Free FDI of ideological, electoral pulls

The case for FDI is too well-known. FDI brings in additional investible resources, modern technologies, access to markets and better and more efficient management practices. Wise countries encourage their people to save; wiser countries entice those savings to their lands by providing opportunities for investment.

We need both domestic savings and the savings of the people of other countries. These savings are investible resources. Developing nations like India are in dire need of such resources. Hence the need to promote domestic savings as well as attract foreign investments.

Our attitude to FDI has ranged from total opposition to scorn to ambivalence. No Prime Minister has put the full weight of his authority behind a drive to attract more FDI. The result is that the ratio of FDI inflows to GDP has never crossed 0.9 per cent (1997). Singapore, which has the most open economy, registered a ratio of 13.7 per cent in 1997 and 7.0 per cent in 2000. Vietnam, one of the last outposts of communism, recorded a ratio of 10.0 per cent in 1997 and 6.8 per cent in 2000.

The FDI policy has been in the making since reforms began in 1991. The policy was made in fits and starts. Changes were always incremental. Often, policy was made by stealth. In the guise of managing foreign exchange reserves, important steps in the process of liberalisation were announced by the Reserve Bank of India. The NDA Government has shied away from making a definitive re-statement of the FDI policy. It has preserved the architecture put in place by the previous Congress and United Front governments, and simply added to that architecture. The result is a complicated tableaux, which is not easy to comprehend or explain to foreign investors.

Many features of this tableaux reflect the idiosyncrasies of the policy makers. Happily, the Report exposes these idiosyncrasies.

For example, 100 per cent FDI is allowed in private sector petroleum refineries. But if these refineries wish to market their products, FDI is limited to 74 per cent in the marketing companies. If a foreign investor wishes to invest in petroleum exploration and sets up an incorporated joint venture, he many not invest more than 51 per cent of the equity. Should he decide to go in with an unincorporated joint venture, he is allowed to invest up to 60 per cent. Should he bid for a small field, he can do even better and invest up to 100 per cent. Nonetheless, if the investor wishes to have his own pipeline, he cannot invest more than 51 per cent in the pipeline company.

Take the mining sector. If a foreign investor wishes to invest in a coal or lignite mine, he can go through the ‘automatic approval’ route (RBI) and invest up to 50 per cent. Should he want 1 per cent more (and thus gain undisputed control), he must apply to the Foreign Investment Promotion Board (FIPB). If the foreign investor intends to use the coal or lignite for producing power, FIPB will allow him to invest up to 100 per cent, but if it is for any other purpose, FIPB will limit the equity stake to 74 per cent.

One more example will suffice. The foreign equity cap in the telecommunications sector is 49 per cent. This was imposed on considerations of ‘national security’, a point reiterated in the new Telecom policy.

Yet, given the astronomical sums of money required, it was obvious from the first day that there will be few Indian entrepreneurs who had the capacity to provide the remaining equity of 51 per cent.

So, after placing the hurdle, how did we get over the hurdle? We performed the famous Indian rope trick. We said that foreign equity in the operating company cannot be more than 49 per cent, but the other shareholder, the Indian company, can be the subsidiary of a parent company and we will allow foreign equity up to 49 per cent in the parent company too!

Thus, by splitting his investment into two levels, the foreign investor could effectively hold 49 per cent plus 49 per cent of 51 per cent, making it 74 per cent of the telecom business!

The Planning Commission’s report effectively rubbishes these sectoral caps on foreign equity and recommends, nearly across the board, a uniform limit of 100 per cent.

Moreover, it recommends that, save in a few cases, all proposals should be put through the ‘automatic approval’ route.

Of course, liberalising foreign investment up to 100 per cent in a sector does not mean that there will be a flood of investment. In the power sector, for instance, foreign investment up to 100 per cent has been permitted for many years. Yet, virtually every foreign power company, which entered India, has beaten a retreat. The one that stayed through all the troubles it faced, Enron, has a world-class plant that was forced to shut down. The story is the same in telecommunications and pharmaceuticals: for every foreign player who has chosen to stay back, at least two players have left India for better destinations.

If India is serious about 8 per cent growth in GDP, it should get serious about attracting a much higher level of FDI. FIPB, FIPC and FIIA have all outlived their utility. As the Report points out, only 220 of the Fortune 500 companies have some ‘presence’ in India. It is these companies which control capital, technology, brands and markets. Setting FDI targets for each ministry is a good idea — if it can be ensured that the minister is not a swadeshi-ite and the secretary is not an unreformed protectionist. Targeting the Fortune 500 companies is also a good idea. The best idea, however, is to have a government of men and women that is not a prisoner of ideology, cant or hypocrisy and that looks beyond the next state assembly or parliamentary elections. I wonder what N.K. Singh’s committee has to say on that.