FDIs in uncertain times


…Sometimes a new normal requires exploring new solutions for old problems                                         

If predictions about the global economy’s recovery for 2021 had gone as planned, the title of this article would have perhaps been more ‘time confident’.   Unfortunately, events occurring in the last year continue to render futile all attempts to make substantial estimates of when the world, as we knew it, will regain some form of normalcy. The thing we have come closest to predicting accurately is the ever-glaring debt and economic crisis that has been caused.  Developed, developing and under-developed states continue to experience the unpleasant aftermath of the global health disaster.

Africa, with its already ailing economies before the pandemic struck, has been one of the hardest hit.   There is an old saying that “when the “West coughs, Africa catches a cold”. Though this has sadly proven to be accurate over time, the recent ship blockage in the Suez Canal (Egypt) – leading up to the loss of an estimated US$9.6bn of global trade equating to roughly US$400million and 3.3 tonnes of cargo an hour/US$6.7million a minute – revealed how sometimes “when Africa coughs the rest of the world can also catch a cold”. Not to forget the recent shortage of containers in China earlier this year, which continues to drastically affect the price of goods/services globally – including imports and exports.

Such challenging times in an interconnected world presents the opportunity to look beyond traditional proclivities and commence the exploration of alternative solutions to the numerous global economic difficulties.  This will not only minimise the over-reliance on a few options, but further democratise economic and development models to ensure globalisation is more advantageous than disruptive in uncertain times.

Foreign Direct Investment in Africa

As hinted earlier, there were anticipations that by 2021 the global economy would be heading toward recovery. However, according to the UN Conference on Trade and Development (UNCTAD) the uncertainty about the pandemic’s evolution, coupled with the global investment policy environment, will make this impossible. Thus, African countries which rely heavily on Foreign Direct Investment (FDI), particularly Greenfield FDI, for economic growth are expected to incur the most loss.

FDI is generally pursued actively by developing countries as a significant means to facilitate economic growth and development. However, data over the years have shown that it’s anticipated favourable outcomes are not as extensive as anticipated. In fact, they differ depending on the country in question. Similarly, the determinants usually highlighted as vital factors which drive foreign or international investment change depending on the state parties involved.

Despite this, multiple African politicians still perceive attracting foreign investment as a ‘panacea’ that will solve most, if not all, of their country’s economic woes.  As a result, the common disposition has been to actively pursue external financing for multi-million projects, gain the opportunity to host a franchise of a reputable international brand, or a regional/continental office of a multinational corporation. Likewise, FDI is acknowledged as somewhat of a political career-booster (for politicians), the means to create jobs and capital expenditure, or spillover effects in the form of the transfer of skills, knowledge, management expertise and R&D.

The earnest search for foreign investment is not limited to Africa alone. According to a World Bank policy paper by Jacques Morisset, developing countries across the globe for decades have been eager to reduce restrictions on foreign direct investment (FDI) to increase their nation’s chances of attracting external financing opportunities. This is usually done by introducing tempting tax incentives or subsidisations.

Notwithstanding the great lengths some countries will go to gain FDI, his research further highlights that Africa in particular has not managed to attract much foreign investment in the past few decades. Also, Morriset’s findings reveal that when countries on the African continent attracted multinational companies it was mainly due to their abundant natural resources, and then the size of their domestic market.

Conventionally, over the years, countries such as Ivory Coast, Nigeria, South Africa and Angola have been the predominant recipients of FDI in the sub-region. And while nations like Angola and Nigeria have been noted to occasionally present unstable political and economic environments (factors known to deter foreign investment), they have been the two most prominent FDI benefactors due to their comparative advantage in oil.

Other sub-Saharan nations, on the other hand, have largely managed to attract the interest of international investors by enhancing their business environment – an approach usually undertaken through planned policies like introducing an appealing privatisation programme; liberalising trade through certain partnerships; modernising mining and investment codes; and adopting international agreements on foreign direct investment.

It is interesting to note that although these coveted investments have the propensity to increase economic activity (usually captured by GDP data), they don’t necessarily have a direct positive correlation with improving the standard of living for the people – or in economic terms ‘Human Development Index’ (HDI) levels. In the working paper ‘How does foreign direct investment really affect developing countries growth’ published in Leibniz Information Centre for Economics, extensive data reveal how FDI works and the varying outcomes it produces in different economies.

For example, in 1994 Blomström et al. used cross-country data to assess the effects of FDI on 78 developing countries. They found that lower-income developing countries do not enjoy substantial growth benefits from FDI, whereas higher income developing countries do. They further concluded from their findings that a particular threshold level of development is required to make effective use and incorporate new technology from the investments of foreign firms.  In another study by Balasubramanyam et al. in 1996, a sample of 46 developing countries was examined.

It was concluded that the impact of FDI on economic growth is more significant for states which are receptive to trade. They make the argument that liberal economies are likely to both attract a greater volume of FDI and support more effective use thereof than closed economies. Borensztein et al. in 1998 also did a cross-country analysis, of 69 developing countries. They found that the effect of FDI on economic growth depended on the amount of human capital in the host country. Consequently, FDI improves economic growth only if the level of education is higher than a particular threshold.

Finally, in 2004 Alfaro et al. used cross-country data from 71 developing and developed countries. Their findings revealed that FDI plays an eminent role in contributing to economic growth; however, the nature of local financial markets’ development is critical for these positive effects to be attained. They make the point that local firms largely need to restructure their organisations (hire new managers and skilled labour, buy new machines etc.) to benefit from FDI-induced expertise spillovers, which is quite hard to do in weak financial markets.

Are there Alternatives for the traditional FDI model in Africa?  

There are different types of FDI, but Greenfield FDI has been the most popular in Africa and globally over time. This occurs when a parent company expands its interest internationally by establishing a subsidiary in a different country. With Greenfield investment, instead of buying an existing facility the company begins a new venture by erecting new facilities in that country. Construction plans may include more than just a production facility. At times it may also entail the completion of offices and accommodation for the company’s management and staff, including supply/distribution centres.

Since the Coronavirus pandemic, the already competitive world of foreign investment has become increasingly unpredictable.  Data from UNCTAD reveal that FDI flows into Africa declined by 16% in the year 2020, and in 2019 from US$47billion to US$40billion. In 2020 the number of Greenfield projects globally declined by 35%, and in Africa by 63%. UNCTAD’s World Investment Report for 2021 linked the staggering numbers to the surging economic and health challenges caused by the pandemic, along with low prices of energy commodities.

Greenfield FDI, although highly patronised, has the requisite of a physical factor. This means it comes with greater risks and more substantial costs for the investor. Currently, the positive and alluring rewards for such investments are R&D centres which have long been upheld as the new ‘increased value-add’ knowledge-comprehensive, and hence significantly profitable for FDI. The outcome could however be less ideal than expected in these times. For the previous 150-engineer-secure R&D centres could nowadays easily – with all the lessons we have learned through the pandemic – become predominantly empty buildings as people work from home or remotely.

The Fourth Industrial Revolution, on the other hand, is propelling the emergence of new technologies and leading a move away from the traditional investment model; especially as most international tech firms find Greenfield projects less attractive. Rather, they opt for, among others, more collaborative approaches by focusing investment on skill, power production, reliable digital infrastructure and partnering with a local technology firm.

In Douglas van den Berghe’s paper ‘Is the FDI model still fit for purpose?’, he establishes that presently, despite a lack of substantial data, there are multiple traditional MNCs along with a number of growing global companies seeking partnerships to develop networks often not captured in traditional FDI data. These companies are still able to create similar results, such as job creation and other advantageous externalities which the conventional FDI provides.

He further explains that such partnerships have the potential to improve and effectively add to constructing a national ecosystem of next-stage companies and innovative start-ups. In addition, this novel approach to FDI has the capacity to augment the national economic foundation of a country. The establishment of such relationships or networks (while encouraging outward FDI) in various sectors like agriculture, manufacturing etc., could be a substantial avenue for economic development organisations and Investment Promotion Agencies (IPAs) to corroborate less emphasis on traditional greenfield FDI projects.

Such an approach can also be utilised in supporting inclusive value chain development for the agriculture sector in Africa – thus helping to reduce the need for acquiring large farmlands, which ends up displacing locals and smallholder farmers. Here, investment can be geared toward strengthening capacity, networks, partnerships and skills at various stages within the value chain. This can reduce risks and costs for the investor, and in the long run facilitate a well-structured FDI that takes into account the various country to country variances in Africa to ensure a win for all parties involved. Because, as established by data in the previous paragraphs, FDI works differently in every economy.

The world as we know it today is presenting opportunities for us to create alternatives which enhance our capacity to surmount challenges in an increasingly volatile global economy. It is apparent now more than ever that to be able to reduce the ripple-effects caused by limited options, an openness to thinking, creating and embracing multiple avenues to achieving the same results at less risk and cost is imperative.

The writer is an international trade consultant at Blackbridge Consulting Group


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