A CRITICAL REVIEW OF FDI IN INDIA AND INDIAN FDI

A CRITICAL REVIEW OF FDI IN INDIA AND INDIAN FDI

INTRODUCTION:

Multinational Corporations

The  multinational  corporation,  also  known  as  multinational  enterprise,  transnational corporation,   global   corporation,   international   corporation   (or   firm,   enterprise   or company) etc., has been regarded as "The most important and most visible innovation of the  postwar  period  in  the  economic  field."  The  relevance  of  FDIs  to  the  subject  of international  trade  is  expressed  in  the  following  statement:  "All  of  the  issues  we  have examined-trade   theory,   commercial   policy,   foreign   exchange   and   the   balance   of payments, and the international economics of development-are profoundly influenced by the FDIs, which actually do on a transnational basis all of the things that concern the international economic and financial position of national states. They do them quickly, efficiently and this is where many of the FDIs' costs and benefits to the international economy lie.

Definitions

There   is,   however,   no   universally   accepted   definition   of   the   term   multinational corporation.  As  an  ILO  report  observes,  "The  essential  nature  of  the  multinational enterprises  lies  in  the  fact  that  its  managerial  headquarters  are  located  in  one  country

(referred  to  for  convenience  as  the  'home  country')  while  the  enterprise  carries  out operations in a number of other countries as well ('host countries'),

Obviously, what is meant is "... a corporation that controls production facility.. in more than  one  country,  such  facilities  having  been  acquired  through  the  process  of  foreign direct  investment.  Firms  that  participate  in  international  businesses  however  large  they may be, solely by exporting or by licensing technology urt' not multinational enterprises.

Jacques Maisonrouge, president of IBM World Trade Corporation, defines an FDI as a company that meets five criteria

(i) It operates in many countries at different levels of economic development.

(ii) Its local subsidiaries are managed by nationals.

(iii)   It   maintains   complete   industrial   organisations,   including   Rand   D   and manufacturing facilities, in                                                several countries.

(iv) It has a multinational central management.

(v) It has multinational stock ownership.

James C. Baker defines the multinational corporation as a company

(a) which has a direct investment base in several countries;

(b)  which  generally  derives  from 20  per  cent to.  50  per  cent  or  more  of  its  net  profits from foreign operations; and

(c)  whose  management  makes  policy  decisions  based  on  the  alternatives  available anywhere in the world.

Terms   such   as   international   corporation,   multinational   corporation,   transnational corporation  and  global  corporation  are  often  used  as  synonyms.  However,  several multinationals have evolved into certain advanced stage of transnational organisation and operations and it now becomes necessary to draw some distinction between these terms.

A company with manufacturing investment (or service operation) in at least one foreign country may be regarded as an international corporation. However, multinational implies international operations of more significance than this, as indicated in the definition of the FDI given above, such as direct investment in several countries and a considerable share  of  the  total  business  being  in  foreign  countries.  A  multinational  corporation  is, obviously,  an  international  corporation.  Only  those  international  corporations  which satisfy certain criteria, as described above, may be regarded as multinationals.

It  would  be  useful  to  draw  a  distinction  between  the  multinational  corporation  and transnational corporation.

"Multinational  companies  are  usually  organised  around  a  national  headquarters,  from which international control is exercised-they still have a national identity, even though their  subsidiaries  may  not  always  care  to  allow  that  identity  to  obtrude  in  the  markets they  serve.,,7  A  transnational  company  is  a  multinational  "".  in  which  both  ownership and control are so dispersed internationally. There is no principal domicile and no one central source of power. Examples include Royal Dutch-shell and Unilever.

The term global corporation is also often used to mean more less the same thing as the transnational corporation.

It may also be pointed out here that some marketing and management experts add some essential  dimension  to  the  term  global  corporation,  although  it  is  not  agreed  upon  by many others. According to them, a global corporation is one which view the entire world

as  a  single,  homogeneous,  market  which  should be catered to by globally standardised products.   Theodore   Levitt,   the   world   renowned   professor   of   marketing   who   has championed  this  line  of  thinking,  observes  that  while  "The  multinational  corporation operates in a number of countries and adjusts its products and practices in each-at a high relative cost", "... the global corporation operates with resolute constancy-a low relative cost-as if the entire world (or major region of it) were a single entity; it sells the' same thing the same way everywhere. According to Levitt, "The world is becoming a common market place in which people-no matter where they live-desire the same products and life styles. Global companies must forget the idiosyncratic differences between countries and cultures  and  instead  concentrate  on  satisfying  universal  drives.  Levitt  who  says  that

"...the world's needs and desires have been inevocably homogenised" argues that this "... makes the multinational corporation obsolete and the global corporation absolute. Levitt's theory has been strongly criticised on several grounds.'

Dominance of FDIs

The economic dominance of the multinationals is manifested by the fact that the FDIs control between a quarter and a third of all world production and the total sales of their foreign  affiliates  is  about  the  same  as  the  gross  national  product  of  all  developing countries excluding oil-exporting developing countries.

The economic clout of the FDIs is indicated by the fact that the GDP of most of the

countries is smaller than the value of the annual sales turnover of the multinational giants.

In  1997,  the  value  of  the  sales  of  the  US  multinational,  Generat  Motors,  the  biggest multinational in terms of sales turnover, was $ 178.2 billion. Of the total 101 developing countries  with  a  population  of  more  than  one  million  each,  listed  by  the  World Development Report, only nine countries ( India China, Mexico, Argentina, Indonesia, Turkey, Brazil, Russia and S. Korea) had a GDP which was more than this figure. There were also several developed countries whose value of GDP was less than this. It may be noted that in 1997 India's GDP was only $359.8 billion.

Due to the differences in the definition adopted, the estimates of the numbers of FDIs also vary. According to the United Nations' World Investment Report J 998, there were more than 53,000 TNCs, which had more than 4,50,000 affiliates,

The United States and Europe are the homes for most of the FDIs. ,Their shares have, however,  been  declining  because  of  th,e  growth  of  FDIs  in  other  regions,  Japanese FDIs  have  made  rapid  strides  in  the  1970s  and  1980s.  In  1991,  majority  of  the  10 largest multinationals (in terms of sales) were Japanese. Multinationals from developing countries such as S. Korea and Taiwan have also been making their presence increasingly felt.

Investment Pattern

The major part of the business of the FDIs is in the developed economies. The share of

the  developed  countries  in  the  tot.al  overseas  investment  was,  in  fact,  increasing. According  to  Professors  Dunning  and  Stopford,  developing  countries'  share  of  foreign direct investment slipped to 27 per cent by 1980 from 31 per cent in 1971.16 It dropped further to 17 per cent during 1986-90.17 However, the 1990s witnessed an increase in the share of the developing countries in the multinational investments. The economic reforms ushered in the developing countries, particularly the liberalisation of foreign investment and privatisation, might have given a boost to the FDI in these countries.

In the case of the LDCs, the investment and employment created by the'FDIs have been chiefly concentrated in about a dozen of the nations; China, Brazil, Mexico, Hong Kong, the Philippines, Singapore, India, Taiwan, Indonesia and South Korea accounting for a major share.

As the Brandt Commission observes, foreign investment has moved to a limited number

of   developing   countries,   mainly   those   which   could   offer   political   stability   and   a convenient economic environment, including tax incentives, large markets cheap labour and easy access to oil or other .,natural resources. In poor countries foreign investment is mainly in plantations and minerals, or in countries with large internal markets-like India. The Brandt Commission has also observed that private investment’s can supplement aid, but it cannot substitute for it: It tends not to move to the countries or sectors which need aid the most.

Investment Motives

There are a variety of motives for international investments. They include the following:'

1.   To  circumvent  the  tariff  walls.  For  example, getting behind the EEC's common external tariff was certainly a major consideration for US companies during the last  many  years.J8  Recently,  there  has  been  a  spurt  of  such  investments  in  the EEC by companies from Japan and some other countries.

2.   To  reduce  the  production  costs  by  making  use  of  the  cheap  labour  and  other factors in the home countries and by avoiding/reducing transport costs.

3.   To gain dominance in the foreign market and to effectively fight competition.

4.   To  adjust  to  the  government  regulation  in  the  host  country.  For  example,  some countries prefer foreign investment and domestic production out of it to import of goods.

5.   To  mitigate  the  impact  of  home  country  regulations,  like  anti-trust  regulations, regulations against industries causing ecological problem, etc.

6.   To exploit the natural resources of the host countries.

7.   To enjoy the benefits of tax-havens.

FDIs and International Trade

Peter Drucker, the well-known writer on Management, remarks that 111multinationalism and expanding world trade are two sides of the same coin.19 He points out that the period of most rapid growth of multinationals-the fifties and sixties was the period of most rapid growth of multinational trade. Indeed, during this period the world trading economy grew faster-at an annual rate of 15 per cent, or so, in most years-than even the fastest growing domestic economy, that of Japan.20

There  seems  to  be  a  misconception  that  the growth  of  the  FDIs  has  to  do  with  trade restrictions.  Peter  Drucker  points  out  that  far  from being  a  cause  of multi  nationalism, protectionism is incompatible with it; indeed an emergence of protectionism would be the greatest threat to the FDIs. The best proof that protectionism is not at the bottom of the multinational  trend  is  the  European  development.  The  rise  of  the  multinationals  began when continental Europe abolished protection and joined in a common market. Further, it is not in the most heavily protected industries where multinationalism has forged ahead the fastest. It came late, for instance, in the chemical industry which is very heavily pro- d. But pharmaceuticals, where protection plays a minor role, was a leader fro111 the start. And there has been almost no multinationalism in heavily protected steel industry. It is estimated that between one-fourth and one-third of manufactured goods now moving in world trade are being shipped from one branch to another of the FDIs; that is, they are  intra-company  shipments.  The  sale  of  foreign  subsidiaries  in  the  host  countries  in which  they  are  located  are  three  to  four  times as large as total world exports.22 Apart from  trade  in  commodities,  other  transactions  also  take  place  extensively  between  the different  parts  of  these  enterprises,  for  example  the  granting  of  loans,  the  licensing  of technology and the provision of services. In all such transactions, transfer Plices may be settled  which  are  different  from  the  price  which  would  have  been  the  case  between independent parties operating at arms length.

Such differences may reflect the legitimate business concerns of the companies but are also capable of being used in order to shift profits from high to low tax countries or to get around  exchange  or  price  controls  or  customs  duties.  As  the  Brandt  Commission observes,  the  ability  of  multinationals  to  manipulate  financial  flows  by  the  use  of artificial  transfer  prices  is  bound  to  be  a  ruatter  of  concern  to  the  government.  The monitoring  and  control  of  transfer  prices  involves  inter-governmental  cooperation  and measures  to  secure  due  disclosure  of  relevant  information  by  companies.  This  is necessary  to  make  effective  tax  laws  covering  transfer  prices  which  exist  in  many countries.  Intra-firm  trade  also  opens  up  the  possibility  for  corporations  to  impose restrictive business practices within their own organisation; they can limit the exports of their  affiliates,  allocate  their  markets  between  nations  or  restrict  the  use  of  their technology or that developed by their affiliates. Such practices, although best pursued in the  best  business  interests  of  the  companies,  may  conflict  with  the  developmental objectives and national interests of host countries.23

Merits of FDIs

As the Preface to the ILO report on Multinational Enterprises and Social Policy observes,

"For some, the multinational companies are an invaluable dynamic force and instrument for  wider  distribution  of  capital,  technology  and  employil1ent:  for  others,  they  are monsters  which  our  present  institutions,  national  or  international,  cannot  adequately control,  a  law  to  themselves  with  no  reasonable  concept,  the  public  interest  or  social policy can accept.

We will mention the important arguments in favour of and against the FDIs.

FDIs, it is claimed, help the host countries in the following ways:

1.   FDIs   help   increase   the   investment   level   and   thereby   the   income   and employment in the host country.

2.   The transnational corporations have become vehicles for the transfer technology, especially to the developing countries.

3.   They   also   kindle   a   managerial   revolution   in   the   host   countries   through professional  management  and  the  employment  of  highly  sophisticated  man- agement techniques.

4.   The FDIs enable the host countries to increase their exports and decrease their import requirements.

5.   They work to equalise the cost of factors of production around the world.

6.   FDIs provide an efficient means of integrating national economies.

7.   The enormpus resources of the multinational enterprises enable them to have very efficient  research  and  development  systems.  Thus,  they  make  a  commendable countribution to i).1ventions and innovations.

8.   FDIs also stimulate domestic enterprise because to support their own operations, the FDIs may encourage and assist domestic suppliers.

9.   FDIs help increase competition and break domestic monopolies.

Demerits

FDIs  have,  however,  been  subject  to  a  number  of  criticisms,  like  those  mentioned below:

1.   As Leonard Gomes points out, the FDI's technology is designed for world-wide profit  maximisation,  not  the  development  needs  of  poor  countries,  in  paliicular employment needs and relative factor scarcities in these countries. In general, it is asserted, the imported technologies are not adapted to

(a)  the consumption needs,

(b) the size of domestic markets,

(c)  resource availabilities, and

(d) stage of development of many of the LDCs.25

2.   Through  their  power  and  flexibility,  FDIs  can  evade  or  unde1111ine  national economic  autonomy  and  control,  and  their  activities  may  be  inimical  to  the national interests of pal1icular countries.

3.   FDIs can have unfavorable effect on the balance of payments of a country. For instance. the Coca-Cola until 1978. had remitted abroad nearly Rs.6 crores on an initial investment of Rs 6.6 lakh in India.

4.   FDIs may destroy competition and acquire monopoly powers.

5.   The  tremendous  power  of  the  global  corporation  poses  the  ,risk  that  they  may threaten the sovereignty of the nations in which they do business.

6.   FDIs retard growth of employment in the home country.

7.   The transnational corporations cause fast depletion of some of the nonrenewable natural resources in the host country.

8.   The transfer pricing enables FDIs to avoid taxes by manipulating prices on intra- company transactions.

Recent Trends

There has been a considerable change in the attitude towards the multinationals. They are not subject to as severe criticisms as in the past. Even communist countries have wide opened their doors for the FDIs.

Streeten points out that the following trends suggest that the role of the FDIs has to be reassessed.26

(i)        Many more nations are now competing with US multinationals in setting up foreign activities, which means that the controversy is no longer dominated by nationalistic considerations. Japanese and European firms figure prominently among the new ,multinationals.

(ii)        Developing  countries  themselves  are  now  establishing  multinationals.  In addition   to   companies   from   the   Organisation   of   Petroleum   Exporting Countries (OPEC), and firms established in tax-haven countries, the leading countries  where  multinationals  are  being  established  are  Argentina,  Brazil, Colombia,  Hong  Kong,  India,  the  Republic  of  Korea,  Peru,  the  Philippines, Singapore, and Taiwan.

(iii)       Not only do host countries deal with a greater variety of foreign companies, comparing  their  political  and  economic  attractions,  weighing  them  against their  costs,  and  playing  them  off  against  one  another,  but  also  the  large multinationals  are  being  replaced  by  smaller  and  more  flexible  firms.  An increasingly  altemative  form  of  organisations  to  the  traditional  fOlm  of multinational  enterprise  are  becoming  available:  banks,  retailers,  consulting firms, and trading companies are acting as instruments of technology transfer.

(iv)       Some  multinationals  from  developed  countries  have  accommodated  them- selves more to the needs of the developing countries.

Perspective

Future  holds  out  an  enormous  scope  for  the  growth  of  FDIs.  The  changes  in  the economic  environment  in  a  large  number  of  countries  indicate  this.  For  instance,  the number of bilateral treaties that promote and/or protect FDI has increased markedly, with some 64 such treaties signed in the first 18 months of the 1990s compared with 199 such treaties during 1980-89. Further, of the 82 changes made in FDI policy by 35 countries during   1991,   80   were   in   the   direction   of   increased   liberalisation.   Privatisation programmes  in  more  than  70  countries  offer  new  opportunities  for  foreign  investors, especially in the service sector.

The World Investment Report 1992 describes several developments that point to a rapidly changing  context  for  economic  growth,  along  with  a  growing  role  for  transnational corporations in the process. These include

(i)         Increasing emphasis on market forces and a growing role for the private sector

in nearly all developing countries

(ii)        Rapidly   changing    technologies    that   are    transforming    the    nature    of organisation and location of intemational production

(iii)       The globalisation off inns and industries;

(iv)      The  rise  of  services  to  constitute  the  largest  single  sector  in  the  world economy; and

(v)        Regional  economic  integration,  which  has  involved  both  the  world's  largest economies as well as selected developing countries.

FOREIGN INVESTMENT BY INDIAN COMPANIES

Although some developing countries like S. Korea and Taiwan, whose economic position had  not  been  better  than  that  of  India  when  India  started  planned  development,  have made substantial FDI in other countries, Indian companies have not ;wade any significant foreign  investment  so  far.  Although  government  of  India's  policy  has  been  one  of encouraging  foreign  investment  by  Indian  companies  subject  to  certain  conditions, several factors like the domestic economic policy and the domestic economic situation have been deterrents to foreign investment by Indian companies.

By  restricting  the  areas  of  operation  and  growth,  the  government  policy  seriously constrained the potential of Indian companies to make a foray into the foreign countries through  investment.  Added  to  this  was  the  attraction  of  the  protected  domestic  market which was; in many cases, a sellers' market and this made the Indian companies to ignore the foreign markets.

At the beginning of 1998, there were a total of 691 wholly owned subsidiaries established by  Indian  companies  in  foreign  countries  involving  a  total  equity  of  over  2000  core. Most of the subsidiaries are in trading, marketing, consultancy, hotel, computer software and shipping service; and in the manufacturing field.

At  the  beginning  of  1998,  there  were  also  807  Indian  joint  ventures  aboard,  dispersed over many countries. The new economic policy of India is expected to encourage foreign investments by Indian companies.  The  curbs  on  growth,  even  by  mergers  and  acquisitions,  have  been  removed,  financing  restrictions  have  been  eased,  areas  of  business opened to the private sector companies have been substantially enlarged and foreign tie up policies  have  been  liberalized.  Further, domestic market is becoming increasingly competitive. All these factors should encourage the Indian companies to invest in other countries and take advantage of the economic liberalization in many foreign countries.

Indications  are  that  several  Indian  companies  are  drawing  up  plans  for  establishing subsidiaries  or  joint  ventures  aboard.  The 1990s is a decade of real test for Indian companies in this respect.

MULTINATIONALS IN INDIA

Comparatively  very  little  foreign  investments  has  taken  place  in  India  due  to  several reasons, (like the dominant role assigned to the public sector in the industrial policy and the  restrictive  government  policy  towards  foreign  investment).  Some multinationals, Coca-Cola and IBM, even left India in the late 19705 as the "government conditions were unacceptable to them.

A common criticism against the FDIs is that they tend to invest in the low priority and high profit sectors in the developing countries, ignoring the national priorities. However, in India the government policy confined the foreign investment to the priority areas like high teleology and heavy investment sectors of national importance and export sectors. Firms  which  were established  in  non  priority  areas  prior  to  the  implementation  of  this 'Policy have, however, been allowed to continue in those sectors.

The controversial Foreign Exchange Regulation Act (FERA), 1973, required the foreign companies in India to dilute the foreign equity holding to 40 per cent (exceptions were allowed in certain cases like high technology and export oriented sectors).

An often aired criticism is that multinationals drain the foreign exchange resources of the

Developing countries.  However,  Aiyar's  study  indicates  that  contrary  to  the  popular belief,  foreign  companies  are  less  of  a  drain  on  foreign  exchange  reserves  than  Indian ones.  He  also  points  out  that  the  public  sector  has  a  higher  propensity  to  use  foreign exchange on a net basis than multinationals. In fact, the foreign exchange outgo of the public sector alone is greater than the entire trade deficit of the country.

It  is  not  a  right  approach  to  estimate  the  net  impact  of  multinationals  on  the  foreign exchange   reserves   by   taking   the   net   foreign   exchange   outflow   or   inflow.   If   a multinational is operating in an import substitution industry, the net effect on the foreign exchange reserves could be favourable even if there is a net foreign exchange outflow by the company.

Multinationals  in  several  developing  countries  make  substantial  contribution  to  export earnings. The performance in the case of India has, however, been very dismal. This is attributed mostly to the government policy. "We have consistently followed policies in India that discriminate against export production and in favour of production for the local market. In this milieu it has not made sense for the Indian private sector or public sector to focus  on  exports.  Naturally, it has not made sense for foreign companies either.  In 1947, foreign companies did not have an anti-export image. Indeed, the most prominent ones  were  engaged  in  the  export  of  tea  and  jute  manufactures.  Only  after  Jawaharlal Nehru  decided  to  emphasize  import-substitution  at  the  expense  of  exports  did  foreign (and Indian) companies spurn exports.

Although export promotion has been pursued since the Third Plan, the highly protected domestic market and the unrealistic exchange rate made the domestic market much more attractive than exports.  However,  since  the mid-1980s with the economic liberalization that  increased  domestic  competition  and  the  steady  depreciation  of  the  rupee,  exports began  to  become  attractive  and  several  foreign  companies  and  companies  with  foreign participation, as well as India companies have become serious about exports. This was reflected in the acceleration of the export growth.

The  new  policy  is  expected  to  give  a  considerable  impetus  for  FDI's  investment  in India. However, foreign companies find the policy and procedural environment in India still so perplexing and disgusting that a multinational, Motorola, even shifted some of the projects, originally eannarked for India, to China where the government environment is much more conducive.

At  the  end  of  March  1998,  there  were  871  foreign  companies  in  India.  (A foreign company is defined as a company incorporated outside India, but which has a place of business in India.)  In addition, there are many Indian companies with foreign equity participation.

Several  Indian  outfits  of  FDIs  like  Ponds,  Johnson,  Lipton,  Brook  Bond,  Colgate- Palmolive, etc., are in the low technology consumer goods sector. Hindustan Lever, while

popular in the low-tech consumer goods, has diversified into high technology and export oriented sectors. Pond's had diversified into thermometers, leather uppers and mushrooms meant entirely for experts (Pond, Brook Bond, and Lipton merged with Hindustan Lever) ITC  (Indian  Tobacco  Company-fonnerly  Imperial  Tobacco  Company)  has  diversified into areas like hotel, paperboards and edible oil. There are FDIs, like Siemens, which are in high technology areas. There are several FDIs in the pharmaceutical industry, like Glaxo, Bayer, Sandoz, and Hoechst. FDIs like Marubeni and Nissho Iwai are mostly in foreign trade.

It is wrong to assume that the success of FDIs or foreign is guaranteed ill developing countries  and  that  the  domestic  firms,  particularly  the  small  ones,  will  not  be  able  to withstand the competition from them. There are several Indian cases to prove this.

Double Cola was not a success in India:. Parle appeared to be very much worried about the entry of the Pepsi and it did everything to prevent its entry. But, when the competition became a reality, it faced its head on and the reports were that the Parle brands were far outselling the Pepsi’s.  In  the  soft-drink  concentrate  market,  while  the  Kothari- General  Foods  (FDI)  combine  failed,  the  product  of  the  small  firm,  Pioma  industries (Rasna) has become a grand success. Asian Paints which has its beginning as a small unit has become the unrivalled industry leader, successfully fighting multinationals. Similarly, the Ninna story is well known. There successfully fighting multinationals. Similarly, the Ninna story  is  well  known.  There are, on  the  other  hand,  several  foreign  brands  like Tang, which have miserably failed.

In short, the feeling that multinationals and foreign brands will have a runaway success and domestic firms will not be able to survive their competition is not right.