The government has suggested a gradual opening of the multi-brand retail sector to foreign direct investment (FDI) to spur competition and boost productivity across various sectors of the economy.

In a second discussion paper on 'Foreign Direct Investment (FDI) in multi-brand retail trading', released today, the Department of Industrial Policy and Promotion (DIPP) said competition within the host country sector is a critical driver of improvements in sector performance as a result of FDI.

Quoting various independent and government-sponsored studies, the department said the potential impact of FDI can be greater because of the combination of scale, capital, and global capabilities, which allow MNCs to close existing large productivity gaps more aggressively.

It said FDI can be a powerful catalyst to spur competition in industries characterised by low competition and poor productivity.

The release cited the examples of consumer electronics in Brazil and India, food retail in Mexico, and auto in China, India, and Brazil, to drive home the point.

Competition is also key to diffusing FDI-introduced innovation across an industry, it said.

The biggest beneficiaries from this transition are consumers - both global consumers - who reap the benefits from global industry restructuring, and consumers in the host countries that see their purchasing power and standards of living improve, it said.

FDI, it said, would help bring about improvements in supply chain management, manpower and skill development, tourism development, product demand, and overall improvements in agriculture. FDI in multi-brand retailing would also benefit small and medium scale industries, expand market size.

It would also bring benefits to the government through greater GDP, tax income and employment generation.

The report also recommended that FDI might be allowed in the retail sector. It has also suggested removal of supply chain bottlenecks, relaxation of SSI reservation, removal of distribution constraints, increase in land supply and the creation of an organised market for real estate.

At present, the retail sector - both organised and unorganised - in the country is severely constrained by limited availability of bank finance. The government and the RBI must evolve suitable policies to enable retailers to expand and improve efficiencies.

Besides it recommended the setting up of a National Commission to study the problems of the retail sector and to evolve a clear set of conditionalities on foreign retailers on procurement of farm produce, domestically manufactured merchandise and imported goods. These conditionalities must state minimum space, size and other details like construction and storage standards.

It said the entry of foreign players must be gradual with social safeguards so that the effects of labour dislocation can be analysed and policy fine-tuned. Foreign players should initially be allowed only in metros, it said.

A mid-term appraisal of the tenth Five Year Plan also made a strong case for FDI in modern retailing as entry of modern foreign retailers through joint ventures in India would help develop backward linkages to sources of supply and thus develop a domestic supply chain capable of meeting international standards, it noted.

Allowing FDI in joint ventures is likely to provide access for domestic suppliers to international retailing, which purely domestic modern retailers may not be able to offer, it said.

A 2005 study by the Indian Council for Research on International Economic Relations (ICRIER) had suggested that FDI be allowed in retail trade as it would speed up the growth of organised retail formats.

It suggested a gradual opening of the retail sector over a period of 3-5 years to give domestic industry enough time to adjust to the changes.

In the initial stage, FDI up to 49 per cent could be allowed to enable domestic players to enter into joint ventures have access to investment, technological know-how and best management practices while retaining management control.

The 2008 study has observed that organised retail, which now constitutes only four per cent of the total retail sector, is likely to grow at a much faster pace of 45-50 per cent per annum and quadruple its share in total retail trade to 16 per cent by 2011-12. However, this represents a positive sum game in which both unorganised and organised retail not only coexist but also grow substantially in size.

Unorganised retailers in the vicinity of organised retailers experienced a decline in their volume of business and profit in the initial years after the entry of large organised retailers. The adverse impact on sales and profit, however, weakens over time, it said.

However, it said there was no evidence of a decline in overall employment in the unorganised sector as a result of the entry of organised retailers. The rate of closure of unorganised retail shops in gross terms was found to be 4.2 per cent per annum, which is much lower than the international rate of closure of small businesses. The rate of closure on account of competition from organised retail was found to still lower, at 1.7 per cent per annum. There was competitive response from traditional retailers through improved business practices and technology upgradation.

It said consumers have gained from organised retail on multiple counts. Overall consumer spending has increased with the entry of the organised retail. While all income groups saved through organised retail purchases, the lower income consumers saved more. Thus, organised retail is relatively more beneficial to the less well-off consumers.

While the ICRIER study saw no evidence of an adverse impact by organised retail on intermediaries, there was, however, some adverse impact on turnover and profit of intermediaries dealing in products such as, fruits, vegetables, and apparel, it noted.

Over two-thirds of the intermediaries planned to expand their businesses, in response to increased business opportunities opened by the expansion of retail.

Farmers, it said, could benefit the most from direct sales to organised retailers with higher price realisation for their products.

The entry of organised retail is expected to create significant positive externalities across the economy. Small manufacturers, however, did not report any significant impact of organised retail, it noted.

The study has recommended modernisation of wet markets through public-private partnerships, facilitating cash-and-carry outlets, encouraging co-operatives and associations of unorganised retailers for direct procurement from suppliers and farmers, ensuring better credit availability to unorganised retailers from banks and micro-credit institutions through innovative banking solutions, facilitating the formation of farmers' co-operatives to directly sell to organised retailers, encouraging formulation of "private codes of conduct" by organised retail for dealing with small suppliers.

It also called for a simplification of the licensing and permit regime for organised retail and move towards a nationwide uniform licensing regime in the states to facilitate modern retail.

It also suggested strengthening the Competition Commission's role for enforcing rules against collusion and predatory pricing as also modernization of APMC markets on the lines of the National Dairy Development Board (NDDB) and Safal market in Bangalore.

The Economic Survey 2008-09 had recommended FDI in multi-format retail, starting with food retailing, mentioning that: "initially this could be subject to setting up a modern logistics system, perhaps jointly with other organised retailers. A condition could also be put that it must have (for 5 years say), wholesale outlets where small, unorganised retailers can also purchase items (to facilitate transition)".

The parliamentary standing committee on commerce attached to the department, in its 90th report, on 'Foreign and Domestic Investment in Retail Sector', tabled on 8 June 2009, had identified a number of issues related to FDI in the retail sector. These included job losses due to predatory pricing strategies of large retailers, disintegration of established supply chains by establishment of monopolies of global retail chains, leading to their control of both ends of the supply chain, inability of retail to boost GDP by itself, it being only an intermediate value added process and disruption of current balance of the economy by rendering millions of small retailers jobless.

The committee, in its report, had, accordingly, made a number of observations/ recommendations related to the subject, which, inter alia, included non-adherence of provisions of single-brand trading, practicing of product bundling by corporate retailers and backdoor entry of foreign companies into retailing through wholesale cash and carry trading, unemployment due to slide-down of indigenous retailers as a result of FDI in retail, sidelining of consumers' welfare due to predatory pricing by retail giants, leading to their monopolistic position and dictating of retail prices and unduly affecting of farmers due to non-remunerative prices, paid by procurement centres constituted by big corporates

It has suggested a blanket ban on large domestic corporate houses and foreign retailers from entering retail trade in grocery, foods and vegetables and restrictions on opening of large malls by them for selling other consumer products; reservation policy and extension of financial assistance schemes for expansion and modernisation of small and medium retailers; stopping of issuance of licences for 'cash and carry'

Unemployment created by corporate retail, as unorganised retail provides employment to 40 million people, which accounts for 8 per cent of the total employment, it suggested the establishment of an in-built policy to re-employ/re-locate people dislocated due to opening of big malls in the vicinity of their shops as also preparation of a legal and regulatory framework and enforcement mechanism to ensure that large retailers are not able to dislocate small retailers by unfair means.

The committee had recommended extension of institutional credit, at lower rates, by public sector banks, to help improve efficiencies of small retailers; undertaking of proactive programme for assisting small retailers to upgrade themselves as also the establishment of a National Commission to study the problems of the retail sector; Enactment of an Act to protect medium and small retailers

It has suggested a level playing field for small retailers through proper analysis of traffic and economic impacts before a store is given permission to open. It also suggested the setting up of a Retail Regulatory Authority to look into problems and to act as a whistle-blower, adequate safeguards to prevent diversion of agricultural land for building malls etc and enactment of a National Shopping Mall Regulation Act to regulate the fiscal and social aspects of the entire retail sector.

FDI is permitted in the retail sector in Brazil, Argentina, Singapore, Indonesia, China and Thailand without limits on equity participation, while Malaysia has equity caps on FDI in the retail sector.

FDI in retailing was permitted in China for the first time in 1992. Foreign retailers were initially permitted to trade only in six provinces and special economic zones. Foreign ownership was initially restricted to 49 per cent.

Foreign ownership restrictions have progressively been lifted and, and following China's accession to WTO, effective December 2004, there are no equity restrictions.

In 2006, the total retail sale in China amounted to $785 billion, of which the share of organized retail amounted to 20 per cent.

Post liberalisation, China saw the opening of over 600 hypermarkets between 1996 and 2001. The number of small outlets (equivalent to 'kiranas') increased from 1.9 million to over 2.5 million. Employment in the retail and wholesale sectors increased from 28 million people to 54 million people from 1992 to 2001.

China is witnessing robust economic growth and increasing urban and rural incomes are fueling consumption level in this vast and complex retail environment. According to Euromonitor, retail sales in China, which amounted to nearly $554 billion in 2003, were expected to grow rapidly to reach $900 billion by 2009.