Foreign Direct Investment
< General Studies Home Page
Content
- Introduction
- Basics for prelims
- Why decline in FY23 and what are FDI threats for future
- Why has India emerged as an attractive destination for FDI
- Need of FDI in India
- Main Problems that are restricting FDI inflows in the country
- Problems associated with increasing dependency on FDI
Introduction
- FDI is a major driver of economic growth and a source of non-debt finance for the economic development of the country.
- Government has put an investor friendly policy on FDI, under which FDI upto 100%, is permitted on the automatic route in most sectors/ activities.
- Intent and Objective of India’s FDI Policy
- Attract and promote FDI in order to supplement domestic capital, technology and skills, for accelerated economic growth.
Basics for prelims
- Foreign Direct Investment (FDI) is the investment through capital instruments by a person who is a resident outside India:
A. In an unlisted Indian company
B. In 10% or more of the post issue paid-up equity capital on a fully diluted basis of a listed Indian company- (If the investment comes below 10% subsequently the FDI shall be continued to be classified as FDI. It will not be reclassified as FPI), i.e., once an FDI, always an FDI.
FDI inflows in India:
- FY23: $70.97 billion
- Top Source Countries (FY23)
- Singapore ($17.2 billion); Mauritius ($6.13 billion); the US ($6 billion), the UAE ($3.35 billion), the Netherlands ($2.5 billion).
- Other important source countries include Japan, UK, Cyprus, Cayman Islands, and
Germany.
Top Five Sectors to receive FDI
- Computer Software ($9.4 billion); (Dip from last year)
- Service Sector ($8.7 billion) (Rise from last year)
- Trading, Telecommunication, pharma and Chemicals have also recorded growth in FDI inflow.
State-wise FDI reception:
- Maharashtra received the highest inflows of $14.8 billion during the last fiscal year (though the inflow are down when compared to $15.44 billion) of last year.
- Karnataka, Delhi, TN, Haryana, Telangana and WB also saw a dip in FDI inflow.
- Gujarat saw an increase in FDI to $4.71 billion (against $2.7 billion in FY22).
- Rajasthan also saw a positive growth.
Why decline in FY23 and what are FDI threats for future:
- Escalation in geopolitical stress
- Enhanced volatility in global financial systems
- Sharp Price corrections in global stock market
- High magnitude of El-Nino
- Frail Global Demand
Why has India emerged as an attractive destination for FDI:
- Liberalization of investment restrictions
- In India FDI upto 100% is allowed in non-critical sectors through the automatic route, not requiring clearance from the Ministry of Home Affairs (MHA).
- Even in strategic sectors like Defence, government has allowed FDI of upto 74% through automatic route and 100% through government route.
- Consultation activities with representation of different sectors
- Make in India, Atmanirbhar Bharat, PLI Schemes, PM GatiShakti etc.
- Reforms in Indirect and Direct taxes:
- Corporate tax for most companies has been reduced to 25% and for new companies in manufacturing, it has been reduced to 15%
- GST system has been streamlined, leading to simple tax regime.
- Increased public capex expenditure – It is also crowding in private and foreign investment.
- Strengthening of India’s footing in global supply chains
- Elimination of Regulatory barriers
- Improved Ease of Doing Business
- Improved International Relations
Need of FDI in India
- Lack of Domestic Resources:
- Neither the government, nor the private sector in India has enough resources to fulfill India’s infrastructure and industrial needs. For e.g. infrastructure sector alone needs more than 1 trillion dollars over the next few years. COVID-19 crisis has further deteriorated the situation.
- Diffusion of new Technology:
- FDI, along with it brings in new technology which is very important for the growth and advancement of India.
- Virtuous Cycle of Investment:
- High FDI in any country gives confidence to other investors and creates a virtuous circle of more investments. So, increasing FDI will also increase private investments which has gone stagnant over the years.
Other advantages associated with FDI
- Economic Growth: More Investment leads to more growth which in turn leads to higher incomes, more employment etc.
- Improved performance of governments at state level: Increases competition among states to attract FDI -> promotes good/efficient business practices among the states
- Provides opportunity to government to focus more on social sector
Main Problems that are restricting FDI inflows in the country
- Complex and rigid Labour Laws
- Significant Delay in Land Acquisition due to slow environmental clearance and difficult Land Acquisition Act.
- Bureaucratic Red Tapism and Corruption still dissuades foreign investors from investing in the country.
- Regulatory framework also needs simplification as it is still too complex for many investors.
- Regulatory Certainty is something the investors crave the most.
- Frequent rule changes, including retrospective changes worry the investors.
Problems associated with increasing dependency on FDI
Till now, we have only discussed the positive aspects associated with FDI, but, if not managed properly FDI can bring along with it certain disadvantages.
1. Volatile Investments: Unreliable in the long term
- FDI tend to switch to countries where there is more profit, cheap labor and cheap land.
2. Diffusion of technology is limited:
- It is in the interest of foreign firm to withhold profitable technology. Thus, generally
diffusion of new technology is very less. - Moreover, in a developing country like India, where the state of both physical and human capital is not yet on a par with advanced countries, the diffusion also becomes difficult.
3. Job Creation Not very effective due to FDI -> FDI is mostly coming in service sector or capital intensive sector.
- Despite the central government’s push to boost manufacturing sector through ‘Make in India’ and various PLI initiatives, FDI’s continue to chase bets in the services sector.
- For e.g. in FY23, the highest FDI came in sectors like IT, Services etc.
- Further, the bulk of FDI in manufacturing is not greenfield.
4. Regional inequities are perpetuated -> Most FDI come in already industrialized regions.
- For e.g. Maharashtra, Karnataka, Gujarat and Delhi – collectively accounted for 83% of the FDI between Oct 2019 and March 2022. .
- This further leads to metro – non metro divide and inequitable distribution of opportunities throughout the country.
Way Forward:
- Promote Ease of Doing Business in Manufacturing sector:
- Fast track the implementation of labor reforms
- Last mile infrastructure issue has to improve.
- Deal with problems faced by foreign players in setting up large capacities (large factories)
- Focus on other impending downside risks like
- Carbon Border Adjustment Mechanism (CBAM), for which carbon content reporting is mandatory from 1st oct 2023.
- Polarization risks arising out of the prevailing geopolitical situation reflected in the possible adoption of trade-restrictive measures.
Conclusion:
While India has achieved a healthy growth in FDI, to sustain it we need to ensure sound trade policy, inclusive development, implementation of labor codes etc.
Example Questions
- Justify the need for FDI for the development of the Indian economy. Why there is a gap between MoUs signed and actual FDIs? Suggest remedial steps to be taken for increasing actual FDIs in India (CSE Mains 2016, 200 words, 12.5 marks).
- “Too much focus on FDI may be associated with certain limitations for economy”. Elaborate (10 marks, 150 words)
- Despite economic slow down due to COVID-19, the last two financial years have seen record FDI inflows in India. Why is it so? Suggest some measures to sustain this FDI growth.