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Context:

The Reserve Bank of India (RBI) released a new framework for reclassifying foreign portfolio investors (FPIs) to foreign direct investment (FDI). 

Difference between FDI and FPI

Foreign direct investment (FDI) and foreign portfolio investment (FPI) are two types of foreign capital inflows into a country, but they differ significantly in nature, investment strategy, and economic impact. 

Foreign direct investment (FDI) is an investment made by foreign investors to acquire a significant stake in a business located in another country. This involves creating a direct business presence, such as constructing manufacturing facilities, acquiring significant stakes in local businesses, or forming subsidiaries.

FPI is defined as investing in financial assets such as stocks, bonds, or securities traded on a foreign country's exchanges. Investors buy these assets with the expectation of making returns, often in the short term.

FPI investments are limited to less than 10% ownership in a company, whereas FDI can involve ownership of more than 10%, giving the investor some control.

FDI generally benefits the economy in the long run by transferring technology, resources, and management skills, whereas FPI usually focuses on short-term financial gains with relatively simple entry and exit procedures.

What is the new framework issued by the RBI for reclassifying FPI as FDI?

The RBI has issued guidelines that require Foreign Portfolio Investors (FPIs) to get the necessary government approvals and consent from investee companies when their equity holdings exceed the 10% limit and they want to reclassify their holdings as Foreign Direct Investment (FDI). 

In sectors where FDI is prohibited, the reclassification option will not be available. The FPI must comply with all FDI regulations, including sectoral limits, entry routes, and investment limits, and ensure that the investee company agrees to the reclassification.

What is an FPI's equity holding limit under the new RBI guidelines?

According to RBI guidelines, an FPI's investment in an Indian company should be less than 10% of total paid-up equity capital. If this limit is exceeded, the FPI must either divest or reclassify the excess holdings as FDI within five trading days of the trade settlement.

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Source: 

Economics Times

PRACTICE QUESTION Q.Consider the following statements: 1. Foreign Portfolio Investment (FPI) is relatively more liquid than Foreign Direct Investment (FDI). 2. FDI is an investment in the form of controlling ownership.  Which of the above statements is/are correct? A) 1 only B) 2 only C) Both 1 and 2 D) Neither 1 nor 2 Answer: C Explanation: Statement 1 is correct: Foreign portfolio investment (FPI) is generally regarded as more liquid than foreign direct investment (FDI). FPI is more liquid because it involves purchasing and selling securities on public markets, such as stock exchanges. Investors can easily transfer funds into and out of a country based on market conditions, interest rates, or political events. Statement 2 is correct: Foreign Direct Investment (FDI) is an investment in which the investor acquires controlling ownership of a firm, real estate, or other asset in another country.