Not deterred by demonetisation
Foreign investors’ confidence in India’s consolidated economic strength and political stability is unlikely to be dissipated due to issues with demonetisation.
Paradox prevails between domestic and foreign investors in the post-demonetisation times. While domestic investors were in a subdued mood, foreign investors were upbeat to invest in India in after demonetisation. This means that despite the general negativity about demonetisation, foreign investors continued to repose confidence in the strong macro-economic parameters of India.
In the post-demonetisation period, nearly half of FDI in 2016 – the best year ever for FDI in the country – flowed in the first half of 2017 (US $8 billion in January-June 2017). In contrast, investment by domestic investors plunged. New investment by the private sector declined by over 62 per cent during January-September 2017 over the corresponding period last year – from Rs. 6,287 billion in January-September 2016 to Rs 3,921 billion in January-September 2017 (CMIE report).
The FDI flow revealed that sectors like services (such as finances, banking, insurance, e-commerce, and others), computer software and hardware (mainly software), telecommunication, and trading continued to be attractive areas for foreign investment even after demonetisation. The affected sectors were construction and automobile.
What does it show? Eventually, the manufacturing sectors (except telecommunication), or say, Make in India initiative, stood downplayed. The slide was due to the downturn in the informal sectors (Including small-scale sector), which are more reliant on cash and unaccounted money for investment.
Partially due to policy restriction for foreign investment in small-scale sector (FDI is not permitted beyond 76 per cent in small scale), and the unorganised nature of the informal sector, FDI has been concentrated in the organised sector. As such, FDI remained insulated from the demerits of demonetisation, which affected the informal sector most.
Apparently, during the Modi period, the pattern of FDI has greatly changed. The major foreign investors during this period were not the big honchos in global manufacturing, but private equity (PE) firms and the round-trip money, especially from Mauritius. The PE funds flowed mainly in e-commerce-related sectors, which emerged as a high-profit business. According to a Professor of Indira Gandhi Institute of Development Research, PE funds accounted for 60 per cent of the total foreign investment inflow in 2014-15, and the top three recipients were Flipkart, Paytm, and Snapdeal. These funds were used to finance retail trade in mostly imported goods. Critics argue that PE funds do not add to any capital formation and technology transfer, as expected from FDI.
Although PE fund and round-trip money have not helped gear up the Make in India initiative, India has emerged as a hotbed for foreign investment in the world. Its strong macro-economic parameters have become the main attraction for foreign investors. Unlike domestic investors, foreign investors were not swayed by the demerits of demonetisation which they considered as short-term and with limited impact on the economy against the strong macro-economic parameters of the country. According to Bain & Company, "They (foreign investors) believe that while demonetisation may affect short-term growth... it should have a long-term benefit". It argued that "despite these policy changes, the Indian stock market (Sensex) remained more or less stable during this period".
FDI has a multi-dimensional impact on in the manufacturing sector. It turbocharged the manufacturing of digital-related products and reinvented the potential for the revival of import substitution programme.
A close nexus has been established between the manufacturing of mobile phones and FDI. Having become an important engine of growth for the mobile phone manufacturing, today, the country is producing nearly 45-50 per cent of the mobile phone demand in the country.
Currently, mobile phone industry contributes 6.5 per cent to GDP and this is likely to go up to 8.2 per cent by 2020. As India becomes the fastest smartphone maker in the world, the handset industry is poised to overtake America as the second biggest market in the next few years. With the slew of incentives offered, such as PMP (Phased Manufacturing Programme), India is poised to be the manufacturing hub for mobile phones and parts. Foxconn, Samsung, and a chunk of Chinese players are setting up their manufacturing units in India. This led a spurt in FDI in telecommunication, defying demonetisation blues. In 2016-17, FDI in telecommunication spiked five times higher to US $5.6 billion, from US $1.3 billion in 2015-16. Telecommunication was the second biggest receiver of FDI in 2016-17, after service sectors.
Relying on India's growing attraction for foreign investment and to boost the Make in India initiative, Government of India reverted to import substitution programme. With the initiation of new policy framework relating to procurement of metro coaches, the government decided to procure more metro coaches produced in India. It decided that metro railways should procure 75 per cent of the coaches and critical signaling equipment from domestic sources. This led to a big foray by the foreign investors to establish their manufacturing units in India. Currently, of the three metro coach factories in the country, two are run by FDI and many more are in the offing.
Coupled with a big leap in the World Bank's Ease of Doing Business and Moody's rating upgrade of India from Baa3, just above 'junk status', to 'positive', foreign investors' confidence in India's consolidated economic strength and political stability is unlikely to be dissipated due to demonetisation issues.
(The views expressed are strictly personal.)