| Indeed, portfolio investments have played a major role in India's balance of payments in the last several years. Barring the two years of political uncertainty (in 1997-98 and 1998-99) and three years after the dotcom bust (2000-01 to 2002-03), portfolio investments by FIIs have always stayed ahead of foreign direct investments in India. Economists have been uncomfortable about this composition of capital account receipts as portfolio investments are considered more volatile than foreign direct investments and, therefore, could flow out of the country at short notice. |
| All this, however, might change a little, if one goes by the latest economic outlook presented by the Economic Advisory Council to the Prime Minister. Portfolio investments in 2006-07 are expected to drop to $5 billion from $12.5 billion last year. But foreign direct investments will go up from $5.7 billion to $8.5 billion in this period. In other words, FDI flows this year will be larger than portfolio investments. This is significant because the trend change is taking place on a relatively high base. Also, there are clear signs of a fresh momentum in FDI flows into the country, with several large multinational corporations committing huge dollar resources for investments in creating facilties in India. Even if portfolio investments revive next year, there is a very good chance of FDI flows also growing rapidly to maintain their lead over the former. |
| The other significant change captured in the outlook report of the PM's advisory council relates to the sharp rise in foreign loans being contracted this year. The total quantum of foreign loans would cross the $12-billion mark in 2006-07, compared to $4.7 billion in 2005-06. Interestingly, loans in India's capital account receipts in the last decade or so have played a relatively small role. In the 11 years between 1993-94 and 2003-04, total loan flows from abroad crossed the $5-billion mark only once in 2000-01. The big jump took place in 2004-05, when overseas loans increased to $10.7 billion. But they dropped to $4.7 billion last year and are now slated to rise again to $12 billion. |
| Conventional economics has it that debt-creating inflow is not sustainable and can cause problems in the medium term, even though these might help bridge the gap in the current account. A preferred route for eliminating the current account deficit is to use FDI flows (or non-debt creating inflow). For a large part of the last decade and a half, debt-creating inflow had indeed been kept under check. It spurted only in 2004-05 and is expected to do this year also. |
| Policy makers are bound to examine how and why India's loans from abroad have risen rapidly in the last two-three years. The most likely response from North Block would be to review the norms for commercial borrowings by Indian companies and consider imposing curbs on them. That approach might be counterproductive, particularly in view of the balance of payments situation the country is in today. Instead, a more sensible approach would be to focus on how to build on the momentum of FDI flows that already exists. FDI flows have been hovering around $5 billion a year since 2000. The current year would for the first time see a jump to take the annual FDI flow level to a figure that is psychologically closer to the $10-billion mark. |
| This is clearly an opportunity. For the United Progressive Alliance (UPA) government, this is also an area where there are no political controversies. Attracting foreign direct investments will not invite any opposition from the Left parties. Apart from creating jobs, these investments would also have a positive effect on other forms of capital flows. For instance, more foreign investments would indirectly cast a positive impact on portfolio investments. Instead of worrying over rising loans from abroad, the government, therefore, might do well to identify a few sectors where the removal or reduction in foreign investment limits can bring in more FDI resources. |
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