India suspended plans to open its $450 billion supermarket sector to foreign firms such as Wal-Mart Stores Inc
The retreat, within two weeks of the policy being announced, is another nail in the coffin of Prime Minister Manmohan Singh's economic reform program, just as Asia's third-largest economy suffers from slowing growth and falling investment.
It is also likely to cement a view that India is an emerging market slowcoach compared to other so-called BRICS nations such as China and Brazil.
The image, the credibility of the government is lost, said D.H. Pai Panandiker, head of the RPG Foundation think-tank.
Both ruling Congress party allies and opposition parties, fearing job losses for millions of small shopkeepers, had disrupted parliament for two weeks in protest, stalling some key bills such as increased food subsidies for the poor.
The decision to permit 51 percent FDI in multi-brand retail trade is suspended until a consensus is developed through consultations among various stakeholders, Finance Minister Pranab Mukherjee said in a statement on Wednesday.
On the upside, putting the retail plan on hold will get parliament back to work, allowing the government to pass other key reforms.
The policy would have allowed foreign firms such as Wal-Mart, Carrefour
A senior industry source said the suspension also applied to foreign investment in the single-brand retail sector, which had been raised to 100 percent from 51 percent to attract brands such as Ikea. The government did not immediately state its position on single-brand retail investment.
The business community is frustrated anyway. In fact, many of the companies are cash rich, but still don't want to invest. The decision-making process by the government has almost come to a stop, said Panandiker.
The government gave no timeframe for reviving the retail reform. Analysts said deep political divisions over the issue could keep it on the back-burner for some time.
This decision has certainly delayed creating new economic activity, said Kishore Biyani, CEO and managing director of Future Group, the parent of Pantaloon
We are convinced that good sense will prevail at some point and a consensus will emerge in some form, maybe not in the initially proposed form, Biyani said.
Shares in Indian retailers were mostly flat on Wednesday, after falling sharply earlier this week when news of the reform pause leaked out.
The Federation of Indian Chambers of Commerce and Industry, a business group, called the decision deeply disappointing.
It proposed watering down the plan to limit FDI in supermarkets to 49 percent; make the big retail groups source more produce from small businesses; and only allow foreign store openings in cities with at least 1.5 million people.
One senior government source said it was premature to say the retail plan would be watered down in the future.
With state elections next year, including the politically crucial state of Uttar Pradesh, the window for reform may be closing quickly. One leftist party called the suspension a virtual rollback.
From now until the UP elections, I think it will be a stalemate again, except for populist measures, said Panandiker.
The retail plan may not be dead yet. Three years ago, Singh pushed through a civil nuclear agreement with the United States despite initial defeat at the hands of allies and rivals that almost brought down his government.
But the rapid about-turn and obvious disarray among ministers has raised questions as to who is running India.
Singh is 79 and his cabinet are mostly septuagenarians seen as out of touch with this globalizing nation. Sonia Gandhi, Congress party chief and India's most powerful politician, suffers from an undisclosed illness reported to be cancer.
The government has stumbled amid corruption scandals this year and has not passed a single major reform bill.
Prime Minister Singh and his colleagues, economically, they are very smart, but in a democratic system, particularly when you have a coalition, you also need to be politically competent, said Anil Gupta, an INSEAD business school professor.
The economy grew at its weakest pace in more than two years in the quarter to end-September, revealing the toll that stubborn inflation, rising interest rates and crisis-hit global capital markets are having.
(Additional reporting by Nigam Prusty, Annie Banerji and Matthias Williams in NEW DELHI and Henry Foy and Nandita Das in MUMBAI; Writing by Alistair Scrutton and Frank Jack Daniel; Editing by John Chalmers and Ian Geoghegan)