Foreign Direct Investment (FDI), can be understood as an investment made by a company or entity based in one country, into a company or entity based in another country. Foreign Direct Investment plays an extraordinary and growing role in global business. These trans-national investments have become the major economic driver of globalization, accounting for over half of all cross-border investments.
Historically, FDI has been directed at developing nations as firms from advanced economies invested in other markets, with the US capturing most of the FDI inflows. While developed countries still account for the largest share of FDI inflows, data shows that the stock and flow of FDI has increased and is moving towards developing nations, especially in the emerging economies around the world.
FDIs not only provide foreign capital and funds, but also equip domestic countries with advanced commercial skill sets (due to transfer of technology and knowledge), information and expertise, job opportunities and improved productivity levels.
FDI is attracted into a country for different reasons. At a general level, in order for a country to be more attractive to investors, there is a need to create a conducive environment by reducing the so called hassle costs.
An enabling environment for FDI has several components. First of all, political and macroeconomic stabilities are an absolute pre-requisite for any kind of private investment, including FDI. Numerous studies have amply demonstrated that political and economic stabilities, along with the prospect of growth, are the most important determinants for FDI. Only in extreme cases, such as the existence of crucial natural resources, would a foreign investor go to a war zone or where there is rampant inflation. Secondly, a sound policy and regulatory framework and efficient supporting institutions to enforce the relevant laws and regulations are imperative for FDI to enter and thrive.
Especially in a globalised competitive market, the difference between countries in how conducive their investment climate may be, including how an investor is received, how many administrative and regulatory obstacles an investor has to overcome to enter and operate, and how commercial disputes are handled through the judiciary system have a huge impact on where the investor will go and how much contribution the investment will make to the host economy. Finally, an adequate physical and social infrastructure complements a good policy and regulatory framework to create the necessary environment for attracting FDI. These include the quantity and quality of roads and communication systems, skilled labour, as well as the efficiency with which public services are delivered. They are also important if the full potential benefits of FDI presence are to be realized.
There are mainly three major modes through which firms undertake foreign direct investment (FDI) – merger and acquisition, joint venture, new plant .Mostly, the investment is into production by either buying a company in the target country or by expanding operations of an existing business into that country.
FDI was introduced in India in 1991 under the Foreign Exchange Management Act(FEMA) as a part of the new economic policy. An Indian company may receive Foreign Direct Investment under the two routes namely Automatic route or Government route. In automatic route, FDI is allowed under the automatic route without prior approval either of the Government or the Reserve Bank of India in all activities/sectors as specified in the consolidated FDI Policy, issued by the Government of India from time to time. Whereas in the Government route, FDI in activities not covered under the automatic route requires prior approval of the Government which are considered by the Foreign Investment Promotion Board (FIPB), Department of Economic Affairs, Ministry of Finance.
The Indian government undertook a series of steps to open and thereby enlarge the scope of investments through FDI. In 1997, FDI in cash and carry (wholesale) with 100% rights allowed under the government approval route; In 2006, FDI in cash and carry (wholesale) was brought under automatic approval route, upto 51% investment in single brand retail outlet permitted, subject to Press Note 3 (2006 series). In 2011 : 100% FDI in Single Brand Retail allowed’. In 2012 government approved, the allowance of 51 percent foreign investment in multi-brand retail, [It also relaxed FDI norms for civil aviation and broadcasting sectors].
However, FDI in multi-brand retail continues to be a bone of contention amongst policy makers and political parties.
Today, FDI is approved in all sectors except atomic energy, lottery business, gambling and betting, business of Chit Fund,Nidhi Company, agricultural (excluding Floriculture, Horticulture, development of seeds, animal husbandry, pisciculture and cultivation of vegetables, mushrooms, etc. under controlled conditions and services related to agro and allied sectors) and plantations activities (other than tea plantations),housing and Real Estate business (except development of townships, construction of residential/commercial premises, roads or bridges to the extent specified in notification, trading in Transferable Development Rights (TDRs),manufacture of cigars, cheroots, cigarillos and cigarettes, of tobacco or of tobacco substitutes.
India is the third largest economy of the world in terms of purchasing power parity and thus looks attractive to the world for FDI. Even Government of India, has been trying hard to do away with the FDI caps for majority of the sectors, but there are still critical areas like retailing and insurance where there is lot of opposition from local Indians/ Indian companies. The fear that small domestic retailer will be pulverized due to the entry of foreign players, leaves the Indian Parliament divided on the decision of whether to open FDI in those sectors.
For growth, FDI is essential for India which is also an attractive destination for the same because of cheap labour here and it being an intensively consumer FDI based economy. The government also welcomes FDI and has instituted many measures to encourage foreign investment via tax exemptions and increasing or removing caps and ceilings.