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Published by Enhelion, 2019-11-20 12:23:51

Module 5

Module 5

MODULE 5

LAW RELATING TO FOREIGN INVESTMENT (FDI) IN INDIA

5.1 INTRODUCTION:

FDI is defined as investment by a resident entity in one economy that reflects the
objective of obtaining a lasting interest in an enterprise resident in another economy.
The lasting interest implies the existence of a long-term relationship between the
direct investor and the enterprise and a significant degree of influence by the direct
investor on the management of the enterprise. The ownership of at least 10% of the
voting power, representing the influence by the investor, is the basic criterion used.1 It
is an accepted norm these days that FDI plays a crucial role in industrial development
of both developing and developed countries alike and it helps in boosting economic
growth globally. An example for this is total factor productivity growth. Productivity
growth is often popularly associated with the invention of new products, tools, and
technical processes that not only reduce the cost of extracting or producing raw
materials and energy but also reduce the cost of transforming those inputs into
finished products.2 Moreover, quantities of inputs and outputs are easier to measure in
manufacturing than in complex service industries, such as health care. Researchers
therefore tend to concentrate on the production of good and on manufacturing, in
particular in seeking sources of productivity growth. Now a day’s FDI comprises sets
of inter-connected operational based business decisions by multinational enterprises
in response to the ever changing global and regional competitive and strategic factors
and considerations. Therefore FDI policies have always been analytical and
regulatory. It is required to manage the landscape of MNE’s FDI operations to
maximise positive externalities accruing to the host countries as well as optimising
efficiencies involved in FDI. According to UNIDO (2003), “the policy framework for
FDI is a crucial part of the overall national strategy for industrialization.” As the ratio

http://www.oecd

1

OECD Fact book 2011-2012: Economic, Environmental and Social Statistics,
en/04/02/01/index.html?itemId=/content/chapter/factbook-2011-38-en

2 Frank L. Bartels Unit Chief, Strategic Research and Regional Analyses Unit UNIDO; FDI Policy
Instruments: Advantages and Disadvantages;
http://www.unido.org/fileadmin/user_media/Publications/RSF_DPR/WP012009_Ebook.pdf

of inward FDI to GDP is, in general, relatively high for developing countries in
comparison to industrialized countries, the role of well-designed FDI Policies in
economic development cannot be overestimated. 3

When one talks about the advantages and disadvantages of FDI Policies it is
important to understand from a policy perspective the pros and cons of the aforesaid
policy and the considerations and opinions of those who gain and lose from its
implementations. This cannot be treated as a trivial issue and cannot be done only by
depending on demographic structure of employment distribution of labour force in the
economy but also on the changing nature of the relative balance of competitive
advantage. FDI has its advantages in the long run and in the short run. In the long haul
open economic policies generate many benefits such as trade and investment linkages
with other countries increase competition in domestic industries; enhance the
purchasing power of consumers; provide exposure to new products, services, and
ideas from abroad; and give domestic firms wider markets in which to sell goods and
services. In the short run, the interdependence among open economies generally
provides benefits open economies may rely on foreign borrowing or foreign demand
for domestically produced exports to cushion an economic downturn but may also
create visible costs that obscure these benefits, as when foreign investment shifts
abruptly out of certain sectors or when foreign demand for domestic exports falls.
One has to understand that the negative effects from the openness to trade and
investment do not necessarily outweigh the enormous gains that society has cultivated
over decades from this openness.

5.2 EVOLUTION OF FDI

The study and evolution of FDI connected to capital accumulation goes back to pre-
classical views. The mercantilists were in a way the first to reflect on attracting
foreign capital and to set up investment plans. They aimed to clarify the role of capital
within the economy and in order to achieve that aim set up a macroeconomic model
based on external employment mechanism. This was to realise a surplus of exports


3 Ibid.

over the imports. As per Keynes’s General Theory: “For some two hundred years
both economic theorists and practical men did not doubt that there is a peculiar
advantage to a country in a favourable balance of trade, and grave danger in an
unfavourable balance, particularly if it results in an efflux of the precious metals.” 4
“Mercantilists thought never supposed that there was a self-adjusting tendency by
which the rate of interest would be established at the appropriate level. On the
contrary they were emphatic that an unduly high rate of interest was the main obstacle
to the growth of wealth; and they were even aware that the rate of interest depended
on liquidity preference and the quantity of money and several [mercantilist writers]
made it clear that their preoccupation with increasing the quantity of money was due
to their desire to diminish the rate of interest.”5 Moreover, “one must add that “in
mercantilist times, the only possibility to increase the quantity of money was an
excess of exports over imports, unless, of course, a country possessed gold or silver
mines.”6
“The mercantilists were aware of the fallacy of cheapness and the danger that
excessive competition may turn the terms of trade against a country.”7 Subsequently,
“the squandering of a country’s products on foreign markets at low prices has become
known as immiserizing growth.”8“Mercantilists were the originals of 'the fear of
goods’ and the scarcity of money as causes of unemployment which the classical [and
the neoclassical] were to denounce two centuries later as an absurdity.”9
On the one hand the country was rid of an unwelcome surplus of goods, which it was
believed to result in unemployment, while on the other the total stock of money in the
country was increased, with the resulting advantages of a fall in the rate of interest.
What mattered for the mercantilists was the primary and secondary employment thus
created. By inserting beggars and the unemployed into the process of production, was
a fundamental mercantilist preoccupation associated with the, “fear of goods.”
In reality the argument associated with direct output and employment have an effect
on the export surplus the monetary side associated with the rate of interest and its
influence on investment. This leads to an indirect link between export surplus and



4 Keynes 1936, p. 333.
5 Keynes, 1936, p. 341.
6 Bortis 2003b, p. 64.
7 Keynes, 1936, p. 345.
8 Bortis 2003b, p. 65.
9 Keynes 1936, p. 346.

employment which is of a monetary nature: “The surplus of exports over imports
leads to an inflow of precious metals or an increase in the quantity of money. The rate
of interest declines as a consequence and, as a rule, the volume of investment
increases which, again, means a rise of primary or autonomous demand inducing a
secondary or indirect demand for consumption goods. On the whole, the mercantilists
expected, as a rule, a cumulative process of employment creation from an export
surplus, leading to a cumulative increase of national wealth in the form of a higher
social product”.10
This implies that the mercantilist economies were at first interventionist economies.
The aristocratic and absolutist governments of the nascent European nation states
intervened heavily in the economy since Renaissance times. Specifically, the state
deliberately attempted to promote employment and growth.
This links to the problem of foreign investment: “[The process of economic growth
may be interrupted] by the insufficiency of the inducements to new investment. [Such
inducements] may be found in either in home investment or in foreign investment
(including in the latter the accumulation of precious metals), which, between them,
make up aggregate investment. In conditions in which the quantity of aggregate
investment is determined by the profit motive alone, the opportunities for home
investment will be governed, in the long run, by the domestic rate of interest; whilst
the volume of foreign investment is necessarily determined by the size of the
favourable balance of trade.”11
It has been argued above that the inflow of precious metals resulting from an export
surplus was largely equivalent to the inflow of financial capital. A monetary and
financial capital stock could be built up. The former rendered easier current
production and circulation, the latter was conducive to capital accumulation.
However, continental Europe, with the exception of Holland, entered a period of
stagnation from broadly 1650 onwards12.
In a Keynesian vein, this may have been due to the fact that the profit-investment
mechanism had resulted in the building up of overcapacity. Moreover, as is well
known, the inflow of precious metals from Central and South America led to rise in
prices and to more unequal distribution of income. This, in turn, resulted in stagnating


10 Bortis 2003d, p. 65.
11Keynes 1936, p. 335.
12 Nef 1963, p. 148 for the case of France.

or, perhaps, even declining effective demand. Overcapacity and a lack of effective
demand resulted in stagnation.
5.3 EVOLUTION OF FDI IN INDIA

The 1990’s have seen a marked increase in private capital flows to India, a trend that
represents a clear break from the two decades before that. In the 1970’s there was
hardly any new foreign investment in India indeed, some firms left the country.
Inflows of private capital remained meagre in the 1980s they averaged less than $0.2
billion per year from 1985 to 1990.13 In the 1990’s, as part of wide ranging
liberalization of the economy, fresh foreign investment was invited in a range of
industries. Inflows to India rose steadily through the 1990s, exceeding $6 billion in
1996-97. The fresh inflows were primarily as portfolio capital in the early years, but
increasingly, they have come as foreign direct investment. Though dampened by
global financial crises after 1997, net direct investment flows to India remain positive.
India was not unique as a recipient of increased inflows in the 1990s. International
flows of private capital to most developing countries rose sharply over this period.
The historically low interest rates in the US encouraged global investment funds to
diversify their portfolios by investing in the emerging markets. International flows of
direct investment, which had averaged $142 billion per year over 1985-90. In the
financial year 2011-2012 the FDI equity inflows increased to 36,504 million US $ as
a post to 19,427 million US $ in the financial year 2010-2011. 14
To a large extent the nature of foreign direct investment (FDI) and its motivations
encourage a vibrant free economy. Some FDI is motivated by the high rates of return
in a vibrant economy and aims to benefit from better international organization of
production and location. FDI can be referred to as growth- led and efficiency-seeking.
But even a stagnant economy may attract rent-seeking multinationals that have a
comparative advantage, over domestic firms in extracting monopoly rent in protected
markets. 15



13 Private Foreign Investment in India, Suma Athreye, Manchester School of Management, England;
Sandeep Kapur, Birkbeck College, University of London, England,
http://www.econ.bbk.ac.uk/faculty/kapur/personal/fdi.pdf
14 FACT SHEET ON FOREIGN DIRECT INVESTMENT, From APRIL, 2000 to MARCH, 2012,
http://dipp.nic.in/English/Publications/FDI_Statistics/2012/india_FDI_March2012.pdf
15 Private Foreign Investment in India, Suma Athreye, Manchester School of Management, England;
Sandeep Kapur, Birkbeck College, University of London, England,
http://www.econ.bbk.ac.uk/faculty/kapur/personal/fdi.pdf

Foreign investment can supplement domestic investible resources in a developing
economy, enabling higher rates of growth. As a source of foreign exchange, it can
relax potential balance of payments constraints on growth.
The role of investment, especially FDI, in driving economic growth and development
has been a contested one ever since the UN development decade of the 1960s. There
have always been views for and against FDI. Some argue that FDI leads to economic
growth and productivity increases in the economy as a whole and hence contributes to
difference in economic growth and development performances across countries but on
the other hand some argue that the risk of FDI will destroy local capabilities and
extracting natural resources without adequately compensating the poor countries. 16
A recent change over the past couple of years has been that governments have
become more favourable to FDI and have liberalised their FDI regime accordingly,
though at different times, speeds and depths in different countries and regions. Over
the past 15 years, countries have regarded FDI increasingly as contributing to their
development strategy for technology and capital it provides. They have even started to
compete for FDI. Investment policies have become more liberal at the national and
regional level but there is no comprehensive framework at the multilateral level.
Some countries are even facilitating FDI into developing countries using guarantee
funds, matchmaking and other measures.17

5.4 GENERAL POLICY FACTORS

The theory suggests that long term investment benefits from stability as it reduces the
risks for the long term investor. Politically unstable countries tend to receive small
amounts of FDI. The main exception to this rule is countries that are rich in natural
resources which have managed to attract considerable amount of FDI despite often
unstable governments. 18
Developing countries are increasingly creating a market friendly environment for the
private sector to operate. Countries in developing country regions such as Latin


16 Foreign Direct Investment and Development :An historical perspective, Dirk Willem te Velde
,Overseas Development Institute, 30 January 2006, http://www.odi.org.uk/sites/odi.org.uk/files/odi-
assets/publications-opinion-files/850.pdf
17 Foreign Direct Investment and Development-An historical perspective, Dirk Willem te Velde, 30th
January 2006, 10th June 2013,http://www.odi.org.uk/sites/odi.org.uk/files/odi-assets/publications-
opinion-files/850.pdf
18 Ibid.

America have privatized earlier, and more broadly than countries in other regions.
And have attracted significant flows of FDI.
With increased liberalization of trade and investment regimes and technological
advances in areas such as information and communication technologies, countries are
increasingly concerned about the competitiveness of their economies. This involves
paying more attention to created assets such as skills and infrastructure. Much of the
FDI potential in developing countries was not realised 3-4 decades ago because many
countries had severe restrictions on foreign ownership and many of what are now
regarded conducive factors (e.g. competitive environment etc) were not in place. This
is now changing. Now most countries are welcoming FDI policies. South- East Asian
economies (in 1960s Hong Kong, Singapore, Malaysia) were first, while other Asian
countries (Republic of Korea, China and India began to liberalise in the 1980s and
1990s). 19

5.5 EFFECT OF FDI ON ECONOMIC GROWTH:

Much has been written about the relationship between FDI and development. There
are many areas through which FDI affects development:

Employment and incomes,
Capital formation,
Market access,
Structure of markets,
Technology and skills,
Fiscal revenues, and
Political culture and social issues
FDI can raise economic growth by increasing the amounts of factors or production, in
the traditional growth accounting context, or by increasing the efficiency by which
these factors are being used, FDI represents the port through which new ideas are
gained. Those countries whose local capabilities have been enhanced because of FDI
have also been able to benefit most from FDI in the long term. However, those
countries that attracted FDI in the apparel sector because of trade policies distortions
(due to the multi fibre arrangements quotas which governed world trade in textiles


19 Ibid.

and clothing until 2005) without building up local capabilities or linkages may have
derived fewer long-term benefits from FDI.

5.6 FDI IN INDIA:

5.6.1 INTENT AND OBJECTIVE:

The recent cabinet decision on FDI in retail has triggered protests by opposition and
key allies of the ruling United Progressive Alliance (UPA), who are demanding roll
back of the policy. The meeting held at the Parliament House was unable to resolve
the logjam in the two houses as the opposition party led by BJP and the Left stuck to
their stand and demanded rollback of the cabinet decision to allow 51% in multi-
brand retail. Though only 53 cities with population not less than ten lakhs have been
categorised as FDI, being the fourth largest economy in the world in PPP terms India
is a preferred destination for FDI.
It is the intent and objective of the Government of India to attract and promote
foreign direct investment in order to supplement domestic capital, technology and
skills, for accelerated economic growth. Foreign Direct Investment, as distinguished
from portfolio investment, has the connotation of establishing a ‘lasting interest’ in an
enterprise that is resident in an economy other than that of the investor. The
Government has put in place a policy framework on Foreign Direct Investment, which
is transparent, predictable and easily comprehensible. This framework is embodied in
the Circular on Consolidated FDI Policy, which may be updated every year, to
capture and keep pace with the regulatory changes, effected in the interregnum. The
Department of Industrial Policy and Promotion (DIPP), Ministry of Commerce &
Industry, Government of India makes policy pronouncements on FDI through Press
Notes/ Press Releases which are notified by the Reserve Bank of India as amendments
to the Foreign Exchange Management (Transfer or Issue of Security by Persons
Resident Outside India) Regulations, 2000 (notification No. FEMA 20/2000-RB dated
May 3, 2000). These notifications take effect from the date of issue of Press Notes/
Press Releases, unless specified otherwise therein. In case of any conflict, the relevant
FEMA Notification will prevail. The procedural instructions are issued by the
Reserve Bank of India vide A.P. Dir. (series) Circulars. The regulatory framework,

over a period of time, thus, consists of Acts, Regulations, Press Notes, Press Releases,
Clarifications, etc.20
The present consolidation subsumes and supersedes all Press Notes/Press
Releases/Clarifications/ Circulars issued by DIPP, which were in force as on April 4,
201321 and reflects the FDI Policy as on April 5 2013. This Circular accordingly has
taken effect from April 5, 2013. Reference to any statute or legislation made in this
Circular shall include modifications, amendments or re-enactments thereof.
Notwithstanding the rescission of earlier Press Notes/Press
Releases/Clarifications/Circulars, anything done or any action taken or purported to
have been done or taken under the rescinded Press Notes/Press
Releases/Clarifications/Circulars prior to April 5, 2013, shall, in so far as it is not
inconsistent with those Press Notes/Press Releases/Clarifications/Circulars, be
deemed to have been done or taken under the corresponding provisions of this circular
and shall be valid and effective. 22
India is an attractive destination for foreign investors. Its huge market provides them
with ample opportunities for investment. The foreigners can invest in our country in
two ways either through portfolio investment or through direct investment. Portfolio
investment – A portfolio investment is a passive investment in securities, none of
which entails active management or control of the securities' issuer by the investor.
Direct Investment - According to IMF, FDI (foreign direct investment) can be defined
as “investment that is made to acquire a lasting interest in an enterprise operating in
an economy other than that of investor, the investor’s purpose being to have effective
voice in the management of the enterprise” The debt crisis and the Asian financial
crisis have showed that FDI was more stable in difficult periods than other forms of
capital inflows. The direct investment gives the investor ownership advantages. This
can cause changes in the dynamics of the market. Transnational corporations (TNCs)
can either infuse competition or push the local enterprises out of the market and
establish market power. 23
FDI can have diverse impacts on an economy. We can categorize the impacts as



20 CONSOLIDATED FDI POLICY, D/o IPP F. No. 5(1)/2013-FC.I Dated the 05.04.2013, Department
of Industrial Policy and Promotion, Ministry of Commerce and Industry, Government of India.
21Ibid.
22 Ibid.
23 Nivedita, Foreign Direct Investment, Market Power of Transnational Corporations and Impact on
Competition ,Madras School of Economics.

Microeconomic impacts

Macroeconomic impacts

Micro impacts – it can cause structural changes in economic and industrial

organization. The market can become either more competitive or a monopolistic one

in which the TNC can exploit its market power to raise prices and make an adverse

impact on the consumer.

5.7 MACRO IMPACTS

Some of the major impacts on overall economy can be categorized as following:

5.7.1 Learning by doing / imitation
They enhance the productivity through introduction of new technology which in turn
benefits the host economy only. The developing economies which are capital starved
can take advantage of the available technological spill over to improve upon their
competitiveness. The foreign capital can help us improve our technological efficiency
within a short period of time without which it would have taken years to reach that
level. According to the literature, these spill over could occur due to both the
“competition effect” – when national companies, facing competition from foreign
corporations, have to modernize their production and management activities – and the
“demonstration effect” – when national companies emulate the more advanced
techniques of their foreign competitors. 24

5.7.2 Export base creation
They provide the host countries with the access to large foreign markets because they
have an established brand name and well developed distribution channel. This leads to
creation of an export base for the developing nations. They add to the foreign
exchange and investment resources in a host economy. 25

5.7.3 Competition



24 Ibid.
25 Ibid.

Some of the TNCs engage in non-production functions like accounting, engineering,
marketing, etc. these are high valued activities that promote manufacturing
competitiveness and local capabilities. They can either boost competition tendencies
or drive out local firms to gain market power. TNCs can help restructure and upgrade
competitive capabilities in import substituting activities as well.26

5.7.4 Efficient utilization of resources
TNCs contribute positively to the efficient and productive utilization of resources in
the host economy. A direct investment in the country gives ownership advantages to
the TNC and reduces the transaction costs which it would have incurred if it was
located outside host economy.27

5.7.5 FDI, Market Power and Competition- Theoretical framework
There is voluminous amount of literature available on assessing the impact of FDI on
competition inside domestic market. Some theories talk about increased competition
among firms with inflow of FDI while others do not agree with the proposition.
However there has been no convergence between the two lines of thought. There is
literature both in favor and against the proposition that FDI inflow will enhance
competition and finally correlate the results from empirical evidences with theory.

5.7.6 FDI AND MARKET POWER
Another line of thought throws light on the positive aspects of FDI on competition.
According to a recent report by ICRIER on Indian retail sector, the inflow of FDI will
enhance the competition between organized and unorganized retail and benefit the
consumers. This report basically focuses on the need for introducing foreign
investment in the retail sector in India where unorganized sector constitutes more than
90% of business. However this report narrowly focuses on retail sector. So drawing
any generalized conclusion can be fallacious.
In an article by Paul Deng, he analyses how the entry of foreign firms could
potentially alter the growth of domestic firms. The firms with advanced technology in
the domestic market compete neck to neck with the foreign competitors and the
inefficient firms are driven out of the market. He has termed this driving out of the


26 Ibid.
27 Ibid.

technologically obsolete firms as “discouragement effect”. He says that the
interactions within the foreign firms and local firms create a much needed dynamism
within economy. This dynamism promotes the tendency to innovate and compete
within market.28
Another argument is appreciating the technological contribution of TNCs.
Developing countries tend to lag in the use of technology. Many of the technologies
deployed even in mature industries are often outdated. More importantly the
efficiency with which they use technology is relatively low even if part of their
productivity gap is compensated by lower wages; technical inefficiency and
obsolescence affect the quality of products. TNCs bring in new technology and raise
the efficiency with which it is used. They can stimulate technical efficiency in local
firms, both suppliers and competitors acting as role models and intensifying
competition.
Another group of studies by Helpman, Melitz, and Yeaple (2003) and Nocke and
Yeaple (2005) reveal that the love of variety prevents any firm from absorbing the
entire market share no matter how superior its technology or how low its price be
even if it is far more efficient than its average rival. This means even if TNCs are
technologically more efficient than local firms, the consumer would always like to
consume diversified products and this prevents any firm from capturing entire market.
Therefore, FDI coming into domestic markets cannot allow any firm to gain
substantial market power. Many theories suggest that technology plays a very
important role in promoting competition among firms. The incentive to keep
innovating comes from competition among firms to survive in the market. Innovation
requires continuous up gradation of technological base. With TNC coming into the
market, they aggravate the tendency of the local firms to compete and gain their share
of market and thus promoting the competition in domestic firms from local as well as
foreign firms.29

5.8 CASE FOR FDI IN INDIA IN TELECOMMUNICATIONS



28 Ibid.
29 Ibid.

In India the FDI policy has been liberalized in the past decade. Services sector has
received the greater proportion of FDI, the leading industries attracting FDI being
telecommunications, automobiles and Information & technology. According to a
report by ASSOCHAM 2012 on India’s experience with FDI: role of a game changer,
following sectors showed increased competition effects when opened to FDI
Telecommunications – “The liberalization process that took place and the subsequent
policy initiatives has paved the way for influx of private players. The regulatory body
overseeing the functioning of the sector is The Telecom Regulatory Authority of India
(TRAI) and its main objective is to ensure a level playing field that encourages
greater but fair competition so as to provide the consumers a better ambit of services
at an affordable price. The Indian government has relaxed the limits on FDI into the
sector considerably which has led to an increase of foreign capital into the sector. FDI
helps in attracting large amount of funds, advanced technology and market
competition which results in better services for the customer” Automobiles – in 2002
the equity caps for foreign investment was lifted and since then the automobile
industry has witnessed a healthy growth in inflow of investments. With rising
competition to attract customers the companies now design their products suitable to
consumer’s requirements. Better and diversified products due to competition effects
add to consumer welfare.
IT/ITES – this sector has been opened to 100% FDI. This has become one of the
sunshine sectors in India due to evolving better quality products as a result of
competition. No evidences of a TNC accumulating market power have been found.
The introduction of FDI in our country in few of the sectors has proved to be a
success. The foreign investment in other sectors which are still untouched can repeat
the story given we do not compromise on the regulation.30

5.9 NEED FOR POLICY INTERVENTION

It has been experienced that in developing economies, weak bargaining and
regulatory capabilities can result in unequal distribution of benefits and an abuse of
market power by TNCs. The developing countries can face serious consequences
unless competition law is enforced strictly. The way TRAI in telecommunications has



30 Ibid.

kept a watch on anti-competitive tendencies, the same way we need strong
institutions. The developing nations have weak institutions and structural market
imperfections. The promotion of competition in markets under such circumstances
becomes even more challenging. Another issue that has been observed is that even the
multinationals who do not possess market power can easily become dominant players
by indulging in quashing the competition in market. This is possible because these
firms have large revenues and deep pockets as compared to domestic investors. Many
types of complaints have been made in developing countries in this respect. These
include, for example, local dairy and farm products suppliers to large multinational
retail chains, such as Carrefour and Tesco that were accused of abusing their
dominant power to impose excessively restrictive conditions on local suppliers. Since
the ultimate interests of the transnational’s and the economic interests of an economy
differ, therefore we do require policy intervention. In India, competition commission
of India plays a major role in restricting anticompetitive tendencies in the market. The
commission is empowered to take legal actions against such moves and can even
impose heavy penalties.

5.10 CONSUMER IS THE KING:31

Manohar Lal Sharma vs. Union of India & Anr. on 1 May, 201332
The Supreme Court of India on 1st May, 2013 upheld the government’s proposal to
allow DSI in multi-brand retail trade (MBRT) stating that the said proposal did not
suffer from any unconstitutionality, illegality, arbitrariness or irrationality.
A three-judge bench of the Supreme Court of India said “consumer is king and if that
is the philosophy working behind the policy then what is wrong in it.” The Bench
referred to the Centre’s counter and said the decision to allow FDI in retail has a legal
basis on the Foreign Exchange Management Act 2000. The court welcomed what it
called the focus on benefiting the consumer by “enlarging the choice of purchase at
more affordable prices and by eradicating the traditional trade
intermediaries/middlemen to facilitate better access to the market [ultimate retailer]
for the producer of goods.”



31 http://indiankanoon.org/doc/32597732/
32 Writ Petition (C) NO. 417 OF 2012.

The Bench also said that the new policy aims to throw out middlemen, “who are a
curse to Indian economy and who are sucking it.” Farmers will benefit significantly
from the option of direct sales to organised retailers. The bench said: “This court does
not interfere in the policy matter unless the policy is unconstitutional, contrary to
statutory provisions or arbitrary or irrational or there is total abuse of power. The
impugned policy cannot be said to suffer from any of the vires.”
The Bench also noted that the policy to allow FDI, up to 51 per cent in retail trade
was only an enabling policy. “The State governments/Union Territories are free to
take their own decisions in regard to implementation of the policy in keeping with
local conditions.” It said the Department of Industrial Policy and Promotion (DIPP)
was empowered to make policy pronouncements and there was no merit in the
contention that the Government of India had no authority to formulate the FDI policy.
As per the petitioners case the notification was issued without any source of law and
parliamentary approval and soon after the Union Cabinets decision the notification
was issued through an executive order.
This decision by the Supreme Court has had mixed reviews. On one hand, this verdict
was welcomed by financial experts, while on the other; it was criticized by small and
medium scaled industries. This ruling by the Supreme Court was actually in response
to a Public Interest Litigation (PIL). The essence of the PIL was to challenge the
Centre’s policy, saying that retail trading is prohibited under the Foreign Exchange
Management Act (FEMA). A two bench judgment suggested that the FEMA
regulations should have been amended by the RBI before the Centre issued a
notification of the FDI policy.
The court had given two weeks to the Centre to get the Foreign Exchange
Management Regulations amended by the RBI, before the policy is implemented. In
the meantime, the Foreign Investment Promotion Board (FIPB) held a discussion over
the investment proposals for single-brand retailers, such as Pavers England (a UK-
based footwear brand) and Brooks Brothers (a big clothing retailer in the United
States), keen on investing in India. The FIPB is the nodal body that sanctions FDI
proposals.

5.11 FDI IN USA:

Openness to trade and investment has boosted U.S. economic growth. Openness can
also reduce the impact of shocks and increase the resilience of the U.S. economy. The
number of U.S. FTAs has increased greatly during this Administration, and these
agreements have contributed to the growth in U.S. exports. Portfolio and direct
investment into the United States reached historic levels over the past decade, in part
due to the depth, diversity, and openness of U.S. financial markets and the
competitiveness of U.S. firms. The United States has maintained an open investment
policy, facilitating FDI flows between the United States and the world while
addressing legitimate national security concerns. U.S. development and trade
initiatives, as well as U.S. engagement in multilateral institutions such as the World
Trade Organization and the World Bank have helped increase growth and foster
political and economic stability in developing countries throughout the world.
Continued commitment to open economic policies throughout the world will help
ensure continued economic gains for the United States and the rest of the world. In
the first half of 2008, the United States exported goods and services equivalent to 13.0
percent of Gross Domestic Product (GDP), and imported goods and services equal to
18.1 percent of GDP. These figures are the highest on record, considerably above
figures from 2000, when exports were equal to 10.9 percent, and imports 14.8
percent, of GDP. The current account, which measures the net value of the flow of
current international transactions, is chiefly composed of the difference between
exports and imports. The U.S. current account deficit widened over this period from
4.1 percent of GDP in the first quarter of 2000 to a peak of 6.6 percent of GDP in the
final quarter of 2005. The current account deficit then narrowed to 4.8 percent of
GDP at the end of 2007 before expanding slightly over the first half of 2008.33

If the latest statistics is taken into consideration then one will notice that the United
States is more closely linked with other nations through trade, investment, and
financial flows than ever before. For example, “total trade in goods and services as a
share of gross domestic product (GDP) was approximately 31 percent in 2012,
compared with 26 percent in 2000 and 11 percent in 1970.”34



33Economic Report of the President (2009) Administration of Barack H. Obama Online through the
Government Printing Office, www.gpo.gov
34 Economic Report of the President (2013),Administration of Barack H. Obama Online, www.gpo.gov

International linkages are also reaching more deeply than ever before into the
organization of industries and firms. U.S. companies are increasingly part of global
supply chains, in which firms buy inputs from subcontractors located in many
countries. These linkages bring both challenges and opportunities for the U.S.
economy and for government policy. Macroeconomic shocks and policies halfway
around the world have direct effects on growth, employment, and national balance
sheets here at home, just as shocks and policies in the United States affect economies
across the globe. Significant opportunities are available for U.S. firms to expand
exports and create jobs, for resources to be allocated to their most productive uses, for
innovation to flourish, and for consumers to enjoy higher incomes, lower prices, and
expanded choice. These opportunities, however, have been accompanied by job
displacement, downward wage pressures, and other adjustment costs. Government
policy plays an important role in providing infrastructure and incentives that reduce
these adjustment costs, promote the creation of middle-class jobs, and foster
innovative ecosystems in the private sector. Administration policies in both trade and
competitiveness seek to create a fair, firm foundation for the long-term prosperity of
the United States and its trading partners.

Scholars and academics have studied the motivation for firms to extend production to
international markets and engage in foreign direct investment (FDI) since the mid-
1900s. Interest in the subject intensified with the burst of foreign investment in the
1970s, and remains a subject of close scrutiny as the volume of FDI continues to
increase. Corresponding with the liberalization of many economies, since 1987, the
volume of FDI has grown over 20% annually. “U.S owned assets abroad increased
$3,258.7 billion in 2006 to $17,640.0 billion in 2007 (BEA, 2008).” The IMF defines
foreign direct investment as “the acquisition of at least ten percent of the ordinary
shares or voting power in a public or private enterprise by non-resident investors.
Direct investment involves a lasting interest in the management of an enterprise and
includes reinvestment of profits.” Anything less than ten percent ownership is
considered portfolio investment. The pioneering study on FDI can be attributed to

Stephen Hymer (1960), in which he described FDI as asset transfer by the formation
of subsidiaries or affiliates abroad, without loss of control. 35
Because the US is the world's largest economy, it is a target for foreign investment
and a large investor. America's companies invest in companies and projects all over
the world. Even though the US economy has been in recession, the US is still a
relatively safe haven for investment. Enterprises from other countries invested $260.4
billion dollars in the US in 2008 according to the Department of Commerce.
However, the US is not immune to global economic trends; FDI for the first quarter of
2009 was 42% lower than the same period in 2008. A firm becomes an MNE when it
services foreign markets, but possesses ownership-advantages for example some
intangible asset such as knowledge, technology, or managerial know-how that serve
as a barrier to entry to other firms.36
By definition, the primary objective of the multinational enterprise (MNE) is the
optimum allocation of the firm’s resources on a worldwide basis, which will generate
the highest return on investment or maximize the managerial power of the firm
.37“For the multinational enterprise, entry by trade and investment is becoming
essential to effective market access, as corporations seek to capture economies of
scale and scope, customize products to satisfy consumer tastes, generate sophisticated
high-quality inter-and intra- corporate networks and strive to gain access to
knowledge, both technology and tacit which may be accessible only on-site.”38
A review of the literature on FDI emphasizes three main questions raised by the
myriad of researchers: the “how,” “why,” and “where” of foreign direct investment.
Generally, the answer to “how” have firms been able to maximize profits by investing
abroad, rather than competing in their home countries, is in the MNE strategy of
integration. An increasingly beneficial strategy is that of regional integration which
entails encompassing countries with differential labour markets. By locating labour-
intensive stages of production in countries with cheaper labour, firms can take
advantage of significant reductions in cost.
There are several studies that focus on the “why” question. It is the firm’s decision to
engage in FDI instead of exporting or licensing. The choice made by the firms on a


35 Factors Driving U.S. Foreign Direct Investment, Laura Meier, Centre For Research in Economics &
Strategy, http://www.olin.wustl.edu/Documents/CRES/Meier.pdf
36 Barry Kolodkin, http://usforeignpolicy.about.com/od/introtoforeignpolicy/a/what-is-FDI.htm
37 Robinson,1972.
38 Ostry, 1998.

greater level depends on the influence the firm has over the demand of its product by
being present in the foreign market. Firms often test out a foreign location through
exportation and then, if satisfied with the conditions of that arrangement, they switch
to foreign investment.39
Though FDI is a riskier strategy than licensing and exporting it still allows the firm to
maintain control which in case of the later two is lost to other firms. The costs are
high when it comes to direct investment as it is inherently of riskier nature. Some of
the risks for example are rate fluctuations, excessive inflation, increasing oil prices,
unstable and corrupt governments, difficulties with trade unions, unfavourable
government regulations, and poor enforcement of property rights protection. There
must be certain incentives or benefits that are enticing enough and profitable enough
to motivate firms to invest in these uncertain environments.
The effects of the Great recession and the political gridlock in Washington had left
the country floundering which made the U.S reassess the role of FDI in the U.S as a
way to re-ignite the growth of the country both domestically and globally.FDI has
helped U.S to become a job creating economy. Foreign owned firms pay more, are
more productive and efficient that their local counter parts. A Congressional Research
Service report dated Feb 1, 2011 stated: “Foreign owned firms paid wages on average
that were 14% higher than all US manufacturing firms, had 40% higher productivity
per worker, and 50% greater output per worker than the average of comparable U.S.
owned manufacturing plants.”40
On must think that in that case US must welcome FDI deals in order to do away with
its unemployment problems among other positives of FDI. But if one examines the
history of US FDI, the purchases of US assets by foreign investors have run into
controversy and opposition. Such large purchases have millions of dollars in
associated costs that lie outside of the purchase prices. Attorney and accounting fees
alone can run into the hundreds of thousands if not millions of dollars. These costs,
along with management consulting and investment banking commissions, are sunk
costs that cannot be recouped, even when a deal is called off. An historical example of
the same is Japanese in particular, which is known as the Rockefeller Effect.



39 Hirsch, 1976; Hisey and Caves, 1985.
40 Jonathan Gardner, CEO Asia Pacific &Global COO Penn, Schoen and Berland Associates A WPP
Group Company.

The Rockefeller Effect 41: there was a wave of negative publicity towards
foreign

investors of the U.s assets. In the 1980’s investments made by Japan in the U.S was

met with significant hostility. A Japanese electronics company Fujitsu made an effort

to acquire Fairchild Semiconductor Corporation which in turn led for United States to

enact its national security laws that govern acquisitions in order to stop the deal. After

which in 1989 a Japanese real estate company Mitsubishi Estate Co. bought the

Rockefeller Centre, a U.S. National Historic Landmark, for $846 million. This was a

“trophy purchase” for the emboldened Japanese investors at that time. This high-

profile purchase alarmed the public that the Japanese were out to dominate the

American economy. After an exclusive polling conducted at the time of purchase the

evidence offered that the ultimate fate of the Japanese investment which triggered an

anti-Japanese sentiment which kept rising amongst an American public, which

deemed the purchase to be insensitive. The ongoing inability to offer a more positive

portrayal of the deal to a sceptical general population, alongside the economic

downturn of the early 1990s, forced Mitsubishi to walk away from a $2 billion

investment in 1995, with the property languishing in bankruptcy.

Another consequence similar to the Japanese one was during the 2000s where Middle

Eastern sovereign wealth funds set the stage for another high profile instance of the

“Rockefeller Effect.”

Some of the other instances are:

In February 2006, the stockholders of Peninsular and Oriental Steam Navigation

Company (P&O), a British firm, agreed to the sale of that company to Dubai Ports

World (DPW), a holding company owned by the Government of Dubai. As part of the

sale, DPW would assume the leases of P&O to manage major U.S. port facilities in

New York, New Jersey, Philadelphia, Baltimore, New Orleans, and Miami, as well as

operations in 16 other ports. The defeat of the DPW transaction was the result of a

groundswell of American popular opinion that completely overwhelmed whatever

sound commercial logic may have underpinned the original deal.

Chinese investment funds, however, remain flush with cash and continue to boast the

world’s largest foreign exchange reserves. It is vitally important for these funds to

consider the powerful role they now play in providing FDI in the U.S., while also

addressing the “Rockefeller Effect”, which history shows has been a powerful


41 Penn Schoen Berland,2012, http://www.wppindia.in/wpp/marketing/publicrelations/the-rockefeller-

effect/

determinant of successful FDI in the U.S.A recent study, commissioned by the Asia
Society in New York and the Woodrow Wilson International Centre for Scholars in
Washington, forecasts that over the next decade, China could invest as much as $2
trillion in overseas companies, plants or property, money that could help reinvigorate
growth in the U.S. and Europe. However, the report also warns that the U.S. risks
missing out on a large share of the Chinese investment boom because of politics, a
growing rivalry between the two nations and deep-seated perceptions that Chinese
investments are unwelcome in America. 42
One of the major problems that China faces is that Chinese companies are not always
welcomed overseas, and this is not specific to China wielding enormous economic
clout but also because state-owned giants are believed to be subsidized by the state
and possibly working in the interest of the Chinese Government.
One of the statements of Senator Jack Reed, Democrat of Rhode Island, encapsulated
much of the bipartisan concerns in Congress about Chinese FDI in the U.S. when he
recently told Reuters, “Many of these companies are so closely intertwined with the
government of China that it is hard to see where the company stops and the country
begins, and vice versa.”43
In 2010, the Anshan Iron and Steel Group, a Chinese company seeking to build a steel
factory in Mississippi, had to fight fierce political opposition in that state, including
fears the project would result in job losses and threaten national security. Gao Xiqing,
the president of China Investment Corporation (CIC), China’s sovereign wealth fund,
has repeatedly spoken of his frustration that CIC’s attempts at investing in the U.S.
have run into political opposition. In 2008, he said, “Fortunately, there are more than
200 countries in the world. And fortunately, there are many countries that are happy
with us.”
The U.S. has advanced technologies and a highly skilled workforce, many of whom
have been suffering from non-existent domestic job growth, and China has the capital
American businesses so desperately seek to sustain and grow. Sovereignty issues
seem to take on greater importance during stressed economic times such as these,
which makes it even more important for potential investors to prepare the ground
prior to any significant FDI attempts. In order to avoid falling foul to the “Rockefeller



42 Jonathan Gardner, CEO Asia Pacific &Global COO Penn, Schoen and Berland Associates A WPP
Group Company.
43 http://www.nytimes.com/2011/05/04/business/global/04yuan.html?pagewanted=all&_r=0

Effect” in future, it is essential for any foreign investors looking to allocate capital in
the U.S. to consider the powerful impact of public opinion on the ultimate success of
every venture.

5.11.1 US FDI BENEFITS

5.11.1.1 Creation of new jobs:

U.S. affiliates of majority owned foreign companies employ over 5 million U.S.

workers, or 4.5 percent of private industry employment. Between 2003 and 2007,

more than 3,300 new projects were announced or opened by foreign companies,

yielding $184 billion in investment and about 447,000 new jobs.44

5.11.1.2 Boosts wages:

U.S. affiliates of foreign companies tend to pay higher wages than other U.S.

companies. Internationally owned companies support an annual U.S. payroll of

$335.9 billion, with average annual compensation per employee of more than

$66,000. On average, U.S. subsidiaries of foreign firms pay 25 percent higher wages

and salaries than the rest of the private sector.45

5.11.1.3 Increases U.S. exports:

Approximately 19 percent of all U.S. exports ($169.2 billion) come from U.S.

subsidiaries of foreign companies46U.S. companies use multinationals’ distribution

networks and knowledge about foreign tastes to export into new markets.

5.11.1.4 Strengthens U.S. manufacturing and services:

Of the jobs supported by U.S. affiliates of foreign companies, 39 percent are in the

manufacturing sector. Th at sector accounts for 12 percent of overall private sector

employment.47 Furthermore, approximately 60 percent of all foreign investment in the



44 OCO Monitor, Accessed on March 6, 2008.
45 Bureau of Economic Analysis, U.S. Department of Commerce, “Operations of Multinational
Companies,”
www.bea.gov/international/index.htm#omc; “National Economic Accounts,” www.bea.gov/national/
46 Thomas Anderson, “U.S. Affiliates of Foreign Companies: Operations in 2005,” Bureau of
Economic Analysis, August 2007. www.bea.gov/scb/ pdf/2007/08%20August/0807_foreign.pdf
47 U.S. Department of the Treasury, “Fact Sheet: An Open Economy is Vital to U.S. Prosperity,” May
2007.

United States is in the services sector, which improves the global competitiveness of
this critical segment of the U.S. economy.48
Brings in new research, technology, and Skills:
In 2005, U.S. affiliates of majority-owned foreign companies spent nearly $32 billion
on research and development and $121 billion on plants and equipment.

5.11.1.5 Contributes to rising U.S. productivity:

Inward investment leads to higher productivity growth through an increased

availability of capital and resulting competition. Productivity increases U.S.

competitiveness abroad and raises living standards at home.

5.12 FOREIGN DIRECT INVESTMENT TRENDS

5.12.1 U.S. TRENDS
Most international investment in the United States originates from OECD countries.
In 2006, approximately 80 percent of FDI inflows (measured by dollar value) came
from Europe and Japan. The United Kingdom held the largest FDI position in the
United States at $303 billion. The United Kingdom accounted for 17 percent of all
foreign investment in the United States, followed by Japan (12 percent), Germany (11
percent), Netherlands (11 percent), Canada (9 percent) and France (9 percent).49
Although OECD countries continue to dominate foreign investment in the United
States, it is important to recognize the growing role of several emerging markets.
Between 2002 and 2006, India’s FDI position grew by a compound annual growth
rate of 72 percent. Other countries followed India, including Russia (64 percent),
Chile (54 percent), South Korea (31 percent), and Brazil (23 percent).50Foreign direct
investment in the United States is focused in manufacturing and services. In 2006,
services accounted for 59 percent of the total FDI position in the United States.
Within that sector, a large proportion is in finance, wholesale trade, and banks.



48 Analysis of BEA Data, U.S. Department of Commerce, “Operations of Multinational Companies,”
www.bea.gov/international/index.htm#omc.
49 Analysis of BEA Data, U.S. Department of Commerce, “Operations of Multinational Companies,”
www.bea.gov/international/index.htm#omc.
50 Ibid.

Manufacturing accounted for 33 percent of the total FDI position, followed by mining
(3 percent), utilities (2 percent), and agriculture (1 percent).51

5.12.2 GLOBAL TRENDS
Although the United States continues to be the largest recipient of FDI inflows, it has
lost significant position in the global race for FDI. The United States continues to
attract large FDI inflows, but the share has declined from 31 percent of global FDI in
1980, to 13 percent in 2006.52China and the United Kingdom each attracted more FDI
in 2003 and 2005, although the United States regained its lead position in 2006. The
2007 Economic Report of the President analyzes the U.S. position in the context of
global trends: “First, while the U.S. affiliate share of U.S. output has grown over the
past two decades, it has stagnated and even declined in recent years. Second, the U.S.
affiliate share of employment has declined, from 5.1 percent in 2000 to 4.7 percent in
2004. Third, the share of inward FDI in the U.S. capital account - that is, FDI in the
United States as a share of all the assets owned by foreign interests - has declined
since 1999. It is not yet clear whether these are benign and temporary trends or
whether this development is symptomatic of deeper issues with respect to the
attractiveness of the United States as a country in which to make direct investment.”53
Sovereign wealth funds, while not a new phenomenon, are also beginning to play an
increasingly important role in international capital flows. Due to substantial trade
surpluses, some governments have accumulated significant savings and are now
searching for opportunities to earn a higher rate of return. This may present an
opportunity for the United States to strategically access sovereign wealth funds as
another source of foreign investment. As of April 2008, the United Arab Emirates
(Abu Dhabi) is believed to have the largest sovereign fund in the world, which is
estimated at between $500 and $875 billion.16 This is followed by Norway ($375
billion), Singapore ($200 to $330 billion), Saudi Arabia ($270 billion), Kuwait ($213
billion), China ($200 billion) and Russia ($128 billion).54

5.12.3 JOHN DUNNING’S ECLECTIC PARADIGM


51 Ibid.
52 United Nations Conference on Trade and Development, FDI Database. www.unctad.org/
Templates/Page.asp?intItemID=1923&lang=1.
53 Economic Report of the President, 2007. www.whitehouse.gov/cea/ch8-erp07.pdf.
54 Ibid.

There are several theories on the factors and advantages that motivate firms to invest
abroad. For the purpose of this study, John Dunning’s eclectic paradigm which
proposes that multinational enterprises’ (MNEs) investment decisions are determined
by the OLI triad: ownership, location, and internalization. The “O” stands for the
firm’s ownership advantage that it maintains through its possession of some asset that
host country firms do not possess. The “L” signifies the location advantages the
characteristics of a host country which the firm utilizes in its production processes or
attributes that create favourable conditions for the production of the firm’s product.
Internalization advantages, represented by the “I,” come from oligopolistic control of
this asset or multiple assets in foreign locations. 55The ideal environment for the MNE
is a market with host country location advantages complementary to the MNE’s
ownership and internalization advantages. 56 Different industries have different
ownership and internalization advantages which lead them to seek different location-
specific attributes to facilitate these advantages. Therefore, firms seeking different
qualities will make different types of investments. Dunning classifies these
investments as efficiency-seeking, market-seeking, resource-seeking, or strategic
asset-seeking investments. There are specific location characteristics ideal to each
method of investment. 57

5.12.4 LOCATION-SPECIFIC FACTORS
Once the firm has established that it possess ownership and internalization
advantages, it must determine which country has the most suitable location-
advantages. This leads into the examination of the “where” question concerning the
location that a firm chooses to accommodate its ownership and internalization
advantages. There are a myriad of factors that are either accommodating or
detrimental towards a firm’s ownership and internalization advantages and the degree
to which each country holds a combination of these factors will determine whether or
not a firm chooses to invest there.58
American firms (which are largely non-unionized) are not accustomed to hindrances
in adjusting the size of their labour force, so some may prefer to invest in countries



55 Dunning, 1980, 1998.
56 Caves, 1971; Li and Resnick 2003.
57 (Dunning 1973, 1980, 1998).
58 http://www.olin.wustl.edu/Documents/CRES/Meier.pdf

with lower union density. The amount of union penetration in a country is negatively
correlated with U.S. FDI. Restrictive government legislation determining layoffs and
extension of collective bargaining agreements has strong negative correlation with
FDI.

5.12.5 FDI IN EC
Accurately calculating the effect of EU integration on FDI is complicated for a
number of reasons, and literature on this is limited. Reliable data, in particular over
long periods, is hard to come by, and what data exists is mostly on the aggregate level
and often does not show the extent to which integration has impacted on different
sectors. Moreover, the long and gradual process of integration makes it hard to
accurately determine a specific ‘EU effect’, complicated further by the coincidence of
FDI growth in the EU with other factors which have boosted flows, in particular the
global surge in FDI over the period of EU integration, the removal of capital
restrictions, the rapid development of EU and other capital intensive technologies, and
wider liberalisation measures. Disentangling these effects is fraught with problems.
The literature does not give unambiguous evidence of an EU investment effect at
Member State level.
Blomström and Kokko cite studies that found no investment effects for the UK, while
other studies found that Ireland had benefited significantly – this disparity was
attributed to the UK’s relative openness to FDI prior to accession during the 1950’s
and 1960’s. However, a study by Barrell and Pain59(1998) found that entry into the
EU had a significant effect on the stock of US FDI in the UK, Ireland, Spain and
Sweden. The UK has been able to attract relatively more FDI than some other
European economies as a result of market integration. As a proportion of GDP the UK
also attracts more FDI than the US.
Since 1999, the EU has been the UK’s most important FDI relationship, for both
inward and outward FDI. At the end of 2003, the total stock at book value of direct
investment into the UK stood at £341.2 billion. Europe accounted for 46% of this
(with the Netherlands and France alone responsible for 13% and 11% respectively –
or over 8% of nominal GDP). In comparison the US accounted for 39% of total stock.
The following chart shows the increasing importance of the EU as a source of


59 Barrell, R & Pain, N: Real Exchange Rates, Agglomerations, and Irreversibility’s: Macroeconomic
Policy and FDI in EMU; Oxford Review of Economic Policy, 1998.

investment over the years despite a reduction in the UK’s share of FDI since the
launch of the Euro, the UK remains a major beneficiary of global FDI flows, and is
likely to remain so whether in or out of the Euro zone.60
The UK is among the countries expected to have a net increase in the outward FDI
position, but this should also bring benefits to the economy. Bitzer and Görg looked at
the productivity impacts of inward and outward FDI for 17 OECD countries and 11
industries over 1973-2000. They found that, on average, inward FDI was associated
with increased productivity at the domestic industry level, while outward FDI could
have a negative impact. However, for France, Sweden, Poland, the USA, and,
significantly, the UK, outward FDI was found to have significantly positive
productivity increase.61
The number of FDI projects in Europe declined by 3% in 2011, with a mixed
performance across countries. The UK experienced solid growth in FDI, reinforcing
its position as the leading FDI location in Europe. As well as a 13% increase in
recorded FDI project numbers, capital investment in the UK increased by 48% and
FDI job creation by 33%. However, in terms of total job creation, FDI in Russia
generated the highest number of new jobs, with 89,047 jobs created in 2011 compared
to 66,817 in the UK. This was despite a decline in FDI in Russia in 2011. A selection
of small and medium-sized economies in Europe performed strongly. Ireland, the
Netherlands, Serbia and Romania all achieved a significant growth in inward FDI.
While the Netherlands was the best performer, with 29% growth in FDI projects in
2011, estimated job creation from FDI in the Netherlands actually fell by 13% as the
average project size declined. In contrast, job creation in Ireland grew by 13% and
capital investment by 78%. Positioned outside the top 10, Belgium was among the
countries that experienced a contrast, with a 43% decline in the number of recorded
FDI projects in 2011.62
Foreign Investment Rules: There is no specific law that governs or restricts foreign
investment. In UK the foreigners or foreign held companies are given the same
treatment as UK- owned businesses and they can engage in most forms of economic



60 EU Membership and FDI,
https://www.gov.uk/government/uploads/system/uploads/attachment_data/file/180733/foi_eumembers
hip_fdi.pdf.pdf

61 Ibid
62 Ibid

growth and activity in the UK. But there are exceptions to this rule where some
industries that are government owned or are controlled by government agencies such
as transport and energy do not come within the scope of the general principle. Foreign
investors like British investors must comply with monopoly and merger rules and
specific approval must be sought form the government in case of a takeover by a
foreign entity of any large or economically significant UK enterprise. No sectors of
the economy are restricted to UK nationals nor is there a requirement as such that the
major equity holdings or a specified holding by UK nationals. However when it
comes to defence there are some restrictions on both UK and foreign nationals.

5.12.6 MAIN LEGISLATIONS RELATING TO FDI

Patents Act of 1949 as amended 1977; amended by Copyright, Designs and
Patents Act of 15 November 1988; and by Patent Act of 1997.
Amendment: approved on 22 July 2004.

Registered Designs Act of 16 December 1949; amended by the Copyright,
Designs and Patents Act of 15 November 1988, further amended on 9 Dec
2001.

Copyright Act of 5 November 1956; the Copyright, Designs and Patents Act
chap. 48 of 15 November 1988.

Copyright (Application to other countries) Order No. 988 of 13 June 1989, S.I.
1989.
Copyright (International Conventions) Order No. 1715 of 19 December 1979
amended by Order No.157 of 7 February 1989, S.I. 1989.

Design Right (Semiconductor Topographies) Regulations No. I I of 29 June
1989.

Trade Marks Act of 1994. Trade Marks Rules No. 135 of 23 January 2000.

Petroleum Act of 1998.
Science and Technology Act chap. 4 of 23 March 1965.
Competition Act of November 1998.
Monopolies and Mergers Act chap. 50 of 5 August 1965.
Restrictive Trade Practices Act chap. 19 of 30 June 1977.
Income and Corporation Taxes Act chap. 1 of 9 February 1988.
Financial Services Act chap. 60 of 1986.
Finance Act of 2000.
Companies Act chap. 6 of 1985; amended by Act chap. 40 of 1989.
Industrial Training Act chap. 15 of 20 May 1986.
Industries Development Act chap. 52 of 5 March 1987.
Coal Industry Act chap. 3 of 5 March 1987.
The Finance Act of 2004.

5.13 CASE STUDY: STANDARD CHARTERED BANK63

Facts: Standard Chartered Bank is a multinational financial services company
headquartered in London, United Kingdom, with operations in more than seventy
countries. It operates a network of over 1,700 branches and outlets (including


63 January, 2012Analysis of European Union Foreign Direct Investment (FDI) in China

subsidiaries, associates and joint ventures) and employs around 80,000 employees
worldwide. It is a universal bank and has operations in consumer, corporate and
institutional banking as well as treasury services. Despite of being a British bank,
around 90% of its profits come from Africa, Asia and the Middle East. Standard
Chartered bank was one of the first foreign banks that developed in China, and it has
been continuously expanding since 1858. After the forming of PR China in 1949,
Shanghai branch has permitted to stay and assist the new government to provide
financial services. During 1950s, the bank focused on providing loans on chemical
plant and steel industry at beginning. With the Chinese openness policy, the bank has
rebuilt its network and now became one of the largest foreign banks in China. The
Chinese headquarter of Standard Chartered Bank is located in Shanghai, where is
considered as financial centre in China, since joining the World Trade Organization
(WTO) on 1 January 2002, China had its so called “5-year transition” period, none of
the foreign banks are entitled to enter into the Chinese market during this period.
Obviously Standard Chartered Bank could not wait long to let domestic banks and
other foreign banks to share this big golden cake once the transition period is ended.
What Standard Chartered Bank did was to set more branches in Hong Kong and
Taiwan, because those two regions reveal many characteristics in common with
Chinese market. Then, after this“warming up” strategy, Standard Chartered Bank
simply moved some of its employees and operations to the mainland, the already
enriched experiences from Hong Kong and Taiwan, made the bank started ahead of
other foreign major competitors Standard Chartered Bank has shifted its target toward
Small to Medium Enterprises (SME), according to the statistics, currently the bank
provided financial services to SMEs is overweighed 50% of its total services,
Standard Chartered Bank managed SME loans by the principles of the “five Cs” of
credit, which are:

Character
Capacity
Capital
Collateral
Conditions
Standard Chartered Bank has designed a unique rating system that can qualitatively
evaluate clients’ cash flow and balance sheet based on its experiences on 56 countries

around global, hence to target Chinese market more effectively, also, the bank has
established market research team, product development team and trade transaction
consulting team to undertake one to one mode in order to specialize to meet different
client’s requirement and to follow the rapid changing Chinese financial industry.

5.14 THE EFFECTS OF FDI
FDI involves the transfer of financial capital, technology and other skills. This
process gives rise to costs and benefits for the countries that are coming to contact due
to FDI i.e. the investing country and the host country. The basic disagreement is on
what constitutes the costs and benefits of FDI from the perspective of the two
countries. Though it is not clear what costs are borne by the involved countries and
what benefits would be enjoyed by them, the disagreement is indicated by the gap
between the holding pro-globalization free market views and those with anti-
globalization and anti-market views. This division of welfare gains does not depend
on only market prises but also on the combined strength of the two countries
bargaining capabilities over the terms of the agreement governing the particular FDI
project. One must comprehend that if one country loses out does not necessarily mean
the other country would gain from it. Both countries must believe that the benefits
that may come out of the FDI must be greater that the costs borne by them because an
agreement would not be reached and the project would not be initiated.
The effects of FDI on the host country can be divided into three facets namely:

Economic
Social
Political
FDI raises income and social welfare in the host country unless the optimum
conditions are distorted by protection, monopoly and externalities. Multi-national
corporations operate is a way to maximize profits and in that process the shift
resources to areas where return is high and buy inputs where their prises is low. The
reason why MNC’s exist and operate is primarily because of market imperfections
which thereby cast a doubt on the validity that FDI leads to increase in welfare. For
the sake of an argument, if it is assumed that the markets are perfect and that there are
constant returns to scale and if capital is allowed to move in freely it would flow from
a low return country to a high return country. This causes the rate of return on capital

to fall in the high return country and rise in the low return country. The social issues
are likely to arise when there are significant economic, social and cultural differences
between the investing and the host country. For example, the social and cultural
impact of Australian FDI in New Zealand will be less than Australian FDI in
Malaysia or American FDI in Saudi Arabia.64
The FDI can be classified into macro effects and micro effects. If there is
unemployment and capital shortage this sort of borrowing leads to rise in output and
income in the host country.
As per some economists the world GDP growth in 2013 is expected to be lower than
in 2012, with economic meltdown in Europe and expected slower growth in the US
and many other emerging markets. This will have a negative impact on FDI decisions
as will the continued debt crisis in Europe and the uncertainty over budgets in the
United States. There is an expected 20% decline in Greenfield FDI in 2013 with it
affecting the economy in a global scale. Most regions will struggle to maintain their
2012 levels of FDI. Although in the previous year’s there were growth industries such
as creative or renewable energy helping to keep up the overall FDI volumes, in 2013
no industry seems to be offering a strong growth prospective with the exception of oil
and gas and heavy industry. A sustained growth in FDI will require a resolution of the
debt crisis in Europe, policy certainty in the US and greater political stability in
Middle East and African countries. Therefore a positive FDI growth in terms of
productivity and profit seems to only take place early in 2014.

5.15 EFFECTS OF FDI IN RETAIL IN INDIA65

The Government in power in India has the following take on retail:
FDI in retail will create 80 lakhs jobs.
Prices of products will reduce.
It will bring in growth and innovation.
It will discipline the inflationary pressure in the economy.


64 Foreign Direct Investment,
Theory, Evidence and Practice, Imad A Moosa,

http://www.petritgashi.000space.com/Fakulteti%20Filologjik,%20UP/Master/Mbi%20Investimet%20e

%20Jashtme%20Direkte/FDI_Theory%20evidence%20and%20practice_kapituj%20te%20zgjedhur.pd

f
65 http://www.sharetipsinfo.com/fdi-retail.html

Globally FDI in retail has improved the productivity of the economy at large. It has
brought in innovation and technology which is accessible on a wider scale. This
positive impact of organised retailing could be seen in USA, UK, Japan, China and
also Mexico. In the United States alone retailing is one of the largest employment
generators. Retail is the second largest industry in the United States.
Many countries have approved FDI in multi brand retail and have benefitted
immensely from it. These countries include Argentina, China, Brazil, Chile,
Indonesia, Malaysia, Russia, Singapore and Thailand. Also small retailers co-exist.
The quality of the services has increased.
Since 1992, when China opened FDI in retail, it saw huge investment flowing into the
sector. The fear that small or domestic retail chains have in India, which is to lose
their business to big foreign retailers is unnecessary because as per the statistics of
China small or domestic retail chains have increased since 2004 from 1.9 million to
over 2.5 million. In Indonesia, for example 90% of the retail business still remains at
the hands of small traders.
In India, the farmers get only 10% -12% of the price that a consumer pays for the agro
products. Therefore organised retailing will benefit farmers in a big way as these big
retailers sell their products at a very competitive price. To meet this competition they
source the products directly from the farmers thereby ending the middle man in this
format of retailing. This not only works out in the favour of farmers but also helps in
keeping a check on food inflation. Also the storage facilities in India to store food
grains and vegetables are inadequate. Since the investment will flow into back end
infrastructure the supply chain will get strengthened. About 20 -25 % of the agro
products get wasted due to improper storage.
Nevertheless much said about good things that FDI in retail will bring but argument
will not be justified if we do not take into account the grey areas. Some of the grey
areas are:

Predatory pricing could eliminate the domestic retailers leaving them with
nothing.
Multinationals are known to use their big sizes to kill competition and get rid
of their competitors.
Because of competition they would want to bring down the prices to attract
customers. The prices can be brought down by squeezing the margins of their

suppliers, so as it is claimed by 1000’s that suppliers would benefit, is still
doubted.
Therefore before these big retailers prowls into the Indian Territory, India needs to
have a strong regulator for the sector and at the same time strengthen the Competition
Commission of India.

5.16 GLOBAL TRENDS IN FDI- 2013 REPORT66

The second biggest decline in FDI since the start of the world recession put a halt to
the slow recovery to the Greenfield FDI in 2012. Globally all regions experienced a
decline in FDI. The main exceptions to this melt down were Chile, Spain, Indonesia,
Poland and Oman, all of which experienced strong growth in inward FDI.
5.17 FDI IN UNITED STATES OF AMERICA

In 2012, the number of FDI projects into North America declined by 9.48%, attracting
only 1671 FDI projects during the year. Their capital investment decreased by
12.61% and job creation declined by 2.36% in 2012 when compared to 2011. Even
after this decline North America was the best in performance in 2012 since the
decline in FDI was much sharper across the world.67
California was the leading state in the region, attracting 205 projects, more than one-
tenth of FDI into North America. The top five states for FDI into North America
remained unchanged from 2011 and in total accounted for 39.26% of the market in
2012. California accounted for 12.27% followed by New York at 8.74%, Ontario at
7.36%, Texas at 6.94% and Florida at 3.95%. Even with the effects of hurricane
Sandy New York experienced a 5.04% increase in projects when compared with
2011. New Jersey suffered a 41.46 % decrease in projects. 68
The top state in terms of capital investment was Texas, which recorded an estimated
$18bn in FDI, a doubling of investment compared with 2011 and attracting 26.59% of
capital investment into North America in 2012. As far as job creation is concerned,
Florida recorded an estimate of 11,468 FDI jobs which is more than double the



66 The FDI Report 2013 Global Greenfield investment trends.
67 Ibid.
68 Ibid.

number recorded in 2011, accounting for 8.58% of FDI job creation in North
America. 69
FDI projects out of North America declined by 15.71% in project numbers in 2012,
with 3150 projects recorded. There was a 34.51% decline in estimated capital
investment and a 32.84% decline in estimated jobs created overseas by North
American enterprises. California recorded 513 projects on outward FDI. California
accounted for 16.29%, followed by New York at 14.67% and Ontario at 5.78%. The
top state in terms of capital investment overseas was California, which invested an
estimated $16.7bn overseas, a 35.74% decrease compared with 2011. New York was
the top state for job creation overseas, with an estimated 43,842 jobs created which
was a 23.74% decrease from 2011. 70
In 2012, ICT with 359 projects and business and financial services with 325 projects
were the top two sectors for FDI projects into North America. These two sectors
accounted for 40.93% (collectively) of FDI into North America in 2012, showing the
dominance of services as the main source of Greenfield FDI projects into the region.
Japanese automotive companies in particular ramped up their North American
investment in 2012 pulled by the growth in the local automotive market and pushed
by natural disasters and strength of the Yen at home. Of the top 10 sectors, the
transportation, warehousing and storage sector increased FDI projects in North
America by 16.36%, transport equipment by 7.32% and the food, beverages and
tobacco sector by 6.35%. The transport equipment sector was the only sector in the
top five for 2012 to experience growth. As far as ICT and transport equipment is
concerned the increase in market share was amounting to 21.48% and 10.53%,
respectively in the year 2012.71
Some of the upcoming major projects in Europe are:

a) Hankook Tire America, the US based subsidiary of South Korea based tyre
manufacturer Hankook Tire Worldwide, is planning its first tyre plant in the
US, with production due to start before the end of 2015. The company will
invest about $1bn. The first phase will cost about $700m and create 1500 jobs.



69 Ibid.
70 Ibid.
71 Ibid.

b) Airbus, a subsidiary of Netherlands-based EADS, will open its first US-based

production facility in Mobile, Alabama. Aircraft assembly of the A320 aircraft
will begin in 2015 and the facility will create 1000 jobs.
c) Automaker Mercedes-Benz, a subsidiary of Germany-based Daimler, will add
1000 new production jobs to its facility in Vance, Alabama. The facility will
be producing the new C-class model.
d) Samsung Austin Semiconductor, a subsidiary of South Korea-based Samsung,
will invest $4bn to expand the capacity for cutting-edge logic production at its
plant in Austin, Texas, US. The project is scheduled to initiate mass
production in the second half of 2013 and will help capitalise on the demand
for Smartphone’s.72

5.18 FDI IN EUROPE

In 2012, Europe saw a decline in the number of FDI projects into Europe. A 20.82%
decrease in comparison with 2011 statistics was faced. A total of 3891 projects were
recorded. The top 10 countries accounted 72.19% of FDI projects into Europe. The
performance of United Kingdom was slightly better than the rest of Europe,
increasing its market share of FDI into the region to 20.87% the highest of any
European country. Spain and Poland were the only top countries to experience a
growth in FDI, following declines in previous years. Poland increased project
numbers by 4.87%, and its market share of capital investment grew to 6.54%. The
country also increased its share of jobs created in Europe to 12.7%, indicating the
attractiveness of Poland for large-scale projects in both manufacturing and services.73
FDI projects out of Europe also saw a decline in 2012. A total of 5468 projects
overseas were recorded, a 17.54% drop compared with 2011. In 2012, the top 10
source countries accounted for 82.64% of FDI projects, with each country holding
onto its ranking from 2011. The United Kingdom alone invested in 1245 FDI projects
ranking it the top source country for FDI from Europe and increasing its market share
by 1.9%. In 2012, ICT was the largest sector for FDI into Europe by project numbers,
up from second place in 2011, and accounted for nearly a quarter of FDI into Europe
in 2012. Business and financial services slipped to second place, reflecting the


72 Ibid.
73 Ibid.

weakness of the financial sector in Europe, but still accounting for about one-fifth of
FDI projects in the region. Transportation, warehousing and storage sector moved
from fifth to third position. While the top five sectors all experienced a decline in
project numbers, the coal oil and natural gas sector maintained its project numbers,
while renewable energy recorded a higher number of projects.74
Some of the upcoming major projects in Europe are:

a) Hong Kong-based sportswear specialist Higson Group plans to open a €4m
factory in Zitoradja, Serbia, and relocate 10% to 15% of its production from
Asia. The factory will employ about 500 workers in the first year of operations
and a further 1000 to 1500 workers by 2014.

b) Germany-based automotive electronics major Draexlmaier plans to invest
€30m to establish a factory in Kavadarci, Macedonia. The new facility will
employ 4000 people and will manufacture automotive components for
Mercedes.

c) Building and construction company Itaco Precast, a subsidiary of Italy-based
Tecnofin, plans to open a factory in the Rostov region of Russia to
manufacture precast concrete structures. The project will see Rbs4bn (€99m)
invested and 1200 jobs created.

d) Jaguar land Rover, a subsidiary of India-based Tata Group, has announced it is
creating 1000 jobs at it is Merseyside plant in Halewood, UK. The company is
also considering doubling the size of its plant by developing the surrounding
land with an investment of £100m (€117m).75

5.19 FDI IN ASIA-PACIFIC

In 2012, Asia- pacific remained the leading destination for FDI with around 3740
projects, thereby increasing its global share to 31.72%. The only country to achieve
growth in project numbers was Australia with its FDI rising by 4.24%. as far as
political stability and FDI is concerned Myanmar acts as a good example, because
after the recent introduction of democracy the south-east Asian country saw a
dramatic increase in inward FDI, with project numbers rising from 10 to 54 in 2012, a
fivefold increase. The country also experienced significant growth in capital


74 Ibid.
75Ibid.

investment and job creation in 2012. Countries like Indonesia, the Philippines and
Bangladesh also all achieved project growth of 7.64%, 11.27% and 66.67%,
respectively. The remarkable performance of Bangladesh makes a positive indication
of the global shift taking place with a re-allocation of efficiency-seeking FDI away
from China and other emerging markets and towards frontier markets such as
Bangladesh with their vast untapped labour pools, low costs and market opportunities.
Even though there was a decline of 14.96% in the number of projects in Asia-Pacific
in 2012 it was still leading in the world region. In 2011, China, India and Singapore
were leading in inward FDI attracting at least more than half of all projects in Asia-
pacific, despite China and India falling sharply by 27.05% and 20% respectively. 76
In 2012, Japan was still the dominant investor from Asia-Pacific although the number
of outward projects from Japan fell. Even after this decline in outward projects its
market share of FDI from Asia-Pacific increased from 34.57% in 2011 to 37.37% in
2012.77
Some of the upcoming projects in Asia- Pacific are:

a) Germany-based automotive giant Volkswagen will invest an estimated
$1.13bn to establish a gearbox plant in Tianjin, China, which will initially
employ 1500 people.

b) Hong Kong-based apparel manufacturer Esquel Group will invest $25m to
establish a garment factory at the Luong Son Industrial Zone in the Hoabinh
region of Vietnam, creating 3000 jobs in the first phase.

c) Germany-based leoni, which produces wires, cables and wiring systems, will
invest between $19m and $29m to build a plant in Hanoi, Vietnam, employing
between 2000 and 3000 people.

d) US-based Knowles Electronic has broken ground on a $15.41m manufacturing
facility in Cebu, the Philippines. The plant, which will manufacture speakers
and receivers for mobile phones, will eventually employ 4000 people.

e) Japan-based Toyota Motor plans to invest an estimated $504m to expand its
diesel engine manufacturing facility in Chonburi, Thailand. The expansion
will see 450 jobs created.78



76 Ibid.
77 Ibid.
78 Ibid.

5.20 FDI IN BRIC COUNTRIES

Brazil, Russia, India and China have all become major players in global FDI. The
BRIC countries attracted 22.29% of global FDI projects from the year 2003 to 2012.
BRIC countries have attracted 26,027 projects since the year 2003 with an estimated
capital investment of $ 2230bn thereby creating about 8 million jobs directly. China
has alone attracted more than one tenth of global FDI projects ever since 2003. The
highest inflow of FDI in BRIC countries can be traced back to 2008 with the total
number of projects panning out at a total of 3205. China, India and Brazil in the year
2012 finished in the top five countries for FDI globally. Collectively, they attracted
17.64% of global FDI projects.79
Brazil saw the largest increase in market share of the BRIC countries in 2012,
attracting 18.42% of FDI projects into the BRICs. Russia attracted 11.3% of FDI
projects into the BRICs in 2012 and ranked second in capital investment in Europe in
2012. India attracted 30.02% of FDI projects into the BRICs in 2012. The country
also performed well from a regional and global perspective in 2012, ranking second in
Asia-Pacific and fourth globally by project numbers. China accounted for 40.26% of
FDI projects into the BRICs in 2012 and captured 8.01% of global FDI projects.80

5.21 CONCLUSION

FDI has proved to stimulate economic growth and development in many of the
countries. It not only promotes capital formation but also improves the quality of
capital stock. In order to promote competitive markets developing nations must
reduce restrictions on FDI. We need to learn from the experiences of successful
countries. The ultimate motive should be to minimize the “bad” and maximize the
“benefits”. The benefits from FDI tend to be maximized when foreign investors
operate on an even and competitive playing field. This means they need to be treated
just like domestic companies (“national treatment”). In addition, competition, free
entry, customer choice and free exit, should determine who gains and who loses. A
competitive and even playing field creates incentives to upgrade productivity
throughout the economy; countries also need domestic actors capable of responding to


79 Ibid.
80 Ibid.

these incentives. This implies that the domestic labour force must be capable enough
of taking advantage of the skills upon which these firms have an edge. The global
investment landscape is evolving and therefore has implications for investment policy
making. With the ongoing fallout from the economic and financial crisis and the
desire of countries to mainstream sustainable development into investment policy has
led economies to revisit their stance on investment policy both in a national medium
and an international scenario. Investment policy making is a transition from an era of
liberalization to an era of more regulation. This has manifested itself to a continuing
state of review, alteration and amendments of the already existing national and
international regime. One the one side there is an ongoing dichotomy between
investment liberalization and promotion and investment restrictions and regulations
on the other. Many countries have started to liberalise and promote FDI but this is
done keeping a close eye on the regulatory and restrictive policy measures. For the
last couple of years more than 95% of investment policy was related in improving the
entry and treatment of foreign investor’s i.e. more liberalization, promotion and
facilitation of Foreign Direct investment. However the new change that can be seen is
the national policy measures are now directed to more investment regulations and the
restrictions have also increased significantly. This trend is characterized by more FDI
entry restrictions, more State influence in sensitive industries such as extractive
industries, financial services and agriculture and a more critical approach towards
outward FDI. The trend reflects an increasing recognition that proper regulatory and
institutional frameworks must balance liberalization policies in order to ensure more
sustainable outcomes.
The signs of global recovery from FDI came to an end in 2012. The number of FDI
projects decreased by more than 16% which was very much in sync with the decline
in the official FDI capital flows of 18% in 2012 which was announced by the United
Nations Conference on Trade and Development. 81 The foreign investors remained
guarded and cautious about the recovery in the world economy. They were
particularly cautious about the debt crisis in Europe and the slowdown in growth in
Brazil and China. The major sector for FDI projects globally was business and
financial services in 2012. United States remained the major recipient of FDI projects
and the leading outward investor. In Europe, FDI projects fell by more than 20%, with



81 http://unctad.org/en/PublicationsLibrary/webdiaeia2013d1_en.pdf.

the biggest decline in Germany. Spain and Poland were the only two major countries
to experience a rise in investment, although project numbers are far below their pre-
recession peak. Asia-Pacific remained the leading region, attracting more than 31% of
global FDI projects in 2012, despite a decline in FDI projects to Asia-Pacific of
almost 15%.


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