The FDI puzzle NEW DELHI DIARY
In the euphoria over last week’s data showing a significant reduction in the current account deficit for the April-June quarter of 2016-17, not enough attention has been paid to the broader and disturbing signals emerging from the Indian economy’s overall balance of payments situation. This is not to discount the fact that the current account deficit for the first quarter of 2016-17 plunged to less than $300 million, which was roughly about 0.1 per cent of India’s gross domestic product (GDP). A year ago, the deficit for the same period was several times higher at $6 billion or 1.2 per cent of GDP.
Some sort of celebration, therefore, was in order. The last quarterly period when India had recorded a current account surplus was in the January-March period of 2007. And the latest number was almost close to being a surplus! India enjoyed a current account surplus for the full year only on four occasions in the last 40 years – once in 1977-78 and for three consecutive years from 2001-02 to 2003-04 and the surplus ranged between 0.7 per cent of GDP to 2.3 per cent. In particular, after the alarming rise in the deficit to 4.2 per cent of GDP in 2011-12 and 4.8 per cent in the following year, its steady fall has certainly helped the economy. This can be hardly ignored, whatever be the reason of the decline in the current account deficit – falling oil prices, increased flow of global liquidity to emerging markets like India and a rise in foreign investments in India.
But that does not mean that the two other disturbing trends can be pushed completely under the carpet. One pertains to the nature of the direct investment flows into India and the other is about remittances. Of the two, the flow of remittances is decidedly less problematic, but nevertheless deserves close study by policy makers, so that no nasty shocks arise out of a decline in its hitherto steady flow, which has admittedly contributed to the sustenance of India’s balance of payments for the last several years.
Total personal transfers, which capture current transfers between resident and non-resident households including workers’ remittances, have been declining steadily for the last several quarters. They fell to $61 billion last year, compared to $64 billion in in 2014-15. On a quarterly basis, these transfers have dipped from about $16 billion a quarter two years ago to about $14 billion in April-June of 2016 – a fall of over 12 per cent. The downward trend is clear, thanks largely to a decline in the flow of remittances mainly from West Asia, where Indian workers’ surpluses have taken a hit as those economies, dependent as they are on oil prices, are facing a downturn. Until and unless oil prices revive, prospects of which at present look remote at least for the next few years, India’s remittances may actually see a further dip. This can be ignored only at the cost of India’s balance of payments.
The bigger concern arises from the flows of foreign direct investment or FDI. The Reserve Bank of India (RBI) maintains FDI data under two broad heads – the gross FDI numbers capture the total inflows and net FDI numbers provide a number after deducting what India has invested abroad in the same period. An analysis of these data shows that India’s net FDI inflows have been declining since the quarter ended December 2015. From about $14 billion in October-December 2015, net FDI inflows dropped to $11.38 billion in the following quarter and to only $5.25 billion in April-June 2016. Worse, net FDI flows in the first quarter of the current year is down 44 per cent compared to $9.43 billion recorded in April-June 2015
The situation with regard to India’s gross FDI flows has not been that bad. At $11 billion for April-June 2016, gross FDI flows were down only eight per cent compared to $12 billion in the same period of 2015. But the gross FDI inflows trend also has seen a steady decline since the quarter ended December 2015.
What does this mean? India’s FDI inflows are rising, but India’s investments abroad are rising at a higher rate. As it turned out, India’s direct investments abroad in the first quarter of the current year were more than half of FDI inflows into the country. Now, this could be interpreted as a positive development as India Inc is now growing its multinational footprint more rapidly with its expanding investments in different overseas destinations. And it could be argued that the trend would reverse very easily in the second quarter of 2016-17, with Vodafone’s investments of over $7 billion in September in its Indian operations. But depending on such one-off investments can be risky and a diagnosis of the more long-term trends of rising overseas investments of India Inc should be attempted by the policy makers.
These trends are also deeply disconcerting because of three reasons. One, in the last two years, the annual trends show that net FDI inflows have grown at a rate faster than that of gross FDI inflows, meaning thereby that India’s inward investments have maintained healthy growth ahead of outward investments. Is this trend changing? Two, rising outward investments could dent India’s balance of payments situation, with exports yet to look up and remittances not seeing a decline. And three, the implications of large-scale outward investments gaining momentum could be serious for India’s own investment climate, growth prospects and the dream for giving a boost to the government’s Make In India programme.