There is a renewed thrust on freeing up foreign investment in several sectors where there are restrictions. The current global economic conditions present India with a unique opportunity to attract substantially higher foreign direct investments (FDI) either in new projects or by way of acquisition of existing Indian businesses.
The reason is very simple: As the OECD economies show no signs of a recovery for another few years, global companies, particularly those located in the US, are sitting on $2.6 trillion of idle cash which they want to invest in economies where consumer demand is still expanding and where there are double digit returns on investments. India is an obvious choice for these global companies.
This is the big opportunity that knocks on India’s doors even in such globally uncertain times. A good example of this was seen in 2011-12, a year when the global economy went through a severe slowdown. The US remained in a low demand trap and the euro zone hurtled from one sovereign debt cum banking crisis to another with large parts of EU still in recession. Against this backdrop, India attracted foreign direct investment of nearly $47 billion in 2011-12, a 34 % increase over the FDI inflow of $35 billion in 2010-11. Of course, such a big increase in FDI was aided by some big mergers and acquisition deals like British Petroleum buying a stake in Reliance Industries’ gas exploration business for $9 billion. The point being made is that in these highly troubled times global multinationals are finding India a safe haven for long term growth prospects. India needs to exploit this sentiment.
$47 billion of FDI came into India in 2011-12 in spite of the many problems that still dog the overall foreign investment regime. The point is if India further liberalizes foreign investment in many of the currently restricted areas like multibrand retail, banking, insurance, defense production etc the annual FDI could soar to over $100 billion in quick time.
There is another reason why India needs FDI of this order in the years ahead. India needs to fortify itself from the consistently high oil prices which have resulted in our oil bills going up by leaps and bounds. India’s imports have soared over the past several years, and even with exports growing at a reasonably good clip, the current account deficit (the net payment India has to make to the rest of the world) has worryingly widened to nearly 4% of GDP. In absolute terms, 4% of GDP translates to a deficit of about $ 75 to $80 billion. So India needs to pay out $80 billion to foreigners on the current account. This bill is paid with the help of net capital inflows. Effectively, this means India needs a net capital inflow of at least $100 billion a year so that it can pay for its current account dues and also add some $20 billion to its foreign exchange reserves as a future cushion.
The net capital inflow has equity and debt components. Ideally, equity capital is preferable to debt as it is more stable and long term in nature. Therefore, the bias must always be in favor of getting more equity. Within equity capital, FDI is obviously more preferred than the foreign institutional inflows (FII) in the stock markets which are very volatile by nature. For instance, in the first half of 2007-08, when the global financial meltdown was unfolding, India got $15 billion of FDI but there was a $6 billion net outflow of foreign portfolio investments in the stock markets. So the lesson there was India must attract more stable, FDI flows as a long term strategy to shore up its external sector balance.
In the current climate India needs to encourage more FDI also because the Planning Commission has estimated that $1 trillion of investments are needed in physical infrastructure over the next five years. Whether it is in airports, railways, roads, ports or power, at least 50% of such investment is estimated to come from foreign savings, either through FDI or long-term foreign debt. This is a key concern for India today.
India’s policy makers are trying to use some creative ways to attract foreign investments. For instance the ambitions India-Japan collaboration to build a railway freight corridor between Delhi and Mumbai is the most ambitious urban infrastructure project conceived so far. In the first phase it involves building 7 new industrial cities along the corridor with full infrastructure facilities to be built over 2000 square kilometers at a cost of Rs.3,25,000 crore. The Japanese banks are funding this project in a big way and the government of Japan is fully committed to this project.
This is one example of getting foreign investments, either as equity or debt with the two governments fully backing it. India needs to get into a similar relationships with the United States and EU countries in building joint defense production facilities in India. This is a big opportunity waiting and it would require easing of the foreign investment regime in defense production.
At the World Trade Organization (WTO) India is negotiating to give other countries access to its services sector such as banking, insurance, retail etc. Though there is political opposition domestically to opening up multibrand retail, insurance and banking, sooner or later, more comprehensive agreements at the WTO or bilateral FTAs with the OECD economies will ensure India’s investment engagement becomes more open and robust. This is in some ways inevitable.
It was also interesting to note that during US President Obama’s India visit two years ago we offered the United States a comprehensive free trade agreement in goods and services but the Americans were a bit diffident, given the worsening economic conditions back home. It is clear that India has only to gain from these new trade-investment pacts which will bring much needed capital into this country. This is the right time for India to open up its foreign investment regime. The dice is loaded in our favor given the sustained, long term weaknesses developing in the OECD economies.
FDI climate cool in India
