India: The new global favourite?

A recent Unctad listing and a new profitability index bring into sharp focus India's improved performance on the foreign investment front in the last few years, notes A K Bhattacharya.

India's performance in attracting foreign investment is in the news. Last week, the United Nations Conference on Trade and Development or Unctad released new data that placed India as the ninth largest recipient of foreign direct investment (FDI) in 2014.

This was a significant improvement over 2013 when India was ranked as the fifteenth largest recipient of FDI. 

In the space of one year, India has raced ahead of about half a dozen countries in attracting more FDI than them.

The countries that India has left behind include France, Russia, Spain and Mexico. And the countries that are ahead of India in this list are China, Hong Kong, the United States, the United Kingdom, Singapore, Brazil, Canada and Australia. To be in this league should be no mean achievement. 

That is not all. There are now reports that India is ranked number one in a new index that judges international investment destinations for their attractiveness to foreign investors.

Daniel Altman's Baseline Profitability Index shows that India, at the top of this league, is ahead of China by several notches.

Believe it or not, China's rank is 65, compared to 50 for the United States. The logic of the new index is that foreign investors evaluate the potential for increase in the value of their investment and growth.

Based on these and some other parameters like corruption and the freedom to repatriate profits, the index shows that India is ahead of the rest. 

Whatever may be the credibility or acceptability of such an assessment, both the Unctad listing and the new profitability index bring into sharp focus India's performance on the foreign investment front in the last few years.

What do the composition and the source of such foreign investment indicate? Is it an outcome of the new government's investment-friendly policies? Or has the foreign investors' perception of India as an investment destination changed? 

Foreign investment data for the last fifteen years show that India's foreign investment flows have seen an interesting trend in this period. They doubled in five years - rising from $4 billion in 2000-01 to $8.9 billion in 2005-06.

The rise in the next ten years was even more striking. In 2006-07, foreign investment flows saw the most dramatic spurt as they went up to $22.8 billion and almost doubled in two years to $42 billion in 2008-09. 

The global financial downturn made its impact on India's foreign investment flows as they declined to $38 billion and $35 billion in the subsequent two years.

But the significant point is that there was no major setback to India's foreign direct investment flows in the following years. Indeed, India continued to attract more foreign direct investments at $47 billion in 2011-12.

The years of 2012-13 and 2013-14 saw a dip in these flows to $34 billion and $36 billion, respectively. But last year (2014-15), India's foreign direct investment flows went up again to $45 billion. 

But a closer look at these impressive numbers reveals three interesting trends. One, reinvested earnings by foreign investors in their entities in India have accounted for 25-30 per cent of the total foreign direct investment flows.

In other words, these investments have not necessarily flown to or resulted in greenfield ventures. Instead, they are largely reinvestments to expand existing capacity. But the impact such reinvested earnings have on the economy as a whole is certainly different when compared to what fresh investments in a new project would have. 

This is also a reflection of how setting up new ventures in the country has been problematic compared to expanding existing units.

Apart from procedural problems in setting up new ventures, the hurdles created by the new land acquisition and rehabilitation law must have had an impact on the foreign investors' sentiment towards India.

Why court trouble and delay if reinvesting your earnings in existing projects to expand capacity is faster and less problematic, they must have argued. And the data may just be bearing that out. 

The second interesting trend is that a significant chunk of the total foreign investments has gone to the services sector, which includes banks, insurance ventures and outsourcing units.

In the last 15 years, as much as 17 per cent of total foreign equity flows have gone towards the services sector.

Policy makers could analyse why the manufacturing sector, whose revival is critical for growth, has so far attracted relatively low foreign investments.

Why, for instance, the power sector should get only four per cent of total foreign equity inflows or the automobile sector's share should be only five per cent? 

And finally, even though total foreign investments have been rising, India still figures quite low at 89 in the global ranking of countries with foreign investment measured as per cent of their gross domestic product.