Fall in equity flows, flat reinvested earnings pull down gross FY23 FDI

If the global economy slows down and interest rates harden further, it may hit foreign investments again

A decline in fresh equity flows and flat reinvested earnings by foreign players led to a 16.3 per cent decline in gross foreign direct investment (FDI) at $71 billion into India in 2022-23, the steepest fall in a decade as source nations' economic growth slowed down. Besides, some of them such as the US and UK raised interest rates to tame surging inflation.

FDI inflows in 2022-23 were lower by 4.5 per cent compared to $74.4 billion in the pre-Covid period of 2019-20. This has happened even as the government's focus is on production-linked incentives in 14 areas.

FDI may have seen a larger decline had there been a fall in reinvested earnings. However, reinvested earnings–the money foreign investors pump back into their ventures—remained flat at $19.3 billion during the period. If not rounded off, there was in fact a sub-one per cent rise in these reinvestments at $19,354 million during the period.

Fresh equity declined 20.6 per cent at $47.4 billion during 2022-23, the second consecutive fall, according to the figures provided by the Reserve Bank of India (RBI). However, the fall was much higher in the year than just 2.3 per cent in 2021-22.

Almost 67 per cent of total FDI was accounted for by fresh equity infusion and 27 per cent by reinvested earnings.

The good thing was that along with subdued fresh equity flows and reinvested earnings, repatriation or disinvestment of their equity by foreign companies also witnessed a decline in growth during 2022-23. Repatriation rose by just 2.4 per cent at $29.3 billion during the year against a 5.9 per cent rise in 2021-22.

But this could not arrest a substantial fall in FDI after taking into account repatriation or disinvestment. FDI fell 26 per cent at $41.6 billion during 2022-23. This was one-fourth less than $56 billion received by India in pre-Covid period of 2019-20.

Along with inflows, FDI outflows by Indian companies overseas also saw a decline of almost 23 per cent at $13.6 billion during 2022-23.

Even then, net FDI inflows into India plunged almost 38 per cent at $28 billion during 2022-23. This was almost ten per cent lower than $43 billion during the pre-Covid period of 2019-20.

This, along with an outflow of $5.5 billion of foreign portfolio investments (FPI) during 2022-23, was not good news for financing India's current account deficit (CAD).

Thankfully, the current account deficit narrowed in the third quarter of 2022-23 to 2.2 per cent of GDP ($18.2 billion) from 3.7 per cent ($30.9 billion) during the second quarter. The first quarter also saw CAD at 2.2 per cent of GDP ($18.2 billion).

This led to accretion of $11.1 billion of forex reserves during the third quarter. However, forex reserves were depleted to the tune of $14.7 billion in the first nine months of 2022-23.

Sectors attracting FDI

It is not that all sectors saw contraction in FDI equity inflows during 2022-23. Services, including financial, non-financial, outsourcing, research and development, along with pharma, chemicals (other than fertilizers), trading and to a minor extent township, housing-related construction saw a rise in FDI.

For instance, the services sector received 22.5 per cent higher FDI equity at $8.7 billion during 2022-23 than $7.1 billion in FY'22. Similarly, drugs and pharmaceuticals saw almost 43 per cent rise in FDI at $two billion against $1.4 billion over this period.

However, computer software and hardware, telecommunications, automobiles, infrastructure-related construction and metallurgical sectors received less FDI equity in FY23 year-on-year.

For instance, the computer software and hardware sector saw a massive 35 per cent decline in FDI equity to just $9.4 billion in 2022-23 against $14.5 billion a year ago. Similarly, the automobile sector got almost 73 per cent less FDI equity at $1.9 billion against $7 billion over this period.

India was, however, the second largest recipient of FDI ($ 26.2 billion) in the semiconductor industry for 2022, second only to the US ($33.8 billion). Massive investments in capital-intensive chip FDI projects are underway, in line with the Government's efforts to develop the industry, the RBI said.

Among the sectors which are targeted by the PLI scheme of the government, pharma witnessed a rise in FDI and automobiles declined. Semiconductor industry as cited continued to witness a substantial FDI.

States receiving FDI

Maharashtra again toppled Karnataka in attracting maximum FDI equity after the latter saw just half of the inflows during 2022-23 year-on-year. Maharashtra also received less FDI YoY, but by just four per cent at $14.8 billion in 2022-23 against $15.4 billion in 2021-22

Karnataka saw a massive fall of 53 per cent at $10.4 billion against $22.1 billion over this period. As can be seen from these figures, Karnataka was the top-ranking state in receiving FDI in 2021-22.

Delhi got 8.5 per cent less FDI equity at $7.5 billion in FY'23 against $8.2 billion a year ago.

Gujarat was the only exception among top-ranking states to witness a rise in FDI in 2022-23 YoY even though the absolute amount was low. The state got FDI equity to the tune of $4.7 billion in FY'23, 74 per cent more than $2.7 billion a year ago.

FDI source countries

In recent years, Singapore has taken over Mauritius as the biggest source of FDI equity flows into India. In 2022-23, FDI from Singapore witnessed a rise unlike other major nations. Singapore sent 8.2 per cent more FDI to India at $17.2 billion during the year compared to $15.9 billion in 2021-22.

Mauritius, the other biggest nation in terms of FDI equity supply, saw a different story. FDI from that country into India declined by 35 per cent at $6.1 billion in 2022-23 from $9.4 billion in the previous year.

Similarly, the US, which closely followed Mauritius, supplied almost 43 per cent less FDI at $6 billion in 2022-23 against $10.5 billion in the previous year.

These three nations supplied more than half of the total FDI equity flow into India in FY'23.

Interestingly, FDI equity inflow from UAE trebled to $3.3 billion in FY'23 compared to $one billion in the previous year. FDI from UAE was mainly in renewable energy and telecommunications, roads infrastructure, real estate, and start-ups in India.

While the government is still examining the exact causes of the fall in FDI in 2022-23, it has pointed to slowing growth in the source countries and hardening of interest rates in some of them as reasons behind it.

If these are the reasons, the two biggest sources of FDI into India—Singapore and the US—are likely to see a further slowdown in 2023. The International Monetary Fund (IMF) has projected economic growth in the US to slow down to 1.6 per cent in 2023 from 2.1 per cent in 2022 and 5.9 per cent in 2021. Singapore is likely to witness economic growth of 1.5 per cent in 2023, according to the IMF , compared to 3.6 per cent in 2022 and 8.9 per cent in 2021. Similarly, the IMF projected economic growth in Mauritius to slow down to 4.6 per cent compared to 8.3 per cent in 2022 and 3.5 per cent in 2021.

It should be noted that one big-ticket investment may change the FDI outlook dramatically. For instance, if Tesla's plans to set up a manufacturing facility materialise, it may kick in a big chunk. However, this may take time, if it materialises at all, as the company has sought tax concessions and the government wants a timeline by which it would set up indigenous supply chain for its manufacturing facility.

It happened in 2020-21 when gross FDI inflows rose 10.2 per cent at $82 billion on the support of big investments in companies such as Reliance Jio despite the year was hit by nationwide lockdowns due to the first wave of Covid.

However, growth slowdown belied the logic of fall in FDI from Singapore and Mauritius in 2022-23. For instance, Singapore's economic growth slowed down to 3.6 per cent in 2022 from 8.9 per cent in the previous year. Even then, FDI from Singapore to India rose in 2022-23 year-on-year as cited above. On the other hand, Mauritius' economy grew at a more rapid pace of 8.3 per cent in 2022 against 3.5 per cent in 2021, yet  FDI from that country into India fell as cited above.

Probably, companies in other countries are using the two nations to pump in fdi into India despite significant checks after double taxation avoidance agreements (DTAAs) between India and the two nations were amended.

That is why, now India has notified that investments from countries such as Mauritius, Singapore and even UAE in privately-held startups would not be exempted from the angel tax.

The government hopes that this would not hamper FDI and rather more such investments would come in the GIFT city.

Reinvested earnings may continue to be subdued if interest rates keep on hardening in the advanced world.

The Federal Reserve in May raised interest rates for the tenth time in just a little over a year but it hinted that the current tightening cycle is at an end.

Similarly, Bank of England raised the bank rate to 4.5 per cent in May this year from 0.25 per cent in January 2022. The central bank’s key base rate is now at its highest level since 2008, when the global economy was in the grip of the financial crisis.