For a developing country like India, the total capital requirements cannot be met with internal sources alone, so foreign investments become an important part in supplying capital. The two most common foreign investments are FDI and FPI.
Foreign Direct Investment (FDI) as the name suggests is investing directly in another country. A foreign company which is based in some other country like France invests in India either by setting up a wholly owned subsidiary or getting into a joint venture with some company based in India and then conducts its business in India.
Examples: Various software companies like IBM India which is initially based in Unites States but has opened its subsidiaries in different part of India, Maruti Suzuki is yet another example in which Suzuki of Japan had joint ventured with Maruti Udyog Ltd. SBI life insurance is a joint venture life insurance company between State Bank of India (SBI) and BNP Paribas Assurance of France and there are many other examples.
Routes under FDI: There are 2 routes under FDI. They are
- Automatic route: By this route FDI is allowed without prior approval by Government or Reserve Bank of India (RBI).
- Government route: Prior approval by government is needed via this route. The application needs to be made through Foreign Investment Facilitation Portal, which will facilitate single window clearance of FDI application under Approval Route.
Foreign Portfolio Investment (FPI) is similar to FDI in a way that this is also direct investment but investment in only financial assets such as stocks, bonds etc. of a company located in another country. In contrast to FDI, a portfolio investment is an investment made by an investor who is not involved in the management and day-to-day business of a company.
Example: Any foreign company invests in the shares of Infosys (based in India).
Foreign Institutional Investor (FII) is an investor of group of investors who bring FPIs. Institutional investors include hedge funds, insurance companies, pension funds and mutual funds. They participate in the secondary market of economy. To participate in the market of India, FIIs must register themselves with Securities and Exchange Board of India (SEBI). The institutions are registered as FIIs in accordance with Section 2 (f) of the SEBI (FII) Regulations 1995.
Regulatons: The regulations for foreign investment in India have been framed by the Reserve Bank of India in terms of Sections 6 and 47 of the Foreign Exchange Management Act(FEMA), 1999.
FDI versus FPI
|Investment in productive assets (whose value increase over time) like plant and machinery for a business||Investment in financial assets like stocks, bonds, mutual funds, etc.|
|Investment gives investores ownership right as well as management right||Investment gives investors only ownership right and not management right|
|Engage in decision making of a firm||Not involved in decision making|
|Investors enter a country with long-term approach||Investors can plan for long but often have short-term plans|
|So investors cannot depart from the country easily||Investors can easily depart from the country|
|Investment is greater than 10%||Investment is less than 10%|
Out of FDI and FPI, FDI is most important for any economy because it is a type of permanent investment in the economy. Like IBM India has its branches in India, it cannot easily shut its business from India because it has set up a whole infrastructure in India, IBM will itself go into great losses. Also setting up subsidiaries give employment to people of India. While in FPI, the investors can exit a nation easily whenever they want.