Business Environment & Legal Aspects of Business - KMBN 201

Unit 2
 Economic system
What is an Economic System ?

An economic system is an arrangement made by government to organize and

distribute available resources , goods and services throughout a country or a
geographical region . It takes into account the factors of production – labor ,
capital and resources .

Main types of economic systems are capitalist economy , socialist economy and
mixed economy . Each of these economic system has its characteristics and is
distinct from each other .
 Types of Economies

Parameter Capitalist Economy Socialist Economy Mixed Economy

Determination of Demand & supply in market Govt. decides the price of Price is influenced by market
price determine the price goods and services forces as well as govt.

Production is undertaken Underlying objective of Objective - profit and as well

Production only with a profit motive production is social welfare as social welfare motive

Stiff competition exists No competition due to state Players from private sector
Competition
between all players in market ownership of firms experience competition

Govt. retains full control over Full holding in public sector

Govt. intervention Very little role to play
the firms but limited in private

Hong Kong, UAE, Canada, Cuba , North Korea , Vietnam India, China , France ,
Examples
UK, USA, Sweden etc. , Laos etc. Germany etc.
 Economic conditions
What Are Economic Conditions?

Economic conditions refer to the present state of the economy in a country or region. These
conditions change over time along with the economic and business cycles as an economy goes
through periods of expansion and contraction.

Economic conditions are considered to be sound or positive when an economy is expanding

and are seen as adverse or negative when an economy is contracting.

A country's economic conditions are influenced by numerous macroeconomic and

microeconomic factors including monetary and fiscal policy, the state of the global economy,
unemployment levels, GDP growth rate , budget surpluses or deficit, exchange rates, inflation
rate , demand supply , price mechanism etc.
 Economic policies ..
Monetary policy
Monetary policy is an economic policy that manages the size and growth rate of the money supply in an economy
AND is a powerful tool to regulate macroeconomic variables such as inflation and unemployment.
- These policies are implemented through different means say by adjustment of the interest rates purchase or
sale of government securities and changing the amount of cash circulating in the economy.
Objectives :
1. Inflation
Monetary policies can target inflation levels. A low level of inflation is considered to be healthy for the economy. If
inflation is high, a contractionary policy can address this issue.
2. Unemployment
Monetary policies can influence the level of unemployment in the economy. For example, an expansionary
monetary policy generally decreases unemployment because the higher money supply stimulates business
activities that lead to the expansion of the job market.
3. Currency exchange rates
Using its authority, a central bank can regulate the exchange rates between domestic and foreign currencies. For
example, the central bank may increase the money supply by issuing more currency. In such a case, the domestic
currency becomes cheaper relative to its foreign counterparts
 Economic policies ..
Monetary policy – Tools
1. Interest rate adjustment
A central bank can influence interest rates by changing the discount rate. The discount rate (base rate) is an
interest rate charged by a central bank to banks for short-term loans. For example, if a central bank increases the
discount rate, the cost of borrowing for the banks increases. Subsequently, the banks will increase the interest
rate they charge their customers. Thus, the cost of borrowing in the economy will increase, and the money supply
will decrease.
2. Change reserve requirements
Central banks usually set up the minimum amount of reserves that must be held by a commercial bank. By
changing the required amount, the central bank can influence the money supply in the economy. If monetary
authorities increase the required reserve amount, commercial banks find less money available to lend to their
clients, and thus, money supply decreases.
3. Open market operations
The central bank can either purchase or sell securities issued by the government to affect the money supply. For
example, central banks can purchase government bonds. As a result, banks will obtain more money to increase
the lending and money supply in the economy.
 Economic policies ..
Monetary policy
Expansionary vs. Contractionary Monetary Policy
Depending on its objectives, monetary policies can be expansionary or contractionary.
Expansionary Monetary Policy
This is a monetary policy that aims to increase the money supply in the economy by decreasing interest rates,
purchasing government securities by central banks, and lowering the reserve requirements for banks. An
expansionary policy lowers unemployment and stimulates business activities and consumer spending. The overall
goal of the expansionary monetary policy is to fuel economic growth. However, it can also possibly lead to higher
inflation.
Contractionary Monetary Policy
The goal of a contractionary monetary policy is to decrease the money supply in the economy. It can be achieved
by raising interest rates, selling government bonds, and increasing the reserve requirements for banks. The
contractionary policy is utilized when the government wants to control inflation levels.
 Economic policies ..
Fiscal policy
Fiscal Policy deals with the revenue and expenditure policy of the Govt. The word fiscal has been derived from the
word ‘Fisk’ which means public treasury or Govt funds. Also termed as budgetary policy by economists.
Objectives
(i) Allocation of resources
Refers to allocation of spendings for various economic activities by way of revenue generated through taxes.
(ii) Price Stability
Aims at the same through controlling inflation by reducing fiscal deficit (difference between revenue and
expenditure at the end of govt.).
(iii) Reduction in Inequality and ensuring social justice
Ensured in terms of direct taxes & indirect taxes – charging more from rich and less from poor .
(iv) Increasing foreign exchange earnings
By reducing the taxes on exports .
 Economic policies ..
Fiscal policy
There are three components of the Fiscal Policy of India:
• Government Receipts
• Government Expenditure
• Public Debt (refers to national debt how much a country owes to lenders. If its 77% of GDP , it slows growth)
All the receipts and expenditures of the government are credited and debited from the following:
• Consolidated Fund of India
• Contingency Fund of India
• Public Account of India

Government Receipts are categorized into revenue receipts and capital receipts
Expansionary fiscal policy (adopted when there is a slowdown in economy) - lower taxes , results in increase in
money supply , unemployment lowers down , govt. spending increases leading to rise in inflation. POPULAR
Contractionary fiscal policy (adopted when there is inflation in economy) – increases taxes , results in decrease in
money supply leading to drop in inflation and govt. spending decreases. UNPOPULAR AND USED SELDOM
 Economic policies ..
• Revenue Receipt
• Tax Revenue
• Direct Tax (levied on income and profits)
• Indirect Tax (levied on goods and services)
• Non Tax Revenue
• Fees
• License and Permits
• Fines and Penalties, etc.
• Capital Receipt (obtained through sale of fixed assets)
• Loans Recovery
• Disinvestments
• Borrowing
• Government Expenditure
• There are two classifications of govt. expenditure: (a) Revenue Expenditure (b) Capital Expenditure
• Revenue Expenditure – It is a recurring expenditure (routine expenditure for day to day activities)
• Interest Payments
• Defence Expenses
• Salaries to Central Government employees, etc. are examples of revenue expenditure
• Capital Expenditure – It is a non-recurring expenditure
• Loans repayments
• Loans to public enterprises, etc.
 Monetary Policy vs. Fiscal Policy

Monetary Policy Fiscal Policy

Implemented by central bank

Implemented by central govt.
of country

Controls demand and supply Deals with taxation and govt.

in the economy spending

Focusses on economy of a
Focusses on strategy of banks
nation

Independent of political Is influenced by political

processes processes
 Economic policies
Industrial policy
• It refers to the government action to influence the ownership & structure of the industry and its performance. It takes the
form of paying subsidies or providing finance in other ways, or of regulation (procedures, principles, policies, rules and
regulations, incentives and punishments)
 Industrial policy defines the scope and role of different sectors viz. private , public and joint sector or large scale , MSMEs . It
may influence location of industrial undertaking , choice of technology, scale of operations , product mix and so on .
 In India until the liberalization in 1991 , the scope of private sector was limited . Development of 17 most important
industries was reserved for the state.
 In the development of 12 other industries state was to play a major role.
 In the remaining industries cooperative, joint sector and small enterprises were to get preferential treatment over large
private sector players.
 Production of large no. of items was reserved for the small scale industries.
 In case of certain industries open for private players there was intervention of regulations such as licensing , MRTP act etc.
 Thus govt. policies actually restricted the scope of private sector players prior to 1991 and more so served in terms of
constraint on their portfolio and growth strategies .
 There were changes as per new policy in 1991 which opened all but a few industries for the private sector and changing the
scenario of the business environment .
 Economic policies..
Industrial policy ..
Objectives
The main objectives of the Industrial Policy of the Government in India are :
• to maintain a sustained growth in productivity;
• to enhance gainful employment;
• to achieve optimal utilization of human resources;
• to attain international competitiveness; and
• to transform India into a major partner and player in the global arena.
 Economic policies..

Objectives of the new Industrial policy :

•Focus on competitiveness and capability

•Economic integration and moving up the global value chain

•Promoting India as an attractive investment destination

•Nurturing innovation and entrepreneurship

•Achieving global scale and standards.

 Economic policies..

The proposals of the New Industrial Policy:

•It seeks to achieve –
•One Nation-One Standard

•Promote startups in every district,

•Create startup innovation zones at the level of urban local bodies,

•Formulation of a national capacity development program, and

•Incentivize Indian specialty products by creating premium international brands.

•To increase financing sources, promote the Made in India brand, enhance local value addition
and the country’s credibility as a source of quality products.
 Economic policies..
The proposals of the New Industrial Policy ..

•It has suggested various ways for wider access to finance for the industry such as setting up :

•A development finance institution to provide finance at competitive rates and

•Considering using some part of forex reserves for such funding.

•An integrated investment promotion strategy involving district, state, national and
international market synergies.

•Creating a national digital grid, developing a robust data protection regime, setting up a
technology fund, and creating a task force to continuously identify skill gaps.

•Strengthening of the export finance systems for enhancing export competitiveness.

 Economic policies..

Other suggestions in the proposed policy :

• Providing performance-based loans and incentives for innovation and green growth
• Leveraging fintech
• Encouraging MSMEs to choose the corporate bond market
• Enabling supply chain financing
• Encouraging microfinance institutions (cooperative banks and rural banks) to finance micro-
enterprises at affordable rates.
• Rolling out social security schemes (PMJDY, APY) for women workers
• Inclusion of labor-intensive industries (hospitality, construction , agriculture etc.) under the
production-linked incentive scheme.
 Economic policies..
Foreign Trade Policy (FTP) 2023
Has been launched to promote exports and facilitate ease of doing business for exporters,
while also placing a stronger emphasis on the "export control" regime.
Policy is built on principles of trust and partnership with exporters and is based on four pillars :
• Incentive to remission (refunding taxes and duties paid as an acknowledgement of bringing in foreign exchange)
• Export promotion through collaboration
• Ease of doing business (paperless processes)
• Emerging areas
New schemes launched under FTP 2023
• One time Amnesty Scheme for exporters to close old pending authorizations (Export authorization) and start
afresh.
• It also encourages the recognition of new towns through the Towns of Export Excellence Scheme (towns
producing goods worth Rs. 750 Cr. or more . There are 39 such towns with four new inclusions)
• Recognition of exporters through the Status Holder Scheme (recognition of business leaders on the basis of their
current and last three years performance)
• Streamlines the popular Advance Authorization and EPCG (Export promotion capital goods) schemes
 Economic policies..
Foreign Trade Policy (FTP) 2023
Objectives :
1. Emphasizes the use of IT systems for various approvals and codifies implementation mechanisms in a paperless,
online environment.
2. Reduces fee structures and IT-based schemes to make it easier for MSMEs and others to access export benefits.
3. Promotion of exports from the district level and accelerating the development of the grassroots trade
ecosystem.
4. Build partnerships with state governments to set up District Export Hubs (DEH) to identify export-worthy
products and services and resolve concerns at the district level.
 Global Integration/ Global Environment – LPG Model
In order to have its better foot forward in the global business environment , India came up with LPG reforms in
1991. LPG reforms are also known as liberalization, privatization and globalization reforms.
They have transformed the way India as an economy works and opened the country up to the world for trade and
commerce.
Factors that led to the LPG Reforms in India
• The inflation rate rose from 6.7% to 16.7% during this period. India’s position as an economy grew from bad to
worse.
• There was a rise in the fiscal deficit of the country as well. Public debt and interest were high.
• Furthermore, there was an increase in adverse balance of payments. To clear this, the government had to
obtain many foreign loans, which correspondingly led to a rise in the interest payment.
• Poor performance of PSUs became a substantial government liability.
• Outbreak of the Iraq war led to the rise in petrol prices.
• Lastly, India’s foreign reserves fell in 1990-1991.
 Global Integration/ Global Environment – LPG Model..
In order to have its better foot forward in the global business environment , India came up with LPG reforms in
1991. LPG reforms are also known as liberalization, privatization and globalization reforms.
They have transformed the way India as an economy works and opened the country up to the world for trade and
commerce.
Liberalization
The basic aim of liberalization was in terms of loosening of government control to enable private sector
companies to work with fewer restrictions and thereby work towards expanding for the growth of the country .
Objectives
• To increase competition amongst domestic industries.
• To encourage foreign trade with other countries with regulated imports and exports.
• Enhancement of foreign capital (exchange reserve) and technology.
• To expand global market frontiers of the country.
• To diminish the debt burden of the country.
 Global Integration/Global Environment – LPG Model..
Privatization
Refers to the dominating role of private sector companies and the reduced role of public sector companies. In
other words, it is the reduction of ownership of the management of a government-owned enterprise.
Government companies can be converted into private companies in two ways :
• By disinvestment (the action of an organization (or government) selling or liquidating an asset or subsidiary as a strategic
move OR for raising capital).
• By withdrawal of governmental ownership and management of public sector companies (to improve corporate
governance, to introduce, competition and market discipline) .
Objectives
• Improve the efficiency and financial situation of the government organizations.
• Reduce the workload of public sector companies.
• Provide better and improved goods and services to the consumer.
• Create healthy competition in the society.
 Global Integration/Global Environment – LPG Model..
Globalization
It means to integrate the economy of one country with the global economy. As part of Globalization the main
focus is on foreign trade & private and institutional foreign investment.

Outsourcing as an outcome of globalization

As per the outsourcing model, a company of a country hires a professional from some other country to get their
work done, which was earlier conducted by an internal resource (i.e. a resource of their own country). The best
part of outsourcing is that the work can be done at a lower rate and from the superior source available anywhere
in the world. Services like legal advice, marketing, technical support, etc. are being outsourced by way of Business
Process Outsourcing companies through call centers, which have their model of a voice-based business
process viz. BPO, KPO, RPO, LPO etc.
 Economic conditions
• Inflation
• GDP
• Bop (Balance of payments)
• Human Living Index
• PCI (Per capita income)
• Export and import
Inflation
Refers to a broad rise in the prices of goods and services across the economy over time, eroding purchasing power
for both consumers and businesses. For e.g. you bought a list of household essentials last month at an expense of INR
1,000, but this month the price of a certain food item in the same list has risen and that has led to an increase in the cost by
let’s say INR 1,100. You may be either forced to remove an item from your cart or buy the product that has the inflated price by
paying extra which may affect your monthly budget.
Rate of inflation is measured by CPI (Consumer price index) and WPI (wholesale price index) .
CPI analyzes the retail inflation of goods and services in the economy across 260 commodities. It considers the change in prices
at which the consumers buy goods. The data is collected separately by the Ministry of Statistics and Program Implementation
and the Ministry of Labor.
 Economic conditions
Inflation ..
The WPI (Wholesale Price Index), analyzes the inflation of only goods across 697 commodities. The WPI-based wholesale
inflation considers the change in prices at which consumers buy goods at a wholesale price or in bulk from factory, mandis, etc.

Year Indices Jan Feb Mar

2023 CPI 6.52 6.44 5.66
WPI 4.73 3.85 1.34

GDP
• GDP stands for gross domestic product, which represents the total monetary value, or market value, of finished goods and
services produced (and sold) within a country during a period, typically one year or quarter. GDP is typically spoken of in two
main forms, depending on how it’s calculated: nominal GDP and real GDP.
• Nominal GDP accounts for current market prices without factoring in deflation or inflation, meaning it tracks general
changes in an economy’s value over time. Real GDP factors in inflation and accounts for the overall rise in price levels, so it’s
more accurate for calculating a country’s economic health.
• GDP = Consumption + Investment + Government Spending on Goods and Services + (Exports – Imports)
 Economic conditions
Balance of Payment (BoP)
The balance of payments (BoP) is the record of all international financial transactions made by
the residents of a country.
• There are three main categories of the BoP: the current account, the capital account, and the
financial account.
• The current account is used to mark the inflow and outflow of goods and services (tourism,
engineering, stocks, business services, transportation, and royalties from licenses and
copyrights) between countries.
• The capital account is where all international capital transfers (acquisition, and sale of fixed
assets by immigrants moving into the different country.) even sold by immigrants.
• In the financial account, international monetary flows (bonds, stocks, gold, equity) related to
investment in business are documented.
• The current account should be balanced versus the combined capital and financial accounts,
leaving the BOP at zero, but this rarely occurs.
The main application of BoP is in terms of measuring the growth of exports and imports .