Tuesday, 16 October 2012

Welcome to FDI in Retail

Till 2011, Foreign Direct Investment (FDI) in Single Brand retail in India was limited to 51%.Now as per the recent declaration from the Indian Government, the limit is extended up to 100%.Similarly in multi-brand Retail the limit is extended up to 51%.The Single brand Retailers who wants to expand their business with more than 51% owner ship have to procure at least 30% of value of goods from India, preferably from medium and small enterprises, villages and cottage industries, artisans, craftsman in all sectors.
Similarly in multi-brand Retail:
§  The minimum limit for FDI in multi-brand retail sector will be 100 million $.
§  Super market will be allowed in only those cities whose population is more than one million.
§  At least 50% of the overall investment will be made on back-end infrastructure.
§  At least 30% of the goods and product purchased must be procured from local companies and industries.

Now the question which comes in the mind of everyone is what is the need of allowing FDI in retail at this point of time and how these restrictions are going to help us in the near future? For this let’s start finding the possible impacts which can be caused by big retailers in India by looking at the footprints of big retailers like Wal-Mart across the globe.

Economic impacts

Impacts on consumers

The   multi-brand retailers like Wal-Mart, Tesco are known for their streamlined supply chain. The efficiency with which the big retailers connects to producers and reaches consumers allows it to sell the goods far below the prices that other competing retailers and shopkeepers are offering. Apart from selling at lower price it also provides much wider varieties of product to choose from. This is particularly true for supercenters that sell product ranging from groceries to hardware to optical. Lower prices and availability of products in one location indeed gives direct economic benefits to consumers. Consumers will definitely be in the happy condition from the presence of multi-brand retailers like Wal-Mart.

Impacts on existing retailers

The Wal-Mart ability to sell at cheaper price as compare to existing retailers definitely pose a threat to their existence. There is no doubt that some of these existing small retailers will be forced out of business when a new shopping centre opens its doors for the business. Other retailers will be forced to downsize their operations as their customer segment declines. There are some businesses offering goods and services that are not sold by Wal-Mart are likely to have a positive impact because of the greater incidence of walk-in shoppers. Despite this overall we can say the presence of Wal-Mart will have a worsening impact on the wellbeing of small retailers and Kirana shops.

Impact on revenue because of sales and property Tax

The big retailers like Wall-Mart, Tesco, and IKEA can be major revenue generator for the state or place, they are located. This revenue is in the form of Sales tax and property revenue tax. This is surely going to help in the fiscal well-being of the government in the city or town where these big retailers are located. However we should not forget the loss of sales revenue caused by the downsizing of small retailers because of the presence of big retailers. We also need to consider additional costs that the local government must assume in providing new public services to these big giants. Apart from these, as per govt regulation- At least 50% of total investment will be made on back-end infrastructure.
Therefore foreign companies will invest huge capital in India. As a result, refrigeration technology, infrastructure facilities, transportation, etc. will be re innovated. That will lead to low-inflation rate.

 The sales tax depends on the price of quantity which is being sold.  The ability of big retailers to sell things cheaper as comparison to small and medium size retailers shift customer base from these small retailers to big retailers where apart from lower prices customer finds  larger variety of goods. In a store like Wal-Mart people gets things cheaper and also they are motivated for purchasing more goods by using different attractive schemes from retailers. This shift determines the net sales tax revenue generated. Lower the shift lower the revenue generated. This is because a customer buying a good from wall mart is paying less tax as compare to same customer buying from kirana shop. But in case of larger shift(which is likely to happen) of the customer base certainly people are paying less tax but as they are motivated to purchase more thus overall sales tax revenue increases.

Impacts on employment and trade deficit

When we try to look at the impact on employment because of the coming of big retailers, the first thing which comes in the mind is the disposition of small and medium retailers which will surely not be able to compete with the price and variety, the big retailers provide. This is indeed true but the question is -Is this the only impact?
The answer is definitely NO. Let’s try to first understand the present economic condition of India.
The International Monetary Fund (IMF) survey of global economy has found that:
§  India’s government debt is found to be highest at 67.57% of its GDP, followed by the Brazilian government debt at 65.09%. On the other side, debt levels in Russia and China are comfortably fixed at around 8.37% and 22.03% respectively.
§  The exports from India reduced for the fifth straight month in September while imports rose, pushing up the trade deficit to an 11 month high of 18.1billion $.Exports decreased 10.8% from a year ago to 23.7 billion $ while import increased 5.1% to 41.8 billion$. Exports have decreased sharply this fiscal due to reducing demand from west, a major market for Indian goods and other markets like Korea and Japan. The sectors affected most include petroleum products, engineering goods, gems, jewellery, drugs and readymade garments.
Overall we can say our trade deficit is increasing year after year. The manufacturing sector is a major contributor for the existing trade deficit. The information above indicates that we are continuously losing our edge on manufacturing sector because of the presence of cheaper Chinese goods. This might have a serious implication on the employment condition in India. Now let’s see how big retailers widens this import export gap particularly in manufacturing sector  in countries like India whose markets are  already flooding up with cheaper goods of China which ultimately leads to unemployment.

Let’s consider an example of Wal-Mart, started its business in China. The total value of the goods and services traded between US and China is $539 billion in 2011.Exports totalled $129 billion; Imports totalled $411 billion. The US goods and services trade deficit with China is $282 billion. China is currently the largest supplier of goods for US. The value of US goods imports from china is $399.3 billion in 2011, 9.4% increase from 2010, and up 299% since 2000.The major import categories in 2011 were Electrical machinery, Machinery, Toys and Sports Equipment, Furniture and Bedding, and Footwear.
As per the report of Economic Policy Institute, The United States is accumulating foreign debt and losing its expertise in export, and the growing trade deficit with China has been a major contributor to the employment crisis in U.S. particularly in manufacturing sector. Between 2001 and 2011, the trade deficit with China displaced more than 2.7 million U.S. jobs, 76.9 percent of which were in manufacturing sector.

Some critics say China has achieved its rapidly growing trade surpluses by devaluing of its currency artificially and thereby lowering the cost of its exports to the other countries. They have used various tactics like repressing the labour rights, suppressing their wages, subsidizing their products and thus making their product cheaper. China thus gives a conducive environment to big retailers like Wal-Mart to increase their profits while exporting from China and selling it across the globe.
We are nowhere different from America in this case whose manufacturing sector is struggling because of the presence of cheaper Chinese goods. We need to reduce the government debt and at the same time we need to decrease the trade deficit to improve the employment condition in India. To reduce the debt we need serious reforms which can inject money in to our market. For this allowing FDI in retail is not at all a bad option. This will indeed inject surplus money in to Indian market. But then question comes how to reduce the trade deficit.
The answer is definitely ‘30% rule
The rule says:
Atleast 30% of their goods and product must be procured from local source.
The rule is definitely the trump card thrown by GOI considering Indian framework and priorities in mind. This might help in reducing the trade deficit and at the same point small enterprises producing intermediary goods and ancillary items will benefit.
This 30% rule will help in balancing the trade deficit caused because of downsizing of manufacturing sector. As the retailers who wants to expand their business must procure 30% of their goods from local companies and industries, will help small retailers and dealers to sustain their profits and also it will provide new market opportunities to middlemen, small enterprises, local companies and industries.
. Some 20-40% of all fruits and vegetables grown in the country go waste due to poor storage, transportation and handling infrastructure. The huge advantage we could see because of FDI with 30% local sourcing condition is the efficiency in supply chain that foreign retailers can bring, which will provide the huge opportunity in agriculture sector. Exports will boost agriculture sector. If large retailers, whether domestic or foreign, directly source through domestic suppliers, realisations will go up for the local sources, consumers will have to pay less and the retailers will get higher margins.