Foreign Direct Investment in India

In one line

Foreign direct investment is a capital account transaction, and since 2019 the law governing it is made by the Central Government, not the Reserve Bank. Section 6(2A) empowers the Central Government, in consultation with the Reserve Bank, to prescribe the permissible classes of capital account transactions not involving debt instruments, the limits, and the conditions; section 46(2)(aa) and (ab) carry the rule-making power; and the rules made under it are the Foreign Exchange Management (Non-debt Instruments) Rules 2019, notified by S.O. 3732(E) of 17 October 2019, which contain the entry routes, the sectoral caps, the pricing norms and the downstream investment rules.

Why FDI is regulated at all, and why by this route

Because an inward investment is a capital account transaction, and India has never made the capital account fully convertible. Current account transactions are free subject to reasonable restrictions under section 5; capital account transactions are permitted only to the extent the law allows, because they change the country's assets and liabilities abroad. Foreign direct investment is the most important category of inward capital movement, so it is regulated in detail while remaining, in principle, permitted.

The regulatory aim is no longer conservation of exchange but the management of ownership and control. The questions the FDI regime asks are not "can we spare the foreign exchange" but "may a foreign person own this business, how much of it, at what price, and with whose approval". That is why the operative instrument is a set of rules about sectors, caps and pricing rather than a set of permissions to buy currency.

The statutory architecture

Section 6(1): subject to sub-section (2), any person may sell or draw foreign exchange to or from an authorised person for a capital account transaction. The permission is the starting point; the restrictions are exceptions to it.

Section 6(2): the Reserve Bank may, in consultation with the Central Government, specify (a) any class or classes of capital account transactions involving debt instruments which are permissible, (b) the limit up to which foreign exchange shall be admissible for such transactions, and (c) any conditions which may be placed on such transactions. A proviso forbids either the Reserve Bank or the Central Government from restricting the drawal of foreign exchange for payment due on account of amortisation of loans or for depreciation of direct investments in the ordinary course of business.

Section 6(2A): the Central Government may, in consultation with the Reserve Bank, prescribe (a) any class or classes of capital account transactions not involving debt instruments which are permissible, (b) the limit, and (c) any conditions.

Section 6(7): for the purposes of the section, "debt instruments" means such instruments as may be determined by the Central Government in consultation with the Reserve Bank.