India Cracks Down on Chinese Investment as Mood Turns Against Beijing

India has become the latest country to restrict Chinese investment, acting on fears that Chinese state-backed entities will swoop in to buy Indian companies weakened by the coronavirus pandemic.

Though the Indian economy has yet to be hit as hard as those of China and the developed West, a deeper slump seems inevitable. Globally, the coronavirus pandemic has unleashed an economic collapse not witnessed since the Great Depression of the 1930s. Worldwide trade is expected to fall between 13 and 32 percent in 2020, the International Monetary Fund is predicting a global recession, and the United Nations estimates income losses around the world to total around $2 trillion.

As governments in Europe, North America, and elsewhere try to support businesses reeling under the financial pressure, they have also become more worried about China—with concerns surrounding Beijing’s trade practices, Chinese intellectual property theft, and global overdependence on Chinese supply chains, not least for face masks and medical ventilators. Japan, for example, recently announced a $2 billion subsidy program to get Japanese companies to relocate production from China to Japan. Earlier this month, the European Union’s competition chief, Margrethe Vestager, called on EU countries to consider buying stakes in their businesses to deflect the threat of Chinese takeovers.

India is no exception. On April 17, the government tightened its policy on foreign direct investment (FDI) to require investment from any country that shares a land border with India to go through a government approval process. Since the only neighbor with significant trade flows is China (neighboring Pakistan and Bangladesh already faced restrictions), the target of the new rule was abundantly clear.

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According to the Indian Ministry of Commerce, tighter restrictions on Chinese investment became necessary in order to prevent “opportunistic takeovers” of Indian companies. The trigger may have been the disclosure earlier this month of the People’s Bank of China—the Chinese central bank—buying a 1 percent stake in India’s largest nonbanking mortgage provider HDFC Bank, bringing its total holdings in the lender to 1.75 percent at the end of March. China has protested against the revised rules, claiming a violation of the World Trade Organization’s free trade rules. However, there are plenty of precedents for this kind of restriction. Even before the coronavirus pandemic, European countries were increasingly modifying domestic economic policies to ensure greater scrutiny of Chinese investment—especially mergers and acquisitions—in order to protect domestic firms, in particular those in technology and manufacturing. China’s stakes in Indian technology companies also raise major concerns over the protection of intellectual property rights, data privacy, censorship, and national security.

China today ranks among one of the top FDI sources in the world, with 74 percent of Chinese FDI going to Asian countries. According to India’s Department for Promotion of Industry and Internal Trade, Chinese FDI from April 2000 to December 2019 totaled $2.3 billion. This figure has been growing, but in recent years India still has ranked only 31st among destinations of FDI from China; of all FDI inflows to India, Chinese investments have only been 0.52 percent. The biggest increase has been in the acquisition of shares in existing businesses, including pharmaceuticals companies—a source of concern during coronavirus-related medical supply chain fears. Chinese investment has also been directed toward technology start-ups. According to a study, 18 out of 30 Indian “unicorn” companies (tech start-ups whose market capitalization has reached $1 billion or more) have significant Chinese investment. Indian companies such as payment app provider Paytm, online retailer Flipkart, and ride-hailing company Ola Cabs count China’s Alibaba or Tencent among their investors. India’s technology firms, which operate in a market that shares many structural similarities with China’s, have benefited not just from the capital inflow but also from the experience of Chinese firms.

However, China’s increasing stakes in Indian start-ups and other technology companies also raise major concerns over the protection of intellectual property rights, data privacy, and national security. Alibaba, for example, is the single largest shareholder in Paytm, which handles the daily financial transactions of millions of Indians. Although this is ostensibly a private investment, India isn’t the only country concerned about the Chinese government’s influence over private technology companies’ foreign activities, whether this concerns technology transfer, access to sensitive data, or the implementation of Chinese censorship policies. The recent increase of Chinese investment in India may also represent a shift away from investment in the United States, where Chinese FDI faces growing suspicions and scrutiny.

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Until the new regulation took effect, scrutiny of Chinese investments in India had been rudimentary at best—nothing compared to the way the telecommunications technology provider Huawei, for example, has been scrutinized in the United States and Europe. One reason is that individual Chinese FDI transactions in India are small, rarely exceeding $100 million. One of the reasons sentiment changed in India was that Chinese investments were increasingly focused on acquiring controlling stakes in India’s e-commerce and tech start-ups. Under the new rules, regulators at the Ministry of Commerce can be expected to look much more closely at such transactions due to the sensitive nature of this industry, and due to the possibility of Chinese companies—and through them, the Chinese government—gaining access to sensitive information on millions of citizens. With Chinese firms investing across sectors such as online payment portals, e-commerce, and ride-hailing services, they could potentially gain access to data that would allow the comprehensive profiling of a large share of Indian citizens. Restricting foreign investment remains a double-edged sword in any country, but especially a developing one.

Indian start-ups rely heavily on overseas venture capital. All start-ups with valuation over $1 billion have significant foreign funding, mainly from the United States and China. Though India has a vibrant technology sector, it has yet to develop a deep domestic venture-capital industry that can nurture and sustain a start-up ecosystem without overreliance on foreign funding.

Lack of domestic venture capital and other investment financing is one of the reasons why India originally opened itself up to Chinese investment, and restricting foreign investment remains a double-edged sword in any country, but especially a developing one. As part of its policy to deregulate and modernize its economy, India remains open to FDI from many other countries, such as the United States, Japan, and the members of the European Union. But toward China, New Delhi has had a change of heart, with a growing consensus that greater reliance on China is not in India’s long-run economic interest. This is especially true because China has been unresponsive to requests to address the huge trade deficit India has with China.

Recently, India’s dependence on China for active pharmaceutical ingredients (India imports about 68 percent of its requirements from China) adversely impacted the production of hydroxychloroquine, the anti-malaria drug undergoing clinical trials for its possible effect on COVID-19. This was widely seen as a wake-up call for India to reduce its reliance on Chinese imports, and it may have played a role in the decision to protect Indian companies during a downturn that makes them more vulnerable to takeovers. The step may also give New Delhi some bargaining power in future negotiations with Beijing, as India continues to be an attractive market for Chinese investments. Importantly, the new FDI policy does not prohibit Chinese investment but may be an opportunity for India to direct the investment to favored sectors and make Chinese investment more controlled and transparent.

Still, a more negative, less welcoming attitude in India toward Chinese investment is undeniable. It builds on earlier skepticism toward Chinese investment, such as India’s rejection of participating in China’s Belt and Roads Initiative of transportation infrastructure investments. The coronavirus crisis, in particular China’s mismanagement of the initial stages of the outbreak, has generated an intensely negative public sentiment against Beijing—in India and many other countries around the world. Indian policymakers, who had to carefully manage an already troubled bilateral relationship, will find the future trajectory even more turbulent.