ECONOMICS – II Final Project Report
Foreign Direct Investment and Its Impact on India
Submitted to Prof. Sanjay Singh
Submitted By Section B Sarin (PGP25090) Shivkumar (PGP25099) Shreyas (PGP25100) Soumen (PGP25101) Souvick (PGP25102)
TABLE OF CONTENTS
1. FDI in India ................................................................................................................................................................... 3 1.1. What is foreign investment? ...................................................................................................................... 3 1.2. Entry Options for Foreign Investors...................................................................................................... 3 1.3. What is the difference between FDI and FII? .................................................................................... 3 1.4. Different TYPES of FDI in India: ............................................................................................................... 4 1.5. Current inflows for FDI in India ............................................................................................................... 4 1.6. Country contribution List of FDI in India............................................................................................ 4 2. Relationship of Foreign Investment with Macro Economic Factors ............................................. 5 2.1. Foreign investment and GDP of india ................................................................................................... 5 2.2. FDI and Indian Currency.............................................................................................................................. 5 2.3. Foreign investment and employment growth ................................................................................. 5 2.4. FDI and INFLATION (WPI)........................................................................................................................... 5 2.5. Foreign Investment And IIP ....................................................................................................................... 5 3. Time Series Analysis of Foreign investment and FDI in India ......................................................... 6 4. Political footprints on FDI in India.................................................................................................................. 6 5. How does government attracts and monitors FDI? ............................................................................... 7 6. What determines the FDI in the economy? ................................................................................................ 8 7. Annexure .................................................................................................................................................................... 10
1. FDI IN INDIA 1.1. WHAT IS FOREIGN INVESTMENT? Any investment flowing from one country to another country is foreign investment. The management of a business enterprise in a foreign country is foreign investment. Indian Government classifies foreign investment in the following form: Foreign direct investment (FDI) Foreign institutional investment (FII) Non-resident Indian (NRI) investment
1.2. ENTRY OPTIONS FOR FOREIGN INVESTORS A foreign company planning to set up business operations in India has the following options: Incorporate a company under the Companies Act, 1956 through: Joint Venture or Wholly owned Subsidiary Foreign equity in such Indian companies can be up to 100% depending on the requirements of the investor, subject to equity caps in respect of the sector/area of activities under the FDI policy. Enter as a Foreign Company through: Liaison Office/Representative Office Project Office Branch Office o o o
Such offices can undertake activities permitted under the Foreign Exchange Management Regulations, 2000 (Establishment in India of branch or office of other place of business).
1.3. WHAT IS THE DIFFERENCE BETWEEN FDI AND FII? Foreign direct investment (FDI) is defined as "investment made to acquire lasting interest in enterprises operating outside of the economy of the investor."The FDI relationship consists of a parent enterprise and a foreign affiliate which together form a Multinational corporation (MNC). In order to qualify as FDI the investment must afford the parent enterprise control over its foreign affiliate. The UN defines control in this case as owning 10% or more of the ordinary shares or voting power of an incorporated firm or its equivalent for an unincorporated firm; lower ownership shares are known as
portfolio investment. The definition of FDI originally meant that the investing corporation gained a significant number of shares (10 percent or more) of the new venture. In recent years, however, companies have been able to make a foreign direct investment that is actually long-term management control as opposed to direct investment in buildings and equipment. FDI growth has been a key factor in the “international” n ature of business that many are familiar with in the 21st century. This growth has been facilitated by changes in regulations both in the originating country and in the country where the new installation is to be built. FII generally means portfolio investment by foreign institutions in a market which is not their home country. These institutions are generally Mutual Funds, Investment Companies, Pension Funds, and Insurance Houses. Their investments are in the stock market whereas FDI is generally a long term commitment to a particular company in a sector in terms of equity investment by some foreign entity. FII funding is a paramount maker of stock markets and there selling or buying moves the stock in a day. FDI have long term commitment and hence we see flight of capital in terms of FII outflows but not generally in FDIs.
1.4. DIFFERENT TYPES OF FDI IN INDIA: Foreign direct investment (FDI) is permitted in India as under the following form: Financial collaborations Joint ventures and technical collaborations Capital markets via Euro issues Private placements or preferential allotments
1.5. CURRENT INFLOWS FOR FDI IN INDIA CUMULATIVE FDI EQUITY INFLOWS Rs Crores 393,126
US$ Million 89,840
Cumulative FDI inflows (From April 2000 to March 2009) FDI inflows during 2009-10 (From April to Sep 74378 15312 2009) Cumulative amount of FDI Inflows (Up to Sep 467,504 105152 2009) SOURCE: DIPP, Federal Ministry of Commerce & Industry, Government of India
1.6. COUNTRY CONTRIBUTION LIST OF FDI IN INDIA The major countries contributing to the FDI inflow in India are Mauritius, USA, UK, Singapore etc. Mauritius is the largest contributor in the cumulative FDI flow during the period of 2000-2009. For detailed break up please refer to section ‘C’ of the Annexure.
2. RELATIONSHIP OF FOREIGN INVESTMENT WITH MACRO ECONOMIC FACTORS 2.1. FOREIGN INVESTMENT AND G DP OF INDIA Foreign investment shows a strong correlation (polynomial) with GDP in the last decade (1998-2008). The R2 value for the same is 0.881. Please refer to section ‘A.1’ of the Annexure for detailed data. FDI shows a strong linear correlation with the GDP of India. R2 value of 0.904 shows the strength of the correlation between the two parameters. For detailed data analysis, please refer to the section ‘A.2’ of Annexure. 2.2. FDI AND INDIAN CURRENCY A trend analysis of the FDI inflows to India and the exchange rates prevailing in the financial year 2008-09 shows a trend which doesn’t depict a very strong correlation between the two chosen parameters. The best and strongest fit function for the trend was given by the 6-degree polynomial function with a R^2 value of 0.461. The exchange rate taken is taken with respect to US dollar. Please refer to section ‘A.3’ of Annexure for further details. 2.3. FOREIGN INVESTMENT AND EMPLOYMENT GROWTH The R^2 value is 0.174 for the 5-degree polynomial correlation between foreign investment in India and employment. FDI shows a 4-degree polynomial correlation with employment with an R^2 value of 0.264. For detailed data analysis, please refer to section ‘A.4’ of the Annexure. 2.4. FDI AND INFLATION (WPI) The correlation derived between Wholesale Price Index (WPI) and FDI based on the monthly data available for the financial year 2008-09 shows a trend which is not as strong as seen in the previous sections. The R^2 value for the correlation between the two parameters is only 0.075. Please refer to section ‘A. 5’ of the Annexure for further reference.
2.5. FOREIGN INVESTMENT AND IIP The correlation derived between Foreign Investment and Index for Industrial Production (IIP) shows strong relationship with R^2 value of 0.91 for a linear correlation. The R^2 value is 0.95 for a 2-degree polynomial correlation of FDI with IIP which again shows a very strong relationship. Please refer to section ‘A. 6’ of the Annexure for further reference.
3. TIME SERIES ANALYSIS OF FOREIGN INVESTMENT AND FDI IN INDIA The best fit equation derived from the time series analysis of foreign investment in India is given by the following 2-degree polynomial equation: – y = 355.5x2 - 1E+06x + 1E+09 Where, x represents time (year) and y represents the foreign investment made in US $millions The R2 value obtained for the above equation is 0.945. The best fit equation derived from the time series analysis of FDI in India is given by the following 3-degree polynomial equation: y = 61.01x3 - 36592x2 + 7E+08x - 5E+11 Where, x represents time (year) and y represents FDI in US $millions. The R2 value obtained for the above equation is 0.870. For details and graphs corresponding to the analysis please refer to the section ‘A.7’ of Annexure.
4. POLITICAL FOOTPRINTS ON FDI IN INDIA Year 1991
Political Impact on FDI in India
1993-94 1995-96
1996-97
1997
1998
1998-99
BJP: “We will make our economy truly Swadeshi by promoting native initiatives". Congress: "Foreign investment will not be at the cost of self-reliance". The government realized the importance of FDI. The FDI Mindset sets into the Government but opposition were critical of FDI and the Government's acceptance to IMF conditionality. United Front Government: Increase in understanding towards Foreign Investment. Foreign Investment Promotion Council Setup. The first ever guidelines were announced for consideration of foreign direct investment proposals by the FIPB, which were not covered under the automatic route. The list of industries eligible for automatic approval of up to 51 per cent foreign equity was expanded. When there was a decline in FDI the government had to take greater technical measures in terms of liberalizing investment norms in bring in FDI. BJP admitted in its manifesto that “the country cannot do without FDI, because besides capital stocks it brings with it technology, new market practices and most importantly employment”. However BJP clarified that FDI will be encouraged in core areas so that it usefully supplements the national efforts and it discouraged FDI in non
1999
2004
2006
priority areas.” When a second year of decline continued a Foreign Investment Implementation Authority (FIIA) was set up for providing a single point interface between foreign investors and the government machinery. FDI had become a non-electable issue as there was widespread acceptance of the topic among all the party lines "FDI will continue to be encouraged and actively sought, particularly in areas of infrastructure, high technology and exports and where local assets are created on a significant scale. The country needs and can easily absorb at least two to three times the present leve l of FDI inflows” – basis of CMP
5. HOW DOES GOVERNMENT ATTRACTS AND MONITORS FDI? Foreign Investment Promotion Board FIPB: This specially empowered Board in the office of the Prime Minister is the only agency dealing with matters relating to FDI as well as promoting investment into the country. It is chaired by Secretary Industry (Department of Industrial Policy & Pro motion). It promotes FDI into India by undertaking investment promotion activities in India and abroad by facilitating investment in the country through international companies, nonresident Indians and other foreign investors. Foreign Investment Promotion Council FIPC: The Government has constituted a Foreign Investment Promotion Council (FIPC) under the chairmanship of Chairman ICICI, to undertake vigorous investment promotion and marketing activities. The Presidents of the three apex business associations such as ASSOCHAM, CII and FICCI will be members of the Council. Ministry of Industry personnel will be Member-Secretary. Foreign Investment Implementation Authority FIIA: Foreign Investment Implementation Authority (FIIA) has been set up by the government of India in order to encourage the implementation of the proposals for FDI in the country. By doing this, Foreign Investment Implementation Authority (FIIA) has given a major boost to the Indian economy. Role of Foreign Investment Implementation Authority (FIIA): To understand and solve the problems of the investors To understand and solve the problems of the approving authorities To refer the cases that have not been resolved at the level of FIA to the agencies at the higher levels To start consultations with multiple agencies
Investment Commission: The Investment commission of India is a three-member commission set up in the Ministry of Finance in December 2004 by the Government of India. Mr. Ratan Tata is Chairman and Mr. Deepak Parekh and Dr. Ashok Ganguly are members. The Investment Commission has been set up to enhance and facilitate investment in India. The Commission makes recommendations to the Government of India on policies and
procedures to facilitate investment, recommends projects and investment proposals that should be fast tracked/mentored and promotes India as an investment destination
6. WHAT DETERMINES THE FDI IN THE ECONOMY ?
Growth of the economy: o The growth rate of the home economy is an important determinant of FDI into the country. Size of the economy: o The FDI flows also depend on the size of the home economy. Real exchange rate: o Any depreciation in the currency of India will make our country more favorable for foreign investments. Degree of openness of the economy: Any FDI investment into a country depends upon how ‘open’ the o economy is towards foreign trade (both imports and exports). We have captured the ‘openness’ of the economy through the proxy variable, DO (Degree of Openness) where it is given by DO = (Imports+Exports)/GDP
An open-market operation where the RBI decides to buy government bonds from the public will result in the expansion of the money supply. From the above graph, we can see that the increase in the money supply decreases the interest rate from i1 to i2. The decrease in the interest rate increases the exchange rate (as the demand for foreign currency > supply of foreign currency). As a result, the FDI increases in the host country. Also, the decrease in the interest rate means the cost of capital decreases since national income identity suggests that an increase in domestic investment will positively impact on domestic output.(Y = C + I + G + X – M). Open-market operations are likely to do a better job in attracting more flows of FDI than other type of monetary policy. The reason is because they impact on two determinants of FDI inflows - exchange rate and GDP.
Incorporating all these factors as determinants of FDI, we get the following model: FDIt = a +b ∆GDPt + c GDPt + d DOt + e REERt + ut Where, FDIt = Foreign Direct Investment in Period t GDPt = Gross Domestic Product in Period t ∆GDPt = GDPt -GDPt-1 DOt = Degree of Openness in Period t and is equal to ratio of Sum of Exports and Imports to GDPt REERt = Real Effective Exchange Rate in Period t ut = Error Term
Using the time series data, we ran a multi-variate regression of the above equation to estimate the values of the coefficients and to check their significance levels. We obtained an adjusted R square value of .783 which shows that the model explains more than 70% of the data. FDIt = -83110 + .011 ∆GDPt + .02 GDPt + 66970 DOt + 633.5 REERt Also, we note that all the coefficients are positive which is as expected and the t statistic values indicate that all coefficients are significant.
7. ANNEXURE FDI, FI, GDP, WPI, Unemployment and Currency statistics are taken from RBI ’s Indian Statistics Handbook 2009 mentioned below http://www.rbi.org.in/scripts/AnnualPublications.aspx?head=Handbook%20of%20Sta tistics%20on%20Indian%20Economy A.1) Foreign investment in India and India’s GDP: Year
Foreign Investment ('000 US $ millions)
GDP ('00000 In Rs Crore)
1998-99
2.401
17.86525
1999-2000
5.181
19.25017
2000-01
6.789
20.97726
2001-02
8.151
22.61415
2002-03 2003-04
6.014 15.699
25.38171 28.77706
2004-05
15.366
23.82068
2005-06
21.453
27.46928
2006-07 2007-2008
29.082 34.36
43.03654 50.234
A.2) FDI in India and India’s GDP: Year
FDI ('000 US $ millions)
GDP ('00000 In Rs Crore)
1998-99
2.462
17.86525
1999-2000
2.155
19.25017
2000-01
4.029
20.97726
2001-02
6.13
22.61415
2002-03
5.035
25.38171
2003-04
4.322
28.77706
2004-05
6.051
23.82068
2005-06
8.961
27.46928
2006-07
22.07
43.04
2007-2008
34.36
47.234
A.3) Foreign Investment and Indian Currency Month - Year
RBI REFERENCE RATE WITH RESPECT TO USD
FDI ('00 in US $ Million)
Sep-08
45.5635
25.62
Oct-08 Nov-08
48.6555
14.97 10.83
Dec-08 Jan-09
48.6345 48.8338
13.62 27.33
Feb-09
49.2611
14.88
Mar-09
51.2287
19.56
Apr-09
50.0619
23.39
May-09
48.5330
20.95
Jun-09
47.7714
25.82
Jul-09
48.4783
35.16
Aug-09 Sep-09
48.5348
32.68 15.12
48.9994
49.4697
A.4) Foreign Investment and Indian Employment Year 1995-96 1996-97 1997-98 1998-99 19992000 2000-01 2001-02 2002-03 2003-04 2004-05 2005-06
Public Sector
Private Sector
Total (Public + Private) in millions
19.43
8.51
37.43
19.56
8.69
39.14
19.42
8.75
40.09
19.41
8.70
40.37
19.31
8.65
41.34
19.14
8.65
42.00
18.77
8.43
41.17
18.58
8.42
41.39
18.20
8.25
40.46
18.01
8.45
39.35
18.19
8.77
41.47
FDI in US $ millions
FI in US millions
$
2144
4892
2821
6133
3557
5385
2462
2401
2155
5181
4029
6789
6130
8151
5035
6014
4322
15699
6051
15366
8961
21453
A.5) Foreign Investment and Wholesale Price Index Month -Year
Wholesale Price Index
FDI (’00 US $ Millions)
Sep-08
241.5
25.62
Oct-08
239
14.97
Nov-08
234.2
10.83
Dec-08
229.7
13.62
Jan-09
228.9
27.33
Feb-09
227.6
14.88
Mar-09
228.2
19.56
Apr-09
231.5
23.39
May-09
234.3
20.95
Jun-09
235
25.82
Jul-09
238.4
35.16
Aug-09
240.8
32.68
Sep-09
242.7
15.12
WPI figures from http://www.eaindustry.nic.in/asp2/list_d.asp FDI inflows figures from http://dipp.nic.in/fdi_statistics/india_FDI_September2009.pdf
A.6) Foreign Investment and Index for Industrial Production (IIP) Annual Average IIP (Apr-Mar) Indices Basic Capital Intermediate Year Goods Goods Goods 1995-96 121.4 115.0 125.7 1996-97 125.0 128.2 135.9 1997-98 133.6 135.6 146.8 1998-99 135.8 152.7 155.8 1999-00 143.3 163.3 169.5 2000-01 148.6 166.2 177.4 2001-02 152.5 160.6 180.1 2002-03 159.9 177.4 187.1 2003-04 168.6 201.5 199.0 2004-05 177.9 229.6 211.1 2005-06 189.8 265.8 216.4 2006-07 209.3 314.2 242.4 2007-08 223.9 370.8 264.1
Total 126.5 134.3 141.7 144.8 153.0 165.2 175.1 187.5 200.9 224.4 251.4 276.8 293.6
IIP data flows from http://mospi.nic.in/iip_table4.htm
Durables 146.2 152.9 164.9 174.1 198.7 227.6 253.7 237.8 265.4 303.5 349.9 382.0 378.0
Non Durables 122.1 130.2 136.5 138.1 142.5 150.8 157.0 175.9 186.1 206.2 228.8 252.6 274.2
General Index 123.3 130.8 139.5 145.2 154.9 162.6 167.0 176.6 189.0 204.8 221.5 247.1 268.0
Year
FDI in US $ millions
Foreign Investment US $ millions
1995-96
2144
4892
1996-97
2821
6133
1997-98
3557
5385
1998-99
2462
2401
1999-2000
2155
5181
2000-01
4029
6789
2001-02
6130
8151
2002-03
5035
6014
2003-04
4322
15699
2004-05
6051
15366
2005-06
8961
21453
2006-07
22826
29082
2007-08
34362
34360
FDI and FI figures are taken from RBI website mentioned below http://www.rbi.org.in/scripts/AnnualPublications.aspx?head=Handbook%20of%20Sta tistics%20on%20Indian%20Economy
A.7) Time series analysis of foreign investment in India Year 1995-96
Foreign Investment 4892
1996-97
6133
1997-98
5385
1998-99
2401
1999-2000
5181
2000-01
6789
2001-02 2002-03
8151 6014
2003-04
15699
2004-05
15366
2005-06 2006-07
21453 29082
Time series analysis for foreign investment in India Year
FDI (in US $ millions)
1995-96 1996-97
2144 2821
1997-98
3557
1998-99
2462
1999-2000 2000-01
2155 4029
2001-02
6130
2002-03
5035
2003-04
4322
2004-05
6051
2005-06
8961
2006-07
22079
Time series analysis of FDI in India B) Sector wise FDI Inflows: Ranks
Sector
2006-07
2007-08
2008-09
2009-10
Cumulative
(April-March)
(April-
(April-March)
(April- Sept. ‘09)
Inflows
March)
(April ’00 to Sept. ‘09)
1.
SERVICES SECTOR
21,047
28,411
12,782
97,235
(4,664)
26,589 (6,615)
(6,116)
(2,627)
(21,876)
11,786
5,623
7,329
2,107
41,603
(2,614)
(1,410)
(1,677)
(434)
(9,388)
2,155
5,103
11,727
9,815
38,182
% age to total Inflows (In terms of rupees) 22 %
(financial & nonfinancial) 2.
3.
COMPUTER SOFTWARE & HARDWARE TELECOMMUNI
9%
9%
CATIONS
(478)
(1,261)
(2,558)
(2,010)
(8,386)
2,121
8,749
12,621
9,193
32,975
(467)
(2,179)
(2,801)
(1,894)
(7,407)
CONSTRUCTIO N ACTIVITIES
4,424
6,989
8,792
4,814
26,991
(including roads & highways)
(985)
(1,743)
(2,028)
(991)
(6,182)
713
3,875
4,382
5,805
19,816
(157)
(967)
(985)
(1,197)
(4,387)
AUTOMOBILE INDUSTRY
1,254
2,697
5,212
4,029
19,096
(276)
(675)
(1,152)
(833)
(4,222)
METALLURGIC AL INDUSTRIES
7,866
4,686
4,157
1,273
12,778
(173)
(1,177)
(961)
(263)
(2,987)
PETROLEUM & NATURAL GAS
401
5,729
1,931
1,019
11,196
(89)
(1,427)
(412)
(205)
(2,598)
CEHMICALS
930
920
3,427
617
10,185
(205)
(229)
(749)
(127)
(2,261)
(radio paging, cellular mobile, basic telephone services) 4.
5.
6. 7.
.
.
0.
HOUSING & REAL ESTATE
POWER
(other than fertilizers)
7%
6%
4% 4% 3%
3%
2%
C) Country wise break up of FDI inflow: Top ten investing (FDI Equity) countries (In Rs. Crore)
Rank
Country
2006-07
2007-08
2008-09
2009-10
(April-
(April-
(April-
(April-
March)
March) March)
Sept. ‘09)
s
Cumulative Inflows
%age to total Inflows
(April ‘00 to Sept. ‘09)
(in terms of rupees)
1.
2.
3.
4.
5.
MAURITIUS
SINGAPORE
U.S.A.
U.K.
NETHERLANDS
28,759
44,483
50,794
31,761
193,034
(6,363)
(11,096)
(11,208)
(6,520)
(43,385)
2,662
12,319
15,727
5,763
39,615
(578)
(3,073)
(3,454)
(1,187)
(8,998)
3,861
4,377
8,002
5,991
33,951
(856)
(1,089)
(1,802)
(1,244)
(7,579)
8,389
4,690
3,840
1,364
24,268
(1,878)
(1,176)
(864)
(282)
(5,508)
2,905
2,780
3,922
2,761
18,614
(644)
(695)
(883)
(571)
(4,161)
44 %
9%
8%
5%
4%
6.
7.
8.
9.
10.
JAPAN
382
3,857
15,082
(815)
(405)
(793)
(3,324)
266
3,385
5,983
3,871
13,920
(58)
(834)
(1,287)
(794)
(3,067)
540
2,075
2,750
1,815
11,304
(120)
(514)
(629)
(375)
(2,548)
528
583
2,098
891
6,373
(117)
(145)
(467)
(185)
(1,412)
1,174
1,039
1,133
2,344
6,350
(260)
(258)
(257)
(484)
(1,404)
70,630
98,664
122,919
74,378
467,504
(15,726)
(24,579)
(27,329)
(15,312)
(105,153)
GERMANY
FRANCE
TOTAL FDI INFLOWS
1,889
(85) CYPRUS
U.A.E.
3,336
3%
3%
3%
1%
1%
-
D) FDI Inflows month wise for 2009-2010 SOURCE: DIPP, Federal Ministry Figures in bracket are in US$ million
of
Commerce
and
Industry,
Government
of
India
FDI Inflows for 2009-2010
(In Rs. Crore)
(In US$ mn)
1.
April 2009
11,708
2,339
2.
May 2009
10,168
2,095
3.
June 2009
12,335
2,582
4.
July 2009
17,045
3,516
5.
August 2009
15,796
3,268
6.
September 2009
7,326
1,512
2009-10 (Up to September 2009)
74,378
15,312
2008-09 (Up to September 2008)
73,111
17,211
( + ) 02 %
( - ) 11 %
%age growth over last year
