FDI in India: An analysis on the impact of FDI in India’s Retail

sector

By Subhajit Ray

3rd year student

Department of HSS, IIT Kharagpur

This presentation aims to briefly discuss the critical aspects of FDI in India, present a case study on the success of reforms in the telecommunications sector, analyze both sides of the arguments currently going on regarding FDI in retail and conclude with suggestive measures on the part of the government which can eliminate the negative effects of allowing FDI in India’s retail sector.

What is FDI?

Investment made to acquire lasting interests in enterprises operating outside of the economy of the investor.Consists of a parent enterprise and foreign affiliate which together form a MNC.

Eg: Hero Honda

Why FDI?

No debt creation on the part of the government.

Triggers technology transfer.Assists Human capital formation.Contributes to international integration by

promoting exports.Increases productivity and

competitiveness.

Improves efficiency of resources.Promotes innovation.

Drawbacks of FDI

Local firms may loose business because of the oligopolistic power of foreign firms.

The repatriation of profit may drain out the capital of the host country.

Local population may be displaced out of their jobs if they are unable to cope with the technologically advanced foreign firms.

Assessing the impact of FDI on host economy-Review of literatures.

FDI may have a negative impact on the growth of the developing countries (Singer,1950; Griffin, 1970).

Hanson (2001) argues that evidence that FDI generates positive spillovers for host countries is weak.

FDI could have a favorable short-term effect on growth as it expands the economic activity. However, in the long run it reduces the growth rate due to dependency, particularly due to “decapitalization” (Bornschier, 1980).

Aitken, et al. (1997) showed the external effect of FDI on export with example of Bangladesh, where the entry of a single Korean Multinational in garment exports led to the establishment of a number of domestic export firms, creating the country’s largest export industry.

Hu and Khan (1997) attribute the spectacular growth rate of Chinese economy during 1952 to 1994 to the productivity gains largely due to market oriented reforms.

A study by Xu (2000) concluded that in order to benefit from the technology transfer by the MNEs a country needs to achieve a basic minimum human capital threshold.

Studies on FDI in India Banga (2005) demonstrates that FDI, trade and

technological progress have differential impact on wages and employment.

Higher extent of FDI in an industry leads to higher wage rate, it has no impact on its employment.

Higher export intensity of an industry increases employment in the industry but has no effect on its wage rate.

Import of technology has unfavorably affected employment in India. The study by Sharma (2000) concluded that FDI does not have a statistically significant role in the export promotion in Indian Economy.

“FDI is not growth stimulant rather it is growth resultant.”

Study by Sahoo and Mathiyazhagan (2003) support the view that FDI in India is not able to enhance the growth of the economy.

Pailwar (2001) argues that the foreign firms are more interested in the large Indian market rather than aiming for the global market.

Export oriented sectors should be opened up for FDI so that a higher growth of the economy could be achieved through the growth of these sectors.

FDI policy in India:

Currently FDI is permitted: a) Through financial collaborations. b) Through Joint Ventures and technical

collaborations. c) Through preferential allotments. India had opened up its economy and allowed

MNEs in the core sectors such as Power and Fuels, Electrical Equipments, Transport, Chemicals, Food Processing, Metallurgical, Drugs and Pharmaceuticals, Textiles, and Industrial Machinery as a part of reform process started in the beginning of 1990s.

Telecommunications, Banking, Insurance, Hotel & Tourism, IT.

Mining of titanium keeping India's civilian nuclear ambitions in mind upto100%,a mineral which is abundant in India.

single Brand product retailing where Foreign Investment up to 51% is permitted with prior Government approval. Major debate going on about approving FDI in India’s Retail sector.

Currently FDI is also allowed in:

Year wise FDI inflow in the post reforms era (1990-2001)

2439

0 1000 2000 3000 4000

1992-1993

1993-1994

1994-1995

1995-1996

1996-1997

1997-1998

1998-1999

1999-2000

US $ MILLIONS

FDI

3776337838

0 10000 20000 30000 40000

2000-2001

2001-2002

2002-2003

2003-2004

2004-2005

2005-2006

2006-2007

2007-2008

2008-2009

2009-2010

US $ MILLIONS

FDI

37763

Year wise revised FDI Inflow since 2000-2001 with

expended coverage to approach International

Best Practices.

The growth of FDI inflows in India was not significant until 1991 due to the regulatory policy framework.

There has been a steady build up in the actual FDI inflows in the post-liberalization period. Actual inflows have steadily increased from US $ 143.6 million in 1991 to US $ 37,763 million in 2010.

the pace of FDI inflows to India has definitely been slower than some of the smaller developing countries like Indonesia, Thailand, Malaysia and Vietnam.

India had registered a declining trend of FDI inflows and the FDI- GDP ratio especially in 1998 and 2003 could be attributed to many factors, including the US sanctions imposed in the aftermath of the nuclear tests and Swadeshi movements.

But since 2006 India has seen a remarkably higher growth of FDI in accordance with the general trends of the global economy with a slight dip in the year 2009-2010.

Capital goods sector has more or less been bypassed by FDI. This clearly points out the tendency of foreign investment to exploit the pent up domestic demand for consumer durable goods.

A gradual increase in the mergers and acquisitions during the 1990s which show a tendency of FDI inflows to acquire existing industrial assets and managerial control without actually engaging in new productive activities (Nagraj, 2006).

Top Investors in India:

42

97

54 4 4

2 2

19

0

5

10

15

20

25

30

35

40

45

%a

ge

to

to

tal

Infl

ow

s (

in t

erm

s

of

US

$)

%

Telecommunications sector- A success story

large number of private operators started operating in the basic/mobile telephony and Internet domains after several series of reforms in the telecom sector. FDI is permitted up to 74% with FDI, beyond 49% requiring Government approval.

As a result of the New Telecom Policy 1999 (NTP99) Total FDI in telecom is currently over US $ 15 billion.

Tremendous improvement in infrastructure, lowest tariff rates in the world and over 250 million users.

In 2007-2008 Vodafone took over Hutch for about US $ 11 billion.

Retail Sector in IndiaRetail industry in India is one of the fastest

growing. Contributes 14% to the national GDP and

employs 7% of the total workforce.The retail industry is divided into organised

and unorganised sectors. Organised trade employs roughly 5 lakh

people whereas the unorganized retail trade employs nearly 3.95 crores.

Growth in Retail as a result of economic expansion as well as jobless growth.

Major arguments against adoption of FDI in Retail in India:

FDI driven modern retailing is labour displacing.

It can only expand by destroying the traditional retail sector.

Foreign retail firms have deep pockets and can cause even the organized retail sector to go out of business.

Will buy big from India and abroad and be able to sell low. When monopoly situation is created will will buy low and sell high.

It is true that it is in the consumer’s best interest to obtain his goods and services at the lowest possible price. But collective well being should take precedence.

Major arguments in favour of adoption of FDI in Retail in India:

Will improve back-end infrastructure, and ultimately reduce post-harvest losses and other wastage.

Farmers will get a better price, easy credit availability will help tackle the problem of farmer suicides.

We must differentiate between the interests of consumers, who constitute our population of nearly 115 crore, from the interests of retailers, who may number over 5 crore.

Lower prices psychologically propel buyers to spend more than they otherwise would. The resulting growth in private consumption creates jobs.

Inflation is controlled.

The tax revenue collected by the government can be used for infrastructure development.

Similar negative arguments were used during the era of industrial licensing, which was meant to protect small-scale industries.

India will become more integrated with regional and global economies in terms of quality standards and consumer expectations.

Suggestive measures to eliminate the negative effects of FDI in Retail

FDI should be aggressively promoted in R&D, Manufacturing, Entertainment to accommodate the people who have lost their jobs.

Import duty should be imposed to protect domestic production units.

Labour laws should be imposed to ensure that no management jobs are outsourced.

Jobs should be reserved for the poor people.

Hindi and local languages as a mode of operation should be encouraged.

Cooperative societies should be formed for the farmers and other agricultural suppliers to take care of their rights.

The foreign retail units should be made to divest a certain percentage of their equity in the Indian financial markets.

Social infrastructure like schools, colleges and hospitals should be developed to promote human capital formation

References:

Economic Reforms, Foreign Direct Investment and its Economic Effects in India by Chandana Chakraborty Peter Nunnenkamp. March 2006.

India’s Economic Growth and the Role of Foreign Direct Investment: By Lakhwinder Singh 2006. FDI in India’s Retail Sector More Bad than Good? By Mohan Guruswamy Kamal Sharma Jeevan

Prakash Mohanty Thomas J. Korah Rethinking the linkages between foreign direct investment and development: a third world

perspective By: Shashank P. Kumar India’s FDI inflows Trends and Concepts By K.S. Chalapati Rao & Biswajit Dhar Impact of liberalization on FDI structure in India. By Dr. Gulshan Kumar. Impact of foreign direct investment on Indian economy: A sectoral level analysis. By Dr Maathai

K. Mathiyazhagan. Foreign Direct Investment in Post-Reform India: Likely to Work Wonders for Regional Development? By Peter Nunnenkamp and Rudi Stracke. FDI in India in the 1990s. Trends and issues. By R Nagaraj. China and India: Any difference in their FDI performances? By Wenhui Wei. June 2005 Fact sheet on FDI in India by the Planning Commission. Data on GDP growth rate from the Planning Commisiion. Wikipedia.com Planningcommission.nic.in