India ' s New FDI Reforms - Implications

  “In two years, the Government brings major FDI policy reforms in several key sectors… India now the most open economy in the world for FDI; most sectors under automatic approval route”- Shri Narendra Modi   FDI is stickier in the sense that it comes into a country with an objective of staying for a longer period of time and in the process adds to infrastructure, technology, employment and to the growth of the country whereas FPI is more mercurial as the main objective of such investments are higher profits in as much lesser time as possible. Apart from this other factors that have led to the government of India focussing more on attracting FDI are

a) The private sector presently has limited appetite for investment (because of the drop in the global demand, the slowdown in the domestic economy, banks unwilling to lend more/at the lesser rate of interest)

b) The government itself is constrained in making a higher investment as it has to take care of the fiscal deficit targets (compounded by the problems of implementing OROP, hike in the salaries as a result of 7^th Pay commission etc.)

Hence, the government of India has been introducing a lot of reforms in FDI sector-manufacturing, Insurance, Construction development, Asset Reconstruction Companies, Pension Sector, Defence, single brand retailing etc. the government had introduced major reforms in November 2015, wherein it had liberalized 15 sectors to attract FDI and as a continuation of that policy it has announced another round of reforms on 20^th June 2016 in eight sectors. These set of reforms could broadly be put under an acronym EED-Extension, Expansion and Dilution i.e. in some sectors, the sectoral caps have been increased; some other sectors have been brought under the automatic route, and in the rest, the FDI conditions have been eased

a) Defence – It is a strategic sector. The government has allowed FDI up to 100% and this reform in this sector is the third major one in the last one year-the first was government allowed FDI to the tune of 49%, followed by The Defence Procurement Policy and third being the latest reform.  Although the government had introduced FDI up to 49% under the automatic route (over 49% would be allowed on case to case basis if the project allows access to the state-of-the-art technology), many multinationals had shown interest in acquiring more hold higher ownership. Another difficulty was that the government had not defined “state-of-the-art” and the technology transfer.

Proposal – In the latest reform, the government has allowed FDI greater than 49% in defence and has omitted the “state-of-the-art technology” and transfer of technology clause. It shows that the government has many more areas of interests to allow higher FDI

Effect – This may lead to major foreign companies setting shops in India, expanding the vendor base, higher competition and higher compliance. The foreign company may develop its own vendor base in India. It will also work in favour of companies such as BEL (who work on turnkey projects). The domestic companies who had the supplier’s license and were struggling with expertise may enter into JVs with foreign companies.

Worry – The problem area in this would be that the government approvals and clearances take time. Hence the government has to work on that if the policy has to lead to results.

b) Civil Aviation – The reforms come at a time when the domestic passenger growth is healthy.

Proposal – Reforms are broadly in two areas-Brownfield airports and Domestic scheduled airlines.

a) 100% FDI allowed in Brownfield airport projects (earlier 74% allowed under automatic route and over that through approval route)

b) 100% FDI in Domestic Scheduled Airlines(up to 49% through the automatic route, more than that through approval route)

Although the ministry had proposed raising the FDI limit to 50% in October 2015, the status quo was maintained in New Civil Aviation Policy 2016. The government has already allowed 100% FDI in other areas such as ground handling services, Non-scheduled air transport services, seaplane/helicopter services etc.

Effect – These reforms would help some of the airlines which have a negative balance sheet such as Jet Airways, Spice Jet etc. In case of NRIs 100%, FDI through automatic route will be allowed.

Worry – the limit for the foreign airliners has been maintained at 49% hence they will have to search for suitable investors who are willing to invest.

c) The pharmaceuticals – The government had introduced the Brownfield FDI policy in pharmaceuticals in 2011.

Proposal – Now the government has allowed 74% FDI investment in Brownfield projects through the automatic route, with an objective of promoting development in this sector (before this all the FDI proposals were cleared through FIPB)

Effect – With 100 per cent FDI allowed in pharma, mergers and acquisitions (M&A) by multinational companies are likely to intensify in the sector, attracting a sizeable amount of funds.

Worry – India is considered to be a global hub of the pharmaceutical industry and its market size is estimated to be over $ 20 billion.  But having said so today’s scenario is completely different from that of 2011. The US pharmaceutical market is experiencing a slowdown, and the non-clarity of the government’s drug policy (pricing policy, generic drugs, and delayed approvals) will act as a hindrance. Apart from it, the position of top manufacturers in India is relatively comfortable so the real question here is-who would be selling the stake to foreign companies (but can a company reject-an offer that it cannot refuse?).

d) Single Brand Retailing-

Proposal – Government waivered the compulsory domestic sourcing norms for a period of three years (which could be extended for another five years provided it involves cutting-edge technology or state-of-the-art-technology).

Earlier the government had not given any time frame for having given an exemption to local sourcing norms.

e) Food Products – In the budget of 2016-17, the government had announced 100% FDI via FIPB, in the marketing of food products produced in India.

Proposal – Following this government has announced that 100% FDI will be allowed through approval route for trading food products (including through e-commerce) manufactured in India.

Effect – would give a big push for food products made in India (Make In India) as it extends to e-commerce, companies like Big Basket, Gofers will benefit

Worry – If in the fine print government goes for “restricted selling” then it would act as an n dampener

f) Others-

1. Animal Husbandry – Earlier 100% FDI allowed under automatic route in “controlled conditions”. The government has done away with “controlled conditions” clause hence it is going to liberalize and attract more investment in the sector.
2. Private Security Agencies – Earlier it was 49% under the approval route, which has been changed to 49% under approval route and till 74% will be through approval route
3. Broadcasting – Earlier 49% FDI allowed under automatic route and above this, it was allowed through approval route. Now 100% FDI will be allowed through automatic route (in Cable Networks, DTH and Headed-In-The-Sky)

Apart from this government has also said that it would soon come out with a Negative List of sectors and also define “state-of-the-art”.   How large is FDI in the Indian Economy   The FDI reforms have come at a time when the inflow of FDI has been increasing. Having said so the comparison with other countries (as shown in the figure) India lags behind. What are the factors that would determine the investment decisions of foreign investors?

a) Return on Investment (hence we can see that booming sector such as DTH, Airlines, Pharmaceuticals have been included)

b) Frequent Market and Pricing Interventions (the non-clarity in the pharmaceutical sector may work against India whereas exemption of technological transfer, sourcing norms will work in India’s favour)

c) In the case of long term investments, the companies want to have control of the company (introduced in the defence sector)

Approach to civil Service GS-2

a) Governance issues

GS-3

a) Measures were taken by the Government of India to implement Make In India

b) FDI reforms

Practice questions

a) India is the most open economy-discuss

b) The latest measures on FDI front will lead to maximum governance-explain

c) In this gloomy economic situation, India would want to have higher foreign inflows-Explain

Also, See: