By Akhil Raj Gupta

At the outset, it is crucial to broadly understand the policy framework within which Foreign Direct Investment in multi-brand retail will operate in India. (The recent declaration in the BJP manifesto to disallow it notwithstanding.) The salient features are –

  • FDI in multi-brand retail will be allowed with maximum 51% equity stake held by the foreign partner.
  • The foreign entity must compulsorily make an initial investment of $100 million, of which 50% must be dedicated to back-end infrastructure that includes processing, manufacturing, distribution, cold storage, etc.
  • 30% of the local sourcing requirement should be met from SMEs that are defined by an investment in plant and machinery less than $2 million as on the date of engagement.

Within this ambit, the positive (and negative) impact of FDI in multi-brand retail on various sectors of the Indian economy can be categorized into a simple supply-side and demand-side framework.

  1. Positive impact on the supply-side
  • With established global credentials and proven economies of scale, foreign competitors establish lean supply chains designed to maximise efficiency. A report by the The Economist1 estimates that food wastage in India is about 33%, a figure unthinkable for most developed nations. A causal link can be unequivocally attributed to the ‘Walmart effect’, which explains how low food wastage (and consequently, inflation) in these countries is a result of superior management practices at the ‘point of sale’ and technological integration of suppliers by the retailer.
  • It will generate a transfer of power from middlemen in the ‘mandis’ who inflate prices without adding value, to the large retailers who would be provided an incentive to invest in cold-storage, post-harvest infrastructure, and dissemination of technological know-how.
  • Employment in the retail sector will increase markedly, especially for rural-urban migrants who are often semi-skilled. Conservative estimates place this figure at approximately 2 million new jobs. Large retailers have also demonstrated the capability and willingness to train underprivileged youth for sustainable employment evidenced by the 18 Bharti Walmart Training Centres currently operating in India.2
  • Mandatory sourcing requirements from SMEs will compel them to adapt to dynamic inventory needs of large retailers, providing a strong impetus to financial and technological innovation.
  • Indian retail entrepreneurs looking to scale up and increase their footprint will have access to FDI from private equity. Their establishment will increase the proportion of organized retail in India, only 5-7% at present.3
  1. Positive impact on the demand-side
  • A research paper by ICRIER (4) highlights that Indian consumers are both brand and price-sensitive. However, within the domain of fruits and vegetables, consumption of branded products is insignificant. Most consumers agree that modern retail is preferred due to better product quality, fresh stock, and variety. This is the qualitative dimension of enhanced consumer welfare that is likely to result due to FDI. The authors assert that this effect is visible across sectors like telecommunications and automobiles, wherein advent of foreign competitors has simultaneously led to lower prices and better quality.
  • The standard economic doctrine contends that lower marginal cost achieved by big-box retailers would push the profit-maximizing quantity higher. Generically speaking, Walmart and other retailers are known to operate as low-margin and high-volume businesses. Increased output is reflected in lower prices and accessibility to lower income groups. This is the quantitative dimension of consumer benefit.

An additional advantage would be the expansion of free trade with countries that expect India to be fully liberal with its policy environment in a rapidly globalizing world.

  1. Negative impact on the supply-side
  • A report by UNI Global Union(5) argues that large-retailers like Walmart often ‘capture’ labor markets and exert downward pressure on wages by behaving ‘monopsonistically.’   In 2007, Walmart had ostensibly lowered average retail wages by 10% – displacing higher-paying jobs and pressurizing competitors to reduce wages – at an annual cost to US workers of $4.5 billion. ‘De-unionisation’ often reduces the bargaining power of workers significantly.
  • Higher labor productivity in these capital-intensive organisations is conducive for output growth but implies that every additional Walmart worker effectively replaces 1.4 ‘ordinary’ retail workers. (6)
  • In his article(7), Shekar Swamy extends the monopsonistic argument to agricultural procurement and argues that according to the US Department of Agriculture’s Economic Research Service, in 1990, ranchers and farmers received 60 cents of the retail dollar spent on beef, retailers received 32.5 cents and meat companies 7.5 cents. In 2009, the numbers were reversed — retailers took 49 cents, farmers got 42.5 cents, and meat packers 8.5 cents.
  • In response to the DIPP’s discussion paper on FDI, The Maharashtra State Committee of Traders(8) predictably argues against introduction of FDI by quoting A.C Nielson data that entry of multi-brand retailers has dislocated many small traders and severely mitigated their quality of life.

In sum, we can conclude that there are compelling arguments on either side of the debate. The costs of allowing FDI are indeed substantial but manageable through rigorous policy frameworks like minimum wage enforcement and well-defined consumer protection against predatory pricing. However, it is important to view the benefits of this move in a dynamic sense. To quote the great J.A. Schumpeter (9),

“We have got to accept that the large-scale establishment or unit of control is the most powerful engine of progress,and in particular, of the long run-expansion of total output in spite of this strategy (of restrictive output or prices) which looks so restrictive when viewed in the individual case and from the individual point of time.”

Sources

1. http://www.economist.com/node/21541017

2. http://timesofindia.indiatimes.com/city/hyderabad/Bharti-Walmart-training-centre-in-Hyderabad-trains-1000-youth-in-9-months/articleshow/21649433.cms

3. A.T. Kearney (2010): “Expanding Opportunities for Global Retailers-2010 Global Retail Development Index”, A.T. Kearney, 2010

4. http://www.icrier.org/pdf/policy_series_no_5.pdf

5.http://www.uniglobalunion.org/sites/default/files/attachments/pdf/FDI_Report.pdf

6. Neumark, David, Junfu Zhang, and Stephen Ciccarella. “The Effects of Wal-Mart on Local Labor Markets.” IZA Discussion Paper.

January 2007. Available online at:http://www.newrules.org/sites/newrules.org/files/images/neumarkstudy.pdf

7. http://www.thehindubusinessline.com/opinion/how-fdi-in-retail-will-hurt-farmers/article2747451.ece

8.http://dipp.gov.in/English/Discuss_paper/FeedBack_AmericanChamberofCommerce_30July2010.pdf

9. J. Schumpeter, Capitalism, Socialism, and Democracy

Akhil is currently in his second year at college, pursuing a Bachelor of Arts degree in Economics (Hons) at Sri Ram College of Commerce, University of Delhi. He has been passionate about writing since an early age and is currently involved with the official College magazine and Economics Department magazine at SRCC. His areas of interest include behavioural economics / finance, econometric analysis, macroeconomic policy, and political theory. He spends his free time reading extensively, watching interesting videos on YouTube, and trying to convince everybody around him that he really does know a thing or two about economics in the midst of all the pontification!He can be reached for feedback atakhilrajgupta@gmail.com

 

Posted by The Indian Economist | For the Curious Mind