Foreign direct investment, or FDI, also known as direct investing, plays an essential role in boosting a country's economy. It increases employment, exports, and imports, and offers numerous other benefits to host countries and investors.
Direct investing also facilitates the transfer of knowledge, technological skills, and innovation, leading to improved productivity, market competitiveness, and product quality. Read on to learn about direct investment, the different types of FDI, and more.
Foreign direct investment refers to the investments made by an individual, business, government, or entity from one country to another. These cross-border transactions improve:
Skill enhancement of human capital
Foreign direct investment does not mean just investment of capital in the country. It includes investment in equipment, technology, knowledge, management, and other such options.
Investors generally consider open economies that have a high potential for growth and offer a skilled workforce for their target projects. They are generally the decision-makers who are actively involved in the management of the firms/projects.
Here are some of the benefits of foreign direct investments:
Foreign direct investment is the primary source of external capital for a country. Thus, FDI inflow boosts the manufacturing and services sector of a country. This eventually results in job creation and greater economic growth.
FDI infusion in a country facilitates training and upskilling of human capital. It may also have a ripple effect, benefiting the economy as a whole.
The investment country generally receives the latest financing tools, operational parameters, and technologies with FDI infusion. The introduction of advanced technologies makes the invested industry more efficient and effective.
While FDI offers a host of benefits, there are some drawbacks, too. These include:
The infusion of foreign capital can hinder domestic investment. Because of FDI, investors in the country may lose interest in investing in domestic products.
FDI can also have a negative impact on the health of foreign exchanges in a country. This may also negatively impact exchange rates with the other country.
Many countries of the Global South that have experienced colonialism in one sense or the other see FDI as a threat to their countries’ economic self-determination. Some even see it as modern-day colonialism.
Here are different types of foreign investments in India.
Horizontal FDI occurs when a company expands operations in another country. Here, the firm replicates the functions it did in its home country. Offering the same products and services in a new market is one of the main aims of Horizontal FDI.
For instance, a fast-food company may open its restaurants in different regions to increase its stores and attract new customers.
Vertical FDI is seen when a business invests in a foreign country to enhance the supply or manufacturing of goods and services. For instance, an American clothing brand may purchase cotton from India for manufacturing and supplying clothes in its home country.
Conglomerate FDI happens when a company expands its operation in a foreign country by investing in various sectors unrelated to its existing business operations. The primary goal of this FDI is to boost one’s market and gain new customers.
For instance, if a perfume brand starts a clothing line in a different region, it would be a conglomerate FDI.
Platform FDI occurs when a company expands its operation in a foreign nation only to sell its offerings in another country. These countries, where businesses invest, are used as a location for manufacturing raw materials or final goods.
Establishments choose this type of FDI to avail of tax benefits and get cheaper labor to lower operating expenses. Generally, platform foreign direct investments are made in countries with free trade that need these funds for their economy.
For instance, many high-end clothing brands manufacture clothes in countries like Bangladesh and sell them in India, among other nations.
India has seen quite a steady inflow of FDIs, with most sectors receiving substantial amounts of foreign investment. For example:
In June 2020, Google acquired 7.73% of ‘Jio Platforms’ for $4.5 Billion
Japan’s SoftBank Group invested $150 Million in the online ed-tech firm, Unacademy in September 2020
In September 2020, US equity and VC firm, Silver Lake invested $500 Million in Byju’s
Here is a detailed overview of the top benefits of direct investing:
Direct investing significantly contributes to the economic growth of a nation by bringing in additional capital, enhanced technology, expertise, and more. FDI helps enhance the productivity and efficiency of various sectors. These investments also lead to higher imports and increased production, ultimately boosting the economic growth of host countries.
Foreign direct investment leads to an increase in the production capacity of a country. This helps the nation boost the manufacturing or production of goods and services. Elevated production and manufacturing, in turn, lead to improved capacity for exports.
Another benefit of foreign direct investment is the knowledge and skill enhancement of people. Through FDI and the opportunity it brings, individuals can understand and learn the manufacturing, production, and export processes of various goods and services.
They can then use these technical learnings to enhance their knowledge and skills. This ultimately promotes the overall development of the host country's workforce.
When entities invest in foreign countries, they need to hire local talent to build their workforce for smooth operations, thereby creating employment opportunities. This is also what makes FDI a win-win situation for the parties involved.
Another benefit of foreign direct investment is the development of the financial and technological sectors of the host country. Foreign companies often bring new technological tools, techniques, manufacturing units, and R&D capabilities, along with innovative ideas.
The development enabled by these factors also encourages other foreign financial institutions to expand their operations in the host country.
In conclusion, direct investments are a profitable avenue for investors and host countries. The growth of FDIs in India has risen in the last few decades.
Since the government has opened some sectors for 100% foreign direct investments, the rise of these investments is expected to continue. This will ultimately benefit the consumers, companies, and the country’s economy.
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The four types of Foreign Direct Investment (FDI) are Vertical FDI, Horizontal FDI, Platform FDI, and Conglomerate FDI.
Direct investing can be done through the automatic route or the government route. The former does not require government approval.
For the fiscal year 2023, the computer hardware and software sector saw the highest FDI inflow. Other sectors include the services sector, trading, automobile, drugs and pharmaceuticals, and telecommunications, among others.
Direct investing is prohibited for gambling and betting, lottery business, chit funds, and more.
FDI objectives include market expansion, cost reduction, diversification, resource access, technology transfer, brand enhancement, regulatory benefits, competitiveness, long-term growth, government requirements, and economies of scale, among others. These aims drive investments, stimulate economic growth, create jobs, and bolster technological advancement in host countries.
FDI is crucial for India's growth, offering capital, technology, and job opportunities. It strengthens infrastructure, balances payments, and fosters global integration. By attracting foreign investments, the Indian Government diversifies funding sources, promotes rural development, and enhances competitiveness.