MS research note - India Economics: Government Liberalizing FDI Caps Further to Improve Investor Sentiment

India Economics
Government Liberalizing FDI
Caps Further to Improve
Investor Sentiment
What's new: In a move to improve investor confidence,
the government on July 16 announced further
liberalization of caps on foreign direct investment (FDI).
In addition to hiking FDI limits in some sectors, the
government has changed the FDI route to the automatic
route (i.e., only notification to the Reserve Bank of India
is required) compared with the earlier route of requiring
approval from the Foreign Investment Promotion Board
(FIPB). For eight of the 13 sectors, the government has
changed the FDI route to automatic, and for four sectors,
it has liberalized the cap. With regard to insurance, the
cabinet last year approved hiking the FDI limit to 49%;
however, the proposal is pending Parliament’s approval.
Thus, the latest announcement on FDI in insurance is a
reiteration of the same. Some key points below:
• Telecom: FDI cap raised to 100% from 74%
• Defence: 26% FDI through FIPB and FDI
above 26% which involves state-of-the-art
technology proposals that will require approval
of Cabinet Committee on Security (CCS)
• Asset reconstruction: FDI cap raised to 100%
from 74%
• Credit information companies: FDI cap
raised to 74% from 49%
Sectors where the FDI route has changed to automatic
are: petroleum & natural gas, power exchanges, stock
exchanges, commodity exchange (FDI limit at 49% for
each), telecom (FDI up to 49%), FDI in single-brand
retail (FDI up to 49%), credit information companies (FDI
up to 74%), tea sector (FDI up to 49%), and asset
reconstruction companies (FDI up to 49%)

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Our Views: The liberalization of FDI caps is another small
measure by the government to support investor sentiment.
With the high current account deficit (4.8% of GDP in
F2013) and real short-term interest rates (on CPI) close to
zero, India’s currency has been under severe depreciation
pressure since the US Fed relayed its decision to taper
quantitative easing in the second half of the calendar year.
We believe that policy makers are choosing to respond to
these developments with a three-pronged strategy:
1) Continue to announce policy reform measures to support
the confidence of foreign investors – this decision to
liberalize FDI caps is another step in this direction.
2) Tighten monetary policy – On the evening of July 15, the
RBI announced quantitative tightening measures to
stabilize the currency. Please see our comment on the
quantitative tightening measures announced, India
Economics: RBI Announces Quantitative Tightening,
Increasing Downside Risks to Growth.
3) Augment debt inflows – The government has so far not
announced any measure in this area, but we think that there
is a good probability that it could soon announce a plan to
raise foreign debt funds through (a) a government-owned
company or institution raising foreign currency bonds, (b)
raising foreign currency deposits from non-resident Indians
and (c) sovereign bond issue.
Bottom line: We believe the government and the RBI will
likely continue with a combination of the above three
measures to defend the currency against depreciation
pressures. While we think these measures will reduce some
pressures, the direction will still be driven by the trend in the
US dollar and real rates until India's current account
continues to stay higher than 2.5% of GDP and its CPI
inflation remains above 7%. Currently, the underlying
current account deficit is around 4.5% of GDP, and CPI
inflation is 9.9%.