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Record FDI inflows in India

Published: 21st Jun, 2021

As per the latest data provided by the Ministry of Commerce and Industry, India saw its highest-ever inflow of foreign direct investment (FDI) of $81.72 billion during the financial year 2020-21 which is a 10 per cent rise on a year-on-year basis.

Context

As per the latest data provided by the Ministry of Commerce and Industry, India saw its highest-ever inflow of foreign direct investment (FDI) of $81.72 billion during the financial year 2020-21 which is a 10 per cent rise on a year-on-year basis.

Background

  • The Reserve Bank of India (RBI) reported that the equity component of inflows was over USD 61.4 billion, a 19% increase over the USD 51.7 billion received in 2019-20.
  • Out of all states in the country,
    • Gujarat has emerged as the top FDI destination, accounting for 37 per cent of the total inflows.
    • Maharashtra (27 per cent) and Karnataka (13 per cent) were second and third in terms of inflows received.
  • It may be noted that Gujarat has bagged the top spot for the fourth consecutive year in a row. The state saw total FDI inflow of $30.23 billion in the last financial year.
  • The top investors who contributed to India’s high FDI inflow in FY21 include Singapore (29 per cent), followed by the US (23 per cent) and Mauritius (9 per cent).
  • Construction activity (infrastructure), computer software and hardware, rubber goods, retail trading, drugs and pharmaceuticals and electrical equipment have registered more than 100 per cent jump in equity during FY21 as compared to the previous year.
  • The credit for this record level of inflows was given to FDI policy reforms, investment facilitation and ease of doing business.

Analysis

What is FDI?

  • A foreign direct investment (FDI) is an investment made by a firm or individual in one country into business interests located in another country.
  • Generally, FDI takes place when an investor establishes foreign business operations or acquires foreign business assets in a foreign company.
  • FDIs are distinguished from portfolio investments in which an investor merely purchases equities of foreign-based companies.
  • Foreign direct investments can be made in a variety of ways, including the opening of a subsidiary or associate company in a foreign country, acquiring a controlling interest in an existing foreign company, or by means of a merger or joint venture with a foreign company.
  • The threshold for a foreign direct investment that establishes a controlling interest, per guidelines established by the Organisation of Economic Co-operation and Development (OECD), is a minimum 10% ownership stake in a foreign-based company.
  • However, that definition is flexible, as there are instances where effective controlling interest in a firm can be established with less than 10% of the company's voting shares.
  • FDI is an important monetary source for India's economic development.
  • Economic liberalization started in India in the wake of the 1991 crisis and since then, FDI has steadily increased in the country.
  • India today is a part of top 100-club on Ease of Doing Business (EoDB) and globally ranks number 1 in the Greenfield FDI ranking.

Routes through which India gets FDI

  • Automatic route: The non-resident or Indian company does not require prior nod of the RBI or government of India for FDI.
  • Government route: The government's approval is mandatory. The company will have to file an application through Foreign Investment Facilitation Portal. The application is then forwarded to the respective ministry, which approves/rejects the application in consultation with the Department for Promotion of Industry and Internal Trade (DPIIT), Ministry of Commerce. DPIIT then issues the Standard Operating Procedure (SOP) for processing of applications under the existing FDI policy.

Impact of FDI inflows

  • Foreign Direct Investment (FDI) leads to the long term growth of the economy. MNCs bring about technology transfer to the domestic companies which lead to the organic growth or expansion takes place in the companies also in the Employment.
  • FDI strengthens the balance sheet as it raises the assets of the companies. Profits of the businesses increase and labor productivity also increases.
  • Per capita income increases and consumption improves. Tax revenues increase and government spending rises.
  • GDP increases and there is also a lagged effect due to which subsequent years GDP too increases.
  • Furthermore investment has gestation period and returns increase after few years.
  • FDI puts the companies and hence the economy on higher growth mode and the right process of FDI is selection of the strategic sectors in the economy that generate highest RoI.
  • FDI also acts as a solid complement to domestic stock of investment which is low (about 32%) in India because of low savings. This investment raises competitiveness among the businesses, breeds innovation and efficiency and increases standard of living through better products and services in the market.
  • Exports get a fillip and balance of payments show surplus which causes rupee to appreciate vis-à-vis Dollar.
  • Forex reserves rises significantly and this causes RBI‘s assets to increase due to which money supply rises and thus inflation too rises according to Quantity Theory of Money.
  • In FDI there is technology transfer or the movement of technical knowhow to the domestic country due to which skill development takes place and together with higher capital this raises productivity and profitability.

FIIs

  • A foreign institutional investor is an investor in a financial market outside its official home country.
  • FIIs can include hedge funds, insurance companies, pension funds, investment banks, and mutual funds.
  • FIIs can be important sources of capital in developing economies, yet many developing nations, such as India, have placed limits on the total value of assets an FII can purchase and the number of equity shares it can buy, particularly in a single company.
  • This helps limit the influence of FIIs on individual companies and the nation's financial markets, and the potential damage that might occur if FIIs fled en masse during a crisis.
  • FII investments (which is different from FDIs) of USD 38 billion have arrived in India during 2020-21.

 Is the recent surge good for the Indian Economy?

  • The bulk of the investments involve merely a transfer of shares without creating productive assets in economy which is contrary to the belief that FDI can contribute to the revival of the economy.
  • Although FDI inflows were stronger in last FY, their distribution has been highly skewed.
    • For example; the manufacturing sector received just 17.4% of the total inflows whereas, the services sector attracted nearly 80% of the total inflows with information technology-enabled services (ITeS) being the largest component.
  • Because the Facebook’s share is pegged at 9.9% in Jio Platform, it will not facilitate sharing of managerial experience and technical expertise due to the 10% rule.
  • Along with the high inflows in the FDIs, there has also been a high increase in the FIIs (of USD 38 Billion) and 47.2% increase in repatriation/disinvestment too in the same Financial Year.
  • Surely, sustained sizeable repatriation of the long-term FDI, together with a large increase in speculative capital (FIIs) does not bode well for an economy looking to recover from an economic slump.

Conclusion

Although the government has cited the reason for this huge inflow as key policy reforms as well as investment facilitation but the inflows have not been in sync with the government’s priorities for the post-COVID-19 economic recovery: the Aatma Nirbhar Bharat Abhiyaan, focusing on the revival of the manufacturing sector through the Performance Linked Incentive (PLI) scheme and huge investment in the infrastructure sector.

And when this is the situation, then the celebration for the historical surge of FDI inflows in an FYis clearly questionable.

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