Foreign Direct Investment in India’s Retail — What Went Wrong?

December 20, 2011 • Blogs, The Globalist Notebook • Views: 957

by Rachel Brown:

Earlier this month it looked as though Indian consumers might soon have the opportunity to shop in retail giants such as Walmart and Ikea – but they shouldn’t hold their breath. On November 24th, the cabinet of Indian Prime Minister Manmohan Singh announced plans to loosen restrictions on foreign direct investment in India’s $450 billion retail market. Under the new rules, international supermarkets and other multi-brand retailers such as Walmart, Tesco, and Carrefour would have been permitted to own 51-percent of their businesses in India and single-brand retailers (companies like Adidas or Apple) could have owned 100% of their operations. Although Walmart, in a joint venture with the Indian company Bharti, already operates nine wholesale stores in India, such changes would have allowed Walmart and other companies to sell directly to consumers. So this new policy, which the Financial Times described as “the most radical pro-liberalisation reform passed by an Indian cabinet in years,” would have been a boon for big-box retailers.

A typical shopping street in India. (Brown/TYG)

The retail industry is the fastest growing sector of the Indian economy; international retailers would have gained access to a market of more than 1.2 billion people, including a rapidly growing middle class. But significant room for growth in Indian retail remains. Only about six percent of Indian retail sales occur in “organized retailers,” a shockingly low figure compared to rates in two of India’s fellow BRIC nations, Brazil (36 percent of sales) and China (20 percent).

But like any radical change, the Cabinet’s decision stirred up controversy and caused gridlock in the Indian Parliament. Members of both allied and opposition parties refused to cooperate unless the cabinet overturned its decision. The Bharatiya Janata Party (BJP), a major opposition party, was especially vocal in calling for an immediate reversal of the decision. Their criticism was somewhat hypocritical, however; the BJP led the coalition that first pushed for increased foreign direct investment nearly a decade ago. Their new stance seems to stem from political posturing rather than ideological opposition.

Opposition also raged outside the halls of Parliament. On December 1st, traders went on strike over the decision and shut down shops across the country. Those opposed to the decision feared that foreign retailers would drive small shopkeepers out of business and cause significant unemployment. They also worried that the revenues of small farmers would be hurt by the arrival of major retailers looking to buy products at the lowest possible prices.

In the face of such opposition, the Indian Finance minister announced last Wednesday that “the decision to permit 51 percent FDI in retail trade is suspended till a consensus is developed through consultation among various stakeholders.” While this concession by the government broke the parliamentary gridlock, many suspect the suspension on foreign direct investment reforms will be far from temporary. The leader of the Communist Party of India, who opposed the Cabinet’ initial plans, called the government’s announcement “a virtual rollback.” As the past few weeks have shown, consensus on the issue will be near impossible to attain.

So what inspired Singh to introduce such a politically unpopular decision in the first place? Advocates hoped that this policy change would help revive a slowing Indian economy and show that India seriously wanted to encourage foreign investment. Consumers also would have benefited from the low prices at multi-brand retailers and the government hoped that the low prices would help control high levels of food inflation. In India, where more than a third of fresh produce rots before reaching the market, multinational companies could also have helped improve the efficiency and infrastructure of supply chains. Finally, some argued that the arrival of multinational retailers would actually have benefitted farmers, as companies like Walmart would purchase goods straight from farmers, cutting out middlemen who take a significant cut of the profits (not surprisingly such middlemen were vocal critics of the policy).

In China, where Walmart operates more than 300 stores, the company has significantly influenced supply chains, particularly by encouraging suppliers to improve their environmental standards. Walmart buys much of its organic produce in China through a “Direct Farm Program,” which essentially creates farming cooperatives and allows them to sell to large supermarkets. According to Leslie Dach, Walmart’s executive vice president for corporate affairs, through this program the company has been able to “raise farmers’ income, supply them with extension-like services, and give them greater market access. On top of that, we can get stuff fresher and thereby cut down on food spoilage, which reduces waste and helps us lower our prices.” The similarity of the benefits Dach cites to the improvements sought by advocates of increased foreign direct investment, suggests that implementing a similar “Direct Farm Program” in India might have brought about many of the desired changes.

While there were possible benefits for farmers, other sectors of the economy might have been more adversely affected. Megastores sell more than just food, and as an extensive article in Tehelka, an Indian weekly news magazine, points out, foreign companies looking to maintain low costs would be more likely to purchase items such as clothes and toiletries from nations where manufacturing is cheaper than in India. Thus, the arrival of multi-brand retailers would have posed a major threat to domestic manufacturing.

Despite critics’ warnings, Walmart’s arrival would not necessarily have been the death of small businesses. The Bharti-Walmart joint venture already gets more than 40% of its inventory from small and medium enterprises (SMEs). Under the regulations proposed by Singh’s cabinet, multi-brand retailers would have been required to purchase at least 30% of their goods from Indian SMEs.

But after Wednesday’s announcement, such debates have been shelved. It may be months before politicians, businesses, and consumers once again consider whether Indian consumers too will enjoy “always low prices.”

Rachel Brown ’15 is in Saybrook College. She is a Globalist Notebook Beat Blogger on events in South Asia. Contact her at rachel.brown@yale.edu.

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