India in the movement of natural persons because India possesses a fair advantage in the availability of skilled manpower in several high-tech areas such as computer software and engineering consultancy etc. It was in India's interest that free movement of these personnel was allowed into the developed market abroad. Based on India's enhanced offer, the EU, Norway, Switzerland & Australia tabled an offer on movement of natural persons for the first time. Their offer does not insist on the economic needs test. USA taking an MFN exemption and India's response to it During the negotiations in June 1995, the USA invoked a MFN exemption on the ground that the offers of certain commercially important markets remain inadequate in terms of market access and national treatment. 3

In order to protect our own interests and also to meet the requirement of the Banking Regulation Act, 1970, India also filed MFN exemptions in Banking, Non-Banking and Insurance areas, based on the principle of reciprocity. Some of India's trading partners took strong exception to taking MFN exemptions by India and urged to reconsider the decision. During the Singapore Ministerial Conference, held in December, 1996, it was agreed to resume Financial Services negotiations in April, 1997 with the aim of securing substantially improved market access commitments with a broader spectrum within the agreed time frame, i.e., by 31.12.1997. Subsequently, it was informed that the Agreement is to be concluded by December 12, 1997. Negotiations in Financial Services resumed at Geneva in April 1997. India held bilateral discussions with our major trading partners viz. USA, EU, Canada, Australia and Switzerland. The request made by these trading partners are summarized below: (a) Insurance (i) (ii) (iii) (iv) (v)

Commitment may be made in health insurance as per the announcement made in the budget for 1997-98. It is difficult to sustain a monopoly in the FATS and this was a major concern. The commitments in this sector would be a deciding factor in the success of the negotiations. At least some commitments to 'staged' liberalization may be made. India has made cross border reinsurance to the extent of overall 10% of the market. The actual practice is 15% and hence the limit should be raised to 15%. Brokers and other intermediaries should be allowed to operate in the markets and provide direct access to foreign insurance companies. Representative offices may be permitted to receive income from India.

(b) Banking (i) (ii) (iii) (iv) (v) (vi)

India should increase the number of licenses and also provide for a gradual increase in the market share of the assets of the foreign banks. The more liberal practice of granting licenses must be bound in the schedule. Market share itself should be defined properly in terms of the fund-based assets or total assets on and off the balance sheet. Certain sectors were not covered in banking such as trading on customer's account, trading in derivative products etc. These services may be included in the banking. Subsidiaries/joint ventures should be allowed in banking. Foreign banks were subject to higher rate of tax. The tax deductibility of Head Office expenses was limited to a certain percentage. Withholding tax was levied on foreign banks but not on public sector banks. Discrimination against foreign banks in placement of funds by public sector units should be removed.

(c) Non banking Financial Services (i) (ii)

Increase coverage in this sector by binding additional services, which have been actually allowed in the revised foreign investment policy. In actual practice, the Government has allowed higher level of foreign equity. India should bind actual practice, which is more liberal than the commitments made. 4

(iii)

In those cases where higher levels of foreign equity have been permitted, the acquired rights should be permitted. For example, in most of the non-banking financial services India has allowed 75% or even more foreign equity subject to the approval by the foreign Investment Promotion Board (FIPB). If a foreign investor has already obtained approval for higher than 51% foreign equity, he should not be asked to reduce this holding to the level bound, i.e., 51%, at any time. This is a major issue for the US and EU that there will be no roll back for the existing investors. Securities companies should be allowed to set up branches.

(iv)

At the conclusion of the negotiations in 1997, India tabled the following revised schedule of commitments: (i) (ii) (iii) (iv)

MFN exemptions relating to banking services have been withdrawn subject to other WTO members undertaking MFN-based commitments. In banking, number of bank branches to be opened per year for both existing and new foreign banks increased from 8 to 12 per year. In insurance, status quo is maintained. In the area of reinsurance, the existing binding was aligned to the market. In non-banking financial services, both national treatment and market access are unfound.

The agreement on financial services came into force with effect from 30.1.1999. As per the revised foreign investment policy, all proposals for foreign equity investment in NBFC are considered on case by case basis by the FIBP. Foreign investments in non-banking financial services are permitted in: (i) (ii) (iii) (iv) (v) (vi) (vii) (viii) (ix) (x) (xi) (xii) (xiii) (xiv) (xv) (xvi) (xvii)

Merchant Banking, Underwriting, Portfolio Management Services, Investment Advisory Services, Financial Consultancy, Stock Broking, Asset Management, Venture Capital Custodial Services, Factoring, Credit Reference Agencies, Credit Rating Agencies, Leasing and Finance, Housing Finance, Forex Broking, Credit Card Business and Money Changing Business.

Minimum capitalization norms are: Foreign equity less than or equal to 51% Foreign equity more than 51% But less than or equal to 75 Foreign equity ore than 75% 5

: US $ 0.5 MN. : US $ 5 MN. : US$ 50 MN.

100% foreign own NBFCs would act as a holding company and specific activities would be undertaken by step-down subsidiaries with minimum 25% domestic equity. Investment proposals in NBFS sector for activities which are not fund based and only advisory or consultancy in nature, would be subject to a minimum capitalization norm of US$ 0.5 million, irrespective of the foreign equity participation level. This would be applicable in the following permitted NBFC activities for foreign equity investment:      

Investment advisory services Financial consultancy Credit reference agencies Credit rating agencies Forex broking Money changing business

This would also be subject to the following conditions:  

Such a company will not be permitted to set up any subsidiary for any other activity. For purpose of reckoning domestic equity such wholly owned financial consultancy company would not be eligible to provide equity contribution as a domestic partner for any NBFC holding operating company.

In regard to restrictions on FII investments in Indian companies, the aggregate limit in any individual company, which earlier was 24% was increased to 30%. In regard to tax rates, FIIs are currently taxed on a preferential basis on long-term capital gains at the rate of 10% compared with 20% for short-term capital gains. In regard to foreign equity investment in the private sector banks; foreign banking companies or finance companies including multilateral financial institutions are allowed foreign equity participation up to 20% as technical collaborator or co-promoters. NRIs are allowed equity participation in private sector banks up to 40% inclusive of equity participation by other foreign investors. However, in few cases, the permissible equity contribution by NRIs has not been fully subscribed. Government has now decided that in case of shortfall in foreign equity contribution by NRIs, multilateral institutions would be allowed to contribute foreign equity to the extent of shortfall in NRI contribution to the equity. The Union Budget for 2003-04 has further liberalized the FII inflows, which would not be covered under the existing sectoral caps for Foreign Direct Investment (FDI). In Banking, new bank branches for existing and new foreign banks being allowed are 15 per year though our commitment is only for 12 branches per year. The guidelines issued by RBI so far go also beyond the commitments made in NBFC sector.

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3.4 Reforms and Liberalisation in Banking and insurance An efficient financial services sector, capable of mobilizing savings and channelling them into the most productive uses is essential for India's successful economic restructuring and long-term development. Although efforts have been made to introduce competition in the sector, with banking reforms commencing in the early 1990s, banking and insurance are dominated by state-owned enterprises, some of which continue to face financial problems. The sector is thus in need of further restructuring. In addition, there is a need to bring regulation and supervision closer to international best practices. Under the Reserve Bank of India Act 1934 and the Banking Regulation Act 1949, the RBI is responsible for supervising the banking sector as well as non-banking financial companies (NBFCs), the latter under the provisions of the Reserve Bank of India (Amendment) Act 1997. Other institutions supervised by the RBI include urban co-operative banks (jointly with the state and central governments), regional rural banks, state and district central co-operative banks (regulated by the RBI and supervised by NABARD and/or state and Central Governments) and development financial institutions. Entry requirements for banks were changed in January 2001. Among the changes made, minimum capital requirements for new banks were raised to Rs.2 billion to rise further to Rs.3 billion three years latter and minimum capital adequacy ratio requirement of 10%, which was latter increased to 12% with effect from April 2003. Foreign direct investment of up to 74% of a bank's equity is permitted. New banks are also allowed to open a quarter of their branches in rural/ semi urban areas. Foreign banks are also allowed to establish branches or subsidiaries in India. In order to regulate the activities of non-bank financial companies, the RBI Act (1934) was amended in 1987, so as to require NBFCs to, inter alia obtain a Certificate of Registration from the RBI prior to commencing any financial operations. Foreign direct investment is allowed up to 100% of equity, depending upon initial investment. Investment by foreigners, non-resident Indians and Overseas Corporate Bodies (OBCs) are permitted in 18 NBFCs activities. Following amendments to the RBI Act in 1987, the RBI set up a regulatory framework for NBFCs in January 1998 to ensure that only financially sound and well managed NBFCs were allowed to access public deposits. (a) Banking Recent policy changes Several measures were taken since 1991 to strengthen the banking system, to increase banks’ operational autonomy, and to improve the functioning of money and capital markets. With this objective in view the policy package for commercial banks included a reduction of bank rate from 12 per cent in 1991 to 6 per cent in April 2003, CRR from 25 per cent in 1991 to 4.50 per cent in June 2003, a reduction of SLR from 38.5 to 25 per cent, a reduction of nominal interest rates from over 21 per cent to 10.75 per cent to 11.5 per cent in 2003, tightening of prudential norms for capital adequacy and provisioning for non-performing assets, an active open market operations and abolition of selective credit controls. Other measures included decontrol of the prime lending rates of the commercial banks and deposit rates for term deposits. An array of capital market reforms has been introduced encompassing primary and secondary markets, equity and debt and foreign institutional investment. 7

These measures resulted in a strong growth in bank deposits due to high real interest rates, particularly longer-term rates. There was abundant liquidity in the system but slow growth of commercial credit due to sluggish consumer demand and external trade. The low offtake of commercial credit also reflected a more cautious approach to credit appraisal by banks, which sought to avoid the accumulation of non-performing assets under the Reserve Bank’s new prudential norms. By contrast there was a substantial increase of investments by commercial banks in government securities and bonds, debentures, and shares of the corporate sector. Commercial bank credits traditionally comprised banks loans, cash credits, overdrafts and inland and foreign bills purchased and discounted. However, with deregulation of the financial sector, there has been a shift in the banks’ asset portfolio mix with investments in money and capital market instruments such as commercial paper, shares and debentures issued by the commercial sector. Banks also held government securities far in excess of their obligations for the statutory liquidity ratio (SLR). As a part of second generation reforms, several measures were announced in the Budgets for 2001-2002 and 2002-03 to strengthen the banking system, to increase banks’ operational autonomy, and to improve the functioning of money and capital markets. These measures include the following:

• • • • • • • • • • • • • • • • • •

Establishment of Clearing Corporation Screen based trading in G-securities Replacement of Public Debt Act by Government Securities Act Reduction of Govt equity in banks to 33 per cent Voluntary Retirement Scheme for commercial banks Legislation on securitisation and foreclosure in banking sector Foreign equity to the extent of 74 per cent has been allowed in private commercial banks FII portfolio investment will not be subject to the sectoral limits for FDI. Indian companies are allowed to invest up to US $100 million abroad. A pilot Asset Reconstruction Company to be set up to initiate measures for taking over NPAs in the banking sector and develop a market for securitised loans. Foreign banks allowed to operate as branches or to set up subsidiaries. Full convertibility is permitted for deposits by non-resident Indians. NRIs can also repatriate their current earnings in India in foreign currency. Indian mutual funds are allowed to invest in securities in countries with fully convertible currencies. Administered interest rates to be bench marked to the average annual yields of Government securities of equivalent maturity. State governments allowed prepaying their high cost debts from additional sources at lower interest rates. Establishment of offshore banking units in the Special economic Zones as branches of banks operating in India is allowed. Residents are allowed to open bank accounts in foreign currency with foreign exchange earned abroad and remittances received from outside.

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 per cent in 8

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. Monetary and credit policies for 2003-04 The basic objective of monetary policies announced by RBI in April 2003 was to contain inflation around 5 per cent alongwith sustaining overall GDP growth rate in the range of 6 per cent. In the face of a distinct moderation of the inflation rate, the thrust of the monetary policy in 2003 is to ensure adequate flow of credits to the productive sectors of the economy and to support revival of investment demand. In the financial sector during 2002-03 loan classification and provisioning regulations were tightened, and foreign entry to the banking system was further liberalised through the lifting of limits on FDI and FII investment. Actions were taken to strengthen capital markets including the restructuring of the Unit Trust of India (UTI), Industrial Development Bank of India (IDBI) and the Industrial Finance Corporation of India (IFCI). In pursuit with the monetary and credit policy stance announced in April 2003, the cash reserve ratio (CRR) was reduced by 0.25 percentage point to 4.5 per cent with effect from June 14, 2003. The bank rate was reduced by 0.25 percentage points from 6.25 per cent to 6 per cent with effect from April 29, 2003. A system of variable interest rates and deposit rates was introduced and banks were directed to disclose maximum spread over and below the Prime Lending Rate (PLR) for greater transparency. Other major measures announced in the Mid Term policy for the year 2002-03 included the following:  Regional rural banks, local area banks and co-operative banks advised not to pay additional interest on savings accounts over what is payable by commercial banks.  Banks were allowed to determine their PLR and sub-PLR rates for export credits.  Banks were free to issue Certificates of Deposits (CDs) on floating rate basis.  In order to improve credit delivery to the priority sectors, scope of credits to agriculture, small business and weaker sections of people were expanded.  System of micro credit finance institutions was strengthened.  Establishment of offshore banking units in the Special Economic Zones as branches of banks operating in India was allowed.  Residents were permitted to open bank accounts in foreign currency with foreign exchange earned abroad and remittances received from outside.

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Exchange rate policies In international categorizations by the International Monetary Fund (IMF), India is regarded as one of the countries having independent floating exchange rate arrangement. The day to day fluctuations in the exchange rate of Indian rupee are determined by free market forces for supply and demand for foreign exchange, such fluctuations reflect both economic fundamentals and short term speculation. The rupee is also fully convertible on current account and almost fully convertible on capital account for the non-residents. The broad principles that have guided India after the Asian crisis of 1997 are: •

Careful monitoring and management of exchange rates without a fixed target or a preannounced target or a band.

•

A policy to build a higher level of foreign exchange reserves which takes into account not only current account deficits but also ‘liquidity at risk’ arising from unanticipated capital movements;

•

A judicious policy for management of capital account. India has adopted the golden principle for capital account convertibility i.e. first liberalising inflows of non-debt creating financial flows and concentrating on concessional loans from the multilateral funding agencies followed by liberalisation of the long term commercial loans with strict monitoring on short-term external loans.

In order to further liberalise the movement of cross-border capital flows, especially in the area of outward foreign direct investment, inward direct and portfolio investment, nonresident deposits and external commercial borrowings, RBI announced the following important measures relating to current and capital account during 2002: •

Considerable liberalisation of release of foreign exchange for individual residents for most purposes like travel, education, medical expenses etc.

•

Non-Resident Indians/ Persons of Indian Origin (NRIs/ PIOs) were permitted to repatriate assets in India acquired by way of inheritance/legacy, and current income like rent, dividend, pension and interests.

• Units located in Special Economic Zones (SEZs) are permitted to remit premium for general insurance policies taken from insurance companies outside India. • Insurance companies registered with IRDA are allowed issuance of general insurance policies denominated in foreign currency. •

Corporates are permitted to prepay External Commercial Borrowings (ECBs) up to US $100 million without permission from RBI up to end-March 2003.

(a) Insurance The insurance sector is dominated by the Life Insurance Corporation (LIC) for life insurance and the General Insurance Company (GIC) for general insurance and reinsurance, both of 10

which are state owned. However, with the enactment of the Insurance Regulatory and Development authority (IRDA) Act in 1999, and amendments to the Life Insurance Corporation Act, 1956, and General Insurance Business (Nationalisation) Act, 1972, the sector was opened to competition from private Indian insurance companies. The IRDA Act established a statutory body, the Insurance Regulatory and Development Authority (IRDA), on 19 April 2000. The IRDA, which has a Chairman and four full time members appointed by the Government, has the authority to: regulate and develop the insurance sector in an orderly manner, particularly in regard to socially weaker and rural sections of society; grant licences to new companies; and to oversee the functioning of the Insurance Ombudsman, established in 1998 under the Settlement of Public Grievances Scheme. Amendments were also made to the Life Insurance Corporation Act, 1956, the General Insurance Business (Nationalisation) Act, 1972, and related sections of the Insurance Act, 1938, to remove the exclusive monopoly operated by the LIC and the GIC in life and general insurance services, respectively. As a result of the change in legislation, by February 2001, the IRDA had issued Certificates of Registration to 17 private Indian insurance companies, of which ten are in life insurance, six provide general insurance services, and one is a reinsurer. Under amendments to the Insurance Act 1938, an Indian insurance company is described as: a company registered under the Companies Act, 1956; with an aggregate foreign equity participation, either by a company or through its subsidiaries or nominees, of no more than 26% of the paid-up equity capital of the Indian insurance company; and whose sole purpose is to carry on life, general or reinsurance business. In addition, no insurer is allowed, under the Act, to provide insurance services unless the company has a paid-up equity capital of Rs 1 billion; for reinsurance the minimum paid-up equity capital required is Rs 2 billion. Financial sector companies, such as banks and non-banking financial companies (NBFCs) are also permitted under the new legislation to invest in the insurance sector through jointventure companies, subject to their meeting net worth and other prudential criteria. The maximum equity that may be held by banks and NBFCs in these joint-venture companies is currently restricted to 50% of the paid-up capital of the insurance company. Banks and registered NBFCs not eligible as joint-venture participants may invest in up to 10% of the net worth of the insurance company, or Rs 500,000, whichever is lower, to provide infrastructure and services support. Since their formation, the LIC and GIC have expanded their geographical coverage of the country, providing services through over 6,000 divisional branch offices. They have also made a significant contribution to savings and the financing of the public-sector deficit, partly due to mandatory requirements for investment in government and approved securities. These requirements also apply to new private-sector entrants to the market under the provisions of the Insurance Act 1938 and the IRDA (Investment) Regulations, 2000. In addition, every insurer is required to cede 20% of its insurance business written in India to the GIC for reinsurance. Despite the expansion of insurance services in India, insurance spending remains low, estimated at some US$6 per capita (US$5 at the time of the last Trade Policy Review of India). Moreover, with a penetration rate of around 22% of the insurable population, it is expected that the entry of new players in the insurance sector will help increase competition and product development to the benefit of the Indian consumer. In addition, in order to ensure that remote areas continue to receive access to insurance services, the IRDA has issued a regulation requiring all new insurers to expand their services to the rural and social sectors over a period of five years. 11

3.5 Reforms in industry and Infrastructure Government has abolished licensing for both industrial production and exports except for a few sectors, which are important on considerations of national security, public health and environment. Industrial licensing is now required for only 6 industries which account for less than 7 per cent of output in manufacturing. Only 4 industries (viz. defense products, atomic energy, railways, and minerals required for atomic energy) are now reserved for the public sector. Foreign investment policy has been liberalised significantly since July 1991. Most of the sectors (except a few such as agriculture, retail trade etc.) are now open for foreign investment subject to sectoral caps on equity. Majority participation and equity up to 100 per cent are allowed in most of the infrastructure sectors. Indian firms are allowed to raise funds abroad through Global Depository Receipts (GDRs), Foreign Currency Convertible Bonds and offshore fund. Foreign Institutional Investors (FIIs), Non-resident Indians (NRIs) and Overseas Corporate Bodies (OCBs) are allowed to operate in India’s capital markets subject to an individual FII holding by 10 per cent and collective holding up to 49 per cent of paid up capital for the FIIs, and individual holding of 5 per cent and cumulative holding of 10 per cent by the NRIs/OCBS. Foreign investors are permitted to pick up disinvested shares of public enterprises, dated government securities and treasury bills and shares of unlisted companies. The Foreign Exchange Regulation Act have been amended, and FERA companies (i.e. companies with more than 40% of foreign equity) can operate like any other Indian Company, and can own real estate, use their trade marks and brand names for internal sale. India has become a member of the Multilateral Investment Guarantee Agency (MIGA) and signed treaties for avoidance of double taxation with 42 countries. Second generation reforms in industry and infrastructure include the following:

• Electricity Bill 2001 introduced in Parliament • Reforms in SEBs for Energy audit, commercia-lisation of distribution and restructuring of • • • • • • •

SEB Accelerated Power Development and Reform Enactment of Energy Conversation Act 2001 Larger funds for National Highway Development Model BOT schemes for roads/ bridges Corporatisation of DOT and ports Private investment in airports Convergence Bill to cover telecommunications, IT and broadcasting

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Many policies were announced in the 2002-03 Budget to encourage private investment in industry and infrastructure. These measures include the following: • Public investment in key infrastructure sectors increased and an infrastructure Equity Fund set up to help in providing equity investment fund for infrastructure projects. • One time settlement scheme in regard to State Electricity Board (SEB) over dues to the Central Public Sector Utilities through securitisation and bonds. • Corporatisation of major ports in a phased manner. • Concession package for private sector participation in green-field airports. • Urban Reform Incentive Fund set up to provide incentive for reforms of Rent Control Act, rationalisation of high stamp duty regime, streamlining approval process for construction and development of sites, simplification of legal procedures and realistic user charges to convert agricultural land into non-agricultural use. • Dismantling of Administered price mechanism for petroleum products from April 2002. Subsidies on LPG and kerosene to be phased out in the next 3-5 years. • Dereservation of 50 items relating to agricultural equipment, chemicals and drugs etc. reserved for the small-scale sector. • Increase in issue price of urea, DAP and MOP fertiliser by about 5 per cent and reduction in the subsidy for SSP. 3.6 Telecommunications The Telecommunication Sector has been the monopoly of the Government of India since its inception. The telecom reform commenced with the general liberalisation of the economy in the early 1990s and announcement of a New Economic Policy (NEP)-1991. Telecom equipment manufacturing was delicensed in 1991 and value-added services were declared open to the private sector in 1992, following which radio paging, cellular mobile and other value added services were opened gradually to the private sector. National Telecom Policy was announced in 1994, with a major thrust on universal service and qualitative improvement in telecom services and also, opening of private sector participation in basic telephone services. An independent statutory regulator was established in 1997. Progressively there was growth in private sector provision of telecom services in the country. The most important landmark in telecom reforms, however, came with the New Telecom Policy 1999(NTP-99) which can be terms as the new generation of reforms. Rather than insisting on the prior fulfillment of its revenue obligations, NTP-99 allowed private providers to "migrate" from fixed license fee regime to a revenue sharing regime. The regulator was strengthened, domestic long distance services were opened to the private sector, and the stateowned basic service provider under the Department of Telecommunications was corporatised.

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The guiding principles of the NTP-99 are as follows: • • • • •

Affordable and effective communications to citizens is the core of the vision and goal of telecom policy. Balance between the provision of universal service to al uncovered areas, including rural areas, and provision of high level services capable of meeting the needs of the country's economy. Building a modern and efficient telecommunications infrastructure to meet the convergence of telecom, IT and the media. Conversion of PCOs into Public Teleinfo Centres having multimedia capability like ISDN service, remote database access, government and community information systems etc. Transformation of the telecommunications sector to a greater competitive environment providing equal opportunities and level playing field for all players.

Specific targets that NTP-99 seeks to achieve are: • Make available telephone on demand by the year 2002 and sustain it thereafter so as to achieve a tele-density of 7 by the year 2005 and 15 by the year 1010. • Encourage development of telecom in rural areas making it more affordable by suitable tariff structure and making rural communications mandatory for all fixed service providers. • Increase rural teledensity from the current level of 0.4% to 4 by the year 2010 and provide reliable transmission media in all rural areas. • Achieve telecom coverage of all villages in the country and provide reliable media to all exchanges by the year 2002. • Provide Internet access to all district headquarters. • Provide high-speed data and multimedia capability using technologies including ISDN to all towns with a population greater than two lakh by the year 2002. Following key policy decisions have been taken to achieve the NTP-99 targets. (i) (ii) (iii) (iv) (v)

(vi) (vii) (viii) (ix)

National Long Distance sector was opened with the announcement of guidelines for licensing of NLDO operators. A decision to permit Mobile Community Phone Services was announced on 11.1.2001. Multiple Fixed Service Providers (FSPs) licensing guidelines were announced. Government proposes to enact a Communications Convergence Bill setting up a Communication Commission of India, to regulate Information Technology, Telecom and Broadcasting. The Government has also announced the opening of International Long Distance on 1st April 2002, two years ahead of schedule. ISP's have been allowed to set up International Internet Gateways both Satellite and Landing stations for submarine optical fibre cables. Licenses for Voice Mail/Audiotex service will be granted, on non-exclusive basis, SDCA (Short Distance Charging Area) wise. License fees and entry fee will be nil. Limited Mobility in Local Area on Wireless Loop permitted to existing and new Basic Service operators. Introduction of fourth operator for Mobile Cellular Service under process. 14

As a result of the several policy initiatives taken during the 9th Plan period, the fixed lines increased by about 23% and cellular mobile phones by 75%. The overall growth of the telecom network (Fixed and Cellular) was about 25.4%. Most of the above growth during the 9th Plan was mainly the contribution of public sector enterprises. However, in the cellular segment, the private sector made a major dent. It is expected that during the 10 th Plan period also the growth of telecom network would be about 23%. As of March 2002, 80 cellular telecommunication licences had been granted to 27 operators. The subscriber base had grown to over 5.7 million by January 2002, a penetration rate of some 0.5%. According to the authorities, a major factor in this expansion was the decision taken in NTP 99 to change the licence fee for private-sector operators from a fixed value to a percentage of gross revenues; it had been suggested that the high cost of the initial licence fee may have dissuaded more operators from bidding for licences. For local telecommunication services, 31 licences have been granted to seven operators; as of early 2002 private operators had begun providing local fixed-line services in seven service areas, in addition to the public-sector companies, BSNL and MTNL. In addition to VSNL, two private companies have signed licences to provide domestic long-distance services; a letter of intent has been issued to a fourth company. The presence of new operators in fixed and cellular telecommunication services has resulted in a significant rise in the penetration rate across the country. The number of fixed-line telephones increased from 14.54 million to 35.51 million (1.7% to an estimated 3.2%) between 1996/97 and January 2002 (41.44 million including cellular services), a teledensity of over 4%; the authorities believe that the teledensity is likely to exceed the 7% target of NTP 99. The waiting list for main line telephones was estimated at 2.8 million, up from 2.4 million in 1995. Tariff policy, including tariff rates and cross-subsidization of tariffs, has also been addressed by the Regulator, through successive tariff orders. International tariffs, in particular, have traditionally been high, partly to cross-subsidize local tariffs and rental charges. The Tray's tariff orders appear to have rationalized and reduced tariffs and also the cross-subsidisation substantially over the last few years. Particularly the STD and ISD rates have come down significantly over the last three years. Other services such as radio paging were liberalized in 1992; some 137 licences have been granted, of which 76 are currently operational. Other value-added services that have been liberalized include V-SAT-based data services, electronic mail, fax on demand, and electronic data interchange. 3.7 Electricity Recognition that the public sector may not be able to invest adequately in power generation prompted the Government to encourage private investment. However, it became evident that significant amounts of private investment could not be attracted in an environment where the independent power producer is expected to sell power to a public sector distributor, who may not be in a position to pay for it. As a result, the inflow of private investment, including FDI, has been much below target. The reform process has also required significant co-ordination between the central and state governments, as electricity is defined as a concurrent subject in the Indian Constitution. Despite these difficulties, steps are currently being taken to address the problems in this 15

sector, including through the formation of central and state regulators to restructure electricity tariffs, and increased investment to improve infrastructure. In 1998, Parliament enacted the Electricity Regulatory Commission Act, which envisaged the creation of an independent regulator, the Central Electricity Regulatory Commission (CERC), to regulate electricity tariffs. Since then 18 States have established State Electricity Regulatory Commissions (SERCs); 11 of these have also issued their first tariff orders. The authorities expect that, over time, tariffs will be rationalised, reducing the need for annual subsidies to the SEBs and will also address the problem of cross-subsidisation between industrial and other tariffs. The Ministry of Power has also signed memoranda of understanding with 20 states to carry out reform in a time-bound manner. At the same time, the Central Government has provided financial assistance to facilitate reform in the states through the Accelerated Power Development Programme (APDP), which commenced in 2000/01; the scheme will assist the states in renovation and modernisation of the sector, strengthening sub-transmission, distribution systems, and metering, the latter being one of the causes of transmission losses. In addition, the Chief Ministers/Power Ministers Conferences held regularly have agreed that there was an urgent need to depoliticize power-sector reforms, to charge minimum tariff of 50 paise per unit of power supplied to agriculture and to speed up their implementation of power sector reforms. In order to encourage private investment, the Government has also developed guidelines for investment in transmission, and foreign investment limits were raised from 74% to 100% (based on automatic approval) in May 1998. To consolidate the reforms carried out thus far under one law, the Electricity Bill was introduced in Parliament in 2001; this aims to make reform in the States mandatory. The Bill appears to introduce far-reaching changes including: de-licensing generation and freely permitting so-called captive generation; allowing open access to transmission; permitting licensed generators to provide transmission, and licensed transmitters to provide generation; and making the establishment of a State Electricity Regulatory Commission mandatory. However, the Bill has been criticised because it appears not to require the restructuring of the SEBs and fails to impose deterrent punishment for theft, and non-payment of bills, etc. In particular, the need for the restructuring of the SEBs, according to the Government, remains critical and a major cause of the shortfall of private investment in the sector. The Bill has been passed in May 2003 by the Parliament. 3.8 Transportation Road services are being improved, including through upgrading the present national highway infrastructure and developing new highways connecting major cities. The National Highways Act, 1956 was amended in 1995 to allow participation by the private sector, which is being encouraged to invest through build, operate and transfer (BOT) schemes. Incentives for private-sector investment include tax holidays of up to ten years, and zero rates of import duty on construction equipment; FDI up to 100% is also permitted. In rail transport, which was identified recently as a key sector on the verge of a financial crisis, the Railway Budget of 2002/03 has taken initial steps to address this problem by significantly revising the tariff structure so as to reduce the cross-subsidy by freight transport of passenger transport; the classification of freight transport has also been rationalized considerably. Measures have also been proposed to share expenditure on rail projects with the States. Other revenue-raising measures taken in recent years include efforts to invite private investment in rail projects 16

through, inter alia, the formation of joint ventures with strategic private investors, build, operate and transfer projects, development of private railway lines with ownership and asset maintenance rights, as well as the establishment of private freight terminals. According to the authorities, moreover, private funds of around Rs 30 billion are being tapped every year for the lease of rolling stock. In maritime transport, port services are being improved including through the privatization of some port activities and corporatization of ports, which it is hoped will increase productivity and improve accountability and transparency in their operations. The Budget of 2002/03 announced that major ports will be corporatized in a phased manner and that new privatesector ports will be set up.

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