Sunday, February 22, 2009

FDI Policy of India,Part-1


The process of globalisation of FDI in India is still incomplete. There are hundereds of reasons why we are still behind China as far as attracting foreign investors is concerned. As of 2008,FDI is prohibited in sectors like gambling and betting,lottery business,atomic energy and Agriculture. Besides,the master circular issued by RBI in july 2008 specified additional activities for which FDI is not allowed.These are business of chit fund,a Nidhi company,plantation activities,real estate business and trading in TDRs(Transferable Development Rights).

Ideally FDI should be regulated by a single agency of the government,but in India it is administered by several agencies,some of whose functions overlap with each other. Matters relating to policy are anniunced by Department of Industrial Policy and Promotion(DIPP) [whose executive arm is Secretariat for Industrial Assistance(SIA)] andForeign Investment and Promotion Board(FIPB). On the other hand statutory regulation is effected by Foreign Exchange Management Act 1999(FEMA). But,very often,the non statutory policy measures that are announced by the SIA in the form of the so called "Press Notes"are inconsistent with some of the regulations issued under FEMA. However,policy measures announced by these press notes are non justiciable whereas the decisions of RBImade under FEMA can be subjected to judicial review.

In 1998,Gvt permitted foreign investors to set up wholly owned subsidiaries and joint ventures in India in fields where there was no prescribed sectoral cap on foreign equity. This caused resentment among industrialists in India as they were forced to carry on their businessside by side with foreign investors. The main problem was that a foreign investor could set up another business in Indiain the same field and thus compete with the business of his former joint venture. In order to allay the suspicions of Indians SIA issued a press note no.18 of 1998 through which govt imposed a blanket ban on all new investments by foreign investors who had previous joint ventures or technology transfer or trade mark agreements in Indian companies in the same or allied field,unless the foreifn investor had obtained the approval of FIPB. In prectice it meant that foreign investor(FI) had to obtain an NOC from his joint venture partner before he could even apply to the FIPB for the approval of secondary investment. As can be imagined the Indian joint venture partner started using this opportunity to extract huge amounts of compensation from the foreign investor before granting an NOC.

In order to soften the harshness of press note 18,SIA issued press note no 1 of 2005 which said that prior approval of govt would be required only in cases where the FI has an existing joint venture or TT or TM agreement in the same field. Even if an FI has an agreement in the same field,prior approval of govt is not required if existing joint venture agreement by either of the parties is less than 3%. But this so called softening of the obstruction turned out to create more problems than it was intended to solve. In order to reduce the share of the former Indian joint venture partner in the previous company to 3% or below,the FI would first have to buy off the shares held by the Indian partner in that company. This would give the Indian partner the opportunity to extract a huge amountas a price for such sale. Nor could the FI sell shares representing his investment in that company to a third party because any such sale would require the consent of Board of Directors of the company. Such consent would be difficult to obtain without the full cooperation of the former Indian joint venture partner.

Another regulation that has inhibited the flow of FDI is press note no 9 of 1999. It purports to restrictthe right of foreign owned Indian companies to make downstream investments without prior govt approval. There is no difinition in it of what a "foreign owned Indian company"means. The FIPB considers that even a joint venture company is a foreign owned Indian Company(FOIC). But this is legally invalid. In the first place,a so called FOIC is subject to the same legal regime as any other Indian company. This press note also violates a declaration in manual on FDI,policy and procedures 2008 which says that "once a company has been duly registered and incorporated as an Indian company,it is subject to Indian laws and regulations as applicable to other domestic Indian companies. So an FI cannot be subjected to any restrictions on downstream investments (no such restrictions are prescribed by FEMA). Also it is intresting to note that press note no9 of 1999 was issued when FERA and not FEMA was in force.It is obvious that press note no 9 of 1999 could not survive the repeal of FERA because nothing in FEMA permits the govt or RBI to regulate downstream investments.

Thus there are many road blocks to FDI. There are others also like the regulations made under FEMA. All these road blocks will no doubt continue to spoil FDI game in India.