Reforms in policies and regulations of FDI in India

By Saptarshi Basu Roy Choudhury & Priya Chetty on May 16, 2018

Foreign Direct Investment (FDI) has been one of the most critical factors in the economic health of emerging markets like India. It is the process of establishment of business or carrying out business activities in the host country by a foreign country. The Government of India had undertaken major reforms in the country’s FDI policies in 1991. The most recent policies allowed for increasing the FDI limit. Therefore, effective from August 28, 2017, 100% FDI is approved through the direct route in sectors like agriculture and animal husbandry, plantation, mining, petroleum and natural gas. 100% foreign investment is also allowed in services such as selected activities in civil aviation, construction, e-commerce activities and railways. This article presents an overview of FDI policies and regulations in India.

FDI policy trends since economic reforms of 1991

Since the economic reforms in 1991, the Government of India has undertaken various other measures to boost the Indian economy. It reduced restrictions on business operations and shifted the main focus to ‘ease of doing business. From 1991 to 2004, FDI inflow in India increased manifold. Moreover, post-2005, India saw various other measures to increase the FDI inflow. For instance, in 2014 the limit in the insurance sector which was previously 26%, increased to 48%.

Foreign Direct Investment (FDI) in India, Net Inflows (current US $Million)
Figure 1: Foreign Direct Investment in India, Net Inflows (current US $Million). Source: World Bank

Below are the major reforms with respect to FDI policies in India in recent years. One of the most significant initiatives is the ‘Make in India’ movement led by the present government.

Abolishment of the Foreign Investment Promotion Board (FIPB)

The Department of Economic Affairs of India (DEA) has directed the abolishment of the FIPB which used to take the decisions regarding FDI inflows via the government route. The ban came into effect on May 24, 2017. Instead, the Foreign Investment Facilitation Portal (FIFP) has replaced it. The main reason behind the abolishment of FIPB was that the Government of India needed to boost the inflow of FDI in the country. However, for that to happen, it was important to reduce the amount of red-tapism taking place.

Introduction of  Standard Operating Procedures (SOPs)

The ‘Make in India’ initiative has made it mandatory that for the approval of FDI, the applied entity must comply with SOPs. The SOPs act as a benchmark for the standardized processes under its preview (Comprose, 2017). They must also make a list of the competent authorities as per the instructions. The main reason behind the introduction of the SOPs for FDI was to simplify the complex process of clearing FDI proposals. It also sought to increase the reliability of investment. Revisions in existing provisions are as follows.

  • Manufacturing: In the manufacturing sector 100% of the FDI has been approved which includes the retail trade for the products which are either manufactured or produced in India (Agrawal, 2017).
  • Civil Aviation: 100% FDI is permissible in the civil aviation sector since 2017, as compared to 74% earlier.
  • Financial Services: 100% FDI has been approved for the financial services which were earlier restricted to 27% before 2005 (The Economic Times, 2016).

Role of Foreign Exchange Management Act (FEMA) in the FDI policies

The Foreign Exchange and Management Act (1999) is the nation’s key legislature which deals with the inflow and outflow of foreign investment and thus it has the most crucial role to play in the FDI policies of India. The FEMA gives the central government the power to restrict the cash outflow overseas. All the inflow and outflow of investments come under the purview of FEMA making it the most significant governing regulation for foreign direct investment. FEMA also helps in understanding the various details regarding the commercial borrowing from outside sources and maintains a record of the latest proceedings of FDI policies.

Role of Department of Industrial Policy and Promotion (DIPP)

The DIPP (Department of Industrial Policies and Promotion) has a crucial role to play in the regulation of FDI in India. It is DIPP which issues updates and revises the foreign investment policies from time to time for the most effective use of the tool. All the above amendments follow the prescription of DIPP. DIPP also incorporates various notifications regarding foreign investment under the government of India (Shroff, 2017).

Role of Reserve bank of India (RBI)

The RBI is empowered with managing the Foreign Exchange Management Act, 1999. One of the most important roles of RBI is having control over the balance sheets of different banks and their subsidiaries. The entire process is in accordance with the best practices around the globe (RBI, n.d.). RBI also controls the entry of a foreign bank within the country. As far as FDI is concerned, RBI acts as a guiding light for reforming the banking sector within the country. Furthermore, the “Exchange Control Currencies” department of RBI works towards maintaining a balance between the demand and supply of foreign exchange.

Effect of new FDI policies on economic performance

Amendment of FDI policies came with the realisation of changes in India’s economic policies in 1991. The New Industrial Policy (NIP) and the reform process have changed the scenario of foreign investments in the nation. Today the economic policies of the country enable foreign investment to enhance domestic production. Most of all, manufacturing, construction and financial services are the main sectors where the inflow of FDI has been boosted drastically (Malyadri, 2015).

It is evident that since 1991 economic reforms, India has seen a drastic improvement in the GDP  performance. Thus, foreign investment has played a key role in this, creating enormous employment opportunities in the country.

References

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