Economic Environment

Bookmark added to your notes.
View Notes

Several external factors have a significant influence on a country’s economy. These factors play a huge role in deciding consumer behaviour and financial flow of a country, thereby affecting its economic activities. All these elements together constitute the economic environment definition. 

These elements of economic environment are as follows – 

1. Growth of GDP – Gross Domestic Product is the total value of all products and services produced in a country. Therefore, the growth of GDP signifies that the economy of a country is stable and improving. It also means that people have more disposable income that, in turn, leads to increased demand for products and services. 

2. Unemployment – A high level of unemployment in a country means that such an economy is not using its resources to its full potential. It will lead to lower GDP growth and fall in tax revenue for the government. At the same time, it would negatively impact individual disposable income that will result in lower demand. It affects the commercial aspect of an economy significantly. This phenomenon is markedly noticed in the existing economic environment in India.

3. Inflation – When the overall prices of goods and services increase in a given period, it is known as inflation. It might result in a loss of purchasing power for consumers. It happens when even though the prices of goods and services are rising the general income level of consumers stays the same. Therefore, individuals have less money at their disposal. Small businesses and cottage industries are also affected as prices of raw goods and labour increase, resulting in smaller profit margins.

4. Government Policy – Government policies also play a huge role in influencing the economy of a country. This can include fiscal or monetary policy. An example of monetary policy is a reduction in interest rates on bank loans which encourages consumers’ demand for loans. An example of fiscal policy would be when the government decides to reduce income tax.  Both of these policies attempt to gradually increase individual disposable income and encourage consumers to spend more, thus boosting commercial activities.

5. Reforms in the Banking Sector – The banks are considered to be one of the most crucial aspects of the Indian economy. As a consequence, any reforms in this sector will have a huge impact on the economy.

6. Role of Public and Private Sector – India has a mixed economy where both the private and public sector plays a significant role. While the public sector plays a valuable role in carrying out plans and reforms, developing infrastructure and building a strong industrial base, the private sector is responsible for generating employment opportunities. About 80% of the population is working in either organised or unorganised private sectors. 

7. Balance of Trade and Balance of Payment – The difference between the value of a country’s exports and imports is known as balance of trade. When the exports are greater than the imports, it leads to a favourable trade balance. It means there is a high demand for its goods offshores, and that increases the demand for its currency.  On another hand, when the outflow is greater than the inflow, there is a current account deficit. 

8. Consumer Confidence – When consumers are confident about income stability, and on the overall economy of a country, it affects their financial decisions such as purchasing habits. It also affects the markets. For instance, if manufacturers and retail stores detect weak consumer confidence, they have to manage their inventory and cut back on production. Therefore, the economy will experience a slow down and ultimately, recession. A stable and growing economy usually boosts a consumer’s confidence. 

Also Read: Key Differences Between Microeconomics and Macroeconomics

Role of Economic Policies

Apart from the components of the economic environment, economic policies introduced by the government can also have an impact on markets. The components of economic policies include the following – 


This refers to when a state lifts the restrictions imposed on private business ventures so as to enable them to continue their operations without any hindrance and to facilitate economic growth. For instance, in 1991, the government of India removed some previously enforced restrictions on Indian companies. This includes –

  1. Removing almost all licenses except for a few

  2. Freedom in setting the price of products and services

  3. Reducing tax rates

  4. Relaxation on import and export of goods

  5. Allowing foreign investment in India 


This refers to when industries in the private sector are given more roles and the participation of the public sector decreases. Toward this, the Indian government took several steps like – 

  • Migrating public sector organisations to the private sector

  • Setting up a board to manage those public sector enterprises that are not performing well

  • Selling off government-owned stakes to private organisations

A recent example of privatisation would be when the Indian government opted to privatise Bharat Petroleum Corporation Limited in November 2019.


This refers to when the economy of a particular nation integrates with the world or global economy. This is done via increased trade with other countries, the use of technology, foreign direct investments, etc. The Indian economy was globalised in 1991 when it faced a severe economic crisis. 

Impact of LPG Policies in India 

The above economic policies were adopted by our government when India went through a major financial crisis in the year 1991. These policies impacted the business environment of our country in several ways. These include – 

  • Indian companies faced increasing competition from foreign businesses.

  • They had to adopt new technology into their business to keep up.

  • Indian industries became more market-oriented, which means that they started manufacturing products based on customer demands.

  • Companies focused on developing the skills of their employees. 

To learn more about this topic and others, you can refer to Vedantu’s solutions and study materials which are available on the website.

FAQ (Frequently Asked Questions)

Q1: Explain the Features of the Indian Economy?

Ans: India’s economy is considered as a developing economy. It is also regarded as a mixed economy, which means that public and private sector co-exist to meet consumer demand, provide employment and facilitate the growth of our economy. Indian economy is still predominantly dependent on agriculture and its allied sectors for most parts. Some other basic characteristics of Indian economy are – low per capita income, income inequality, high unemployment rate, etc.

Q2: What is Meant by the Economic Environment?

Ans: Economic environment meaning all the external factors or components that impact the economy of a country.