Foreign direct investment in service sector of India

Term Paper Required in the Curriculum Of MBA Second Semester In University of Kota

Supervised By: Dr. Meenu Maheshwari

(Lecturer, commerce &management department)

(UOK) Submitted By: Neha Sharma

ACKNOWLEDGEMENT
I am first of all grateful to commerce and management department, university of Kota which has given me an opportunity to work on the topic foreign direct investment in service sector of India. I am indebted equally to Dr. Meenu Maheshwari (Lecturer in commerce and management department) who constantly helped me at every step right from the inception of the term paper to the final documentation. I was fortunate to receive the benefit of his spirit and intelligence. She has truly served as a friend, philosopher and guide to me. I also wish to express my gratitude to GOD, Parents, friends and all those people who added value to the term paper by making comments on the topic and the work done. Although the number of persons who assisted me is large and many of their contributions are directly reflected in the report, I am of course personally responsible for the conclusions and opinions expressed here and for the term paper as a whole.

NEHA SHARMA

PREFACE
India has undergone a paradigm shift owing to its competitive stand in the world. The Indian economy is on a robust growth trajectory and Boasts of a stable annual growth rate, rising foreign exchange reserves and booming capital markets among others. Among the services sectors, the key indicators of railways, namely, the net tonne kilometers and passenger kilometers have shown growth rates. In the transport and communication sectors, the production of commercial vehicles, cargo handled at major ports, cargo handled by the civil aviation, passengers handled by the civil aviation and the total stock of telephone connections registered growth rates. The key indicators of banking, namely, aggregate bank deposits and bank credits have shown growth rates of 18 per cent and 12.2 per cent, respectively during April-December, 2009-10 over the corresponding period in 2008-09. There is ample reason for India's viability as a destination for foreign investment. In addition to the above-mentioned macroeconomic indicators, higher disposable incomes, emerging middle class, low cost competitive workforce, investment friendly policies and progressive reform process all contribute towards India being an appropriate choice for investors. The Indian Government is committed in its efforts to maintain a healthy growth rate and provide a conducive policy environment to the enterprises, both public and private, to invest and grow their business in the country. To this end, the Government has liberalized the foreign investment regime substantially over the last decade. Today, foreign direct investment is allowed in almost all sectors barring a few sensitive areas such as defense. Further, FDI is allowed in most of the sectors under the automatic route, except a few, where approval from the Foreign Investment Promotion Board is required. Indias foreign trade policy has been formulated with a view to invite and encourages FDI in India. The process of regulation and approval has been substantially liberalized. The Reserve Bank of India has prescribed the administrative and compliance aspects of FDI. The FDI policy rationalization and liberalization measures taken by the Government have resulted in increased inflows of FDI over the years. During 2009-10 (from April 2009- December 2009), foreign direct investment (FDI) flows to India were valued at US$ 20.92 billion.

FDI can be divided into two broad categories: investment under automatic route and investment through prior approval of Government. The pick up in FDI inflows further reflects growing investor interest in the Indian economy on the back of strong fundamentals and simplified procedures. The sectors attracting the highest FDI equity inflows during April-December 2009 have been the Services Sector, Computer Software & hardware,Telecommunication,Housing and real estate, Construction activities,power,Automobile industry, Metallurgical industries, Petroleum & Natural gas, Chemicals.

CONTENTS
Page no.

1. Introduction: (a) introduction to the FDI (b) Introduction to the service sector (c) FDI and Service sector

INTRODUCTION

INTRODUCTION TO FOREIGN DIRECT INVESTMENT

Foreign direct investment (FDI) refers to long term participation by country A into country B. It usually involves participation in management, joint-venture, transfer of technology and "know-how". FDI or Foreign Direct Investment is any form of investment that earns interest in enterprises which function outside of the domestic territory of the investor.

FDIs require a business relationship between a parent company and its foreign subsidiary. Foreign direct business relationships give rise to multinational corporations. For an investment to be regarded as an FDI, the parent firm needs to have at least 10% of the ordinary shares of its foreign affiliates. The investing firm may also qualify for an FDI if it owns voting power in a business enterprise operating in a foreign country. FDIs are governed by long run consideration, because these investments can not be easily liquidated. Hence, factors like economic prospects, long term political stability, government policies, industrial policies etc. influence the FDI decision. Consistent economic growth, de-regulation, liberal investment rules, and operational flexibility are all the factors that help increase the inflow of Foreign Direct Investment or FDI.

Types of Foreign Direct Investment:

FDIs can be broadly classified into two types: Outward FDIs, and Inward FDIs. This classification is based on the types of restrictions imposed, and the various prerequisites required for these investments. An outward-bound FDI is backed by the government against all types of associated risks. This form of FDI is subject to tax incentives as well as disincentives of various forms. Risk coverage provided to the domestic industries and subsidies granted to the local firms stand in the way of outward FDIs, which are also known as 'direct investments abroad.' Different economic factors encourage inward FDIs. These include interest loans, tax breaks, grants, subsidies, and the removal of restrictions and limitations. Factors detrimental to the growth of FDIs include necessities of differential performance and limitations related with ownership patterns. Other categorizations of FDI exist as well. Vertical Foreign Direct Investment takes place when a multinational corporation owns some shares of a foreign enterprise, which supplies input for it or uses the output produced by the MNC.

Horizontal foreign direct investments happen when a multinational company carries out a similar business operation in different nations. Foreign Direct Investment is guided by different motives. FDIs that are undertaken to strengthen the existing market structure or explore the opportunities of new markets can be called 'market-seeking FDIs.' 'Resourceseeking FDIs' are aimed at factors of production which have more operational efficiency than those available in the home country of the investor.

REASONS OR MOTIVES FOR FDIs:

High transportation cost associated with exporting. Problems with license and need to protect intellectual property. Availability of investment brands from foreign government. Lower operating cost. Faster access of local market. Under capacity at home. A desire to protect supplies of new material and component in particular countries. Local content requirement. Especially favorable economic conditions in particular country. Wanting to spread the risk of down terms in particular market. Acquisition of know-how and technical skills. Desire to minimize worldwide tax burden and maximize tax benefits. The need to engage in local assembly or part manufacture. The increase in worldwide trade and opening up of new markets. Development of new technologies. Liberalization of the nations economy. Establishment of common market and other regional block with common external tariff.

INTRODUCTION TO SERVICE SECTOR OF INDIA

Service Sector in India today accounts for more than half of India's GDP. According to data for the financial year 2008-2009, the share of services, industry, and agriculture in India's GDP is 55.1 per cent, 26.4 per cent, and 18.5 per cent respectively. The fact that the service sector now accounts for more than half the GDP marks a watershed in the evolution of the Indian economy and takes it closer to the fundamentals of a developed economy. Services or the "tertiary sector" of the economy covers a wide gamut of activities like trading, banking & finance, infotainment, real estate, transportation, security, management & technical consultancy among several others. The various sectors that combine together to constitute service industry in India are:

Trade Hotels and Restaurants Railways Other Transport & Storage Communication (Post, Telecom) Banking Insurance Dwellings, Real Estate Business Services Public Administration; Defense Personal Services Community Services Other Services

There was marked acceleration in services sector growth in the eighties and nineties, especially in the nineties. While the share of services in India's GDP increased by 21 per cent points in the 50 years between 1950 and 2000, nearly 40 per cent of that increase was concentrated in the nineties. While

almost all service sectors participated in this boom, growth was fastest in communications, banking, hotels and restaurants, community services, trade and business services. One of the reasons for the sudden growth in the services sector in India in the nineties was the liberalization in the regulatory framework that gave rise to innovation and higher exports from the services sector. The boom in the services sector has been relatively "jobless". The rise in services share in GDP has not accompanied by proportionate increase in the sector's share of national employment. Some economists have also cautioned that service sector growth must be supported by proportionate growth of the industrial sector, otherwise the service sector grown will not be sustainable. In the current economic scenario it looks that the boom in the services sector is here to stay as India is fast emerging as global services hub.

FDI AND SERVICE SECTOR

The FDI Inflows to Service Sector has helped the development of several industries in the service sector of the Indian Economy, such as Tele Communication, Financial and Non financial, Hotel & Tourism, and many others. FDI Inflows to Service Sector has been phenomenal in the past few years. Since the onset of the liberalization of the Indian economy in 1991, the country has experienced a huge increase in the inflow of Foreign Investments. The service sector in India has tremendous growth potential and as such it has attracted huge Foreign Direct Investments (FDI). Despite the global financial crisis, inflow of foreign capital to the country has increased sharply in 2008. The aggregate inflow of foreign direct investment (FDI) has more than doubled in 2008 over 2007. The stake was enormous. For, Corporate Indias dependence on foreign funds has increased steadily in recent years as the easing of norms for FDI, especially, external commercial borrowings (ECB), over the years had led to a dramatic rise in the inflow of foreign capital in India. Granted, there are reasons for caution as these data relate to 2008 only and the situation may have changed in 2009. After all, the crisis is not over yet. In fact, RBIs recent release shows that the inflow of ECB and foreign currency convertible bonds (FCCBs) has slowed down considerably in 2009 down 73% from $1,702 million in November 2008 to $453 million in February 2009. The decline in ECB is feared to affect the investment plans of companies. After all, a large number of companies use these funds to import capital goods. In fact, of the 32 companies which raised funds through ECB and FCCBs last February through the automated route, as many as 15 did so for import of capital goods for expansion of capacity or for modernization of plants. That Indias investment activities in recent years have largely been financed by foreign sources may be seen in the sharp rise in FDI inflows. Aggregate inflow of FDI has increased more than nine times during the past five years, from Rs 14,781 crore in 2004 to Rs 1, 39,725 crore in 2008. While improved macro fundamentals in recent years have strengthened the confidence of foreign investors in Indian industry, opening up of new areas and changes in government policy towards FDI must have engineered this jump in foreign capital inflow. That opening up of new areas has given

foreign investors more investment options is reflected in the changing destinations of foreign capital. The service sector, which was a restricted domain for foreign capital in the past, for example, has become the most sought-after area of late. The service sector has been the prime mover of Indias gross domestic product in recent years and foreign investors never had doubts about its potential. However, policy restrictions in the past did not allow them to invest in this industry as much as they willed. Now that restrictions have been eased, FDI has flowed in to this industry as never before. It accounted for a huge 24.3% of the total FDI inflow in 2008. In actual terms, the FDI inflow to this sector has grown 32 times in the past five years from a mere Rs 1,074 crore in 2004 to Rs 33,947 crore in 2008. The second most important destination of FDI in 2008 was telecommunication. It accounted for about 8.3% of the total FDI flowing into the country in 2007. But while the service sector and the telecommunication industry have increased their share in total FDI inflows in the country in 2008, the software industry has gone down the ladder further. The poor performance of the software companies dampened the mood of the foreign investors and FDI inflow to software sector has fallen sharply. The sector received only Rs 7,810 crore FDI in 2008 against Rs 10,214 crore in 2007. Its share in total FDI inflow has fallen to only 5.6% in 2008 against 16% in 2007. But as the financial crisis continues, the big question is: Will FDI inflow to India grow at the same rate in the coming months? After all, the service sector, which has been the main contributor to GDP growth, was the biggest gainer of the rise in FDI inflow in recent years. Now if the FDI inflow slows down, it will affect the growth of the service sector and in turn, the GDP growth.

EXPORT OPPORTUNITIES AND EXPORT CAPABILITIES OF SERVICE

Services, particularly the financing and transportation of goods, have played an important role in world trade for centuries. In recent years, the focus of services trade has shifted away from just facilitating trade in goods as the sector has emerged as an independent entity in itself with services trade in the four supply modes opening up new opportunities. More recently, the integration of telecommunications and computer technologies has made virtually all services tradable across borders. Rapid technological advances in the past few decades in transport, computing and telecom have resulted in enterprises making use of distant resources for production and serving wider markets. The trend of globalization, reinforced by liberalization policies and the removal of regulatory obstacles has fuelled steady growth of international investment and trade in services. Better communications and multinational enterprises have also facilitated the movement of people, both as independent service employers and employees. The convergence between computers and telecommunication technologies has had a number of significant consequences for the competitiveness of services like making it possible for firms to provide services rapidly and conveniently, locating the work force of a firm anywhere in the world, as long as they can telecommute to work, etc. The growth of the Services sector and consequently the growth of the Indian economy perhaps have a trade angle. Though external trade is taken only net in the GDP and its effect may not be felt directly as the deficit in merchandise trade overshadows the positive balance in services trade, the indirect effects of exports of services is high on the domestic growth of services and even industry. For example, the domestically dynamic services like trade, hotels, Transport and communications etc. are related to important services in exports like travel and transportation. The growth in export of software services has given fillip to domestic production and use of these services. The dynamic growth of professional services exports has a bearing on the growth of these services domestically. Similarly growth of shipping services and travel services exports can have a direct bearing on domestic industries related to these services. The importance of the vast and growing export business opportunities for Indias services sector can be seen by juxtaposing the import demand of major service importers with our export capabilities.

FDI POLICIES

FDI POLICIES OF GOVT. IN SERVICE SECTOR

India has one of the most transparent and liberal Foreign Direct Investment (FDI) regimes among emerging and developing economies. Differential treatment is limited to a few entry rules, predominantly in some Services sectors, spelling out the proportion of equity that the foreign investor can hold in an India-registered company or businesstermed "sector caps". Foreign corporate and individual investment in India, termed collectively as Foreign Direct Investment (FDI) when it relates to control or ownership of a company in India, takes one of two routes: Automatic route or Automatic Approval: This requires no prior approval for FDI. Post-facto filing of data relating to the investment made with the Reserve Bank of India (RBI) is for record and data purposes. This route is available to all sectors or activities that do not have a sector cap i.e. where 100% foreign ownership is permitted, or for investments that are within a sector cap (e.g. less than or equal to 26% share of an Insurance company) and where the Automatic route is allowed. FIPB Approval the Foreign Investment Promotion Board (FIPB) approves investment proposals:

where the proposed shareholding is above the prescribed sector caps, or where the activity belongs to that small list of sectors where FDI is either not allowed or where it is mandatory that proposals be routed through the FIPB (e.g. sectors that require industrial licensing)

The FIPB ensures a single-window approval for the investment and acts as a screening agency (for sensitive/negative list sectors). FIPB approvals (or rejections) are normally received in 30 days. Some foreign investors use the FIPB application route where there may be absence of stated policy or lack of policy clarity. An outline of the broad policies for the service sector is provided below: 100% FDI under the automatic route is permitted for many service sectors such as real estate construction, townships1, resorts, hotels and tourism (including tour operators and travel agencies, serviced apartments, convention and exhibition centres), films, IT and IT - enabled services, ISP/email/voice mail services, business services and consultancy, renting and leasing, Venture Capital Funds/Companies (VCFs/VCCs), medical/health services, education, advertising and wholesale trade and courier services.

100% FDI permitted in non-banking financial services subject to minimum capitalization norms. Certain service sectors are being opened up in a phased manner to allow domestic companies to prepare for global competition. In both banking and insurance, foreign investment is permitted subject to specific caps or entry conditions. FDI in media is permitted with varying sector caps. Retail trade is currently restricted to 51% FDI permitted in single brand retail stores and 100% FDI permitted in wholesale cash and carry. Legal services are currently not open to foreign investment. Restricted List of Sectors Sectors where FDI is prohibited are Retail Trading (except single brand product retailing), Atomic Energy, Lottery Business, Gambling and Betting, Business of Chit Fund, Nidhi Company, Trading in Transferable Development Rights (TDRs) and any activity/sector that is not opened to private sector investment. Besides the above, FDI is not allowed in plantations*. Subject to these foreign equity conditions, a foreign company can set up a registered company in India and operate under the same laws, rules and regulations as any India-owned company. India extends National Treatment to foreign investors with absolutely no discrimination against foreign-invested companies registered in India or in favor of domestic ones.

Service sector and entry routes: The table has been given in the following page.

Services Sector Ownership Limit Entry Route Remarks

Banking Foreign banks can take an equity stake of more than 5% (up to 74%) only in those private sector banks which have been identified by the RBI for restructuring Subject to compliance with RBI guidelines Includes 19 specified activities; subject to minimum capitalization norms and compliance with RBI guidelines Includes both Life and NonLife Insurance; subject to license from Insurance Regulatory & Development Authority Subject to minimum land area of 10 hectare for serviced housing plot and built-up area of 50,000 sq. mts. for construction development projects. Also minimum capitalization and completion norms. Minimum 3 years lockin from the completion of capitalization Prior clearance from FIPB. FII investment permitted up to 24%

Indian Private Banks

74%

Automatic

PSU Banks

20%

NBFCs

100%

Automatic

Microfinance

100%

Automatic

Insurance

26%

Automatic

Real estate and construction Townships Housing Construction Development Projects including Townships and housing Build-up Infrastructure Credit Information companies

100% 100% 100% 100% 49%

Automatic Automatic Automatic Automatic FIPB

Trading Retail Trade - Single 51% Automatic Brand Retail Trade - Multi Not Permitted Brand Trading (Export, Cash 100% Automatic and Carry Wholesale) Commodity Exchanges Tourism 49% FDI up to 26%, FII up to 23%. No single investor can hold more than 5%

Hotels, restaurants, beach resorts Tour and travel agencies Broadcasting TV software production

100% 100%

Automatic Automatic

Includes facilities for providing accommodation and food services

100%

Hardware facilities (Up linking, HUB, etc.)

49%

Cable network

49%

DTH

20%

Terrestrial Broadcast FM

20%

Subject to maximum foreign equity up to 49% including FDI/NRI/FII Subject to maximum foreign equity up to 49% including FDI/NRI/FII; FDI in news and current affairs channels which uplink from India is capped at 26% Subject to maximum foreign equity up to 49% including FDI/NRI/FII Subject to maximum foreign equity up to 49% including FDI/NRI/FII. FDI not to exceed 20% Subject to licensee being a company registered in India under the Companies Act, 1956

Terrestrial TV Not Permitted Broadcast Print Media Scientific/Technical 100% journals Other non-news/noncurrent affairs/specialty 74% publications Newspapers, Periodicals dealing 26% with news and current affairs Other Services Advertising and Film Courier and express services 100% 100% Automatic FIPB Includes all film related activities Includes all express postal services except the distribution of letters

Lottery, Betting and Gambling Defense and Strategic Industries R&D activities

Not Permitted Subject to security and licensing requirement; products to be sold primarily to the Ministry of Defense

26% 100%

FIPB Automatic

INDIAS FDI GROWTH

Boosted by the rapid pace of the economic progress, profitable investment regime, flexible procedural policies with the relaxations introduce in various sectoral, has in turns prove to be the horde for the international key players in finding the new investment opportunities in the India. Rising trend of the foreign direct investment is also signaling towards

the pivotal role playing by the foreign direct investment in the growth of the economy. The facts are also standing high as in the year 2007-08, foreign direct investment in India has crossed the mark of US$25 billion, which was 56 per cent more than what it was in 2006-07, i.e., US$15.7 billion. In the first half of the current financial year, 2008, India's foreign direct investment was registered to be US $341 billion. It has been projected that during the time period of 2008-09, the FDI of the country could attract US$35 billion. India as the Favorable Destination The result of the global survey conducted by Ernst and Young has put the India on the fourth rank of the most favorable destination after China, Central Europe and Western Europe, on the basis of the prospects of the different business locations. India has been put ahead of the United States of America and Russia. India received total 30 per cent votes but both America and Russia got 21 per cent votes each. The report of the National Council of Applied Economic Research (NCAER) has stated out In the first nine months of 2007-08, the net capital flows rose to US$ 83 billion from US$ 30 billion the country received during the corresponding period of the previous year. Those funds which have come as the FDI or the external commercial borrowing has sufficient to raise the portfolio funds between the time period of financial year 2007 and financial year 2008, the reserves have seen the rising trend by US$150 billion. Such influx of the funds has found to be sufficient for financing the current account deficit during the aforesaid time period. The Japan Bank for International Cooperation reveals that the India has emerged out as the 'favorable business point' for the Japanese investors. More flow of the foreign direct investment has been seen in the skill intensive and high value added service industries, especially those which are related to the financial services and information technology. Furthermore, India has come out as the international service industry with the more attraction of FDI, providing the more unassailable low cost opportunities, the prevalence of high technology and language skills and the high supportive government policies. Companies from across the world are now busy in evincing their interest into various sectors such as construction, energy, electrical equipments, telecommunication, automobiles etc.

Many automobile companies from Japan, France and America have come up with their manufacturing base in the India.

Presently, inflow of foreign direct investment in the real estate sector is estimated in between of US$5 billion and US$5.50 billion. It has been projected that the investment in the Indian real sector will touch the mark of US$20 billion in next 2 years i.e., by 2010. Some of the leading international players- IJM Corp (Malaysia), Lee Kim Tah Holding (Singapore), Salim Group (Indonesia), Emaar Properties (Dubai). Many foreign players are also interested in making their entry into the Indian arena. Like Wal Mart, Marks & Spencer, Rosebay etc. have the investment to around US$10. The surging force in the mobile service is presumed to reach at US$24 billion, as the cumulative FDI, in the telecommunication sector by 2010.

Government planning: From last 10 years, India's government has undergone the complete change in its outlook when it comes about the FDI. The government has taken up several measures for augmenting the injection of the FDI in the India. Some of the steps taken in this direction are

It is hoping that the government would soon take concrete steps in removing the disinvestment clause, which is the compulsory clause applicable on the international companies on various key sectors like chemical, food processing etc. The government may permit 49% foreign direct investment in sectors like apparels, gems & jewelry. Restructure of the Foreign Investment Promotion Board. Formation of the Indian Investment Commission for functioning as the 1 stop haven for the investor and bureaucracy. Raising the FDI Limit in many sectors like media, petroleum, telecom, aviation, banking etc.

FDI INFLOWS IN INDIA

The Sectorwise Analysis of FDI Inflow in India reveals that maximum FDI has taken place in the service sector including the telecommunication, information technology, travel and many others. The FDI Inflows to Service

Sector has helped the development of several industries in the service sector of the Indian Economy, such as Tele Communication, Financial and Non financial, Hotel & Tourism, and many others. FDI Inflows to Service Sector has been phenomenal in the past few years. Since the onset of the liberalization of the Indian economy in 1991, the country has experienced a huge increase in the inflow of Foreign Investments. The service sector in India has tremendous growth potential and as such it has attracted huge Foreign Direct Investments (FDI). The total cumulative amount of FDI inflows in India were Rs 563,656 million, about US$129,656 million over a decade from 1991 to January 2010. The country attracted FDI inflows of US$1.74 billion as at November 2009. That marked a 60 per cent increase that was achieved in November 2008 which stood at US$1.08 billion. The cumulative amount of FDI inflows tabulated from 1991 to end of December 2009 was US$127.46 billion. The Department of Industrial Policy and Promotion stated in its latest data. Equity FDI inflows into India stood at US$1.54 billion in 2009, December. Thus when tabulated cumulatively, a total sum of US $20.92 billion represents the countries FDI Equity inflows from April to December 2009. In the April to December, fiscal year of 2009, foreign investments in India inflows peaked at an impressive US$26.5 billion. That was in addition to the total FDI inflows of US$23.82 made in January to October of the same year. The Department for Industrial Policy and Promotion estimates that October last year had a 56% in FDI at a sum of US$2.33 billion. The Indian services sector attracted net FDI estimated at US$3.54 billion from April to December, 2009. Computer software and hardware sector got around US$595 million in the same period. US$2.36 billion marked the Telecommunications earnings in FDI over the same time. Leading investors into India with major FDI inflows were led by Mauritius with a staggering US$8.91, with Singapore coming a close second with US$1.7 billion. The US had an overall US$1.58 billion in FDI inflows into India over the same period of time. The Indian economy continues to perform impressively despite the biting Greek Crisis and its fears. The Retail market in the Country ranks as the fifth biggest worldwide. This has made India an attractive destination for foreign investments. The Country's total mergers and topped US$2,167 million when compared to the US$1, 324 million and US$223 million in the same time in

2008 and 2009. A survey by the Japan Bank for International Cooperation ranked India as the second most promising destination for foreign investments. The first position went to China. This survey was done amongst Japanese foreign investors in the Countries of study. The Indian has been significant in its encouragement of foreign investments in India for its emerging economy.

ROLE OF FDI IN ECONOMIC DEVELOPMENT

FDI has attracted increasing interest from developing countries because of the perceived benefits in terms of the injection of capital, technology and knowledge. This article analyses the main analytical underpinnings concerning the inter-relationships between FDI and host country economic development. We undertake a brief review of empirical studies on the issue

of FDI-led growth process. We highlight a very basic point emerging from the literature, that FDI is not a sine qua non for development. FDI-led growth is not a process that occurs automatically in the host country, and this reflects the complex nature of the interrelationships between multinational enterprises (MNEs) and host country economic agents. A vast majority of the existing empirical studies indicate that FDI does not always make a positive contribution to either economic growth or factor productivity. This is often because host countries are not able to capture the bulk of benefits associated with FDI without a certain threshold level of absorptive capabilities. Foreign direct investment has a major role to play in the economic development of the host country. Over the years, foreign direct investment has helped the economies of the host countries to obtain a launching pad from where they can make further improvements. This trend has manifested itself in the last twenty years. Any form of foreign direct investment pumps in a lot of capital knowledge and technological resources into the economy of a country. This helps in taking the particular host economy ahead. The fact that the foreign direct investors have been able to play an important role vis--vis the economic development of the recipient countries has been due to the fact that these countries have changed their economic stances and have allowed the foreign direct investors to come in and improve their economies. It has often been observed that the economically developing as well as underdeveloped countries are dependent on the economically developed countries for financial assistance that would help them to achieve some amount of economical stability. The economically developed countries, on their part, can help these countries financially by investing in these countries. This financial assistance can be channelized into various sectors of the economy. The channelization is normally done on the basis of the requirements of particular sectors. It has been observed that the foreign direct investment has been able to improve the infrastructural condition of a country. There is ample scope of technological development of a country as well. The standard of living of the general public of the host country could be improved as a result of the foreign direct investment made in a country. The health sector of many a recipient country has been benefited by the foreign direct investment. Thus it may be said that foreign direct investment plays an important role in the

overall economic and social development of a country. It has been observed that the private sector companies are not always interested in undertaking activities that help in improving the infrastructure of the country. This is because the gains form these infrastructural activities are made only in the long term; there are no short term benefits as such. This is where the foreign direct investment can come in handy. It can also assist in helping economically underdeveloped countries build their own research and development bases that can contribute to the technological development of the country. This is a very crucial contribution as most of these countries are not able to perform these functions on their own. These assistances come in handy, especially in the context of the manufacturing and services sector of the particular country, that are able to enhance their productivity and ultimately advance from an economic point of view. At times foreign direct investment could be provided in form of technology. Else, the money that comes in a country through the foreign direct investment can be utilized to buy or import technology from other countries. This is an indirect way in which foreign direct investment plays an important part in the context of economic development. Foreign direct investment can also be helpful in assisting the host countries to set up mass educational programs that help them to educate the disadvantaged sections of the society. Such assistance is often provided by the non-governmental organizations in the form of subsidies. The developing countries can also tackle a number of healthcare issues with the help of the foreign direct investment. The Indian economy is the third largest in the world as measured by Purchasing Power Parity, with a gross domestic product of US $3.611 trillion. When measured in USD exchange-rate terms, it is the 10th largest in the world, with a GDP of US $800.8 billion (2006). India is the second fastest growing major economy in the world, with a GDP growth rate of 8.9% at the end of the first quarter of 2006-2007. However, India's huge population results in a per capita income of $3,300 at PPP and $714 at nominal. The Indian economy is diverse and encompasses agriculture, handicrafts, manufacturing, textile, and a multitude of services. Although two-thirds of the Indian workforce still earns their livelihood directly or indirectly through agriculture, service sector is a growing one and are play 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 (multinational) companies for the outsourcing of their customer services and technical support. India is a major exporter of highly talented workforce in software and financial services, and software engineering. India adopted a socialist-inspired approach for most of its independent history, with strict government control over private sector participation, foreign trade, and foreign direct investment. However, since the early nineties, India has gradually opened up its markets through economic reforms by reducing government controls on foreign investment. The privatization of publicly owned industries and the opening up of some sectors to private and foreign investors has proceeded slowly amid political debate. India faces a burgeoning population and the challenge of reducing social and economic inequality. Even though Poverty remains a serious problem, it has declined considerably since independence, mainly due to the green revolution and economic reforms. FDI up to 100% is allowed under the automatic route in all activities/sectors except the sectors, which will require approval of the Government. The question that begs for an elaboration is that is high growth and inflows of FDI solve structural imbalance of Indian economy and will it succeed in improving the lot of bottom section of the Indian economy, which are living in abysmally poor socio-economic conditions in the countryside. The employment elasticity in the agriculture and industrial sector has gone down in the post-reform period, therefore, the creation of employment opportunities will be a gigantic task for the policy makers. FDI has come in the most capital-intensive sectors; therefore, the required employment opportunities could not be created especially for the manual and the semi skilled labor. High skilled workforce gained substantially. That is why high growth is called urban centric and thus has developed a wedge between the urban and rural economy. There is urgent need to fill this void. The process of Policymaking has matured in the democratic Indian polity since the independence. It is thus predicted that the growing problems will receive mature response and policy will be articulated in such a way to use FDI the way China has used to enhance economic growth while taking more and more investment to industrialize the rural sector of the Indian economy. The Indian economy has reached in the orbit of high rate of economic growth. It

is being widely acclaimed and considered as an emerging global economic power. The rate of growth recorded during the period 1950-51 to 2006-07 clearly indicated a tendency of steady upward trend. However, the decade of 80's emerged as a beginning of the high rate of economic growth or at least a dramatic departure from the past growth performance. This tendency had continued in the nineties and further growth stimulus has occurred in the early 21st century. Foreign direct investment is an investment made by a foreign individual or company in productive capacity of another country. It is the movement of capital across national frontiers in a way that grants the investor control over the acquired asset. As the third-largest economy in the world in PPP terms, India is a preferred destination for foreign direct investments (FDI). India's recently liberalized FDI policy permits up to a 100% FDI stake in ventures. Industrial policy reforms have substantially reduced industrial licensing requirements, removed restrictions on expansion and facilitated easy access to foreign technology and FDI. The upward moving growth curve of the real-estate sector owes some credit to a booming economy and liberalized FDI regime. A number of changes were approved on the FDI policy to remove the cap in most of the sectors. Restrictions will be relaxed in sectors as diverse as civil aviation, construction development, industrial parks, commodity exchanges, petroleum and natural gas, credit-information services, Mining etc. The future of Indian economy is brighter because of its huge human resources, rapidly upcoming service sector, availability of large number of competent professionals, vast market for every product, increasing impact of consumerism, absence of controls and licenses, interest of foreign entrepreneurs in India and existence of four hundred million middle class people. Today, India provides highest returns on FDI than any other country in the world.

ADVANTAGES AND DISADVANTAGE S OF FDI

With the development of economic globalization, foreign direct investment (FDI) is increasingly being recognized as an important factor in the economic development of countries. Although FDI began centuries ago, the biggest growth has occurred in recent years. This growth resulted from several factors, particularly the more receptive attitude of governments to investment inflows, the process of privatization, and the growing interdependence of the world economy. Foreign direct investment (FDI) occurs when a firm invests directly in facilities to produce and/or market a product in a foreign country (Charles w.l.hill, "International business"). FDI takes on two main forms; the first is a green-field investment, which involves the establishment of a wholly new operation in a foreign country. The second involves acquiring or merging with an existing firm in the foreign country. On the other hand, FDI is divided into two kinds; horizontal FDI (market-expansion investments) which is investment in the same industry abroad as a firm operates in at home; And vertical FDI (resource-seeking investments), which comprises two forms further; the first is backward vertical FDI investing an industry abroad that provides inputs for a firm's domestic production process. The second is forward vertical FDI in which an industry abroad sells the foods of a firm's domestic production processes. ADVANTAGES OF FDI: One of the advantages of foreign direct investment is that it helps in the economic development of the particular country where the investment is being made. This is especially applicable for the economically developing countries. During the decade of the 90s foreign direct investment was one of the major external sources of financing for most of the countries that were growing from an economic perspective. It has also been observed that foreign direct investment has helped several countries when they have faced economic hardships. An example of this could be seen in some countries of the East Asian region. It was observed during the financial problems of 1997-98 that the amount of foreign direct investment made in these countries was pretty steady. The

other forms of cash inflows in a country like debt flows and portfolio equity had suffered major setbacks. Similar observations have been made in Latin America in the 1980s and in Mexico in 1994-95. Foreign direct investment Also permits the transfer of technologies. This is done basically in the way of provision of capital inputs. The importance of this factor lies in the fact that this transfer of technologies cannot be accomplished by way of trading of goods and services as well as investment of financial resources. It also assists in the promotion of the competition within the local input market of a country. The countries that get foreign direct investment from another country can also develop the human capital resources by getting their employees to receive training on the operations of a particular business. The profits that are generated by the foreign direct investments that are made in that country can be used for the purpose of making contributions to the revenues of corporate taxes of the recipient country. Foreign direct investment helps in the creation of new jobs in a particular country. It also helps in increasing the salaries of the workers. This enables them to get access to a better lifestyle and more facilities in life. It has normally been observed that foreign direct investment allows for the development of the manufacturing sector of the recipient country. Foreign direct investment can also bring in advanced technology and skill set in a country. There is also some scope for new research activities being undertaken. Foreign direct investment assists in increasing the income that is generated through revenues realized through taxation. It also plays a crucial role in the context of rise in the productivity of the host countries. In case of countries that make foreign direct investment in other countries this process has positive impact as well. In case of these countries, their companies get an opportunity to explore newer markets and thereby generate more income and profits. It also opens up the export window that allows these countries the opportunity to cash in on their superior technological resources. It has also been observed that as a result of receiving foreign direct investment from other countries, it has been possible for the recipient countries to keep their

rates of interest at a lower level. It becomes easier for the business entities to borrow finance at lesser rates of interest. The biggest beneficiaries of these facilities are the small and medium-sized business enterprises. DISADVANTAGES OF FDI:

The disadvantages of foreign direct investment occur mostly in case of matters related to operation, distribution of the profits made on the investment and the personnel. One of the most indirect disadvantages of foreign direct investment is that the economically backward section of the host country is always inconvenienced when the stream of foreign direct investment is negatively affected. The situations in countries like Ireland, Singapore, Chile and China corroborate such an opinion. It is normally the responsibility of the host country to limit the extent of impact that may be made by the foreign direct investment. They should be making sure that the entities that are making the foreign direct investment in their country adhere to the environmental, governance and social regulations that have been laid down in the country. The various disadvantages of foreign direct investment are understood where the host country has some sort of national secret something that is not meant to be disclosed to the rest of the world. It has been observed that the defense of a country has faced risks as a result of the foreign direct investment in the country. At times it has been observed that certain foreign policies are adopted that are not appreciated by the workers of the recipient country. Foreign direct investment, at times, is also disadvantageous for the ones who are making the investment themselves. Foreign direct investment may entail high travel and communications expenses. The differences of language and culture that exist between the country of the investor and the host country could also pose problems in case of foreign direct investment.

Yet another major disadvantage of foreign direct investment is that there is a chance that a company may lose out on its ownership to an overseas company. This has often caused many companies to approach foreign direct investment with a certain amount of caution. At times it has been observed that there is considerable instability in a particular geographical region. This causes a lot of inconvenience to the investor. The size of the market, as well as, the condition of the host country could be important factors in the case of the foreign direct investment. In case the host country is not well connected with their more advanced neighbors, it poses a lot of challenge for the investors. At times it has been observed that the governments of the host country are facing problems with foreign direct investment. It has less control over the functioning of the company that is functioning as the wholly owned subsidiary of an overseas company. This leads to serious issues. The investor does not have to be completely obedient to the economic policies of the country where they have invested the money. At times there have been adverse effects of foreign direct investment on the balance of payments of a country. Even in view of the various disadvantages of foreign direct investment it may be said that foreign direct investment has played an important role in shaping the economic fortunes of a number of countries around the world.

DETERMINANTS OF FDI

One of the most important determinants of foreign direct investment is the size as well as the growth prospects of the economy of the country where the foreign direct investment is being made. It is normally assumed that if the country has a big market, it can grow quickly from an economic point of view and it is concluded that the investors would be able to make the most of their investments in that country. In case of foreign direct investments that are based on export, the dimensions of the host country are important as there are opportunities for bigger economies of scale, as well as spill-over effects. The population of a country plays an important role in attracting foreign direct investors to a country. In such cases the investors are lured by the prospects of a huge customer base. Now if the country has a high per capita income or if the citizens have reasonably good spending capabilities then it would offer the foreign direct investors with the scope of excellent performances. The status of the human resources in a country is also instrumental in attracting direct investment from overseas. There are certain countries like China that have taken an active interest in increasing the quality of their workers. They have made it compulsory for every Chinese citizen to receive at least nine years of education. This has helped in enhancing the standards of the laborers in China. If a particular country has plenty of natural resources it always finds investors willing to put their money in them. A good example would be Saudi Arabia and other oil rich countries that have had overseas companies investing in them in order to tap the unlimited oil resources at their disposal.

Inexpensive labor force is also an important determinant of attracting foreign direct investment. The BPO revolution, as well as the boom of the Information Technology companies in countries like India has been a proof of the fact that inexpensive labor force has played an important part in attracting overseas direct investment. Infrastructural factors like the status of telecommunications and railways play an important part in having the foreign direct investors come into a particular country. It has been observed that if the infrastructural facilities are properly in place in a country then that country receives a substantial amount of foreign direct investment. If a country has extended its arms to overseas investors and is also able to get access to the international markets then it stands a better chance of getting higher amounts of foreign direct investment. It has been observed in the recent years that a couples of countries have altered their stance vis--vis overseas investment. They have reset their economic policies in order to suit the interests of the overseas investors. These companies have increased the transparency of the legal frameworks in place. This has been done so that the overseas companies can understand the implications of their investment in a particular country and take the appropriate decisions.

CONCLUSION

Services sector has become important for many economies in the world and very important particularly for India. While for the medium and long term, it is important to accelerate the growth of industrial sector particularly manufacturing sector to catch up with the growth of services sector and maintain a decent and stable growth of agricultural sector, which is still subject to the vagaries of nature, in the short and even medium term, the sure bet for higher growth of the Indian economy lies in further accelerating the growth of the Services sector, which can be done with considerable ease compared to other sectors. Services sector growth can also complement growth in manufacturing sector. There are sectors where a lot of complementarities exists between services & manufacturing growth .g. Telecom Services and Telecom equipment manufacturing, electronic hardware & software where a hardware-software combination can accelerate growth of both hardware and software as suggested in the Medium Term Export Strategy (MTES) of the Department of Commerce, healthcare services and pharmaceutical sector, shipbuilding along with ship Repair & maintenance services and shipping where growth is sure with growth in volume of Trade, R&D services and pharma & biotech sectors, etc. Identifying and promoting the growth of these sectors with considerable backward forward linkages can help growth of both services and manufacturing and some manufacturing sub-sectors can ride piggy back on the Success of the complementary services to achieve quick growth. Thus the services sector has high potential. Till now, we have been focusing mainly on software. We have many such niche sectors in services. The recent growth in export of professional services is an example of the potential of other services.

BIBLIOGRAPHY:
http://www.wikipedia.org

Economic Times www.rediff.com

Google search engine samvak.tripod.com/foreigndirectinvestment-fdi.html www.bookstore.com FDI in India by lata M chakravarthy www.amazon.com www.questia.com

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