In two minds on China: Policymakers split over attracting Chinese FDI

When the FY24 Economic Survey presented in July batted for allowing more Chinese investment into India, it was seen as a change in heart following the NDA government’s re-election for a third successive term. However, with trade minister Piyush Goyal quickly clarifying that there was no rethink within the government to support foreign direct investment (FDI) from China, matters died down. 

 

However, in recent months, India’s fast-tracking of business visas for Chinese nationals, troop disengagement along the Ladakh border, and statements by senior government functionaries have indicated a renewed deliberation on the future of India’s economic ties with its northern neighbour.  

 

With India targeting $100 billion gross FDI inflows in a year from around $70 billion at present and aiming to become a manufacturing hub, the question of Chinese FDI has become a crucial sticking point. While FDI equity inflows fell to a five-year low in FY24 to $44.42 billion, contracting 3.5 per cent year-on-year and raising widespread concern, it has bounced back during the April-September period of FY25, growing at 45 per cent to $29.8 billion. 

 

Investment vs security conundrum  

 

Following the Galwan clash between the two countries’ forces in 2020, India imposed restrictions on investments from countries it shares a land border with to curb opportunistic takeovers. Known as the ‘Press Note 3 of 2020’, the industries department mandated prior government approval for any such investment, including in cases where beneficial ownership may belong to a person from such countries. Between April 2020 and September 2024, the government has approved FDI worth only $127.2 million from China. Between April 2000 and September 2024, India saw Chinese investments of $2.5 billion or 0.35 per cent of total FDI inflows into the country. However, the data underestimates Chinese investments into India, most of which are routed through funds housed in countries such as Singapore and Mauritius.   

 

The FY24 Economic Survey authored by chief economic adviser V Anantha Nageswaran said India faces two choices: It can integrate into China's supply chain or promote FDI from China. “Among these choices, focusing on FDI from China seems more promising for boosting India's exports to the US, similar to how East Asian economies did in the past,” the document added.   

 

The Survey further argued that as the US and Europe shift their immediate sourcing away from China, it is more effective to have Chinese companies invest in India and then export the products to those markets rather than importing from China, adding minimal value, and then re-exporting them. 

 

In September, external affairs minister S Jaishankar said India is not closed to business from China. “The issue is, which sectors do you do business in and on what terms do you do business? It’s far more complicated than a black and white binary answer,” he said at a conference in Berlin. 

 

Finance Minister Nirmala Sitharaman has taken a more cautionary stance. During an interactive session at the Wharton Business School in the US in October, Sitharaman said India would place restrictions on FDI in the national interest to ensure safeguards because of its location in a highly sensitive neighbourhood. “I cannot blindly accept FDI simply because we need investment, unmindful of where it is coming from. We want business, we want investment, but we also need some safeguards, because India is located in a neighbourhood that is very, very sensitive,” she said, without naming China. 

 

The finance minister’s comments came ahead of the bilateral meeting between Prime Minister Narendra Modi and Chinese Premier Xi Jinping on the sidelines of the BRICS Summit in Kazan, Russia. 

 

Striking a note similar to Jaishankar’s, 16th Finance Commission chairman Arvind Panagariya earlier this month said India should restrict Chinese investment in only a few sensitive sectors where such investment can be potentially damaging, while opening up sectors where other countries also welcome Chinese investment. “Probably, we can identify a couple of sectors and leave those aside. With the rest, if the US is taking investment from China, if Germany is taking, I would be open to their investment. The activities from which you want to exclude are relatively few because I don't see other countries restricting Chinese investment in a large number of sectors,” he said. 

 

While the US has implemented stringent restrictions on Chinese investments in sectors like semiconductors, quantum computing, artificial intelligence, defence and emerging technologies, EU countries have had an incoherent approach, with many member nations putting in place scrutiny for Chinese investments in cutting edge technology, strategic industries, and critical infrastructure such as telecom, energy, and transportation. 

 

A research note from the Rhodium Group points out that while Brazil and Turkey have raised barriers to imports of Chinese electric vehicles, they have taken measures to attract Chinese FDI in these sectors. 

 

Finding the right balance 

 

Vaibhav Kakkar, Senior Partner at Saraf and Partners, said the ambiguities in the meaning and applicability of the ‘beneficial owner’ clause under the Press Note 3 provisions have also presented practical challenges for blue chip European and US private equity and venture capital funds with minority indirect participation by financial investors or limited partners from land-bordering countries. “While there has been a recent thaw in border tensions between India and China, it does not appear that the Indian government is relaxing its views on the applicability and implementation of Press Note 3 on FDI transactions,” Kakkar said.  

 

Natasha Treasurywala, Partner at Desai and Diwanji, said while the requirement for Press Note 3 is well understood, it needs to be streamlined, and clarity is required for affected investors. “Certain sectors in India would benefit greatly from Chinese investment such as construction equipment, the manufacturing sector, batteries and electric vehicles. Press Note 3 therefore needs to be overhauled and instead of a complete embargo, only sectors or deals that threaten national security should be brought within its purview. The simplest way to do this is to permit only certain sectors to have FDI from China under the automatic route,” she added. 

 

Atul Pandey, Partner at Khaitan & Co, said FDI from China remains critical, primarily because India continues to rely heavily on imports from China. “Allowing Chinese companies to invest in India, particularly in manufacturing, can help reduce the import bill and strengthen domestic production. Moreover, Chinese companies view India as an extremely attractive investment destination due to its large market and growth potential,” he pointed out. 

 

While India has been struggling to reduce its import dependence on China for years, with bilateral trade deficit touching almost $50 billion in first six months of FY25, it needs to quickly take a stand on FDI inflows from China, especially with the China Plus One strategy not paying rich dividends so far, bar sectors like mobile manufacturing. 

 

As the latest Economic Survey noted, India has to find the right balance between importing goods from China and importing capital (FDI) from China. 

 

Earlier this month, CEA Nageswaran further emphasised the tricky situation the government is in. “If we continue to grow our trade deficit with them (China), then we will be dependent on them and supplies can be turned off at any point of time as it is happening in the couple of weeks as we have been noticing," he said. “If you want to encourage them to invest in the country that has its own sets of challenges as well. So how do you wrestle with it? The fact that it is not a challenge for India but many countries of the world is little consolation because we have a size which is far different than anybody else."