On June 20, Indian Prime Minister Narendra Modi revealed India was further easing its foreign direct investment (FDI) restrictions, which he maintained would see the country become “the most open economy in the world for FDI”. The premier also expects the move will act as a significant impetus for both infrastructure development and much-needed job creation among the country’s 1.3 billion people.
Interestingly, Modi’s FDI plans were revealed just two days after the unexpected news that Raghuram Rajan would step down from his role as Governor of India’s central bank in September. An industry veteran, Rajan is greatly esteemed across the globe, particularly for the pivotal role he has played in ushering in a new era of macroeconomic stability in India. The news of his imminent departure rattled India’s markets accordingly.
Modi’s surprise plans, however, swiftly eased investor concerns, suggesting they were being used as a mechanism for damage control, particularly given their immediacy and publication in a Prime Minister’s Office press release, as opposed to a formal ministerial decision.
This is not the first time FDI has been used as a way of alleviating market disturbances. In a note published by the Eurasia Group, Asia Analyst Sasha Riser-Kositsky wrote: “The FDI move echoes policy changes adopted last November, when the government announced FDI liberalisation across 15 sectors days after the nationally ruling Bharatiya Janata Party lost the Bihar state election.” This pattern of quick-fire FDI regulations therefore raises questions regarding their substantiality and how well considered they truly are.
Driving up FDI
The continued easing of FDI rules is but the latest in a string of developments pushed by Modi in a bid to modernise the country’s economy and make it a top global player. Indeed, they come in line with Modi’s movements since taking the helm in May 2014, which has seen him travel almost incessantly to strike deals and forge partnerships with political and business leaders around the world.
Initial efforts to liberalise the Indian economy are evidenced by a 29 percent jump in FDI, going from $30.93bn in FY 2014/15 to $40.46bn for FY 2015/16. The latest amendments themselves are expected to further improve the ease of doing business in India, while also providing a specific boost for civil aviation, defence, pharmaceuticals, food retail and single brand retail. That being said, there is a strong case for the argument that the impact of Modi’s new rules has been somewhat overestimated.
Efforts to liberalise the Indian economy are evidenced by a 29 percent jump in FDI
In aviation, governmental approval can now be given for 100 percent FDI into both brownfield and greenfield airport projects, as well as for foreign investors seeking a stake greater than 49 percent in an Indian airline. Foreign carriers, however, still cannot purchase shares exceeding 49 percent in an Indian airline. This means Singapore Airlines and AirAsia, for example, continue to be blocked from increasing their current stakes in Vistara and AirAsia India respectively.
As such, given foreign investment into Indian carriers is expected to be restricted to international airlines, uptake in this sector is likely to remain slow, detracting from the purported aim of the new rules: to enhance FDI in India’s aviation sector.
“The new policy may not have much practical value, because portfolio investors already invest in listed airline companies”, explained KS Chalapati Rao, Professor at the New Delhi-based Institute for Studies in Industrial Development. “Since the promoters would have some controlling stakes, foreign portfolio investors can never reach the 100 percent mark.”
Make in India
As for the defence sector, Modi’s new rules see the previous condition of investment – where foreign firms had to import ‘state-of-the-art technology’ for investments exceeding 49 percent – relaxed, while foreign investors can now own up to 100 percent of Indian defence enterprises if approved by the state. The move aligns with Modi’s ‘Make in India’ campaign, which he hopes will make India a weapons powerhouse by ring-fencing over $100bn-worth of defence deals for locally made weapons over the next decade.
Yet even with the new FDI rules, Modi still has not addressed the looming challenges with which foreign firms are faced, including impractical quality requirements, dense procedures and sluggish decision-making. Despite Make in India having been launched over a year ago, not a single sizeable domestic arms deal has been made, adding doubts to the achievability of Modi’s ambitious aims for the sector unless the red tape issue is properly addressed.
In the case of the pharmaceutical industry, the new rules are expected to shorten the long delays experienced in the past by state-approved foreign takeovers. Specifically, overseas parties can now own up to 74 percent in brownfield pharmaceutical companies and projects, but will require state permission for the final 26 percent.
However, again the revised regulations are a double-edged sword: the African market, for example, benefits enormously from HIV and AIDs medication that is made in India and purchased at a far lower price than US-produced counterparts. Yet now, with pharmaceutical giants from the US and elsewhere entering the Indian market with greater ease, the prices of such treatments are likely to increase, making them unaffordable for many of the states that currently rely on Indian imports.
According to Rao: “In [the] case of pharma, the essential problem is loss of control on domestic industry which has been nurtured over the years. There has been no restriction of FDI in greenfield investments. The new policy will definitely encourage M&As, and more FDI may enter. But the real issue is whether displacing Indian entrepreneurs is necessarily in the interest of India. And for that matter, for making drugs available at affordable prices globally.”
Checking the fine print
As part of the changes, single-brand foreign retailers have a three-year reprieve from local source requirements, which necessitates that a minimum of 30 percent of their manufacturing materials are supplied by domestic vendors. Following this grace period, rules for foreign parties that sell ‘cutting edge’ and ‘state-of-the-art’ technology will be relaxed further for the following five years. The news was welcomed by the likes of Apple, which has been trying to tap into India’s colossal smartphone market for some time.
Single-brand foreign retailers have a three-year reprieve from local source requirements
Nonetheless, a fair amount of confusion has arisen as a result of the vague wording used for the new single-brand retail rules, with many questioning whether the three-year grace period applies to all types of companies and, if not, what exactly the government classes as ‘cutting edge’ technology. As such, barriers to foreign firms entering India’s retail market remain, which may well be exacerbated by the arduous bureaucracy that will surely emerge when processing individual queries and requests as a result of the new rules.
As Riser-Kositsky told World Finance: “The real remaining barriers to investment and opening the economy are not the headline foreign ownership caps, where they still exist, but in the fine print that follows… Permission to open shop requires navigating a maze of licensing requirements at the state and local level that are not immune from potential interference by unfriendly politicians.”
Multi-brand retail, on the other hand, is even more of a hurdle for foreign investors, with continued restrictions in place for sourcing, location and back-end infrastructure. This means that, for example, India’s growing middle-class remains out of reach for multinational supermarkets such as Carrefour and Walmart, which would also have to deal with a probable backlash from the country’s vast number of shopkeepers.
At a crossroads
Despite the enormous appeal of the Indian market, many investors have long held themselves back from it as a result of the country’s infamous red tape, numerous restrictions and slow-moving bureaucracy. Although Modi’s newest rules have been seen as a strong indicator of India’s eagerness to open up the economy to foreign investment, the impact that is likely to transpire is slight. Rao commented: “The recent policy changes in India cannot be termed as radical because they are a continuation of the process which started a quarter century back. Much of the economy is already wide open.”
Dr Biswajit Dhar, Professor at Jawaharlal Nehru University’s Centre for Economic Studies and Planning, told World Finance: “In my view, the recent decision may not make a big impact on the Indian economy, since foreign investors may end up viewing these latest set of changes in the FDI regime only as one further step towards lifting of all restrictions. So much ground has been covered already that these changes would not appear to be very significant.”
Understandably, Modi is eager to make India a global economic power, which can be seen by his extensive travels and damage control approach when markets are rattled. As such, a major arm of the Prime Minister’s strategy appears to be playing to the tune that foreign investors want to hear.
However, true economic development does not happen in one lifetime, let alone one term. It is a highly complex process, particularly in the case of India, with its mammoth population, cultural nuances, colonial past and ongoing economic divide. Consequently, policies must be carefully considered for the actual impact they will have, as opposed to what can be viewed as mere lip service to international investors, the latter of which may grow weary of so-called changes that don’t actually make any difference.