NEW DELHI, July 4 (Reuters) – Indian Prime Minister Manmohan Singh has been confronted by a high-profile challenge less than two months into his second term – how to fix the ailing national airline carrier, which has asked the government for a bailout.

The government has given Air India, which suffered $875 million in losses in the fiscal year ending March, a month to submit a plan to restructure and cut costs.

Aviation Minister Praful Patel said last week the Congress-led government is ''fully committed'' to the airline but urged Air India to ''rise to the occasion''.

But if the carrier does not, in Patel's words, ''shape up'', the government faces a choice whether to infuse cash without real changes in the running of the airline, attempting a partial privatization through an IPO, or letting the airline founder.

Air India's plight could indicate how far Singh will reform India's state companies often seen as dragging economic growth, or whether he will side with protecting jobs and votes.

Founded before India won independence from Britain, Air India was long a source of pride. But experts say the airline has been mismanaged for years and delivers a shoddy product.

Letting the airline fend for itself and lose many of its 31,500 employees would be risky for the Congress-led government, though it won a convincing general election victory in May.

Air India may also give a wider signal to how far Singh, with his strong mandate to push Congress' agenda of inclusive growth, will dare to introduce market reforms and help India climb back to the 9 percent annual growth before the financial crisis bit.

''This is a test case,'' said political analyst Amulya Ganguli. ''The point is whether Manmohan Singh will have the guts, so to say, to turn it around.''

''The reformist line ... is still not very popular in India.

It is seen as kowtowing to the money guys and being too harsh on the workers,'' Ganguli added.

The carrier, which wants to cut employee costs by more than $100 million annually and asked senior employees to forego salaries in July, has sought extra cash through equity and soft loans.

The aviation minister has promised support for the airline, which has a fleet of 148 aircraft, if it becomes ''leaner and trimmer'', adding it would not be given ''an open-ended chequebook''.

Praful Patel did not specify the bailout's size, nor mention job losses. He said the airline would have to implement manpower restructuring, including top management, and cost-cutting.

Air India says it is another victim of the global crisis.

''Tell me, which airline is making profit?'' said Air India spokesman Jitendra Bhargava. ''You can't have Air India in isolation, right?''

Air India's dominance has been challenged in recent years by a number of new private airlines, and bilateral agreements that allowed a greater influx of foreign carriers.

Experts say the rot in Air India predates the financial crisis. Backed by powerful unions, the airline is bloated, badly managed and not held to account, they say.