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FDI and its Impact on Indian Economy

BY: Dr.priyabrata bandyopadhyay | Category: Finance | Submitted: 2012-07-10 11:03:06
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Article Summary: "Nature FDI in Indian Economy and its effectiveness in Promotion of Foreign Exchange Reserves and social development in India. Significance of the FDIs inflow in India Eco and its impact on foreign exchange reserves ..."

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Nature FDI in Indian Economy and its effectiveness in Promotion of Foreign Exchange Reserves and social development in India:-A Study from last decade by


ABSTRACT :- Significance of the FDIs inflow in India Eco and its impact on foreign exchange reserves .

INTRODUCTION:-FDIs being the leading source of external finance , have become very important factor in national development strategies in our country . FDIs provide impetus for economic development , enhance competitive efficiency , open up new opportunities , help to optimize allocation of resources . It can contribute to GDP , Gross fixed capital formation and balance of payments.

Objective :-
1. To find the relationship between FDIs flow with export and foreign currency reserves over the last decade .
2. The viability of FDIs inflow in Indian Economy .
3. The effectiveness of FDIs inflow in Indian Economy.

FDI can stimulate employment , raise wages and replace declining market sectors , provided it generates and expands business . But, the benefits may only be felt by small portion of the population i.e. where there is an urban emphasis or wage differentials between income groups will be exacerbated . More over it can encourage a culture of consumerism. Green field investments can stimulate new infrastructure development and technologies which will result in social and environmental benefits provided they spill over into host communities and business i.e. in - house investment .

NATURE OF FDI IN INDIA(1991-2010):- Its volume and composition of FDI are determined by assignment theory . FDI flows can be characterized in two ways either through Greenfield investment i.e. building productive capacity in the foreign country to develop corporate assets abroad or through cross border acquisition i.e. purchasing foreign corporate assets.

Green field FDI must be one-way , where as , cross-border acquisitions are two ways . Green field FDI occurs because firms want to exploit cost differences by reallocation . But cross-border acquisitions exist not only because of cost differences but also for the distribution of entrepreneurial abilities .

FDI is motivated by differences in production cost provided entrepreneurial abilities are same in concerned countries . Green field FDIs are more efficient if entrepreneurial abilities differ . Cross-border acquisitions are more productive incase of high cost country .

Cross-border acquisitions prohibit a firm to produce other goods but Green field FDIs do not prohibit a firm to produce the said goods which was initially endowed Green field FDI and cross border acquisitions co-exist but FDIs take the form of cross-border acquisitions only when difference in cost of production vanishes .

Green field FDIs are more productive since cross-border acquisitions provide less to the host country's economy and deploy less efficient foreign firms .

Analysis depending on (1990-91 to 1998-99) MNCs which are coming mainly from European countries (49%) , entering mainly on Green field activity (46%) . They are comparatively less interested in acquisition i.e. in partial acquisition, 12 % and full acquisition 5 % respectively .

MNC's investment in India until 1994 was not encouraging i.e. only 25% . But investment in India got momentum after 1994 . The majority of MNC's investment , i.e., 53% is focused on product and 35% is in related business sectors .

Amongst MNC's Investment in India almost 78% is from USA and Western Europe ,11 % from Germany and 9% from U.K .

Pattern of FDI in India has been significantly changed during two successive decades , starting from 1991.service sectors has got more importance during second decade i.e. (2000-2009) . it has been increased from 7% to 21% . Telecommunication has remained the same i.e. 7% .Investments during 1991-1999 in different sectors are, transportation 9% , electrical equipment 8% , chemical 7% and others 62% respectively .

FDIs during 2000-2009 , are computer software and hardware 10% , construction -6% , House and real estate 6% and others 50% respectively .

Exports and Imports to and from EU , Germany and U.K and USA are almost balanced .Much European investment is directed towards Intermediate goods , Machinery and Equipment sectors ; North American firms invest in IT and financial services sectors ; Japanese and East Asian countries invest in machines and equipment. FDI is generally preferred since portfolio investment is highly volatile and it can be taken back during wakening phase of any economy .

Foreign exchange reserves which was 1 billion US$ during 1990 , increased to five times during 1991 , 1995 , 2004 respectively . It amounted to almost three times during May 2008 and afterwards falls to US$252 , due to Global crisis and strengthening of US dollar , again it increased to US$192.08 in the year 2010-2011 after a fall in US$182.64 billion .

India is now the fourth largest foreign exchange holder in the world , ranks after China , Japan and Russia . A noticeable development in 2009-2010 is the investment of foreign exchange reserves in domestic infrastructure projects , means doing away with the need for external assistance and carrying out without the fear of monetary expansion .

Although , RBI intervenes to reduce excess volatility for maintaining rate of exchange thereby maintaining sufficient levels of reserves . The value of rupee had been stabilized even after fluctuations in the last decade .Rupee depreciated during 2008-2009 due to huge trade deficit and fall in capital flows . But it strengthened during 2009-2010 due to capital inflows and FDI/NRI deposits . Rupee further depreciated , very recently to the maximum extent and recently FDIs have been allowed up to 51% in retail sectors , but it is under review of the Govt.

FDIs can contribute to GDP , Investment and Balance of payments . If we go through the FDIs inflow , starting from 1991 we will be observing a steady increase up to 98-97 , i.e., from US$1.65 billion to US$36.8 billion . Export has been increased steadily during this period and a result Foreign Exchange reserves has been increased from US$1 billion to US$25.2 billion .FDIs inflow have been declined during 1999-2000 and 2000-2001 and come to US$24.39 billion .Again we have observed a declining tendency during 2003-2004 and 2004-2005 respectively i.e. US$ 31.34 to $26.34 billion . Export during 1909-1910 has fallen i.e. from US$ 1852.95 billion to US$ 1787.51 billion .Foreign Exchange reserve has declined during March 2009 to 2009-2010 i.e. from US$ 252 billion to US$ 192.08 billion Growth of FDIs in comparison to last year have declined considerably after 2008-2009 to negative figure i.e., -18% and -22% in the year 2009-2010 and 2010-2011 , respectively . So we can conclude that FDIs flows have persistent relations with export growth and foreign currency reserves in our country .

From the on going analysis we can conclude that overall impact of FDIs inflow on current Indian economy is optimistic .In terms of foreign currency reserves, employment generation, social development, competitive framework development- noticeable improvements have been observed. But " Miles to go" to maintain the sustainability in overall development of our economy.

1. Assignment Theory of Foreign Direct Investment JEL, April 12, 2006
2. FDI in Indian Service Sector by Dr. Arjun Singh Sirari..
3. Economic surveys by Ministry of Commerce and Industry
4. RBI Bulletin , Journals , articles etc.
5. EPW , nov.26,2011,Vol XLVI NO48

About Author / Additional Info:
I am an Indian and an economist.

Comments on this article: (2 comments so far)

Comment Comment By Comment Date
good job.. it feels good to find people from my hometown doing such wonderful work purbasha banerjee 2012-10-14 17:03:05 1536
some where u refered that export decreased in 1909 -10 is it this no or2009-10rn ajay bindal 2013-05-18 00:19:30 1805

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