Whalesbook
FDI Slump Worries Experts More Than Deficit
India's rupee is weakening due to a severe slowdown in foreign direct investment (FDI), according to Sajjid Chinoy, Chief Asia Economic Researcher at JPMorgan. He noted that while India's overall economic health appears stable, foreign capital is increasingly avoiding the country. This FDI decline, which began two to three years ago, is seen as a greater concern than the small current account deficit of 0.5% of GDP, a stark contrast to pre-pandemic inflows that averaged 2.6% of GDP.
US Treasuries Offer Attractive Returns
The main reason for the drop in FDI is the appeal of U.S. Treasury bonds. With yields on 10-year Treasuries approaching 5%, they offer a nearly risk-free return that surpasses the risks associated with emerging markets. Investors can earn significant profits from U.S. debt without facing currency, country, or execution risks, leading to a global flow of capital towards developed markets and away from countries like India.
Lack of Domestic Investment Appeal
India currently lacks the domestic incentives needed to attract global capital. Unlike the period between 2005 and 2010, when strong corporate investment cycles drew substantial FDI even with high global yields, India's current investment environment is weak. Manufacturing capacity has been stagnant for a decade, failing to spur new capital expenditure.
Global Competition and Price Pressures
India faces stiff competition for investment related to diversifying supply chains away from China. Countries such as Vietnam have been more successful in attracting this type of investment due to better export competitiveness. Additionally, increased exports from China and excess global production capacity are creating global disinflationary pressures. This could reduce the pricing power of Indian companies, further discouraging investment.
Oil Prices and Rupee Stability
Rising crude oil prices, expected to stay above $100 per barrel through 2026, pose a risk of widening India's current account deficit to 2.5% of GDP. To manage these pressures, the rupee might need to absorb shocks, possibly with support from measures aimed at increasing capital inflows and rebuilding investor confidence. A long-term solution, however, depends on accelerating structural reforms and creating attractive investment opportunities to boost private capital spending and secure sustained FDI.