IntroductionIndia,the world’s 7th largest economy according to GDP (world bank 2016),is one of the fastest growing economies in the world.
It vastly outperformedthe other BRICS economies in terms of growth in 2016 with 7.11% growth in comparison to China6.7%, South Africa 0.3% and the others shrinking. India also ranked 8thon the FDI confidence index (Kearney 2017).
While India is an attractive areafor FDI there is still a way to go for India to attract and keep foreigninvestment. This report will explain and analyze the various factors thatshould be considered before foreign direct investment and make recommendationsthroughout. Political economy Political systemIndia is a parliamentary democracy with a multi-party system, despitethis it is not considered politically stable, with a ranking of 161 on thestability index. (The global economy, 2017) Political instability can mean thatthe country meets one of or a mix of the criteria below;· Consideredlikely to have a change in government regime · Higher chancesof civil unrest· Instability inpoliciesThe reason for this score on the index may be due to the reformshappening, mostly in fiscal policy, that might be perceived as unstable at thisearly stage. The effect of this indicator can be that confidence in the marketsis temperamental affecting share prices and currency exchange rates. Despitethe robust nature of the rupee, this should be considered when deciding which currency,the business will be trading in and setting its foreign exchange policy. Thegraphic below shows the performance and volatility of the Indian rupee againstthe GBP since 2013. (XE, 2017)LegalsystemDue to India being a former British territory it uses a common lawsystem making doing business between the UK, India and other common lawcountries significantly easier in comparison to those with other legal systems.
India has some similar laws to the UK such as;· Anti- trustlaws · Employmentlaws · Minimum wageact 1948· Right to informationact 2005(Government of India, 2017)While there are some minor differences in laws the judicial proceduresremain mostly the same. It should be considered however that there is littleevidence that rule of law is enforced effectively especially regardingintellectual property rights- see regulatory environment. (UK Government, 2017) EconomicsystemIndia is a mixed economy this means that certain areas of the economyare left to private ownerships and free market mechanisms whilst other sectors arestate owned and have significant government planning. (Hill, 2017) Thepublic sectors role is to fill the gaps in investment that the private sectorisn’t making and to push initiatives that are in the public interest. This free market leaning economy meansthe government cannot apply the same restrictions as they would in a commandeconomy, instead they try to achieve their objectives of economic welfare byproviding incentives (Hill, 2017) India has a unique economyin the sense that, unlike some other BRICS economies, it does not rely heavilyon one or two sectors. China and Russia, for example, rely heavily onmanufacturing and oil (World investment report,2017). India’s economy hasnumerous strong sectors including manufacturing and services meaning there’s avariety of sectors for firms to consider investing Foreign directinvestment Regulatoryenvironment Dueto the notoriety of India’s regulatory environment the government has begunlarge scale reforms.
It has also introduced policies to assist firms whilethese changes take place such as:· Make in India· Skill India· Start-up India Thereare also bespoke policies created for specific countries that are looking toinvest on a large scale such as Japan-Plus.(Export.gov,2017) Corporatetax rates in India are above the world average of 22.9% (Deloitte, 2017) and arehigher than those for local firms – shown in the graphic below.
While this mayappear that India is hostile to large foreign corporations the rate increasesvery little with an increase in profits. (PWC,2017)Indiahas similar intellectual property systems to the UK such as copyright, patentsand trademarks. It is also signatory to agreements such as The Paris convention– under this any person from a signatory state can apply for a patent or trademark in any other signatory state, and will be given the same status inanother.
(UK Government,2017). However, India is not a signatory to The HagueAgreement, which allows the protection of designs in multiple countries througha single filing. Not only could this complicate the process of startingoperations in the country, there is also little evidence of strong enforcementof these laws (UK Government, 2017). The graphic demonstrates that ease ofregistering IP outperforms the actual factors of protection such as rule oflaw. (Indiaproperty rights index, 2017)Local business climate Theworld bank report; Doing business 2018 found that India was one of the top teneconomies for improvement of local business framework. In the same report itgained a ‘distance to frontier’score of 56.05/100 in 2017.
(Doing business, 2017) The higher the scoreindicates an efficient business environment and stronger legal institutions itspredicted score for 2018 is 60.76 showing possible improvement as more fiscalpolicies are shaped. The graphic shows the types of indicators used andpredictions for 2018. One concern when it comes to investment in India is the poorinfrastructure.
India rates an average of 55thregarding transport infrastructure (Global economy, 2017) This could affecttransport of goods should the firm decide to import or export. In response the Indian government hasincreased the investment share for infrastructure from 23% to 32% since 2007(IBEF, 2017). Investment in infrastructure and transport from foreign entitieshas been increasingly popular, Japan has invested heavily in infrastructureprojects in the North-east states for example (Chaudhury, D, 2017.).(Make in India, 2017) CompetitivenessDunning’s OLI paradigmsays that investment is favourable under certain conditions; Ownership,Location and Internalization advantages. Ownership advantages are assets that belong to a firm which can beapplied to production in various locations without a reduction ineffectiveness. They can be things such as;· Managerialstructure· Technology· Patents· Superiorknowledge (Dunning,2001).Considering the importance of investment transport and infrastructure inIndia, newer types of technology may be a future ownership advantage for aninvesting firm.
Location advantages means the utilization of assets or resources tied toone location that together with the firm’s own assets would be considered valuable.The most obvious location advantage is natural resources minerals and oil butin the developing world it can also be less tangible resources such as:· Skilled labour· Cheap labour · Knowledgespill over (Wage indicator, 2017)One location advantage in India could be labour cost as the minimum wagein India is relatively low as shown in the graphic. This could be used tocreate cheaper products in the host country to be sold in the home market -this is an example of vertical FDI. Horizontal FDI on the other hand would beduplicating operations in the host country to penetrate the foreign market(Reinert et al, 2009). A firm should consider the effects of low wages on theworking population when choosing where to invest – see ethics andsustainability.Internalizationadvantage means that there is a gain to be made by keeping the internationalexpansion within the firm. Theregulatory environment in India regarding IP protections might indicate that anAcquisition or Greenfields investment is more suitable than that of licensingor franchising as it increases control of the company’s assets and thusprofitability.
While in this case it appears more prudent to take anacquisition or Greenfields investment approach that also means taking most ofif not all the risk that comes with building operations from the ground up.Although it is ahelpful framework Dunnings OLI paradigm isn’t a formal theory backed byscientific methods and should be treated as an advisory method of determiningthe host country (Neary P, 2009) Openness to regional and international tradeIndia is signatory to many bilateral trade agreements and trading blocssome examples are;· South AsianAssociation for Regional Cooperation · India-Sri Lankafree trade agreement · Thecommonwealth (Government of India, 2016)India was warned in 2016 by the world trade organization aboutnegotiating exclusively in preferential free trade agreements as some arguethey encourage countries to charge excessive taxes to non-members (Chanya,2011). There hassince been a major policy shift implemented that means all PFAs will beconverted into comprehensive economic cooperation agreements which are designedto prevent anti-competitive behaviour in global trading.
This could create afairer competitive environment for trade in India regardless of where the firmis based. Environment ethics and sustainabilityEnvironmentLike many other Asiancountries, India suffers significant effects of various natural disastersmeaning it has a stake in reducing the effects of climate change. In 2016 Indiasigned the Paris accords, committing to reduce its emissions by 35% of 2005levels judging by current policies India is due to outperform these targets (Climateaction tracker, 2017). In 2017 the USA pulled out of these agreements possiblypaving the way for India to become a front runner in the global effort totackle climate change. The chart shows the use of Hydropower and renewableenergy sources in 2015.(HanChen 2016)EthicsIndia,like most developing economics faces several ethical issues;· Labour laws or lack thereof · Inequality· Corruption Corruptioncan be a major concern when investing in developing nations, not only can itincrease cost in form of bribes but also cause uncertainty.
Heavy bureaucracyis believed to be a factor in increased corruption (Berger R, 2014). In 2010only 12% of foreign companies rated Indian legal framework as ‘good’ and 93%found procedural delays to be a serious concern (VT, 2012). However, bribery and corporatefraud risk is down to 5th position on the 2016 risk survey down fromfirst place in previous years. (Singh et al, 2010) This demonstrates that theefforts the Indian government is making to counter corruption seem to be havingan effect. It appears that India might be a safer place to invest when it comesto corporate security however there are still improvements taking place.
Anexample of a policy used to reduce corruption that has implemented ‘Notebandi’, a mass discontinuation of the 500 and 1000-rupee notes. The aim of thiswas to curb counterfeit currency being used to fund illicit activities such asbribery.SustainabilityA major sustainabilityissue facing India is an enormous population and subsequently shortages ofnecessary resources such as:· Health care· Wealth· Infrastructure It is often forgottenthat economic growth does not always equal a reduction in poverty. It cancontribute to wealth inequality as some regions will attract more investmentthan others. In the U.K for example, the boom of the financial economy anddecline of coal mining meant London and southern areas received significantlymore private and government investment than some Northern areas such asYorkshire (IPPR North, 2017). This, in turn, reflects on the general population.The graphic below that shows the difference of wealth owned by the bottom 10%and top 10%.
(CreditSuisse, 2014)In 2016 UNICEF reportedthat demand for water will fall below supply by 2050 if policies aren’timplemented. One such policy that could affect this is section 135 of ‘Thecompanies act 2013’ which compels companies with a certain amount of turnoverto allocate 2% of their previous 3 years profits to CSR activities. The graphicdisplays data analyzed of CSR expenditure of 7224 Indian companies in 2014-15(Ministry of corporate affairs, 2016.
).(Ministryof corporate affairs, 2016.). ConclusionThe rupee has performedwell historically and has gaineda further boost this year following the Reserve bank of India’s decision tokeep interest rates unchanged. This has encouraged investment as lower interestrates are considered off-putting to investors as it lowers expected returns.
Overall major indicators show India to be promising for future investing firmsin terms of profitability. The liberalization of the Indian economy andbusiness environment hold major benefits for foreign firms seeking a hostcountry for investments. The end goal appears to be to increase ease of doingbusiness by decreasing red tape. While it might be the case that it isbeneficial to firms’ laws are often in place for a reason and removal couldhave negative effects on other members of society. Privatization can create wealth;however, it can also reduce government ability to intervene when necessary.
Oneof the possible effects of privatization would be the exploitation of workers(IER, 2013). Before investing a firm should consider its own ethics, and whetherit wants to be associated with these practices, or if it wants to lead the wayin ethical and sustainable business.