Go for foreign direct investments

FDI does more for economy than conditional bilateral aid, with latter often provided in pursuit of lenders' interests.

The current administration’s approach of inundating the economy with funds from bilateral sources has been followed in the past, in particular by the governments that were dominated by the military. Altruism is not the only reason that rich countries give financial assistance to those who are relatively poor. Bilateral aid usually comes with political strings attached that are often not very visible. There are expectations of donors from the recipients that democracies may not be able to fulfill. That may be the case with today’s Pakistan. Are there other ways of meeting the resource gap that are less politically encumbered?

It would be helpful if policymakers in Islamabad take full cognisance of the three problems with their way of raining external resources. One, the dependence on external savings should be limited to the very short term. Ultimately, it is domestic resource generation that should be the basis of achieving sustained rates of growth at the desired levels. Two, in the rapidly restructuring global political order, continued dependence on bilateral relations may call for making foreign policy choices that will perhaps not be to the country’s long-term advantage. Pakistan will have to move beyond such bilateral equations as Islamabad-Washington, Islamabad-London, Islamabad-Beijing and Islamabad-Riyadh to obtain the needed external financing. What is evolving is a multipolar world in which old forms of bilateralism may be difficult to accommodate. Three, what Pakistan needs to focus on quickly is to get increased amounts of foreign direct investment (FDI) into the country. FDI flows do more for the economy than conditional bilateral flows. The latter are often provided in pursuit of the interests of those who give, not necessarily of those who receive.

Flows from abroad also come in the form of FDI. FDI takes several different forms. The funds that fall under this category may enter the country as portfolio investments when foreign investors conclude that the stock markets in countries such as India and Pakistan offer good short-term rewards compared to those available in rich countries. For the last several months, Pakistan has had one of the better performing capital markets in the world. Some of the market’s performance was no doubt due to foreign money flowing in. But this is fickle flow; it can go out as quickly as it comes in.

Two other types of FDI are more suited for the needs of emerging markets such as Pakistan. One takes the form of ‘merger and acquisitions’ (M&A). As the financial markets have globalised, M&A activity between developed and developing countries has increased. Established firms in the West have acquired assets in the emerging world to expand their market shares. Pakistan has had this type of investment in two service sectors –– banking and telecommunications. However, most of the firms that have taken advantage of the available opportunities in Pakistan are from the Middle East. They are, perhaps, less intimidated by the poor security situation in the country.

‘Green field’ investments are the other more stable form of foreign capital flows. These refer to the establishment of new enterprises. Food and beverages have been popular areas for foreign investment. However, since the income from this type of investment is in local currency and profits are repatriated in foreign currency, this creates contingent liabilities for the government and increases pressures on external finance. Oil and gas are other areas of possible FDI involvement. These will have a positive impact on external finance by bringing in savings on imports.

While, as indicated, FDI is a more stable form of capital flow it, too, can depart. This has happened in the case of American and European firms who were present in the banking sector for decades. Some foreign manufacturing firms have also sold their operations. Poor security situation resulting from the rise of extremisms and terrorism is the main reason why several foreign firms have left the country. FDI can only play an important role in the country if the security situation improves. Of late, Western foreign pharmaceutical firms have also been leaving the country. Most of those who have done that have located their operations in the neighbouring countries, finding them more business friendly.

The case of the pharmaceutical industry offers some lessons for Pakistan. Islamabad, for instance, has made no attempt to meet the ‘good manufacturing requirements’ needed to enter the export market. None of its plants have been approved by the United States’ Food and Drug Administration (FDA). About 150 plants in India are recognised by the FDA; some in Bangladesh have also been approved. The industry finds Pakistan’s regulatory system antiquated. Educational institutions don’t train people who can move into the pharmaceutical industry.

The Nawaz Sharif government has identified the privatisation of state-owned enterprises as one of its priority areas. Done properly it should bring in foreign firms into the country. While the large Western firms may still be reluctant to enter the country for reasons of poor security situation, companies from China and the Middle East will be prepared to test the Pakistani market. We got some evidence of this from the recent auction of 3G and 4G licences. There was reasonable display of interest on the part of foreign firms. The best bid came from China’s company Zong.

Published in The Express Tribune, April 27^th, 2014.

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