Given the prominent role of Foreign Direct Investment (FDI) in India's growth story so far, the recent decline in the FDI inflows has emerged as a major area of concern and could pose a significant downside risk to growth, if the trend persists. The downtrend in FDI at a time when India's Current Account Deficit (CAD) has mounted to as high as 4.1% of GDP during Q2 FY11 becomes even more daunting. A persistent decline in FDI will keep India’s balance of payment under pressure and could put downward pressures on the rupee value. Apart from exerting pressures on the external sector, lower FDI could act as a deterrent in India’s growth story, given that it is an important financing mode for some of the fast growing sectors in the economy.
The fact that India is amongst the few Asian economies which witnessed a decline in FDI inflows during 2010 further add to worries. It is, in fact, intriguing to know that FDI inflows to the South, East and South-East Asia regions, according to UNCTAD, rose by about 18% in 2010 and reached $275 bn after a 17% decline in 2009, primarily due to booming inflows in Singapore, Hong Kong (China), China, Indonesia, Malaysia and Vietnam. It is therefore important to scrutinise the recent trend in FDI inflows and the underlying reasons for the same.
After recording an average growth of 73.86% between FY05-FY08, the growth in FDI moderated to around 1.0% during FY09 consequent to the global economic slowdown. With the gradual recovery in the global economic arena, the FDI inflows in India showed some signs of improvement and grew by around 5.69% during FY10. However, despite improving global economic prospects and robust recovery of the Indian economy, the FDI inflows have largely remained muted during the course of the current fiscal. In fact, FDI inflows had recorded a significant decline of 23.3% during FY11 (Apr-Dec 10) as compared to the corresponding period of the last fiscal. A confluence of factors such as the recent spurt in corruption cases, procedural delays, environmental policy issues, comparatively higher inflation might have affected the FDI investment into the country during the current fiscal. While in general, the global economic prospect seems to have improved in the recent past, the emergence of issues such as debt crisis in the European region is likely to have impacted the investor's sentiment during some parts of the year. This, coupled with the issues prevalent domestically, might affect the long-term FDI flows in India.
From a sectoral perspective, while the FDI inflows in services sector (financial & non-financial) recorded a decline of as much as 24%, sectors such as automobile, metallurgical industries, petroleum and natural gas, chemicals, computer software and hardware witnessed an increase in FDI inflows during Apr-Dec 2010 as compared to the corresponding period of the previous year.
The positive outlook regarding robust domestic demand from the long term perspective, large pool of skilled manpower, government policies such as deregulation of petroleum prices, bidding for oil blocks et al have been playing an instrumental role in attracting FDI in sectors such as automobile, petroleum and natural gas as well as computer software. The recent licensing issues in the telecom space and series of corruption cases in real estate financing is likely to have impacted investor's sentiment, thereby limiting the FDI inflows in these sectors. FDI inflows in the real estate and telecom sector registered a decline of 60% and 47% respectively during Apr-Dec 2010 as compared to Apr-Dec 2009. Another important factor that might have weighed down the investor's sentiment in the recent past could be the environment-sensitive policies pursued causing delays to the projects as evident in the recent episodes in the mining sector, integrated township projects, infrastructure projects et al. Moreover, the long standing issues such as lack of adequate infrastructure, land acquisition issues mostly in case of SEZ's and persistent procedural delays continue to limit the FDI inflows in the country. Besides all these factors, foreign investors planning to enter the retail space as well as banking in India or increasing their stake in insurance ventures are still awaiting the required policy changes.
The recent reduction in FDI inflows seems to have gained significant attention amongst the policy markers. As the Prime Minister's Economic Advisory Council highlighted the issue in the recent past, the RBI has taken steps towards examining the issue and articulating solutions thereon by proposing to set up a special committee. Moreover, some of the recent steps such as consolidating all prior regulations and guidelines into one comprehensive document, granting clearance to 24 foreign investment proposals, worth $ 304.7 mn are steps in the right direction and would enhance clarity and predictability of our FDI policy to foreign investors. However, India has to go a long way to fully unravel its FDI potential and the government would have to take significant measures aimed at further liberalisation of FDI, thus creating a clean image by tackling corruption, easing the procedural processes and building robust infrastructure to make India an emerging investment hub, going forward.
Dr. Arun Singh, Senior Economist, Dun & Bradstreet India
