Introduction

India is considering easing Foreign Direct Investment (FDI) restrictions for select Chinese investors, a significant development in the economic relations between the two Asian giants. Despite ongoing geopolitical tensions, the realities of India and China's respective economic priorities and ambitions for future growth require both to maintain and grow trade and investment ties.

For India, the dream of manufacturing-led growth must give way to Chinese FDI to expand domestic know-how and sophistication of Indian exports. For China, the retrenchment in trade and investment from Western markets and threats of decoupling suggest that India is a critical future export market. While both countries may posture amid border disputes, history and the present situation suggests that India and China will continue to engage and enhance trade and investment links.

Background and Evolution of Sino-Indian Relations

India and China have a long history of economic engagement. However, the relationship between the two soured during the Cold War, especially following India's decision to host the Dalai Lama and the Tibetan government-in-exile in 1959. Tensions culminated in the Sino-Indian war in 1962, which left a lingering distrust between the two nations as they vied for territory. Less remembered is India’s stellar performance five years later during the Nathu La and Cho La clashes, when a refined Indian Army forced a Chinese retreat and incorporated Sikkim.

The rhythm of recent history brings to mind the 2020 Galwan Valley clashes, which marked a significant nadir in Indo-China relations, resulting in a variety of casualty estimates on both sides and heightening military tensions along the Line of Actual Control (LAC). Despite the establishment of buffer zones and multiple rounds of military talks, a complete resolution has yet to be achieved. The border issue has been a critical factor in shaping India’s cautious approach toward China, affecting broader diplomatic and economic relations. Chinese incursions have also proven to be a boon for US-India security cooperation, as satellite intelligence provided by the US to India helped stave off China's actions in the area. The decisive advantage of American intel proves that maintaining a strong US-India relationship, and continued Indian coordination with the “Five Eyes” alliance is imperative to repelling future PLA incursions.

Despite these political and military tensions, economic ties between India and China have continued to grow unabated. Contrary to popular belief, bilateral trade has seen a steady increase, with China emerging as India’s largest trading partner for several reasons. First, the global supply chain disruptions caused by the pandemic have made it more challenging and costly for India to source essential goods and raw materials from alternative suppliers. China, with its well-established manufacturing base and efficient logistics, has been able to meet India's increased demand for crucial inputs like electronics, machinery, and chemicals.

Furthermore, despite the geopolitical tensions, economic pragmatism has led Indian businesses to continue sourcing from China due to the lack of viable alternatives that can match China's scale, variety, and price points. This pragmatic approach reflects a broader recognition of the interconnectedness of global trade and the challenges of decoupling from a major economic powerhouse like China.

As a result, the Indian government has been under pressure to address this dependency, especially as it seeks to boost its domestic manufacturing capabilities with initiative likes the Production Linked Incentives scheme, which has earned criticism as an insufficient solution to expanding India’s industrial prowess.

Motives and Interests

India's consideration of easing investment restrictions on Chinese companies is driven by several strategic economic needs. Primarily, India seeks advanced technology and expertise in sectors where it lacks sufficient domestic capabilities, such as solar energy and battery manufacturing. By substituting Chinese imports for investment, India could help mitigate the trade deficit.

From China's viewpoint, expanding its investments in India offers an opportunity to secure a significant market amidst growing global trade barriers. As China faces increasing scrutiny and restrictions from Western nations, particularly the United States, India represents a promising alternative for Chinese companies seeking lucrative export markets for their products. Amid the ongoing decoupling of the West and China, one popular line of thinking that has emerged among Indian policymakers and economists is positioning India as an intermediary between Western and Chinese companies. This role could also allow India to benefit from technology transfers and investments, boosting its own industrial base and employment.

Conclusion

In its third term, the Modi government recognizes the need for Chinese investment to build its expertise. By encouraging joint ventures and technology transfers, India aims to bolster its domestic capabilities and reduce its reliance on imports. The interest in these sectors aligns with India's broader economic policy, inspired by the "East Asian Miracle," where countries like Japan, South Korea, and China utilized import-substitution-industrialization to direct investment capital and financing for specific sectors to scale economic growth and technological advancement. In either case, even in the absence of progress on the border, the economic reasoning may be enough to compel India and China to expand trade and investment ties. Ultimately, the strategic economic needs and ambitions of both countries will likely override geopolitical tensions, ensuring that India and China continue to develop their trade and investment relationship.

Arman Sidhu is an American writer and educator. He is a doctoral candidate at Arizona State University and his work has previously appeared in Geopolitical Monitor, The Diplomat, Foreign Policy Journal, and Economic & Political Weekly, among others. He is a former Research Fellow with Rise to Peace, an NGO that works on policy and peacebuilding initiatives in South Asia. He was also a former Nonresident Fellow at the Guru Arjan Dev Institute of Development Studies, an NGO and civil society organization based in Amritsar.