WHY INDIA IS LACKING IN ATTRACTING FDI AS COMPARED TO CHINA, BRAZIL, MEXICO, RUSSIA?

R.V.Seckar, M.Com, F.C.S, I.C.S.A (UK), LLB.
Company Secretary, Chandra Group of Companies

(This research article has been published in the 35th Regional Conference conducted by Institute of Company Secretaries of India , Chennai ( Southern) region on 23rd and 24th of July in Chennai .This article has secured 5 star ranking in SCRBD website.)

Many may recall the economy of India was in bad shape before 1991 as it had to pledge its entire gold reserves with World Bank when Mr. Chandra Sekhar was the Prime Minister of India to avail IMF loan and to poise its balance of trade.
No doubt, the economic liberalization introduced when Mr.ManMohan Singh was the finance minister in 1991 under then Mr.Narasimha Rao government had contributed acceleration in economic growth which has created substantial employment and reduced the poverty levels. India’s economic reform is supported by flow of FDI (Foreign Direct Investment) both into and outside India. However, India has to introduce further economic reforms to accomplish the government’s development goals like reducing inequality and poverty and increasing employment. In this research essay, I wish to emphasise the need for further reforms to attract more FDI to make India as economic super power by the turn of 2020.
Since 1991, economic reforms are being introduced in many phases. As a first step to attract more foreign investment, industrial licensing was abolished for all except 18 industries under the Industries Act of 1951. Further, in 1991, the number of sectors reserved for the public sector was reduced to eight as government wanted to have control only in railway, atomic energy, defense and other core sectors. Further, no prior
permission was needed to be obtained for investment in MRTP –designated companies in India since 1991.
To accelerate industrial growth and economic development, quantitative restrictions on imports have been virtually abolished and tariffs were reduced. The peak custom’s duty rate was reduced in FY 1991-92 from 150% to just 35% in 2001 and it was further reduced to just 10 % in 2007. India achieved current –account convertibility in 1994 by removing exchange controls on current-account transactions.
Since 1991, both FDI and portfolio investment have been liberalised. Foreign Institutional Investors (FIIs) have been permitted to invest in shares of listed companies in the Indian stock market from 1993 onwards.
In 1991, automatic approval for FDI projects with up to 51% of foreign equity in 34 specified sectors was introduced. Now, FDI is being allowed in almost in all sectors except gambling, lottery, retail trade (except single brand), defense, atomic energy and railways. Now, many sectors have opened for 100% foreign ownership without Indian government prior approval. Since 1991, as balance of payments has improved, Indian government has gradually relaxed its foreign-exchange restrictions on foreign investments.
In the post reform phase, India recorded an average economic growth rate of 6.5% per annum which included growth acceleration to 8.9% per annum since FY 2003-04. Further, poverty rate in India decreased from 26.1% in 1991 to 21.8% in 2007. It is to be noted that services sector, led by insurance, communication and information technology services which has outperformed other sectors.
Foreign Direct Investment (FDI)

FDI increased by ten percent in December 2009 to $1.5 billion as compared to $1.36 billion in December 2008. This is the third consecutive month that FDI inflows have posted a vibrant year-on-year increases. (NASSCOM Mint Report 2010).
BPO Industry performance and FDI in BPO Sector in India.

year Exports (USD bn) Domestic (INR bn)
FY 08-09 47.1 590
FY 09-10 49.7 662
FY 10-11 (outlook) 56-57 761-775

BPO sector has accounted for over 10 percent of the total FDI investment in India in the last decade alone.


Source: http://www.nasscom.in/Nasscom/templates/NormalPage.aspx?id=58639

Outflow Foreign Direct Investment (OFDI)

Since 2000, India has been accumulating its OFDI (Outward Foreign Direct Investment) stocks. As of March 2008, India had invested about USD 49.8 billion in overseas stock which is a landmark development as considering just USD 3.7 billion in 2000. Though, in global level, India occupied 36th rank in OFDI in 2008 having 0.3% in 2008, among developing nations, India has gradually enhanced its dominance thereby becoming 13th largest nation in terms of OFDI stock in 2007. The lion’s share of India’s OFDI was parked in the developed countries and in 2006 about 32.3% was invested in stocks of developed nations. The major OFDI investment in developed nations by India mirrors trade-backing OFDI projects in these developed nations and acquisition of strategic assets have become a vital strategy for many Indian companies to enhance their competitiveness in an ever increasing competing environment.
Bilateral Investment Promotion Agreements (BIPAs)

With the help of BIPAs and double taxation avoidance agreements, government is able to increase the flow of FDI into India. Foreign investors in India have been offered strong guarantees in the post –establishment phase on fair and equitable treatment, national treatment, and non-expropriation without fair compensation, free repatriation of capital and profits and access to International arbitration. Further, to encourage more flow of FDI, double taxation agreement has removed tax disadvantages for MNCs functioning in India.
India is the largest recipient among developing economies in 2007
India has recorded a 3.6 times higher FDI in FY 2006-07 alone as compared to in the year 2003-04. An inflow of USD 34.4 billion in FY 2007 -08 which was in excess of government targeted figure of USD25 billion. It is to be noted that the aggregate of FDI inflows both to the whole world and to the developing world almost tripled from 2003 to 2007, in India, FDI inflows have rose more than five times during the analogues period. India was ranked in the 8th place in the size of FDI flows among developing nations with four percent of total FDI flows to developing economies.
Statistics of FDI inflows in India

CUMULATIVE FDI FLOWS INTO INDIA (1991 -2010).

1 Cumulative Amount of FDI Flows into India
[from April 2000 to March 2010]
(Equity inflows + including data on “Re-invested earnings ‘& Other Capital “which is available from April 2000 onwards. These are the estimates on an average basis, based upon data for the previous two years, published by RBI in their Monthly Bulletin. In INR In USD

USD 1,61,546 million
2 Cumulative Amount of FDI Equity Inflows
( from August 1991 to March 2010) Rs 5,77,108 Crores USD 1,32,428 million
Note: FDI inflows include amount received on account of advance pending for issuing of shares for the year 1999 to 2004.

Source: DIPP, March, 2010
Year –wise FDI Equity Inflows in to India – A comparison

In Rupees in Crores In USD million
2009-10 ( Up to March 2010 ) 123,377 25,888
2008-09 ( Up to March 2009) 123,025 27,331
% of growth over last year (+ ) 03% (-) 05 %
Source: DIPP, March, 2010
Current Position of country wise FDI flow into India

Ranks Country Cumulative Inflows
( April 2000 to March 2010 )
Rupees in crores Cumulative Inflows
( April 2000 to March 2010 )
USD in millions % to total inflows ( in terms of US $)
1 Mauritius 210,906
47,240 43%
2 Singapore 45,147
10,190 9%
3 U.S.A 37,190
8,278) 8%
4 U.K 25,998
5,884 5%
5 Netherlands 20,126
4487 4%
6 Cyprus 17,777
3899 4%
7 Japan 16,895
3714 3%
8 Germany 12,468
2799 3%
9 U.A.E 7,023
1,549 1%
10 France 6,919
1,530 1%
Total FDI Inflows into India 516,503
115,728
Source: DIPP, March, 2010

Note: (i) Indicates inflows under NRI Scheme of RBI, stock swapped and advances pending for issue of shares.
(ii) Cumulative Country –wise FDI equity inflows (from April 2000 to March 2010) – Annex A
( iii) % worked out in US$ terms and FDI inflows received through FIPB / SIA + RBI’s Automatic Route + acquisition of existing shares only.



Sector wise FDI Investment in India

Ranks Sector Cumulative Inflows
( April 2000 to March 2010 )
Rupees in crores Cumulative Inflows
( April 2000 to March 2010 )
USD in millions % to total inflows ( in terms of US $)
1 Service Sector
( financial & non-financial) 105,411
23,640 21%
2 Computer Software and Hardware 43,846
9872
9%
3 Telecommunications
( radio, paging ,cellular mobile , basic telephone services) 40,706 8931 8%
4 Housing & Real Estate 37,369 8357 8%
5 Construction Activities
(including roads & Highways) 35,721 8059 7%
6 Power 20,919 4,627 4%
7 Automobile Industry 20,677 4,565 4%
8 Metallurgical Industries 13,440 3,130 3%
9 Petroleum & Natural Gas 11,504 2,666 2%
10 Chemicals ( other than fertilizers) 11,274 2,496 2%

Source: DIPP, March, 2010




However, FDI inflows in India do not play a pivotal role in capital formation. FDI in India constituted about 4.7% of gross fixed capital formation over 2004-06 which is much lower than the 10.6 percent found in developing Asia , 12.4% in developing nations and 10.4% in the globe as whole. However, India stood at 35th and 13th largest destination for FDI stock which reached USD 118.3 billion in March 2008. India’s FDI stock accounted for 0.5% of aggregate of stocks in the world and 1.5% of FDI stocks in the developing nation.
India’s FDIs stock increased to 10.4% in FY 2007-08 as a ratio to GDP but this number is much lesser than the average ratio of 27.8% in the world as a whole and 29.2% in the developing world in 2007.
Bottlenecks in attracting FDI into India

Statistics about FDI flows to developing nations in 2007

China 14%
Hong Kong ( China) 10%
Russia 9%
Brazil 6%
Mexico 4.2%
Saudi Arabia 4.2%
Singapore 4.1%
India 4%

Why India is in 10th place in attracting FDI into India? Why it has been relegated to the 10th place in attracting FDI. Definitely it is due to rigorous administrative procedures that a recipient company has to follow in case of receipt of foreign investment in India.

Foreign investors wanted to know whether their investments would be safe in India and whether they could rely on the local legal system for redress of grievances. Unlike China, India is a democracy and there is the rule of the law in India. However, there is lack of an effective and expeditious alternative dispute resolution mechanism which India should strengthen in this gamut of law.
Further, in India, administrative procedure is more cumbersome and stringent. On receipt of FDI, investee has to report to RBI through his banker within 30 days and allotment has to be made within six months of receipt of funds. Non-observance of this procedure lands a recipient company in a serious trouble. As RBI officials are toothed with extraordinary authority to levy penalty for simple, non-intentional failure to report to RBI, fine to the tune of three or four times of FDI received are levied by RBI officials arbitrarily.
According to Chartered Accountant’s Association, Mumbai, in one case, an OCB invested in India rupees 8.5 crores (approximately) with the prior approval of FIPB. The OCB wanted to set up a power plant in Chhattisgarh. There was a condition of local participation up to 40per cent. For four years they ran from pillar to post for several Government permissions.
Neither they got Government permission nor could they find a local investor. Ultimately, they were frustrated and gave up the project. Hence they transferred the funds to a sister company where the OCB already had some investments. The Company delayed in filing intimation. The Company could not allot shares to OCB as it could not locate a local
investor which was a pre-condition of FIPB approval. In the meanwhile, RBI issued Circular No. 20 dated 14.12.2007 prohibiting allotment of shares beyond 180 days of receipt of funds.
For these offenses, RBI imposed a Compounding sum of more than Rs. 3 crores! Company admits the violations of non-intimation, non-filing of forms; and step down investment. Still, such a stiff penalty for all procedural violations where there is no foreign exchange loss and nothing illegal or immoral!!!
Policy Changes to attract more FDI into India
To be at par with China in attracting FDI, Indian government should introduce the following policy changes in FDI policy;
• Indian government should come forward to relax the FDI sector gaps in the sectors like retail trade ,insurance and banking and should review regularly the remaining FDI limitations to evaluate whether their cost do not overshadow their anticipated advantages.
• As a basis for cross-state monitoring of FDI performance, India should develop a system of comparable FDI statistics for union territories and states.
• Indian government should carry out a detailed study into the design of mechanisms that can be used by it to stimulate states to strengthen the investment approval procedures.
• By employing OECD’s Checklists for FDI incentive policies as a reference, Indian government should convene a study and or establishing an inter-state forum to evaluate the benefits and costs of investment incentive, their openness and their effect on other states.
• Fortifying implementation of measures to enhance the corporate responsibility and transparency to fine tune India more closely with internationally –acknowledged practices and standards.
Conclusion
RBI has issued a new circular for compounding under FEMA - RBI/2009-10/ 56 A.P. (DIR Series) Circular No. 56 dated June 28, 2010. With this the directions contained in the compounding of contravention/s issued vide A.P. (DIR Series) Circular No.31 dated February 1, 2005 are superseded by this circular. However, Government should come forward to liberalise further by taking bold steps for compounding of non-intentional, non-pecuniary reporting offenses by investee companies under FEMA.
If India really wants to have maximum economic development and to attain the status of economic super power by the year 2020, it should ease the FDI norms and should further liberalise its FDI reporting procedures. An investee company should be allowed to report to RBI within 6 months of receipt of FDI and allotment has to be made within one year from receipt of funds. Further, a separate ombudsman like appellate authority should be created for the redressal of grievances in case of lapse or failure to report the receipt of FDI .In case of non-intentional, non-mens rea lapses, mere warning should be given to the erring investee companies rather than levying hefty fines which is unwarranted. Government should send a study team to China, Hongkong, Brazil, Mexico etc to have a glimpse over their procedures for FDI in these nations and on basis of recommendation of such committee, India should liberalise further its procedures for attracting more FDI in par with the China so that it could be turn itself as economic superpower by the turn of 2020.


List of References
OECD (2010). OECD Investment Policy Reviews: India 2009. New York: OECD Publications.
Nasscom. (4 February 2010) Mint Report from Nasscom. Available from http://www.nasscom.in/Nasscom/templates/NormalPage.aspx?id=58649
Nasscom. (4 February 2010). Indian IT-BPO Industry Exports Touches USD 50 Billion. Available from http://www.nasscom.in/Nasscom/templates/NormalPage.aspx?id=58639