22706 The Foreign Direct Investment Environment in Africa April 2001 Africa Region Working Paper Series No. 15 Abstract This paper discusses the legal, business and economic environment for Foreign Direct Investment (FDI) in Sub-Saharan Africa. It finds that despite recent improvements the FDI environment is still inadequate to attract high quality, efficiency-seeking, globalizing FDI; and that Africa is lagging behind in the development of its competitive factors of production. It suggests a way forward - which includes improving the competitiveness of the investment climate; attracting FDI into existing areas of comparative advantage, such as extractive and other natural resource activities; developing regional networks and integration; and accelerating privatization. Authors' Affiliation and Sponsorship Miria A. Pigato, Senior Economist, AFTM2, Africa Region, The World Bank Email: mpigato@worldbank.org THE WORKING PAPER SERIES The Africa Region Working Paper Series expedites dissemination of applied research and policy studies with potential for improving economic performance and social conditions in Sub-Saharan Africa. The Series publishes papers at preliminary stages to stimulate timely discussion within the Region and among client countries, donors, and the policy research community. The editorial board for the Series consists of representatives from the Africa Region's professional families appointed by the Region's Sector Directors. Editor in charge of the series: Antoine Waldburger, AFTM3, Email: awaldburger@worldbank.org, who may be contacted for hard copies. For additional information visit the Web site http://www.worldbank.org/afr/wps/index.htm, where copies are available in pdf format. The findings, interpretations, and conclusions expressed in this paper are entirely those of the author(s). They do not necessarily represent the views of the World Bank Group, its Executive Directors, or the countries that they represent and should not be attributed to them. The Foreign Direct Investment Environment in Africa Miria Pigato Macroeconomics 2, Africa Region, The World Bank E-mail: mpigato@worldbank.org April 2001 I would like to thank Kim Murrell, Maura Liberatori, Vesna Lukovic and Sanjaya Lall for their help. The findings, interpretations, and conclusions expressed in this paper are entirely those of the author(s). They do not necessarily represent the views of the World Bank Group, its Executive Directors, or the countries that they represent and should not be attributed to them. Table of Contents The Foreign Direct Investment Environment in Africa .....................................................1 Introduction .....................................................1 Summary.........................................................................................................1... 1 I. The new global environment .....................................................3 II The FDI environment in Africa .....................................................9 III Conclusions .................................................... 18 References .................................................... 19 Annex .................................................... 21 List of Tables and Boxes Box 1: Chile: benefits and limitations of attracting FDI in natural resources sectors .... 8 Box 2: Are investment incentives effective in attracting FDI? ..................................... 12 Box 3: Investment Promotion Agencies .................... ................................ 13 Table 1 Comparative Indicators .................................................... 16 Table 2: IS0 9000 certificates at end 1998 in selected countries ............ ...................... 17 Table Al: The International Framework of FDI in Africa ................................................ 22 Table A2: The Incentive Framework For Foreign Investment in Africa ...... .................. 26 The Foreign Direct Investment Environment in Africa Introduction Globalization - a worldwide trend towards integration of markets - is changing the strategies of multinational companies (MNCs) and the way developing countries compete for foreign direct investments (FDI). Faced with increased international competition, MNCs' global strategies seek to maximize their competitiveness by locating facilities in multiple locations around the world. In this 'globalizing' world, attracting FDI increasingly depends on the ability to provide a favorable FDI regime and competitive factors of production. The former requires a stable, efficient, and service-oriented environment that welcomes investors into most economic activities without discrimination. Modern legal and intellectual property rights, effective competition policies, a strong judiciary and minimum bureaucratic harassment are all important to attract foreign investors. The latter are the ultimate determinants of FDI. Competitive factors of production no longer mean just cheap raw labor and basic infrastructure. Today they require adaptable labor skills, sophisticated supplier networks and flexible institutions. Tax incentives can enhance a country's attractiveness, but, if other factors are unfavorable, they will be insufficient to significantly increase inflows of FDI. This paper examines some aspects of the legal, business and economic environment for FDI in Sub-Saharan Africa (SSA) and asks the following questions: * Is the FDI environment in SSA - incentive framework and competitive factors of production- adequate to attract FDI in a globalizing world? * What should African countries do to improve the environment? Summary The FDI environment in Africa is still inadequate to attract high quality, efficiency- seeking, 'globalizing' FDI. The general policy framework of FDI in the region has improved greatly in recent years, a trend that is continuing in many countries. However, the incentive framework continues to suffer from a number of deficiencies: * Barriers to entry still exist in many countries. In some countries, certain sectors are reserved for domestic firms only. Almost everywhere registration requirements for foreign investors are burdensome thus raising transaction costs. * Generous and costly incentives for investment. In recent years there has been a considerable effort to streamline incentives and harmonize them through the signing of regional agreements or Common Investment Charters. However, many countries still retain generous investment incentives (in particular, 1 costly tax holidays) and the authorities maintain considerable discretionary powers on the allocation of incentives. * The effectiveness of FDI promotion in SSA is generally low. Most agencies are struggling with a difficult transition from a regulatory role to a promotional one. They often lack the authority to help investors cope with the myriad ministries, departments and agencies. They are often under-funded and there is insufficient private sector participation. Africa is lagging behind in the development of its competitivefactors ofproduction. Economic, rather than policy factors are likely to be bigger constraints to FDI in Africa. During the last 10 years educational, health and infrastructure indicators have worsened in many countries and are now below standards found in countries of other developing regions. Improving the competitiveness of Africa's investment climate is a major challenge in light of deteriorating education and health systems (at least in some countries), weak physical infrastructure and lack of back up services for enterprises. It is hoped that the additional resources freed up in the near future from the implementation of debt reduction initiatives will allow countries to spend more on raising social indicators and physical infrastructure and on rebuilding institutional capacity. What then is the wayforwardfor Africa? e First, African countries should aspire, in the long run, to join the club of countries attracting significant amounts of high-quality, export-oriented FDI. To achieve this will require upgrading national laws and incentives to best international practices; lowering transactions costs (i.e. the costs related to setting up business, dealing with bureaucracy, paying taxes, exporting and importing, hiring and firing workers etc.); and improving the supply of skills, infrastructures legal and judicial systems and institutions. First priority should go to rationalizing tax rates and incentives. Incentives should be retained only if they are moderate and in line with development objectives. * Second, African countries should aim to increase FDI inflows into existing areas of comparative advantage such as extractive and other natural resource activities and adopt appropriate policies to maximize their benefits. These sectors provide potentially high rents and do not require fiscal incentives to attract FDI. Rather, foreign investors place a premium on title security (for exploration and exploitation concessions), clear entry rules, guarantees against unreasonable government interference, a transparent fiscal regime, and guidelines on environmental and health standards. However, investment in natural resources sectors brings with it a number of drawbacks. First, mineral, energy and primary product prices have historically fluctuated widely thus exposing the countries to great vulnerability. Second, many natural resources are non-renewable unless very strictly managed. Third, natural resource investment can attract massive inflows of foreign currency that can lead to a continuous appreciation of the local currency. Finally, many MNCs operating in these sectors (e.g. minerals, oil, gas) are capital 2 intensive with standardized processes that require very little adaptation to local labor and technologies, thus generating only modest spontaneous positive spillovers and backward linkages to the local economy. * Finally, privatization should be pursued. It may become a powerful instrument to attract foreign investors, provided they can count on fair and stable rules of the game. Privatization can result in net gains for both foreign investors and the country, though the interests may, at times, appear to diverge. Foreign investors are interested in access to market share of the enterprises that are being privatized, rather than in acquiring productive facilities (with the obligation to restructure and rehabilitate, and often with its consequent downsizing). They might require special deals or continuation of existing protection. By contrast, Governments objectives in privatization are to have better services for consumers, higher budget revenues and faster growth. The challenge for the Government is to protect both foreign investors and consumers, and make sure that the benefits from privatization are equally shared. To this aim, Governments should set clear rules regarding not just privatization rules but competition and pricing rules. Particular care should be taken in the privatization of infrastructure. Foreign investors are difficult to attract, as they face potentially large financial risks, because of sunk costs, as well as political risks associated with civil war, change of regimes and expropriation. Stable and peaceful countries, with a clear and transparent regulatory framework - including the rules governing entry conditions and market structures- have the best chance in attracting FDI. Governments must prevent undue market concentration and restrict mergers that would undermine competition; and introduce environmental, health and safety obligations of public services. I. The new global environment The old FDIparadigm A firm undertook FDI in a foreign market if it possessed an 'ownership advantage' over local competitors (Caves, 1982, Dunning, 1992 and 1993). This advantage compensated for the greater costs incurred (due to lack of information about the legal system, bureaucracy etc.) relative to local firms. Ownership advantages include advanced technology, established brands, specialized skills and access to final markets. Under the old paradigm, MNCs invested in a developing country to exploit differentials in natural endowments and in factors of production. In this 'vertical't or cost minimization strategy there were essentially two reasons for FDI: access to inputs for production (natural resources, low-cost labor etc.) and to markets for output. MNC would relocate I See Michalet ( 1997). Should be noticed that the bulk of FDI follows a horizontal strategy, within developed countries. The horizontal strategy involves establishing local branch plants in economies that are roughly at the same level of development, similar technology and consumer preferences. This strategy is followed by firms that operate in oligopolistic or monopolistic markets and that have specific competitive advantages over similar local firms that compensate for the costs of relocation and business in the foreign country. 3 production units based on differences in macroeconomic and political fundamentals, investment policies and economic competitiveness and attractiveness of host countries. Host countries wishing to attract resource-based FDI attempted to lower location costs by raising the quality or lowering the costs of local inputs, or by offering foreign investors privileged access to local inputs. Countries with exploitable natural resources and a cheap and disciplined labor force had a clear advantage. The latter has been the engine of growth in export-oriented assembly activities around the world, both in low technology activities such as clothing as well for assembly operations in high-tech activities such as electronics. Countries with access to larger markets and quota availability in products such as textiles and clothing, under the MFA (e.g. Bangladesh) attracted export-oriented activities. For countries with large and growing markets (such as Brazil or India) import protection represented the most powerful incentive for attracting foreign investors. While a powerful means of fostering industrial development, import substitution often created large inefficiencies, keeping alive infant industries that never matured. Most FDI was greenfield, in highly protected, high cost and low productivity activities, as it had to compete only with local firms with low standards of efficiency. Foreign investors rarely transferred up to date technology, managerial know-how or export marketing capacity, as these were not needed to compete. The limit on the volume of FDI was set by the saturation of the market. FDI was largely a substitute for trade. The new FDIparadigm The new paradigm emerged with the 'globalization of production' phenomenon, spurred in the 1980s by improvements in international transportation, the intensification of policy liberalization in both trade and investment flows and the information technology revolution (World Bank, 1998, 1999, UNCTAD 1999). Falling transport costs and the liberalization of trade and investment policies allows MNCs to move easily in and out of countries thus helping them to adopt integrated regional and global strategies. Policy liberalization reduces the role of trade policy (import protection, export performance clauses) in attracting FDI and minimizes the role of host governments in making investors externalize their intangible technological or marketing assets (selling or licensing them to local firms). Two aspects of policy liberalization have been key in attracting FDI to developing countries, particularly in Africa. They are: allowing foreign participation in privatization and in new infrastructure projects under a variety of contractual and ownership arrangements, and opening domestic capital markets to mergers and acquisition. Falling communication costs allow parent companies to exercise much tighter control over affiliates and to integrate them more closely into their activities. MNCs allocate their activities and functions over host countries in line with their economic assets and competitive position. The rapid pace of technological change implies that host economies have to provide more skill and technology intensive inputs, and institutions and infrastructures that are needed for efficient production. Investors demand tighter 4 intellectual property protection and better enforcement of the relevant laws and rules. A significant part of global FDI is in mergers and acquisitions, rather than in greenfield activities. This is a better way for global enterprises to acquire the facilities they need (i.e., administration, research, accounting etc.) where and when they need them. In a globalizing world, trade and investment tend to become complementary. Countries with open policies attract FDI in export activities, building on existing comparative advantages. Global investors need free trade and free foreign exchange regimes to maximize economies of scale generated by multi-country production centers. In this context, foreign investors are likely to support local policy makers in their efforts to further liberalize the economy as this improves their competitiveness in export markets. By contrast, foreign investors operating in and benefiting from a restrictive trade environment would more likely support a protectionist agenda. New determinants of FDI In a globalizing environment, many of the traditional determinants of FDI such as political and macroeconomic stability, availability of natural resources and a large and growing market remain important. However, there are new FDI deterninants: * A fiivorable FDI environment. This essentially means a transparent and non discriminatory regulatory environment, effective competition policies and an efficient judicial system. Low and stable tax rates are also important. Fiscal incentives may increase the attractiveness of a country but cannot substitute for the lack of a healthy FDI environment. Promotion activities may also help attract FDI but only when the basic framework is in place, including equal treatment of foreign and local investors and fast dispute settlement mechanisms. * Low transaction and business costs. These cover investment, labor and trade regulations, entry and exit rules, location and environment regulations, and tax and legal systems. They depend not so much on the rules but on the way rules are implemented in practice and on the skills of the bureaucracy in dealing with the investors, as well as on the legal and judicial system. * Supplier networks and clusters. Countries with dynamic local firms have an advantage in that they can attract better 'quality' FDI that subcontracts services and components of their production process to local firms. * Support institutions and technical services. Essential infrastructure facilities include effective quality assurance and testing bodies, metrology and calibration services, contract research and technical extension help for SMEs. * Human capital. Low-cost, unskilled labor is becoming less important. There is a greater demand for qualified human capital with diverse modem skills that can cope with emerging technologies. Equally important are labor market flexibility including the use of expatriate personnel. * Low cost infrastructure, in particular an efficient communications system as well as transportation links within and outside the country are essential to make a country attractive. 5 The benefits of FDI, however, do not come automatically to developing countries. MNCs and host governments have different objectives: the former aim to increase their profitability in an international context; the latter aim to foster development in their countries. In a globalizing world, where MNCs can enter and exit with relative ease, Government policies are more important than in the past. Host governments should develop policies that are both friendly to investors and that maximize the contribution of FDI to development (Moran, 1999). Peripheral countries can still attract FDI Few developing countries satisfy the requirements above. FIAS research suggests that only about a dozen developing countries can attract significant amounts of the new, globalizing FDI. This list includes countries such as Hungary that have no natural resources and relatively expensive labor, and Costa Rica, chosen by Intel for its high- technology chip assembly and testing plants, because of its good business environment despite its high wages. (FIAS 1997, Michalet, 1997). Many developing countries lack some or all of the requirements outlined above and are thus becoming more peripheral to the considerations of MNCs. However, some of them can still attract FDI in a number of activities, on the basis of large and growing markets, low costs production conditions and natural resource sectors. For example, in China the investment climate is weak but the country has plenty of low-wage labor producing low- cost consumer goods for exports and this has proved highly attractive to foreign investors. Low-cost and unskilled labor countries can attract "foot-loose investors" particularly when these endowments are coupled with fiscal incentives such as tax holidays (particularly in the textile and garment sector) and adequate basic infrastructure. These investors put a premium on the ability to move quickly from one country to another and are more interested in short-term financial gain, than in long-term economic profitability. Still, they provide benefits to host countries, in terms of employment and wages. In the past, despite generous investment incentives, and availability of cheap labor, African countries have not succeeded in attracting "foot-loose" investors. None of the export processing zones (excluding Mauritius) has been successful. The reasons are to be found in restrictive provisions, bureaucratic procedures and weak government bodies established to develop and operate the zones. Resource-rich countries that offer attractive and stable conditions for exploration and development are also likely to continue to attract investors. This is the sector where most FDI to Africa went in the past and where it is most likely to go in the future. In fact, globalization is decreasing the overall risk for MNCs in this historically risky sector by spreading it across countries with different risk profiles. Thus, provided the projected cash flow is adequate, even countries with high political and country risk may attract FDI if the company can counterbalance this with low risk exposure in other countries. However, unless it can create the necessary skill and supplier bases, the host country may 6 not be able to use the benefits from FDI to move up the value chain and develop other sectors. The example of Chile (see Box 1) is instructive. By promoting export-oriented growth through the development of its natural resources, Chile has managed to attract an increasing volume of FDI in natural resource based sectors and to become a leading world exporter of natural resource-based products. However, partly because of the "enclave" nature of these sectors with few spillover and linkages with the rest of the economy, the development of more skill-intensive industries with better prospects for longer-term competitiveness was discouraged. The country has not yet managed to use its resource-based export industries to lay a solid human capital foundation for industrial diversification and deepening. 7 Box 1: Chile: benefits and limitations of attracting FDI in natural resources sectors Chile is a successful example of a country that has managed to attract massive inflows of FDI into natural resources and to gain increasingly high export shares. It managed to attract FDI into both traditional sectors - copper and copper based products, forestry agribusiness and fishing - as well as new ones - production of fresh fruit, cellulose, timber, fish-meal and fresh fish (Pietrobelli, 1998). The shift towards resource-based industries during the 1980s and 1990s in the Chilean economy resulted in a major change in the country's export composition. The share of natural resources in total exports increased from about 50% in 1980 to almost 70% in 1995. Chilean affiliates of MNCs brought many benefits to the economy. For instance, the acquisition of state-of-the-art capital goods and foreign licenses resulted in high levels of productivity and boosted the country's international competitiveness in these sectors. Also, as inputs were predominantly procured from local suppliers and subcontractors many backward linkages emerged. The reasons for Chile's success are manifold. First, there was macro economic and political stability. Second, since the mid-1970s the country had adopted an export-oriented strategy and market reforms. Third, Chile's FDI laws are considered fair and non-discriminatory. The Chilean FDI regulatory and tax regime is simple, transparent and non-discretionary with all companies competing on equal terms. The only incentive for foreign investors is a VAT exemption on imported capital goods not produced in Chile. There are no limitations on foreign participation in investment projects and profit remittances are not subject to any restrictions. Finally, even though the State retains legal ownership of mining resources, concessions can be renewed indefinitely. There are, however, some limitations to this experience that suggests that countries should not depend on a strategy almost exclusively based on natural resource-based exporting. While FDI in Chile has contributed to strengthening the country's static advantages, in sectors where exports could be expanded easily in the short term, the exports emanating from the natural resource sectors have remained low-skilled with a low R& D component. This despite the fact that many affiliates used 'state-of-the-art' technologies within their respective sectors; these technologies are relatively undemanding in terms of capabilities compared with those needed in other sectors of industry (e.g. electronics). And while MNC affiliates invested heavily (1.3% of sales) in training to develop human resources internally, spillovers from this training appear to have been fairly limited. In part this is because the companies are highly capital-intensive and generate relatively little direct employment. Finally, the recent collapse in the price of copper has exposed the fact that a country highly dependent on one traditional resource is vulnerable to fluctuating economic conditions in world markets. Source: Lall (1998) Privatization programs also present opportunities for attracting FDI. The first requirement for encouraging the participation of foreign investors is a set of clear rules regarding the privatization procedures as well as transparent and solid regulatory framework for the sectors that are being privatized. This includes preventing market concentration and setting up systems to ensure that the interests of the consumers and of the environment are protected. If this doe not happen, privatization will attract only foreign investors lured in by the possibility of huge rents in monopolistic (or protected) sectors. In Africa there have been successful examples of privatization, with a strong participation of foreign investors (e.g. in both Ghana and Uganda). 2 As far as the tax regime is concerned, foreign investors have the option of choosing from two schemes. Under the regular scheme, a 15 per cent corporate tax is paid when profits remain in the country and 35 per cent when profits are remitted abroad. Under the invariable tax regime, the firm pays 42 per cent for a maximum period of 20 years. 8 II The FDI environment in Africa The incentive framework The policy framework with respect to FDI has improved throughout much of Africa. First, most countries in the region have concluded bilateral treaties and have signed multilateral agreements with international organizations. Restrictions on external account transactions have been largely eliminated and many countries have shifted to market- based exchange rates. Simplification and reduction of tariffs has proceeded steadily. Annex I shows the participation of African countries in international, regional and bilateral agreements 3dealing with FDI. Such participation is an important signal that a favorable policy environment is being created and that practices are being raised to the level of international standards and contribute to creating international recognition. The binding nature of a bilateral or international treaty contributes to securing a favorable climate for FDI.4 Second, the harmonization of investment laws and incentives has been intensifying during the last couple of years. For example, countries' in Eastern and Southern Africa that adhere to the Cross Border Initiative (CBI) have adopted a common Road Map for Investment Facilitation. By this initiative CBI countries have agreed to simplify and codify all regulatory provisions into a single published document that would be widely available. They also agreed to establish one-stop centers that will process all applications within 45-60 days and grant automatic approval in the absence of objections at the end of that period." (CBI, 1999). Similarly, countries in various regional associations (the Central African Economic Community and Monetary Union, the West African Economic and Monetary Union (UEMOA) and the Southern African Development Community (SADC)) have either signed or are finalizing similar Investment Protocols. These documents are meant to set out common and general rules for the promotion of both local and foreign investment, transparent and non-discriminatory procedures for entry and operations of investments, a common fiscal regime, and the harmonization of fiscal incentives. 3 Bilateral treaties aim at promoting investment between the two contracting parties; they normally refer to national laws for standards of treatment and protection in accord with international law - national treatment, MFN and fair and equal treatment of investments - and may accommodate specific country concerns. At the regional level the important issues are - liberalization of restrictions to entry and establishment of FDI, elimination of discriminatory conditions and a streamlining and harmonization of investment incentives. 4 For example, countries that are member of the WTO have to satisfy the performance requirements in TRIMS (Agreement on Trade-related Investment Measures ). TRIMS contains a list of measures that are to be abolished, including local content, trade balancing (requiring that imports should be a certain proportion of exports), manufacturing requirement and limitations, foreign exchange balancing requirements, export performance requiremetits. 5 Countries participating in the cross Border Initiative (CBI) are: Burundi, Comoros, Kenya, Madagascar, Malawi, Mauritius, Namibia, Rwanda, Seychelles, Swaziland. Tanzania, Uganda, Zambia, Zimbabwe. 9 Investment liberalization and incentives Notwithstanding recent improvements to streamline and remove obstacles to investment, the legal and fiscal framework for FDI in Africa presents several shortcomings. Table A2 in Annex I describes the main tax and incentive provisions in a number of African countries. Here are some summary considerations. * There is considerable variation in FDI entry procedures and requirements across African countries. Certain sectors like tourism, petroleum and minerals are often placed under special approval regimes. For example, in Botswana, a prospective manufacturing investor has to obtain both an investment license as well as approvals from the land board and district councils. The investment has to satisfy criteria on capital adequacy, technical skills, and the interests of the economy. Incentives can be granted only to registered companies, which are only allowed one application per 12- month period and MNCs are not allowed in activities reserved for domestic SMEs. In Cameroon investment in SMEs must have 35% local equity. In the Republic of Congo, investors from outside the Central African Customs and Economic Union (UDEAC) region have to deposit 1% of invested capital. In Gambia, investors have to go through several government departments to get their applications approved. In Kenya, multiple licenses are needed before the investor can set up a business. Some of these, like land title transfer and registration, can take from six months to eight years. Special authority is needed for oil and mineral prospecting. Mozambique reserves several activities for the public sector and encourages local equity participation, even in EPZs. Nigeria requires approval from both the Ministry of Internal Affairs and the Ministry of Finance for new investments. In Uganda, potential investors have to establish that the project generates economic benefits like foreign exchange, employment, use of local raw materials, or technology transfer. Zambia requires a variety of different approvals by different agencies. * The granting of investment incentives is variable, with some countries still operating on a discretionary, case-by-case basis that gives rise to delays and non-transparent procedures. The nature of investment incentives is also variable. Many countries grant tax holidays for 5-10 years. International experience (see Box 2) shows that tax holidays are biased against long-term investments and against equity financing and that they are very costly to governments. Only a few, like Ghana, have moved to a system of abolishing tax holidays in favor of low general tax rates. Many countries grant depreciation allowances on a straight-line basis, with differing rates for different items of capital. Relatively few, like South Africa, allow accelerated depreciation, though this appears to be the preferred tool in most modern tax regimes. The South African government grants several industry specific incentives (e.g. for textiles and automobiles) and activities (innovation, SMEs). Kenya also has industry specific incentives. * Tax systems. Many countries are bringing tax rates in line with international norms, but tax systems still need to be rationalized and harmonized. Double taxation treaties have to be finalized by many countries, both within the region and elsewhere. The 10 tax treatment of such important items as R&D, training and new equipment purchase needs to be modernized. Loss carry-forward provisions vary, with some countries allowing 3-5 years and others giving indefinite periods. When short periods are given for carry-overs of losses firms may be subject to income tax, even though they have cumulative net losses (this discourages large scale investments with long gestation periods). Withholding taxes on royalties, fees, interest payments and dividends are similarly variable by country. South Africa and Zimbabwe (in EPZs) do not impose such taxes, while in others they are high (Kenya imposes 20% on royalties) and can vary by origin of investor (e.g. Uganda and Zambia). Withholding taxes on dividends received by non-residents affects companies financing decisions. If interest payments can be deducted from the taxable income, foreign investors will prefer to finance themselves through debt rather than equity. Royalty and technical fee limits have been removed in most countries, but some, like Nigeria, still impose limits on such fees. Some countries levy custom duties and other taxes on imported capital goods, thus increasing the cost of investment. e Work permit regulations are highly variable, with many countries still making it difficult and cumbersome to obtain expatriate permits quickly and efficiently. * Export Processing Zones. Many countries in Africa have created EPZs and maintain incentives for firms operating in them. However, with the exception of Mauritius, no other African EPZs can be regarded as successful in terms of attracting FDI or stimulating exports and employment. While investment incentives provided are often generous, restrictive provisions and bureaucratic procedures erode their effectiveness. The cornerstone of a successful free zone program is the transparency and comprehensiveness of the incentives offered and the quick response to their application, without the need for elaborate qualifying criteria. Other weaknesses include weak government bodies established to develop and operate zones, and regulate free zone activity. Regulatory authorities lack the basic power, autonomy and funding to function effectively. Some lack control over their budgets and have restrictive civil service limitations on remuneration and employment conditions. In general, while the FDI regime is improving in Africa, serious deficiencies remain. These are aggravated by inadequacies in complementary areas. Legal and judicial systems are inadequate to support the needs of investors in many African countries. Reform is needed in corporate law, contract law, bankruptcy, labor law and property rights. Judicial systems, which are critical to ensure that the laws are applied properly, are corrupt and inefficient in many countries. 11 Box 2: Are investment incentives effective in attracting FDI? Investment incentives include direct instruments (grants or subsidies, tax holidays, investment tax credits, depreciation allowances etc.) to reduce the fixed costs of making an investment and indirect instruments, such as trade tariffs and quotas and foreign exchange restrictions, that affect the decision to invest. International research and experience ( McLure, 1999, Shah, 1995, Dunning, 1993) suggest that incentives rarely attract additional investment, they have a high fiscal cost and create distortions in the allocation of resources. Why then do most developing countries continue to use incentives to attract foreign investors? Partial analysis suggests that some incentives, such as import protection in countries with a large internal market, have been very powerful in attracting investment. Cash and fiscal inducements to invest in particular industries or less developed regions have also been successful. But the analysis of the overall impact of the incentives suggest that the costs in terms of inefficiency, misallocation of resources, and revenue loss for the Government are significant and make these incentives a costly way to promote investment. In a study conducted in 1985 Guisinger reached the conclusions that cost reducing incentives tend to be effective when the investment decision is between similarly attractive locations for producing for exports to other markets; or similarly attractive parts of one large markets (such as Europe, the US, Brazil). This conclusion is confirmed by a number of studies which have analyzed the effect of different tax rates on location decisions of foreign investors in the US, a country where many states offer similar economic and political conditions (Siggle 1986, Coughlin et al. 1991, Hines 1993, and Coughlin 1995). Studies on how tax incentives influence location decisions of MNCs among countries give ambiguous results. Thus, Wheeler and Mody (1983) suggest that differential tax rates do not seem to have significant effect on location decisions of US direct investors. By contrast, Shah and Slemrod (1991) show that US direct investment to Mexico was sensitive to tax regimes. Which incentive framework works best to attract FDI? UNCTAD (1997) found that the success of Latin American countries in attracting FDI was attributed to the following: (i) liberalizing investment (including the granting of de facto national treatment to foreign investors, the elimination or reduction of restrictions on profit remittance and other financial flows and the opening of sectors previously closed to FDI); (ii) establishing investor promotion agencies to stimulate foreign direct investment; (iii) entering into bilateral investment treaties with developed countries and among themselves; and (iv) implementation of new sub- regional arrangements to deal with FDI. Designing an efficient framework for investment that attracts FDI without losing considerable revenue is a difficult exercise. Textbook analysis shows that it should meet the criteria of efficiency (minimizing its impact on resource allocation); equity (similar taxpayers should be treated equally); and simplicity. The effectiveness of incentives depends on the type of investor, the degree of competition for the investment, and the response of other countries to changes in their competitors' incentive scheme. Start up firms prefer cash grants or other incentives that reduce initial expenses; firms with larger investments in fixed assets may prefer depreciation allowance. Tax holidays, an instrument used frequently by African countries, are attractive to the so-called foot-loose industries that utilize rapidly depreciating capital. But they are not useful for attracting investments that may not show profits in the initial years. They reduce the appeal of debt financing of capital investment by removing the benefits of interest deductibility. This funding bias is accentuated if dividends of tax-exempt firms are also exempt from personal income tax. Tax exemptions tend to benefit investments with a short-term time horizon. Longer-term projects that generate profits beyond the tax holiday period do not benefit, unless firms are permitted to accrue and defer asset depreciation deductions beyond the tax holiday period. Accelerated depreciation allowances and investment expenditure allowances encourage longer term investment and probably cost the government less than tax holidays. However, they discriminate in favor of machinery and capital and, if inflation is high, they are an inducement for companies to borrow rather than use equity. 12 Investment Promotion Agencies (IPAs) In the original monograph "Marketing a country", which has become the standard description of what IPAs should do (see Box 3), L. Wells and A. Wint (1990) investigated the importance of promotion efforts in determining FDI. They found that promotion efforts were highly successful: every dollar spent generated benefits with a present value of almost four dollars. The most effective efforts were those directed to match up the needs of investors. Personal contacts had a larger impact than impersonal advertising. In reviewing the last 10 years of experience, L. Wells (1999) found that most of the original prescriptions are still valid. In addition, for African and transition economies the policy advocacy function (whereby the IPA becomes a champion for improvements in the investment climate, L.Wells, 1999), was also found to be crucial. Box 3: Investment Promotion Agencies Investment Promotion Agencies (IPAs) have a wide range of institutional structures. In general, they can be grouped into the following categories: i) Government organizations, usually staffed by civil servants seconded from line ministries; ii) Quasi-government organizations, typically financed by the Govemment (totally or in part) but autonomous in their decisions and operating outside civil service guidelines and salary structures; iii) Private organizations, run by firms operating under the private sector companies law. Outside Africa, the most common approach for IPAs is the quasi-government structure. Three successful examples are the Singapore Economic Development Board, the Malaysian Industrial Development Authority; and the Irish Development Authority. Purely private sector IPAs are common in Latin America, with notable examples in Costa Rica and the Dominican Republic. Private IPAs rarely undertake the investment regulation and incentives provision function. In addition to variations in structure, IPAs vary in function (Wells and Wint, 1990). In the past, many IPAs would undertake Investment approval and regulation (e.g., screening and approving investments, monitoring compliance, and compiling statistics on investment impact). Currently, most IPAs concentrate on: i) Investment facilitation (e.g., "trouble shooting" investor problems and assisting in securing secondary licenses and permits); ii) Research and development (e.g., investment policy impact analyses, policy development and advocacy, publications); iii) Investment promotion (image building, investor services and investment generation.). There are three basic techniques utilized to attract investments. First, image building using advertising and other media relations to create or change the image of the investment location. Second, investment generation utilizing a variety of pro-active techniques to generate inward investment, and finally investor services designed to facilitate and realize an investment commitment and retain and facilitate the expansion of existing investors. Institutional effectiveness of IPAs appears to be linked to: (i) degree of managerial and financial flexibility; (ii) flexibility in hiring, compensating and firing staff without public sector restrictions; (iii) an independent Board with direct private sector participation; (iv) high level of power and autonomy in decision-making; and (v) simplified procedures and lack of bureaucracy. The effectiveness of an investment agency typically has as much to do with its implementation as with its structure. One important factor for success is the full commitment and backing from those at the highest level of the government. Placing the agency directly under the authority of the office of the head of state is a good indication that this commitment exists. Or, following the example of Singapore, having a high-powered Intemational Advisory Council to guide FDI strategy is another indication of the seriousness of the commitment. It also allows the IPA to have independent business advice to supplement guidance given by the government. 13 Many African IPAs are still government agencies operating one-stop facilitator frameworks. Some twenty-five African IPAs are currently members of the World Association of Investment Promotion Agencies (WAIPA). In recent years most IPAs in Africa have been struggling to transform from the old-style-setting regulations, granting licenses, - to the new-style IPAs - promoting and advertising FDI. In some instances this transition is encountering high resistance from administrative staff. In 1997 the Government of Tanzania enacted a new investment law (the Tanzania Investment Act) to unify and streamline all investment incentives. The old promotion agency, with its incentive granting role was converted into the Tanzania Investment Center (TIC), with the aim of promoting and facilitating investment. But the transformation has yet to take place because political resistance to change has been strong. By contrast, in Mozambique the investment promotion agency has taken a major role in helping to reform the investment climate. For instance, by assisting with the negotiation and implementation of a large FDI project for smelting aluminum, it acquired experience and pointed out problems in company registration, registration procedures, customs clearance etc. It then played an active role with individual ministries and agencies to help reduce bureaucratic barriers. National efforts by different African countries are not coordinated with each other, though there is a strong case for small economies and agencies to increase such coordination. Given the general image problem in the region, countries would benefit by cooperating in FDI promotion. This would involve consolidating investment codes and other regulatory provisions across countries and pooling advertising efforts. If accompanied by effective lowering of trade barriers, this would also exploit the larger market size available, overcoming one of the major handicaps of investing in Africa. Economicfactors The ultimate determinant of FDI inflows is the expected long-term rate of return, which depends on economic factors. Besides macroeconomic management and stability, market size and growth, other determinants are the quality of physical infrastructure and the level of human development. Table 1 shows some indicators of health, education, power and communications in Africa and in other regions of the world. For most of these indicators Africa fares worse than any other region, a trend that has deteriorated in many countries since 1990. Thus, gross primary school enrollment rates have fallen in Botswana, Kenya, Madagascar, Mauritius, Tanzania and Zambia. Because of AIDS, life expectancy has become shorter in many countries. In Botswana, Namibia, Swaziland and Zimbabwe over one person in five between the ages of 15 and 49 is living with AIDS. AIDS is a development catastrophe in Africa, as it kills people in the prime of their working and productive lives. In Botswana, companies estimate that AIDS-related costs will increase from one to six percent of the wage bill in six years. In South Africa it is estimated that a worker with AIDS costs a company about $200 a year in lost productivity, benefits and replacement training.6 6 See UNAIDS (1998), Aids in Africa, Fact Sheet. 14 Energy and infrastructure costs, quality and availability indicators are difficult to compare across countries. Broad indicators such as power consumption per capita, phone subscribers, internet users place most countries in Africa, with the exception of South Africa and Mauritius, near the bottom of the pecking order in the developing world. 15 _____________________ ~~~~~~~~~Table 1 Comnparive Indicators _________________ Life expectancy at birth School enrollment Electric power cons. Cellular mobile subscribers per 100 inhabitants total (years) primary (% gross) (kWh per capita) Internet: users per 10000 inhabitants 1990 1998 1990 1999 1990 1997 1998 Estimated PCs per 100inhab. East Asia & Pacific 67.3 8 68.92 120.15 465.38 770.59 World 5.65 260.77 6.11 Europe & Central Asia 69.32 68.90 98.58 3853.28 2691.94 Europe 13.14 529.1 2 13.90 Latin America &t Caribbean 67.97 69.71 105.08 1131.29 1401.74 Asia 3.05 8 7.72 2.08 Middle East & North Africa 64.57 67.5 8 97.3 7 919.83 1158.01 Americas 13.96 913.98 19.53 South Asia 59.05i 62.34j 90.3 7 228.42 323.65 lOceania 24.75 1239.81 3 8.52 Sub-Saharan Africa 50.101 50.411 75.75 77 445.88 446.21 Afia0.45 22.09 0.76j Angola 45.461 46.501 91.70 60.35 63.90 0.06 2.07 0.081 Beniin 5L.87 53.41 58.10 3 6.73 43.20 0.11 3.45 0.12 Botswana 56.76 46.09 113.20 108 ...1.46 63.69 2.55 B8urundi 43.59 42.30 72.80 ...0.01 0.23 Cameroon 54.18 53.96 101.10 204.32 180.72 0.03 1.40 0.21 Congo. Dens. Rep. 5 1.5 5 50.82 70.30 121.81 120.43 0.02 0.04 Congo. Rep. 49.49 48.36 132.50 254.05 197.22 0.12 0.36 0.32 CotedIlvoire 49.80 46.14 67.10 7 1 157.97 181.34 0.64 7.00 0.45 Equatorial Guinea 47.16 50.3 2 ... .0.07 10.90 0.23 Ethiopi'a 45.00 42.94 32.70 21.43 2 1.3 7 .. 1.01 0.06 Gabon 51.88 52.52 ..806.25 752.24 0.83 17.14 0.86 Gambia. The 49.28 5 3.20 63.90 77 .. . .4 20.34 0.33 Ghana 57.16 60.02 75.30 76 300.54 275.85 0.12 3.13 0.21 Guinea 43.71 46,55 3 7.10 SI ... 0.28 0.65 0.32 Kenya 57.1 1 51.02 95,00 89 114.68 126.70 0.02 5.17 0.34 Lesotho 57.58 55.49 111.80 108 ...0.48 0.97 Madagascar 54.66 57.76 102.90 72 ...0.08 1.94 0.16 MalaWL 44.65 42.28 67.90 89 ...0.10 1.90 0.08 Mali 47.65 50.42 26.50 45 ...0.04 0.94 0.08 Mauritius 69.64 70.60 109.20 107 ...5.28 109.141 8.73 Mozambique 43.44 45.21 66.90 71 3 5.05 46.84 0.04 1.85 0.21 Namibia 57.52 54.46 129.30 131 ...1.17 30.12 2.41 Nigeria 49.48 53.45 91.40 77.07 84.03 0.02 0.38 0.61 Senegal 49.54 52.34 58.90 62 93.63 107.22 0.25 8.33 1.33 Seychelles 70.30 71.72 ... .4.98 261.54 12.42 SoutlhAfrica 61.93 63.36 121.60 131 3675.97 3800.17 6.14 3 10.95 5.16 Sudan 50.97 55.26 52.80 52.32 48.46 0.03 0.18 0.19 Swaziland 56.64 56.27 11 1.30 118 ...0.49 10.50 Tanzania 50.05 47.15 69.70 66 5 1.20 54.32 0.12 0.93 0.17 Togo 50.48 48.62 109.40 120 ...0.17 170.57 0.68 Uganda 46.7 5 41.83 74.50 9 1 ...0.15 7.30 0.19 IZambia 49.151 42.561 98.701 891 502.831 56.9 0.06 3.42 0.68 IZimbabwe 56.161 50.951 115.701 1191 932.901 918.791 0.481 8801 1.14 Source: World Bank I_______ _______ _____ ______ __ ______I I______ Isourc: rruJ. Internet host data Internet Software Consortium RP 1 6 Scattered evidence on enterprise training (Lall, ed., 1978, 1999) suggests that African enterprises provide very little training particularly when compared with comparable firms in Asian countries. Lall (1999) estimates that for 1995 the whole of SSA, including South Africa, enrolled only 12% of the absolute number of engineers enrolled in South Korea alone. Without South Africa's contribution, the total number of engineers enrolled in SSA, (approximately 50,000) is only 9% of Korean, or 22% of Philippine enrolment. Asia accounts for 86 percent of R&D scientists and engineers in the developing world compared with 0.3 percent for Sub-Saharan Africa. Another indirect indicator of technological activity - particularly important for export dynamism - is the number of enterprises obtaining ISO 9000 certification. This certification is becoming an important competitive asset to manufacturing and other enterprises selling directly to world markets or to established MNNCs within the economy (Kumar, 1998). Table 2 based on ISO (1999), shows the total number of certificates granted to enterprises in African countries through the end of 1998, along with a few comparators from other regions. There is a very low incidence of certification activity in most of Africa; South Africa is the outstanding exception, followed by Mauritius (in relation to its size). The African share (excluding South Africa) of world ISO 9000 certificates is a mere 0.1%. These data support the impressionistic evidence (Biggs et al., 1994 and 1995, Lall, 1999) that technological activity and capabilities in African enterprises are extremely low even by developing world standards. One result is that the region attracts FDI only in very simple activities; its ability to draw in FDI in more complex and more dynamic activities is very limited. Another related outcome is that the ability of MNCs to increase local content and linkages is very constrained. Domestic firms simply do not have the ability to make the technological leap needed to meet international standards of quality, technology, cost and delivery. Table 2: ISO 9000 certificates at end 1998 in selected countries Africa No. certificates Other countries I No. certificates Botswana 4 Egypt 385 Cameroon 5 India 3344 Congo 2 Brazil 3712 Cote d'lvoire 8 Mexico 978 Gabon 2 China 8245 Ghana 2 Hong Kong 1940 Kenya 41 Korea 7729 Malawi I Malaysia 1707 Mali 5 Singapore 3000 Mauritius 92 Thailand 1236 Mozambique I Taiwan 3173 Namibia 14 Nigeria 20 Total Africa 2439 Senegal I (exc. S. Africa) 273 Seychelles 2 South Africa 2166 World total 271966 Swaziland 6 Africa Share 0.9% Zambia 4 (exc. S. Africa) 0.1% Zimbabwe 60 17 III Conclusions As in the past, a welcoming FDI regime remains fundamental to attracting FDI. But today's globalizing investor has a wide choice of developing country locations and desires those that are capable of enforcing competition, providing stable and transparent rules for private business and, over time, improving the quality of their local productive factors. While there have been significant improvements in the policy regime for FDI in most African countries, they have not been significant enough to attract globalizing FDI. Disappointingly, the region continues to suffer from a poor image as an investment location despite efforts to promote and market the region. Most crucially, the economic disparities between Africa and other developing regions (with the exception of natural resource sector) remain considerable. Infrastructure, human capital, supplier networks, technological capabilities and support institutions are all relatively weak. In some countries they are stagnant and in others they are getting worse. For Africa, therefore, the way forward is to continue to implement a competitive incentive framework, while simultaneously leveraging its comparative advantage in extractive and natural resource activities, and continuing to improve its supply of skills, infrastructure and institutions. 18 References Biggs, T., Moody, G. R., van Leeuwen, J-H and White, E. D. (1994) Africa can compete! Export opportunities and challenges for garments and home products in the U.S. market, World Bank Discussion Papers, Africa Technical Department Series, No. 242. Biggs, T., Shah, M. and Srivastava, P. (1995) Technological Capabilities and Learning in African Enterprises, World Bank Technical Paper No. 288, Africa Technical Department Series. Caves, R. E. (1982) Multinational Enterprise and Economic Analysis, Cambridge: Cambridge University Press. Coughlin, C.C. (1995), "The Spatial Distribution of Foreign-owned Firms in the United States: The Current State of Knowledge", in K. Fatemi and S. Nichols, editors, International Business in the Twenty-First Century, Volume II, International Finance (proceedings of the International Trade and Finance Association). Coughlin, C.C., J.V. Terza, and V. Arromdee, (1991), "State Characteristics and Location of Foreign Direct Investment in the United States", Review of Economics and Statistics 73. Cross-Border Initiative (1999) Road Map for Investor Facilitation, Paper for Fourth Ministerial Meeting in Mauritius, October 1999 prepared by co-sponsors (AfDB, EU, IMF, WB ). Dunning, John H. (1992), Multinational Enterprises and the Global Economy (Wokingham, England, Addison Wesley). Dunning, J. H. (1993) The Globalization of Business, London: Routledge. Guisinger, S. (1986) 'Host-country policies to attract and control foreign investment', in T. Moran et al., Investing in Development: New Roles for Private Capital?, Washington, DC: Overseas Development Council. FIAS (1997) Foreign Direct Investment, Washington DC, International Finance Corporation and Foreign Investment Advisory Service, World Bank. ISO (1999) The ISO Survey of ISO 9000 and ISO 14000 Certificates, Geneva: International Standards Organization. Hines, James R. (1993), "Altered States: Taxes and the Location of Economic Activity in the United States", American Economic Review 86,5. 19 Kumar, N. (ed.)(1998) Globalization, Foreign Direct Investment and Technology Transfers, London: Routledge, for United Nations University Institute for New Technologies. Lall, S. (1978) 'Transnational, domestic enterprises and industrial structure in host LDCs: A survey', Oxford Economic Papers, 30, 217-248. Lall, S. (ed.)(1999) The Technological Response to Import Liberalization in Sub-Saharan Africa, London: Macmillan. Lall, S. Robinson, P. and Wignaraja, G. (1998) Zimbabwe: Enhancing Export Competitiveness, Study prepared for the Ministry of Industry, Government of Zimbabwe and the Commonwealth Secretariat, London. McLure, C. (1999) "Tax Holidays and Investment Incentives - A Comparative Analysis", Bulletin for International Fiscal Documentation, November. Michalet, C. A. (1997), "Strategies of Multinationals and Competition for Foreign Direct Investment", FIAS Occasional Paper 10. Moran, T. (1999) Foreign Direct Investment and Development, Washington, DC: Institute for International Economics. Shah, A. (1995) "Fiscal Incentives for Investment and Innovation", Oxford. Shah, A. and J. Slemrod (1991) "Does Tax Matter for Foreign Direct Investment?, World Bank Economic Review 5. Siggel (1986), E., 'Protection, Distortions, and Investment Incentives in Zaire", Journal of Development Economics 22. UNCTAD (1997, 1998) World Investment Report: Trends and Determinants, Geneva: United Nations. UNCTAD (1999.a) World Investment Report: Foreign Direct Investment and Development, Geneva: United Nations. Wells, L. T. and Wint, A. G. (1990), Marketing a Country: Promotion as a Tool for Attracting Foreign Investment, Washington, D. C.: International Finance Corporation. Wells, L. T. (1999), Marketing a Country Revisited, draft. Wheeler D. and A. Mody (1991), "International Investment Location Decisions: the Case of US Firms", Journal of International Business Studies. World Bank, (1997, 1998), "Global economic Prospects", Washington D. C. 20 Annex Annex Table Al The International Framework of FDI in Africa Table A2 The Incentive Framework For Foreign Investment in Africa 21 Table Al: The International Framework of FDI in Africa7 |_______________________________________________________ |Angola |Botswana Cameroon I Treaty Establishing the new East African Community (EAC) (1999) 2 Southern African Development Community (SADC) signed a v protocol on Investment policy, (1999) 3 Adoption of a Road Map for Investment Facilitation by 14 countries in the Cross Border Initiative (1999) 4 Adoption of a Community charter on Investment by the central 1 African Economic community and Monetary Union (CEMAC) (1998) 5 World Trade Organization (1994)| r 6 Treaty on the Harmonization of Business law in Africa (OHADA) (1993) r 7 Treaty establishing the Common Market for Eastern and Southern T Africa (COMESA) (1993) 8 Articles of Agreement of the Islamic Corporation for the Insurance v of Investment and Export Credit (1992) 9 Charter on a Regime of Multinational Industrial Enterprises in the preferential Trade Area of Eastern & South African States (1990) 10 Fourth ACP-EEC Convention (LOME IV) (1989) 11 Convention establishing the Multilateral Investment Guarantee i (MIGA), (1985) 1 12 Treaty for the Establishment of the Economic Community of Central African States (1983) 13 | Paris Convention for Protection of Industrial Property (1983) v 14 Agreement on Promotion, Protection and Guarantee of Investment r among states of the Organization of the Islamic Conference (1981) 15 The Multinational Companies Code in UDEAC (1975) 16 Joint Convention on Freedom of Movement of persons and right v of establishment in the UDEAC (1972). 17 Convention on the Settlement of Investment Disputes between i v States and Nationals of other States (1965) 18 Common Convention on Investments in the States of the Customs VI and Economic Union of Central Africa (UDEAC ), (1965) 19 Convention on Recognition & Enforcement of Foreign Arbitral | vO Awards (1958) 20 Bilateral Double Taxation Treaties U.K, Can, Fra, Mauritius, UDEAC Swe, So Afr countries 21 Bilateral treaty for promotion & Protection of FDI US, Mal Bel/LX, Ger, Neth, Rom, Swit U.S., l_ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ l_ _I_|_ _ | U K 7 Data collected by Bank Staff from various sources. 22 Congo Cote Gambia Ghana Lesotho South Africa Kenya Democratic d'Ivoire Republic 6 : 9 v Can, Den, IGer, Ind, Ita, Nor, Swe, _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ U K , Z am 10 Neth. v~~ y vwa 1 2 ' __ _ __ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _Y 14 '_ _ _ _ _ __ _ _ _ _ _ __ _ _ _ _ _ ________I __1 1l5 _______ ________ 1 7 1 1___ 16 '_ _ _ _ _ ___ __ __ __ 17 IX 14 ~ 19 1 1 1 1 7 . V 20 France Ger, Bel, Cote d', Nig, UK, So Afr 35 countries Fra, Nor, Sierra Leone, Can, Ita, Nor, UK UK, Swi 21 Ger, Switz, Den, Ger, UK Ger, UK U.K. Neth, Swe, _____________ Switz__ _ _ _ __23 23 agascar - ' ritius ambique ' -ibia ' ria Sao Tome 3~~~ ' Ir 4 6 '_ _ _ _ _ _ __ _ _ _ _ _ ' ' ' _ _ _ _ _ 7 , 8 V' 9 France France 19 countries8 Portugal Rus, Rom, Fra, Neth, Ind, UK, So Pak, Phil, UK _________Aft 10 Den, Ger, Ger, Fra, Ger, UK Germany Fra, Ger. Nor, Swe, Swi Neth, UK Swi__ _ _ _ 1 Den, Ger, Ger, Fra, Ger, UK Germany Fra, Ger, Nor, Swe, Swi Neth, UK Swi__ _ _ _ 12 13 _ _ _ _ _ _ _ 14 _ _ _ _ _ _ _ _ _ _ 15 _ _ _ _ _ _ _ 16 _ _ _ _ _ _ 18 1 __ __ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ 19 20 21 8 Botswana, PRC, France, Germany, India, Indonesia, Italy, Kuwait, Luxembourg, Madagascar, Malaysia, Oman, Pakistan, Singapore, South Africa, Swaziland, Sweden, the U.K. and Zimbabwe. 24 Senegal South | | Tanzania Togo Uganda Zambia Zimbabwe Africa l f 1 ~ ~ ~ ~~ ~~~~~~~~~~~~~~~~~~~~~T * I 2 1 _ _ _ L _ T _ _ _ ' _' _ _ _ _ _ _ _ _ 3 , __ _._ .1 .__ __ ._ __ _ 4I 7' 8 v v ,O %T I [ 9 Bel, Fra, UK Bul, Can, Mauritania, Ger, Neth, Mali, Tun Nor, So Afr _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ ~~UK 10 Ger, Neth, Can, Den, France 19 Switz Rep of Ind, Ita, Kor, Countries Kor, Rom, Nor, Swe, So Swe, Swit, Kor, Zamb UK, US 11 Ger, Neth, Ger, Switz Germany ____ ___ ___ Switz 12 _ 13 14 15 I T 1 T 18 _ _ ____T I _ 19__ _ _ _ _ __ _ _ _ _ _ 20 __ __ __ _ 25 Table A2: The Incentive Framework For Foreign Investment in Africa 9 Botswana Pre-conditions to obtain incentives Apply for license; obtain approvals from land boards and district councils Tax Holiday Tax refunds of company tax on manufacturing projects approved for FAP. Refunds decrease from 100%in year 1 to 25% in year 5 in urban/per urban areas and 50% in year five in other areas Corporate Tax Rate Two tier system: Base rate tax for nonresident firms is 25%. Additional company tax (ACT) against which withholding tax on dividends is set off. Capital Gains For companies chargeable gains are included in taxable income. Fixed Assets Capital allowances according to straight line method: Furniture & fittings (10%), plant & equipment (15%), motor vehicles (25%) Interest, Royalties, Management Fees All subject to withholding tax Taxes Net operating losses carried forward for five years. Farming, mining and prospecting - no time limit Withholding tax: dividends 15% of the gross dividend Industry/Regional Incentives Financial Assistance Policy (FAP) for productive activities in manufacturing (mining and cattle not eligible);/Allowance of P5,000 for each dwelling constructed for employee houses constructed by businesses other than mining Training Grants Training grants for approved manufacturing projects (deduction of 200% of approved training expenditure is allowed) Free-trade zones No Other export incentives No Customs duty exemptions No 9Data collected by Bank Staff from various sources. 26 Cameroon Pre-conditions to obtain incentives Simplified investment approval procedure. Incentives are identical for foreign and domestic investors. Cameroonian equity ownership required for SME scheme Priority Industries/Areas 5 Special Investment regimes: l)Basic; 2)SME; 3) Strategic Enterprise; 4)Reinvestment; 5) Free zone Tax Holiday Qualifying IFZ firms receive 10 year tax holiday and subject to only flat tax of 15% on corporate taxes beginning in 11th year Corporate Tax Rate 35% plus 3.5% local council taxes. Finance law 1997/98 allows 50% reduction in company tax for companies in basic, SME or strategic enterprise regimes. Capital Gains Taxed at normal company tax rates Fixed Assets yes. Interest, Royalties, Management Fees Royalties paid to entities within UDEAC states are deductible if reasonable Taxes Net operating losses Carried forward for up to four years Dividend Income (withholding tax) Industry/Regional Incentives FAP for manufacturing, some agriculture, "linking" service industries and tourism Training Grants no Free-trade zones Industrial Free Zone. To qualify - 80% export bound Other export incentives no Customs duty exemptions Duty free imports on equipment 27 Congo Priority Industries/Areas Research, professional training, rural areas. Specific codes for Oil, Mining, Tourist, Forestry, Informal sector and micro-enter Tax Holiday For infant industries up to 3 years, tax reduction up to 100% in Agro industries, electronic, telecommunication, chemistry, and pharmaceutical industries Corporate Tax Rate Tax credit for out of CEMAC exports Capital Gains Taxed on full rate Fixed Assets Building (20 Years), cars (5 years). Accelerated depreciation is possible for machinery used in a factory or agriculture if the value exceeds CFAF 10 mn Interest, Royalties, Management Fees patent and trade mark royalties paid to foreign parent companies are deductible; other interest limited Taxes Reduced import taxes for machinery and imported inputs Net operating losses Carried forward three years Dividend Income (withholding tax) dividends are subject to 20% withholding tax unless a different rate applies under an international tax treaty. Taxes on profits not deductible Industry/Regional Incentives Special tax treatment for companies doing business in oil, mining, tourist, forestry sectors, and in rural areas Training Grants Tax credit for training in CEMAC training centers Free-trade zones Tax advantages for Franc Zone Other export incentives Benefit tax credit for export oriented activities ranging from 25% to 50% and varying in proportion of export content of turnover. Customs duty exemptions Total exemption from customs duties and VAT for equipment and material imported for research Tax credit amounting to 25% of research contract concluded with CEMAC research centers. Tax credit up to 50% of training and professional development Free trade for intra-CEMAC trade 28 Gambia Pre-conditions to obtain incentives Application for Certificate of Special Investment (CSI) with one-stop shop, the Investment Promotion Agency. CSI issued by Departments in charge of trade and industry and that in charge of sector where investment is located. Three requirements: (i) be a company or partnership, (ii) invest at least US $ 10,000 of fixed assets, and (iii) meet the priority industry list (see below) Priority Industries/Areas Agriculture, fisheries, tourism, manufacturing, energy, mining, skills development, and selected services Tax Holiday With CSI, exemptions are: 2/3 of company tax for first 3 years, 1/3 during 4-6 years, and full payment after the 6h year. Corporate Tax Rate Normal company tax rate is 35% or 2% of turnover, whichever is higher ital Gains Guarantees to transfer after-tax profits. Capital gains tax of Capital25% for companies and 15 % for individuals. Capital losses can be offset against capital gains in same year of assessment. Fixed Assets Proposals to allow accelerated capital allowances on buildings (10 %), all other (20%) Interest, Royalties, Management Fees Guarantees to transfer royalties. Taxes Exemption from customs duties, sales tax, and tumover tax for capital equipment and intermediary inputs. Plans to reduce the maximum duty rate to 20%. Dividend Income (withholding tax) Can be credited against the shareholder's income tax liability Industry/Regional Incentives Divestiture and regulatory strategy under study to open up energy, telecom, port, hotel, and transport sectors. Training Grants None Free-trade zones Reexport and export processing zones under study (Gateway project). Arrangements proposed for joint ventures; proposed higher flexibility in labor legislation in the port of Banjul Other export incentives No Customs duty exemptions With CSI, eligibility for total waiver of customs duty on approved capital equipment, etc. 29 Ghana Pre-conditions to obtain incentives Foreigners allowed 100% ownership provided they meet certain requirements. Prior approval not needed, except in mining and petroleum Priority Industries/Areas Tax Holiday Real estate (5 years); rural banks (10 years); agriculture and agro-industry (5 years); air and sea transport Corporate Tax Rate Tax rate in all sectors is 35%, except non-traditional exports (8%) and hotels (25%) Capital Gains Flat rate of 5% Fixed Assets Straight line method used - no details Interest, Royalties, Management Fees deductible Taxes Not deductible for tax purposes Net operating losses Carried forward by mining companies indefinitely; all others 5 years Dividend Income (withholding tax) Subject to 10% withholding tax Industry/Regional Incentives Tax incentives for agriculture and agro-industry; Tax rebate (25%) to manufacturing firms locating in regional capitals other than Accra and Tema. Rebate of 50% when locating outside regional capitals. Training Grants None Free-trade zones No Other export incentives No Customs duty exemptions Plant machinery and equipment are zero rated 30 K0enya Pre-conditions to obtain incentives Certificate of general authority required from Ministry of Finance. No industry specific approval required, except for reasons of environmental policy, banking and security. Priority Industries/Areas Food and horticultural exports encouraged through removal of duties. No generalized incentive scheme, but negotiated on a case-by-case basis Tax Holiday Export processing zone allows for 10 years tax holiday Corporate Tax Rate Foreign controlled companies taxed at same rate as domestic ones. Capital Gains No capital gains tax Fixed Assets 37.5% for combine harvesters, tractors etc.; 30% for computers, calculators; 35% for motor vehicles and aircraft; 12.5% for other assets; Buildings - annual allowance of 4% for hotels; 2.5% for factories, docks, etc. Interest, Royalties, Management Fees Contingencies in place Taxes Net operating losses May be carried forward indefinitely Dividend Income (withholding tax) Withholding tax on dividends payable to non-resident shareholders is 10%, while for Kenya residents is only 5% Industry/Regional Incentives No regional/rural incentives Training Grants None Free-trade zones 5 Export processing zones: Mombasa and Athi (Government owned) Nairobi, Della Rue and Nakuru (privately owned) Other export incentives Duty/VAT Remission Scheme available on raw inputs for transformation and export. 100 percent allowance on plant machinery and equipment for manufacturing exports. Customs duty exemptions Reduced for small scale industries in rural areas; agricultural inputs are zero rated; other duty free schemes available on case by case basis 31 Lesotho Pre-conditions to obtain incentives Investors are screened but may own 100% of equity Priority Industries/Areas Pioneer Industries (manufacturing and related sectors) Tax Holiday No Corporate Tax Rate Basic rate of 35% for all sectors except manufacturing which is 15% Interest, Royalties, Management Fees Normal operating costs are deductible Taxes Net operating losses Carry forward of 5 years for approved manufacturing (pioneer industries) Withholding tax: dividends 25% for all industries, except manufacturing which is exempt Royalties: 15% for non-manufacturing Industry/Regional Incentives Pioneer industries may opt for 10 year exemption from income tax. Concessional loan finance available Training Grants Training grants available Free-trade zones No Other export incentives Comprehensive export credit facility Customs duty exemptions No 32 Mali Priority Industries/Areas Tax Holiday 5 year tax holiday available from start of production Corporate Tax Rate 35% following devaluation of CFA in January 1994 Capital Gains Partnerships and individual enterprises 15% Craftsmen 10% Dividend Income (withholding tax) Standard rate 18%; Reduced rate 9%; Dividends may be repatriated Industry/Regional Incentives Training Grants None Other export incentives Mineral products may be freely exported and are exempt from all indirect internal taxation Customs duty exemptions Ad valorem duties ate rates of zero or 5%. Productive capital goods, agricultural inputs, etc. exempt; Import of mining equipment and machinery is duty free as long as re-exported 33 Mauritius Pre-conditions to obtain incentives Foreign investments are approved by the ministry that manages the particular scheme under which the investment is entering the country. Upon approval, the office of the Prime Minister grants final authorization for an individual to invest in Mauritius. Priority Industries/Areas Manufacturing, application of new technologies, technology services, export oriented service companies, offshore businesses, freeport. Tax Holiday Exemption from payment of income tax on dividends up to 20 years. Corporate Tax Rate Corporate tax at 15% (except for Freeport & EPZ - tax exempt). As from 2000/01 EPZ companies will be subject to same 15% Capital Gains Depends on scheme Fixed Assets Depends on scheme Interest, Royalties, Management Fees No provisions Taxes No deductions allowed for corporate income tax, capital gains tax, land transfer tax, etc. Net operating losses Carried forward for maximum of three years. Dividend Income (withholding tax) Wholly exempt Industry/Regional Incentives Incentives for Export Enterprises include: no customs duty, corporate tax, tax on dividend, capital gains, etc.; Pioneer schemes for technology transfer include incentives: no customs duty, 15% corporate tax, no tax on dividends, etc.; SME schemes include no customs duty and 15% corporate tax Training Grants None Free-trade zones Yes (Export Processing Zones-manufacturing). Other export incentives In manufacturing: Pioneer Status Enterprises, Modernization and Expansion, Small and Medium Enterprises, Industrial Building Scheme, and Strategic Local Enterprise. In services: Export Processing Zones -export oriented services companies, Offshore Business, and Freeport. Customs duty exemptions Waiver of customs duty is dependent on scheme 34 Namibia Pre-conditions to obtain incentives To qualify for incentives must register with Ministry of Trade and Industry and Ministry of Finance Priority Industries/Areas Tax Holiday 50% abatement on taxable income derived from manufacturing for a period of five years to be phased out over 10 years Corporate Tax Rate Non-mining: 40% on taxable income derived within Namibia. Taxable income derived from exports of locally manufactured goods is further reduced by 80% making the effective corporate tax rate 3.5% for the first five years, rising to 7% thereafter. Worldwide sourcing rules apply only to interest and dividend income Capital Gains Mining: formula: y=65-480/x Diamonds: 50% of taxable income plus 10% surcharge Fixed Assets Buildings (20% first year, 4% thereafter); Mining exploration expenditure is deductible in full Interest, Royalties, Management Fees Deductible as a finance cost; payment to foreign affiliates subject to Reserve Bank approval Taxes General sales tax, additional sales levy and transfer duty are treated as capital expenditure qualifying for depreciation allowances Net operating losses Assessed tax losses may be carried forward indefinitely Dividend Income (withholding tax) 100/% Industry/Regional Incentives For manufacturing, an accelerated building allowance is available (20% in the first year and 8% over the next 10 years) Training Grants Training expenses and production wages have a 25% deduction. Free-trade zones The port of Walvis Bay is the first full scale export processing zone. Enterprises here qualify for total relief from general sales tax, additional sales levy, customs duties, excise duties, stamp taxes, et. Other export incentives Taxable income from exports is reduced (see corporate tax section);Export expenditure on a wide range of activities is deductible in the range of 25-75% depending on export tumover Customs duty exemptions Exempt in EPZ 35 Senegal Pre-conditions to obtain incentives For Industrial Free Zone of Dakar, eligible firms should export 60% of their production. Authorization obtained from inter- ministerial committee Priority Industries/Areas Tax Holiday Foreign investors in IFZ who establish labor intensive industries can be exempt from all taxes on income, transactions, etc. Corporate Tax Rate 0 in IFZ; 15% in FEC; 30% outside Capital Gains Fixed Assets Depreciation rates: buildings (3-5%); office fumiture (10%); machinery (10-15%); cars 20-33% Interest, Royalties, Management Fees Reasonable royalties, interest and management service paid to foreign parent companies are tax deductible Taxes Some investments exempt from the following taxes: tumover, transfer, franchise, employee contributions, minimum profits, etc. Net operating losses Carry forward of 3 years is permitted Dividend Income (withholding tax) withholding tax at rate of 16% is deductible from corporate tax Industry/Regional Incentives Many industrial activities are eligible for exemptions and incentives Training Grants None Free-trade zones Industrial Free Zone of Dakar: Duration of the benefits to zone operation vary depending on location from 5 to 12 years Other export incentives No export tax is levied on export sales Customs duty exemptions Import taxes and custom duties on plant and machinery exempt for 5 years for SME 36 South Africa Priority Industries/Areas There are numerous regional incentives and industry specific incentives Tax Holiday Tax holiday from 2-6 years depending on region, industry and human resource component Capital Gains Proposal to levy tax on realized capital gains from investments effective from April 2001. Rates of taxation will be subject to consultation Fixed Assets Interest, Royalties, Management Fees Accelerated depreciation allowance are applicable to all sectors other than banking, finance, commerce, insurance, mining and petroleum: plant expenditure (50% per annum for two years);building expenditure (20% p.a. for five years)... .etc. Net operating losses carried forward for 5 year Dividend Income (withholding tax) No withholding taxes for resident corporations and individuals; tax is withheld from certain payments to foreign corporations for nonresident corporations and individuals Industry/Regional Incentives Industrial Innovation grants for new products; Manufacturing development for SMEs; regional incentives in 10 corridors. Loans for new investment. Venture capital for high-tech development. Medium term loans for manufacturing Training Grants None Other export incentives Export marketing and Investment Assistance schemes; special low interest loans for plant & equipment to expand export manufacturing operations; Export finance guarantee scheme Customs duty exemptions Duty Credit Certification Scheme For clothing and textiles allows firms to use 30% of the value of exports to import textiles 37 Tanzania Pre-conditions to obtain incentives Certificate from Tanzania Investment Center available to foreign investors with US$300,000 and local investors with more than US$100,000 Priority Industries/Areas Agriculture, Air Aviation, Commercial buildings, commercial, development and micro-finance banks, export oriented projects, human resources, manufacturing, natural resources including fisheries, tourism, radio and television broadcasting, rehabilitation and expansion. Tax Holiday Companies with a Certificate have 100% deduction on investment Corporate Tax Rate Corporation tax is 30% in most priority sectors, except 'Expansion Tourism' where it is 35% Capital Gains 10% Loss carry forward Companies with a Certificate have unlimited loss carry forward (otherwise losses sustained in one year can be carried forward and offset against taxable profits arising in the succeeding five years). Payroll Levy 4% Dividend Income (withholding tax) Withholding taxes for priority sectors are 0% for interest on loans and 10% for dividends; Industry/Regional Incentives Mining sector Training Grants No. Free-trade zones No Customs duty exemptions Companies with a certificate pay are exempt from import duties on all capital equipment 38 Uganda Pre-conditions to obtain incentives Minimum threshold of $100,000 and application submitted to Uganda Investment Authority Priority Industries/Areas Tax Holiday No new Tax Holidays since 1997. Firms with current tax holidays can choose to retain them until they expire Corporate Tax Rate 30% Fixed Assets Capital allowances vary by location and type; For these and annual depreciation allowances, see page 67 Interest, Royalties, Management Fees Taxes A presumptive tax (1%) on small business was introduced in 1997 Net operating losses forwarded indefinitely Withholding Tax (Dividend Income) 15% (Interest income) 15% Industry/Regional Incentives Training Grants None Free-trade zones No 39 Zambia Pre-conditions to obtain incentives Compliance with Companies Act and application to Investment Center for investment license. Depending on sector, other licenses may be required Priority Industries/Areas Exporters on non-traditional products (defined as anything other than metallic minerals), mining, tourism and agriculture Tax Holiday Small scale enterprises exempt from tax for first three years in urban areas and 5 years in rural areas Corporate Tax Rate * Standard corporate income tax rate 35% * Companies listed on Lusaka Stock Exchange 30% * Non-traditional exporters and agricultural sector 15% * ZCCM private successor mining companies 25% (with carry forward of losses up to 20 years; and 100% capital expenditure tax credit) Fixed Assets Capital allowances vary from 5% for industrial buildings to 50% for manufacturing industries, to 100% for farm works and improvements Interest, Royalties, Management Yes (for ZCCM successor mining companies, these are exempt from income Fees tax) Taxes a Corporate tax rate 35% * Tax exemptions for ZCCM successor mining companies: • Duty on imported consumables up to 4 years * Excise duty on electricity consumed Net operating losses Carry forward indefinitely Dividend Income (withholding tax) Right of repatriation Industry/Regional Incentives Special incentives for investment in: tourism, non-traditional products, privatization of ZCCM. Training Grants None (but technical training, R&D expenditures are tax credited) Free-trade zones No Other export incentives Duty Drawback Scheme, Manufacturing under Bond, no exchange controls, legal guarantee from appropriation by the state Customs duty exemptions Duty exemptions on imported mining equipment; petroleum, agricultural inputs and machinery, tires and tubes, some manufacturing equipment, e.g. extruders, brewery equipment, agro-processing equipment; other manufacturing equipment attract only 5% duty. . 40 ZimaXbwe Tax Holiday 5 year tax holiday followed by 15% corporate tax rate for EPZ fmns Corporate Tax Rate Basic tax rate: 35 % (taxable income of manufacturing company derived from increased exports = 25%) Capital Gains Flat rate of 20% for gains exceeding Z$5,000 Interest, Royalties, Management Fees Yes Taxes Net operating losses Carry forward for six years for some sectors and indefinitely for mining Dividend Income (withholding tax) Exemption from Non Resident Shareholder Tax for EPZ firms Industry/Regional Incentives Profits from approved new manufacturing operations in designated areas taxable at 10% for first five years Training Grants 50% deduction on expenditure related to erections/additions of trade training buildings, equipment, etc. Free-trade zones Existing firms in EPZ exporting 50% or more taxed at 8 percentage points below prevailing corporate rate; New firms in EPZ taxed at 10 percentage points below; Other export incentives Manufacturing firms that increase their export by 20% or more have their taxes reduced 10 percentage points Customs duty exemptions Duty free on capital equipment; for EPZs raw materials and capital goods 41