Over the past month, there has been great hand-wringing over the precipitous drop in foreign direct investment—which is surprising since India is supposedly the “shining star” of the global economy. In part one, we look at the big picture—and part two digs into the reasons why foreign investors are heading for the door.
First: Hype vs reality
There is lots of legitimate excitement over the Indian economy—which one leading economist calls “the shining star of the global economy.” It is the fifth largest in the world—and the fastest growing—expected to overtake Japan and Germany in five years. Our stock market is now #4 in the world—and our digital payment infrastructure is the talk of the world.
But, but, but: There are just as many indicators of trouble—be it rising unemployment and inequality or even GDP:
The simplest statistical fact is that Modi’s second term has actually seen the lowest period of GDP growth since India liberalised its markets in the early 1990s. Per capita income over the past 10 years grew half as fast as the decade under Modi’s predecessor Manmohan Singh of the opposition Congress Party, while stock market returns are lower than in the previous decade… One of Modi’s former chief economists holds that if correctly measured, India’s economy would actually be found to be decelerating.
The biggest sign of trouble: is the lack of confidence among all investors—domestic or foreign. No one wants to put their money where the hype is:
Meanwhile, foreign direct investment is plunging. FDI levels are now the lowest in nearly two decades. Even local investors are shying away from opening their wallets. Private capital expenditure remains low. Private sector investment has in fact been falling as a proportion of GDP since 2012 and the economy is now largely driven by huge government investment.
Why private investment matters
The government has been doing its best—pumping money into economy—especially infrastructure:
The government of Prime Minister Narendra Modi has built roads, ports, airports, railways, power, and telecommunications, in such quantities that it has rendered the country almost unrecognisable from what it was just a few years ago. To give just one example, around 34,000 miles of national highways have been built since the current government came to power in 2014.
All of this ought to encourage the ‘crowd in’ effect—“which happens when, for instance, a new port next to a shiny new industrial park lures companies into building plants and hiring workers.” And yet investors—especially overseas investors—have not shown the same enthusiasm—which is alarming.
The investment gap: between private and public will become critical in the long run. As the Wall Street Journal notes, the government is racking up debt to pay for its infra spends:
India’s public debt load stands at about 85% of GDP—second only to Brazil among emerging economies. Central government capital expenditures will rise to an almost two-decade high of 3.3% of GDP by the end of this financial year ending 2024. Sustaining that level of infrastructure build will require higher revenues, lower subsidies or a lot more involvement from the private sector.
That “involvement” has to include foreign investment—especially in manufacturing—which is still below 15% of our GDP.
Point to note: Our booming stock market is not a sign of investor confidence—at least not in the long run. The big numbers instead reflect the Indian middle class’ growing appetite for stocks:
Indian stock markets are being driven by massive domestic inflows, not foreign inflows. This was most vividly demonstrated during Covid, when FIIs exited en masse but domestic investors came to the rescue. The Indian middle class has fallen in love with systematic investment plans (SIPs), in which they have a certain fixed sum deducted from their salary every month and invested in a mutual fund.
Some may see this as a triumph for economic nationalism—”It is good for Indian investors to control stock markets rather than foreigners.” But as the New York Times notes, “trading stocks is quick and easy, compared with buying and selling companies.” Economic growth requires large long-term bets by institutional investors.
The FDI exodus—in numbers
The decline in Foreign Direct Investment numbers has been sharp and dizzying:
- Foreign companies pulled $44.4 billion out of the Indian market in FY2024—a jump of 51% from the year before. It is the largest amount withdrawn in a single year—since 2011/2012.
- Net FDI—which is the difference between inflows and outflows—plummeted by 62.14% to $10.6 billion in FY 2024—compared to $28 billion in the previous year.
- Now add this to the mix: “A bigger concern is the rise in the share of reinvested earnings in net FDI inflows. This means the economy is struggling to attract newer investments as FDI in new equity grew by just 2.5% year-on-year in FY13-23 while reinvested earnings increased by 7%.”
The kinder explanation: offered by the government—and some experts—is that the pullback is part of a global trend. It’s little to do with India. There’s a slowdown in FDI around the world—not just in India. There’s a “shift in investor appetite”—they are less gung-ho about startups—and more interested in emerging technologies.
Is that really true? Not quite. The World Investment Report published in early April shows global levels of foreign investment have been declining since 2022. So that bit is true. It is also true that the most precipitous fall has been in China—where it dropped from $101.27 billion in January-March of 2022 to $38.05 billion in the very next quarter. By the end of 2023, new FDI flows into China had become negative.
But, but, but: India’s FDI also declined during the same period. That means the money pulled out of China did not come here—contrary to our claims to be the next China. So where did the money go?
Hello, Uncle Sam: Contrary to popular belief, we are not losing out to Vietnam or Thailand (well, not entirely). Our real problem is the United States—and other developed countries in the West. Typically, FDI goes from advanced economies into developing or emerging markets. That flow reversed itself in the past fiscal year:
FDI in the non-OECD developing world fell precipitously to $110.42 billion from $166.38 billion in the April-June quarter; a decline of 34%. FDI to OECD countries, on the reverse, zoomed from $80.42 billion to $168 billion — a big increase of 109%.
In fact, the biggest winner has been the United States:
Overall, competition for investment flows worldwide has intensified, and Bidenomics — the US president’s push to bring manufacturing back home — is seeing India outbid. If once China was the only big game in town, now India competes with the US and emerging-market countries that may be more closely aligned to the US, [economic expert Sanjeev] Prasad said. “Why would a big company come to India when the US market is so much bigger. That’s the challenge,” he said.
Europe isn’t doing that badly either:
Europeans surprisingly did well with FDI increasing from $38.75 billion during January-September 2022 to $85.34 billion in 2023, which is an increase of 120 per cent. Investment is returning to Germany. During this period, FDI in Germany increased from $5.26 billion to $18.62 billion, an increase of 254 per cent. France saw an increase of 74 per cent in FDI flows during this period.
The bigger picture: Investor appetite is indeed shifting to new fields such as artificial intelligence, green energy, and electric vehicles. The West has the money, talent and technology to benefit from the shift. China has the resources to fend for itself—without foreign investors. Neither is true for India.
The bottomline: In part two, we look at why India is losing out in the FDI game—much of which has to do with the government’s nationalist version of FDI—First Develop India.
Reading list
The New York Times and Wall Street Journal (splainer gift link) have the big picture on FDI. TIME is scathing on the India growth story. The Print and Bloomberg News have the latest FDI numbers. Subhash Chandra Garg in Deccan Herald and Menaka Doshi in Bloomberg News are very good on why we should be worried about the global FDI trends.
