Foreign direct investment opportunities and barriers in India

FDI in India

India is Ripe for the Picking

India ranks second only to China in its attractiveness as a target for foreign direct investment. Of particular interest are the retail and technology sectors, as well as construction and manufacturing sectors. India is an up and coming market with potential for companies that want to expand into this lucrative land of opportunities. This research examines the opportunities exist in India as well as the climate that makes it a favorable location. It also addresses the obstacles to its continued expansion.

Although India has many opportunities, it has several problems with its policies that make create a certain risk, particularly in the area of taxes and other policies. India is in a state of flux and it is experiencing growing pains. As a result the Indian government keeps changing policies as far as taxing issues are concerned. This decreases confidence due to inconsistencies in changing policies.

' In addition to inconsistent tax policies, India continues to use change its position on foreign investment. India restricts foreign investments to allow for the growth of their own businesses. Labor laws are also restrictive, forbidding layoffs for any reason. Workers are protected in India, which is another consideration when MNCs considering foreign direct investment. However, for the company that is willing to tolerate these policies and inconsistencies, India represents one of the greatest investment opportunities in the world.

Introduction

Four hundred years of British Rule in India ended when India gained its freedom in 1947. When India gained its independence and the right to form its own style of government, it adopted a highly socialistic form of democracy. It developed a complex, layered system of rules and regulations that involves a high level of government intervention (Yallapragada & Paruchuri, 2003). This pattern set the stage for the government and society that exists today. This was the foundation of the bureaucratic rules that govern foreign direct investment and that limit its ability to attract interested investors.

This research examines the governmental and bureaucratic components of the country profile that hinder its ability to attract foreign direct investment. In addition, several cultural constructs also play a role in the attractiveness of investment in India. The sectors that have achieved the greatest growth in most recent years are construction, telecommunications, computer software and computer hardware (Yallapragada & Paruchuri, 2003). In recent times, the sectors have led economic growth in many countries around the world. India has an excellent opportunity to capitalize on growth and the tech sector, but it is not able to do so unless it is willing to make changes that will result in greater attractiveness to investors. This research will explore the changes that need made by India in order to maximize their benefits in terms of foreign direct investment in these rapidly expanding sectors.

Political and Legal Environment

Main Features

The legal and political environment in India poses the greatest threat to the growth of foreign direct investment. In general, growth in foreign direct investment has been slow, compared to countries such as China. For instance, in 1990 FDI inflow to India was an equivalent of $162 million U.S. dollars. By 1998 it had grown to $3.3 billion in 1998. By comparison, China's FDI grew from $3.4 billion to $45.6 billion (Yallapragada & Paruchuri, 2003). This slow growth in India it indicates that they face problems in getting other countries to invest in them.

India's political situation is paradoxical. On one hand, and is one of the largest democracies in the world. It has one of the oldest judiciary systems in the world. By comparison, China is communist and under authoritarian rule, which often makes it less attractive as a target for FDI due to high amounts of corruption. In general, democratic governments with capitalistic economies are considered more advanced than those ruled by authoritarian, communist governments. This makes countries with established democratic governments more attractive and stable than communist markets. From this theoretical perspective, it does not make sense that China outpaced India in terms of FDI inflow during the 1990s.

India has a large middle class with a high degree of spending power. It has an active economy, yet many overlook it as a possible investment target. The amount of FDI in India does not reflect the many opportunities that exist in terms of their growth in certain sectors. Construction is the biggest growth category in the country. English is the national language in India and it has a well-educated workforce. India would seem to be the better of the two investment choices when compared to China.

The reason for this discrepancy between FDI inflow and its suitability for such an opportunity lies within India's political structure and rules. Although India has an established democracy, it also has one of the more unstable ones as well. One of the reasons for this instability is the existence of many competing political parties. They frequently change prime ministers. The government spends more time resolving internal issues than resolving the problems being faced by the country. Reforms are slow in this type of political atmosphere (Yallapragada & Paruchuri, 2003). Reforms are usually limited due to the need to satisfy so many different competing interests and parties.

From an economic perspective, the infrastructure is considered to be the weakest link in the economy and the ability to achieve greater economic growth. This has been cited as one of the greatest hindrances to economic growth of FDI in India (Yallapragada & Paruchuri, 2003). The road system is sparse in rural areas, making transportation of goods difficult. It also suffers from an inadequate power grid to handle the increasing load. This is also particularly problematic in rural areas. The infrastructure itself offers many opportunities for FDI in terms of contracts for the increase of the infrastructure.

The current legal framework concerning FDI has been slow to change. India recognizes that it must find a way to compete on a global basis and to attract higher levels of FDI in the future if it is to remain a competitor on the global market. However, due to inefficiencies in the speed with which the government adopts policies, it is difficult to bring about the changes needed fast enough. This places them at a disadvantage when it comes to attracting FDI. The process of investing in India has a long and drawn out process. An MNC must go through many levels of the bureaucracy before approval is granted.

Another hindrance to attracting FDI is that India frequently changes tax laws without notice. In addition to these fluctuating tariffs on a national level, India has many states and each of these has their own set of taxes and rules to follow (Yallapragada & Paruchuri, 2003). For examply, companies must pay taxes to be granted permission to retire their employees. The tax laws and policies place the company that wishes to invest in India at a disadvantage. If things were not already bad enough, the government is known for corruption on all levels. It is considered culturally acceptable, even expected, that the way to get things done is to offer money. This is a social custom. Corruption is culturally acceptable. This is an important factor that businesses wishing to invest in India have to take into account in their decision (Yallapragada & Paruchuri, 2003). What many consider to be corruption, in India is a cultural tradition.

Significance of the Environment to Industries

India's existing MNCs are trying to find ways to improve and fill in the gaps left by the government. MNCs see the problems with the infrastructure and in many cases roads and infrastructure improvements are undertaken by the companies that wish to use them rather than by the government (IndiaKnowledge @ Wharton, n.d.). Many companies see alliances and partnerships as an excellent way to invest in India. The pharmaceutical industry is one of the most important recent examples. Through partnerships they can take advantage of familiarity with the market and political procedures, as well as capital and more advanced research and development from countries such as the United States (Bennet, Coleman & Co., Ltd., 2011).

Until the problems of corruption are resolved, FDI will continue to be slow. Countries with high corruption levels experience slower FDI growth than those where corruption is at a lower rate (Wijeweera & Dollery, 2009). India has experienced significant GDP growth in the past several years, but analysts doubt if this will continue if the internal issues are not resolved (Das, 2009). Inconsistencies in policy are one of the greatest threats to the development of FDI. The policies of India are considered closed, as compared to other countries that are more fully globalized (Nagjshpour & Sergi, 2009). Informal mechanisms also exist that play a role in FDI growth and entry strategies. Management control strategies are one of these informal mechanisms (Tekavcic, 2010). Informal mechanisms play an important role in FDI growth, but these are often the most difficult to study.

Main Features

In a report issued by the investment commission it was found that India is aware of its problems and impediments to attracting foreign direct investment. According to the report, India experienced a 7% GDP growth from 2001 to 2006 (Investment Commission Report, 2006). The National Investment Strategy (NIS) focuses on the creation of national thrust areas where the government focuses on removing impediments and providing special incentives for predetermined time in order to achieve specified growth in that area. The Investment Commission Report stated that the key areas of focus chosen by the Indian government were tourism, power, textiles, and agro processing. They planned on hosting several major world events to focus attention on infrastructure development 2020 Olympics, Football World Cup, and Formula One Racing (Investment Commission Report, 2006).

India has taken measures to streamline the licensing process for foreign investors. Many of the Union States are also setting up incentives of their own and ministries to help assist in the process of approval and setting up the business in India ("Ready Reckoner on Investing in India,"n.d.). Although these actions are a step in the right direction, they do not represent a focused, national plan that addresses the key problems with FDI promotion. It is a step in addressing the bureaucratic issues, but it is not known if these measures are enough to result in FDI growth. Potential foreign investors may not know about these new measures to help with the process of relocation. They still have the perception that India is a country that is difficult and unreceptive to foreign investors. India will have to work hard if it is to shake its reputation of being an unfriendly place for foreign investors. This is a step in the right direction, but it is not known if it is enough.

MNCs and India's National Innovation System

India's NIS will help to capitalize on its traditional economy. However, it will not allow it to take advantage of the opportunities that lie within its fastest growing sector. The policy ignores competition from China and the impact that this will have on the ability to attract FDI in the tech sector in the future. The service sector will have a significant impact on the success of the NIS, yet this sector, and its spillover effects into other industries were not even addressed. The NIS plan is conservative and favors leftist politics and their protectionist attitudes towards their own domestic businesses.

The question is whether a protectionist attitude towards FDI will have the desired effect of spurring internal growth of the economy, or whether it will prevent India from becoming a key player on the global marketplace. There are advantages and disadvantages to a protectionist attitude and at present, it appears that India has failed to recognize opportunities that present chances for growth. Considering these factors, it is likely that India's NIS will have a positive impact on the sectors that were chosen as an area of focus, but that this will be a narrow and negligible effect compared to the opportunities that went unrecognized in its development.

Leveraging the Features of the NIS

As it is written, the current NIS for India only provides opportunities for growth in certain sectors of the economy. It will provide significant opportunities for those in the construction industry through the continued improvement of the infrastructure. Those who wish to take advantages of the government incentive programs will have only a short time to do so, and if the infrastructure is not ready to support this growth at that time, the incentives for growth will be underutilized. The service sector of the market is the most poised to take advantage of the incentives offered by the NIS, as they can provide the needed peripherals needed to boost the other sectors. They will be key players in the development of industry surrounding the proposed world events that India plans to host.

The best strategy for leveraging the opportunities offered by the NIS is through partnerships and mergers. However, the Indian government does not have a favorable attitude towards mergers and has a prohibitive policy towards them. The key opportunities for growth are through the provision of ancillary services and products. Supply chain integration is the key to taking advantage of opportunities for FDI resulting from India'a NIS. High tech companies were largely ignored in the plan, but they have many opportunities to step in and become suppliers to other countries that are in the focus sectors of the NIS.

The strategies in India's NIS offer a way to boost overall awareness and promotion of the wealth that India has to offer foreign investors. However, their strategy only focuses on the surface of the problem. Hosting world events is a great way to improve the infrastructure, but it only focuses on a small area the country, the one holding the event. In addition, the government incentives programs contained in the NIS focus on traditional areas of India's economy. They ignore new areas of GDP growth such as technology, auto manufacturing, and the banking industry. The current government plan does not focus on areas that hold the greatest potential for FDI. The plan is not taking advantage of the best that India has to offer, but rather relying on traditional areas of the economy. It does not make the best of what India currently has to offer the world.

In addition to focusing on the wrong sectors in the economy, India's current NIS has no comprehensive plan for repairing the underlying problems in the government and bureaucracy that hinder FDI growth. It does nothing to solve the problems of perceived corruption, policies that do not support FDI growth and a bureaucratic system that only makes FDI possible for large companies that are willing to go through the long and arduous process. These are the key problems that hinder FDI growth in India. Yet, these issues or not even addressed by the Investment Commission Report and the NIS.

India will probably be able to reap some benefits in some sectors of the market using its current NIS strategy. They will experience improvements in infrastructure, awareness and growth in their targeted sectors for government incentives. However, until the underlying problems associated with ineffective government policy and a highly bureaucratic system are resolved, the growth achieved is not likely to be sustainable. In order to achieve sustainable growth, it is recommended that India focus more on improving internal policies that hinder FDI in all sectors of the market, rather than engaging in shortsighted marketing attempts to attract foreign investors. India needs to focus on the processes that will result in permanent and wide sweeping changes, rather than being sidetracked by the recommendations addressed in the NIS.