Slowing FDI inflows: India needs to simplify regulations, cut red tape

FDI inflows
India can corner a larger share of global FDI inflows by creating a stable policy environment, simplifying the investment process, and streamlining bureaucratic procedures.

India saw a fall in foreign direct investment inflows in the financial year ending March 31, 2023 compared with the previous year, but still received a significant share of the global FDI pie. India’s share of FDI inflows increased from 2.4% in Q4 FY17 to 4.2% in Q1 of FY23, a growth of 1.8 percentage points, according to data from Morgan Stanley, UNCTAD, Haver, and CEIC. India surpassed China as western multinationals adopted a China plus one strategy. Nevertheless, the rise of Vietnam as a growing economic power should not be underestimated.

According to the United Nations Conference on Trade and Development (UNCTAD), India’s global FDI share rose from 2.4% in 2017 to 3.8% in 2022, positioning it as a preferred destination for global investors. The 2023 report revealed that India secured the third-highest FDI for new greenfield projects in 2022.

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India’s share increase outpaced most countries in the region during this period. For example, Malaysia and Australia each gained 0.9 percentage points, Indonesia 0.8, Taiwan 0.7, South Korea 0.5, the Philippines 0.2, Thailand 0.1, while China saw a decline of 0.1 percentage points. In South Asia, only Japan exceeded India’s FDI share growth, reaching 2.4 percentage points.

FDI inflows low despite China Plus One shift

Despite impressive figures, concerns arise from the fact that India’s FDI inflows have declined this year. India’s large market and abundant cheap labour are attractive, but the country struggles to draw sufficient foreign capital to boost investment and growth rates. This decline is puzzling, especially when many countries and corporations are reducing their dependence on China and considering India as a potential manufacturing hub. Vietnam, however, seems to be benefitting more from the shift to a ‘China plus one’ supply chain model. India should closely examine why FDI into Asian nations like Singapore, Japan, and the United Arab Emirates significantly increased last year.

Global FDI flows surged in 2021 but dropped by 12% to $1.3 trillion in the following year, impacted by the Russia-Ukraine conflict and subsequent crises, including high food and energy prices and rising public debt. India’s performance also dipped, falling 22% from $58 billion in FY22 to $46 billion in FY23, as reported by the Reserve Bank of India. This decrease is attributed to global economic slowdown and reduced venture capital funding in startups.

Developed economies felt a notable decline in FDI inflows, dropping by 37% to $378 billion. Conversely, developing countries saw a 4% growth, although this was uneven. Most investment concentrated in a few large emerging economies, while the least developed countries experienced a decrease.

Startups, thriving post-pandemic, are now under pressure to turn profitable, leading to lower valuations and reduced investments. Major investor SoftBank, for example, has not invested in Indian startups this year. Industry insiders, however, remain hopeful that this is a temporary adjustment phase.

To attract more FDI, India must first identify and address the deterrents for investors. Despite claims of ease of doing business, investors are often deterred by unpredictable regulatory changes. A recent example is the new licensing requirement for importing electronics, including laptops and tablets. India needs more stable and predictable policies to reassure foreign investors.

Unlike Vietnam, India’s lack of free trade agreements with key trading nations is a disadvantage. Without these agreements, multinationals cannot efficiently manage cross-border movements of inputs and components. For India to truly capitalise on the ‘China plus one’ strategy, it needs a stable policy regime, with financial incentives like PLI subsidies serving as additional benefits.

To attract more FDI, India must establish a more stable and predictable policy environment. Investors need assurance that their investments are secure and that regulatory changes will not disrupt their operations. Additionally, India should prioritise negotiating free trade agreements with key trading partners to facilitate the efficient movement of goods and services, making it a more attractive destination for multinational corporations.

Apart from addressing these shortcomings, India can also enhance its FDI appeal by simplifying the investment process, streamlining bureaucratic procedures, and providing attractive financial incentives. By addressing these concerns, India can create a more conducive environment for foreign investment, unlocking its full potential as a global manufacturing hub and driving sustainable economic growth.