India needs strong FDI flows to compensate for remittances

As the COVID-19 pandemic continues, tax revenues will shrink. The government will be under immense pressure to increase spending. The private sector will be too loath to take a risk. Production will take time to bump up.

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The developed world will face an acute shortage of cheap labour. The emerging economies will have plenty of imported ones, giving a tough fight to the homegrown labour force. Jobs will be fewer. Jobseekers will be more. The governments in the developing countries will have to devise new workforce strategies to accommodate a huge number of migrant labourers. But most importantly, they will have to learn to live without a substantial chunk of foreign exchange sent by overseas labourers, major support to balance of payments -- the post-COVID-19 world will be different.

India is expected to be the worst sufferer. It earns huge foreign exchange from its overseas labour force. At the end of 2019, remittances at $83 billion, were over 18% of India’s total foreign exchange reserves of $457 billion. In fact, for years, India has earned more than double of FDI through remittances. Post-COVID-19, the World Bank’s initial estimate has been that remittance to India will take a 22% hit in 2020. If the crisis prolongs and the estimate changes, 2020 could well be the first year in many decades when remittances will be lower than FDI in India. But, while attracting more FDI is under the control of a recipient country, remittances are not. Therefore, India will need more liberalised FDI regime to fill the void created by decreasing remittances.

With the health emergency, which originated in China, mutating into a global financial crisis, investors are looking to relocate out of China. In many countries, the governments have come forward to support the industries shift their base from China to other destinations. Japan has promised help to their businesses to pull out of China. Hundreds of US firms in China may be looking to India in the foreseeable future. India is presented with an opportunity to host them and turn into one of the biggest recipients of FDI among the emerging economies. The government is seized of the matter and how to boost investments has been one of the key issues at the post-COVID economic reconstruction meetings that Prime Minister Narendra Modi has held.

The focus on re-shaping investment strategies comes after India notified changes in FDI rules requiring investment from any country that shares a land border with it to go through a government approval route. Since Pakistan and Bangladesh already are under the ambit of such a restriction, the ring-fencing was aimed at China, from where India received significant trade flows.

Private estimates suggest Chinese investments in India have grown nearly six-fold to $8 billion in three years from 2014 to 2017. Of course, turning off the tap from China will have an adverse impact on FDI in India for short to medium term. The start-ups will suffer majorly due to China’s high exposure in Indian unicorns. But, if India diversifies through more FDI rule relaxation, it can attract a large chunk of direct investment that was routed to China from other countries of the world. China attracted $140 billion in FDI in 2019 as opposed to India’s $49 billion. But the growth in neighbouring country’s FDI inflows was negligible in the year gone by. It had grown by a measly $1 billion from 2018. China’s FDI has been hammered by a trade war between the world’s two largest economies – US and China.

The Corona crisis is expected to exacerbate that. India could be a clear winner. While new FDI rules vis-à-vis India’s neighbours can protect the country’s interest, lifting of more sectoral cap and relaxation in rules can bring India more of direct investment. Commerce Minister Piyush Goyal has been interacting with Indian missions abroad asking them to work on India as a preferred destination for investment post-COVID-19.

With 16% surge in FDI inflows in 2019, India drove the FDI growth in South Asia. It attracted $49 billion in inflows last year. During the period, April 2014 to March 2019, FDI inflow in India was $286 billion, which is nearly 46.9% of the overall FDI received in the country since April 2000 ($592 billion). The United Nations Conference on Trade and Development (UNCTAD) has suggested the COVID-19 outbreak could cause global FDI to shrink by 5%-15%. However, once the dust settles, the country expects a major inflows in manufacturing sector. The government is working on easing rules further to ensure India does not lose to Vietnam and Bangladesh. Former Niti Aayog Vice Chairman recently said India’s competition was with Vietnam and Bangladesh where labour and land are available at cheaper rates. Global firms are going to smaller Asian nations for cheap manufacturing. Bigger special economic zones are required to attract manufacturers and industries at a time when India is striving to become an alternative to China as a manufacturing hub in the post-COVID world.