Reforms, Investment and Innovation Gaps
Sanjay Roy
IN recent decades, there has been a growing association between global investment and innovation. Nearly 20 per cent of global multinational enterprises (MNEs) are technology firms, and the sectors attracting the largest shares of investment are closely linked to digital innovation. This trend is significant, as it increasingly shapes global investment flows – over half of which are now directed toward developing countries.
Since the turn of the millennium, the share of developed countries in global foreign direct investment (FDI) has fallen below 50 per cent, while the developing South has emerged as a major destination for FDI. Initially, this shift was driven by a new international division of labour, in which the advanced technologies of the North were combined with the cheap labour and abundant natural resources of the South. However, the advantage of low labour costs is gradually diminishing, with rising concern on productivity differentials across the globe.
Simply put, wages and productivity together determine the competitiveness of goods and services, assuming other factors such as quality and logistics costs remain constant. With new technologies entering the production process, rapid productivity growth is becoming a key pillar of global competitiveness. As a result, global competition and investment are increasingly dependent on innovation and adopting new technology.
This shift necessitates significant investment in innovation across key sectors, as well as the development of a workforce equipped with the skills required for emerging modes of production. According to the World Investment Report 2025, excluding volatile financial transactions, global FDI flows declined by 11 per cent compared to the previous year. Despite this decline, developing Asia has emerged as the leading destination for foreign investment.
This development not only indicates that the centre of gravity for growth and investment is steadily shifting toward developing Asia, but it also raises concerns about India’s share in these flows and its preparedness for the evolving patterns of growth.
TRENDS IN FDI FLOWS
In 2024, total global FDI inflows amounted to $1,509 billion, of which 57.5 per cent – or $867 billion – went to developing countries. While this represents a 3.7 per cent increase over the previous year, it remains lower than the $1,677 billion recorded in 2021 and significantly below the $2,219 billion in 2015. Over the past three and a half decades, the average growth of global FDI flows has shown a declining trend.
A significant structural shift in FDI flows is evident: at the beginning of the millennium, developed countries accounted for about 84 per cent of global FDI inflows. This share has since declined sharply to 42.5 per cent. Within the developed world, Europe now accounts for only 13 per cent of global FDI inflows, while North America continues to attract the largest share at 22.7 per cent.
Developing countries now receive more than half of global FDI inflows. Within this group, Asia – particularly East and Southeast Asia – collectively accounts for 32 per cent of total inflows. However, South Asia’s share remains small at just 2.3 per cent. India, which accounted for a mere 0.3 per cent of global FDI inflows in 2000, improved its position to 7.4 per cent by 2020. Yet, following the COVID-19 pandemic, its share has fallen sharply to just 1.8 per cent.
The shift in FDI destinations and the sharp rise in the share of developing countries reflect a transformation in the spatial dynamics of capitalist accumulation. This change is closely linked to Asia’s emergence as a new growth pole of global capitalism.
The deceleration of global FDI flows began with the 2008 financial crisis and was further exacerbated by the COVID-19 pandemic. Looking ahead, investment flows are likely to remain vulnerable to global trade uncertainties, many of which were triggered during the Trump administration.
For countries unable to generate high levels of domestic private investment, FDI remains a crucial means of achieving economies of scale and facilitating technological upgrading. While developing countries initially became attractive destinations for FDI due to their growing middle-class markets – as in India and China – they also offered access to a large global reserve army of labour, available at lower wages, and to natural resources with relatively low regulatory barriers. This “under-reproduction” of labour and nature was a key factor drawing global capital to these regions.
However, these initial advantages are beginning to diminish. Rising inequality and uneven growth have constrained middle-class consumption, reducing disposable incomes. Simultaneously, wage costs are rising, and with the declining role of manual labour in production – especially due to technological advancements – the cost advantage of cheap labour is becoming less significant in determining investment destinations.
This shift is intensifying competition among developing countries. Within the low-wage bracket, productivity differentials are emerging as a decisive factor in attracting FDI.
INNOVATION IN INDIA
It is also important to recognise that as FDI increasingly flows into technology-intensive sectors, attracting such investment now depends heavily on a country’s technological capabilities and capacity for innovation. In the wake of liberalisation, the dominant argument supporting economic reforms was that private capital should have the freedom to invest – particularly in research and development (R&D). The expectation was that with minimal government intervention, private investment would rise, and Indian corporates would take the lead in industrial innovation.
However, after three decades of reforms, the reality is that more than 50 per cent of India’s gross R&D investment still comes from the public sector. In contrast, China – often viewed as a country where private initiatives are tightly regulated by the State –records 77.6 per cent of its total R&D investment coming from the private sector.
Despite receiving various benefits and subsidies from the government, corporate investment in innovation in India lags behind that of other developing countries. The World Intellectual Property Organisation (WIPO) publishes the Global Innovation Index, which ranks countries based on 78 indicators. According to the latest report for 2024, the top three most innovative countries among 133 evaluated are Switzerland, Sweden, and the United States. China ranks 11th, while India stands at 39.
India’s ability to develop technological and innovative capacity is of critical importance, as these factors will soon be the key determinants of competitiveness and investment. It has become increasingly clear that Indian private corporates are not taking sufficient initiative in R&D and innovation; instead, they tend to collaborate with multinational corporations as junior partners rather than lead innovation themselves. This situation underscores the renewed importance of the public sector.
It is now widely acknowledged that countries which have successfully advanced the technology frontier across various sectors have done so through substantial public investment, regardless of their political or economic systems. Given the rising uncertainty in global trade and investment in recent years, and the continued decline in global FDI flows, this trend is likely to persist.
Moreover, India’s share in global FDI inflows remains very small, and domestic private investment trends continue to be sluggish. In this context, it is imperative to strengthen both the physical and human infrastructure for research and innovation through increased public funding. This approach is not new to India. In fact, the country’s scientific capabilities – its institutions and skilled workforce – were largely developed in the post-independence period under strong public sector support. Unfortunately, these foundations have been weakened over the past three decades of neoliberal reforms, to create space for private players.
