FPI,FDI,Foreign Venture Capital Investors (FVCI), Overseas Direct Investment

 

Entry Routes for Foreign Investment in India:

There are broadly three entry routes are there for foreign investment in India: 

(a) Foreign Portfolio Investor (“FPI”) ; 

(b) Foreign Direct Investment (“FDI”); and

 (c) Foreign Venture Capital Investor (“FVCI”).

Foreign Portfolio Investment (FPI):

FPIs are short term investments in the form of:

• Debt and Equity in listed Company  ; or 
• Non Convertible Debentures (NCD) in Un-Listed company at stock exchange. 

Such investment is subject to the total holding by each FPI, investment in listed company should be less than 10% of the total paid-up equity.

FOREIGN DIRECT INVESTMENT (FDI): 

• FDI is a long-term investment made from abroad alongwith technology, entrepreneurship, capital and managerial know-how. 
• FDI is about being shareholder in the company so FDI is equity holder exclusively and debt is never categorized as FDI. 

Technically,

FDI is the investment by a person resident outside India 

(a) in an unlisted Indian company; or 

(b) in 10 percent or more in a listed Indian company. 

Investments under the FDI route are subject to entry routes, sectoral caps, pricing guidelines, and attendant conditionalities.

FDI vs FPI:

• When total holding of the FPI in a listed Company increases to 10% or more of the paid-up share capital, the total investments of the FPI are re-classified as FDI.
• FPI is considered ‘hot money’ as it is more speculative and volatile and hence have limited potential in economic development of the country while FDI is comparatively more stable and contributes in the economic development of the country.
• FDIs own controlling stake in a company by investing in its physical assets while FPIs invest only in financial assets.
• Significant tax benefit for FPIs as securities held as FPIs are subjected to capital gains while FDI income is subjected to corporate income (which is subject to higher rate of tax).
• FII inflows have a very high service burden among all the foreign resources ie FDI, foreign borrowings, NRI deposits.
• Actually FII comes to earn good returns from the market and exchange rate speculations. 
• FDI is regulated primarily by India's Department of Promotion of Industry and International Trade (DPIIT), under its Foreign Exchange Management Act regime (FEMA Regime) while SEBI REGULATES FPI.
• The FPI route is considered attractive for debt investments given debt investments by FPIs are not classified as external commercial borrowings, which is far more regulated.

Foreign Venture Capital Investors (FVCI):

• Foreign investor, who is registered under the Regulations and proposes to make investment in accordance with the Regulations.
• RBI has restricted investment by FVCIs to investment in: 

(a) Indian companies engaged in 10 permitted sectors (including infrastructure, biotechnology and IT related to hardware and software); 

(b) start- ups irrespective of the sectors; and 

(c) units of a venture capital fund and AIF. 

Investments by FVCIs in capital instruments are subject to sectoral caps on foreign investment in India and attendant conditions.

Why choose the FVCI route?

The key benefits that the FVCI route provides are exemptions from: 

(a) the pricing guidelines stipulated under the FEMA Regulations, and 

(b) pre-issue capital lock-in requirements prescribed under the regulations governing issue of securities. 

• Therefore, foreign investors seeking to make investments in the ten permitted sectors, start-ups  made investments  under the FVCI route.
• Investments under the FVCI route are subjected to at least two-third of its investible funds in equity  and the remaining one-third of investible funds in debt in which the FVCI already has equity investment.

Overseas Direct Investment (ODI): 

• Overseas Direct Investment (ODI) is what Indian residents are investing abroad in the form of assets (opposite of FDI) abroad, shares abroad (opposite of FPI) like Western firms like JAGUAR, Novelis have been acquired by Indians abroad.
• It also includes Reserve Assets held by RBI in the form of  Foreign currencies that RBI is holding. 

FOREIGN TRADE POLICY SINCE INDEPENDENCE, Features of FTP 2023

FOREIGN TRADE POLICY SINCE INDEPENDENCE:

1969 -1984:

1st Foreign Trade Policy (FTP) came in 1969 in the form of Export-Import policy and it was revised after every one year which continued till 1984.

1985 to 1991:

During this period, Foreign Trade Policy (FTP) was revised after every 3 years.

1992 to 2004:

Foreign Trade Policy (FTP) during this period was revised after every 5 years but with sunset clause.

2004-23: Foreign Trade Policy (FTP) during this period was revised after every 5 years. FTP of 2023 was unique in the sense that it doesnot have any sunset clause .

Features of FTP 2023:

The Key Approach to the policy is based on these 4 pillars: 

(i) Incentive to Remission,  

(ii) Export promotion through collaboration - Exporters, States, Districts, Indian Missions, 

(iii) Ease of doing business, reduction in transaction cost and e-initiatives and 

(iv) Emerging Areas – E-Commerce Developing Districts as Export Hubs and streamlining SCOMET policy.

• The policy targets exports of $ 2 trillion by 2030.
• Greater faith is being reposed on exporters through automated IT systems with risk management .
• The policy emphasizes upon moving away from an incentive regime to a facilitating regime .
• Merchandise Exports from India Scheme (MEIS) and Service Exports from India Scheme (SEIS) have  been phased out in 2021 in the wake of the reservation of USA at WTO.
• MEIS has been replaced by Remission of Duties and Taxes on Exported Products (RODTEP).
• The FTP 2023 encourages recognition of new towns through “Towns of Export Excellence Scheme” and exporters through “Status Holder Scheme”.
• The FTP aims at building partnerships with State governments and taking forward the Districts as Export Hubs (DEH) initiative to promote exports at the district level and accelerate the development of grassroots trade ecosystem.

E-commerce in new FTP 2023:

• E-Commerce exports are a promising category that requires distinct policy interventions from traditional offline trade. 
• Various estimates suggest E-Commerce export potential in the range of $200 to $300 billion by 2030. 
• FTP 2023 outlines the intent and roadmap for establishing e-commerce hubs and related elements such as payment reconciliation, book-keeping, returns policy, and export entitlements. 

ANALYSIS of FTP 2023:

• There is need for a robust market information and intelligence system for export expansion and diversification.
• There is need of an interactive market information and intelligence system backed up with the required policy support such as incentives, tax exemptions, export assistance, and facilitation is the crux of the export promotion efforts of a country.
• World trade is a demand function, so correspondingly, the supply-side capabilities have to be created or achieved. 

Generalized System of Preferences (GSP)

 

Generalized System of Preferences (GSP):

• Generalized System of Preferences (GSP) is a preferential tariff arrangement granted by the developed countries to developing countries and Least Developing Countries (LDC) to promote economic growth in those countries.
• GSP is an umbrella that comprises the bulk of preferential schemes to promote exports from developing countries to the developed countries..
• It involves reduced Most Favored Nations (MFN) Tariffs or duty-free entry of eligible products exported by beneficiary countries to the markets of donor countries.

Benefits of Generalized System of Preference:

• Developing countries increase and diversify their trade with the developed nations, hence facilitating the Economic growth and development of developing countries.
• Company Competitiveness is boosted by GSP as it reduces costs of imported inputs used by companies to manufacture goods
• GSP promotes Global values by supporting beneficiary countries in affording worker rights to their people, enforcing intellectual property rights, and supporting the rule of law.

India and GSP:

• India has been the beneficiary of the GSP regime and accounted for over a quarter of the goods that got duty-free access into the US in 2017.
• USA removed India from the list of countries receiving GSP treatment in June 2019.
• Even after US withdrawal of GSP, India continues to enjoy tariff preference from many countries including Australia, Russia and Japan, as well as the European Union (EU), among others.

Capital/Financial Vs Current Account, Official Reserve Sale, BOP & Capital account

 

           

Understanding Capital/Financial  and Current Account : 

Capital account deals with the change in ownership of a country’s assets,

                                                              while

  Current Account reflects the change in a country’s net income.

Ex. In case of a factory acquisition by an MNC in India, payment of dollars by MNC will result in Inflows of dollars alongwith lose of ownership by Indian on  the factory.

Income by that MNC will be a part of Current account while acquisition of factory is part of Capital Account.

 Capital and financial  Account:

• Those transactions, which cause a change in the ownership of assets or liabilities of a country.
• Capital and financial account has two categories of the capital and financial account. 
• Many a times ,this account is commonly referred to as Capital Account but its a misnomer as the so-called capital account portion is in fact small or even negligible for many countries. 

Capital account:

• It includes acquisition or disposal of “intangible nonfinancial assets and proprietary rights” such as trademarks, patents, copyrights, leasing agreements, and mineral rights. 
• Debt forgiveness is included in this subaccount, as part of capital transfers

 Because the capital account is typically small, the name for this part of the BOP is often abbreviated as “financial account.” 

Financial account :

• Direct investment, which is further divided into equity capital and reinvested earnings;
• Portfolio investment, which includes long-term debt and equity securities, money market instruments, and tradable financial derivatives, including dollarnd interest rate swaps;
• Other investment, such as trade credits and general borrowing, and IMF credit; and
• Change in Foreign Exchange Reserves 

Change in Foreign Exchange Reserves:

When BOP is not Zero despite exhaustion of all tools, then country could use its forex reserves to neutralise it.

Official Reserve Sale: 

When all tools of Capital and financial Accounts are exhausted and Current Account Deficit still remains, then RBI sells Foreign Reserves to ensure the Zero BOP.

Correlation between Balance of Payment and Capital Account:

• Balance of Payments of a country should be balanced .
• If a country has current account Deficit, it must be financed either  by selling assets or by borrowing abroad. 
• Thus, any current account deficit must be financed by a capital account surplus, that is, a net capital inflow or selling of the assets :

Current account + Capital account =0

Balance of Trade (BoT),Current Account Deficit (CAD),

 

                     

Balance on Current Account has two components:

1. Balance of Trade or Trade Balance
2. Balance on Invisibles

Balance of Trade (BoT) =

• Value of Goods Exported out - Value of Goods Imported into the country.

Balance of Trade is in Deficit or Trade Deficit:

• Imports of Goods in Country >>>> Exports of Goods out of Country 

Trade deficit is unfavorable for a country.

Balance of Trade is in Surplus:

Exports of Goods out of Country >>>> Imports of Goods in Country

•  Surplus BoT is said to be favorable.
•  BOT is typically the biggest bulk of a country's Balance of Payments (BoP). 

Balance of Trade is balanced:

• Imports of Goods in Country = Exports of Goods out of Country

RBI uses the term Balance of Trade in Merchandise and Balance of Trade in services separately.

Factors that affect the Balance of Trade include:

• Cost of factors of production in the exporting economy vis-à-vis those in the importing economy.
•  Exchange rate movements; 
• Multilateral, Bilateral and Unilateral Taxes or restrictions on Trade; 
• Non-tariff barriers such as environmental, health or safety standards; 
• The availability of adequate foreign exchange with which to pay for imports.

IS World Balance of Trade (BoT) always Balanced:

• It is not easy to measure the ‘Balance of Trade’ accurately because of problems in recording and collection of data.  
• When official data for all the world's countries are added up, exports exceed imports by almost 1% giving an impression of positive Balance of Trade (BoT) .
• This is despite of the fact that all transactions involve an equal credit or debit in the account of each nation. 
• The discrepancy can only be explained by transactions intended to launder money or evade taxes, smuggling and other visibility problems. 

Net Invisibles: 

• Invisibles include services, transfers and flows of income that take place between different countries. 
• Services trade includes both Factor and Non-Factor income.
• Net Invisibles is the difference between the value of exports and value of imports of invisibles of a country in a given period of time. 

Current Account can be either:

1. Current Account Surplus if  Current Account Receipts > Payments
2. Balanced Current Account if Current Account Receipts = Payments
3. Current Account Deficit if Current Account Receipts < Payments

Current Account Deficit (CAD):

Current Account Deficit (CAD) comprises deficit in:

• Trade Account, 
• Services Account ,
• Net Income and Transfer from abroad. 

Out of these three components, Trade Account/Balance of Trade is the largest.

Implications of Current Account Deficit (CAD) :

• Current Account Deficit (CAD) means that India is importing more goods and services than it is exporting. 
• India typically runs a current account deficit as it is a developing economy which relies on imports of several commodities like crude oil. 
• India saw a rare current account surplus in FY2020-21.
• Current Account Deficit (CAD) is not necessarily a bad thing. 
• For India, a current account deficit of around 2.5-to-3 percent of the gross domestic product is said to be sustainable. 
• Deficits beyond this threshold are a cause for concern. 
• Sustained period of CAD  led to currency depreciation, high rates of inflation which further effects the incoming foreign investment. 
• Current Account Surplus implies the country is a net lender to the rest of the world, while Current Account Deficit (CAD) indicates it is a net borrower. 

Balance of Payments (BoP), The Current Account, Invisible Account, Income and Current Transfers

Balance of Payments (BoP):

It is the statistics that systematically summarize:

• the economic transactions of an economy with the rest of the world
• for a specific period-usually a year.

• Typically, the transactions included in BoP are country's exports and imports of goods, services, financial capital, and financial transfers. 
• The compilation and dissemination of BoP data is the prime responsibility of RBI.
• The concept of “residence” and not citizen is central to BoP compilation. 

  The Balance of Payments (BoP) can be broadly divided into two accounts namely:

 

Balance of Payments (BoP) cab be Surplus, Balanced or in Deficit depending upon the

situation as mentioned below:

BoP Surplus	Balanced BoP	BoP Deficit
Credit Side > Debit Side	Credit Side = Debit Side	Credit Side < Debit Side

The Current Account:

It measures the transfer of real resources (goods, services, income and transfers) between an economy and the rest of the world. 

The current account is subdivided into:

The Merchandise Account:

It consists of transactions relating to Exports and Imports of goods and is said to be trade in goods.

Invisible Account:

Current account except merchandise account is called as Invisible Account. Invisible Account comprises of:

• Services Account 
• Income and Current Transfers

Services Account: 

Services Account refers mostly to the transportation and insurance of merchandise shipments, transport fares paid by travelers, tourist services (hotels, restaurants), royalties and license fees, communications, software services,ITES, construction, house rentals, government purchases (in connection with embassies) and other items.

Income and Current Transfers:

• Income may be derived from labor, and from financial assets or liabilities.
• Financial income is interest income on investment on financial assets and dividends on corporate stocks.

Primary vs Secondary Income:

RBI used the term primary income for factor and Non-factor income while the term secondary income for Current Transfers.

Current transfers: 

• Transfer payments are the receipts which the residents of a country get for ‘free’, without having to provide any quid pro quo. 
• They could be given by the government or by private citizens living abroad in the form of gifts, remittances and grants. 
• Government transfers are donations by countries in the form of grants and gifts while the main component of private current transfers is usually workers’ remittances and gifts.

Purchasing Power Parity (PPP), Market Exchange Rate vs Exchange Rate (PPP), Implications of Higher GDP (PPP)

 

PURCHASING POWER PARITY (PPP):-

• Purchasing power parity (PPP) is a form of Exchange Rate that takes into account the cost of a common basket of goods and services in the two countries compared.
• It is the measure of the actual purchasing power of those currencies at a given point in time for buying a given basket of goods and services.
• Purchasing power parity (PPP) is often expressed in U.S. dollars.
• Purchasing Power Parity (PPP) exchange rate is not directly observable – there is no market where you can buy or sell currencies at PPP exchange rates. 

To Understand:

NER 1 $=80 Rs.

Let 1 chocolate cost =Rs 20 in India

Cost of same chocolate = 1 $ in US.

As 1 $ and the 20 Rs are in a position to purchase the same amount of items in US and India respectively so there purchasing power is same in their respective countries.

So as per definition, this Exchange Rate ie 1 $ =20 Rs is nothing but Purchasing Power Parity.

• Value of dollar in this reference is Rs 20 ie Exchange rate is 1$ =Rs 20 but this exchange rate is different than market Exchange Rate ie NER and it is referred to as ER (PPP).
• Both currencies  ie either one dollar in US has the same purchasing power as that of 20 Rs in India.

 Why difference between Exchange Rate and Exchange Rate (PPP):

What affects Market Exchange Rate:

• Foreign currency is required for multiple reasons in the international market ie for trade, speculation, investment and other reasons and this creates a market of demand and supply or that currency in the market so Exchange Rate -Market is always higher than ER-PPP.
• The market exchange rate tells you how many rupees you can buy for $1,000, the PPP exchange rate tells you how many rupees you would need in India to maintain the same standard of living you could achieve in the United States for, say, $1,000 per month.

The relative version of PPP is calculated as: 

REER = NEER *Domestic Price/Foreign price

            =NEER* ER(PPP)

STATUS OF INDIAN ECONOMY:

India is 5^th largest economy in nominal terms while 3^rd on PPP terms.

HIGHER GDP IN PPP TERMS FOR INDIA-What does that mean :

• The implications of a high GDP in PPP terms can be understood in terms of increasing strength of the Indian consumer in recent years. 
• A high PPP implies that a basic set of essential goods and services is cheaper inside India, in comparison to the consumers in Japan, USA or the UK. 
• India has made significant improvements in public life and economy allowing for a low cost of living, across the population. 
• This has also resulted in India being generally safe against inflation shocks and shocks of the global economy.