Policy uncertainty hurt FDI flows in FY11: RBI study

After the global financial turmoil, the Indian economy recovered to grow at 8.4 per cent in 2010-11. But in the same year, foreign direct investment (FDI) flows fell to $20.3 billion from $27.1 bn a year ago due to policy uncertainty, according to a Reserve Bank of India study.

A comparison of FDI flows to India vis-à-vis the potential showed investments tracked the potential level till 2009-10, before falling by about 25 per cent during 2010-11.

The quality of policy implementation had a role in slowing the flow of investments despite the robust nature of the Indian economy. Growth prospects, openness, labour costs and policy environment significantly impacted the FDI flows, the RBI study said.

India has generally attracted higher FDI equity flows in line with its robust domestic economic performance and gradual liberalisation of the FDI policy, as part of the cautious capital account liberalisation process. Even during the recent global crisis, FDI inflows into the country did not show as much moderation as was the case globally and at other emerging markets.

The global FDI flows to emerging market economies recovered in FY 11, but FDI flows to India remained sluggish, despite relatively better domestic economic performance ahead of a global recovery. This has raised questions, especially in the backdrop of the widening of the current account deficit beyond the sustainable level of about three per cent, RBI said.

The study said as the economy integrated further, there may be a need to relook at the sectoral caps (as in insurance) and restrictions on FDI flows (multi-brand retail). The country could revisit the ban on FDI in nuclear power sector.

FDI in retail would help in reaping the benefits of organised supply chains and reduce wastage in terms of better prices to both farmers and consumers, the study said.

Another important sector that merits a policy revisit is generation, transmission and distribution of electricity produced via atomic power, where FDI is not permitted. The policy steps taken in 2011, including permission to issue equity against non-cash transactions like import of capital goods, are expected to boost India’s image as a preferred investment destination.

The removal of the condition of prior approval in joint ventures and technical collaborations in the ‘same field’ will also help to attract FDI inflows to India in the near future, RBI study said.