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Economy on Upswing:Sustaining High Growth Rate, by Dr. Vinod Mehta,29 November 2005 Print E-mail


New Delhi, 29 November 2005

Economy on Upswing

Sustaining High Growth Rate

By Dr. Vinod Mehta

India’s economy is enjoying a high rate of growth for the past few years, despite not-so-good performance of the agricultural sector. The current rate of growth is around 7% with the manufacturing sector booming. The agricultural sector is also expected to perform well. The Finance Minister feels that this growth rate can be pushed to 8% provided we increase investment as well as push FDI. The Deputy Chairman of the Planning Commission feels that this growth rate can be pushed to 10% but the coalition politics is coming in the way.

The economy is on the upswing. It is not only the computer software sector but the traditional manufacturing sector like steel, cement etc., which is leading the upswing.  The economists believe that the upswing in the manufacturing sector will continue.  The National Council of Applied Economic Research has already projected the GDP to grow by about 7% during the next three years.  The manufacturing sector is expected to grow by more than 6.21%, infrastructure by 6.54% while mining and construction by 5.89%.  The farm sector which saw a decline of 3.1% in 2003 is expected to grow, which in business terms implies increased demand for manufactured products in the coming years.

Apart from this, the economic reforms of the past one and a half decade have made the Indian industry by and large competitive in the international market.  With foreign exchange regulations being relaxed in a phased manner, the Indian industry is acquiring manufacturing units abroad.  Some have started acquiring new technologies to stay competitive.  For instance, the Indian motor parts manufacturers were initially opposed to the inclusion of motor parts in the FTA (free trade area) between India and Thailand, but now when it has been signed, they are now scouting for new processes and technologies in the South East Asian and other countries.

At the moment, India and China are enjoying relatively high growth rates China around 9% and India 7%.  This has particularly attracted the attention of foreign investors who wish to set up manufacturing bases in India or invest in the service sector.  This is high time that we have a foreign direct investment (FDI) policy which covers all the sectors of the economy, except for those sectors where the state feels that there should be no foreign investment, as in the case of atomic power.

Foreign direct investment in the manufacturing, infrastructure and other sectors of the economy is much better than commercial borrowing or investment in scripts by foreign institutional investors.  The investment by foreign institutional investors (FII) could be considered as hot money which can be withdrawn by them at any time depending upon their judgment of the economic scene.  The FDI in manufacturing, infrastructure etc. leads to the creation of assets which will remain within the territorial boundaries of the country if, the foreign investor wishes to withdraw from the company for some reasons.

At the moment there is no single policy on FDI and there is some kind of ad hocism in it.  It varies from sector to sector.  In insurance business, the FDI cap is 26%; in the banking sector   been set at 74%; in certain cases 100% foreign equity is allowed while there is automatic approval in some cases where foreign equity participation is up to 51%.  There are certain areas like real estate where no FDI is allowed at the moment. 

Moreover, foreign companies are not as yet allowed to take over sick companies.  There are a number of them in the textile sector, bicycle manufacturing sector or there are individual public sector undertakings like pharmaceuticals and photo films which could be allowed to be taken over by foreign companies with salutary effect.  This will not only bring in new technology and new management system but also turn them into profitable units.

In the past the Foreign Investment Promotion Board (FIPB) has been a big failure in attracting  foreign investment.  As early as in 1997, while speaking at the plenary session of the Economic Summit, organized by the CII and World Economic Forum, the then Industry Minister  observed: ”Foreign funds can find their own direction.  It is my personal opinion that the FIPB must go.  There should be no Central interference in matters related to inflow of investment.” Last year  an Investment Commission was set up to advise the Government on FDI, while the role of FIPB was changed. But the observations of the former Industry Ministry on the FDI are still relevant.

Sometime back  the Department of Industrial Policy and Promotion (DIPP) is already reported to have made a proposal  to allow a maximum of 76% stake in the form of FDI across all the sectors, including the real estate.  This is as good as 100% FDI as it will allow full management control to the foreign firm. But at the same time it will also be obliged to disclose its financial results; at the moment 100% owned foreign companies are not expected to make any disclosures.

The other feature of DIPP proposal is that the balance of 24% equity would have to be sold to the Indian public.  It means that the Indian investor will be allowed to share the prosperity of the foreign firm.  But it is much more than that—24% equity to Indian public means that the liquid stock (shares that are regularly bought and sold in the share market) will grow which is not only good for the stock exchanges but also for the widening of the share market.  It may also have positive impact on mutual funds and the proposed pension funds.

If we can have such a policy as proposed by the DIPP with suitable modifications, one can expect a large inflow of FDI into India.  The timing is very important;  and that time is here! The economy has finally come out of the Hindu Growth Rate (about 3%) and FDI can provide the necessary push.

It may be mentioned that not only the developing countries but also the developed countries are looking for opportunities to increase inflow of FDI.  A study prepared by the FICCI three years ago stated that countries like Germany and France still allow investment allowance or accelerated depreciation to foreign direct investors.  China grants 10-year tax incentive to promote firms engaged in infrastructure, energy sector and knowledge industry.  South Korea provides special incentives for capital investments. Countries like the Netherlands, Denmark, Belgium, Spain, Switzerland, Luxembourg provide tax incentives; they follow the concept of group taxation.

If India encourages FDI it will not be doing something unusual or against its own interest.  The FDI in the current context would mean creation of assets, creation of more jobs and competitive economy; it is also likely to contribute significantly to the exchequer in the form of direct and indirect taxes. Therefore, the Left parties as well as opposition parties should have a realistic approach to FDI and should welcome it in almost all the sectors, including real estate and retail except for certain sensitive areas like atomic energy.

(Copyright, India News and Feature Alliance)


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