Bulking up IFSC: A wide-ranging expansion of its remit expected in Budget

The Budget next month is expected to announce a troika of measures that Finance Minister Nirmala Sitharaman hopes will be read as India’s biggest set of measures to draw in foreign capital. These are: the inclusion of India government bonds in global indices; expansion of the scope for rupee convertibility; and wide-ranging expansion of the International Financial Services Centre (IFSC) at Gandhinagar, Gujarat.

These have been fine-tuned for some time and have now come together. Of these, the most ambitious are the steps involving the IFSC. The troika is also significant since the government has raised foreign direct investment (FDI) limits in different sectors already, and given the huge fiscal deficit that will persist for years, can scarcely allow any new tax set-offs to attract investments from abroad.

GIFT City-IFSC, the foundation stone of which was laid in 2012, comes 76th on the list of the commonly used global index of the scale of business of international financial centres, 20 ranks behind even Mumbai (the index is published annually by the Z/Yen Group in partnership with think-tank China Development Institute). Singapore, for instance, ranks fourth. But with the scale of support coming in now, these distances could shorten fast.

The lure of the three measures surrounding the IFSC is that they are cash-neutral for the treasury but hopefully tempting enough for investors anywhere to take a bite.

Sample this. In December 2021, the IFSC Authority (IFSCA) asked for comments to allow insurance web aggregators to begin their business at the financial complex, making it potentially the centre to direct the insurance market in India. In the same month, the IFSC also tendered for a “best in class” supervisory technology system to cover administrative, compliance, supervision, and enforcement framework for its regulated entities. For global money to swish through the IFSC, the latter is a critical measure and immediately sets it apart from other financial regulators in India that have developed their systems in bits and pieces as their markets developed.

The IFSCA has been established as a unified regulator to develop and regulate financial products, financial services and financial institutions at play in the IFSC market. Budget FY22 has already announced several measures, including a tax holiday for capital gains for aircraft leasing companies, tax exemption for aircraft lease rentals paid to foreign lessors, tax incentive for relocating foreign funds in IFSC and exemption to investment divisions of foreign banks. FY23 will be aimed at making IFSC the centre to use rupee as a freely convertible currency. It is expected to provide the vital comfort global bond indices managers need to add Indian papers to their basket. Foreign investors can allocate money to Indian bonds and convert them back in the liquid market the IFSCA will provide.

The government does not want to repeat the mistake it made with the aviation market some years earlier. The West Asian carriers established a large hub-and-spoke base to tap the large and expanding passenger market from India even as Indian aviation companies stagnated. This time around, India does not want Dubai or even Singapore to be the centres to source the expanding needs for global finance of Indian companies.

Each month through 2021, the regulator has announced important measures to make the IFSC the place to do financial business in India. In July, it announced a framework to operate the International Trade Finance Services Platform for exporters and importers as a one-step place for trade finance facilities including converting their trade receivables into liquid funds and to obtain short-term funding. This is something banks at other centres struggle to offer through a network of branches at competitive terms. In September, it announced plans to become the node to draw in climate finance into India. Its press release is clearly ambitious: “IFSCA envisions GIFT-IFSC as a global hub for sustainable finance thereby acting as a gateway for channelising foreign capital into India.”

In an unusual move, Sitharaman led a team comprising all the seven secretaries of the finance ministry and the Ministry of Corporate Affairs on a visit to IFSC in November. One of the measures she cheered during her visit was the setting up of the International Bullion Exchange to be jointly set up by NSE, INX and IFSCA. She made it clear the government looks at the bullion exchange as a “big game changer for India”. India is, after all, the world’s largest gold market. Already the IFSCA is part of the discussions at the high table of the Financial Stability and Development Council, chaired by the finance minister.  

The next step is to tap into the start-up ecosystem so that they locate outside the IFSC but within the GIFT City — which is the larger geographical entity that encompasses IFSC — to create the ecosystem necessary for a global financial hub. This is a challenge since the start-up hubs in Bengaluru, Gurugram and Hyderabad soak in plenty of benefits, especially human resources, which they will not be keen to trade on.

There are other challenges, too. The biggest of them, according to Vikas Vasal, national managing partner-tax at Grant Thornton Bharat LLP, is a tax issue. There is currently no exemption from withholding tax for firms making payments to units located in the IFSC. If banks or insurance companies have to do more business with their counterparts in IFSC, this could be a major sweetener. And, most importantly, what is the minimum capital requirement for setting up a financial unit in IFSC? A relaxation here could create all sorts of problems like those of shell companies and so on to which India is committed to forswear. But global financial centres have a wink-and-nod policy to some of these questions.

The attraction of a convertible rupee and a liquid market in Indian papers could hopefully allow the IFSC to steer clear of some of these challenges. Larger sustained inflows will allow the IFSC to avoid some of the dubious policies that often grip intermediate-sized financial centres. The finance ministry will, therefore, push more companies to get listed at IFSC, take advantage of a deep and wide bond market so that they do more transactions there generating business for all the banks, insurance and other financial companies setting up shop there.