fdi in india and its growth linkages - Department Of Industrial Policy ...

Chapter 5: FDI: Linkages with the Economy
5.1 The Concept
One of the important gains expected from FDI inflows is that it would bring in new skills and technologies and would
generate productive linkages with the economy. The concepts of backward and forward linkages were first described by
Hirschman (1958). Backward linkages refer to the impact of increase in the output of a downstream industry on its
demand for inputs from upstream industries. For example, increased production of passenger cars would boost demand
for steel, rubber (tyres), auto components, etc. The impact of backward linkages differs across upstream industries since
the downstream industry does not buy inputs equally from all industries. Forward linkages refer to increased production
of an upstream industry on requirements of downstream industries. Thus, increased production of petroleum products
would make its availability easy for downstream industries that use petroleum products as inputs. The impact of forward
linkages is not uniform across downstream industries since their requirements of input from an upstream industry are
not uniform. An industry may be strong in its backward linkage effects, forward linkage effects, both of these or none
of these.
FDI inflows have various types of impact on a domestic economy. One of the most important effects relates to “vertical
linkages”, i.e., the impact of FDI coming to a particular sector on inter-industry transactions. Vertical spill-overs can be
analysed through computing backward and forward linkages of sectors where the FDI is coming in.
We concord four-digit DIPP sectors into 130 Input Output Transaction Matrix (IOTM) sectors to check the type of
sectors into which a major share of FDI has been received.
5.2 Computation of Linkages
We used the Hirschman-Rasmussen Index method to compute backward and forward linkages from India’s IOTM
(2003-04). Backward linkages refer to the demand-pull concept and forward linkages to the supply-push concept
developed by Rasmussen (1958) and Hirschman (1958). 1
We follow the computations of backward and forward linkages based on the standard input-output model of an
economy:
AX + F = X
and
X = (I – A) -1 F or X = BF
where X is the n x 1 vector of total output requirement of the economy with n sectors of production; A is the n x n matrix
of input coefficients; F is the n x 1 vector of final demand; and B is the n x n matrix of (I – A) -1
. aij are n x n elements
of input coefficients of A-matrix of IOTM and bij are n x n elements of (I – A) -1 matrix.
1. Refer to CSIRO (2007) for details on computation of backward and forward linkages.
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