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The rules do away with various classifications restricting foreign investment in Indian companies, including allowing Indian company owners to tap non-resident Indians – which will no longer be considered foreign investment in calculating FDI stakes in local companies. Experts say that almost every sector of the Indian economy has effectively been thrown open to foreign investment.
Foreign investors will be permitted to increase their stakes beyond the earlier limits of 26 to 74 percent, depending on the specific industry. They may also hold up to a 98 percent stake in a company indirectly – through a holding company – in certain hitherto limited sectors like telecommunications, civil aviation and farming, provided the management remains with Indians.
The new rules have taken FDI reforms a step further by allowing foreign investors to use their share of profits from an Indian company to invest in another company in India or in another country. According to U.S. investors, this saves the trouble of raising fresh funds from home to invest in India. The new rules also allow FDI in certain sectors, like multi-brand retailing for instance, that were not previously open for FDI.
However, "sensitive sectors" like lotteries, gambling and betting, chit funds, and nuclear energy – which are not yet open to the private sector – remain out of bounds for foreign investors.
"The adoption of the guidelines will simplify, streamline and rationalize the method of calculation of indirect foreign investment across sectors," said P. Chidambaram, former finance minister and now home minister, when announcing the guidelines.
"(The announcement) was a very powerful move by the government and a fairly powerful signal in the current turbulent times," said Vivek Gupta of BMR Advisors, a global consultancy, in a comment to the media. "I think this move not only facilitates entry of foreign capital, which is non-controlling and which does not interfere with the government's overall policy diktat, but it also makes available capital to Indian entrepreneurs and Indian companies.”
According to industry analysts, FDI allowed so far in high-growth sectors like insurance and petroleum refineries, at 26 percent each, and civil aviation at 49 percent, was hardly enough to meet the sectors' funding needs.
Indeed, India claims that despite the global meltdown, its economy could still grow at 6 to 7 percent. But skeptics say that could be wishful thinking, against a background of continuing tight liquidity globally, resulting in falling FDI inflows.
For instance, the World Economic Forum and Confederation of Indian Industry said in a recent report that the global downturn is putting considerable pressure on the Indian economy for sustaining growth rates the country targets in 2009.
"India's dependence on capital flows to finance its current account deficit is a macroeconomic risk and the global crisis could generate a sharp increase in capital outflows and a reduction in the availability of finance," the WEF-CII report said.
FDI inflow numbers are discouraging. According to the government, total FDI during April-November 2008 was US$19.7 billion. Although this was 78 percent more than the US$11.1 billion received during the same period last year, most of it came before the downturn. Inflows started declining from October 2008, at US$1.4 billion, to US$1 billion in November 2008 and even lower thereafter.
"As of today foreign investors' money is flying to the perceived safety of their home countries. Investors are wary of investing offshore," said Shrawan Nigam, senior consultant at the Indian Council for Research on International Economic Relations. Estimates suggest that this year FDI inflows would be much lower, at US$25 billion or thereabouts, than the $35 billion target.
The current economic crisis has left Indian industry gasping for funds. According to the Securities and Exchange Board of India – the capital markets regulator, which recently made it mandatory for companies to disclose the amount of shares a company has “pledged,” or put up as collateral for loans – more than 310 local companies, including marquee names like Tatas and the Reliance Group, have pledged roughly US$7 billion worth of their controlling shares to fund their business needs.
The new FDI norms will clean up and establish a clear framework for Indian companies to raise capital, as well as increasing FDI flows into India, say experts.
Not everybody is happy about the relaxed norms, however. The biggest objections have come from the Communist Party of India, a powerful opposition party. The CPI says that the rules allow backdoor entry of FDI, since they allow companies in "sensitive" sectors – like telecommunications, media, ports and defense manufacturing – to legitimately breach the FDI limits by getting foreign funds through separate holding companies.
The other problem is that they create loopholes for India's often corrupt administration to take subjective decisions. "These rules were announced without consulting the Parliament and we will oppose it," said D. Raja, national secretary of the CPI, in a public statement.
Moreover, according to Nigam, the new rules may hardly make any immediate difference to foreign money inflows in the country. "Given the current financial scenario in the global markets, there may not be any rush of capital in a hurry. Maybe FDI inflows could increase after about two years, but certainly not immediately," he said.
Still, what can't be denied is that the relaxation takes India's reforms a step forward. "There have been efforts to reform the system many times in the past, and those were blocked for various political and ideological reasons," says Nigam. "The general consensus is that India needs to move toward taking a positive approach toward private investments, and the new FDI announcement is one such approach."
