There was a financial crisis which persisted since 1980. We know that to introduce various policies, the government has to generate funds from various sources like taxation, running public sector enterprises etc. When the expenditure is more than the income, the government takes loans to balance the deficit from banks and also from people within the country and from international banks.

The various development policies require huge finance. But there was scarcity of funds. Even though the revenues were very low, the government had to overshoot its revenue to meet the challenges like unemployment, poverty and population explosion. The continued spending on development programmes of the government did not generate additional revenue.

At the same time, the government could not generate funds internally. When the government was spending a large share of its income on areas which do not provide immediate returns, there was a need to use the rest of its revenue in a highly efficient manner. The income from public sector undertakings was also not very high to meet the growing expenditure.

Further, the foreign exchange, borrowed from other countries and international banks was spent on meeting consumption needs. No sincere efforts were made to reduce expenditure and to increase our exports.

During late 1980’s government expenditure exceeded its income. Prices of many essential goods increased. Imports grew at a very large extent. Foreign exchange reserves declined considerably and the same fall short to finance our imports for more than two weeks. There was shortage of funds even to pay interest to international lenders and at the same time no country or international bank was ready to lend any more to India.

At this situation, India approached the International Bank for Reconstruction and Development and International Monetary Fund and received seven billion dollars as loan to manage the crisis. To avail loans, these international banks expected India to liberalise and open up its economy by removing restrictions on the private sector, reduce the role of government in many areas and remove trade restrictions between India and other countries. India had to agree to these conditions of IBRD and IMF and announced the new economic policy which included liberalization, privatization and globalization.