Analysing India’s FDI flows

Over the past decade, India has become an attractive investment hub, attracting foreign investments, particularly from Mauritius and Singapore, which have consistently ranked among the top five investing countries. In FY23, India received $46.03 billion in FDI equity inflows, a decrease from the $58.77 billion recorded in FY22.

FDI remains vital for bolstering domestic industry, stimulating growth, and enhancing global competitiveness. Nevertheless, as India’s international ties deepen, it must carefully consider the potential risks of providing foreign investors unfettered access to critical sectors.

Sector-specific analysis of DPIIT data highlights a notable trend: despite the government’s Make in India initiative, more than 90 per cent of investment has funnelled into non-manufacturing sectors, with the manufacturing sector predominantly receiving non-greenfield investments.

Within sectors, there’s a heterogeneous composition. In 2022, the services sector saw the lion’s share of investment, with the financial sector leading, while research and development received a mere 0.2 per cent (the lowest).

Similarly, the computer software and hardware sector attracted a significant portion of inflows, constituting nearly 31 per cent of the total. However, the bulk of investments went into computer software (0.2 per cent in hardware), largely due to ICT industry acquisitions. These sectors deal with sensitive and critical data, including personal and geographical information, making them data-rich and vulnerable. Dependence on foreign solutions increases the risk of exploitation, underscoring the need for proactive security measures.

Regional disparities

Regional disparities in FDI have widened over the years, with FDI-attracting States maintaining their dominance while others miss out on its positive spillover effects. In 2023, the top 10 States attracting FDI include Maharashtra (28.6 per cent), Karnataka (23.6 per cent), Gujarat (16.9 per cent), Delhi (13.3 per cent), Tamil Nadu (4.5 per cent), Haryana (4.15 per cent), Telangana (2.5 per cent), Jharkhand (1.4 per cent), Rajasthan (1.1 per cent), and West Bengal (0.7 per cent), leaving the remaining 22 States sharing a mere 2.4 per cent of FDI.

This skewed distribution hampers the development and competitiveness of States. The Southern and western States of Gujarat, Maharashtra, Tamil Nadu, and Karnataka boast more favourable investment environments compared to their northern counterparts.

Under the consolidated FDI Policy 2020, investments under the ‘automatic route’ require no prior permission, resulting in minimal monitoring. Sectors like agriculture, manufacturing, airports, e-commerce, pharmaceuticals, railway infrastructure, among others, allow 100 per cent FDI.

Conversely, investments under the ‘government route’ in sectors like defense (beyond 49 per cent), mining (100 per cent), print media (26 per cent), and telecom (beyond 49 per cent) necessitate government approval. However, security clearances apply only to specific areas such as broadcasting, defense, private security, civil aviation, and mining, with the Ministry of Home Affairs (MHA) and Ministry of External Affairs (MEA) overseeing scrutiny and security clearance. Additionally, investments from Pakistan and Bangladesh also require security clearance.

The primary amendment in the consolidated FDI Policy 2020 aimed to prevent “opportunistic takeovers of weakened domestic companies by foreign firms” during the Covid-19 pandemic. It explicitly stated that countries sharing land borders with India could no longer invest under the automatic route and must seek approval for proposed investments. This rule applied to China, Bangladesh, Pakistan, Bhutan, Nepal, Myanmar, and Afghanistan.

Additionally, it required government approval when the beneficial owner investing in India belonged to any of these seven countries. However, a clear definition of a ‘beneficial owner’ is missing in the FDI Policy and causes ambiguity to both domestic firms as well as foreign investors. The Companies Act is the only source of credible reference of definition, so far.

The Foreign Investment Promotion Board (FIPB), which once processed approval route investments, was replaced by the Foreign Investment Facilitation Portal (FIFP) in 2017 for faster processing. Applications received are then directed to relevant ministries.

While India has experienced an FDI boom, it’s time to assess the investment composition and regulatory framework, to realise if it’s really a cause to self-congratulate and celebrate.

Services dominate

Currently, most investments flow into the services sector, particularly computer software, or involve brownfield projects that don’t substantially boost employment or capacity. This trend leads to minimal diversification and transfers ownership of Indian companies to foreign entities. Reverse repatriations and outflows are also quite sizable.

Additionally, investments primarily concentrate in megacities, exacerbating regional disparities instead of fostering development in less-developed areas. Focusing FDI on high-tech greenfield manufacturing activities is necessary for capacity building, managerial improvement and skill development in India.

India requires a transparent, regulatory framework for ‘investment promotion’ while simultaneously establishing an impartial, uniform screening mechanism for ‘investment protection’. It’s vital to recognise that foreign investors aim to benefit from their investments. Drawing from global examples, an independent body monitoring investments based on recognised risk parameters is in the nation’s long-term interest. There is also a need to balance the nation’s domestic potential and resilience with its equally important economic interests without explicitly hampering the interest of the foreign investors.

The writer is Research Associate and Coordinator, Policy Perspectives Foundation

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