FOREIGN DIRECT INVESTMENT (FDI)
1. Context
The Indian economy grew at 7.8 per cent in the first quarter of the ongoing financial year. Forecasts by most analysts, including those by the RBI, indicate that the country is likely to grow at around 6-6.5 per cent over the full year. Medium-term assessments, such as those by the IMF, peg growth at roughly 6 per cent between 2023 and 2028.
2. FDI in India
- India's net foreign direct investment (FDI) inflows experienced a decline, decreasing by nearly 31% to $25.5 billion during the first 10 months of the 2023-24 fiscal year. The Finance Ministry attributed this decline to a broader trend of slowing investments in developing countries, while expressing optimism for a potential increase in investments in the current calendar year.
- Although global FDI flows overall saw a 3% rise to approximately $1.4 trillion in 2023, economic uncertainty and elevated interest rates impacted global investment, resulting in a 9% decrease in FDI flows to developing nations, as outlined in the Ministry's February assessment of economic performance.
- Reflecting the global trend of reduced FDI flows to developing countries, gross FDI inflows to India also experienced a slight decline, from $61.7 billion to $59.5 billion during the period from April 2023 to January 2024. In terms of net inflows, the corresponding figures were $25.5 billion versus $36.8 billion. The decrease in net inflows was primarily attributed to an increase in repatriation, while the decline in gross inflows was minimal.
- While a modest uptick in global FDI flows is anticipated for the current calendar year, attributed to a decrease in inflation and borrowing costs in major markets that could stabilize financing conditions for international investment, significant risks persist, according to the Ministry. These risks include geopolitical tensions, elevated debt levels in numerous countries, and concerns regarding further fragmentation of the global economy
3. Foreign Direct Investment (FDI)
Foreign Direct Investment (FDI) refers to the investment made by individuals, businesses, or governments from one country (the home country) into another country (the host country) with the objective of establishing a lasting interest or significant degree of influence in the foreign business or enterprise
Key Aspects:
- FDI involves the transfer of funds and resources from one country to another. This capital inflow can help stimulate economic growth in the host country by providing funds for investment in infrastructure, technology, and other areas.
- FDI often leads to the creation of jobs in the host country. When foreign companies establish subsidiaries or invest in existing businesses, they typically hire local employees, which can help reduce unemployment and improve living standards
- Foreign investors often bring advanced technologies, processes, and management practices to the host country. This technology transfer can enhance the host country's productivity, competitiveness, and industrial capabilities
- FDI can provide access to new markets for both the host country and the investing company. Foreign investors can tap into the host country's consumer base, while the host country gains access to the investing company's global distribution networks.
- FDI can contribute to overall economic development in the host country by promoting industrialization, improving infrastructure, and fostering innovation and entrepreneurship.
4.FDI Routes in India
India has several routes through which Foreign Direct Investment (FDI) can enter the country. These routes are regulated by the Reserve Bank of India (RBI) and the Department for Promotion of Industry and Internal Trade (DPIIT), and they define the conditions, limits, and sectors in which FDI is allowed
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Automatic Route: Under the automatic route, FDI is allowed without the need for prior approval from the RBI or the government. Investors only need to notify the RBI within a specified time frame after the investment is made. This route is available for most sectors, except those that are prohibited or require government approval.
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Government Route: In sectors or activities that are not covered under the automatic route, FDI requires government approval. Investors must apply for approval through the Foreign Investment Facilitation Portal (FIFP) or the Foreign Investment Promotion Board (FIPB), depending on the sector.
4.1. Examples
- Under the automatic route, FDI of up to 100% is allowed for manufacturing of automobiles and components.
- For the manufacturing of electric vehicles (EVs), 100% FDI is allowed under the automatic route.
- In single-brand retail trading, 100% FDI is allowed, with up to 49% allowed under the automatic route. Beyond 49%, government approval is required.
- Multi-brand retail trading (supermarkets and department stores) with FDI is permitted in some states, subject to certain conditions and restrictions. The FDI limit is typically capped at 51%.
- FDI in the insurance sector is allowed up to 74%, with up to 49% under the automatic route. Beyond 49%, government approval is needed
- In the telecom sector, 100% FDI is allowed, with up to 49% under the automatic route. Beyond 49%, government approval is required
- In the defense sector, FDI up to 74% is allowed under the automatic route, with government approval required for investments beyond 49%
- In most segments of the media and broadcasting sector, including print and digital media, 100% FDI is allowed, with up to 49% under the automatic route
4.2.Sectors where FDI Prohibited
- FDI is prohibited in the atomic energy sector, which includes activities related to the production of atomic energy and nuclear power generation.
- FDI is generally prohibited in the gambling and betting industry, which includes casinos and online betting platforms
- FDI is not allowed in the lottery business, except for state-run lotteries
- FDI is prohibited in chit funds, which are traditional Indian savings and credit schemes.
- Nidhi companies are non-banking finance companies (NBFCs) that facilitate mutual benefit funds. FDI is typically not permitted in these entities
- While FDI is allowed in single-brand retail trading, it is generally prohibited in multi-brand retail trading of agricultural products. Some states have allowed it under specific conditions, but this remains a highly regulated area.
- FDI is not allowed in the trading of transferable development rights (TDRs) pertaining to the construction of real estate
5. Foreign Portfolio Investors (FPIs)
Foreign Portfolio Investors (FPIs) refer to foreign individuals, institutions, or funds that invest in financial assets in a country, such as stocks, bonds, mutual funds, and other securities. FPIs are distinct from Foreign Direct Investors (FDIs), who typically make long-term investments in companies and assets to establish a lasting interest
Key Aspects:
- FPIs invest in a country's financial markets, primarily by buying and selling securities traded on stock exchanges and fixed-income instruments like bonds and government securities
- FPIs often seek to diversify their investment portfolios by spreading their investments across different asset classes, sectors, and countries. This diversification helps manage risk and enhance returns
- FPIs have the flexibility to buy and sell securities in the secondary market, providing liquidity to the market and contributing to price discovery
- FPIs typically have a shorter investment horizon compared to Foreign Direct Investors (FDIs). They may engage in short-term trading or hold securities for a few months to a few years.
- FPIs are subject to regulatory frameworks and restrictions in the countries where they invest. These regulations are designed to ensure that foreign investments do not pose undue risks to the local financial markets and economy.
6.Foreign Portfolio vs. Foreign Direct Investment
| FPI (Foreign Portfolio Investment) | FDI (Foreign Direct Investment) |
| FPI involves the purchase of financial assets such as stocks, bonds, mutual funds, and other securities in a foreign country. These investments are typically made with the intention of earning returns on capital and do not result in significant control or ownership of the underlying businesses | FDI entails making an investment in a foreign country with the primary objective of establishing a lasting interest and significant control or influence over a business enterprise or physical assets. FDI often involves the acquisition of a substantial ownership stake (typically at least 10%) in a company or the establishment of new business operations. |
| FPI is generally characterized by a shorter investment horizon. Investors in FPI may engage in trading and portfolio rebalancing activities, and their investments are often more liquid. The focus is on earning capital gains and income from investments. | FDI is characterized by a longer-term commitment. Investors in FDI intend to engage in the day-to-day management or decision-making of the business, contribute to its growth and development, and generate profits over an extended period. |
| FPI investors typically have little to no influence or control over the companies in which they invest. They are passive investors who participate in the financial markets and rely on market dynamics to drive returns. | FDI investors actively participate in the management and decision-making of the businesses they invest in. They often seek to exercise control over company operations and strategy, which may include appointing board members or key executives. |
| FPI investments are often made through financial instruments like stocks, bonds, and securities. Investors may use instruments like mutual funds or exchange-traded funds (ETFs) to gain exposure to foreign markets | FDI investments involve a direct equity stake in a company, either through share acquisition or the establishment of a subsidiary or branch in the host country. FDI can also involve the purchase of real assets such as land, factories, or infrastructure |
| FPI can provide short-term capital inflows, but it may be more susceptible to market volatility and sudden capital outflows. It may not have as direct an impact on job creation and economic development as FDI. | FDI often contributes to long-term economic development by creating jobs, stimulating infrastructure development, transferring technology and expertise, and enhancing the competitiveness of local industries |
| FPI investments are subject to regulations that vary by country and may include foreign ownership limits, reporting requirements, and tax considerations. | FDI is subject to regulations that can be more stringent and may involve government approval, sector-specific conditions, and investment protection measures |
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For Prelims: Economic and Social Development-Sustainable Development, Poverty, Inclusion, Demographics, Social Sector Initiatives, etc
For Mains: General Studies III: Indian Economy and issues relating to planning, mobilization, of resources, growth, development and employment
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Previous Year Questions
1. Both Foreign Direct Investments (FDI) and Foreign Institutional Investor (FII) are related to investment in a country. (UPSC CSE 2011)
Which one of the following statements best represents an important difference between the two?
A.FII helps bring better management skills and technology, while FDI only brings in capital
B.FII helps in increasing capital availability in general, while FDI only targets specific sectors C.FDI flows only into the secondary markets, while FII targets primary market
D.FII is considered to the more stable than FDI
Answer (B)
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Source: indianexpress
