Consentia on Commerce and Economics

Liberalization and Foreign Direct Investment shaping up the three sectors of the economy

Chapter 1: Introduction

India today is the second fastest growing economy in India. A market where companies want to build the goodwill and then enjoy its fruits. The population which is a like a curse for the environment, for the employment schemes. The population which puts a burden on to the policies of the Government; it proofs to be a boon for the companies and traders in India. As it is one of the few places where demand seems to be never ending and their produce never goes waste.

The economy is diverse and encompasses agriculture, handicrafts, textile, manufacturing, and a multitude of services. Although two-thirds of the Indian workforce still earn their livelihood directly or indirectly through agriculture, services are a growing sector and are playing an increasingly important role of India’s economy. The advent of the digital age, and the large number of young and educated populace fluent in English, is gradually transforming India as an important ‘back office’ destination for global companies for the outsourcing of their customer services and technical support. India is a major exporter of highly-skilled workers in software and financial services, and software engineering.

But was it always like this? Was India always a thriving, open, and inviting market?

The answer lies in almost every economics book we pick up. Before 1991 India was a closed economy. India was experiencing deep fiscal imbalances. Imports reached the skies and exports slumped, investors lost the trust in the Indian market and pulled out their money, depreciation started, inflations rocked the lives of the consumers, Gulf War further increasing the problems made oil imports even more costlier. India was about to sink into its one and only Financial Emergency till date. It was in 1991, the then Finance Minister brought in the LPG model. The policies relived India from its crisis in a short span and it was well on track. But the key question remains as how did the three word turned around the economy?

Before 1991, Indian Market was a difficult market to enter into. It promoted its indigenous industries while discouraging the foreign companies. Licence Raj in India was predominantly a method for the huge well connected companies to exploit the weaker ones. Moreover, the government had control over a huge section, leaving only a few areas for the private companies to work upon. After the reform the one word which changed the economy was Liberalization. It connects itself with Globalization and Privatization as without it they were also not possible.

Liberalization primarily meant making the economy liberal towards the outside or the indigenous invertors/companies, etc. The excessive tariff on products which helped the smugglers thus adding to the black economy was reduced making smuggling of no use at all.

Thus the tariff on the exports which were earlier evading the economy became a part of it. The consumers who were not getting the desired products due to the non competition and the obsolete technology suddenly could get their hands on to the latest stuff without reducing their pockets by a huge margin. This also increased the competition for the Indian companies forcing them to supply better products. License Raj was abolished making the laws liberal for the companies. All these changes were fantastic but the most needed change was to increase the flow of money in the economy to control the depreciation. The step to make this happen quickly was to increase the Foreign Direct Investment. Earlier this was very difficult the companies which came into India had to come in with a collaboration with some indigenous company. The foreign Shareholding was limited to only 40%. The companies were not comfortable with it due to which companies like IBM and Coca Cola had pulled out from India.

All these were improved with the liberalization of the FDI policies in India. Many constraints

that had historically been imposed on portfolio and direct investment were removed. The approval process for technical and financial collaborations was completely revamped.  For many industries, the Reserve Bank of India (RBI) would give an automatic approval.

Indian law does not differentiate between an Indian and foreign owned company once it has been incorporated in India.  The same procedures govern Indian and foreign owned companies alike.  Like Indian companies, foreign owned companies also do not now require a license for production in most manufacturing sectors. As a result the FDI in India which was just 500 Crores at the time of the introduction to  5000 crore in 1992.

Chapter 2: Objective

How did the Policies which came into effect in 1991 change the Indian Economy. Were the policies especially Liberalization and FDI a boon for the Indian Economy or just a desperate measure to save a sinking battle. Was it really the silver lining or was it a last resort. This paper tries to study the effects of FDI and Liberalization and how it helped to shaped up various sectors of the economy.

 

Chapter 3: Hypothesis

H: FDI tends to add new and better frontiers into the economic sectors.

Chapter 4: Research Methodology

The research methodology followed requires gathering relevant data from the specified documents/sources and analyzing the material and arrive at a more complete understanding of historical backdrop and the road ahead for FDI in all three sectors. We hope to shed light on the following questions through the research:

1. How the economy was before coming of FDI in India.

2. How did FDI shaped the economic sector.

3. The road ahead for FDI.

Chapter 5: Analysis of data

PRIMARY SECTOR: AGRICULTURE

Agriculture forms a major part of our economy. It had a contribution of 13.9% in our economy for the year 2011-12, with further growth of 2.9% for the first quarter of 2012-13[1]. The Indian economy had always been an agriculture based one . It was the principal activity/occupation people were involved in. But the true value of it was recognized only after the green revolution. Post the green revolution, the valuable utilization of agricultural produce was very low. This sector was not given proper importance, as such. The first introduction of modern High Yielding Variety seeds from Mexico and modern equipments in the 1960s gave this sector a good boost. It was now being recognized for having good potential for the betterment and up liftment of the economy.

The History

India had, in the past always been a little liberal with its trade issues. It used to

The Agriculture sector has seen a good bump in the past. It rose from minimal to its peak and then fell down to the scales it is surviving on today, with little fluctuations. The sector which was having trouble breathing saw a good bump in the 1960s with the coming of green revolution. To sum it up, green revolution was the coming in of High Yielding Variety seeds which could now produce more of the crop. Then there were fertilizers which boosted the production. Modern irrigation techniques were followed. All this resulted in what seemed to be better quality and quantity. But, this soon faded away as he issue of chemical fertilizers not being healthy came into light. This was when this sector came to a big jolt. The modern methods stayed but some of them had to go away. Now, this sector, however flourishing, still faces the trouble.

The Present

Agricultural market of India is highly fragmented and unorganised. Given the various changes like virtual collapse of rural credit in organized sector, especially for small and marginal farmers, continuous increase of input cost and stagnant crop price, profit potential of agricultural sector has declined substantially. Farmers are still kept on tenterhook, not

knowing how to manage their economy, except to play it by years[3] (Gupta,2005). If production is good then there is glut and prices fall. When there is crop failure farmers hardly get any compensation in terms of higher price.

The FDI Cap/Equity is 100% in Agriculture at present and the route is automatic.[2]

It was recently announced by Amway that it will utilize Rs 250 crore worth of land for organic farming in India for its products.[3] This, for sure means a lot of cash and jobs. This is a clear example of what FDI can do to this sector. FDI, will definitely negate the role of middlemen and produce more jobs.

The Future

The policy of allowing 100% FDI in single brand retail can benefit both the foreign retailer and the Indian partner  – foreign players get local market knowledge, while Indian companies can access global best management practices, designs and technological knowhow. By partially opening this sector, the government can  reduce the pressure from its trading partners in bilateral and multilateral negotiations and can demonstrate India’s intentions in liberalising this sector in a phased manner.

Permitting foreign investment in agricultural retailing is likely to ensure adequate flow of capital into rural economy in a manner likely to promote the welfare of all sections of society, particularly, farmers and consumers. It will bring about improvements in farmer income and agricultural growth and assist in lowering consumer price inflation.

 SECONDARY SECTOR: AUTOMOBILE

 The Automobile Industry has come a long way since the first cars started to ply 1898 in the streets of Bombay. When India gained Independence automobile was a toy of the rich. Affordable only by the Government and a select few.

Before the policies of LPG in 1991, the Indian Market was a closed market with great dominance over each and every sector of the economy. The basic motive of the Indian Economy was to create a atmosphere in which the Indigenous  could grow while it discouraged the foreign markets.

The coming in of  firms was very difficult  so as a result  Hindustan Motors manufacturing the car Ambassador   along with Maruti Suzuki’s  Maruti 800was the only prominent Indian car the rest were imported. Even Maruti Suzuki Ltd was a coalition between the Government’s United Front (India) and Suzuki Ltd . During these times only 6 firms were operational in India.

It was only after 1991 that the policies of liberalization made trade easier and initiated and encouraged the companies to come into the Country.

A table is shown below-

Phase 1: 1947-1983

· Closed market

· Growth of market limited by domestic supply

· Very few innovations, outdated model, fuel inefficient

· Number of firms: 5

Phase 2: 1983-1993

  · Joint Venture between Government of India and Suzuki to form Maruti Udyog

· Number of firms: 6

Phase 3: 1993-

  · Industry delicensed in 1993

· Major MNC Original Equipment  Manufacturers (OEMS) commenced

assembly in India

· Implementation of the Value Added Tax (VAT)

· Imports allowed from April 2001

· Number of firms: >35

Source:  India Brand Equity Fund (2010)

 

Table 1:  Three phases in the evolution of India’s Automotive Industry

Today India Is the Largest producer of tractors, second largest producer of two wheelers, fifth largest producer of commercial vehicle and eleventh largest producer of cars.

Majority of growth has been possible after the policies of liberalizations were adopted. The allowing of foreign companies to invest brought  in several benefits for the consumers as well as the economy. The main being in form of foreign currency and technology. Today. due to the advancement in Research and Development India not only is the producer of the $2500 car but also has started to produced some of the most expensive car in India like the Land Rover and the Jaguar XF in the Tata Motors plant in Pune.

Changes in the Trends of Production

Before in Policies of FDI and liberalization were introduced in India the majority of the cars were imported. The Import duty on the cars ranged from anything from 95 to 105%. Even today the car like General Motor’s Hummer has a import duty of 105%.

This was done by the Government to earn a high custom duty and encourage the market for the domestic car market. But gradually the Financial Crisis started to kick in which subsequently lends to the bringing of the LPG policies.

The companies were allowed a FDI of 51% which caused massive growth. The cheap labour and availability of a ready market was the best points about the Indian Market.

Mercedes Benz which entered India as a subsidiary company of Daimler Chrysler in 1994 was one of the first luxury companies to step into the market.

The production level since  has grown at a tremendous pace and shown in Table 2. Except for the slight  dip during the recession period of 2008-09 the India Automobile Market has never trembled.

Changes in Export and Import

In the paragraph mentioned above it was clearly explain as to how various MNC’s entered into the Economy. India, from a dumping ground for obsolete products transformed itself to a countries where production grew.

All factors of production – Capital, Labour, Land and Entrepreneur  was available that too at a cheaper rate.

The companies found it cheaper to produce and export their produce to nearby countries like Singapore from India than from their European hubs.

Change in the structure

After the policies on 1991 the Automobile Industry has changed tremendously. The first joint venture between the Union Government and Suzuki which formed Maruti Suzuki diluted its shares towards the parent company.

The domestic companies which faced no competition from their foreign competitors started to face the heat. They could no longer pass their obsolete produce to the Indian public as the competitors would offer better products at a cheaper price. As a result massive investment were started to be made in the purchase of technology and Research and Development. The result was safer, efficient and much comfortable car, and commercial vehicles.

 

Innovations in the Automotive Industry

There have been many instances of new product development in the Indian automotive

  1. To name a few:
  • The development of the Nano, the innovative US$2,250 car, has showcased India’s

ability to innovate and design;

  •  Reva, India’s first electric car, is also an example in this case;
  • Companies like M&M and the Hero Group are planning to develop electric vehicles;
  • In the commercial vehicles space, Tata Daewoo, a subsidiary of Tata Motors, has recently developed an LPG-based MCV (4.5 ton), the Novus, which conforms to Euro V emission norm;
  • Ashok Leyland has developed  India’s first six-cylinder CNG engine for buses, which uses the multipoint fuel injection system and conforms to Euro IV emission standards ; and
  • Two-wheeler manufacturers Bajaj Auto, Hero Honda and Mahindra are in discussions with Energtek, a provider  of absorbed natural gas products, for technology that will enable two-wheelers to run on natural gas instead of gasoline.

The Future

The Government permitted 100 per cent foreign direct investment (FDI) in the automobile and component sectors under the automatic route, as part of its much-delayed and watered down Automobile Policy.

Until now, 100 per cent FDI in this sector was allowed only on a case-by-case basis, while automatic approval in the sector was granted only for FDI with a maximum equity participation of 51 per cent.

The new automobile policy, announced by the Minister for Department of Heavy Industries and Public Enterprises, Mr Manohar Joshi, does not prescribe any minimum investment norms.

Earlier drafts of the policy were planning to impose a minimum investment criterion of $100 million for projects to make four-wheelers and $25 million for projects to make 2-3 wheelers.

But no Minimum Investment Norms were setup due to to highly competitive nature of the Indian Automobile Market.

Case Study: Hyundai

Hyundai Motor India Limited (HMIL) is a dominant passenger car manufacturer in India, controlling 14% market share in the passenger vehicles segment. It is the largest passenger car exporter and the second-largest car manufacturer in India. The company sold a total of 6,16,039 vehicles 2010–11. It has a fully integrated, state-of-the-art manufacturing plant near Chennai and has also set up a modern multi-million dollar R&D facility at Hyderabad. HMIL currently exports cars to more than 115 countries across the EU, Africa, the Middle East, Latin America and Asia-Pacific. It further plans to invest USD 250 million by 2013 — its cumulative investment in India by then will touch USD 1 billion.

 

TERTIARY SECTOR: INSURANCE

History of Insurance

The word Insurance was first seen in India as a mention in Manusmriti. It talks of re-distribution and pooling of resources in times of calamities like fire, flood, famine etc.

1818 saw the first Life Insurance Company being setup in India by the name of Oriental Life Insurance Company in Calcutta which failed and had to shut down in 1834. After this, several other companies like Madras Equitable, Bombay Oriental and Empire of India started to function. But the dominance of the foreign insurance companies like Albert Life Assurance, Royal Insurance were causing difficulties for the Indian Companies.

In 1914, after publishing  the  returns of the Life Insurance Companies,  the first statutory provision came into force in the form of The Indian Life Assurances Companies Act,1912.

After this, next significant change was seen in 1950. During this time the Principal Agencies were abolished, but still the competition was very high. Many small Insurance companies had started to mint money through malpractices and they became fronts of money laundering.  In a effort to curb these, the Government of India decided to nationalise the Insurance sector.

In 1956, an amendment in the Insurance Amendment,  1950 nationalized the sector and the Life Insurance Corporation of India was born.

LIC absorbed 154 Indian, 16 non-Indian and 75 provident societies. The LIC enjoyed monopoly in this sector until late 90’s when final the Insurance sector was opened for the private sector.

The Present

The Insurance Sector in India has now been open for about 12 years after the amendment in the Insurance Regulatory and Development Authority Act in 1999. India today is a bright sector for the Insurance Companies as when compared to the Western market the India has much high capacity to invest. The Insurance sector stabilizes the economy of any country as it invests in the long term Infrastructural Sector.

Today the India Insurance Sector in India is a 221,400 crore rupee industry. With e Foreign Companies eyeing it as a low insurance penetration, Rising level of income in the middle class family and the awareness about the sector in also growing. Today 22 out of 24 life insurance players and 18 out of 27 non life insurance players have foreign partners.

The premium collection of general companies in India saw  increase of 24.7% year on year and saw a figure of 6059.02 crores in September 2012. The total premium collection stood at 34,001.09 crores in April- September 2012 according to the report of the Insurance and Development Authority.

In terms of premium collections for life insurance segment, private players collected Rs 7,095 crore (in April-September 2012 period while state-owned Life Insurance Corp of India recorded a remarkable 24 per cent y-o-y growth in premium collections at Rs 15, 532.7 crore during the period. LIC’s support helped the industry post a 15 per cent growth in premium collected in the first half of 2012-13.

Presently the norms allow for 26% FDI in the Insurance sector but the Capital Hungry Market is ready for more. The IRDA has ready accepted the increment of FDI quota to 49%. To quote the chairman of the IRDA, J Hari Narayan, “Absolutely (in favour of hike in FDI limit). I think unless we go for 49%, we will not have the kind of capital required to underpin the growth of insurance industry.”

The policies of liberalization shall also help the market grow recently the Finance Minister Mr.Chitambram revealed a number of policies which allow speedier clearance of new product and policies, tax rebate for the investors etc.

The Main stumbling block for the FDI in the Insurance sector is the Insurance (Amendment) Act pending in the parliament. Which unless passed can’t doesn’t allowed any reforms in the Insurance Sector

Chapter 6: Conclusion

Thus, it is evident that FDI, had played a major role in helping the three sectors shape themselves up. However low the allowed cap maybe, has only helped in betterment of the condition. FDI definitely brings in more jobs and more capital..

Foreign Direct Investment is important for the development of the Economy as it brings in the Foreign players who tend to boost the economy of their country along with their respective profits. The increase in competition makes the domestic players improve their products and finally it is the consumer who benefits.

But, apart from the economy and the product the biggest development which comes to the country is in form of the Intellectual Property as the companies take a lot of trouble to study the country’s environment and develop themselves accordingly.

The trickle down affect of the economy is from the top industrialists to the worker class as the get employment, better wages and proper working conditions.

[1] http://ficci.com/spdocument/20155/Economy-Watch-Jul-Aug-12.pdf, Table 4

[2] http://www.rbi.org.in/scripts/bs_viewcontent.aspx?Id=2513#T3

[3] http://www.financialexpress.com/news/Amway-to-buy-organic-farms-in-India/835496

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