How Can India Defend ‘Allegations’ By China Over Its FDI Policy?

India’s domestic legislative framework should clearly provide for national security as ground to screen investments.

Image used for representational purposes.

(Photo: iStock / Altered by The Quint)

One major revelation amid the COVID-19 pandemic has been that India lacks a legislative framework to deal with national security issues related to foreign investment as well as international trade. The absence of this legislative framework could pose daunting challenges for India under international law. To understand this, let us take the example of the recent amendment to the foreign direct investment (FDI) policy.

With an eye on curbing opportunistic takeovers by Chinese companies of Indian businesses weakened due to COVID-19, India amended the FDI policy subjecting investments from countries sharing ‘land border’ with India to stricter controls. As per the new policy, investment from these countries will be screened under the approval route and are disallowed under the automatic route. Curiously, the policy doesn’t mention national security as the central reason for this alteration. Translating this policy into law, the Indian government will screen Chinese FDI under the Foreign Exchange Management Act (FEMA), which is primarily an exchange control law.

Does India’s Amended FDI Regulation Breach ‘MFN Obligation’?

Given China’s recent aggressive posturing in Eastern Ladakh, it might try tightening the noose around India’s neck by challenging the regulation before a World Trade Organisation (WTO) panel.

China can make a strong argument that India’s amended FDI regulation breaches the most favoured nation (MFN) obligation under WTO’s General Agreement on Trade in Services (GATS).

MFN, as a general discipline of GATS, prohibits a WTO member state from adopting regulations in trade in services that accord less favourable treatment, that is, alters ‘conditions of competition’ to service suppliers of one member than that accorded to those of any other country in respect of similar services. Consequently, China can contend that its service suppliers are competitively disadvantaged in comparison to service suppliers from other countries because they are subject to different procedures vis-à-vis similar services.

In case of such a challenge, India might endeavour to defend its FDI regulatory measure under Article XIV bis of GATS that allows member states to digress from their treaty obligations for national security reasons. Although this national security provision is ‘self-judging’, India’s regulation shall be subject to a good faith review by the WTO panel as held in the Russia – Measures Concerning Traffic in Transit case, involving Russia and Ukraine.

It is here that India will face a major handicap.

Why World Trade Organization ‘Might Not Believe’ That India Had National Security Concerns Over Chinese FDI

India’s domestic law characterises the screening of Chinese FDI as an exchange control measure, not as a national security measure. Thus, a WTO panel will find it hard to believe that India had genuine national security concerns arising from Chinese FDI. The same legal hurdle will arise if India’s measures are challenged as breaching bilateral investment treaties (BIT), which also allow states to deviate from treaty obligations for national security goals.

Similarly, India had earlier used the wrong law to justify trade tariffs imposed purportedly for national security reasons.

Immediately after the Pulwama terror attack in February 2019, India denounced its MFN obligation under WTO towards Pakistan and increased customs duties on all Pakistani imports to 200 percent, relying upon section 8A(1) of the Customs Tariff Act. This section confers ‘emergency powers’ on the government to increase tariff rates. It is typically meant for economic predicaments, not for trepidations arising from terrorist attacks. Compare this with the US increasing tariffs on steel and aluminium for national security reasons using the Trade Expansion Act that explicitly provides for safeguarding national security.

Can Legislative Framework Provide For National Security?

Ideally, India’s domestic legislative framework should unambiguously provide for national security as a ground to screen investments or to modify tariff rates. This would enable India to mount a credible defence of such policy measures under international law.

For investment screening, India must adopt a legislation along the lines of liberal parliamentary democracies like Australia (Foreign Acquisition and Takeovers Act, 1975) and Canada (the Investment Canada Act, 1985).

The proposed legislation should empower the Finance Minister to review certain foreign investment transactions on national security grounds, if they involve acquisition of control of an Indian company by a foreigner. The Finance Minister should act on advice of a committee of secretaries of Ministries of Home Affairs, External Affairs, Finance, Commerce and relevant line ministries. If a transaction is rejected, the Finance Minister must issue a reasoned order to that effect within a specified timeline.

No More Knee-Jerk Trade Decisions Like In Pulwama Attack Aftermath

For trade tariffs, India must consider inserting a new section for safeguarding national security in the Customs Tariff Act along the lines of section 232 of the US Trade Expansion Act, which empowers the US government to conduct investigations to determine if any import impairs national security. A provision modelled on section 232 of the US Trade Expansion Act will ensure that the Indian government conducts investigations to demonstrate that import of a particular product threatens national security, before taking any action. This investigation should include consultations involving all relevant ministries.

Decisions arrived at in this fashion shall have credibility under international law.

They shall not look like knee-jerk reactions stemming from one incident, as happened after the Pulwama attack.

Overall, these reforms would substantially improve India’s ability to defend investment screening or tariff measures for safeguarding national security under international law.

(Prabhash Ranjan is a senior assistant professor at South Asian University's faculty of legal studies. He tweets at @pranjan12781. Pratik Datta contributed to this article. This is an opinion piece, and the views expressed are the author’s own. The Quint neither endorses nor is responsible for them.)