What are the Advantages and Disadvantages of FDI?

Several factors, including investments from international companies, support a nation’s growing economy. The phrase Foreign Direct Investment (FDI) refers to investments made by individuals and companies in assets and businesses of other countries. India’s growth in recent years has presented foreign investors with attractive investment opportunities. However, these kinds of investments are governed by Indian government regulations. 

In this blog, we’ll discuss Foreign Direct Investment (FDI), its benefits and drawbacks, and the industries in India where FDI is prohibited.

What is Foreign Direct Investment?

Foreign Direct Investment (FDI) refers to financial contributions made to the enterprises of a country by various organizations, individuals, and firms of another nation. Foreign Direct Investment (FDI) allows foreign corporations to acquire ownership stakes in enterprises in other countries. For instance, a US-based company investing in an Indian IT company and gaining control over the company is an example of FDI. In India, there are several areas where 100% foreign direct investment is permitted, as well as several sectors where FDI is prohibited. The recent examples of Foreign Direct Investment in India-

1.  Flipkart, an Indian e-commerce company, was acquired by Walmart, a US-based company, for 16 billion dollars.

2.  In 2020, Google announced a $4.5 billion investment in Jio, a subsidiary company of Reliance Industries.

Advantages of Foreign Direct Investment

The various advantages of Foreign Direct Investment are as follows-

• Increase in Job – The rise in foreign investment in India leads to the expansion of firms, and as a result, employment statistics also improve. 
• Increase in Export – As foreign investors invest in Indian companies, it provides them additional resources. Indian companies use these resources to increase their production capacity and explore other business opportunities.
• Increase in Foreign Reserve – Foreign investment in India helps the country create substantial foreign exchange reserves due to the inflow of foreign currency.
• Higher Standards – As the foreign players invest in a domestic company, they also transfer knowledge and expertise making them more productive. Due to the increase in productivity, the competition among the other domestic players increases, which makes them raise the standard of services.
• Improving Balance of Payment – With the increase in imports and exports of the country, the balance of payment will improve over time.
• Sectoral Growth – There are various sectors in which 100% FDI is allowed by the government, such as capital goods, chemicals, air transport services, etc., which benefits the domestic economy.

Disadvantages of Foreign Direct Investment

Along with the advantages of FDI, there are several disadvantages, a few of which are mentioned below-

• Threat to Local Players – FDI leads to international giants entering the country’s market, which leads to a rise in competition among the companies. This increases competition in the market, which may cause the local firms to struggle financially.
• Exploitation of Labor – The foreign inventors may sometimes prefer profit over labor welfare, hence leading to poor working conditions, low wages, etc.
• Loss of Decision-Making Power– An increase in FDI can lead to a loss of sovereignty of the host country, as foreign companies can influence policy decisions related to strategic industries, natural resources, etc.
• Economic Dependency – Excessive FDI investment can lead the country to be overly dependent on another country, which can lead to more economic fluctuations.
• Profit Withdrawals – Foreign investors typically take the profit on their investments back to their home country, which can reduce the financial resources of the host country.

Foreign Direct Investment Policy in India

The FDI policies in India have been altered from time to time according to the changing economic environment. The Ministry of Commerce and Industry issued the updated FDI policies on October 15, 2020. The government sets the sector cap and limitations based on the sector’s sensitivity and importance. An FDI can invest in India through three different channels, the specifics of which are outlined below: 

1. Automatic Route – Under this category, foreign companies are not required to get prior approval from the government before making any investment in Indian companies.

2. Government Route – Through this route, foreign companies can invest in Indian entities after approval from government authorities. This can be done through the Foreign Investment Facilitation Portal (FFPI), provided by the government which offers single-window clearance. After receiving the application, they forward it to the concerned ministry or department for review.

As per the latest FDI policy, any company incorporated in a country that shares the land boundary with India or is a beneficial owner of investment into India is situated in or is a citizen of any such country can invest only through the government route. 

Sectors in which FDI is Prohibited in India

In India, the government allows 100% foreign direct investment in several areas but also restricts foreign investment in certain sectors. A few of these industries are listed below: 

1. Real Estate Companies – The FDI cannot be used for the construction and development of townships, residential projects, and commercial projects.

2. Atomic Energy – It is a sector owned and regulated by the government of India, and no foreign interference is allowed by the government.

3. Tobacco Products – The FDI investments are not allowed in the manufacturing of tobacco, cigarettes, and other related products.

4. Nidhi Companies – These companies are a type of non-banking financial companies that lend and borrow among themselves. FDI is prohibited as these Nidhi companies are formed for the welfare of the members.

5. Chit Fund – FDI is not permitted to invest in chit fund businesses, as it offers rotating savings and credit services among its members.

6. Gambling, Lottery and Betting Businesses – All types of gambling and lottery activities, including online and offline casinos, horse betting and all types of speculative activities, are restricted for FDI activities.

7. Railways – In India, FDI is not allowed in railway operations, but the activities related to developing infrastructure and their maintenance, train projects etc., are open for FDI.

8. Transferable Development Rights – The FDI is not allowed to be used in trading transferable development rights, which includes urban planning and zoning regulations.

Read Also: FII vs FDI vs FPI: What Is the Difference Between FDI, FII, & FPI

Conclusion

The Indian economy has grown considerably in the last few years, and FDI has played a big role in it. Attractive investment opportunities have made India a favored destination for foreign direct investment. In response to the constantly changing global economic conditions, the government has altered its FDI regulations and permitted 100% investment in some sectors. This has increased competition among domestic firms, which ultimately benefits the consumer. Going forward, the government might give some relaxation in other sectors also. FDI can be viewed as a positive sign for an economy if the nation doesn’t depend excessively on it.

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