Foreign Investment In India - Analysis Of Factors And Policies

MANAGEMENT RESEARCH PROJECT

FOREIGN
INVESTMENT
IN
INDIA
Analysis of Factors &
Policies

FDI and FII - Policies and BRICS
Procedures;
Vs.

Comparative Analysis
DEVELOPED WORLD
across
Developing and
Developed Countries

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Shradha.Diwan@gmail.com

MANAGEMENT RESEARCH PROJECT

Author:
Shradha Diwan

08 BS 000 3170
Class of 2010
IBS Kolkata
Submitted To:

Prof. Arup Choudhuri
Class of 2010 IBS Kolkata

Date: 11th March, 2010

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Authorization

“This report is submitted as a partial fulfillment of the requirement of
MBA Program at IBS, Kolkata.”

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Acknowledgements

I am grateful to Prof. Arup Choudhuri, my ‘Management Research Project’ guide at ICFAI Business School
(IBS), Kolkata, for his constant guidance and encouragement duri ng the entire research and documentation
process of the M anagement Research Project.

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CONTENTS
I. INTRODUCTION...................................................................................................................8

II. FOREIGN INVESTMENT IN INDIA – THE HISTORICAL SKETCH ................ 12
INDUS VALLEY CIVILIZATION .......................................................................................................................................................13

MAURYAS – THE NORTHERN SILK ROUTE................................................................................................................................14

MUGHAL EMPIRE – TRADE..........................................................................................................................................................15

BRITISH/FRENCH/PORTUGUESE – TRADE................................................................................................................................16

FOREIGN INVESTMENT IN INDIA – POST INDEPENDENCE....................................................................................................17

FOREIGN INVESTMENT IN INDIA – POST LIBERAL IZATION ...................................................................................................19
INDIA’S JOURNEY FROM LICENSE RAJ ERA TO GLOBALIZATION ......................................................................................22

III. COMPARATIVE STUDY OF FOREIGN INVESTMENT IN DEVELOPED AND
DEVELOPING COUNTRIES ............................................................................................... 23
CHINA...............................................................................................................................................................................................24
ECONOMIC OVERVIEW ............................................................................................................................................................24
DISTRIBUTION OF FOREIGN INVESTMENT ...........................................................................................................................25
FOREIGN TRADE ZONES/FREE PORTS ....................................................................................................................................25
INVESTMENT TRENDS AND STATISTICS ................................................................................................................................26

RUSSIA .............................................................................................................................................................................................27
GROWTH RECOVERY ................................................................................................................................................................28
FDI IN RUSSIA – TRENDS AND STATISTICS ............................................................................................................................29

SOUTH AFRICA ...............................................................................................................................................................................31
INVESTMENT OPPORTUNITIES ...............................................................................................................................................32
FOREIGN INVESTMENT – TRENDS AND STATISTICS ............................................................................................................33

BRAZIL ..............................................................................................................................................................................................35
OPENNESS TO FOREIGN INVESTMENT ..................................................................................................................................37
REGULATORY FRAMEWORK FOR FDI ....................................................................................................................................38
FDI – TRENDS AND STATISTICS ...............................................................................................................................................39

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JAPAN...............................................................................................................................................................................................41
OPENNESS TO FDI .....................................................................................................................................................................41
FLOW OF INWARD FDI INTO JAPAN ......................................................................................................................................42
FDI – TRENDS AND STATISTICS ...............................................................................................................................................44

UNITED STATES OF AMERICA .....................................................................................................................................................45
FDI AND THE DOLLAR ...............................................................................................................................................................46
FDI IN USA – 1998 TO 2008 – TRENDS AND STATISTICS ....................................................................................................48

IV. MAJOR FACTORS AFFECTING FOREIGN INVESTMENT ............................... 50
DIFFERENCE BETWEEN FPI AN D FDI ..........................................................................................................................................51

DIFFERENT TYPES OF FDI .............................................................................................................................................................52
BY DIRECTION ............................................................................................................................................................................52
BY TARGET..................................................................................................................................................................................52
BY MO TIVE .................................................................................................................................................................................53

WHY HAS FOREIGN INVESTMENT INCREASED DRAMATICALLY IN THE PAST DECADE? ................................................55

WHERE DOES FOREIGN INVESTMEN T TAKE PLACE? ..............................................................................................................56

FACTORS INFL UENCIN G FOREIGN INVESTMENT DECISION S ...............................................................................................57

V. INVESTING IN INDIA ..................................................................................................... 59
SEBI and RBI Guidelines ...............................................................................................................................................................59

POLICY FRAMEWORK ...................................................................................................................................................................60
INDUSTRIAL PO LICY ..................................................................................................................................................................60
INDUSTRIAL LICENSING............................................................................................................................................................60
FOREIGN INVESTMENT POLICY...............................................................................................................................................60
REGULATIONS AND PROCEDURES .........................................................................................................................................61
AUTOMATIC APPRO VAL RO UTE AND FIPB ROUT E .............................................................................................................61
NEW VENTURES....................................................................................................................................................................61
EXISTING COMPANIES .........................................................................................................................................................62
GOVERNMENT APPROVAL (FIPB ROUTE) .............................................................................................................................62
FOREIGN INVESTMENT IN THE SMALL SCALE SECTOR .......................................................................................................63
FOREIGN INVESTMENT POLICY FOR TRADING ACTVITIES .................................................................................................63
OTHER MODES OF FOREIGN DIRECT INVESTMENTS ..........................................................................................................64
GDR/ADR/FCCB.....................................................................................................................................................................64
STATE LEVEL PROJECT IMPLEMENTATION ...........................................................................................................................64
INVESTMENT INCENTIVES ...................................................................................................................................................64
POWER TARIFF INCENTIVES ...............................................................................................................................................65

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OTHER INCENTIVES ..............................................................................................................................................................65

FDI IN EOUs/SEZs/ INDUSTRIAL PARK/EHTP/STP ...................................................................................................................66
Special Economic Zones (SEZs) ...............................................................................................................................................66
100% Export Oriented Units (EOUs) ......................................................................................................................................66
Industrial Park............................................................................................................................................................................66
Electronic Hardware Technology Park (EHTP) Units...........................................................................................................66
Software Technology park Units ............................................................................................................................................66

ENTRY STRATEGY INTO INDIA ....................................................................................................................................................67

IMPORTANT SECTORS WHERE FDI UPTO 100% IS PERMITTED ...........................................................................................69

SECTORS WHICH ATTRACT CEILING ON FOREIGN OWNERSHIP ..........................................................................................70

SECTOR SPECIFIC GUIDELINES FOR FDI.....................................................................................................................................72

CONCLUSION.......................................................................................................................... 80

REFERENCES.......................................................................................................................... 81

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I. INTRODUCTION

India is believed to be a good investment destination among global investors despite challenging hurdles
like political uncertainty, bureauc ratic hassles, shortages of power facilities, and infrastructural
deficiencies.

At present, the country has a promising potential in terms of growth and diversification possibi lities. India
offers a high growth potential in practically all areas of business. It has slowly trans formed itself from a
highly protected, semi -socialist, autarkic economy since post-independence period int o a country which is
smashing barriers and seeking foreign investments.

Although the country has evolved into a more welcoming destination of foreign investment, investors find
it increasingly difficult to enter Indian markets due to political, bureaucratic, socio -cultural and
demographic complexities of the country. Doing bus iness in India is both challenging and frustrating for
investors at the same time.

This project aims at providing an exhaustive analysis of the various factors that are to be considered by
an investor who chooses to park his money in India. It is important for an investor to develop a good
understanding of the Indian market and the country‘s overall ec onomy before taking a direct plunge into
the economic system.

As India moves ahead on the general trend of globalization and liberalization, and its policies get
increasingly standardized with those of the global economy, it is nevertheless important to understand
specific government policies that exist in relation to a particular area of business and analyze the political
concerns which should be addressed.

India’s Economic Sectors and Foreign Investment

India has a strong information technology sector along with other highly promising sectors like the auto
components, chemicals, apparels, pharmaceuticals, and jewellery. Rigid FDI policies of the country pose
a severe hindrance to foreign investment in these and other growing sectors. FDI caps in most sectors
are being relaxed or removed in the wake of the growing liberalization of the world economy.

India‘s recent FDI policy allows up to 100% foreign stake in certain vent ures. Industrial licensing
requirements have been substantially reduced through recent industrial policy reforms. The real estate
sector owes its upward moving growth to a booming economy and relax ed FDI norms and policies. The
approval of 100% FDI in the construction sector by the government in 2005 and this automatic route has
been permitted in townships, housing, built-up infrastructure and construction development projects

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including housing, commercial premis es, hotels, resorts, hospitals, educational institutions, recreational
facilities, and city- and regional-level infrastructure.

However, fields which are in severe need of foreign investment include:

Civil aviation

Construction development

Industrial parks

Petroleum and natural gas

Commodity exchanges

Credit-information insuranc e

Mining

Retailing

The project addresses the route that i s followed by Foreign Investment as it flows into the count ry
directly and indirectly. The project deals with the various policies and procedures that are to be
considered while investing in India.

Some of the policies that will be addressed include:

1. The Industrial Policy

2. Foreign Direct Investment

3. Investment by non-resident Indians and overseas corporate bodies

4. Foreign technology agreements

5. 100% Export Oriented Units/ Export Processing Zones/ Special Economic Zones

6. Electronic Hardware Technology Park and Software Tec hnology Park Schemes

7. Sector specific policies on FDI

The Proc edures of approval of foreign investment in the country shall also be addressed.

The project would further deal with an analysis of the country in terms of

1. Economic factors

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2. Socio-cultural factors

3. Demographic factors

4. Political factors

5. Bureaucratic factors

These are some crucial aspects that need to be thoroughly analyzed to determine the ease of investing in
a particular sector of the Indian economy.

International capital flows perform a variety of functions in the world economy. For example, they permit
levels of domestic investment in a c ount ry to exceed the count ry‘s level of saving. For rapidly growing
economies, inflows of foreign investment permit faster growth or growth with less sacrifice of current
consumption, than could otherwise take place. For countries generating large amounts of saving,
international capital flows provide a means to invest where returns are higher than at home, as was the
case for Great Britain in the nineteenth century and for Japan more recently.

These are long-t erm uses of what are, in some cases, prolonged periods of flow of capit al into or out of
the particular countries. S horter periods of capital flow may serve some different functions, such as
smoothing various types of cyclical or economic fluctuations. Countries heavily dependent on particular
crops need capital flows to finance periods when crops fail or when crop prices fall drastically, permitting
consumption, and perhaps capital formation, to be at least partially sheltered. International capital flows
can also help to finance periods of war or reparations, sometimes resulting from defeat in wars.

Foreign Direct Investment (FDI) in India in growing rapidly. Foreign direct investment is an integral part of
an open and effective international economic system and a major catalyst to development. FDI is highly
beneficial for a count ry like India. Empirical studies suggest that FDI triggers technology spillovers, assists
human capital formation, contributes to international trade integration, helps c reat e a more competitive
business environment and enhanc es enterprise development. All these factors contrib ute to higher
economic growth and consequently aid in alleviating poverty. Apart from bestowing economic benefits
FDI may also help improve environmental and social conditions by trans ferring "cleaner" technologies and
leading to more socially responsible corporate policies.

India‘s foreign investment policies are being liberalized considerably in the present scenario. This is
proven by the fact that the government is seeking to approve 100% Foreign Direct Investment (FDI) in the
education sector of the country. This further calls for an analysis of the various opport unities and hurdles
of entering the Indian ec onomic system through this rout e.

India ranks at position 122 among 181 countries in t erms of the ease of doing business in the country. A
critical factor in det ermining India's continued economic growth and realizing t he potential t o be an

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economic superpower is going to depend on how t he government can c reat e incentives for FDI flow
across a large number of sectors in India.

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II. FOREIGN INVESTMENT IN INDIA – THE HISTORICAL SKETCH

India's economic history can be broadly compartmentalized into three eras, beginning with the pre -
colonial period lasting up to the 17th century. The advent of British colonization of the Indian subcontinent
started the colonial period in the 17t h century, which ended with the I ndian independenc e in 1947. The
third period is the post-independenc e period after 1947.

The people of India have had a continuous civilization since 2500 B.C.E., when the inhabitants of the
Indus River valley developed an urban culture based on commerce and sustained by agricultural trade.
The Harappan Civilization, as it came t o be known, declined around 1500 B. C.E., most likely due to
ecological changes.

During the second millennium B.C.E., pastoral, A ryan-speaking tribes migrated from the northwest into
the subcontinent, settled in the middle Ganges River valley, and adapted to antecedent cultures.
Alexander the Great expanded across Central Asia during the 4th century B.C.E., exposing India to
Grecian influences. The Maurya Empire came to dominate the Indian subc ontinent during the 3rd century
B.C.E., reaching its greatest height under Emperor Ashoka. In the 4th and 5th centuries C.E., northern
India was unified under the Gupta Dynasty. During this period, known as India's Golden Age, Hindu
culture and political administration reached new heights.

Islam spread across the subcontinent over a period of 700 years. In the 10th and 11th centuries, Turks
and A fghans invaded India and established the Delhi Sultanate. In the early 16th century, Babur, a
Turkish-Mongol adventurer and distant relative of Timurlane and Genghis Khan, established the Mughal
Dynasty, which lasted for 200 years.

The first British outpost in South Asia was established by the English East India Company in 1619 at
Surat on the northwestern coast. Later in the century, the Company opened permanent trading stations at
Madras (now Chennai), Bombay (now Mumbai), and Calcutta (now Kolkata), each under the prot ection of
native rulers. Imperial India became the “crown j ewel” of the rapidly expanding B ritish Empire.

On August 15, 1947, India became a dominion within the Commonwealth, with Jawaharlal Nehru as
Prime Minister. Strategic colonial considerations, as well as political tensions between Hindus and
Muslims, led the British to partition British India int o two s eparate states: India, with a Hindu majority; and
Pakistan, which consisted of two "wings," East and West Pakistan--currently Banglades h and Pakistan--
with Muslim majorities. India became a republic, but chose to continue as a member of the B ritish
Commonwealth, after promulgating its constitution on January 26, 1950.

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INDUS VALLEY CIVILIZATION

The Indus Valley Civilization (IV C) was a Bronze
Age civilization (mature period 2600–1900 B CE) which
centered mostly in the western part of the Indian
Subcontinent or South Asia and flourished around the Indus
river basin. Historically part of Ancient India, it is one of the
world's earliest urban civilizations along
with Mesopotamia and Ancient Egypt.

The Indus civilization‘s economy was primarily dependent on trade,
which was facilitated by major advances in transport technology.
Internal Trade Commodities: The economic history of India since Indus Valley Civilization to 1700

Cotton AD can be categorized under the Pre-colonial phase. During Indus
Valley Civilization Indian economy was very well developed. It had
Lumber very good trade relations with other parts of the world, which is

Grain Livestock evident from the coins of various civilizations found at the site of
Indus valley. Before the advent of East India Company, each village
Food Commodities in India was a self sufficient entity. Each village was economically

External Trade- regions independent as all the economic needs were fulfilled with in the
village.
Central Asia
The Indus cities were connected with rural agricultural communities
Arabian Gulf Region
and distant resource and mining areas through strong trade
Distant Mesopotamia systems. They us ed pack animals, river boats, and bullock carts for
transport.
Northern Afghanistan
Cotton, lumber, grain, livestock, and other food stuffs were the
major c ommodities of this internal trade. There was also external
trade wit h Cent ral Asia, the Arabian Gulf region, and the distant Mesopotamian cities, such as S usa and
Ur. Trade also existed with Nort hern Afghanistan from where the Harappans bought the famous blue
gemstones, ‗Lapis Lazuli‘.

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MAURYAS – THE NORTHERN SILK ROUTE

The Mauryan Empire was one of the largest empires to rule the Indian subcontinent. Its decline began 60
years after Ashoka's rule ended, and it dissolved in 185 BC with the foundation of the Sunga Dynasty in
Magadha.

Under Chandragupt a, the Mauryan Empire conquered the trans -Indus region, which was under
Macedonian rule. Chandragupta then defeated the invasion led by Seleucus I, a Greek general from
Alexander's army. Under Chandragupta and his successors, both internal and external trade, and
agriculture and economic activities, all thrived and expanded acros s India thanks to the creation of a
single and efficient system of finance, administration and security. After the Kalinga War, the Empire
experienced half a century of peace and security under Ashoka: India was a prosperous and stable
empire of great economic and military power whose political influence and trade extended ac ross
Western and Central Asia and Europe. Mauryan India also enjoyed an era of social harmony, religious
transformation, and expansion of the sciences and of knowledge.

The Silk-Road is a unique example
from history, of inter-continental
cooperation and collaboration not
only in the field of trade and
commerce but also in the realm of
ideas and culture. The Silk Road
spanned a distance of almost 7000
miles from China through Central
Asia, northern India and Parthian
Empire, to the Roman Empire during
th
the period of 200 BC to 14 century
AD circa. It connected the Yellow River valley in China to the Mediterranean Sea, virtually connecting two
continents, Asia and E urope, the east and the west. The German Baron Ferdinand von Richthofen coined
the term ―Silk Road‖ in the 1870s to describe what was, at its peak, one of the most important and
dynamic centers of economic activity in the world, and the great est trade route linking East to West. It was
more than just a single route; rather, it was a river of connections stretching from south to north, and from
East Asia to as far West as Europe, Egypt and ot her countries in Africa.

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MUGHAL EMPIRE – TRADE

The political economy of the Mughal Empire and of the European trade with India clearly marks out the
age of Mughal rule as a distinct phase in the count ry's economic history. The centralized authority created
by the Mughals had manifold implication for the economic life of the Indian people. The Mughals rendered
possible a very substantial expansion in inter -regional t rade, anticipating the emergence of an integrated
market. In course of time the trade contributed to an undoubt ed increase in the absolute volume of India's
exports and imports, stimulated Indian participation in overseas commerce and induced some positive
developments in the manufacturing section of t he ec onomy and affected the fort unes of the Indian
merchants in different ways by the patterns of competition and collaboration with the traders from abroad.

The nature of India‘s trade, inland and foreign, has practically been the same in the ancient and medieval
ages. During the medieval period t he whole of Northern and Western India had commercial relations with
West Asia and extending through it to the Mediterranean world, as also to Central Asia, South-E ast Asia
and China both oversea and overland rout es.

Throughout the Mughal period, the volume of Indian export through the nort h-western land routes
continued fluctuating according to the atmosphere of amity or hostility prevailing between India and
Persia on t he question of the possession of Qandahar and sometimes on the relations between the
Mughal government and the Portuguese.

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BRITISH/FRENCH/PORTUGUESE – TRADE

The period spanning a hundred and fifty years, between the deat h of the Mughal emperor Aurangzeb in
1707 AD, and the Sepoy mutiny in 1857 witnessed the gradual increase of the European influence in
India. This was the time when the Europeans actually got involved in trade and commerce. Prior to this
period, Europeans did arrive in India from time to time but these were no more than isolated incidents.

All historians agree that the Portugue se explorer and adventurer Vasco da Gama was the first known
European to reach India in 1498. It is believed that Gama had landed at Calicut (modern K erala) in quest
of spices and the famous Calico (fine cotton) cloth. The other P ortuguese nationals who accompanied
him were motivated by eit her missionary zeal or
trading prospects.

The Portuguese eventually settled down to a
very prosperous trade in spices with India. The
Muslim rulers (including the Mughals) were
averse to the idea of a foreign power carrying
on commercial activities on the high seas
bordering India. In Goa, which had become a
Portuguese bastion there were reports of
religious intoleranc e, forced conversions,
devastation of Hindu temples and so forth.

However, Alphonse de Albuquerque (1509-1515), who was the s econd P ortuguese governor in India,
encouraged mixed marriages of the Port uguese with the local people, probably imbued with the idea of
creating a mixed rac e of Catholics, which would be racially and culturally linked to Portugal.

Although the erstwhile French ruler Louis XII had granted letters of monopoly to French traders as early
as 1611, it was only in 1667 that a French company was set up at Surat (Gujarat) with Franci s Caron as
its Director-General. In 1669, another French company was set up in Masulipatnam (Andhra P radesh),
after the then king of Golconda, exempted the French from paying import and export duty.

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FOREIGN INVESTMENT IN INDIA – POST INDEPENDENCE

The post independence period of economy of India was a litmus test for the economic planners. Having
come out of the shadow of coloni al rule, the nation had a huge challenge of undoing the exploitation of
colonial era. The founding fat hers had to use economic upliftment as a tool for nation building. The
economy then was backward in nature.

Indian economic policy after independence, influenced by the colonial experience (which was seen by
Indian leaders as ex ploitative in nature), and by their exposure to Fabian socialism, bec ame protectionist
in nature, implementing a policy of import substitution, industrialization, state intervention in labor and
financial markets, a large public sector, overt regulation of business, and central planning. Jawaharlal
Nehru, the first prime minister of India, along with the statistician Prasanta Chandra Mahalanobis,
formulat ed and oversaw t he economic policy of independent India. They expected favorable outcomes
from this strategy since it involved both the public and privat e sectors and was based on direct and
indirect state intervention instead of a Soviet-style central command system. The policy of concentrating
simultaneously on capital and technology intensive heavy industry and subsidizing hand based and low -
skilled cottage industries was criticized by economist Milton Friedman, who t hought it would not only
waste bot h capital and labor, but also retard the development of smaller manufacturers.

India's low average growth rate up to 1980 was derisively referred to as the Hindu rate of growt h,
because of t he cont rasting high growth rates in other Asian countries, especially the East Asian Tigers.
The ec onomic reforms that surged economic growth in India after 1980 can be attributed to two stages of
reforms. The pro-business reform of 1980 initiated by Indira Gandhi and carried on by Rajiv Gandhi,
eased restrictions on capacity expansion for incumbents, removed price controls and reduced corporate
taxes. The economic liberalization of 1991, initiated by then Indian prime minister P. V. Narasimha Rao
and his finance minister Manmohan Singh in response to a mac roec onomic c risis did away with the
Licence Raj (investment, industrial and import licensing) and ended public sector monopoly in many
sectors, thereby allowing automatic approval of foreign direct investment in many sectors. Since then, the
overall direction of liberalization has remained the same, irres pective of the ruling party at the centre,
although no party has yet tried to take on powerful lobbies like the trade unions and farmers, or
contentious issues like labor reforms and cutting down agricultural subsidies.

Industry was characterized by ill equipped technology and unscientific management. Agriculture was still
feudal in nature and characterized by low productivity. Transport and communication systems were not
properly developed, educational and health facilities insufficient and the complete absence of social
security measures.

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Poverty was visible and unemployment widespread, resulting in a low standard of living. To guide the
Indian economy towards a pat h of growth and development, the economic planners decided t o adopt a
course of mixed economy, assigning a vital role to public sector enterprises and economic planning.
Privat e enterprise participation was negligible. A system of License Raj developed, by which
entrepreneurs had to seek permission from government to set up manufacturing units. The government
effectively controlled everything. During this period the banks were nationalized between late 1960's and
early 1970's.

India's post-independence economic policy combined a vigorous private sector with state planning and
control, treating foreign investment as a necessary evil. Prior to 1991, foreign firms were allowed to enter
the Indian market only if they possessed technology unavailable in India. Almost every aspect of
production and marketing was tightly controlled, and many of the for eign companies that came to India
eventually abandoned their projects.

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FOREIGN INVESTMENT IN INDIA – POST LIBERALIZATION

By the beginning of 1990‘s, the Indian Economy was under great crisis and faced its stiffest challenge.
India fac ed a serious balance of payment problem and foreign exchange reserves were at record low.
That is when the government decided to alter the course of the Indian economy.

The introduction of reforms in 1991 resulted in sweeping changes in the Indian Economy. The reforms
process consisted of three processes, liberalization, privatization and globalization (LPG model). Under
liberalization markets were deregulated, under privatization privat e participation was encouraged and
many a public sector undertaking (PS U) were privatized and under globalization restrictions on foreign
investments were removed. The Indian economy moved away from its isolation, to be integrated wit h the
global ec onomy and to competitively utilize its advantages to make rapid strides in terms of growt h.

In India today 60% of the population is dependent directly and indirectly on agriculture and agriculture
contribut es 17% of GDP.

The Industrial sector has witnessed massive restructuring by the way of mergers and acquisitions,
process reengineering, foreign joint ventures, technological up gradation. Certain sectors like cement,
steel, aluminium, pharmaceuticals, and automobiles have been witnessing unprecedented growt h.

The service sector has been one of the major beneficiaries of the ec onomic boom. The outsourcing
industry comprising of IT and ITE‘S became the new poster boy of the Indian economy. The huge pool of
engineering talent was absorbed by the IT industry, while graduates could carve out a career in the ITE'S
industry. The purchasing power of the booming middle class was enhanced, who went on a consumption
spree, which in turn allowed the retail sector to flourish. The booming economy also created a wave of
real estate boom ac ross the country.

India is the fourth-largest economy in the world in PPP terms, India is a preferred destination for foreign
direct investments (FDI); India has strengths in telecommunication, information technology and other
significant areas such as auto c omponents, chemicals, apparels, pharmaceuticals, and jewellery. Despite
a surge in foreign investments, rigid FDI policies resulted in a significant hindrance. However, due to
some positive economic reforms aimed at deregulating the economy and stimulating foreign investment,
India has positioned itself as one of the front-runners of the rapidly growing Asia Pacific Region. India has
a large pool of skilled managerial and t echnical expertise. The size of the middle -class population stands
at 50 million and represents a growing consumer market.

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India's recently liberalized FDI policy (2005) allows up to a 100% FDI stake in vent ures. Industrial policy
reforms have substantially reduced industrial licensing requirements, removed restrictions on expansion
and facilitated easy access to foreign technology and foreign direct investment FDI. The upward moving
growth curve of the real-estate sector owes some credit to a booming economy and liberalized FDI
regime. In Marc h 2005, the government amended the rules to allow 100 per cent FDI in t he construction
business. This automatic route has been permitted in towns hips, housing, built -up infrastructure and
construction development projects including housing, commercial premises, hotels, resorts, hospitals,
educational institutions, recreational facilities, and city - and regional-level infrastructure.

A number of changes were approved on the FDI policy to remove the caps in most sectors. Fields which
require relaxation in FDI restrictions include civil aviation, construction development, industrial parks,
petroleum and natural gas, commodity exchanges, credit-information servic es and mining. But this still
leaves an unfinished agenda of permitting greater foreign investment in politically sensitive areas such as
insurance and retailing. FDI inflows into India reached a rec ord $19.5 billion in fiscal year 2006-07 (April-
March), according to the government's Secretariat for Industrial Assistance. This was more than double
the total of US$7.8bn in the previous fiscal year. The FDI inflow for 2007-08 has been reported as $24
billion and for 2008-09, it is expected to be above $35 billion. A critical factor in determining India's
continued ec onomic growth and realizing the pot ential to be an economic superpower is going t o depend
on how the government can create incentives for FDI flow ac ros s a large number of sectors in India.

The supply of money into the economy has increased steadily due to FDI‘s. (Between April 2008 and
January 2009, India received total foreign investments of US $ 15,545 million).The Foreign Institutional
Investors (FII‘s) have invested heavily in the stock market, resulting in a continual bull run for an extended
period of time. The BSE indices scaled a new peak of 21, 000 in January 2008.

India, post liberalization, has not only opened its doors to foreign investors but al so made
investing easi er for them by implementing the following measures:

o Foreign exchange controls have been eased on the account of trade.
o Companies can raise funds from overseas securities markets and now have considerable
freedom to invest abroad for expanding global operations.
o Foreign investors can remit earnings from Indian operations.
o Foreign trade is largely free from regulations, and tariff levels have come down s harply in the last
two years.
o While most Foreign Investments in India (up to 51 % ) are allowed in most industries, foreign
equity up to 100 % is encouraged in export-oriented units, depending on the merit of the
proposal. In certain specified industries reserved for the small scale sector, foreign equity up to
24 % is being permitted now.

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As the industry progresses, opportunities abound in India, which has the world's largest middle class
population of over 300 million, is attracting foreign inve stors by assuring t hem good ret urns. The scope
for foreign inve stment in India is unlimited. India offers to foreign investors a well balanced package of
fiscal incentives for exports and industrial investments that includes:

o Complete tax exemptions.
o Investment incentives are offered by both the Central Government and the Government of the
State in which the unit is located.
o India has tax treaties wit h 40 countries.

Moreover, the support of the common man regarding FDI is clearly from the sharp hike in India's gross
expenditure in the past few years.

21

INDIA’S JOURNEY FROM LICENSE RAJ ERA TO GLOBALIZATION

Phase I: (1947-65)

• Focus on government led investments in manufacturing

• Several large PSUs in steel, chemicals, and power were set up

• Many of these companies exist even today and are among the largest companies in their sectors

Phase II: (1965-80)

• Government involvement in industry increased

• Strong licensing laws were introduc ed with a sustained focus on import substitution

• PSUs and formation of several small-scale private sector manufacturing entities grew

Phase III: (1980-90)

• The government partially opened its economy to external trade

o De-lic ensed some key sectors for privat e participation, leading to strong growth in a few
sectors

o Formation of Maruti Suzuki a s government’ s 50:50 Joint Venture with Japan’s
Suzuki Motors

Phase IV: (Since early 1990s)

• The industry was further liberalized

• The scope of licensing was significantly reduced

• Custom duties were slashed

• FDI in various sectors was opened up

Phase V: (2000 onwards)

• Companies began to reap the rewards of the various phases of development learning

Many Indian business enterprises became quit e competitive and looked at taking on global players .

22

III. COMPARATIVE STUDY OF FOREIGN INVESTMENT IN
DEVELOPED AND DEVELOPING COUNTRIES

USA
Russia

JAPAN

China

India

South Africa
Brazil

23

CHINA
ECONOMIC OVERVIEW

An important part of the economic reform process in China has
been the promotion of foreign direct investment (FDI) inflow.
After more than twenty years of economic reform, China has
become one of the most important destinations for cross-border
direct investment.

As a result of the active government promotion t hrough various policy measures, FDI in China has grown
rapidly since t he 1978, especially in the 1990s. From early 1980s to late 1990s, contracted FDI inflo w to
China has grown from about US$ 1.5 billion a year to more than US$ 40 billion a year in 1999. During the
same period, China‘s actual us e of FDI grows from about US$ 0.5 billion to more than US$ 40 billion a
year.

China has been the world‘s largest FDI recipient among developing countries since early 1990s. In recent
years, FDI to China accounts for 1/4 to 1/3 of total FDI inflow to developing countries. Foreign investment
has become an import ant source for China‘s investment in fixed assets. Its share in total annual
investment in fixed assets grew from 3.8% in 1981 to its peak level of 12% in 1996. A fter t he Asian
financial crisis in 1997, FDI inflow fell and its contribution to fixed assets investment also dec reas ed to
about 9% and 7% in 1998 and 1999, respectively.

The growth rate of foreign direct investment (FDI) into China accelerated to 23% in 2008 to $92.3 billion,
according to Ministry of Commerce statistics. American FDI in China grew more than 10% in 2008, the
first year t hat U.S. investment in China rose since 2002. According to the United Nations Conference on
Trade and Development (UNCTA D), in 2007, mainland China was t he world‘s sixth largest FDI recipient,
after the United States, the United Kingdom, France, Canada, and the Netherlands. ( Hong K ong was the
world‘s seventh largest FDI recipient. Together, the two economies would be ranked fourth.)

China also received the most votes in a 2007 UNCTA D poll of attractive investment destinations, followed
by India, the United States, Russia, Brazil, and Vietnam. The American Chamber of Commerce has
reported that American firms‘ operations in China are more profitable than they are in the United States.

Outbound investment from China has recently increas ed significantly as China encourages leading
domestic firms to acquire key technologies, brands, and access to natural resources abroad, although
Chinese investment in U.S. financial institutions has lagged expectations.

While FDI in China shot higher, investors continued to face a range of potential problems that could
expose them to risks in the future. Problems foreign investors face in China include lack of t rans parency,

24

inconsistently enforced laws and regulations, we ak IP R protection, corruption, industrial policies that
protect and promote loc al firms, and an unreliable legal system.

At the moment, China appears to be using the rules to restrict foreign investments that are:

Intended to profit from currency speculation;

In sectors where the government is trying to tamp down aggregat e capital inflows and inflation;

In sectors where China is seeking to cultivate ―national champions;‖

In sectors that have benefit ed historically from state-authorized monopolies or from a legacy of
state investment;

In sectors deemed key to social stability, like foodstuffs and heavily polluting industries; and

Nominally ―foreign‖ investment that is actually Chinese capital that has been exported and re-
imported to take advantage of prefere ntial treatment accorded to foreigners.

DISTRIBUTION OF FOREIGN INVESTMENT

The vast majority of foreign investment is conc entrated in China's more prosperous coastal areas,
including Guangdong, Jiangsu, Fujian, and Shandong provinces, and Shanghai. Foreign investment in
most service sectors lags manufacturing, mainly due to government -imposed restrictions. China is
committed to gradually phasing out barriers in many service industries, but progress has been slow.

FOREIGN TRADE ZONES/FREE PORTS

China's principal duty-free import/export zones are in Dalian, Guangzhou, Shanghai, Tianjin, and Hainan.
Besides these official duty-free zones, numerous free trade and economic development zones and ―open
cities‖ offer similar privileges and benefits to foreign investors. In 2008, China also actively promoted
economic development outside its relatively wealthy coastal area by encouraging multinationals to
establish regional headquarters and operations in Central, Western, and Northeast China. Some analysts
speculate that China will event ually grant full trading and distribution rights nationwide.

China's General Administration of Customs claims to successfully control duty -free imports into the
zones, but the lack of physical barriers between the duty free zones an d surrounding areas makes it
difficult to control the outbound flow of unt axed items.

25

INVESTMENT TRENDS AND STATISTICS

The top sources of FDI in China in 2008 were: Hong Kong, the British Virgin Islands, Singapore, Japan,
the Cayman Islands, South Korea, the United States, Western Samoa, and Taiwan. Of note, some
mainland companies utilize ―roundtrip‖ investment via subsidiaries in the S pecial Administrative Regions
(SAR‘s) of Hong K ong and Macau in order to obtain inc entives available only to foreign inve stors.
Analysts have estimated that mainland Chinese funds flowing through Hong Kong may account for 10 -
30% of Hong K ong's total realized direct investment in China. Hong Kong and Macau statistics are further
skewed because many Taiwan firms invest through them to avoid scrutiny from Taiwan authorities.
Indeed, some obs ervers estimate accumulated stock of FDI inflows from Taiwan is actually two to three
times the amount formally recorded.

The past few years have s een an ups urge in investment from tax -havens like the B ritish Virgin Islands
and Cayman Islands. Anecdot al information suggests these funds originate from companies based in
Organization for Economic Cooperation and Development (OECD) economies, Taiwan, and even China
itself. Some researc hers estimate that as much as one-t hird of nominally ―foreign‖ investment in China is
really of Chinese origin. That is, Chinese investors find ways to send money out of the country so that
they can then re-enter as a ―foreign investor,‖ taking advantage of policies that offer foreign investors
preferential treatment. The elimination of certain tax benefits for foreign investors, described in S ection E,
may lead to a drop in ―round trip‖ investment.

U.S. direct investment abroad is inc reasingly concent rated in developed countries, reflecting a focus on
high-tech and financial services and a move away from basic manufacturing and extractive industries.
U.S. direct investment in China had fallen in line with this trend from 2002 to 2007, but U.S. investment in
China grew in 2008. While China's processing trade exports to the United St ates are booming, U.S.
retailers often buy goods from enterprises whose source of investment is not American, thus de -linking
this trend from U.S. direct investment abroad statistics. Also, it is important to note that Chines e data on
foreign direct investment do not include much of the high-dollar value minority equity stakes that
American financial services firms have t aken in major Chinese lenders. Finally, American -invested
enterprises in China may fund their continued growth by reinvesting locally -generated profits in China.
China does not classify this as new investment.

26

RUSSIA
ECONOMIC OVERVIEW

Russia presents many promising investment opportunities with the
potential for dynamic growth in sales and profits. However, investors
face several significant challenges, including a complex regulatory
and legal system that requires professional help to navigate,
wides pread corruption, a lack of respect for the rule of law, and
immature banking and financial markets. In addition, state-owned
entities have a major presenc e in many economic s ectors, and henc e may be potential competitors of
new investors.

Russia‘s economy is still developing, not diversified, and is largely focus ed on natural resource extraction.
GDP sharply contracted in the last two months of 2008. Although it posted a 7.3 percent growt h rate for
the first nine mont hs of 2008, the final figure for 2008 is expected to be 6.8 to 7. 0 percent, as compared to
8.1 percent in 2007. The numbers for 2009 are expected to be even lower, ranging from 0 percent growth
to 2.5 percent. Fixed capital investment saw an increase of 13. 1 percent January -Sept ember, which was
lower than the 21. 3 percent increase during the same period in 2007. Mos t of the capital investment in the
first nine months of 2008 went to energy, manufacturing, real estate, and transportation.

According to the Central Bank of Russia, foreign direct investment (FDI) inflows exceeded $50 billion in
the first 9 months of 2008, as compared to $38 billion during the same period in 2007. End of year
estimates place FDI at $55 billion. At 4% of GDP, this level of FDI inflow is on par with other emerging
markets. The United Kingdom and the Netherlands continued to be t he top source countries for
investment inflows during the year, reflecting these two count ries‘ heavy investments in Russia‘s energy
sector.

Capit al account liberalization, whic h took effect on July 1, 2006, helped inc rease net inflows to Russia in
2006 ($40 billion) and 2007 ($82 billion). The general economic slowdown stemming from the financial
crisis and shocks to investor confidence, however, have produced a marked shift for 2008, increasing
capital out flow and putting additional pressure on the ruble. As of Octobe r 1, 2008 (latest available data at
this writing), capital out flows were equal to capital inflows. BNP Paribas has estimated that investors
withdrew about $140 billion from August – October 2008. According to the Central B ank of Russia, net
private capital outflow reached $50 billion in October 2008 alone.

Russia is one of the 10 largest economies in the world. Additionally, it is the EU‘s 3rd largest trading
partner, and an essential energy supplier. This recovery mak es Russia an economic – and political –
actor in Europe that cannot be ignored.

27

GROWTH RECOVERY

Since the return of positive and strong growth after the 1998 financial crisis – growth rates averaged 6.7%
of GDP in 1999-2006 and ECFIN‘s last 2007 growth forecast is 7.7%, or t hree and half times the growth
rate of the euro area – Russia is now the largest non-E U economy in Europe and one of the 10 largest
economies in the world. Russia's nominal GDP was worth over EUR 740 billion, or USD 1 trillion in 2006,
roughly the size of Spain‘s. In PPP ter ms, it is almost 70% of Germany‘s (GDP in PPP are available only
in US D). Clearly, Russia has fully recovered from the deep ―transition recession‖ that plagued the count ry
in the 1990s (see Charts 1 and 2).

For most of this period, the growth of Russia‘s output, driven primarily by private consumption, was made
possible by a gradual increase in utilization of t he existing industrial capacity, rather than through a build -
up of new capacities. The investment rate in Russia‘s economy throughout the first years of the current
decade remained essentially stable, at 20 -21% of GDP. The situation seems to have been evolving since
end-2006, with investments growing faster and playing a bigger role as a growth driver. This Count ry
Focus will deal with one single aspect of this process of investment growth in Russia – Foreign Direct
Investment (FDI). Indeed, FDI has been a substantial part of total investments in the count ry, in particular
in some strat egic sectors, like the hydrocarbon industry. It remains of fundament al importanc e for making
the resumption of growth in Russia truly sustainable.

28

FDI IN RUSSIA – TRENDS AND STATISTICS

Per capit a FDI into Russia was, until recently, very disappointing: Russia had since the early 1990s been
significantly under-performing with respect to comparable emerging economies as well as the other
countries that have emerged from the Soviet Union. Chart 3 shows that Russia‘s net FDI per c apita was
substantially lower than the average of the Commonwealth of Independent States (CIS, the loose
association of most of the former Soviet Union republics, bar the Baltic republics). In 2006 this situation
changed abruptly, when net FDI per capita rose by almost 40 times the 2005 value, reaching around E UR
40 billion.

This change reflects primarily a very significant increase in total FDI inflows (see Chart 4 above). FDI into
Russia has grown since 2002 by almost 8.3 times, reaching around E UR 23 billion in 2006, or over 3% of
GDP, which is more than three times the c orresponding figure for 2002, and is comparable t o the FDI
share in China. Correspondingly, the share of Russia in total FDI in
the CIS, which had fallen during most of the 1990s, jumped from
below 40% in 2002 to almost 70% in 2006 (which is, however, still
below Russia‘s current share of the CIS aggregate GDP, at around
76%).

29

E ven more striking is another change observed in 2006 – the reversal of a long tradition of ―capital flight‖
out of Russia and a corresponding switch in the direction of net investment fl ows (see Chart 5 below). Net
inflows of FDI rose from EUR 0.1 billion in 2005 to E UR 5.6 billion in 2006. The total inflow of net FDI and
port folio investment in that year exceeded EUR 15 billion.

This trend seems to have continued in 2007. The estimates made by the Central Bank of Russia (CB R)
indicate that total FDI reached around EUR 21 billion during the first half of 2007, while net FDI was about
EUR 1. 5 billion. The
surplus of the Balance of
Payments' capital and
financial account reached
EUR 45 billion during the
first 9 months of the y ear.
This increase in total
inflows is partially
explained by the launch
of a number of large
Initial P ublic Offers
(IPOs ) in the first half of
2007 (notably those of
the two largest state
owned banks, Sberbank
and V TB, which each
attracted around E UR 6.7
billion) and also by the auction of the remaining assets of Y ukos. The size of capital inflows was forecast
to abate during the remainder of 2007 even before the market turbulenc e of August 2007 (which seems to
have had a very limited impact in capital inflows into Russia), due to more limited IP O-related activities.

Russia has fully recovered from its ―transition recession‖, with a very robust growth record since 1999.
Nevertheless, a key weakness in this impressive gro wth pattern has been the relatively low level of
investment overall and net FDI in particular. However, Russia has recently considerably enhanced its
position as a (net) FDI destination – and even with all the limitations of the available data, it is clear that
the EU, as by far t he largest investor in Russia, has played a major role in this proc ess. This Count ry
Focus argues that to ensure that this increase in net FDI and total net capital inflows is a sustainable
long-run trend and not a temporary blip, Russia must still improve the legal framework for FDI and the
investment climate in the country. This need is especially stronger in some (but not all) natural resource
and energy-linked sectors. The E U, as the major investor in Russia and largely dependent on it for energy
resources, has a clear strategic interest in this.

30

SOUTH AFRICA
ECONOMIC OVERVIEW

Located at the southernmost tip of A frica, South A frica (GMT +2)
is bordered by Namibia, Botswana, Zimbabwe and Mozambique,
and t otally encloses Lesotho. There are currently 11 official
languages in South Africa, but for business purposes, English
and A frikaans are most often used.

Although the economy is in many areas highly developed, there
are some weaknesses, partly because of remaining inequalities between the country's black and white
residents, and partly due to the country's international isolation until the 1990s. The country could, then,
be said to be in a state of transition, as the government seeks to address the inequities of previous
regimes and foster good international trade relationships with other countries.

Efforts so far appear to have been successful, and S outh African business has become increasingly
integrated into the int ernational community; foreign investment int o the area has grow n substantially over
the past few years as a result. With its advantageous location and a government rec eptive to foreign
direct investment, South A frica cert ainly looks as though it is becoming an international force to be
reckoned with.

Busine ss Infrastructure

The S outh African business infrastructure is generally well developed, and could be seen as a model for
other A frican countries to follow. It includes an efficient physical infrastructure of roads, rail and air
transport, a well developed communications net work support ed by reliable electricity supplies, and a
substantial financial support structure for companies established in the country, including a network of
merchant banks, brokers, and financial services specialists. Although the business infrastructure is not
yet able t o compete with those of the most developed western powers, it is certainly forging a pat h for
other emerging markets countries to follow; increasing investment in telecommunications and technology
should see it able to compet e on an international level in the near future.

In common with almost every business jurisdiction, both on- and offshore, South A frica has hopes of
becoming the e-commerce hub of its hemisphere. Although the groundwork has been laid, the industry
still seems to be in the process of developing a coherent legislative framework and e-commerce strategy.

Although it may not be necessarily assumed that South A frica's position at the very bottom of the African
continent would be an advantage in terms of international business opportunities, it actually makes the
country a very good trans-shipment point between the emerging markets of Central and South America

31

and t he newly industrialized nations of South and Far East Asia. South A frica is also ideally placed for
access to countries in the Southern A frican Customs Union (SACU), and the S outhern African
Development Community (SADC), an alliance of 15 countries with a combined population of over 180
million.

INVESTMENT OPPORTUNITIES

The government of South A frica is open to foreign investment, which it views as a means to drive growt h,
improve international competitiveness, and obtain access to foreign markets. Virtually all business sectors
are open to foreign investors. No government approval is required, and there are almost no restrictions on
the form or extent of foreign investment. The Department of Trade and Industry‘s (DTI) Trade and
Investment South Africa (TISA) division provides assistance to foreign investors. The DTI concentrates on
sectors in which research has indicated that the country has a comparative advantage. TISA offers
information on sectors and industries, consultation on the regulat ory environment, facilitation for
investment missions, links to joint vent ure partners, information on incentive packages, assistance with
work permits, and logistical support for relocation.

For both international and domestic investors, there are many investment opportunities available in the
modern S outh A frica: the country is the world leader in several specialized manufacturing areas: it
produces and exports more gold than any ot her international competitor, and also exports considerable
amounts of coal; and it leads in the field of mineral processing to form feralloys and stainless steels.
Several other areas, such as tourism, agriculture and livestock development, construction, and the
service industry are undergoing rapid growth at the moment, and look likely to attract substantial foreign
investment over the next few years.

As previously mentioned, the leadership i s receptive to foreign investment, and S outh A fric a has
made good progress in dismantling its old economic system, which was based on import substitution,
high t ariffs and subsidies, anti-competition meas ures, and widespread government intervention. The
government has substantially reduced its role in the economy, and in the interests of promoting private
sector investment competition, has reduced import taxes and subsidies to local firms, eliminated the
punitive non-resident shareholders tax, removed certain limits on hard currency repatriation, and reduced
the secondary tax on corporate dividends (soon to be replac ed by a new dividends tax in line with
international norms).

Virtually all business activities are open to international investors, although in a few sectors, ceilings have
been placed on the permitted extent of foreign involvement, for example in the banking industry in which
foreign equity investment is limited. At pres ent, foreign investments are treated in essentially the same
way as domestic investments, and receive national treatment for various investment incentives such as
export initiative programmes, tax allowances, and trade regulations.

32

FOREIGN INVESTMENT – TRENDS AND STATISTICS

South A frica's foreign trade and investment were affected by sanctions and boycotts, especially during
the 1980s and early 1990s. These measures inclu ded a volunt ary arms embargo instituted by the United
Nations (UN) in 1963, which was declared mandatory in 1977; the 1978 prohibition of loans from the
United States Export-Import Bank; an oil embargo first instituted by OPEC in 1973 and strengthened in a
similar move by Iran in 1979; a 1983 prohibition on IMF loans; a 1985 cutoff of most foreign loans by
private banks; the United States 1986 Comprehensive Antiapart heid Act, which limit ed trade and
discouraged United States investors; and the 1986 European Economic Community (EEC) ban on trade
and investment. The Organization of A frican Unity (OAU) also discouraged trade with Sout h Africa,
although observers estimated that Afric a's officially unreport ed trade with South Africa exceeded R10
billion per year in the late 1980s.

The most effective sanctions measure was the withdrawal of short -term credits in 1985 by a group of
international banks. Immediate loan repayments took a heavy toll on the economy. More t han 350 foreign
corporations, at least 200 of which were United States owned, sold off their South African investments. In
1991 both the EEC and the United States lifted many official sanctions in view of measures taken by
Pretoria to begin dismantling apartheid. Foreign investors were slow to return to S out h Afric a, however;
most banking institutions considered the country too unstable, and foreign corporations fac ed high labor
costs and unrest if they tried to operat e there.

In 1994 and 1995, many of the Unit ed States companies that had sold off shares or operations in South
Africa in the past decade ret urned to do business there. By early 1996, at least 225 United States
companies employed more than 45,000 South African workers.

During the 1960s, foreign investment in mining and manufacturing grew steadily, reaching over 60
percent of total foreign investment by 1970. After that, foreign investment in South Africa stagnated and in
some cases declined, increasing t he government's reliance on loans rather t han on equity capital to
finance development. In 1984 loans constituted over 70 percent of South Africa's foreign liabilities, as
compared with only 27 percent from direct investments. As a result, when most loans were cut off in
1985, available investment capital dropped sharply, and t he economy suffered. In 1989 a substantial
proportion of gross investment--R39 billion out of R49 billion--represented depreciation.

Although international opposition to South Africa eased in the early 1990s and bans on investment were
lifted, investment as registered on the Johannesburg Stock Exchange (JSE) continued to decline and
South A frican share prices on the JSE and on the London Stock Exchange were low. Industrial shares
fared better t han other sectors, but even t he industrial index showed only sluggish growth throug h 1991.

33

The overall JSE index improved slightly in 1992, and this trend c ontinued after that. In 1993 the index
rose by nearly 50 percent, although
the volume of trade continued to be
low by international standards. By
late 1995, foreign purchases on the
JSE had risen to more than R4.5
billion.

Foreign purchases were primarily
in port folio investment rat her than
direct investment through the mid-
1990s. Most foreign direct
investment was in the form of joint
ventures or buying into existing
enterprises. There was very little
foreign direct investment in new
enterprises, a trend that hit hardest
in the struggling black business
sector in Sout h A frica. Unit ed Stat es
direct investment in South Africa rose during this time, from about US$871 million in 1992 to m ore than
US$1.34 billion in 1995.

South A fricans invested heavily in other African c ount ries, even during the years of declining investments
in South Africa. Tourist facilities were a favorite target for South African investments during the sanctions
era. South A fricans invested in t ourist parks in Madagascar, for example, and in hotel development in the
Comoro Islands and in Mozambique in the early 1990s. South Afric an tourists, banned from many other
tourist locales at the time, then shared in the benefits of these developments.

34

BRAZIL
ECONOMIC OVERVIEW

Brazil has been among the world's leading recipients of foreign direct
investment (FDI) in recent years. The impressive figures reflect the
longstanding presenc e of international companies in prominent areas
of the Brazilian economy such as telecommunications, chemicals,
pharmaceuticals, automobile manufacturing, and many parts of the
service sector.

These investments have been sustained, among other factors, by the
size of the domestic market, political stability, openness and improved macroeconomic conditions,
especially in terms of enhanced fiscal discipline and adjustment, as well as by various economic reforms.
Besides their very positive financial impact on the balance of payments, the inflow of FDI has played a
major role in enlarging industrial capacity and boosting competitiveness.

A research study published in 2004 observed that foreign direct investment in Brazil had played a
significant part in the country 's industrialization process in the past few decades. FDI inflows into Brazil
were attracted mostly by the size of the vast dom estic market and also by favorable government policies.

It has been obs erved that t he FDI inflows into B razil favored the capital intensive or technology intensive
industrial production sectors of the economy. Of late t he Brazilian s ervices sector has als o started
garnering FDI inflows.

In the referenc e period of the research study, the Brazilian FDI regulatory regime was substantially liberal.
It may be noted that, majority of the Brazilian politicians view FDI as an employment generating avenue
and also as a modernizing vehicle for the B razilian ec onomy.

Country Highlights:

Brazil has the largest economy in South America
Brazil, along with India & China has highest rates of growt h
Since 2000 Brazil accounts for 52% of FDI into South America, the 2nd lar gest FDI receiver
In 2002 Brazil had the 12th largest economy
Brazil is cofounder of Mercosur & a key promoter of FTAA – A champion of free trade

Geographic Info:

Brazil is 5th Largest Country by Area

35

A land area of 8.5 million square Kms
A population of 172 Million
Equatorial weather with largest rain forest
Became a republic in 1889
Divided into 5 regions and 26 states
A country of immigrants – Europeans, Africans, Asians & pacific islanders

Brazilian Economy:

Brazil is an emerging industrial-service ec onomy, Agriculture accounts for less than 10% of GDP
Brazil initiated Market reforms since 1990‘s
Inflation has fallen to 9.3% (still high) in 2003 from 2,708% in 1993 – ―Real Plan‖
Real Plan was initiated to stabilize economy in the aftermath of Contagion
Real was devaluated in 2001 & IMF extended $41 Billion loan to bail Brazilian economy

Brazil’s Factor Endowments:

Brazil is rich in natural resources
o Land, minerals, Water, Forests
Brazil has an advanced technology
o Telecom infrastructure
o Skilled labor
o Indigenous technology sector
o Booming Biotech Industry
Brazil has established core sector
o Leading producer of Aluminum & Steel
Brazil has a young & skilled population
o Over 250,000 are enrolled in Graduate program in 2002

Technology Focus

Import Substitution program created a strong local industry
Government encouragement of Aerospace, biotec hnology sectors has built strong tech sector
Brazil has built a strong engineering, Automobile, Aerospace industry

Related and Supporting Industry

Brazil‘s Auto & Engineering industry is benefit ed by steel, rubber & auto parts industry
Brazil has a strong Agribusiness sector with chemicals, pesticides, seeds etc
A strong higher educ ation system supplies industry with talented employees

36

Demand Conditions:

A strong home demand exists in Brazil
A population of 172 Million
A strong demand for consumer products, Autos etc at home supports expansion abroad by
Brazilian companies
Free Trade Area agreement with other South American countries creates a larger market

OPENNESS TO FOREIGN INVESTMENT

Brazil is open to and encourages foreign investment. According to a recent United Nations report, Brazil
is the largest foreign direct investment (FDI) recipient in Latin America, attracting an estimated USD 42
billion in 2008 (The Brazilian Central Bank reports a slightly higher figure of US D 45 billion). The United
States is the number one foreign investor in B razil. FDI is prevalent across Brazil‘s economy, although
certain sectors, notably media and communications, aviation, trans portation and mining, are subject to
foreign ownership limitations. While Brazil is generally considered a friendly environment for foreign
investment, burdensome tax and regulatory requirements exist. In most cases these impediments apply
without discrimination t o both foreign and domestic firms. The Government of Brazil makes no distinction
between foreign and national capital.

With respect to the current global financial crisis, a diversified ec onomy, relianc e on local rat her than
external debt, and investment grade status will help Brazil weather the storm. However, Brazil is not
immune to the crisis and the Central Bank‘s January 2009 market survey revealed a forecasted GDP
growth of 2. 0 percent, a decline from the July 2008 forecast of 4.0 percent growth. The Brazilian
government is pursuing monetary policy and industry support measures to address the impact of the
crisis.

Bilateral Investment Agreements

Brazil does not have a Bilateral Investment Treaty with the United States. While Brazil had signed B ITs
with Belgium and Luxembourg, Chile, Cuba, Denmark, Finland, France, Germany, Italy, Republic of
Korea, Net herlands, Portugal, Switzerland, United Kingdom and Venezuela, none of these were ratified
by the Brazilian Congress. Brazil also has not ratified the Mercosul investment prot ocol.

Brazil has no double taxation treaty with the United States, but does have such treaties with 24 other
countries, including, among others, Japan, France, Italy, the Netherlands, Canada and Argentina. Brazil
signed a Tax Information Exchange Agreement with the United States in March 2007 that currently awaits
ratification in the Brazilian Congress, where it has been challenged on its constitutionality.

37

Foreign Trade Zones

The federal government has granted tax benefits for certain free trade zones. The most prominent of
these is the Manaus Free Trade Zone, in Amazonas State, which has attracted significant foreign
investment, including from U.S. companies. Most of these free trade zones aim to attract investment to
the North and Northeast of Brazil.

REGULATORY FRAMEWORK FOR FDI

E ven in an era when industrialization was synonymous with import substitution, Brazil had a FDI
regulatory regime, which was far from discriminatory. In comparison to the widespread variety of
restrictions impos ed on the count ry's imports, investment activity attracted a small number of horizontal
reservations and some standard sectoral limitations.

FDI flow int o Brazil was encouraged by the existence of a vast, dynamic home market insulated by a hos t
of trade barriers. Since the very beginning the Brazilian government prompted the market seeking
behavior of foreign investments. A protectionist trade policy was put in place to guarantee the profitability
of these investments.

The Brazilian investment scenario in the Import Substitution era was marked by remarkable stability.

1990s were characterized by a host of path breaking liberalizing reforms in the Brazilian economy. In the
year 1991 the Brazilian information -technology sector opened its doors to foreign companies. They were
free to enter and operate in the Brazilian IT sector.

Some restrictions on capital out flow were also done away with. Partial liberalization was brought about in
the financial inflows. A series of constitutional amendments were enacted within 1995 to 1996. They
removed the constitutional distinction among national companies and foreign companies. They also put
an end to the state monopoly in oil, gas and telecommunications.

Cert ain investment policies were formulated in the 90s to attract more FDI in to the country. The Central
Bank of B razil simplified the registration procedure for FDI inflows in the 90s. This led to a decline in the
administrative costs associated with the entry of FDI inflows into Brazil.

In the 90s a platform for promoting investment and technology transfer, SIPRI, was set up as a wing of
the ―Ministry of Foreign Affairs‖ in Brazil. In 2002 Investe Brasil was set up to promote investments in
Brazil.

FDI Incentives:

Government incentives encourage FDI

38

o 70% of FDI are in services, 28% in manufacturing
o Low wages & skilled labor availability
o 34% of banking is done by MNC banks
Investments in Amazon region, Northeast region is tax exempt
Export Processing Zones created to promote FDI and exports
Investments in technology sector is exempt from income tax and has several other benefits

Foreign Trade:

Since 1990, Brazil has enacted radical changes in foreign trade policies
o Computerized trade documentation
o Lowering of tariffs to 5-32%
Custom clearanc e is still cumbersome
Restrictions on import of used cars, machinery & consumers products exist
Import of food & drug products require government clearances
Government purchases favors local production
Import restrictions on servic es

Free Trade Champion:

Founder Member of Mercosur (South American Free Trade area)
Active in promotion & creation of FTAA
FTAA will boost exports from B razil
Brazil exports $60 billion worth goods to US in 2002
o Steel, Chemicals, Soy, Paper & pulp, coffee etc
US accounts for 24% of Brazil‘s exports, Argentina accounts for 10%
Brazil contributes just 0.9% of global trade

FDI – TRENDS AND STATISTICS

According to t he Cent ral Bank's most rec ent foreign -capit al census (2000), the stock of foreign direct
investment in Brazil stood at USD 103 billion as of December 2000. Of this total amount, the United
States had the largest share at about US D 24.5 billion (24 percent). Spain had 11.9 percent (US D 12.2
billion) and The Netherlands 10.7 percent (US D 11.0 billion). Investment inflows from 2000 t o 2006 have
amounted to about USD 117 billion, exclusive of depreciation and capital repatriation. The Central Bank
has not yet published updat ed investment stock figures which were originally expected in early 2007.

39

Cent ral Bank data estimate total FDI in flows were USD 34.6 billion in 2007, and USD 45.0 billion in 2008.
According to the U.S. Bureau of Economic A nalysis, FDI inflows from the United States to Brazil were
USD 4.1 billion in 2007 and Unit ed State‘s FDI stock was USD 41.6 billion as of 2007.

Brazil's Top 20 multinationals have USD 56 billion assets abroad, equivalent to over half of t he country 's
outward FDI stock. A survey released December 3, 2007 by the Columbia Program on International
Investment (CPII) and the Brazil-based Fundacao Dom Cabral (FDC) in New York indicated that Brazil's
top multinational enterprises (MNEs) made t he country the second largest outward investor among
developing countries in terms of foreign direct investment (FDI) outflows in 2006.

FDI in Brazil

Brazil attracts large amount of FDI
o $117 Billion in FDI from 1995-2000
US is the largest investor – Over 40% of FDI
MNC‘s are the major source of FDI
o 80% of Fortune 500 firms have invested in Brazil
Government policies favor FDI & has abolished state monopolies
o Predictable & transparent rules reduces red tape

FDI as a Percentage of GDP: 2003 – 2008

Source: Central Bank of Brazil

40

JAPAN

ECONOMIC OVERVIEW

Japan is the world's second largest economy, the United States'
fourth largest trading partner, and an important destination for
U.S. foreign direct investment (FDI). The Government of Japan
explicitly promotes inward FDI and has established formal
programs to attract it. Since 2001, Japan's stock of FDI, as a percentage of GDP, grew from le ss than
one percent to more than three percent at the end of 2008. Despite the worldwide financial market
turmoil, as of December 2008 Japan continues to attract positive FDI inflows, albeit at a slower pace than
in previous years. It is possible Japan could see a short-term net out flow of FDI in the first half of 2009,
however, as a number of multinational firms, especially non -Japanese financial institutions and
automobile manufacturers restructure overs eas assets in response to changing global credit ris ks and
domestic liquidity problems. Foreign direct investment in Japan displayed some interesting trends in the
recent years. As far back as 2003 the Japanese government realized the importance of FDI in boosting
the growth of the nation's economy. Studies reflected the superior managerial efficiency and productivity
of foreign business companies operating in Japan. This was c onsidered to be a plus point of inward FDI
into Japan.

OPENNESS TO FDI
The Ministry of Economy Trade and Industry (ME TI) and t he quas i-governmental Japan External Trade
Organization (JE TRO) are the lead agencies responsible for assisting foreign firms wishing t o invest in
Japan. Many prefectural and city governments also have active programs to attract foreign investors, but
lack many of the financial tools U.S. states use to attract investment.

Risk s associated with investment in many other count ries, such as expropriation and nationalization, are
not of concern in Japan. The Japanese Government does not impose export balancing requirem ents or
other trade-related FDI measures on firms seek ing to invest in Japan.

Foreign investors seeking a presence in t he Japanese market or to acquire a Japanese firm through
corporate takeover face a number of unique challenges, many of which relate more to business practices,
rather than government regulations. The most notable are:

A highly insular and consensual business culture that is resistant to hostile M&A and prefers to do
business, especially M&A transactions, with familiar corporate partners;

A lack of independent directors on most company boards;

41

Cross-shareholding networks among listed corporations in which shares are held for non-
economic reasons resulting in a minimal float of available common stock relative to total capital;

Exclusive supplier networks and alliances between business groups that can restrict competition
from foreign firms and domestic newcomers,

Cultural and linguistic challenges; and

Labor practices that inhibit labor mobility, suppress productivity, and negatively affect sk ill
development.

Bilateral Investment Agreements:

The 1952 U.S.-Japan Treaty of Friendship, Commerce, and Navigation gives national treatment and most
favored nation treatment to U.S. investments in Japan. As of December 2008 Japan has concluded or
signed bilateral investment treaties with fifteen trading partners including E gypt, Sri Lanka, China, Hong
Kong SAR, Turkey, Pakistan, Bangladesh, Russia, Mongolia, Vietnam, the Republic of Korea, and
Cambodia, Laos, Uzbekistan, and Peru. The Japanese Government has announced plans to accelerate
efforts to reach B ITs with countries that are abundant in natural and agricultural resources, beginning with
Qatar, Colombia and Kaz akhstan in 2009, and gradually expanding t he scope to ot her key trading
partners, including China.

Japan has economic partnership agreements (EPA -- analogous to a free trade agreement) c ontaining
investment chapters in force with Singapore, Mexico, Malaysia Thailand and Chile. Japan has also signed
such agreements with the Philippines, Brunei, and Indonesia, but these are not yet in force. A multilateral
EPA with all 10 members of the Association of Southeast Asian Nations (ASEAN) came into effect in
December 2008.

Foreign Trade Zones/Free Ports

Japan no longer has free-trade z ones or free ports. Customs authorities allow t he bonding of
warehousing and processing facilities adjacent to ports on a case-by-case basis.

FLOW OF INWARD FDI INTO JAPAN

Japan witnessed augment ed FDI flows since the 1990s. The FDI figures for the time period 1990 to 1996
stood at around $1 billion yearly, on an average. This figure climbed to $3 billion in 1997 and further stood
at $12.7 billion for the year 1999.

This FDI inflow suffered a moderate decline subsequently and hovered within the $6 billion to $9 billion
range per year. Inward FDI flow for Japan recorded an increase of 86% in 2005 (within the first quarter).

42

A host of factors contributed towards this increment in inward FDI flow for Japan in 2005. They are stated
below:

Deregulation lead to an opening up of t he various sectors of the Japanese economy for
investment of foreign capital
The appreciating Yen rendered Japanese assets more valuable
An increased occurrence of corporate bankruptcies resulted in foreign acquisition of many
business companies in Japan
The global thrust on industry reorganization encouraged foreign firms to enter Japan
Mergers and Acquisitions were facilitated by the setting up of the requisite legal framework
An increasing number of shares were available in the market due to a fall in cross-shareholding

Since different nations differ in area, comparison of the absolut e figures for FDI is not likely to yield
unbiased res ults. A research study made us e of relative indexes for making these inter count ry
comparis ons.

For t he year 2003, t he ratio of inward Foreign Direct Investment to outward Foreign Direct
Investment for the Japanese economy bore a value of 0.27. While t he comparable ratios in the same
reference period for U.S, France, Britain and Germany ranged from 0.6 to 0.9.

The result implied that in 2003 Japan's inward FDI was way behind its outward FDI. Of the t wo it is the
inward FDI, which is effective in boosting the growth of the domestic economy.

43

FDI – TRENDS AND STATISTICS

Between 1998 and December 2007, Japan's stock of FDI increased from 3.0 trillion yen to 15.4 t rillion
yen. In the same period investment inflows were generally strong. All dat a in the tables below are current
as of December 2007. Negative figures indicate net outflow.

Table: Net FDI Inflows (Unit: billion dollars; balance-of-payment basis)
JFY 1998 JFY 1999 JFY 2000 JFY 2001 JFY 2002
3.27 12.31 8.23 6.19 9.09
6.24 7.81 3.22 -6.78 22.18

Table: Ratio of Inward to Outward FDI (balance-of-pa yment basis)

1 : 7.5 1 : 1.8 1 : 3.8 1 : 6.2 1 : 3.5
1 : 4.6 1 : 4.0 1 : 14.1 1 : 9.4 1 : 3.3

Table: FDI Inflow Relative to GDP (balance-of-payment basis)
CY2003 CY2004 CY2005 CY2006 CY2007
(a) GDP/Nom (trillion yen) 490.3 498.3 501.7 508.9 515.7
(b) FDI Inflow (trillion yen) 0.73 0.85 0.31 -0.76 26.55
b/a (pct) 0.15 0.17 0.06 -0.15 5.15

44

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Foreign Investment In India - Analysis Of Factors And Policies

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