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Symbiosis Centre for Management Studies, Noida

Kanishka Mehrotra

Fundamentals of
Business
Environment
(FDI AND FII IMPACT ON INDIAN ECONOMY)

SUBMITTED BY : Kanishka

Mehrotra
PRN NUMBER : 14021021049
BATCH : 2014-17 (B)
FDI & FII Impact on Indian Economy

Symbiosis Centre for Management Studies, Noida


Kanishka Mehrotra

SUBMITTED TO: Ms. Khushboo

Tyagi
ACKNOWLEDGEMENT

I would like to thank Ms Khushboo Tyagi,


Symbiosis Centre For Management Studies, Noida
and my fellow batchmates who advised me in the
making of this project without their cooperation I
woud not have completed the project.

Kanishka Mehrotra
Symbiosis Centre for Management Studies, Noida

FDI & FII Impact on Indian Economy

Symbiosis Centre for Management Studies, Noida


Kanishka Mehrotra

FDI & FII Impact on Indian Economy

Symbiosis Centre for Management Studies, Noida


Kanishka Mehrotra

EXECUTIVE SUMMARY
Foreign Direct Investment (FDI) and Foreign Institutional Investment (FII)
flows are usually preferred over other forms of external finance because they are nondebt creating, non-volatile and their returns depend on the performance of the projects
financed by the investors. FDI and FII also facilitates international trade and transfer
of knowledge, skills and technology. In a world of increased competition and rapid
technological change, their complimentary and catalytic role can be very valuable.
Over the years, FDI and FII inflow in the country is increasing. However,
India has tremendous potential for absorbing greater flow of FDI and FII in the
coming years. Serious efforts are being made to attract greater inflow of FDI and FII
in the country by taking several actions both on policy and implementation front. An
essential requirement of the foreign investing community in making their investment
decision is availability of timely and reliable information about the policies and
procedures governing FDI and FII in India.
Foreign direct investment (FDI) and FII in India has played an important role
in the development of the Indian economy. FDI and FII in India has - in a lot of ways
- enabled India to achieve a certain degree of financial stability, growth and
development. This money has allowed India to focus on the areas that may have
needed economic Attention, and address the various problems that continue to
challenge the country. India has continually sought to attract FDI from the worlds
major investors. In 1998 and 1999, the Indian national government announced a
number of reforms designed to encourage FDI and present a favorable scenario for
investors. FDI and FII are permitted through financial collaborations, through private
equity or preferential allotments, by way of capital markets through Euro issues, and
in joint ventures.

FDI & FII Impact on Indian Economy

Symbiosis Centre for Management Studies, Noida


Kanishka Mehrotra

INTRODUCTION
The Government of India has recognized the key role of the foreign direct investment
(FDI) and foreign institutional investment (FII) in its process of economic development,
not only as an addition to its own domestic capital but also as an important source of
technology and other global trade practices. In order to attract the required amount of FDI
and FII, it has bought about a number of changes in its economic policies and has put in
its practice a liberal and more transparent FDI and FII policy with a view to attract more
foreign direct institutional investment inflows into its economy. These changes have
heralded the liberalization era of the foreign investment policy regime into India and have
brought about a structural breakthrough in the volume of FDI and FII inflows in the
economy.
The influx of FIIs has indeed influenced the secondary market segment of the Indian
stock market. But the supposed linkage effects with the real economy have not worked.
Instead there has been an increased uncertainty and skepticism about the stock market in
this country. On the other hand, the surge in foreign portfolio investment in the Indian
economy has introduced some serious problems of macroeconomic management for the
policymakers like inflation, currency appreciation etc.
On the other hand FDI is what the government really needs to attract in various sectors
like infrastructure, education etc. it is much more stable than the foreign institutional
investment which comes via the stock market route, and has more accountability and
brings fundamental and tangible benefits to the economy.
In this context, this report is going to analyze the trends and patterns of foreign direct
investment (FDI) and foreign institutional investment (FII) flows into India during the
post liberalization period.

FDI & FII Impact on Indian Economy

Symbiosis Centre for Management Studies, Noida


Kanishka Mehrotra

FOREIGN DIRECT INVESTMENT


INTRODUCTION
Is the process whereby residents of one country (the source country) acquire ownership of
assets for the purpose of controlling the production, distribution, and other activities of a
firm in another country (the host country). The international monetary funds balance of
payment manual defines FDI as an investment that is made to acquire a lasting interest in
an enterprise operating in an economy other than that of the investor. The investors purpose
being to have an effective voice in the management of the enterprise. The united nations
1999 world investment report defines FDI as an investment involving a long term
relationship and reflecting a lasting interest and control of a resident entity in one economy
(foreign direct investor or parent enterprise) in an enterprise resident in an economy other
than that of the foreign direct investor ( FDI enterprise, affiliate enterprise or foreign
affiliate).
Foreign direct investment (FDI) plays an extraordinary and growing role in global
business. It can provide a firm with new markets and marketing channels, cheaper
production facilities, access to new technology, products, skills and financing. For a host
country or the foreign firm which receives the investment, it can provide a source of new
technologies, capital, processes, products, organizational technologies and management
skills, and as such can provide a strong impetus to economic development.
Foreign direct investment, in its classic definition, is defined as a company from one
country making a physical investment into building a factory in another country. The
direct investment in buildings, machinery and equipment is in contrast with making a
portfolio investment, which is considered an indirect investment. In recent years, given
rapid growth and change in global investment patterns, the definition has been broadened
to include the acquisition of a lasting management interest in a company or enterprise
outside the investing firms home country. As such, it may take many forms, such as a

FDI & FII Impact on Indian Economy

Symbiosis Centre for Management Studies, Noida


Kanishka Mehrotra

direct acquisition of a foreign firm, construction of a facility, or investment in a joint


venture or strategic alliance with a local firm with attendant input of technology, licensing
of intellectual property, In the past decade, FDI has come to play a major role in the
internationalization of business.
One of the most striking developments during the last two decades is the spectacular
growth of FDI in the global economic landscape. This unprecedented growth of global FDI
in 1990 around the world make FDI an important and vital component of development
strategy in both developed and developing nations and policies are designed in order to
stimulate inward flows. Infact, FDI provides a win win situation to the host and the
home countries. Both countries are directly interested in inviting FDI, because they benefit
a lot from such type of investment. The home countries want to take the advantage of the
vast markets opened by industrial growth. On the other hand the host countries want to
acquire technological and managerial skills and supplement domestic savings and foreign
exchange. Moreover, the

paucity of all types of resources viz. financial, capital,

entrepreneurship, technological know- how, skills and practices, access to marketsabroad- in their economic development, developing nations accepted FDI as a sole visible
panacea for all their scarcities. Further, the integration of global financial markets paves
ways to this explosive growth of FDI around the globe.
The year 1991 marks a new growth phase of FDI in India with an all time high flow
of FDI. Following the Industrial Policy (1991) , a large number of foreign companies
from different parts of the world rushed into India. In this period, in addition to
thousands of foreign collaborations in India, as many as 145 foreign companies
registered in India within a span of 10 years from 1991-2000. Companies like General
Motors, Ford Motors, and IBM that divested from India in the 1950s and 1970s
reentered India during this period. A large number of Asian companies like Daewoo
Motors, Hyundai Motors and LG Electronics from S. Korea, Matsushita Television
and Honda Motors from Japan invested in India during this period.
With the legislation of the Industrial Licensing Policy, 1991, industrial licensing was
abolished except for 18 industries. FDI up to 51% equity was allowed in 34 formerly high
priority industries and the concept of phased manufacturing requirement on foreign

FDI & FII Impact on Indian Economy

Symbiosis Centre for Management Studies, Noida


Kanishka Mehrotra

companies was removed. Further, the tariffs on imports have been steadily reduced in
every budget since 1991.

ADVANTAGES OF FDI
1. Raising the Level of Investment: Foreign investment can fill the gap between
desired investment and locally mobilized savings. Local capital markets are often
not well developed. Thus, they cannot meet the capital requirements for large
investment projects. Besides, access to the hard currency needed to purchase
investment goods not available locally can be difficult. FDI solves both these
problems at once as it is a direct source of external capital. It can fill the gap
between desired foreign exchange requirements and those derived from net export
earnings.

2. Up gradation of Technology: Foreign investment brings with it technological


knowledge while transferring machinery and equipment to developing countries.
Production units in developing countries use out-dated equipment and techniques
that can reduce the productivity of workers and lead to the production of goods of
a lower standard.
3. Improvement in Export Competitiveness: FDI can help the host country
improve its export performance. By raising the level of efficiency and the
standards of product quality, FDI makes a positive impact on the host countrys
export competitiveness. Further, because of the international linkages of MNCs,
FDI provides to the host country better access to foreign markets. Enhanced
export possibility contributes to the growth of the host economies by relaxing
demand side constraints on growth. This is important for those countries which

FDI & FII Impact on Indian Economy

Symbiosis Centre for Management Studies, Noida


Kanishka Mehrotra

have a small domestic market and must increase exports vigorously to maintain
their tempo of economic growth.

4. Employment

Generation/Development:

Foreign

investment

can

create

employment in the modern sectors of developing countries. Recipients of FDI


gain training of employees in the course of operating new enterprises, which
contributes to human capital formation in the host country.

5. Benefits to Consumers: Consumers in developing countries stand to gain from


FDI through new products, and improved quality of goods at competitive prices.

6. Revenue to Government: Profits generated by FDI contribute to corporate tax


revenues in the host country.

DISADVANTAGES OF FDI
FDI is not an unmixed blessing. Governments in developing countries have to be very
careful while deciding the magnitude, pattern and conditions of private foreign
investment. Possible adverse implications of foreign investment are the following:
1. When foreign investment is competitive with home investment, profits in
domestic industries fall, leading to fall in domestic savings.

2. Contribution of foreign firms to public revenue through corporate taxes is


comparatively less because of liberal tax concessions, investment allowances,
disguised public subsidies and tariff protection provided by the host government.

3. Foreign firms reinforce dualistic socio-economic structure and increase income


inequalities. They create a small number of highly paid modern sector executives.

FDI & FII Impact on Indian Economy

Symbiosis Centre for Management Studies, Noida


Kanishka Mehrotra

They divert resources away from priority sectors to the manufacture of


sophisticated products for the consumption of the local elite. As they are located in
urban areas, they create imbalances between rural and urban opportunities,
accelerating flow of rural population to urban areas.

4. Foreign firms stimulate inappropriate consumption patterns through excessive


advertising and monopolistic market power. The products made by multinationals
for the domestic market are not necessarily low in price and high in quality. Their
technology is generally capital-intensive which does not suit the needs of a laboursurplus economy.

DETERMINANTS OF FDI
To understand the scale and direction of FDI flows, it is necessary to identify their
major determinants. The relative importance of FDI determinants varies not only
between countries but also between different types of FDI. Traditionally, the
determinants of FDI include the following.
1. Size of the Market: Large developing countries provide substantial markets
where the consumers demand for certain goods far exceed the available supplies.
This demand potential is a big draw for many foreign-owned enterprises. In many
cases, the establishment of a low cost marketing operation represents the first step
by a multinational into the market of the country. This establishes a presence in
the market and provides important insights into the ways of doing business and
possible opportunities in the country.
2. Political stability: In many countries, the institutions of government are still
evolving and there are unsettled political questions. Companies are unwilling to
contribute large amounts of capital into an environment where some of the basics
political questions have not yet been resolved.
3. Macro-economic Environment: Instability in the level of prices and exchange
rate enhance the level of uncertainty, making business planning difficult. This

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increases the perceived risk of making investments and therefore adversely


affects the inflow of FDI.
4. Legal and Regulatory Framework: The transition to a market economy entails
the establishment of a legal and regulatory framework that is compatible with
private sector activities and the operation of foreign owned companies. The
relevant areas in this field include protection of property rights, ability to
repatriate profits, and a free market for currency exchange. It is important that
these rules and their administrative procedures are transparent and easily
comprehensive.

FDI Approval Route in India


Foreign direct investments in India are approved through two
routes :
1. Automatic approval by RBI
The Reserve Bank of India accords automatic approval within a period of two weeks
(subject to compliance of norms) to all proposals and permits foreign equity up to
24%; 50%; 51%; 74% and 100% is allowed depending on the category of industries
and the sectoral caps applicable. The lists are comprehensive and cover most
industries of interest to foreign companies. Investments in high priority industries or
for trading companies primarily engaged in exporting are given almost automatic
approval by the RBI.
2. The FIPB Route Processing of non-automatic approval cases
FDI in activities not covered under the automatic route requires prior approval of the
Government which are considered by the Foreign Investment Promotion Board
(FIPB), Department of Economic Affairs, Ministry of Finance. Indian companies
having foreign investment approval through FIPB route do not require any further
clearance from the Reserve Bank of India for receiving inward remittance and for the
issue of shares to the non-resident investors.

SECTOR SPECIFIC CONDITIONS ON FDI


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PROHIBITED SECTORS.
1. Retail Trading (except single brand product retailing)
2. Lottery Business including Government /private lottery, online lotteries, etc.
3. Gambling and Betting including casinos etc.
4. Chit funds
5. Nidhi company
6. Trading in Transferable Development Rights (TDRs)
7. Real Estate Business or Construction of Farm Houses
8. Manufacturing of Cigars, cheroots, cigarillos and cigarettes substitutes
9. Activities / sectors not open to private sector investment e.g. Atomic Energy
10. Railway Transport (other than Mass Rapid Transport System

PERMITTED SECTORS
Sr.

Sector/Activity

FDI cap/Equity

Entry/Route

1.

Hotel & Tourism

100%

Automatic

2.

NBFC

49%

Automatic

3.

Insurance

26%

Automatic

4.

Telecommunication:

No.

Automatic

cellular, value added services

49%

ISPs with gateways, radio-paging


Electronic Mail & Voice Mail

Above
74%

49%

Govt. licence

100%
5.

Trading companies:
primarily export activities
bulk

imports,

cash

and

Power(other

than

atomic

power plants)

FDI & FII Impact on Indian Economy

Automatic

100%

Automatic

100%

Automatic

carry

wholesale trading
6.

51%

reactor

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Kanishka Mehrotra

7.

100%

Automatic

100%

Automatic

100%

Automatic

Drugs & Pharmaceuticals


8.
Roads, Highways, Ports and Harbors
9.
Pollution Control and Management
10

Call Centers

100%

Automatic

11.

BPO

100%

Automatic

13.

Airports:
Greenfield projects

100%

Automatic

Existing projects

100%

Beyond 74% FIPB

14

Assets reconstruction company

49%

FIPB

15.

Cigars and cigarettes

100%

FIPB

16.

Courier services

100%

FIPB

17.

Investing companies in infrastructure 49%

FIPB

(other than telecom sector)

SECTORS ATTRACTING HIGHEST FDI EQUITY INFLOWS

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Note: Cumulative Sector- wise FDI equity inflows (from April 2000 to January 2012)

Source: Department of Industrial Policy & Promotion

Foreign Direct Investment in India in the last 10 Years

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It can be seen that the flow of FDI has consistent and gradually increasing over the
years. There has been an increase of 129% i.e. Rs. 13851 Crores from the year 200001 to 2005-06 while the increase from 2005-06 to 2011-12 has been a phenomenal
607% i.e. from Rs. 24584 Cr to Rs. 173947 Cr which can be attributed to relaxation of
foreign investment rules. Despite the global financial credit squeeze brought by the
recession India continues to be an attractive destination for investment as there is
tremendous potential for growth in the vast and diverse markets of our country.
The bars from 2000-01 to 2004-05 have been almost hovering the same levels but
importantly havent gone down which is because the foreign investors saw immense
potential but were not getting enough incentives to enter with huge business
propositions. The breakout came from the year 2005-06 when the investment nearly
doubled as compared to 2000-01, after which there was no looking back as consistent
economic growth, de-regulation, liberal investment rules, and operational flexibility
helped increase the inflow of Foreign Direct Investment or FDI. So much so that even
during the year 2008-09 when the recession had taken its toll on the western countries
there was no indication of falling investment via the FDI route as can be seen from the
chart. In fact during 2008-09 the chart shows that FDI breached the Rs. 1 lakh crore
marks. In percentage terms FDI inflow increased by 28% from 2007-08 to 2008-09.

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FOREIGN INSTITUTIONAL INVESTMENT (FII)


As defined by the European Union Foreign Institutional Investment is an investment
in a foreign stock market by the specialized financial intermediaries managing savings
collectively on behalf

of investors, especially small investors, towards specific

objectives in term of risk, return and maturity of claims.


SEBIs Definition of FIIs presently includes foreign pension funds, mutual funds,
charitable/endowment/university funds, asset management companies and other
money managers operating on their behalf in a foreign stock market. Foreign
institutional investment is liquid nature investment, which is motivated by
international portfolio diversification benefits for individuals and institutional
investors in industrial country.
It refers to the purchase of stocks, bonds, debentures or other securities by an FII. FIIs
include pension funds, mutual funds, investment trusts, asset management companies,
nominee companies and incorporated/institutional portfolio managers.
In contrast to FDI, FIIs do not invest with the intention of gaining controlling interest
in a company. They typically make short-term investments. These investments are
made-to- book profits. Compared to FDI, a portfolio investor can enter and exit
countries with relative ease.. Because of the very nature of such investment, FII
money is also called hot money. The rapid outflow of hot money, in the recent
past, has created exchange-rate problems in Argentina and in Southeast Asia. Since
FIIs are very sensitive, a mere change in perception about an economy can prompt
them to pull out investments from a country.
Indian Markets have been one of the most attractive investment places for the FII's.
India being a developing nation attracts the foreign flows looking at the growth
potential in the Indian Economy. The FII's contribute a major chunk of volumes on
the Indian bourses and this in turn impacts the market moves. In case of recession in
the world economies, the foreign investors look for saver bets and India with a rising
GDP where other nations GDP / Growth is shrinking has always offered greater

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investment avenues. Indian Markets have been the clear outperformers vis-a-vis the
global markets in the past years.

FOREIGN INSTITUTIONAL INVESTMENT IN INDIA


Foreign Institutional Investors means an institution established or incorporated
outside India which proposes to make investment in India in securities. A Working
Group for Streamlining of the Procedures relating to FIIs, constituted in April, 2003,
inter alia, recommended streamlining of SEBI registration procedure, and suggested
that dual approval process of SEBI and RBI be changed to a single approval process
of SEBI. This recommendation was implemented in December 2003.
Currently, entities eligible to invest under the FII route are as follows:

As FII: Overseas pension funds, mutual funds, investment trust, asset


management company, nominee company, bank, institutional portfolio manager,
university funds, endowments, foundations, charitable trusts, charitable societies, a
trustee or power of attorney holder incorporated or established outside India
proposing to make proprietary investments or with no single investor holding more
than 10 per cent of the shares or units of the fund.

As Sub-accounts: The Sub account is generally the underlying fund on whose behalf
the FII invests. The following entities are eligible to be registered as sub-accounts,
viz. partnership firms, private company, public company, pension fund, investment
trust, and individuals. A domestic portfolio manager or a domestic asset management
company shall also be eligible to be registered as FII to manage the funds of subaccounts.
The Government guidelines for FII of 1992 allowed, inter-alia, entities such as asset
management companies, nominee companies and incorporated/institutional portfolio
managers or their power of attorney holders (providing discretionary and nondiscretionary portfolio management services) to be registered as FIIs. While the
guidelines did not have a specific provision regarding clients, in the application form
the details of clients on whose behalf investments were being made were sought.

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FIIs are eligible to purchase shares and convertible debentures issued by Indian
companies under the Portfolio Investment Scheme.

Who can be registered as an FII ?


The applicant should be any of the following categories:
1. Pension funds
2. Mutual funds
3. Investment trust
4. Insurance or reinsurance companies
5. Endowment funds
6. University funds
7. Foundations or charitable trusts or charitable societies who propose to invest on
their own behalf and
a) Asset management companies
b) Nominee companies
c) Institutional portfolio managers
d) Trustees
e) Power of attorney holders
f) Bank

Prohibitions on Investments
Foreign Institutional Investors are not permitted to invest in equity issued by an Asset
Reconstruction Company. They are also not allowed to invest in any company which
is engaged or proposes to engage in the following activities:

Business of chit fund

Agricultural or plantation activities

Real estate business or construction of farm houses (real estate business does
not include development of townships, construction of residential/commercial
premises, roads or bridges)

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Reasons for strong flow of FIIs in India


FIIs attracted by the fast growing economy of India and strong performance of Indian
companies have been attracted towards India to an extent that India has gone on to
become the preferred investment destination.
The primary reasons for India being a preferred destination for FIIs are:

Global liquidity into the equity markets.

Improved performance and competitiveness of Indian firms.

Opening up of Indian economy.

Cheap labor and other factors of production.

Highly developed stock market and high degree of vigilance over it.

Tax Incentives.

Regulation and Trading Efficiencies

F and O Segment

Role of FIIs

The Indian stock market has come of age and has substantially aligned itself
with the international order.

Market has also witnessed a growing trend of 'institutionalization' that may be


considered as a consequence of globalization.

It is influence of the FIIs which changed the face of the Indian stock markets.
Screen based trading and depository are realities today largely because of FIIs.

FII which based the pressure on the rupee from the balance of payments
position and lowered the cost of capital to Indian business.

FIIs are the trendsetters in any market. They were the first ones to identify the
potential of Indian technology stocks. When the rest of the investors invested
in these scrips, they exited the scrips and booked profits.

Rolling settlement was introduced at the insistence of FIIs as they were

uncomfortable with the badla system.


The FIIs are playing an important role in bringing in funds needed by the
equity market.

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The increase in the volume of activity on stock exchanges with the advent of
on screen trading coupled with operational inefficiencies of the former
settlement and clearing system led to the emergence of a new system called
the depository System.

Flow of money into Indian economy via FIIs has been increasing at a rapid
rate. This has forced economist and policy makers to consider impacts of this
inflow on the macro economic factors as well. This has resulted in deeper
analysis of factors like Interest Rate, Inflation Rate, GDP and Exchange Rate
etc. both in short term as well as long term.

Investment Conditions and Restrictions for FIIs


A Foreign Institutional Investor may invest only in the following:(a) Securities in the primary and secondary markets including shares, debentures
and warrants of companies, unlisted, listed or to be listed on a recognized stock
exchange in India.
(b) Units of schemes floated by domestic mutual funds including Unit Trust of
India, whether listed or not listed in a recognized stock exchange
(c) Dated Government securities.
(d) Derivatives traded on a recognized stock exchange.
(e) Commercial paper.
(f) Security receipts
Even investments made by FIIs in security receipts issued by securitization companies
or asset reconstruction companies under the Securitization and Reconstruction of
Financial Assets and Enforcement of Security Interest Act, 2002 are not eligible for
the investment limits mentioned above. No foreign institutional investor should invest
in security receipts on behalf of its sub-account.

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SEBI Registered FIIs

Year

Number of FIIs

2001-02

490

2002-03

502

2003-04

540

2004-05

685

2005-06

882

2006-07

996

2007-08

1219

2008-09

1334

2009-10

1729

2010-11
2011-12

1767
1758

Source: www.sebi.gov.in

2011-12 data till June 2012

The names of some prominent FIIs registered are: United Nations for and on behalf of
the United Nations Joint Staff Pension Fund, Public School Retirement System of
Missouri, Treasurer of the State North Carolina Equity Investment Fund Pooled Trust,
the Growth Fund of America, AIM Funds Management Inc, etc.
NET FII INVESTMENTS OVER THE YEARS

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FII Activity for previous years


Gross Purchase
Gross
Net
Year
(Cr)
Sale
Investment
(Cr)
(Cr)
2012
277,696.30
235,201.50
42,494.70
611,055.60
613,770.80
-2,714.20
2011
766,283.20
633,017.10
133,266.80
2010
624,239.70
540,814.70
83,424.20
2009
721,607.00
774,594.30
-52,987.40
2008
814,877.90
743,392.00
71,486.30
2007
475,624.90
439,084.10
36,540.20
2006
286,021.40
238,840.90
47,181.90
2005
185,672.00
146,706.80
38,965.80
2004
94,412.00
63,953.50
30,459.00
2003
46,479.10
42,849.80
3,629.60
2002
SOURCE:INDIA INFOLINE Data for 2012 upto may 2012

FIIs IMPACT ON EXCHANGE RATES


To understand the implications of FII on the exchange rates we have to understand
how the value of one currency goes up (appreciates) or goes down against the other
currency. The simple way of understanding is through Demand and Supply. If say US
imports from India it is creating a demand for Rupee thus the Indian rupee appreciates
w.r.t the dollar. If India imports then the dollar appreciates w.r.t the Indian rupee.
Now considering FIIs for every dollar that they bring into the country, there is a
demand for rupee created and the RBI has to print and release the money in the
country. Since the FIIs are creating a demand for rupee, it appreciates w.r.t the dollar.
Thus if for e.g. if prior to the demand the exchange rate was 1 USD = Rs 40, it could
become 1 USD = Rs 39 after they invets. Similarly when FII withdraw the capital
from the markets, they need to earn back the U.S Dollar so that leads to a demand for
dollars the rupee depreciates. 1 USD goes back to Rs. 40. Thus FII inflows make the
currency of the country invested in appreciate and their selling and disinvestment may
lead to depreciation.
Depreciating currency not favorable to the FIIs: considering a simple hypothetical
example. I invested 1 USD in India at an exchange rate of 1 USD = Rs. 40. If rupee
appreciates the exchange rates become 1 USD = Rs. 20. Now if I disinvest I get 2
dollars, whereas I invested only 1 USD thereby a gain of 1 USD. (Though in real

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terms the purchasing power of my dollar might decrease as my import cost would
increase, and cost of living back home may increase, but when I do consider practical
examples there is always a gain for FII whenever the currency of the country invested
in appreciates w.r.t the home currency)

Relationship between FII inflow and Sensex


YEAR
2005
2006
2007
2008
2009
2010
2011
2012

NET FII
INVESTMENTS
47181.9
36540.2
71486.3
-52987.4
83424.2
133266.8
2714.2
42263.3

BSE SENSEX
CLOSING
9397.93
13786.91
20286.99
9647.31
17464.81
20509.1
15454.9
16950

From the above charts it is clear that net FII investments at BSE show a similar
pattern to the Yearly average closings. The net FII started declining from 2007-08 till
the middle of 2008-09 which caused a sharp fall in Sensex also which went below the

FDI & FII Impact on Indian Economy

23

Symbiosis Centre for Management Studies, Noida


Kanishka Mehrotra

10000 level in 2007-08 falling by almost 52% as compared to the previous year. But
the FIIs started pouring in again from the end of 2009 after the governments abroad
started providing bail-out packages, sops and various other incentives to the ailing
companies. The Sensex also rises sharply from 2008-09 after the FIIs turned into net
buyers and hence a similar pattern can be found between these two.

What does India Need - FDI or FII


FDI usually is associated with export growth. It comes only when all the criteria to
set up an export industry are met. That includes, reduced taxes, favorable labor law,
freedom to move money in and out of country, government assistance to acquire land,
full grown infrastructure, reduced bureaucratic involvement etc. IT, BPO, Auto Parts,
Pharmaceuticals, unexplored service sectors including accounting; drug testing,
medical care etc are key sectors for foreign investment. Manufacturing is a brick and
mortar investment. It is permanent and stays in the country for a very long time. Huge
investments are needed to set this industry. It provides employment potential to semi
skilled and skilled labor. On the other hand the service sector requires fewer but
highly skilled workers. Both are needed in India. If India plays its cards right India
may be the hub for the service sector. Still high end manufacturing in auto parts and
pharmaceuticals should be Indias target.
The FII (Foreign Institutional Investor) is monies, which chases the stocks in the
market place. It is not exactly brick and mortar money, but in the long run it may
translate into brick and mortar. Sudden influx of this drives the stock market up as too
much money chases too little stock. Where FDI is a bit of a permanent nature, the FII
flies away at the shortest political or economical disturbance. The Global Recession of
2008 is a key example of the latter. Once this money leaves, it leaves ruined economy
and ruined lives behind. Hence FII is to be welcomed with strict political and
economical discipline.

FDI & FII Impact on Indian Economy

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Symbiosis Centre for Management Studies, Noida


Kanishka Mehrotra

BIBLIOGRAPHY
www.dipp.nic.in
www.sebi.gov.in
www.bseindia.com
www.rbi.org.in
www.unctad.org
www.indiainfoline.com
www.thehindu.com

THANK YOU

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