How to make India a hotspot for foreign investors

Whatever the critics may say, the numbers suggest that India continues to be a favourite destination for foreign investors, says A K Bhattacharya.

More clarity on India's performance in attracting foreign direct investment or FDI has emerged with the release of fresh data by the government.

Total FDI flows into the country in 2014-15 were estimated at $44.3 billion, showing a 23 per cent increase over those in 2013-14.

They are not as high as the claimed growth of 40 per cent, but certainly a healthy rate for any government to feel good about.

Note that for the Narendra Modi government, this was also the first full year in office.

The performance looks even more creditable as it comes on top of only five per cent growth in FDI flows in 2013-14 (the last year of the Manmohan Singh government).

That the uptrend continues even in the current financial year is an additional source of comfort.

In the first nine months of 2015-16, FDI flows were estimated at over $40 billion, showing strong growth of 28 per cent over the same period in 2014-15.

In other words, FDI flows continue to rise even in the current year and are likely to be even better than last year.

A few points need to be kept in mind in this context.

Whatever the critics may say, the numbers suggest that India continues to be a favourite destination for foreign investors.

It could well be argued that there aren't too many countries other than India growing at a decent rate of seven per cent.

In the last 22 months of the Modi government, the rules governing FDI have been relaxed in areas such as insurance, defence and e-commerce.

Add to that its big domestic market and relatively sound macroeconomic fundamentals, India will be a natural choice for most foreign investors.

That may well be true. But consider the thorny issues as well.

The government has not yet fully resolved the retrospective taxation issues with foreign investors like Vodafone and Cairn.

Tax notices continue to be served on them with no early resolution of those disputes in sight.

Recent regulatory actions in different sectors have hit, in particular, some well-known multinational firms - Nestle, Monsanto and a few drug manufacturers.

These actions should have certainly dampened the prospects of FDI flows into the country.

If India continues to get increasing FDI flows in spite of such adverse factors, it is a reflection of both India's economic potential and the paucity of alternatives for international investors.

An important factor in India's FDI growth story is the rise of Singapore as the single largest source of its foreign equity investments.

This is not a sudden rise. Five years ago, foreign equity flows from Singapore was estimated at $1.71 billion in 2010-11.

Last year, it was up at $6.7 billion and in the first nine months of 2015-16 it has gone up to $10.98 billion.

It is almost certain that Singapore will emerge this year as the single largest source of India's foreign equity flows, repeating its performance as the number one investor in India in 2013-14.

More interestingly, Singapore would be replacing Mauritius as the number one source of India's foreign equity inflows.

Five years ago, in 2010-11, Mauritius was responsible for routing as much $7 billion of foreign equity flows to India.

In the subsequent years, they kept rising and in 2014-15 they were estimated at $9 billion.

But during the current year, Mauritius is way behind Singapore as the source of foreign equity for India.

There is no doubt that the controversy associated with the uncertainty over the continued status of Mauritius as a country offering attractive tax concessions has contributed to the decline in equity flows from that country.

The composition of India's FDI flows also deserves some attention from policymakers.

For a country that is keen on attracting investments in the manufacturing and infrastructure sectors, the poor flow of FDI to these areas is puzzling as well as a cause for concern.

The largest chunk of foreign equity is coming to the services sector including financial companies, insurance providers, outsourcing agencies and courier firms.

This is followed by the trading companies, which is understandable given the large flow of resources being cornered by e-commerce companies in the last couple of years.

A tiny little share in total FDI flows goes to the construction sector or the automobile industry.

Even as FDI flows keep maintaining healthy growth, policymakers at the Centre must worry about their direction.

If the goals of higher economic growth have to be achieved, it is important that more investments - including those sourced from abroad - are guided to infrastructure and manufacturing sectors of the economy.

It is also important to remember that the rise in India's FDI flows began just about a decade ago, even though policies on foreign investments in various sectors were liberalised much earlier.

FDI flows stayed well below $10 billion until 2005-06. The big surge came the following year when they spurted to $23 billion.

Since then, FDI flows have risen quite fast and stayed above $34 billion every year, although they fell on three different years.

However, the Indian economy's reliance on FDI flows is increasing.

Even when foreign institutional investments in the secondary capital market decline, FDI flows have made good the loss.

In the current year, foreign institutional investments would actually see a net outflow of over $10 billion and even remittances would slow down, but FDI flows would maintain a healthy rise.

Policymakers would do well to take note of this trend and work towards fine tuning policies in a manner that FDI flows do not hit a road block and cause an external account problem for India.