Business History Vol. 54, No. 5, August 2012, 657–688 Japanese foreign direct investment in India: An institutional theory approach Peter J. Buckleya*, Adam R. Crossa and Sierk A. Hornb aCentre for International Business (CIBUL), Leeds University Business School, University of Leeds, Leeds, UK; bDepartment of East Asian Studies, University of Leeds, Leeds, UK This article charts the history of Japanese corporate engagement with India. While there has been a profound historic relationship between the two nations, economic interaction is commonly portrayed in the context of geographical and psychic distance. As institutions set the rules of corporate engagement, we analyse the evolving regulatory and policy regime for foreign direct investment (FDI) in post-independence India and the corporate strategies of Japanese multinational enterprises (MNEs) in response to this institutional change. Using a firm-level dataset we show that the trajectory of Japanese investment in India broadly follows that of other nationalities of foreign firms. Differentiated responses to institutional changes are detected by industry. Our analysis reveals important instances of Japanese firm flexibility and pragmatism vis-a` -vis the rapidly growing Indian market. Keywords: foreign direct investment; emerging economies; Japan; India; international corporate strategies Introduction Over the past four decades, considerable scholarly attention has been paid to identifying and explaining the determinants and consequences of Japanese foreign direct investment (FDI) and the international expansion strategies of Japanese multinational enterprises (MNEs). However, the majority of this work is set within the particular context of industrialised countries as destinations for Japanese FDI (e.g., Ford & Strange, 1999; Head, Ries, & Swenson, 1995; Thiran &Yamawaki, 1995). With the exception of a small number of studies of individual countries, most notably China (see Belderbos & Carree, 2002; Chen, 1997; Cheng, 2006, 2007; Delios & Henisz, 2003), Turkey (Apaydin, 2009), and Thailand (Brimble & Urata, 2006), much less attention has been given to understanding how Japanese MNEs have approached investment locations in the developing world (Horn & Cross, 2009). This represents a significant gap in knowledge, especially when viewed against the fact that, in 2009, the developing countries collectively attracted 43% of global FDI inflows (United Nations Conference on Trade and Development [UNCTAD], 2010) and more than half of Japanese outward FDI flows (Japan External Trade *Corresponding author. Email: [email protected] ISSN 0007-6791 print/ISSN 1743-7938 online Ó 2012 Taylor & Francis http://dx.doi.org/10.1080/00076791.2012.683417 http://www.tandfonline.com 658 P.J. Buckley et al. Organization [JETRO], 2011), figures which compare to an average for the beginning of the 1990s of 22% and 18% respectively. With this in mind, the purpose of this article is to examine the historical and emergent investment behaviour of Japanese MNEs in India. Our choice of India as an exemplar developing country is made on a number of grounds. Firstly, the engagement of Japanese firms in India has accelerated rapidly over the past two decades, but especially in recent years. By the end of 2010, the value of Japanese FDI stock in India stood at US$13.5 billion (an amount only exceeded by China and Thailand amongst developing countries), which was an 11-fold increase on levels witnessed at the beginning of the decade (JETRO, 2011). Secondly, it is clear that India is poised to become a significant player in the global economy. It already has the fourth largest economy in the world (on a purchasing power parity basis) and is predicted to overtake Japan around 2012 (International Monetary Fund [IMF], 2011). Thirdly, in two annual surveys (2010 and 2011) of the international investment intentions of Japanese firms conducted by the Japan Bank for International Cooperation, India was revealed as second only to China as the most promising country for overseas business operations in the medium term (Japan Bank for International Cooperation [JBIC], 2011). For these reasons, it can be assumed that Japanese firms will intensify their engagement with India. As they do, it is likely that the phenomenon will attract greater scholarly attention. It is important, however, for researchers to understand how investment patterns have been and will be shaped by India’s regulatory and policy environment. Our aim in this article is to shed light on this relationship. Our general approach is informed by ‘new institutional theory’ (North, 1990; Scott, 1987). This theory asserts that, by establishing and administering ‘the rules of the game’, host country institutions play an important role in moderating the behaviour of firms and, in our case, inward investing firms (Meyer & Nguyen, 2005; Wright, Filatotchev, Hoskisson, & Peng, 2005). From an economic perspective, it can be argued that new institutional theory thinking is predicated on the notion that economic growth is promoted in countries where institutions allow markets to operate freely. Therefore, the argument continues, it should be applied with caution to countries such as India and Japan where a more interventionist (or nationalistic) stance to economic policy formulation has traditionally been adopted. Whilst recognising the merits of this argument, we use the new institutional theory approach in a general sense to focus attention on those formal and informal constraints on the behaviour and actions of firms that have influenced the historical engagement of Japanese firms with the Indian economy. Moreover, this approach has already been successfully applied to explaining the internationalisation behaviour of Japanese firms, who have been shown to adapt their investment activities in foreign countries in a flexible way to accommodate macro-environmental factors (e.g., Buckley & Horn, 2009; Cies´lik & Ryan, 2002; Delios & Henisz, 2003) and to pragmatically align their corporate behaviour to changing institutional constraints (Cross & Horn, 2009). In the present study, we extend this thinking to the case of India. The article is in three parts. In the first, the background and context to the evolution of India’s position in the corporate strategies of Japanese MNEs is charted. By reviewing aggregate FDI and trade flows in conjunction with the evolving institutional regime for FDI in India we shed light on investment levels, location choice and industry determinants. Our primary aim here is to contextualise Japanese corporate behaviour in India and to provide a backdrop for a temporal and Business History 659 spatial analysis of Japanese operations in India in the second part. The response of Japanese MNEs to institutional change in India will be empirically analysed and industry effects discussed. By comparing Japanese FDI in India to that of other nationalities of foreign firms we are able to make a qualitative assessment of variable response rates to institutional change in India by source country firms. The interplay between institutional change and Japanese investment is analysed in the third part, where particular emphasis is placed on the often cited notions of geographical and psychic distance between India and Japan (e.g. Dow, 2000; Oˆ ba, 2005; Shimada, 2005; Shintaku, 2009). Inferences about Japanese firms’ responsiveness to adjust- ments in the investment environment, and specifically the institutional environment, are drawn. Using firm-level data, three key issues are explored: (i) how Japanese MNEs have responded to the opportunities engendered by deregulation and market liberalisation in India; (ii) the Japanese approach to institutional change in comparison to the corporate behaviour of firms from other source countries; and (iii) firm- and industry-level variation. We present evidence to support the argument that institutional change in India lowered investment barriers on a sector-by-sector basis in such a way that particular Japanese firms were able to take advantage of specific reforms conducive to investments in their industry. Through this long- itudinal lens we improve our understanding of the expansion of Japanese engagement with emergent economies. We conclude by suggesting avenues for future research. India’s evolving institutional regime Before we examine Indo-Japanese trade and investment patterns within an evolving institutional regime in India, it is important to note that both countries have enjoyed a long history of indirect cultural and economic exchange. Buddhism found its way to Japan from India via China and Korea in the seventh century, and even during Japan’s seclusion period (1638–1858) the Dutch East India Company established trade routes between the two countries. The first direct contact can be traced to the beginning of the Meiji period (1868), when raw materials sourced from India facilitated Japan’s early industrialisation (Leonard, 1993). By creating a direct shipping route between Bombay and Kobe in 1883, a number of Japanese industrial conglomerates (or zaibatsu) such as Mitsui and Mitsubishi not only successfully challenged international competitors (Davies & Katayama, 1999; Yamamura, 1976), but also established trade between the two countries. The trading arm of Mitsui Bussan (a soˆgoˆ shoˆsha or general trading house) was a pioneer in this regard. By 1915, India had replaced China as Japan’s main export market (Rajamohan, Rahut, & Jacob, 2008) and Japan’s share of Indian exports matched that of many European countries. With the development