Impact of FDI on Indian Economy

Term paper on Financial System

Submitted to:-
Dr. Sampda Kapse

Submitted by :-
Pintu Vaishnav-09115
Bhavesh Patel- 09080
Mayank Pujara-09088

TOLANI INSTITUTE OF MANAGEMENT STUDIES

Adipur – 370 205
Batch: 2009-11

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 INTRODUCTION

Now a day’s Indian economy is growing as the India is developing fast. More and more
foreign investors are interesting to invest in India. FDI is the way to enter in India for
investment.

FDI: The official definition of foreign direct investment are – FDI occurs when an entity or
investor from one country (home country e.g. India) obtain or acquires the controlling interest in
an entity in another country (host country e.g. USA) and then operates and manages the entity
and its assets as part of the multinational business of the investing entity.

FDI is a part of foreign capital formation. Its main intention is to make capital gain.

FDI has invested in most of the sectors in India. Sectors like Banking, Chemical, Housing
& Real estate, Power, Telecommunication, Service, Computer software and hardware etc.

Net foreign direct investment (FDI) flows into India reached Rs.1233.78 billion in India
2009–10 fiscal year, with the largest share of FDI flows from Mauritius, followed by Singapore,
United States and the United Kingdom. This study examines FDI in India, in the context of the
Indian economy. This study present FDI trends in India, by country and by sectors during year
2000 to 2010, use official government data from Indian official government internet site like
RBI. To illustrate the driving forces behind these trends, the study also discusses the investment
climate in India, Indian government incentives to foreign investors, the Indian regulatory
environment as it affects investment, and the effect of India’s global, regional, and bilateral trade
agreements on investment from top 10 FDI investing countries. Finally, the study examines
global FDI in India’s in top 10 sectors of industry.

FDI: the official definition of foreign direct investment are – FDI occurs when an entity or investor from one
country (home country e.g. India) obtain or acquires the controlling interest in an entity in another country (hos

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 OBJECTIVE

Examines the trends and patterns in the foreign direct investment (FDI) across different
sectors and from different countries in India during year 2000-2010.

RESEARCH METHODOLOGY
Sampling- The study is limited to a sample of top 10 investing countries e.g. Mauritius, USA
etc. and top 10 sectors e.g. power, telecommunications etc. which had attracted larger inflow of
FDI

Data Collection:

The research will be done with the help Secondary data (from internet site and journals).

The 10 countries are: Mauritius, Singapore, USA, UK, Netherland, Cyprus, Japan, Germany,
UAE, and France.

The 10 sectors are: Service sector, Computer software and hardware, telecommunication,
Housing and real estate, Construction activities, Power, Automobile, Metallurgical, Petroleum
and natural gas, chemical.

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 ABOUT FOREIGN DIRECT INVESTMENT
Is the process whereby residents of one country (the source country) acquire ownership
of assets for the purpose of controlling the production, distribution, and other activities of a firm
in another country (the host country). The international monetary fund’s balance of payment
manual defines FDI as an investment that is made to acquire a lasting interest in an enterprise
operating in an economy other than that of the investor. The investor’s purpose being to have an
effective voice in the management of the enterprise’. The united nations 1999 world investment
report defines FDI as ‘an investment involving a long term relationship and reflecting a lasting
interest and control of a resident entity in one economy (foreign direct investor or parent
enterprise) in an enterprise resident in an economy other than that of the foreign direct investor
( FDI enterprise, affiliate enterprise or foreign affiliate).

IMPORTANCE OF FDI TO THE HOST COUNTRY

The essence of foreign direct investment is transmission to the host country of a package
of capital, managerial skills and technical knowledge. FDI is seen to as a mean to supplement
domestic investment for achieving higher level of economic growth and development. It is not
the only source of capital and technology. Countries may rely on their own savings or borrow
money in the international market to add to the capital stock.

Developing countries nay face constraints on the international market and may not have
resources necessary to undertake domestic research and development. Moreover, FDI implies an
element of risk sharing between the capital owners and the capital importing countries that may
make this type of capital flow more desirable than loans.

Capital flows in the form of FDI have been widely believed to be an important source of
economic growth in recent years. These add to the domestic resources of the recipient country.
Unlike borrowings from foreign sources which involve contractual obligations from day one,
direct foreign investment does not involve any fixed charges. Moreover, dividends would have to
be paid only when the firms earn profit. FDI can also stimulate employment generation in the
host country because everything else being equal, the establishment of the foreign firms
increases the demand for intermediate goods and services from local suppliers.

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 ADVANTAGE TO INDIA

India has had a turbulent past and large period of economic isolation but in the past 20
years it has experienced mass liberalization, making it stronger player in the global market.
Today, India is on a path of growth that will make it one of the top economies in the world in 30
to 40 years. The dream will come true only by adding foreign capital in those sectors which
require private funding through MNCs.

It is said that foreign investment follows a country’s success, it rarely lead it. It is rare to
see foreign businessmen lining up to invest in new factories in countries where the local business
climate is depressed, because investment is driven by expectations of profit and foreign investor
will always prefer a country with a buoyant business sector than one where the outlook is
sluggish.

India has a number of advantages to offer to potential foreign investors, namely

political stability, steady economic growth, a vast domestic market, a large pool of trained
manpower, social and psychical infrastructure, rapidly expanding capital market, etc. The
country has emerged as the latest and the most sought after destination for FDI. Being the 10 th
largest economy in the world and 4 th in terms of peoples propensity to purchase, India has
emerged as a potential player for FDI and NRI investments. India has large reservoir of skilled
labor available at competitive prices, large entrepreneurial base and diversified manufacturing
structure that make it easy to find partners for collaborations.

UNCTAD’s FDI prospect’s survey (2009-11) reports that the leading factors influencing
the location of the companies are size of local market, growth of market, presence of suppliers
and partners, access to international markets and stable and business friendly environment.
Brazil, the Russian federation, India and china (BRIC) countries are in the list of top countries
for FDI. Transnational corporations (TNC) consider domestic market growth, availability of
cheap labor and in some cases access to natural resources, as some of the major locations assets
of developing countries. They also look at the quality of the business environment and market
size as the main strength of emerging economies like India. It is said that FDI has positive
association with economic growth provided the host country has human capital, economic
stability and liberalized markets in order to benefit from the long term FDI inflow.

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 FOREIGN DIRECT INVESTMENT: INDIAN SCENARIO
FDI is permitted as under the following forms of investments –
 Through financial collaborations.
 Through joint ventures and technical collaborations.
 Through capital markets via Euro issues.
 Through private placements or preferential allotments.

Foreign Investment through GDRs (Euro Issues)

Indian companies are allowed to raise equity capital in the international market through
the issue of Global Depository Receipt (GDRs). GDR investments are treated as FDI and are
designated in dollars and are not subject to any ceilings on investment. An applicant company
seeking Government's approval in this regard should have consistent track record for good
performance (financial or otherwise) for a minimum period of 3 years. This condition would be
relaxed for infrastructure projects such as power generation, telecommunication, petroleum
exploration and refining, ports, airports and roads.

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 Foreign direct investments in India are approved through two routes
1. Automatic approval by RBI –
The Reserve Bank of India accords automatic approval within a period of two weeks
(subject to compliance of norms) to all proposals and permits foreign equity up to 24%; 50%;
51%; 74% and 100% is allowed depending on the category of industries and the sectoral caps
applicable. The lists are comprehensive and cover most industries of interest to foreign
companies. Investments in high priority industries or for trading companies primarily engaged in
exporting are given almost automatic approval by the RBI.

2. The FIPB Route – Processing of non-automatic approval cases –

FIPB stands for Foreign Investment Promotion Board which approves all other cases
where the parameters of automatic approval are not met. Normal processing time is 4 to 6 weeks.
Its approach is liberal for all sectors and all types of proposals, and rejections are few. It is not
necessary for foreign investors to have a local partner, even when the foreign investor wishes to
hold less than the entire equity of the company. The portion of the equity not proposed to be held
by the foreign investor can be offered to the public.

FORBIDDEN TERRITORIES:

 Arms and ammunition

 Atomic Energy
 Coal and lignite
 Rail Transport
 Mining of metals like iron, manganese, chrome, gypsum, sulfur, gold, diamonds,
copper, zinc.

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 ANALYSIS OF SECTOR SPECIFIC POLICY FOR FDI
Here some of the sectors are given in which the policies are given by the government and
according to the regulation the FDI will allow to enter in India.

S.No. Sector/Activity FDI cap/Equity Entry/Route

1. Hotel & Tourism 100% Automatic
2. NBFC 49% Automatic
3. Insurance 26% Automatic
4. Telecommunication Automatic
cellular, value added services 49%
ISPs with gateways, radio- Above 49% need
paging 74% Govt. license
Electronic Mail & Voice Mail 100%
5. Trading companies
primarily export activities 51% Automatic
bulk imports, cash and carry
wholesale trading 100% Automatic
6. Power(other than atomic reactor
power plants) 100% Automatic
7. Drugs & Pharmaceuticals  100% Automatic
8. Roads, Highways, Ports and 100% Automatic
Harbors
9. Pollution Control and 100% Automatic
Management
10 Call Centers 100% Automatic
11. BPO 100% Automatic
12. For NRI's and OCB's 

i. 34 High Priority
100% Automatic
Industry Groups
ii. Export Trading
Companies
iii. Hotels and
Tourism-related Projects
iv. Hospitals,

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 Diagnostic Centers
v. Shipping
vi. Deep Sea Fishing
vii. Oil Exploration
viii. Power
ix. Housing and Real
Estate Development
x. Highways,
Bridges and Ports
xi. Sick Industrial
Units
xii. Industries
Requiring Compulsory
Licensing
xiii. Industries
Reserved for Small Scale
Sector

13. Airports
Greenfield projects 100% Automatic
Existing projects 100% Beyond 74% FIPB
14 Assets reconstruction company 49% FIPB
15. Cigars and cigarettes 100% FIPB
16. Courier services 100% FIPB
17. Investing companies in 49% FIPB
infrastructure (other than
telecom sector)

FINANCIAL YEAR WISE FDI INFLOWS DATA

From April 2000 to June 2010
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 (Amount US$ million)

Source: (i) RBI’s Bulletin August 2010 dt.11.08 .2010 (Table No. 44 - FOREIGN INVESTMENT INFLOWS).

We can see from the above chart that FDI inflow reach at 52% in year 2001-02 in
compare with 2000-01. In 2003 to 2004 inflow goes negative but in 2006-07 it increases around
146%.

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 TOTAL FDI INFLOWS
40,000

35,000
30,000
25,000

20,000
15,000

10,000
5,000

0
2000-01 2001-02 2002-03 2003-04 2004-05 2005-06 2006-07 2007-08 2008-09 2009-10

TOTAL FDI INFLOWS

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 Analysis of share of top ten investing countries FDI equity in flows
From April 2000 to June 2010
Sr. Country Amount FDI inflow % with total inflow
no.

Rs.(crore) US$(million)
1 MAURITIUS 219,425.53 49,106.45 42.32

2 SINGAPORE 49,391.62 11,127.76 9.53

3 U.S.A 38,351.47 8,533.28 7.4

4 U.K. 26,705.95 6,039.49 5.15

5 NETHERLANDS 21,691.03 4,830.00 4.18

6. JAPAN 18,861.19 4,151.67 3.64

7. CYPRUS 18,262.79 4,005.16 3.52

8 GERMANY 12,657.34 2,840.73 2.44

9. U.A.E 7,553.07 1663.46 1.46

10. FRANCE 7,230.73 1,599.16 1.39

U.A.E; 1.46 FRANCE; 1.39

GERMANY; 2.44
CYPRUS; 3.52

JAPAN; 3.64

NETHERLANDS; 4.18

U.K.; 5.15
MAURITIUS; 42.32

U.S.A; 7.4

SINGAPORE; 9.53

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Mauritius
Mauritius invested Rs. 219,425.53 crore in India Up to the June 2010, equal to 42.32
percent of total FDI inflows. Many companies based outside of India utilize Mauritian holding
companies to take advantage of the India- Mauritius Double Taxation Avoidance Agreement
(DTAA). The DTAA allows foreign firms to bypass Indian capital gains taxes, and may allow
some India-based firms to avoid paying certain taxes through a process known as “round
tripping.” The extent of round tripping by Indian companies through Mauritius is unknown.
However, the Indian government is concerned enough about this problem to have asked the
government of Mauritius to set up a joint monitoring mechanism to study these investment
flows. The potential loss of tax revenue is of particular concern to the Indian government. These
are the sectors which attracting more FDI from Mauritius Electrical equipment Gypsum and
cement products Telecommunications Services sector that includes both non- financial and
financial Fuels.

Singapore
Singapore continues to be the single largest investor in India amongst the Singapore with
FDI inflows into Rs. 49,391.62 crores up to June 2010 Sector-wise distribution of FDI inflows
received from Singapore the highest inflows have been in the services sector (financial and non
financial), which accounts for about 30% of FDI inflows from Singapore. Petroleum and natural
gas occupies the second place followed by computer software and hardware, mining and
construction.

U.S.A.
The United States is the third largest source of FDI in India (7.4 % of the total), valued at
Rs. 38,351.47 crore in cumulative inflows up to June 2010. According to the Indian government,
the top sectors attracting FDI from the United States to India are fuel, telecommunications,
electrical equipment, food processing, and services. According to the available M&A data, the
two top sectors attracting FDI inflows from the United States are computer systems design and
programming and manufacturing.

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U.K.
The United Kingdom is the fourth largest source of FDI in India (5.15 % of the total),
valued at Rs. 26,705.95crores in cumulative inflows up to June 2010. Over 17 UK companies
under the aegis of the Nuclear Industry Association of UK have tied up with Ficci to identify
joint venture and FDI possibilities in the civil nuclear energy sector. UK companies and policy
makers the focus sectors for joint ventures, partnerships, and trade are nonconventional energy,
IT, precision engineering, medical equipment, infrastructure equipment, and creative industries.

Netherlands
FDI from Netherlands to India has increased at a very fast pace over the last few years.
Netherlands ranks fifth among all the countries that make investments in India. The total flow of
FDI from Netherlands to India came to Rs. 21,691.03crores between 2000 and 2010. The total
percentage of FDI from Netherlands to India stood at 4.18% out of the total foreign direct
investment in the country up to June 2010.

Out of the entire all the country wise FDI inflow the around 70% of FDI inflow come
from the first five countries. However, Japan, Cyprus, Germany, U.A.E and France have
contributed more than the other countries in the world. Around 12.5% of the FDI inflows come
from these countries and the rest of inflow come from other countries.

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 Analysis of sectors attracting highest FDI equity inflows
From April 2000 to June 2010
S.No Country Amount Of FDI % As To
Inflows Total FDI
(in Rs. Crore) Inflow
1. Service Sector 108,378.18 20.93
(Financial &Non Financial)
2. Computer Software & Hardware 45,273.90 8.78

3. Telecommunication 44,887.39 8.49

4. Housing & Real Estate 38,963.93 7.50
5. Construction Activities 36,700.44 7.13
6. Power 22,923.11 4.37
7. Automobile Industry 21,123.39 4.02
8. Metallurgical Industries 16,042.85 3.19
9. Petroleum & Natural Gas 12,455.94 2.48
10. Chemical 11,678.31 2.23

Chemical ; 2.23
Petroleum & Natural Gas; 2.48
Metallurgical Industries; 3.19

Automobile Industry; 4.02

Power; 4.37 Service Sector; 20.93

Construction Activities; 7.13

Computer Software & Hardware; 8.78

Housing & Real Estate; 7.5

Telecommunication ;
8.49

The sectors receiving the largest shares of total FDI inflows up to June 2010 were the
service sector and computer software and hardware sector, each accounting for 20.93 and 8.78
percent respectively. These were followed by the telecommunications, real estate, construction

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power, and automobile sectors. The top sectors attracting FDI into India via M&A activity were
Manufacturing; information; and professional, scientific, and technical services. These sectors
correspond closely with the sectors identified by the Indian government as attracting the largest
shares of FDI inflows overall.
The ASSOCHAM (Associated Chambers of Commerce and Industry of India) has
revealed that FDI in Chemicals sector (other than fertilizers) registered maximum growth of 227
per cent during April 2008 – March 2009. The sector attracted Rs. 11,678.31crore up to June
2010.

During the year 2009 government had raised the FDI limit in telecom sector from 49 per
cent to 74 per, which has contributed to the robust growth of FDI. The telecom sector registered
a growth of 103 per cent during fiscal 2008-09. The sector attracted Rs. 44,887.39crore FDI and
8.49 per cent share in total FDI inflow.

India automobile sector has been able to record 70 per cent growth in foreign investment.
The FDI inflow in automobile sector has attracted Rs. 21,123.39crore up to June 2010.
The power sector received FDI worth US$ 1,320 million between April 2009 and January
2010, bringing the cumulative inflow from April 2000 to January 2010 to US$ 4,510.45 million.
Here we can conclude that out of all the sectors the service sector is more attracting to the
FDI and that is 20%. It means that 20% of FDI is investing their money in service sector. Here
also it is important to know that greater liberalization towards the manufacturing sector is not
helpful to attract the FDI.

Share of states in attracting FDI

(Amount in crores)

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 Sr. no. State FDI inflows % total inflows
(from Apr.2000
to June. 2010)
1 Maharashtra 180791 35
2 New Delhi 108361 21
3 Karnataka 32130 6
4 Gujarat 29052 6
5 Tamil Nadu 25983 5

Tamil Nadu
7%

Gujarat
8%

Karnataka
9%

Maharashtra
49%

New Delhi
28%

There is clear difference not only in the sector that attract the most FDI but also in the
regional distribution of FDI.

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 As foreign investment follows countries success, among the states of India, it is the
economically develop states that have taken a lion’s share of FDI inflow in the globalization era.
The top five states alone account for 70% of FDI inflow into India. Maharashtra is the richest
state in India in terms of FDI attraction.
Maharashtra has received maximum share that is 35% of FDI. The second most attractive
state is New Delhi with a record level of 20%. Southern state Karnataka and Tamilnadu are also
attractive to foreign investor with the share of 6% and 5% respectively. Very few states that
enjoy unique advantage of proximity to ports, quality of human capital, improved infrastructure
and ability to offer special incentives packages receive larger share of FDI, where as other states
such as Bihar, Orissa and north eastern region severally large in terms of FDI inflow as well as
development.

CONCLUSION

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 a) Net FDI in India was valued at $8,961 million in the 2005–06 Indian fiscal year, and
around tripled, to $22,826 million, in the 2006–07 fiscal year. It might be of interest to
note that more than 50% of the total FDI inflows received by India during the period
from 2000 – 2010. Almost 56% of the FDI is invested in the Mumbai and New Delhi
regions.

b) By country, the largest investors in India are Mauritius, Singapore, The United States,
and the United Kingdom. Investors based in many countries have taken advantage of the
India-Mauritius bilateral tax treaty to set up holding companies in Mauritius which
subsequently invest in India, thus reducing their tax obligations.

c) By industry, the largest destinations for FDI are service (financial and non financial),
computer software and hardware, telecommunications and real estate.

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