What is Foreign Direct Investment (FDI)?
FDI means where a foreign company, generally an MNC, may invest in a country in any of the following 3 forms:
#1. Setup a plant or project to manufacture a commodity- consumer goods, capital goods, automobile, aircrafts, ships etc. It may also engage itself in construction activity- highways, roads, bridges, ports, airports, real estate etc.
#2. Setup network for providing services- banking, insurance, shipping, telecom, software, civil aviation etc.
#3. Only provide technology by way of Technology Transfer through any company of the country. It can provide technology only or provide technology along with #1 & #2 above
Foreign Portfolio Investment (FPI):
- It means that foreign investors, generally Foreign Institutional Investors in case of India (FIIs are very large investors who invest bulk amounts just like Mutual Funds), invest in country stock market by investing in shares, debentures, bonds, Mutual Funds etc.
- The objective here is to make capital gains in the stock markets
- Hence this is investment is also called ‘Hot Money’ or ‘Fly-by-Night Money’ as it has a tendency to move from one country to another in search of quick profit
- Therefore it has a potential to cause volatility in those markets from where it leaves
FDI routes:
#1. Automatic
A foreign company wishing to invest in India doesn’t have to seek prior approval of any body/ agency in India
It can straight away bring in investments in India & has only to inform the RBI within 1 month of bringing its investment in a certain sector
This route is relatively hassle free due to which more than 55% of total FDI has come through this route
It can straight away bring in investments in India & has only to inform the RBI within 1 month of bringing its investment in a certain sector
This route is relatively hassle free due to which more than 55% of total FDI has come through this route
#2. Foreign Investment Promotion Board (FIPB)
It was established in 1992 (just after L-P-G reforms)
Investments upto Rs. 5000 crore from notified sectors have to go through its approval
Investments upto Rs. 5000 crore from notified sectors have to go through its approval
#3. Cabinet Committee on Economic Affairs (CCEA)
This approves investments above Rs. 5000 crores from notified sectors
Merits of FDI:
- Adds to the productive capacity of a nation (by definition, as mentioned above)
- Long term and stable- Because an MNC would continue to manufacture in a country, earn profits, engage in exports and thus spread its wings across the world as it enjoys a global name
- No repayment obligation on part of the country where it is operating. This is the most important feature
- Brings in capital and bolsters FOREX reserves
- Brings in technology
- Helps export promotion (because of global brands)
- Generates employment
- Expands markets (domestic as well as foreign)
- International Best Practices- Brings in latest administrative and work culture
- Infuses competition among domestic industries
What is the impact of FDI on Inflation?
- FDI has been generally touted as a measure to dampen inflation. But this can NOT be concluded in all situations
- The FDI’s impact on dampening the inflation is based upon the assumption that FDI would result in the developing of country’s back-end infrastructure and crack the supply bottlenecks. Practically, it may or may not happen
- Economics has no rule to link FDI and Inflation because inflation may have many reasons behind it rather than only infrastructure and supply bottlenecks
- Generally the FDI’s role in containing inflation is supported by the facts that- it improves infrastructure, improves supply chain, brings permanent investment
Demerits:
- May threaten a country’s economic and political sovereignty (remember East
- India Company which came to India just as a trader)
- It may bring obsolete technology (this was true especially during 1950-90 because US and UK were the only countries bringing FDI. But now due to many countries bringing FDI, there is competition and this risk is reduced)
- Focus on short term profit earning tactics rather than long term investments with a view of national industrial development
- Indulging in cut-throat competition
- Indulging in transfer pricing practices
Why Foreign Investors go for FDI?
- To take advantage of cheaper wages in the country, special investment privileges such as tax exemptions offered by the country as an incentive
- To gain tariff-free access to the markets of the country
- To acquire lasting interest in enterprises operating in the target country.
What attracts FDI?
- The growth rate of the source economy is an important determinant
- The political and economic stability of the target region
- How ‘open’ the economy is towards foreign trade (both imports and exports)
- The policies, rules, regulations and loopholes incidental thereto
- For example, Mauritius has been top FDI source for India due to the later (loophole) reasons
Recent FDI reforms (November 2015):
#1. Townships, shopping complexes & business centres – all allow up to 100% FDI under the auto route
Conditions on minimum capitalisation & floor area restrictions have now been removed for the construction development sector
#2. India’s defence sector now allows consolidated FDI up to 49% under the automatic route
FDI beyond 49% will now be considered by the Foreign Investment Promotion Board
Govt approval route will be required only when FDI results in a change of ownership pattern
#3. Private sector banks now allow consolidated FDI up to 74%
#4. Up to 100% FDI is now allowed in coffee/rubber/cardamom/palm oil & olive oil plantations via the automatic route
#5. 100% FDI is now allowed via the auto route in duty free shops located and operated in the customs bonded areas
#6. Manufacturers can now sell their products through wholesale and/or retail, including through e-commerce without Government Approval
#7. Foreign Equity caps have now been increased for establishment & operation of satellites, credit information companies, non-scheduled air transport & ground handling services from 74% to 100%
#8. 100% FDI allowed in medical devices
#9. FDI cap increased in insurance & sub-activities from 26% to 49%
#10. FDI up to 49% has been permitted in the Pension Sector
#11. Construction, operation and maintenance of specified activities of Railway sector opened to 100% foreign direct investment under automatic route
#12. FDI policy on Construction Development sector has been liberalised by relaxing the norms pertaining to minimum area, minimum capitalisation and repatriation of funds or exit from the project
To encourage investment in affordable housing, projects committing 30 percent of the total project cost for low cost affordable housing have been exempted from minimum area and capitalisation norms
#13. Investment by NRIs under Schedule 4 of FEMA (Transfer or Issue of Security by Persons Resident Outside India) Regulations will be deemed to be domestic investment at par with the investment made by residents
#14. Composite caps on foreign investments introduced to bring uniformity and simplicity is brought across the sectors in FDI policy
#15. 100% FDI allowed in White Label ATM Operations <What are White Label ATMs?Answer in comments>
Crux of the reforms:
- To further ease, rationalise and simplify the process of foreign investments in the country
- To put more and more FDI proposals on automatic route instead of Government route where time and energy of the investors is wasted
- Refining of foreign investment norms in construction is to facilitate the construction of 50 million houses for poor
- Opening up of the manufacturing sector for wholesale, retail and e-commerce is aimed at motivating industries to Make In India and sell it to the customers here instead of importing from other countries
Sectoral caps:
- Petroleum Refining by PSU (49%)
- Teleports (setting up of up-linking HUBs/Teleports),Direct to Home (DTH), Cable Networks (Multi-system operators (MSOs) operating at national, state or district level and undertaking upgradation of networks towards digitalisation and addressability), Mobile TV and Headend-in-the-Sky Broadcasting Service (HITS) – (74%)
- Cable Networks (49%)
- Broadcasting content services- FM Radio (26%), uplinking of news and current affairs TV channels (26%)
- Print Media dealing with news and current affairs (26%)
- Air transport services- scheduled air transport (49%), non-scheduled air transport (74%)
- Ground handling services – Civil Aviation (74%)
- Satellites- establishment and operation (74%)
- Private security agencies (49%)
- Private Sector Banking- Except branches or wholly owned subsidiaries (74%)
- Public Sector Banking (20%)
- Commodity exchanges (49%)
- Credit information companies (74%)
- Infrastructure companies in securities market (49%)
- Insurance and sub-activities (49%)
- Power exchanges (49%) <What are power exchanges? What are the issues with them? Hint- Economic Survey 2015-16 Chapter 11>
- Defence (49% above 49% to CCS)
- Pension Sector (49%)
Sectors which need Govt (FIPB/ CCEA) approval:
- Tea sector, including plantations – 100%
- Mining and mineral separation of titanium-bearing minerals and ores, its value addition and integrated activities -100%
- FDI in enterprise manufacturing items reserved for small scale sector – 100%
- Defence – up to 49% under FIPB/CCEA approval, beyond – 49% under CCS approval (on a case-to-case basis, wherever it is likely to result in access to modern and state-of-the-art technology in the country)
- Teleports (setting up of up-linking HUBs/Teleports), Direct to Home (DTH), Cable Networks (Multi-system operators operating at National or State or District level and undertaking upgradation of networks towards digitisation and addressability), Mobile TV and Headend-in-the Sky Broadcasting Service(HITS) – beyond 49% and up to 74%
- Broadcasting Content Services: uplinking of news and current affairs channels – 26%, uplinking of non-news and current affairs TV channels – 100%
- Publishing/printing of scientific and technical magazines/specialty journals/periodicals – 100%
- Print media: publishing of newspaper and periodicals dealing with news and current affairs- 26%, Publication of Indian editions of foreign magazines dealing with news and current affairs- 26%
- Terrestrial Broadcasting FM (FM Radio) – 26%
- Publication of facsimile edition of foreign newspaper – 100%
- Airports – brownfield – beyond 74%
- Non-scheduled air transport service – beyond 49% and up to 74%
- Ground-handling services – beyond 49% and up to 74%
- Satellites – establishment and operation – 74%
- Private securities agencies – 49%
- Telecom-beyond 49%
- Single brand retail – beyond 49%
- Asset reconstruction company – beyond 49% and up to 100%
- Banking private sector (other than Branches) – beyond 49% and up to 74%, public sector – 20%
- Insurance – beyond 26% and up to 49%
- Pension Sector – beyond 26% and up to 49%
- Pharmaceuticals – brownfield – 100%
All sectors other than these are under automatic route.
Sectors where FDI is prohibited:
- Lottery Business including Government /private lottery, online lotteries, etc.
Gambling and Betting including casinos etc. - Chit funds
- Nidhi company-(borrowing from members and lending to members only)
- Trading in Transferable Development Rights (TDRs) <What are TDRs? Answer in comments>
- Real Estate Business (other than construction development) or Construction of Farm Houses
- Manufacturing of Cigars, cheroots, cigarillos and cigarettes, of tobacco or of tobacco substitutes
- Activities/ sectors not open to private sector investment e.g. Atomic Energy and Railway Transport (other than construction, operation and maintenance of
(i) Suburban corridor projects through PPP,
(ii) High speed train projects,
(iii) Dedicated freight lines,
(iv) Rolling stock including train sets, and locomotives/coaches manufacturing and maintenance facilities,
(v) Railway Electrification,
(vi) Signaling systems,
(vii) Freight terminals,
(viii) Passenger terminals,
(ix) Infrastructure in industrial park pertaining to railway line/sidings including electrified railway lines and connectivities to main railway line and
(x) Mass Rapid Transport Systems) - Services like legal, book keeping, accounting & auditing.
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