FOREIGN direct investment (FDI), is one of the most significant factors of economic growth. The past eight decades have witnessed remarkable growth in FDIs flow all over the world. Many countries, especially developing countries, see FDI as an important component in their overall strategy for economic development. The overall impact of FDI on macroeconomic growth and other welfare-enhancing processes, and on the channels through which these benefits take effect is generally positive and the overall benefits of FDI for developing economies are well recognized. Countries that have attracted substantive foreign direct investment and registered impressive economic growth include Ireland, China, Vietnam, Indonesia, Malaysia, India, Turkey, Gulf States and Singapore among others.
FDIs contribute to economic development of host country mainly in two ways. Firstly by augmentation of domestic capital and secondly by enhancement of efficiency through transfer of new technology, marketing and managerial skills, innovation, and best practices. However, FDI’s impact is determined by the country’s specific conditions in general and the policy environment in particular. This includes the ability to diversify the level of absorption capacity, targeting of FDI and various opportunities for linkages between FDI and domestic investment. Developing countries, emerging economies and countries in transition, therefore, increasingly see FDI as a source of economic development and modernization, income growth and employment. In view of these benefits, countries have liberalized their FDI regimes and pursued other policies to attract investment. They have addressed the issue of how best to pursue domestic policies to maximize the benefits of foreign presence in the domestic economy.
Policies of host countries have an important influence on foreign investment decisions. Host countries can adopt policies of stimulating foreign investment or they can restrict foreign participation in their economies in various ways. In addition, host country policies can be instrumental in channeling investment flows toward sectors considered to be of particular importance to the country’s development. ASEAN countries and Gulf States are a good example of countries that created the requisite investment-friendly environment and policy framework and making full use of FDI. In 1947, Pakistan was basically an agricultural economy. Its industrial capacity was negligible for processing locally produced agricultural raw material. This made it imperative for successive governments to improve the country’s manufacturing capacity. In order to achieve this objective, different types of industrial policies were implemented in different times with a changing focus on either the private sector or the public sector.
During the 1960s, government policies were aimed at encouraging the private sector while during the 1970s, the public sector was given the dominant role. Nationalization damaged the business attitude and low business sentiment hampered continuous growth. In the 1980s and 1990s, the private sector was again assigned a leading role, especially during the decade of the 1990s. Pakistan adopted liberal, market-oriented policies and declared the private sector the engine of economic growth.
Moreover, Pakistan also offered an attractive package of incentives to foreign investors. As a result Pakistan registered impressive economic growth from 2002 to 2007. Impressive economic development was also achieved from 2013 onward as a result of massive injection of FDI from China through the China-Pakistan Economic Corridor (CPEC) projects. This significantly increased China’s share in Pakistan’s FDI replacing the United States and the United Kingdom. It must be pointed out here, that decreasing volume of FDI from the country’s traditional trade and economic partners is also reflective of a decline in political ties with the West.
FDI inflows to Pakistan decreased against the global trend of investors rushing to developing countries like Bangladesh, Vietnam, etc. Some economic analysts feel that economic policies do not respond well in Pakistan as they have become a victim of the system and non-conducive work culture. To achieve economic stability, Pakistan needed repeated IMF support 24 times since 1947 and has become the only country to receive so many IMF packages and had to repeatedly adhere to strict fiscal adjustment demands.
Tax rates have been generally high and regularly changed through SROs or mini budgets. Businesses, therefore, operate in an environment where business community is forced to take actions for their existence in the market not on growth. In recent years the net FDI has gradually declined including from China. The worrisome sharp decline in the more permanent, non-debt-creating foreign direct investment, is a huge cause of concern.
The issues are endemic which include volatile policy structure, macroeconomic instability, lack of confidence of domestic and international investors and financial institutions. Recent tax issues created further lack of trust of businesses in public policies, while public deficit has made policies more volatile.
The threat of terrorism, macroeconomic instability, political volatility and energy shortages, inappropriate and unpredictable policies, inconsistent economic growth rate and a balance of payment crisis, due to import-led growth and rising debt payments have also kept foreign investors from bringing money into Pakistan. Economic analysts feel that Pakistan has also lost its advantage in international trade by continuing to depend on low-tech products. However, a major factor keeping foreign investors away is the country’s lack of integration with the regional and global economy, as well as inconsistent economic policies.
Moreover, political instability and constant imbalance in civil-military relations further discourage foreign investors to invest in Pakistan. For instance, foreign investors often complain about the difficulty in obtaining security clearance from the Ministry of Interior and the inconsistencies in investment laws at federal, provincial, and local levels. Pakistan does not provide any formal investment incentives, such as tax deferrals and subsidized loans, for investors which further discourages foreign companies from seeking investment opportunities in Pakistan. Stringent regulations, lengthy dispute resolution procedures, and bureaucratic delays all contribute to an erosion of investor trust. The severe austerity measures taken under the IMF bailout program have further deteriorated the business environment in the country.
There is no contesting the fact that FDI inflows are important to keep the pressure off the country’s balance-of-payments situation and plug depletion of the central bank’s foreign exchange reserves by strengthening the financial account of the State Bank. It is however, important to note that for FDI to succeed and enhance economic growth, a wide range of policy actions are required both by the government institutions and the business community.
In order to attract FDI, Pakistan needs to take the following steps urgently:
• Ensure political stability. Investors are averse to uncertainty and political chaos.
• Ensure law and order situation and take strong measures to control terrorism which is once again raising its ugly head.
• Build investor confidence, by ensuring that there is a consistent tax policy, an efficient tax system.
• Instead of placing more pressure on the salaried class in the form of increased income and sales taxes, the wealthy need to be brought under the tax net.
• Ease stringent investment conditions in order to attract foreign investment in the country.
• Tax the agricultural sector of Pakistan, the least taxed sector of the economy despite its significant contribution to the country’s economy.
• Educate and train working-age populations to participate in the manufacturing sectors to attract FDI.
• Recalibrate the budgetary priorities allocating appropriate funds for education and research to support FDI opportunities in the future.
• Diversify and expand foreign investment partnerships beyond China, the United States, Saudi Arabia, the United Kingdom, and the United Arab Emirates, by actively engaging in diplomatic efforts that could open up new avenues for FDI.
• Increase economic diplomacy efforts with East Asian and emerging African economies, and market itself as a potential economic hub in South Asia.
• Engage with Central Asian countries to enhance trade and connectivity in the region.
15. It would not be wrong to conclude that Pakistan’s new geo-economics, which has been declared the central focus of National Security Strategy, can only be achieved once domestic barriers to FDI are removed.
—The writer is former Ambassador, based in Islamabad.
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