On July 16, the Indian government announced its decision to relax foreign direct investment (FDI) in 12 sectors. The cap on telecom was raised to 100%, which should leave companies like Vodafone happy. The defense sector, too, was allowed 26% joint venture partners. Several U.S. companies have been lobbying for an entry for years.
While opposition political parties in New Delhi claimed that this was just a move to smooth out the path of Indian Finance Minister P. Chidambaram, who is now in the U.S. to raise funds, the signal from foreign finance capitals was none too encouraging. The very same day, Korean steel giant Posco announced it was withdrawing its proposal to set up a 6-million-ton per annum steel plant in the southern state of Karnataka. The agreement for the US$5.3 billion project had been signed in June 2010, but there had been no progress because of land acquisition problems. The state had also imposed a ban on iron ore mining under pressure from the environmental lobby, and the economics of the plant had gone awry.
A day later, ArcelorMittal, one of the world’s biggest steel companies, decided to terminate its memorandum of understanding (MoU) with the government of the eastern state of Odisha for a US$12 billion, 12-million-ton steel plant. The MoU dates back to 2006, and land acquisition and inadequate iron ore linkages have been cited as the key problems. “It’s ironic, really,” wrote morning daily the Hindustan Times. “The government raises FDI limits in various sectors and in the two days after that, instead of a flood of dollars coming in, projects worth thousands of crores have been shelved.”
The FDI limit relaxation has been widely welcomed. “This should bring FDI into the country, which will help in our current account deficit and encourage fresh investment,” said apex chamber the Federation of Indian Chambers of Commerce & Industry. Rival chamber the Confederation of Indian Industry (CII) said in a statement: “CII has been expressing the need to raise FDI caps, streamlining the approval process and ironing out stringent and complicated procedural matters.”
Yet the markets were subdued and swung more according to what U.S. Fed Reserve chairman Ben Bernanke was saying in his testimony to U.S. Congress. “The Indian economy has been totally dovetailed into the global system post 2005,” says R. Murali Krishnan, head of institutional equity at Karvy Stock Broking. “It can no longer isolate itself from global events, like it did through the seventies, eighties and even most of nineties.”
Where the world has most recently impacted India is in the value of the rupee. It is currently trading at 60 rupees to the dollar, down 10% in three months. The Reserve Bank of India (RBI) has been unable to stem its fall. It doesn’t have the forex reserves — which stand at around US$290 billion currently — to sell dollars. Other measures like putting a squeeze on liquidity have hurt the markets (particularly banking stocks). The value of the rupee going down, and a bearish market means that foreign institutional investors are wary of further investments. “RBI will find it hard to defend the rupee at 60 versus the dollar,” says Bank of America Merrill Lynch.
Among the villains is the high rate of interest, which has stifled growth. The RBI hiked short-term rates on 15 July to support the rupee. That has upset the calculations of industry, which was expecting a rate cut this year. The other negative factors are high inflation and a burgeoning current account deficit caused largely by sluggish exports, and the import of petrogoods and gold. You can’t turn off the gas on petrogoods imports without taking the risk of throttling the economy and India, the world’s biggest consumer of gold, seems to have no intention to give up its pole position here.