Export growth in India has been much faster than GDP growth over the past few decades.Several factors appear to

have contributed to this phenomenon including foreign direct investment (FDI). However, despite increasing inflows

of FDI especially in recent years there has not been any attempt to assess its contribution to India's export

performance one of the channels through which FDI influences growth. The Government of India recognizes the

significant role played by foreign direct investment in accelerating the economic growth of the country and thus

started a swing of economic and financial reforms in 1991. India is now initiating the second generation reforms

intended for a faster integration of the Indian economy with the world economy. As a consequence of the

introduction of various policies, India has been quickly changing from a restrictive regime to a liberal one. Now FDI

is also encouraged in most of the economic activities under the automatic route.

Studies about Western firms propose that market size and expected growth are the most essential determinants of

FDI into the area. Political and economic stability is also an important factor affecting FDI. Over the past 30 years,

there have been various studies done on the impact of outbound and inbound activity of multinationals on the

growth and fiscal restructuring of the economies that they operate in (Dunning and Narula, 1996). These studies

suggest that this is dependent on three main variables; the type of FDI taken on, the composition of the local

resources and capabilities of the country, and the economic and organizational policies followed by governments.

Firms employ FDI in order to best utilize or manage more efficiently the existing competitive advantages.

The study conducted by Aqeel and Nishat (2004) tests if tariff rate, exchange rate, tax rate are significant for FDI. It

states that these policy variables draw FDI and determine the growth in Pakistan. It also shows a positive impact of

reforms on FDI in Pakistan. A wide spread of determinants have been examined related to FDI in the past. Several

studies (Chakrabarti, 2001) on the determinants of FDI direct to the selection of a set of descriptive variables that are

used and are important factors affecting FDI. Some researchers underline how the domestic market size and

differences in factor costs are related to the FDI location (Markusen and Maskus, 1999). This magnifies the

significance of market size and its expansion for foreign firms functioning in industries having large scales

economies. As the economies of scale cannot be exploited before the market achieves a certain size. The measures

of market size that are used extensively are GDP, GDP per capita and growth in GDP.

Labour cost which is one of the main components of the cost function also influences FDI. Some studies find very

little or negative relationship between wages and FDI, Some studies suggest that higher wages do not always

discourage FDI in some markets and therefore there is a positive relationship between wages and FDI (Love and

Lage-Hidalgo, 2000). As higher labour costs leads to higher productivity which gives better quality goods. Lately

studies are aimed towards the impact of specific policy variables on FDI in the host country. Trade, tariff, taxes and

exchange rate are included in these policy variables. Asiedu (2002). Emphasize on policy reforms in developing

countries that act as a determinant of FDI. They state the corporate tax rates and the sincerity to foreign investment

are important determinants of FDI. Horizontal FDI is linked with market seeking behavior and is induced by low

trade costs. Therefore high tariff barriers motivate firms to take on horizontal FDI. Thus production abroad by

foreign subsidiaries replaces exports. This 'tariff jumping' theory entails a positive relation between FDI and import

duty (Aqeel and Nishat, 2004).

Vertical FDI is when individual firms specialise in different production stages of the output. The semi finished

goods are exported to other subsidiaries for further production. This fragmentation of the production process gives

the company an advantage of different factor prices across different countries. Vertical FDI reduces the cost of

production and marketing of the product and in turn leads to higher profits. Foreign investors give great importance

to fiscal incentives and the taxation structure. They hunt for markets with low taxes as it affects the profitability of

the investment. To draw FDI several tax break rules are presented to the MNEs as an inducement. The researches

done on FDI empirically have found a negative correlation between taxes and location of the business (Shah and

Masood, 2002).

Some studies found no significant impact of taxes on FDI (Hines, 1996). Whereas, the study by Froot and Stein

(1991) suggests that there is a positive effect of taxes on foreign investment. The study conducted by Basile et al

(2005) suggests that Italy is not greatly affected by tax rates. Fluctuations in the corporate tax rate do not

significantly influence FDI. Hence there is a strong negative rooting from the national institutional and policy

system.

Factors Affecting FDI

1.1 Political stability

Political stability is one of the factors that affect FDI decisions globally. Firms do not prefer to make profitable

investments in countries that are politically instable or there is a volatile or unpredictable political situation. Threats

of civil disorder, unrest or even civil war are also factors that dissuade foreign investment. The extent and reliability

of political stability remains an important issue in many economies. In some countries, commitment to the reform

process and to a market economy is soundly based (Estrin et al, 1997). Political power is often fragmented, and

previous communists have started to win elections. There is a close inter-relationship among commitment to reform

and FDI. Successful countries can use this as a signal of their commitment to reform policies. FDI is attracted by

thriving reforms.

1.2 Policy Environment

A second concern for firms considers FDI into a specific country is the policy environment. These policies vary

from country to country and time to time. Macro-economic policy- Limp macro- economic policy and high inflation

are common in stable emerging markets. It considerably adds to exchange rate and other risks undertaken by foreign

investors. Governments are in a position where expenditures for social policies or defence are soaring, but habits of

a low occurrence of personal taxation make it difficult to finance which leads to fiscal production and inflation tax.

Inflation rates that are high imply abating and uncertain exchange rates, which damage foreign investment. Debt or

input supplies that are denominated in foreign currencies are a good example. Exchange rate indecision leads to

more costs in terms of hedging risks. Stabilization programmes address the primary disparity which may lead to

capital losses related to radical currency depreciation. The path taken by a country depends on its economic

structure. The character of government policy linked to a specific system differs from country to country having the

same economic system and at the same stage of development. There are two main areas of government strategy that

directly imposes on the nature of the investment development path of an economy: macro - economic strategy and

macro - organisational strategy (Dunning, 1992).

The government plays a good part in determining the macro - economic policy which is often associated with the

economic system. There is substantial discrepancy between countries in the position of governments in forming

macro - organisational strategy. It mainly affects the organization of economic activity and the nature of the policies

most suitable changes as the country evolves. This mirrors the nature of market imperfections that the policy is. The

government plays a part in facilitating the market where its macro - organizational policy advances over time.

Increasing economic specialization related to economic development leads to an expansion in market collapse and

boosts the benefits of government macro - organizational policy.

A positive government action basically to supply information to foreign investors can be important. Firms that have

traditional links with an economy, motivates them to become the first movers, example- geographical, cultural or

historical reasons. Firms are also sensitive to other related fundamentals of economic policy, including personal tax

rates for their staff, and the nature and effectiveness of a countries government policy.

1.3 Institutional and Infrastructure Development

The third factor that influences firms concerns the institutional arrangements in the area in question and its

infrastructure. Multinationals will be cautious of committing themselves to economies whose laws are disorganized,

because of which their assets and earnings will be poorly protected. Such economies might have corrupt public

administrations, which can drastically decrease the profit of the firm, as the administration may seek to make profits

for itself. Countries where telecommunications is poor, transport is costly and utilities such as energy is unreliable,

are the countries that receive the least amount of FDI. These problems mainly occur in communist countries where it

is now being rectified.

1.4 Exchange Rate Effects

The outcome of exchange rates on FDI has been studied both with respect to variations in the bilateral level of the

exchange rate amongst economies and in the volatility of exchange rates (Blonigen, 2005). Various studies have

been done on the consequence of exchange rate fluctuations on FDI. But none of these studies help in concluding

the direction and magnitude of its influence. State an imperfect capital market where a currency appreciation in the

host country might increase outward FDI. When the markets are imperfect, the in-house cost of capital is lesser than

borrowing from outside resources. An appreciation of money directs to increased company wealth and supply the

company with superior low cost funds to invest into the subsidiary firms abroad that are going through devaluation

of their currency. Depreciation in the host currency raises FDI into the host country and on the other hand an

appreciation in the host currency reduces FDI (Froot and Stein, 1991).

The research by Blonigen (1997) suggests another way in which alterations in the exchange rate level in the host

country affects its inflow of FDI. If the foreign investment made by a company is encouraged by the attainment of

assets that can be transferred within a company across different economies without a monetary deal such as

technology and managerial skills, then an appreciation in the exchange rate of the foreign currency will lessen the

cost of the asset in that particular foreign currency, but it might not lower the nominal returns. Several studies have

found evidence than short term fluctuations in exchange rates leads to higher inward foreign investment.

1.5 Taxes

Both international and local economists have great interest on the effects of taxes on FDI. It is an obvious fact that

higher taxes dishearten foreign investors. De Mooij and Ederveen (2003), highlights that the influence of taxes on

FDI varies considerably by the type of taxes, amount of FDI activity and the treatment of taxes in the host and

parent economies. Multinationals face tax restrictions in both the host and home countries which are another

important issue. Different economies have different ways of acknowledging the double taxation issue that

complicates the usual influence of taxes on FDI.

The paper by Hartman (1985), suggests that profits earned by affiliate abroad will finally be subject to parent and

host country taxes in spite of them being repatriated and reinvested in the foreign subsidiary to create further

income. These foreign taxes cannot be avoided at any cost. New investment judgments take transfer of new capital

from the parent to the subsidiary into consideration. These do not originate from the host country and still have not

sustained any foreign taxes. This has two significant propositions. First, that company will finance new direct

investment through retained earnings and later through new infusions from the parent firm.

Second, is that FDI done by using retained earnings will react only to host country tax rates and not to the parent

nations taxes or its way of dealing with double taxation issues. On the other hand the investment made by using new

transfers of capital, will respond to home and host nations taxes and rates of return obtainable in both the markets.

1.6 Trade Protection

There is a fairly clear link between FDI and trade protection. Higher trade protection makes companies more likely

to replace exports with subsidiary production. This is known as tariff jumping foreign investment. There has been

very little research done on this as this approach is simple and general. This theory is data driven and therefore it is

hard to measure non tariff type of protection in a reliable manner across markets. Many studies have been done

using industry level measures to test the trade protection programs which \ have not been conclusive (Blonigen,

1997).

2 Host Country Determinants

As the global economy has opened to international business dealings, the nations compete increasingly for FDI not

only by improving their policy and economic determinants, but also by executing proactive facilitation measures

that may go beyond policy liberalisation.

2.1 FDI Policies

FDI policies consist of rules and regulations prevailing admission and functions of foreign investors, the standards

of treatment accorded to them and the operation of the markets within which they function. The policies range from

absolute ban of FDI to non discrimination in the handling of foreign and domestic companies. The trade policy plays

the most important role amongst the complementary policies employed to influence location decisions. Other

policies that are related embrace privatisation policies and policies determined by the international agreements a

nation might sign. Policies that are used deliberately to attract FDI and their locations comprise the 'inner ring' of

the policy system of FDI.

2.2 Business Facilitation Measurers

The liberalisation of FDI policies is seen as an enabling act meant for creating a level playing field for all investors.

This act is progressively complemented by proactive measures, intended to assist the business undertaken by foreign

investors in the host nation. They encompass promotion attempts, the prerequisites for foreign investors, decrease in

costs of doing business such as reducing corruption and improving administrative competence and provision of

services that contribute to the excellence of the expatriate.

The promotional activity is increasingly becoming more important. Nations that have changed their FDI policies,

countries that want to regain their investor's attention and countries that are invisible or unattractive to the investors

have all started to resort to it (UNCTAD, 1995).

Increased competition for FDI has led to more proactive policies meant for actually bringing in FDI. Investment

producing measures include industry specific investment assignments. But the most capable and important activity,

though costly, targets firms that are likely to respond to promotion efforts. They also invest in a given host country,

especially in transactions considered desirable for the host country.

Investment facilitation service is another increasingly important element of promotional activities in both the

developing and developing nations. These services consist of counselling, accelerating the several phases of the

approval process and providing assistance in acquiring all the necessary permits. This includes the creation of 'one

stop shops', that is single organisations that are able to handle all matters related to FDI, in developing countries and

some developed countries (Wells and Wint, 1990)

Conclusion:

One of the most liberal policies for foreign investment and technology transfer is followed by India. Foreign

investment gives the Indian industry a chance for technological up gradation, access to global managerial skills and

practices, optimum utilization of human capital and natural resources, and to compete efficiently in the international

market. FDI is vital for India's integration with the universal production chains that are engaged by various

multinationals across the world. There is a mountain of cash available in the world financial markets, some of which

is awaiting Indian government signal to flood in. A few rules and policy changes have to be made before the

floodgate is open. This money will also bring with it foreign participation, which is sorely needed for this very

complex and highly technical sector. FDI has transformed China. It will do the same to India. The question is 'what

is the delay'. The first and foremost is to understand bureaucratically how to manage the FDI in the infrastructure

sector and how to pay it back with export earnings. Second is how to avoid future Enron type fiascos. The latter had

ten years of shameful delay and cost escalation in the construction of much needed power plant. Nuclear power

plants, which require imported technology and Uranium, will most certainly require FDI in big amounts.

Modernization of transport sector, another area lagging far behind, is to be undertaken in earnest. It also requires

foreign money and their technical expertise

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