Foreign capital accounted for nearly eight per cent of capital investments in India in FY11 — up from a 1.1 per cent share in FY05. Now that the investment cycle is slowing, will foreign capital extend a lifeline? (See chart).
The recent trend in capital inflows in India has also been encouraging. Foreign institutional investors (FIIs) have invested over $18 billion during the calendar year so far. In comparison, FIIs were net sellers in 2011, withdrawing nearly $500 million worth of investment from India during the January to November 2011 period. Foreign direct investment (investment in physical assets) flows remain positive but inflows in the first half of 2012 contracted 42.8 per cent to $10.4 billion, according to figures by the United Nations Conference on Trade and Development. This was in contrast to FY12, when FDI in India grew 65 per cent to $35 billion (see chart).
Experts say foreign capital can, at best, lessen the pain but not fill the gap. “Portfolio investment has been good this year but it is tough to convince foreign investors to scale up their exposure to India, given the reluctance of domestic investors,” says Anjan Deb Ghosh, senior group vice-president of Icra and a member of the agency’s rating committee. According to him, the real issue is a lack of bankable projects rather than a lack of capital. “A plethora of regulatory hurdles and high interest rates have turned projects economically unviable,” he says.
Experts attribute the slowdown in FDI inflows in the current year to macroeconomic headwinds in India, besides a challenging global economic environment. “Foreign investors have the entire world open to them. They will invest where they could get the best risk-adjusted returns over their investment horizon,” says Deep Narayan Mukerjee, director - corporate ratings, India Ratings & Research.
The risk is best reflected in India’s sovereign credit rating, which at BBB- with a negative outlook is just a step above junk status. “A downward revision from here would pull India out of investment grade and raise borrowing costs and foreign investors would ask for higher returns as compensation for higher risk,” says Mukerjee.
On the brighter side, however, the long-term growth prospects for India remain promising, given its low level of development and the growth differential between India and the developed world. In recent years, a clutch of global majors have set up shop in India despite a challenging economic environment (see chart).
Experts say it’s difficult to find a secular trend in corporate FDI, as it is mostly opportunistic in nature and sector-specific, and comes in spurts. “Foreign companies continue to invest in the auto sector despite a slowdown and now we can expect some action in retail, airlines and insurance where FDI norms are being relaxed, but the actual amount may not be large enough to offset the gap at the macro level,” says Revati Kasture, head, research, at Credit Analysis & Research Ltd.