FDI in retail: Watch this space…after a decade

Written by  //  December 2, 2011  //  Economic & Social Policy  //  4 Comments

Last month, the government announced that it would remove the limit on single-brand FDI (currently at 51 per cent) and permit FDI in multi-brand retail of up to 51 per cent in cities with a population of more than 10 lakh. FDI in the wholesale sector has already been permitted for well over a decade. Earlier this year, a writer on C20s did a piece in anticipation of the move.

As usual, the media coverage on the issue has veered from shrill to shriller. The commerce minister, Anand Sharma, seems to believe that FDI will create 10 million jobs (that’s more than the population of Bangalore). The anti-FDI brigade is so eager to damn the idea that, according to them, supermarkets will not only gouge Indian consumers but also simultaneously decimate all kirana shops.

Consumer is king?

The long-term potential winners from such a move are undoubtedly the consumers. Supermarkets are likely to compete on lower prices, consistent (if not higher) quality and on the platform of providing a broad and inclusive one-stop shopping experience. If they fail to deliver on these counts, they will only be as successful as domestic multi-brand retailers such as Reliance Fresh (if personal experience counts for anything, I’ve seen at least one RF outlet in south Delhi which retails a lot of low-quality produce, in various stages of rot, at no real price benefit). The idea that supermarkets will collude and bully the consumer with overpriced rubbish is totally inconsistent with the international experience of supermarkets competing aggressively on price. If anything, it is the suppliers of the supermarkets who will be gouged.

Green revolution part 2?

Which brings us to the other big winner – apparently the agricultural sector, which, if government is to be believed, will soon witness a revolution in productivity on account of FDI inflows. Government has introduced a requirement that at least 50% of the total FDI must be invested in ‘back-end’ infrastructure, particularly in developing supply chain management systems (including the ubiquitous “cold storage”) that source agricultural products from rural areas and supply them to cities. A further requirement is that the retailers source a minimum of 30% of processed products from small industries (most of which is to be Indian, it is hoped). This creates the opportunity for some much-needed investment in rural and agricultural infrastructure, which the government presently doesn’t seem to be able to afford.

Improved infrastructure will lead to better supply, less waste and lower inflation. Retailers may switch to contract farming through upfront payments to agricultural farmers and producers to guarantee supply through better-developed transport and storage infrastructure. So far, so good. But then comes the idea that poor farmers will potentially receive an income boost through higher prices for their products. Unfortunately, the Indian (and global) experience of bargaining between corporate giants and impoverished farmers suggests that poor farmers are rarely the ones to win out. There are likely to be significant shifts in cropping patterns, moving towards high-revenue products for which demand is steadily increasing, particularly fruits and vegetables, which may further work against farmers with fewer resources. Retailers are most likely to source first from the largest farms and then subsequently from medium and small-sized farms. Until demand expands sufficiently, I suspect smaller (and desperately poor) farmers will be left out of the party.

Mass unemployment?

A big question mark hangs over employment. Kirana shops are certain to lose out (even though they are unlikely to be instantly vapourised, as some doomsday-prophets insist). The much-maligned middleman in agriculture might be out of a job, though perhaps immediately re-employed by the big stores to manage their own sourcing requirements. Stores will, of course, generate employment as well, and one can hope that the net change will be marginally positive but it certainly isn’t obvious that it will be.

The restriction of FDI to large cities initially struck me as slightly bizarre. Are rural consumers not sufficiently deserving of lower prices? Are urban kirana employees not sufficiently deserving of job protection? Perhaps the government believes the rural economy is more dependent on the retail sector, so dislocations in this sector will be associated with much higher costs in rural areas than in urban areas. Perhaps big retailers will find it easier to rent land in central locations in rural and semi-rural areas at lower costs, giving them a bigger opportunity to dominate the retail market and destroy the competition.

What happens now?

This host of restrictions suggests to me that there isn’t very much to worry about – as yet. Limited to a handful of large cities, facing high rents in inconvenient locations and struggling to contend with a thousand logistical problems, foreign retailer margins will be too high to put the current system out of work. The global supermarket model of locating megastores 15-20 kilometres outside cities doesn’t work in the Indian context and the new entrants will either have to adopt a smaller, more flexible strategy in terms of retailing products or will learn to live beside the kirana stores.

So why are they so keen to enter? In a decade or so, the Indian market will be the big catch that global players will not want to miss out on. They’re looking to prise themselves into the domestic market and hang in there through a period of high costs and little joy, helped in no small way by their deep pockets. As regulations are gradually relaxed and as the domestic consumption market expands over the next decade, these players will slowly begin to reap the rewards of patience and consolidate their hold on the domestic retail market.

And that’s when everybody should be worried.

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