India's government will likely increase monitoring of fund flows from Hong Kong, which it deems to be a close proxy for Beijing.

The chief economic adviser, Krishnamurthy V Subramanian on Wednesday, said he favored greater scrutiny of direct and indirect Chinese investments, indicating that the government will likely step up monitoring of fund flows from Hong Kong, the Financial Express reported in India.

Foreign direct investment from Hong Kong stood at US$4.51 billion between April 2000 and June 2020, or close to 1 percent of the total, while that from China was US$2.41 billion, or only 0.5 percent of overall inflows. Nevertheless, given the low valuations of virus-hit Indian firms, such investments were expected to surge, especially in sensitive sectors.

Conceding that such curbs may impact funding for start-ups in the short term, Subramanian, however, was confident that the vacuum will be filled up by investors, especially private equity funds, from other countries.

Tighter scrutiny will limit the possible diversion of Chinese investments through Hong Kong.

Responding to a question on whether indirect investments from Hong Kong will also be subject to a treatment akin to Press Note 3 (under which FDI from China and other bordering nations requires government approvals), he said: “Investments that are coming from across the border, from the country with which we have tensions right now, need to be scrutinized, and those include not just the direct but also indirect ones.”

It’s not immediately clear if restrictions could be extended to foreign portfolio investors (FPIs) as well, in which case the implications will be much larger. Currently, there are 111 registered FPIs from Hong Kong and 16 from China.

FPIs are among the biggest drivers of the Indian financial markets, as net FPI inflows in 2019 stood at US$18 billion.

Speaking at a Ficci event, Subramanian also highlighted the need to ensure bankers are not pulled up later for honest business transactions in the course of resolution of toxic assets under the Insolvency and Bankruptcy Code, especially on the critical issue of haircuts.

“There is always a possibility of hindsight bias, which can create enormous risk aversion. If a decision is read as a possible mala fide intent, that can also make bankers skittish in being able to take that judgment,” Subramanian said. He also called for the creation of a market to discover the price of distressed assets.

As for greater monitoring of Chinese investments, India on April 18 tightened its FDI policy to curb “opportunistic acquisitions” of domestic firms that saw a massive crash in valuations after the pandemic. It stipulated that all FDI proposals from bordering nations would require government clearance. Importantly, the notification also covers any transfer of investments or future FDI resulting in beneficial ownership falling with firms from the bordering nations, including China.

A Chinese embassy spokesperson in Delhi had in late April said cumulative investments (including FDI) in India exceeded US$8 billion as of December 2019.

Also, according to a recent report by researchers Amit Bhandari and Aashna Agarwal, Chinese tech investors have put an estimated US$4 billion into Indian start-ups. Over the five years ending March 2020, 18 of India’s 30 unicorns are now Chinese-funded. “TikTok, the video app, has 200 million subscribers and has overtaken YouTube in India.

Alibaba, Tencent and ByteDance rival the US penetration of Facebook, Amazon and Google in India. Chinese smartphones like Oppo and Xiaomi lead the Indian market with an estimated 72 percent share, leaving Samsung and Apple behind,” the report said.

Aggravation of tensions on the border have pulled India and China apart.

India likely to raise scrutiny of Chinese fund flows from HK