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01 Mar 2025
GS Paper 3
Economy
Day 78: Assess the impact of Foreign Institutional Investments (FIIs) and Domestic Institutional Investments (DIIs) on the Indian capital market. (150 Words)
Approach
- Briefly introduce FIIs and DIIs and their role in the Indian capital market.
- Discuss how FIIs and DIIs influence stock market trends, liquidity, volatility, and economic growth.
- Conclude by summarizing their impact on market stability and future prospects.
Introduction
Foreign Institutional Investments (FIIs) and Domestic Institutional Investments (DIIs) play a crucial role in shaping India's capital market dynamics. While FIIs bring foreign capital, DIIs help stabilize markets by countering fluctuations caused by foreign investor movements. Their impact is reflected in market liquidity, volatility, and economic growth.
Body
Impact of FIIs on the Indian Capital Market:
- Enhances Market Liquidity: FIIs increase liquidity in stock markets, allowing companies to raise capital easily for expansion and innovation.
- Drives Market Trends: Large FII inflows boost stock indices, as seen in 2021 when FIIs invested over ₹2.74 lakh crore, driving Sensex to record highs.
- Leads to Market Volatility: FII outflows cause sharp corrections, such as in 2025, when FIIs withdrew over ₹1 trillion, impacting stock prices.
- Influences Exchange Rates: Heavy FII withdrawals weaken the Rupee due to increased demand for foreign currencies.
- Sectoral Influence: FIIs favor high-growth sectors like IT and Financial Services, influencing stock performance and sectoral allocations.
- Impact of Global Trends: FIIs shift investments based on global economic conditions. In 2025, fund rotation to cheaper Chinese markets affected Indian stocks.
Role of DIIs in Stabilizing the Market:
- Counterbalance to FII Movements: DIIs, including mutual funds and insurance companies, stabilize markets by investing when FIIs exit. In 2025, DIIs invested over ₹83,000 crore, cushioning the market.
- Focus on Long-Term Growth: Unlike FIIs, DIIs invest based on domestic fundamentals, ensuring steady capital flow to core industries.
- Reduces Market Volatility: DIIs prevent drastic market swings by providing liquidity during corrections.
- Support for Indian Companies: DIIs support local businesses, enabling better corporate governance and long-term wealth creation.
Conclusion
FIIs bring capital, liquidity, and growth but also volatility, while DIIs ensure stability and resilience. A balanced approach is essential for a robust capital market. Encouraging FDI, strengthening corporate governance, promoting long-term domestic investments, and enhancing regulatory oversight can ensure sustainable growth, financial stability, and investor confidence.