The Indian Economy Blog

March 26, 2009

Deregulation In India During These Tough Times

Filed under: Business,Regulatory reforms,Retail — Prashant @ 6:00 am

IEB reader Suresh Dalai sends us this thoughtful guest post

As with most other places in the world, India is facing a significant economic slowdown that is aggravating an already serious liquidity crisis. The government is finding it increasingly difficult to implement additional fiscal or monetary measures, and as a result, has tried to bring liquidity by lifting FDI restrictions and attempting to lure back foreign investment. But politics is getting in the way. The government cannot allow political expediency to derail the progressive lifting of FDI restrictions, even during tough times like these. Many international companies are still looking to enter the country, despite facing enormous uncertainties about their financial health in their existing markets. With a more open India, they will enter and bring with them a significant amount of capital investment and managerial expertise. This will help India pull out of the recession in the short to medium term and also help establish the conditions to sustain economic growth over the long term. Indian companies will use the additional funds from their foreign partners to keep their staff employed and continue with capital expansion plans. Indian companies with global ambitions will have greater access to world-class infrastructure and managerial knowledge that will enable them to better compete around the globe. With increased competition, Indian consumers will be able enjoy the highest-quality products at the lowest cost.

Take the retail sector, for example. Large international retailers such as Wal-Mart and Tesco want to enter India, but have been mostly reluctant so far since they cannot have majority ownership. The government in early February tried to ease this restriction by allowing foreign companies to make indirect investments through Indian companies. However, merely two weeks later, amidst pressure from certain political circles, the government backed off and stated that these indirect investments will also be subject to sectoral ownership limits.

These limits are hindering India’s economic progress, both in the short- and long-term. Many Indian retailers have recently run out of cash to pay their employees, keep existing stores in operation, and open new ones. Foreign investment can help meet these short-term needs. In fact, some Indian retailers are now seeking foreign partners to obtain additional liquidity and attract consumers with the strength of the partner’s global brands. For example, Tata-owned Trent recently teamed up with Spain’s Inditex to open Zara outlets in India.

Besides fulfilling short-term needs, lifting regulations will help build the foundation for India’s continued development. It will allow global retailers to make large investments in cold-storage, distribution centers, and transportation in India. The Indian farmer, consumer, and retail employee will all benefit. For example, an estimated 35% of produce currently spoils on its way from the farm to the market, due to slow transportation and lack of cold storage capabilities. Investment by foreign multinationals will help rectify this situation. In the process, the Indian farmer will have more to sell. The consumer will have more product choices and greater value for money. Many retail jobs will be created.

The automotive sector is a great example of where India gradually lifted regulations, foreign companies entered, and domestic companies, workers, and consumers tremendously benefited. Until 1983, the government protected domestic auto manufacturers with high import tariffs and a ban on foreign investment. As a result, consumers had only two models from which to choose, both of which were high-priced and based on outdated technology. Then the government permitted a Japanese automaker, Suzuki, to partner with state-owned automaker, Maruti Udyog. The Japanese brought with them technology and efficient manufacturing processes, significantly improving productivity and quality. Industry output grew at 13% per year from 1983-1993, compared to 1% per year in the decade before. In 1992, the government further eased restrictions on foreign entrants. Many more global manufacturers subsequently entered the market. Today, more than 20 major automotive manufacturers operate in India, selling hundreds of models and variants. The sector is employing an estimated 10 million people directly and indirectly, which is on par with the number employed in the IT sector. In addition, over the last few years, auto prices have been decreasing by 8 percent to 10 percent annually. India is now positioned to become a major manufacturing hub for global players such as Toyota, General Motors, and Ford.

In this time of cash-poor consumers, continued intense global competition, and beleaguered shareholders seeking better returns, multinationals are eagerly searching the globe for sales and profit. As India further opens, more multinationals will certainly enter. What will be good for the consumer will also be good for Indian businesses and workers.

Full disclosure: Suresh is an independent management consultant based in New York city, with a focus on the retail and FMCG sectors. Prior to this, he worked with Unilever’s Home and Personal Care Division.

6 Comments »

  1. I totally second the opinion that allowing foreign investors can prove to be a major step in providing considerable respite in this time of crisis. Apart from increasing consumption space, bringing in liquidity and providing employments the foreign investors will also pave ways to greater exposure of the Indian market to the world. India has always been a major consumption hub and this resource has not being exploited fully yet.
    But on the other side of the coin, the government is perplexed . No doubt, foreign participation can be a boon now ,but chances are high that they will overthrow the domestic markets completely which are struggling desperately to be alive.May be this is one of the reasons why the government is hesitant in allowing foreign investors.

    Comment by Biswajyoti Das — March 30, 2009 @ 6:48 pm

  2. Sources say that in 2009 globally FDI is going to significantly drop. In this scenario, can India afford to be choosy about which sectors it allows / disallows FDI?

    Comment by Kiran — April 14, 2009 @ 2:19 pm

  3. Thanks for this thought provoking write up. I see a bright ray of hope in between the grey clouds of economic slowdown. After general election, centre Govt. is expected to relax many norms as the gesture for the foreign investment.

    Comment by Adv. Pragmaticoutsourcing — April 19, 2009 @ 3:01 pm

  4. It is not necessarily so that domestic companies will fail once doors are open to foreign companies. Many domestic competitors have important advantages that foreign entrants cannot replicate — knowledge of the product features that local consumers actually need, how to communicate these features in ways that these consumers will understand, relationships with government agencies and regulators, and ways to keep operating costs low that foreign companies would not even consider. Historically, many domestic companies have survived and thrived after deregulation — in the deregulated automotive sector, Maruti and Tata still dominate, due to their building automobiles that are well-suited to Indian consumers’ needs and desires. In China, in the completely deregulated retail sector, domestic companies such as Wumart and Lianhua still dominate despite entrants of foreign behemoths Wal-Mart and Carrefour. The added foreign competition has made the domestic companies faster and stronger.

    Comment by Suresh Dalai — April 26, 2009 @ 9:40 am

  5. I think Suresh’s insights are spot-on. It’s high time the Indian government took serious measures to liberalise the Indian Retail sector. I am sure it would be a win-win for both the corporates as well as the consumers.

    Comment by Sujoy — May 12, 2009 @ 9:27 am

  6. Sujoy makes a very interesting point….”win-win”!!
    It takes us back to the 80′s when the only automobile company Maruti in India was taken aback by the the Government’s decision to allow foreign investors to invest in India. But it became a blessing in disguise when Suzuki after its coming to India led to the inception of Maruti Suzuki , and the rest is history.
    so the bottom line is that …deregulation can lead to such tie-ups and can work wonders for the domestic companies…in other words a win-win situation.

    Comment by Biswajyoti Das — May 16, 2009 @ 1:31 pm

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