Foreign investment in India slowing but shift from China spells opportunity

Only few states drawing companies' attention to set up projects

India’s headline foreign direct investment (FDI) numbers rose from $62 billion in 2018-19 to a record $84.8 billion in 2021-22.

This represents a 36.8 per cent increase in FDI since the pandemic began, but the growth is less impressive when one considers India’s economic growth in the interim. Net FDI flows are up from 1.1 per cent of gross domestic product (GDP) in 2018-19 to 1.2 per cent in 2021-22.

FDI represents long-term money that companies put to work in India by setting up factories and plants. The growth in such investments — important for technology transfer and the jobs they create — is not expected to change much relative to India’s economic size, according to the projections of the International Monetary Fund (IMF).

India’s FDI inflows relative to GDP have been close to China’s in recent years, but China’s economy is around five times larger. Brazil’s net FDI inflows were 2.9 per cent of the GDP in 2021 and 3.7 per cent of the GDP in 2019 before the pandemic took hold. These were 4.8 per cent of the GDP for Vietnam in 2019 and 4.3 per cent in 2021. India’s latest December numbers of $55.3 billion show signs of a slowdown.

India’s total FDI equity inflow, an important sub-component of the overall FDI number, dropped to $36.7 billion for the nine months ending December 2022, compared to $43.2 billion a year ago.

Global business sentiment was expected to be muted in 2022 after Russia’s invasion of Ukraine. Risk appetite took a hit, reflected in lower funding for technology start-ups. Global mergers and acquisitions were down nearly 70 per cent, according to Refinitiv data. Indian start-up and technology firm funding was down 41 per cent to $15 billion in the first nine months of 2022-23, shows Tracxn data.

But global growth in greenfield projects was tepid even in 2021, according to data from the United Nations Conference on Trade and Development. Greenfield projects set up new facilities, such as factories, as opposed to buying existing ones.

The reluctance to invest came amid limited returns from FDI in recent years. The rate of return on FDI worldwide was under seven per cent even before the pandemic, and has since dropped.

The biggest multinational companies boosted profits during the pandemic. Many may now also be evaluating a decision to de-risk manufacturing by moving away from just one country (China). Favourable policies and infrastructure can attract investments. But the majority of investments seems to find this mix available only in a few Indian states (see chart 3).

While individual states vie for investor attention, it may be up to the central government to bring in the kind of national-level reforms that can make India a global manufacturing hub. The shift away from China marks a rare opportunity to leapfrog into the manufacturing big league.