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India’s Economy: Need for Foreign Aid

Last spring, 530 million people in the world’s largest democracy voted and elected a candidate, Narendra Modi, who has promised to replace the corruption of the previous coalition government with good governance. Now, the rest of the world is hurrying to discern what “good governance,” or “surajya” in Marathi, means to Prime Minister Modi.

In the United States, a subcommittee of the Senate Foreign Relations Committee held a hearing last Wednesday titled “Indispendible Partners – Reenergizing U.S.-India Ties.” As the title suggests, Chairman Tim Kaine and Ranking Member James Risch sought to determine both the import of “good governance” and the course of action that will secure a successful U.S. partnership with the new Indian government. In producing possible answers, many of the hearing’s witnesses agreed on one key point: India must grow economically. This requires foreign aid.

However, the actions of the previous government in India fomented investor skepticism, and this skepticism remains strong today. In the past, the common deterrents to foreign business were all there: political corruption, unwieldy bureaucracy and complex land acquisition procedures. The Economist noted in 2011 that foreign direct investment, which India relied on for capital, was decreasing at an alarming rate.

The problem worsened when the government passed a budget in 2012 that alienated the largest foreign investor in India, Vodafone, by proposing to tax them retroactively. In addition, the government aimed to keep foreign investors from routing money through Mauritius where taxes were low. Outflows shot up as a result with investors selling nearly $1 billion in investments, according to The Economist. The situation rebounded somewhat a few months later, but even today the World Bank ranks India as only 134 out of 189 in its ease of doing business index.

The country needs to become a more attractive environment for foreign investors than it has been. Two years ago, the country’s GDP growth rate was eight percent. Now, it’s below five percent. To reverse this decline, India needs many improvements. Two of the most necessary are infrastructure development and access to capital (for building an industrial base,) as Richard Rossow, a senior fellow at the Center for Strategic & International Studies, noted at the subcommittee hearing. Foreign investment can provide both.

The Modi government agrees that India needs more foreign investment, listing the attraction of investors as a key priority. On July 10, Finance Minister Arun Jaitley presented his federal budget in the Indian Parliament. The reaction of the investing community has been mixed.

On the one hand, the new budget increases the cap on foreign direct investment and emphasizes the need to develop infrastructure. Moreover, some industries are being opened up to more foreign ownership. On the other hand, the FDI cap increase is modest. It is so modest that the former finance minister described the new budget as a “continuation of his policies”— a discouraging statement for investors. And yes, infrastructure was emphasized, but in words rather than resource-allocation.

Some have interpreted the budget as a maintenance of the status quo, but perhaps the budget’s moderation is merely a sign that change will be incremental in India. Every potential investor will require patience then to take advantage of possible reforms in the future.

American investors should look out for one development in particular though. During the past five years, India and the United States have tried and failed again and again to create their Bilateral Investment Treaty. Unlike the previous government, the Modi government seems committed to completing the BIT. If negotiations succeed, American investors would have a green light to invest in infrastructure in India.

Lastly, humanitarians should enthusiastically seek for India to develop through investment. If the country can shore up its middle class, it can alleviate its poverty problem. As we’ve seen, foreign investment is imperative to building the middle class. For example, one of India’s great (tragic) ironies is how much food gets wasted (one-fourth of all food products in 2011) in a country full of starving people. Foreign investment in supermarket chains can provide improved transportation from field to shopping-cart that can reduce that waste to one-tenth of all food products.

– Ryan Yanke

Sources: U.S. Senate Committee on Foreign Relations1, U.S. Senate Committee on Foreign Relations 2, U.S. Senate Committee on Foreign Relations 3, U.S. Senate Committee on Foreign Relations 4, U.S. Senate Committee on Foreign Relations 5, U.S. Senate Committee on Foreign Relations 6, The Economist 1, The Economist 2, The Guardian 1
Photo: The Guardian 2