India’s legal provisions on National Security arising from FDI

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Context: 

A large part of the debate over Chinese FDI in India seems to weigh potential economic gains against security risks associated with foreign investment. 

What is Foreign direct investment (FDI)?

The term foreign direct investment (FDI) refers to an ownership stake in a foreign company or project made by an investor, company, or government from another country. 

FDI is generally used to describe a business decision to acquire a substantial stake in a foreign business or to buy it outright to expand operations to a new region. 

Read in detail about it here: https://www.iasgyan.in/daily-current-affairs/fdi

Foreign direct investment (FDI) as threats to national security:  

Strategic Asset Control: 

FDI can lead to foreign entities to gain control over critical infrastructure, such as telecommunications, energy, and transportation. For example, concerns arose when Chinese companies sought to invest in U.S. energy firms, as this could lead to foreign control over essential services, making them vulnerable to sabotage or espionage. 

Intellectual Property Theft: 

Foreign investments can facilitate the transfer of sensitive technologies and intellectual property to adversarial nations. For instance, companies may inadvertently share advanced technologies with foreign partners, as seen in cases involving Chinese firms accused of stealing U.S. technology secrets in sectors like aerospace and semiconductor manufacturing. 

Economic Dependence: 

Heavy reliance on foreign investments can create vulnerabilities in a nation's economy, making it susceptible to political leverage or economic coercion. For instance, countries that depend on foreign funding for key industries may find themselves pressured to align with the political agendas of their investors, potentially undermining national sovereignty. 

Influence Operations: 

Foreign investments can be used as a tool for influence, allowing adversaries to sway domestic policies or public opinion. For example, investments in media outlets or social platforms can enable foreign actors to disseminate propaganda or misinformation, impacting democratic processes and societal stability, as observed with various cases of foreign influence in electoral politics.

Need for separate legislation for security reasons 

Lack of legislation

India does not have an explicit law framework that regulates FDI and international trade from the prism of national security. 

Limitations of FEMA(Foreign Exchange Management Act)

There is no explicit provision by FEMA regarding the scrutiny of FDI in relation to the national security consideration. It thus leaves a lacuna of the law as the national security considerations cannot cohabit within foreign exchange control to seek recourse under FEMA.

Use of economic laws for security purposes 

Introduction of Press Note 3 (PN3)

In April 2020, during the COVID-19 pandemic, India issued Press Note 3 in FEMA. This law mandates prior government approval on investments from countries with whom India shares land borders, targeting mainly Chinese FDI to stop opportunistic acquisitions.

FEMA, which is an economic law, is being used as a national security instrument.

Denouncement of most favoured nation status

Immediately after the Pulwama terror attack in February 2019, India denounced its most favoured nation obligation under the World Trade Organisation towards Pakistan and increased customs duties on all Pakistani imports to 200 per cent. 

While the reason to do so was national security, India relied upon section 8A(1) of the Customs Tariff Act — a law relating to customs duties. Section 8A(1) confers “emergency powers” on the government to increase tariff rates. It is typically meant for economic emergencies, not for issues arising from terrorist attacks. 

Comparison with other Countries

While other countries also curtailed Chinese FDI during the pandemic, they did this under existing legal frameworks meant specifically to address national security risks. For instance, Canada's Investment Act explicitly gives governmental powers to screen and act against harmful foreign investments.

International Treaty Practices

India’s international investment treaties and investment chapters in free trade agreements have separate provisions to deal with issues like current and capital account transactions and national security. 

For instance, in the 2015 Model Bilateral Investment Treaty (BIT), Article 6 deals with foreign investment-related exchange control issues, while Article 33 empowers the state to take measures for the protection of national security even if such measures violate the treaty’s substantive provisions. 

Likewise, international trade agreements such as the General Agreement on Tariffs and Trade, contain separate provisions to deal with trade restrictions arising out of foreign exchange difficulties and national security.

However, they work in the international aspect only and for domestic issues, India have to use the economic laws mentioned above.

What India needs to do?

The increased discussions regarding the risks that Chinese FDI poses should spur a wider national debate as far as the enactment of particular legislation goes, based upon international best practices. 

Such legislation would better deal with national security risks and would provide more explicit indication as regards handling foreign investments as well as trade.

Important articles for reference

FEMA

PMLA

Bilateral Investment Treaties

ALL ABOUT FDI: https://www.iasgyan.in/blogs/all-you-need-to-know-about-fdi#:~:text=FDI%20is%20defined%20as%20an,operations%20in%20the%20other%20country.

Sources:

https://indianexpress.com/article/opinion/columns/how-to-deal-with-the-national-security-risk-from-fdi-and-trade-9590370/

https://timesofindia.indiatimes.com/business/india-business/government-eyes-foreign-investment-review-mechanism/articleshow/113796878.cms