Investment Behaviour in India

The importance of investment for improved productivity and economic growth has been well established in both theoretical and empirical literature (Solow 1957; Romer 1986). There are also empirical studies that established significant contribution of investment to growth in India (Sahoo and Dash 2009). India’s investment ratio rose constantly at the beginning of the 21st century and peaked at 34.3% of the gross domestic product (GDP) in 2011–12, but has slowed down since then. As per the National Accounts Statistics (NAS) data, the growth in capital formation at 2011–12 base was about 15% during 2004–08. However, it started to fall immediately after the global financial crisis (GFC), reaching 7.8% during 2009–13 and further down to 5.8% during 2014–19. The investment slowdown has continued in spite of the introduction of several policy measures by the Indian government such as the Insolvency and Bankruptcy Code (IBC), goods and services tax (GST), and various legal and regulatory frameworks for effective and efficient administrative processes to stimulate investors’ confidence. India’s investment slowdown is in line with the investment behaviour of emerging and developing countries—decline from 10% in 2010 to 3% in 2017. The investment rate fell sharply in the Brazil, Russia, India, China, and South Africa bloc of five large emerging markets, from 13% in 2010 to around 4% in 2016 (Kose et al 2017). However, the decline in investment in India—one of the key drivers of growth—is a matter of concern for scholars and policymakers as sustaining 7%–8% growth in the medium term may be difficult. Therefore, there is a need for critically examining investment behaviour at the disaggregate levels to diagnose the pattern of slowdown and its underlying reasons.

There are diverse views on India’s weak investment with some commentators underscoring the role of higher capital costs due to the increased interest rates, in line with the neoclassical theory of investment. Others have maintained that a host of other factors, particularly on the supply side, and policy uncertainty are at play. A Reserve Bank of India (RBI 2013) study reports that India’s post-crisis period has been characterised by low real interest rates and low investment levels. The fact that investment levels continue to be low, even in the face of falling interest rates, has been attributed to a lower marginal productivity of capital or expected returns on new investment. Anand and Tulin (2014) note that the deteriorating business confidence and rising policy uncertainty have led to the cancellation of new investment projects and dampened the spirit of business expansion in the post-GFC period. According to the RBI (2019) report, a decline in the financial flows from banks and non-banks to the commercial sector led to weak private investment. Subramanian and Felman (2019) suggest that excessive lending by the banks and corporate sector’s optimistic growth outlook during 2004–08 resulted in over-leveraging. The problem was further exacerbated by the policy paralysis associated with delays in the land and environment clearances and rising financing costs. Furthermore, the credit squeeze amid rising non-performing assets (NPAs)—which has only increased after the asset quality review in 2014 and the non-banking financial company (NBFC) crisis in late 2018—have decelerated investment growth in the country.