FDI reforms positive for rupee, current account deficit: analysts

Analysts have hailed the government's move to ease foreign direct investment (FDI) norms in as many as 12 sectors, saying the decision will help the rupee in the short-term and also fund the current account deficit.

"Though, I don't expect foreign capital to start flowing in immediately, the decision can help strengthen the currency in short-term due to change in sentiment. However, a favourable impact in the medium-to-long-term will depend on continuous reform measures, which in turn will alleviate some current account deficit financing issues," said Devendra Kumar Pant, chief economist and head of public finance at India Ratings.

However, Morgan Stanley's Chetan Ahya, in a note, said Tuesday's announcement is another small measure by the government to support the investment sentiment and called for more sustainable steps to stem the rupee slide and arrest the current account deficit, which stood at a record high of 4.8 per cent last fiscal year.

Singapore-based DBS Research said the steps show that the reform machinery is back in motion again.

"These moves should provide some incentive for private sector players to seek offshore partners. However, to enable these interests to translate into material inflows, the infrastructural bottlenecks will need to be ironed out," Radhika Rao of DBS said in a note.

Mr Pant warned against the increasing dependence of the economy on volatile portfolio and debt-related capital inflows to finance the current account deficit.

The Indian currency has lost more than 9 per cent against the dollar since the beginning of the fiscal year, thereby becoming the worst performing currency in Asia.

He noted that on macro-front "a strengthening rupee will not only support the leveraged corporate sector, but also help the government adhere to its fiscal consolidation plan as the subsidy bill, especially in the oil and fertiliser sectors, is susceptible to exchange rate variation".

The government on Tuesday hiked FDI in a dozen sectors, including 100 per cent in telecom and higher caps in insurance and defence sectors, to boost the sagging economy.

Although the FDI caps on most sectors remain unchanged, major benefit will originate from the route through which overseas investment is allowed, he said.

In various sectors on which the decision has been taken, FDI will flow from the automatic route as against the earlier FIPB route, which can speed up the process, he said, adding telecom and insurance are likely to benefit the maximum from the decision.

Pant noted that just having 100 per cent foreign holding will not help the telecom sector as the problem with this once-sunshine industry is regulatory uncertainty.

"FDI inflow in the telecom sector would depend more on the regulatory environment than the change in FDI route," he said.

"We believe the government is choosing to respond to these developments with a three-pronged strategy: 1) continue to announce reform measures to support the confidence of foreign investors and liberalised FDI regime is another step in this direction; 2) tightening monetary policy, Monday's RBI steps are quantitative tightening to stabilise the rupee; and 3) augment debt inflows," said Mr Ahya of Morgan Stanley.

Noting that the government has so far not announced any measure to augment debt inflows, he said the Centre could do this through (a) a state-owned company or institution raising foreign currency bond, (b) raising foreign currency deposits from NRIs and (c) issuing sovereign bonds.

On increasing FDI in telecom to 100 per cent from 74 per cent, consultancy firm PwC said the measure will have a positive impact on the sector and foreign investors.

"Foreign investors will no longer need to partner with local investors to comply with regulatory requirements. Foreign investors will be able to infuse equity based on business needs instead of taking the debt route for funding growth which will bring down debt burden and improve profitability," said Goldie Dhama, executive director for tax and regulatory services at PwC India.

The FDI decision was urgently needed given the macro fiscal situation, said Paresh Parekh, tax partner for retail and consumer products at Ernst & Young India.

"Foreign investors, especially existing ones, would explore increasing stakes wherever possible. Also, foreign single brand retailers having existing distributor or franchise business here will explore forming JVs under automatic route," Mr Parekh said.