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TOPIC REVIEW:S Is Foreign direct investment necessary for economic growth ? discuss inrelation to two sectors. PARINITA S KAKADE 000720555

INTRODUCTION: Foreign direct investment has been strongly classified as a crucial factor in development of under-developed and developing economies. This article further highlights the actual contributions of foreign direct investment in influencing economic growth and further reformation of economies in transition after 1990. It further investigates the detailed advantages of foreign direct investment in various sectors of a developing or an underdeveloped economy in a broad perspective . Also discussed are the effects of foreign direct investment on two important sectors of a transition economy, in detail, which are manufacturing sector and service sector. The various major reforms in policies and laws of the nation are also briefly discussed and their effects on foreign direct investment have been investigated. WHAT IS FOREIGN DIRECT INVESTMENT ? Foreign direct investment is often regarded as an important cause for transformation of a developing country . it is an important factor not only in providing financial capital to a nation but also for exchange of technologies, knowledge and organizational operational theories from more developed nations (Hanson, 2001). Foreign direct investment has many great advantages to a country , like contact with local suppliers of developed nation, competition with them in export and manufacturing of goods, and learning and sharing of newer and better technologies, ideas and invention of advanced products. But, at the same time, there are also a few disadvantages like closure of organizations due to their incapability to compete or upgrade themselves to the foreign

entities. But , all this is relevant only when there are no legal or financial obstacles in the host nation (Lipsey, 2002). Foreign direct investment includes any long-term investment made by the enterprise that is not a member of the host nation. The idea behind foreign direct investment is to make a initial debut investment in any sector in the economy of the nation and then gradually keep expanding and investing in large chunks, to give leverage to the advantages to the host nation and at the same time reap benefits for their organization . these could be giving them better raw materials for production, cheaper resources, etc. foreign direct investment could be beneficial to both the investing company as well as the host nation. Balance of Payments Manual:(5) (BPM5) (Washington,
D.C., International Monetary Fund, 1993) , Third Edition (BD3) (Paris, Organization for Economic Cooperation and Development, 1996).

The investor gets a high and profitable returns which can be more than what he would have benefitted by investing in their own nation, better and cheaper resources, cheaper labor etc. and the host nation benefits in form of employment for population, increase in technological area, inflow of foreign currency, increase in the economic wealth of nation and increase in standard of infrastructure of the nation (Gorg and Greenwood, 2002). HISTORY: After independence , in 1947, economic policies of India were influenced by the colonial experience, which was seen by the Indian political leaders as exploitative, since it was seen as a cause for loosing independence. So, the policies of India inclined towards protectionist attitude, with strong emphasis on domestic industrialization , to privatization of industries and centralized plotting but the trade and foreign investment policies were relatively liberal , like mining , steel, machinery, and power plants , telecom company were made national after the independence period , by the central government. Since the mid 1960s , the use of advanced variety of agricultural resources like quality seeds, strong fertilizers, and improvised facilities have been used (Gorg and Greenwood, 2002). But after 1970, the government made in policies and laws and eased limitation on factor like expansion of companies, no limitation on prices, reduced taxes and also encouraged various industries.

MAJOR REFORMS IN FOREIGN DIRECT INVESTMENT POLICIES AFTER 1991: The UNCTAD (2007) stated that India is a new hot spot for foreign investments, the reason for this would be , in a sudden spurt of activity, the new statement of industrial policy in july 1991, which was the new industrial policy. It cast away all the norms and restrictions on multinational firms from investing in Indian industries . The new policy made changes like the following : From here on , industrial licensing will be removed for all sectors of industry, except the ones that were mentioned , disregarding the investment level. Except for few sectors of industry , this licensing was removed. The monopoly of public sector was also brought down to only eight sectors. But since1991, it has undergone many further alternative to include only 2 sectors under public sector i.e railway transport and atomic energy. New changes were also made in the norms for MRTP firms (monopolistic restrictive trade practices). Instead of concentrating on pre entry examination , emphasis was put on controlling and checking on the monopolistic and unfair practices. So before actions like takeover , expansions and mergers, the company would have to get permission of central government. The policy also removed the restriction on foreign invested . automatic approval was rights were given to the reserve bank of India, where the reserve bank of India approved foreign equity investment up to 51% . the current status of this change include around 48 sub-sectors, that add to the Indias major portion of manufacturing industry. Restriction like obtaining license for goods importing was removed for almost all capital goods , except some consumer goods. Before the new policy, the services sectors of India was mainly dominated by presence of public intervening. But the new policy, also opened new avenues for service sector, like banking and telecommunications.
Panagariya A(2004) India in the 1980 and 1990: triumph of reforms

EMERGENCE OF FOREIGN DIRECT INVESTMENT IN INDIA: The impression of role of foreign direct investment in transformation of an economy is now gobally accepted . In India, after the independence period(1947) , the political leaders of the nation, adopted a protectionist attitude in perspective of economy and trade of the nation during the 1800s, the lack of this attitude and liberal and lenient trade practices had resulted in change of rule of the nation to British rule and loss of independence due to this reason, protectionist attitude was adopted by the leaders. But during the pre liberalization period , due to transfer of Indian capital , had led to a massive drain of recourses and capital World Investment Report (2001:138). These factors led to encouragement of import substitution industrialization, public intervening in every section and stringent rules and norms in regards to trade and economy, with foreign entities. The economy then , was majorly consisting of extensive regulations, protectionism and public ownership. But, during the 1960s, the government felt the need for financial help , as the industries and economy of India showed slow growth and poor results . the reserve fund of India was falling short , result of backward technology and less skilled employment. Foreign direct investment bring in foreign capital and therefore an provide for greater resources to a transient economy and help in faster growth . this was realized during the 1980s and some policies were reformed . But major turn for Indian economy was seen in 1990s when all the barriers to foreign direct investment were abolished by the government to help provide for the balance of payment. The foreign enterprises helped to provide to the technological enhancement of the host nation, thus helping it. This was the emergence of FOREIGN DIRECT INVESTMENT in India.

ADVANTAGES OF FOREIGN DIRECT INVESTMENT TO THE THE TRANSITION ECONOMY OF INDIA: By now, it is a generally accepted fact that FOREIGN DIRECT INVESTMENT capital inflows help significantly to the transition entities. It can help enhance the growth of the host nation by: a) b) c) d) e) f) Contribution of Finance and capital for development of the host nation Increasing competition and export and manufacturing sector Creating lot of employment and job opportunities Enhancing the technological and skilled base of a nation. Provides better and cheaper resources to the host nation to the manufacturing sector Increasing contacts of local suppliers within Multinational Corporation.

These are broad advantages that were major contributors to the development of Indian economy after liberalization UNCTAD (1999) An extravagant increase in the foreign investment increase the amount of capital investment every individual foreign direct investment is not only a financial contributor but also makes contributions in the assets of a nation , knowledge and technology. These factors are direct contributors to economic development (World Investment Report, 2001:138). Even if the capital returns are less than their expectations, these other factors help in long-term to the economy of a nation. Foreign investor create such positive impacts that help in long term, even if indirectly , through joint ventures and mergers within local firms, affiliations, franchising , import and export of capital goods, improving technology of host country by sharing their knowledge and methods of operation. Knowledge spillovers are very important for growth of economy, as knowledge results in skilled labor, educated staff and improvised employment levels of a nation. Technological and skill knowledge makes a notable contribution in long term advantages of foreign direct investment. When technological knowhow and knowledge of the human resources is enhanced, only then will the quality of work output will increase. due to advancement of technology and increase

in the knowledge , the quality of products manufactured can increase to the level of multinational competition . Thus, this is another long term advantage of foreign direct investment. When foreign entities enter a developing nation like India and set up their firms in various sectors of economy, automatically they will be in need of local help like local human resources like local suppliers, buyers, manufacturers, managers, shareholders, employs and labor. This need generated a lot of employment and job opportunities in various sectors of the industry of the nation, like the manufacturing , production and service sector. The generation of such opportunities creates competition in the market for achieving the highest job s available. And it also reduces the unemployment and illiteracy rates of the nation, indirectly making a very important contribution towards development of the nation. When unemployment is lessened , automatically, it leads up to the increase in the per person income . this statistics show the growth of capital of Indian economy Wang and Bloomstrom (1992). Where there is participation of foreign entities in a developing economy, they bring in a lot of resource outlets for the host nation. Different avenues of resources are opened up . the local suppliers or manufacturers can get access to more technologically enhanced raw material available in foreign countries that are more developed . also, these resources may prove to be more cheaper or more rewarding than local resources , as they may make their product more advanced and competitive and desirable in the market Wang and Bloomstrom (1992). The local suppliers can develop long-term contacts with foreign suppliers and get to know the various tricks of trade , operational methods and marketing tactics . also they can improve their quality of service and provide better service, service support and service recover to the consumers. Economic survey of Europe(2001)


Foreign direct investment is a multi-advantageous and major contributing factor in development of an emerging nation it affects various segments of the economy in different ways. The economy of a nation is divided into 3 segments , Primary sector, secondary sector and tertiary sector. Some effects of foreign direct investment can be explained as below.

The primary sector of a nation would include all the occupations making direct use of the natural recourses. This sector mainly included all the first occupations like farming, fishing, animal husbandry, horticulture, floriculture, forestry, mining and oil industry. The primary sector is generally the most important sector of a developing nation or an underdeveloped nation. Like , agriculture is the backbone of Indian economy till today. Its the major source of income to the economy of India. Similarly, many developing countries have their major source of income from oil and gas extraction, or logging of forests or mining Cardoso and Faletto (1979) . Foreign direct investment has made a great impact on this sector. When foreign entities made their entrance in a developing economy, they need local resources . these resources are mainly from the this primary sector. All the natural resources come under primary sector. Thus, demand for these resources is created resulting in price hike of these materials. This demand is for bulk material used for mass manufacturing of further products. Thus, it leads to direct earnings of the local population and indirect increase in funds of a nation in form of taxes. Also, when demand for raw material increases in international market, the export value of these resources also increases. Thus, trade is enhanced and it results in positive export competitiveness. foreign direct investment has made major contributions in the primary sectors of developing nations who have reformed their policies to accommodate foreign direct investment Cardoso and Faletto (1979) .

the secondary sector is that sector of an economy that succeeds the primary sector. Generally, all the occupations that use the results or outputs of primary sector as raw material

and manufacture finished goods . this sector mainly consists of manufacturers . this sector is also called as the manufacturing sector. In this sector, the manufacturer takes the outcomes of the primary sector , and makes them in to finished goods , ready for commercial use . usually , heavy machinery is used for this process of manufacturing. Many of these manufacturing companies require a lot of energy , machinery, labor and space for production. Also, some negative outcomes of this sector are pollution and environmental harm. But its also responsible for positive effects like decrease in un-employment, enhancement of trade and up gradation of industry Grog and Greenaway (2002) . this is the sector that was the most affected in a positive way by the foreign direct investment. The manufacturing segment got a new dimension, a new meaning after the emergence of foreign direct investment. It is a general observation that foreign direct investment made a lot of factors of industrialization change totally for the good. Foreign companies invested mostly in the goods manufacturing sector of a nation through direct involvements or mergers or takeovers. They created a demand for new product that had to be produced by the local manufacturers. This demand made things move at a quicker pace in the industrial sector. New technologies were introduced and shared by the foreign companies. This led to production of better and quality products. Various kinds of products were launched by different competing companies. Foreign direct investment resulted in fierce competition between manufacturers to provide quality products at lower prices. it also increased trade competition for a healthier economy. Manufacturing sector benefited the most from the foreign direct investment inflows and change of government policies in regards to foreign direct investment. To compensate for the negative effects on the environment, the foreign investors also took corrective actions like green campaigning and water purification projects and tree plantations Grog and Greenaway (2002) .

Tertiary sector of an economy means the service sector. This sector consists of all the service related occupations like the tourism industry, hotel and food industry, telecom sector and the marketing and advertisement sector. This relatively benefitted from the foreign direct investment introduction in the economy. The service sector benefitted in form of advanced and enhanced knowledge of service offerings. Due to foreign involvement and increase in trade activity , the hotel and tourism industry benefitted directly. In India, telecom industry saw a major and drastic change after introduction of foreign direct investment.


EDUCATION: There is complementarily between foreign direct investment and education system of a nation. The education system of a country is a very influential factor in determining the future of a nation. Only if the education system of a nation is sound and compatible can the nation make any kind of progress in future. Its directly in relation with each other. Foreign direct investment asks for skilled and professional local employees. Only when the population of the nation is qualified and educated to cope up with the responsibilities of a multi-national company, will the company employ the person. To qualify for the position, the need for higher education quality will be felt thus technologies and arena of knowledge is shared between the investing organization and host country. This also helps in upgrading the schooling and educational organizations of the nation. Only when demand for qualified and skilled professionals increases, will there be a positive change in education system. TRADE: trade is a one of the most important sectors of any economy. Trade facilitates the exchange of goods, services , ideas and innovations and knowledge of two countries. It also helps the nation to co exist in harmony and peace . it helps maintain good relationships with other nations . trade is a necessary sector as it helps one country to export its produce to another country where it is not available and also facilitates import of unavailable goods Smarzynska (2002) . Foreign direct investment plays a important role in enhancing the trade activities of a nation. When foreign entities introduce new products and services in a nation , they automatically create a market place for that product in the host nation. When there is an increase in demand for the product, the manufacturers have to start the production of the product in the host country. Sometimes this may result in need of resources that need to be imported from the foreign countries. Thus, import of higher quality recourses is done. When the new product or a service is manufactured or introduced in the market, it creates competition at


market level and also at export level with competing nations to sell the similar products at various prices, quality and conveniences of consumers demand. Trade brings in more foreign currency resulting in more economic growth (Smarzynska, 2002) .

Taking the example of Indian economy as a developing nation, this report concluded that foreign research development plays a very important role in the economic development of a under-developed or a developing nation. During the pre-liberalization of India, it suffered a loss of important natural resources and capital and so the nation adopted a protectionist attitude publication of industry and stringent laws were adopted but were done away with slowly as the country realized the need for foreign investors in the nations economy , due to depleting funds and stagnation of technology and knowledge. The nation adopted to the change in the global markets and reformed its policies drastically to accommodate foreign direct investment. This brought on a positive turn to the economy of the nation. Foreign direct investment proved to be beneficial to almost all three sectors of economy. Foreign direct investment resulted in economic growth, better infrastructure and advancement of the nation. It helped the growth of financial capital of the country rapidly . there were only few disadvantages of Foreign direct investment , which can be compensated by all the positive results of Foreign direct investment.


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