The Political Economy of Foreign Direct Investment in Malawi – MLB Thesis
The Political Economy Of Foreign Direct Investment In Malawi
COLLINS MAGALASI
Date: 17 July 2009 This is a Bucerius/WHU MLB thesis 14,639 words (excluding footnotes) Supervisor 1: Prof. Dr. Michael Frenkel Supervisor 2: Dr. Patrick Kambewa
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Table of Contents
Table of Contents ...... 2
Table of Figures ...... 3
Table of Tables ...... 3
Table of Annexes ...... 3
List of Abbreviations ...... 4
Chapter One: Introduction ...... 6
Chapter Two: Determinants of Foreign Direct Investment ...... 8 I. Locational/Host Country Determinants ...... 9 II. Factors that affect location of Foreign Direct Investment ...... 11 Chapter Three: Theories of Foreign Direct Investment ...... 14 I. Root Theories...... 15 1. Theory of Industrial organisation...... 15 2. Theory of International trade ...... 16 II. Theories explaining the activities of FDI...... 17 1 Internalisation theory of FDI ...... 18 2. Eclectic paradigm theory of FDI...... 19 3. Macro Theory of FDI...... 19 4. Factor Endowment Theory and New Trade Theory ...... 20 Chapter Four: Previous Empirical Findings ...... 21 I. Macroeconomic environment instability ...... 21 1. Studies that support theory that macroeconomic instability deters FDI...... 23 2. Studies that reject theory that macroeconomic instability deters FDI ...... 25 3. Studies that mend the missing link ...... 26 II. Legal environment uncertainty ...... 26 Chapter Five: Foreign Direct Investment Environment in Malawi ...... 31 I. The Malawi Political Economy ...... 31 II. The Macroeconomic Environment ...... 35 III. The Legal Environment ...... 42 1. Amendment of investment related laws in Malawi ...... 43 2. Presidential and Ministerial Decrees ...... 50 3. Legal Environment Uncertainty Index for Malawi...... 53 IV. The Flow of Foreign Direct Investment in Malawi ...... 57 Chapter Six: Testing The Hypothesis ...... 62 I. Methodology...... 62 II. Results...... 63 Chapter Seven: Conclusion ...... 65
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Bibliography ...... 66
Annex ...... 75
Table of Figures
Figure 1a: Host Country Determinants of FDI…………………………….....10 Figure 1: Real Growth rates, Inflation Rates and Lending Interest Rates ……………………………………………………………………………………….39 Figure 2: Real Effective Exchange Rates ………………………………….41 Figure 3: Most Amended business-related laws ………………………….45 Figure 6: Presidential and Ministerial Decrees in Malawi ………………..52 Figure 7 Investment related law amendments and decrees …………….53 Figure 8: Legal Uncertainty Index for Malawi ……………………………...54 Figure 9: Year-to-Year Contribution to the legal Environment Uncertainty ……………………………………………………………………………………….56 Figure 10: FDI inflows to Malawi ……………………………………………..61
Table of Tables
Table 1: Sectoral percentage contribution to GDP ………………………36 Table 2: Investment Related Laws amended …………………………….43 Table 3: Top-3 Most amended laws ……………………………………….46 Table 4: Priority Laws by Investors and stakeholders …………………...48 Table 5: Aggregate decrees on imports and exports …………………….52 Table 6: Malawi FDI flows …………………………………………………..60 Table 7: Results of Model A ………………………………………………..63 Table 8: Results of Model B ………………………………………………..64
Table of Annexes
Annex 1: Results of Regression Analysis ………………………………….75 Annex 2: Questionnaire ……………………………………………………...77 Annex 3: Amendments to Laws of Malawi …………………………………83
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List of Abbreviations
ACP Africa Caribbean and Pacific AfDB African Development Bank AU African Union COMESA Common Market for Eastern and Southern Africa DPP Democratic Progressive Party ECAMA Economics Association of Malawi EPZ Export Processing Zone ESAF Enhanced Structural Adjustment Facility FAO Food and Agriculture Organisation FDI Foreign Direct Investment FTA Free Trade Area G-77 Group of 77 GDP Gross Domestic Product HIPC Highly Indebted Poor Country IBAM Indigenous Business Association of Malawi ICSID International Convention for Settlement of Investment Disputes ILO International Labour Organisation IMF International Monetary Fund LEUI Legal Environment Uncertainty Index MCCCI Malawi Confederation of Chambers of Commerce and Industry MCP Malawi Congress Party MDG Millennium Development Goal MDRI Multilateral Debt Relief Initiative MEGS Malawi Economic Growth Strategy MGDS Malawi Growth and Development Strategy MIGA Multilateral Investment Guarantee Agency MIPA Malawi Investment Promotion Agency MPRSP Malawi Poverty Reduction Strategy Paper NSO National Statistics Office OLI Ownership, Location and Internalisation PRGF Poverty Reduction and Growth Facility RBM Reserve Bank of Malawi
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REER Real Effective Exchange Rate RIA Regional Investment Agency SADC Southern Africa Development Community UDF United Democratic Front UN United Nations UNCTAD United Nations Conference on Trade and Development UNIDO United Nations Industrial Development Organisation USSR Union of Soviet Socialist Republics WDR World Development Report WTO World Trade Organisation
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Chapter One: Introduction
Empirical evidence shows that one percentage point increase in FDI measured as a proportion of GDP, brings about ceteris paribus an extra 0.8 percentage point increase in per capita income. 1 UNCTAD (2002) states that of all developing countries and economies in transition, the fastest growing economies are those that receive most foreign direct investment. 2
Previous empirical findings on the determinants of FDI flows in transition and developing countries have shown that legal environment uncertainty and macroeconomic instability scare off foreign direct investors. So far, there is no recorded academic finding on the subject in Malawi, but only inference has been made from similar studies that were conducted on other developing and transition countries but all outside the Southern Africa region. Those other studies however did not explore which of the variables, i.e. between macroeconomic instability and legal environment uncertainty, has higher impact on FDI flows. This paper investigates this question and will therefore be one of the few contributions to the literature not only on the impact that macroeconomic instability and legal uncertainty have on FDI in Malawi, but also on the comparative weight between the legal and macroeconomic determinants.
Malawi has experienced both legal environment uncertainty and macroeconomic instability from 1994 to 2008, and yet FDI inflows were observed to fluctuate. Anecdotal evidence shows that FDI inflow is attracted more by macroeconomic stability than legal certainty. This paper uses evidence from Malawi to test the hypothesis that macroeconomic instability negatively affects FDI inflow more than legal environment uncertainty does.
This paper is organised as follows: Chapter Two introduces FDI determinants in general and host country determinants in particular. Theories of FDI are discussed in Chapter Three. The theories are both those that are for and
1 Bergsman et al (2000), in the World Bank Policy Working Paper 2329 2 UNCTAD, World Investment Report: Transnational Corporations and Export Competitiveness, 2002
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those against the determination that macroeconomic stability and/or legal certainty are key determinants of FDI. This is followed by a review of previous empirical findings on the subject, including a discussion on the conflicting evidence that is provided by scholars on the matter in Chapter Four.
Chapter Five details the FDI environment in Malawi. The Chapter looks at the political economy of Malawi; documents the developments that have occurred in the Malawi economy and legal system from 1994 to 2008; and also provide record of the FDI flows into Malawi.
With the data enumerated in the foregoing chapters, the paper runs standard OLS multivariate regression in Chapter Six to test the hypothesis of this paper. Thereafter the paper ends with conclusion in Chapter Seven that indeed that macroeconomic instability negatively affects foreign direct investment inflows more than legal environment uncertainty does in Malawi.
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Chapter Two: Determinants of Foreign Direct Investment
Foreign Direct Investment refers to an outlay whereby a firm or person from one country develops a long-term relationship and control of at least 10% in assets of a foreign enterprise in a country other than his own. This investment includes the initial transaction into the new country and also subsequent transactions between them and among foreign affiliates.
Feenstra R (1998) follows the approach to FDI developed by John Dunning (1977) and describes FDI as having three features: First is the acquisition of at least 10% of assets abroad (ownership), second is the choice of host country which is dependent on the host country conditions (location); and third is the decision on which activities the enterprise will do (internalisation). These aforementioned features of FDI – ownership, location, and internalization - are commonly referred to as the “OLI framework,” and although not constituting a formal theory in itself that can be confronted with statistical processes, 3 the framework provides a useful skeleton for categorising much of the empirical studies conducted on FDI.
The benefits of FDI have been empirically proven and documented by many persons, among them UNCTAD (1998), Brenton P. and Mauro F. (1998)), Lu J and Beamish P (2006), Kokko et al (2001), Obwona M (2001, and Baniak, Cukrowski and Herczynski (2002). Of special mention is John Dunning who provides a long list of benefits of FDI. In his 1994 paper “Re-evaluating the benefits of foreign direct investment,” Dunning cites the following benefits of FDI: Provision of new financial capital and complementary assets; Access to foreign markets; Increased standards of product quality; Improvements in international division of labour and cross border networking; Stimulation of local entrepreneurial and domestic rivalry; and Possible stimulation of secondary processing activities from the local spin-off effects on industrial activities by FDI.4 The International Monetary Fund et al (1991) states that
3 See Neary P (2008) for more discussion on categorisation of FDI studies 4 Dunning (1994), pp. 7-10
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FDI is an important factor in the restructuring of enterprises and transfer of capital and know-how particularly for countries in transition. 5 In addition, Piatkin (1993) states that FDI has potential to relieve tensions in poor countries. 6
A lot of scholarly research has proved that FDI is very instrumental to development of poor countries and countries in transition. UNCTAD (2002) states that of all developing countries and economies in transition, the fastest growing economies are those that receive most FDI inflows. 7 Empirical evidence provided by Bergsman et al (2000) shows that one percentage point increase in FDI measured as a proportion of GDP, brings about, ceteris paribus, an extra 0.8 percentage point increase in per capita income. 8 For FDI to occur, however, three important factors must exist simultaneously, namely the firm must be convinced “why” it should invest (ownership advantage), “where” (locational advantage) and “how” (internationalisation advantage). 9 This paper is interested in locational determinants.
I. Locational/Host Country Determinants
Specific to the locational advantage, which this study is interested in, many empirical studies of FDI determinants, including UNCTAD (1998), show that location of FDI depends on (a) the motivation of the FDI (whether it is natural resource-seeking, market seeking, efficiency seeking or strategic asset seeking),10 (b) the economic and business environment of the host country (particularly the policies and practice pursued by the government), and (c) the mode of entry or expansion by the firm - whether as Greenfield FDI or through Merger and Acquisition.
5 IMF et al, A Study of the Soviet economy, 1991 6 Piatkin A., pp. 61-73 7 UNCTAD, World Investment Report: Transnational Corporations and Export Competitiveness, 2002 8 Bergsman et al (2000), in the World Bank Policy Working Paper 2329 9 This description forms the OLI Framework that Dunning (1993a) used in the Eclectic theory of investment 10 For detailed description, see Anand J and Delios A (2001)
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Of the three determinants aforementioned, only the economic and business environment of host country is directly within the control of host governments. Host governments therefore organise specific policy frameworks and practices that are aimed at attracting and retaining as much of FDI as possible in order to maximise the benefits that come with FDI. Figure 1a below is adapted from UNCTAD (1998) 11 and it summarises the factors that determine FDI in host country.
Figure 1a: Host country determinants of FDI
Host country determinants Type of FDI classified Principal economic determinants by motives of TNCs in host countries
I. Policy framework for FDI A. Market-seeking • market size and per capita income • economic, political and social • market growth • access to regional and global stability • rules regarding entry and operations markets country-specific consumer • standards of treatment of foreign • preferences affiliates • structure of markets • policies on functioning and structure of markets (especially competition B. Resource/ • raw materials and M&A policies) • low-cost unskilled labour • international agreements on FDI asset-seeking • skilled labour • privatization policy • technological, innovatory and • trade policy (tariffs and NTBs) and other coherence of FDI and trade policies • created assets (e.g. brand • tax policy names), • including as embodied in II. Economic determinants • individuals, firms and clusters • physical infrastructure (ports, roads, III. Business facilitation power, telecommunication) • investment promotion (including image building and investment- C. Efficiency- • cost of resources and assets listed generating activities and investment- under B, adjusted for productivity facilitation services) seeking for labour resources • investment incentives • other input costs, e.g. transport • hassle costs (related to corruption, and communication costs to/from administrative efficiency, etc.) and within host economy and costs of other intermediate • social amenities (bilingual schools, products quality of life, etc.) • after-investment services • membership of a regional integration agreement conducive to the establishment of regional corporate networks
Source: UNCTAD (1998, p.91, Table IV.1
In this paper, we will do an empirical analysis of the policy framework of Malawi specifically the impact that the macroeconomic instability and the legal uncertainty have on FDI in Malawi. So far, there is no recorded academic discussion on the subject in Malawi. Inference can be made, however, from
11 UNCTAD (1998) p. 91, Table IV.1
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similar studies that were conducted on other developing and transition countries, unfortunately none of which is from within the Southern Africa. 12 Baniak at al (2002), in their study of transition economies in Central and Eastern Europe looked at the link between macroeconomic and institutional stability and FDI inflows. They suggest that in order to attract a significant inflow of long-term and non-speculative foreign capital, transition countries need a stable institutional environment. They did not indicate, however, which of the variables in the institutional environment has higher impact on FDI flows. This paper will therefore be one of the few contributions to the literature not only on the impact that macroeconomic instability and legal uncertainty have on FDI in Malawi, but also on the comparative weight between the legal and macroeconomic determinants.
II. Factors that affect location of Foreign Direct Investment
In the above section we looked at determinants of FDI, in particular the host country determinants. We have seen that governments strive to provide an environment that is desirable and conducive for FDI. But are these desirable determinants static?
Dunning (2003) states that locational variables that affect FDI are fast changing. He proved this by studying the interests of investors in the period 1970 – 1980 and 1990 – 2000. 13 This finding is corroborated by the Economist Intelligence Unit (2002) and (2004) surveys of business executives’ rankings of where they can locate their FDI in the early 21 st century. The 2002 survey revealed that businesses look at the following as key variables in choosing the location of their firms: Political stability, Quality of institutional infrastructure, macroeconomic environment of the host country, government policies towards private sector and competition, as well as Quality of social capital.14 In 2004, the Economist’s survey had the following
12 UNCTAD (2008) and Sung and Lapan (2000) express that such information is not forthcoming from the Southern Africa sub-region. 13 Dunning (2003) in Annual World Bank Conference on Development Economics, pp. 279 - 290 14 The Economist Intelligence Unit, World Investment Prospects 2002
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variables in their order of importance: Local market opportunities, Macroeconomic stability, Political environment (political stability and effectiveness), Overall policy towards free enterprise and competition, Specific policies towards foreign investment, An open foreign trade and exchange regime, Overall taxation regime, Labour market and skills, Availability of special tax incentives, Quality of infrastructure, Geographical location, Quality of local suppliers, and Quality and availability of local financing. 15
In addition, Dunning and Wymbs (2001) state that there are additional factors that affect the location of FDI. These include the impact of internet, particularly electronic commerce, on location decisions of firms. They state that internet, being a market-facilitating instrument, lessens the motivation of firms to locate their activities all over the world as it reduces information asymmetries in firms, thus reducing spatial transaction costs. 16 However, Dunning and Wymbs (2001) fail to realise that internet does not provide solutions to all activities on the market as there exist a lot of market failures or distortions that need idiosyncratic presence of the firm.
Krugman (1992) and Krugman and Venables (1994) point out that there is growing agglomeration of related activities by firms, in the process locating firms in counties that are not on the traditional list of destinations of firms. They give examples of agglomeration of high-technology activities in the Silicon Valley, Financial services sector in London and Hong Kong, Software activities in Bangalore India, and Cutlery industry in Solingen Germany. Thus, they conclude that as firms make decision on what activities to engage in, they would choose a location that allows them to maximise competitive advantage.
15 The Economist Intelligence Unit, World Investment Prospects 2004, p 22 16 Dunning (2001) in Annual World Bank Conference On Development Economics – Europe 2003, p. 286
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In view of the foregoing, it is imperative that governments of potential host countries keep upgrading their surveillance of the investment determinants of the firms. The approach of business-as-usual will not attract and retain FDIs.
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Chapter Three: Theories of Foreign Direct Investment
After examining the factors that affect the location of FDI, the paper next presents the prevailing theories of FDI. The theories here-mentioned are instrumental in explaining the behaviour of FDI, and specifically for this paper, in the empirical testing of the paper’s hypothesis that macroeconomic instability negatively affects foreign direct investment more than legal environment instability does in Malawi.
Literature provides many theories that can explain foreign direct investment. Rugman (1980) however quickly dismisses the point and states that “the existing theories are basically sub-sets of the general theory of internationalisation.” 17 He believes that there is only one theory of FDIs, namely internationalisation, originated by Coase (1937), and that Hymer (1976) only applied it to an international setting as compared to Coase who applied the theory to local setting. Rugman (1980) further argues that Buckley and Casson (1976) and also Dunning (1977) only blended the same theory. 18
Buckley (1988) seems to agree with Rugman (1980) when he outlines the difficulties of empirically testing the validity of the related theories separately, particularly theories that ponder on internalisation decisions, market structure and competitive advantage. 19 He suggests as a solution the ‘integration of non-traditional concepts’ and ‘the reintegration of areas of research that have become divorced from international business theory’20
While it may not be possible to identify totally independent theories of FDI, it is possible to identify the roots of international production. This will offer a framework with which to understand FDI and conduct empirical analysis of determinants of FDI. This paper therefore first looks at the Theory of Industrial
17 Rugman A., (1980) p. 24 18 Ibid, p.24 19 Buckley P., Problems and Developments in the Core Theory of International Business, (1990), p. 657 20 Ibid, p 665
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Organisation and the Theory of International Trade. Thereafter the paper will look at hybrid theories that explain the activities of FDIs.
I. Root Theories
1. Theory of Industrial organisation
The theory of Industrial Organisation was propounded by Hymer (1960) 21 and can be said to be the mother of all theories of foreign direct investment.
Before the pioneering work by Hymer, international capital flow was viewed from a neoclassical financial theory of portfolio flows, where it was assumed that capital moved in a frictionless world and that it moved in response to changes in profits or interest rates differentials.22 Indeed Dunning (1958) collaborated with Iversen (1936) that the early work on FDI was focussed on the destination on the capital and not the reasons for the movement. 23 Hymer changed the aforementioned discussion by bringing in two major determinants of FDI namely removal of competition and intrinsic advantages firms posses in a particular activity. 24 Therefore, Hymer’s theory transformed the limited views that prevailed at that time that FDIs were institutions for international exchange. In the theory, Hymer distinguished portfolio from direct investment and focused on control by investors and development over time.
Dunning J. and Rugman A. (1985) praised Hymer for influencing scholars through the theory of industrial organisation to move towards the use of industrial organisation theory in the analysis of multinational enterprises, away from the “intellectual straight jacket of neoclassical-type trade and financial theory.”25
21 This was in his doctoral dissertation, which was delayed to 1976 22 Iversen C (1936) 23 Dunning (1958), for example, was interested in explaining the presence of American FDIs in Britain and not the factors that led to the inflow or the nature of its operations. 24 Hymer (1960/1976) p.331. 25 Dunning J. And Rugman A., The Influence of Hymer’s Dissertation on the Theory of Foreign Direct Investment, in The American Economic Review, Vol 75, No. 2 1985 pp. 228
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Thus, as detailed by Hymer (1960), FDIs are institutions for international production. The assertion of the industrial organisation theory is very important to this study of foreign direct investment in Malawi, a country that opened up its economy just in the early 90s.
2. Theory of International trade
This theory is built on the product life cycle theory by Vernon (1966). Studying the firms from the U.S. in the 1960s, Vernon concluded that a firm will go through a number of stages namely: In Stage 1 - the firm is located in an innovative country, produces new product and serves the home market; In stage 2, the firm matures, produces standardized designs and products, resultantly offer lower price, and other industrialized countries join production; At stage 3, the firm invests in developing countries, produces at cheaper cost and export back to home and other markets. Stage 4 sees technological diffusion and realises full globalization.26
Although Vernon claims that the theory “puts less emphasis upon comparative cost doctrine and more upon the timing of innovation, the effects of scale economies and the roles of ignorance and uncertainty in influencing trade patterns,” 27 the theory has been panned for its failure to explain trade patterns of today. This extends to the theory’s ambiguity to the applicable context; its treatment of processes of innovation; its oversimplification of the nature of products; and assumptions about scale, labour and relocation to developing countries. 28 The theory was developed at a time when the United States of America was viewed as the only country of innovations, a situation that is not the case anymore. These days, firms in different countries (beyond the United States of America) introduce new products in many different markets at the same time in order to take advantage of opportunities that exist in those environments.
26 Vernon R., International Investment and International Trade in the product Cycle (1966) pp. 190-207 27 Ibid, p.190 28 Taylor M. has a detailed critique of Vernon’s Product-Cycle Model in: Environment and Planning A, (1986), pp 751 - 761
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Nevertheless the theory helps to explain some of the drivers of firms’ decision to invest abroad and help this study in determining the applicable determinants of FDIs. Going by Vernon’s theory, FDIs are a product of a firm’s focus on prospects of cutting costs by locating production in countries where it can produce at lower net cost.
II. Theories explaining the activities of FDI
There are many theories that explain the activities of FDI. In this section we will look at only a few of them that are relevant to our study namely the Internalisation Theory, the Eclectic Paradigm Theory, the Macro Theory, Factor Endowment-Based Theory and the New Trade Theory. But before we get in detail into the theories, let us look at the classification of FDI by activity as promoted by Dunning (2003). Based on UNCTAD (1998) host country determinants of FDI,29 Dunning classifies FDIs as Resource-seeking, Market seeking, Efficiency-seeking, and Strategic asset–seeking FDIs.
Resource-seeking FDI acquires particular resources such as land, raw materials, and skilled or unskilled labour, at lower real cost than they could have acquired the same in their home countries. Market seeking FDI goes for the market that the host country or neighbouring countries offer, as such these types of FDI are interested in the market size, per capita income and growth, consumer preferences and access to regional and global markets. Efficiency-seeking FDI are resource seekers and / or market seekers who wish to exploit economies of scale. These are interested in minimising the cost of resources and assets and are members to processes that promote inter-country division of labour and international competitiveness. Finally, Strategic asset-seeking FDI acquires assets for long-term strategic objectives such as international competitiveness. These assets are innovation- enhancing and include technology, human and physical infrastructure. 30
29 UNCTAD (1998), page 91, table IV.1 30 Dunning J, Determinants of Foreign Direct Investment (2003), pp 279-285
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Whatever classification of FDI by activity, both Dunning (1993) and Rugman (1998) corroborate that it is imperative that the environment in which investment will be done is stable and predictable.
1 Internalisation theory of FDI
A number of authors have supported the internalisation theory of foreign investment as ably providing microeconomic or behavioural explanations of foreign investors. In particular, Internalisation theory explains the emergence of foreign investment as result of market failures (Caves (1971). McManus (1972), Buckley and Casson (1976), Caves (1971) and Swedenborg (1979) all state that a business will invest abroad when transaction costs associated with trading with the outside world exceed the cost on internalisation, which include the quest to acquire updated knowledge of the market country.
Johanson (1977) and Vahlne (1990) of the Uppsala School studied the gradual increase in international business by various firms and concluded that market failures give rise to ownership specific advantages that are external to the firm. 31 Vida I, Reardon J. and Fairhurst A. (2000) of the same Uppsala school of thought qualify the finding further by stating that this ownership advantage-taking applies only to mature markets. 32 It can therefore be extrapolated that a firm’s country specific knowledge enables the recognition of business opportunities and planning against insecurity.
The internalisation theory of investment has three important implications to our study and these have been clearly established by Meyer (1998a). First, firms follow a sequence from a low to a higher mode of involvement. Thus if the investment environment looks promising, they will proceed to the next step. Second, firms first enter into markets that have similar characteristics to
31 Uppsala School is a sociological orientation of philosophy that believes that theory must be provable and that “hypotheses must be of greater interest to those empiricists who make observations with the additional ambition to demonstrate general laws. They must have some leading principle which guides their observations.” Sourced at http://asj.sagepub.com/cgi/reprint/1/1/85 last visited on May 10 2009 32 Vida et al (2000), p. 37
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home country. These characteristics may be geographical, cultural, political, language, standards etc. Third, the initial investment in a foreign country serves as a way of testing the investment environment in form of accumulating experience and knowledge or just to develop a brand loyalty with customers. Here again, the quality and quantity of investments will depend on the perception that investors have on the investment climate in the host country.
2. Eclectic paradigm theory of FDI
Eclectic paradigm theory was provided as a composite of many theories by Dunning (1977) to give a framework within which FDI can be explained. Dunning says that for FDI to occur, there must be answers to “why” (ownership advantage), “where” (locational advantage) and “how” (internationalisation advantage). He further says two market imperfections necessitate eclectic paradigm namely structural market failure that discriminates between firms in their ability to access and exercise control over property or value-added rights; and intermediate markets that fail to transact goods and services at a lower net cost than the firm can do within.
The eclectic paradigm theory is therefore important to our study as it tells us the conditions that need to be fulfilled for FDI to be undertaken. Investors want ownership, locational and internalisation advantages, and as stated above, the eclectic paradigm theory gives these microeconomic explanations.
3. Macro Theory of FDI
There exists also the Macro theory of FDI which states that firms compare costs and benefits of producing in different locations. Tondel (2001) takes FDI as desired capital stock in a given foreign host country that is dependent on the profitability of the firm; Tondel further states that Macro Theory treats FDI flow as “the difference between desired stock of capital at time t, given the actual stock at time t-1”33 and is dependent on the general level of business
33 Tondel (2001) page 20
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environment i.e. political and economic stability, liberalisation, level of taxes, level of technological development and level of human capital.
4. Factor Endowment Theory and New Trade Theory
There are a number of other theories that have been floated for their relevance to developing and transition countries. Prominent however are two important theories on the same, namely, Factor Endowments-based Trade Theory and the New Trade Theory. Factor endowment-based theory states that FDI goes mostly to countries with more abundant natural resources and lower wages. 34 The New Trade Theory suggests that agglomeration effects 35 often play a crucial role and that economies of scale are a driving force of FDI. 36 The New Trade Theory allows us to conclude that foreign investors may be attracted to countries with existing concentrations of other foreign investors. Being less knowledgeable of local environments of the country, investors may consider the investment decisions by others as a good signal of favourable conditions and emulate the decision to reduce uncertainty.
The above mentioned theories have been developed in different times and tested in different locations. Their applicability in poor, developing and transition countries is however limited. For example, the popular study of FDI determinants in transition economies by Bevan and Estrin (2000) is on 11 countries in Central and Eastern Europe;37 Tondel (2001) expands the list to 25 countries, but all in the same region;38 and Resmini (2000) studies 10 of these countries. Exceptions are Baribaldi et al (2001) and Kinoshita et al (2003) who cover more transition countries, albeit none of the countries is from Southern Africa.
34 Kinoshita Y and Campos N (2003) 35 Agglomeration effects refer to instances where investors co-locate near other economic units for positive externalities. Examples are location of high-tech activities in Silicon Valley and Route 128 in the United States of America, and Software activities in Bangalore India. 36 Wheeler and Mody (1992), Head, Ries, and Swenson (1995), Kinoshita and Mody (2001), Kinoshita Y and Campos N (2003) 37 The countries are Bulgaria, Czech Republic, Estonia, Hungary, Latvia, Lithuania, Poland, Romania, Slovenia, and Ukraine. 38 The added countries are Armenia, Azerbaijan, Belarus, Georgia, Kazakhstan, Kyrgyzstan, Moldova, Russia, Tajikistan, Turkmenistan, Uzbekistan, Croatia, Albania, FYR Macedonia, and Slovak Republic.
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Chapter Four: Previous Empirical Findings
There is no recorded academic discussion on the implication of legal environment uncertainty and macroeconomic instability on foreign direct investment in Malawi. Inference can be made, however, from similar studies that were conducted on other countries.
This section looks at previous work that has been conducted on the relationship between macroeconomic stability, legal certainty and FDI. The hypothesis we will be proving is derived from the theories and determinants presented above, and also the empirical findings presented here below.
It must be pointed out that there are conflicting findings on both theory and empirical studies. We will attempt to explain the sources of the differences in the findings and propose where possible the line of alignment.
I. Macroeconomic environment instability
Macroeconomic stability is an important factor in the country’s attracting and retaining investors, and attainment of sustainable economic growth and development. Macroeconomic stability is a product of responsible fiscal policies combined with sound monetary policy.
To study macroeconomic instability, one would be interested in a number of variables among them interest rates, inflation and exchange rates. But to study the behaviour of FDI, it is suggested to use international prices which in this case is Real Effective Exchange Rate 39 (REER), than would domestic interest rates or inflation alone. Exchange Rate movement has therefore been interpreted as suggesting the state of the macroeconomic environment. 40
39 The Real Effective Exchange Rate is a weighted average of bilateral real exchange rates (RERs) between a country and each of its trading partners, weighted by the respective trade shares of each partner, and adjusted for effects of inflation. The RER between two currencies is the product of the nominal exchange rate and the ratio of prices between the two countries. 40 Zanello A. and Dominique D. (1997), IMF Working Paper, WP/97/71
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Specifically, due to the enormous negative effect that currency misalignment (overvaluing or undervaluing) may have on country and global business competitiveness, growth and development, global institutions such as the International Monetary Fund (IMF) monitor movements of the Real Effective Exchange Rate (REER). The IMF defines the Real Effective Exchange Rate as “the weighted geometric average of the price of the domestic country relative to the prices of its trade partners” 41 and is indicator for the state of the economy. 42 There is consensus that exchange rate movement, particularly Real Effective Exchange Rate (REER) is a good indicator of macroeconomic stability.43 Consequently, most studies on the effect of macroeconomic stability as determinant of FDI centre on real effective exchange rate volatility.
There exists conflict of proof for and against the theory that macroeconomic instability deters FDI. While some scholars such as Goldberg and Kolstad (1995), Cushman (1985 and 1988), Rivoli and Salorio (1996), Campa (1993) and Aizenman (1993) have confirmed the theory, others have rejected the theory among them Mundell (1957), Goldberg and Kolstad (1995), Cushman (1985, 1998), Negishi (1985) and Sung and Lapan (2000).
The conflict also exists on the evidence that is presented to prove the point. Scholars such as Amuedo, et al (2001), Chakrabarti and Scholnick (2001) and Galgau and Sekkat (2004) claim they empirically proved that exchange rate volatility does deter FDI; while Cushman (1985 and 1989), Goldberg and Kolstad (1995), Zhang (2003) and Galgau and Sekkat (2004) state that their empirical analysis did not support the theory. We will now go into details of these contradicting findings:
41 See Zanello A. and Dominique D. (1997), A Primer on the IMF's Information Notice System, IMF Working Paper, WP/97/71. 42 ibid 43 ibid
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1. Studies that support theory that macroeconomic instability deters FDI
Goldberg and Kolstad (1995) analysed the implication of short-term exchange rate variability with regard to FDI flows assuming that the investors are risk averse. This assumption was shared with Cushman (1985 and also 1988). They assumed that location decision of the firm has already been made and that the choice before the firm is how much they should produce (i.e. there are already production plans in both home and foreign countries). They found out that exchange rate volatility decreases the overall production. Thus they supported the theory as working for risk-averse investors. However the effect of this on the absolute level of FDI is unclear.
Rivoli and Salorio (1996) and Campa (1993) looked at the impact of macroeconomic uncertainty on FDI decision-making using the real options approach. The authors state that in the context of exogenous uncertainty, which affects exchange rate, firm specific advantages as enumerated on the OLI framework have implications on investment. In their model, they demonstrate that realising stronger ownership advantages can delay investment decision, while stronger internalisation makes FDI less reversible. Thus while Ownership and Internalisation create rationale for FDI, Rivoli and Salorio (1996) argue that in times of uncertainty the best option is to "wait and see,"
Aizenman (1993) investigated the factors that determine the impact of exchange rate regimes on FDI and the correlation between exchange rate volatility and investment. He found out that exchange rate volatility prevents the use of FDI as hedging device. In his model he assumed a firm can relocate its production and employment easily towards the more efficient or cheaper plant in the other country. He showed that a fixed exchange rate regime is more conducive to FDI relative to a flexible exchange rate. As for the flexible exchange rate, Aizenman (1993) showed that the correlation between investment and exchange rate volatility depends on the nature of the
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shocks, i.e. where the dominant shocks are nominal, there is a negative correlation and where the dominant shocks are real, a positive correlation is observed. 44
Amuedo-Dorantes and Pozo (2001) did empirical analysis to find out whether the macroeconomic uncertainty experienced by investors in the pre-war period was different from the experience in the post-war period. To do this, the authors ran macroeconomic variables over the two historical time periods. They confirmed the hypothesis that the nature of the macroeconomic uncertainty differs in the pre-war and post-war periods but both affect investments.45
Chakrabarti and Scholnick (2002) used panel data techniques to test the theory of conditional skewness in asset pricing for FDI. The authors found that exchange rates skewness negatively affects FDI flows. 46
Drawing analogy of high levels of corruption to macroeconomic instability, Campos at al (1999) write that corruption is the single most annoying form of macroeconomic deterrent to FDI. They state that not only are investors concerned with the level of corruption, but also the predictability of corruption. Tondel (2001) agrees with Campos at al (1999) and sums up the preceding worry by stating “if the bribe payer gets what he pays for, corruption will not be as damaging to FDI as if the outcome of paying a bribe is uncertain” 47
The preceding paragraphs support the theory that macroeconomic instability negatively affects FDI. Next, we will look at studies that have contrary views.
44 Aizenman (1992) in International Monetary Fund Staff Papers, Vol. 39, No. 4, pp. 890-922 45 Amuedo-Dorantes and Pozo (2001), in: Journal of Macroeconomics vol. 23(4) pp. 615-631 46 Chakrabarti R. and Scholnick B., Exchange Rate Expectations and FDI Flows, in Center for International Business Education and Research 2000 - 2001 Working Paper Series 47 Tondel L (2001) p. 10
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2. Studies that reject theory that macroeconomic instability deters FDI
A number of scholars have rejected the theory that macroeconomic instability negatively affects FDI, largely arguing that FDI is in fact a substitute for trade and as such macroeconomic instability actually promotes FDI. Mundell (1957), for example, used the basic international trade theory to repel the notion that exchange rate volatility deters FDI. He states that because of barriers to trade and migration, as well as variations in factor endowments between countries, the incentives for FDI are greater in times of exchange rate volatility. Consequently international trade and international factor movements are substitutes and not complements. Others holding the same view are Goldberg and Kolstad (1995), and Cushman (1985 and 1998).
Some scholars, among them Negishi (1985) and Sung and Lapan (2000), have rejected the theory on the basis that exchange rate volatility actually encourages the use of FDI as hedging device. Sung and Lapan (2000) analysed the impact that exchange rate volatility has on foreign direct investment of a risk-neutral firm. They showed that where there is sufficient exchange rate volatility, the firm can increase profits by opening new plants in foreign countries. They also show that this will prevent entry into competition by local competitors. Their study had key assumptions of a risk neutral investor, and that a firm can open new plants in the two countries, each time with decreasing average costs. 48
Goldberg and Kolstad (1995) did empirical analysis of quarterly U.S. FDI flows with Canada, United Kingdom and Japan to see whether there is any correlation between increase in exchange rate volatility and the share of production capacity. Their study confirmed the hypothesis and concluded that with risk averse investors, they will locate some of their productive capacity
48 Sung and Lapan (2000) p. 423
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abroad when exchange rate volatility increases, rejecting the notion that macroeconomic volatility deters FDI.
3. Studies that mend the missing link
As it has been shown above, there exist contradictions on the evidential effect that macroeconomic instability has on FDI. It therefore calls for answers as to why this difference in views.
Aizenman (1992) and Goldberg and Kolstad (1995) point out that actually, the exchange rate movements may be influenced by the same underlying variables as sales abroad. Russ (2008) complements this observation by arguing that the missing link that can explain the conflicting findings is the presence of the underlying macroeconomic forces that influence both the exchange rate and the value of sales by overseas branches. To prove this point, Russ (2008) assumes there are two countries, heterogeneous, with complete bond market, sticky prices, local sunk costs and risk-averse consumers.
Thus, the difference in positions on the relationship between exchange rate volatility and FDI emanates from the source of the volatility.
II. Legal environment uncertainty
A few studies have been conducted on the impact that legal uncertainty has on FDI. Among them Seidman A., Seidman R., and Walde T. (1999), Tshuma L. (1999), Shihata I. (2000), Salacuse J. (2000), Cukrowski and Kavelashvili (2001), and Mogilevsky and Khasanov (2001) and Baniak A. et al (2002) who researched mostly in Central and Eastern Europe after the collapse of the USSR.
Most of the authors state that legal certainty is a key determinant of foreign direct investment as it forms base of a market economy and “creates
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foundations for the development of strategic policies of domestic enterprises and potential investors.” 49 Baniak et al (2002), for example, modelled the impact of stability of the legal environment on the pattern of FDI and showed that high volatility of business regulations makes the inflow of FDI smaller and that legal instability leads to adverse selection of the investors.
A number of other authors including Hewko J. (2002), however, believe that although legal stability is desirable to attract foreign investment, it is not the most important determinant. 50 In the following paragraphs, we will look summarily at what various authors have written about the impact of legal environment certainty.
Shihata I. (2000) and Salacuse J. (2000) discuss the role of transaction costs in discouraging foreign investment in developing countries. They enumerate that because the legal environments in poor and developing countries are underdeveloped and subject to frequent changes, they make strategic investment planning and decision making costly. 51 World Development Report (2002) gives comparative weight of the legal and institutional transparency to attracting and retaining foreign investors.
Hewko J (2002) analysed the relationship between FDI and the rule of law. He said developing countries must establish a well functioning legislation in order to attract FDI. He attributes the low FDI flows into Eastern Europe and former Soviet Union countries to an incomplete legal reform process. Hewko further looked at how FDI could stimulate change in the rule of law.
Seidman A., Seidman R., and Walde T. (1999) proposed a model for building sound national legal and institutional frameworks that would attract and retain investors, both local and foreign, with institutional and good governance as
49 Baniak A. et al (2002), p. 10 50 See Hewko J (2002) P.7 51 See Shihata I.F.I., Legal Framework for Development: Role of the World Bank in Legal Technical Assistance, in International Business Lawyer , September 1995, pp. 360–68. Also Salacuse J., Direct Foreign Investment and the Law in Developing Countries, in ICSID Review , vol. 15, no. 2 (Fall 2000), pp. 382–400
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yardsticks. 52 Tshuma L. (1999) documented the institutional theory applicable in developing countries and international institutions. 53
A number of studies on legal stability have been conducted in Central and Eastern Europe. Cukrowski and Kavelashvili (2001), for example, gave a detailed analysis of legislative changes in Georgia. They found that because Georgia, just like many former Soviet Union countries, did not manage to reorganise their legal system following the collapse of the USSR they lost many potential investors to countries that reformed their legal system. Mogilevsky and Khasanov (2001) took the analysis further by estimating the legislative stability in the Kyrgyz Republic, taking into account the number of amendments that were made to the laws and the number of laws that became invalid within a period of ten years following the collapse of the USSR. Mogilevsky and Khasanov (2001) found that the most changed or amended laws were those affecting foreign investment, henceforth the investment climate unstable and unattractive to foreign investors. 54
The above mentioned experience of Central and Eastern Europe is not different from many other parts of the world. In “Foreign Direct Investment: Does the Rule of Law Matter,” Hewko J. (2002) enumerates that during the 90s, developing and post-communist countries embraced construction of programmes aimed at facilitating legal reform as key to the achievement of economic growth and consolidation of democracy. He further states that this legal and judicial reform emerged as “a crucial new priority of the international aid community….including bilateral aid agencies, multilateral development banks, and nongovernmental aid organizations” 55 Hewko (2002) argues that foreign investors have influence on the legal reform because they are not
52 See Ann Seidman, Robert B. Seidman, and Thomas Walde, “Building Sound National Frameworks for Development and Social Change,” in Seidman et al., eds., Making Development Work: Legislative Reform for Institutional Transformation and Good Governance, Boston: Kluwer Law International, 1999 53 See Tshuma L., The Political Economy of the World Bank’s Legal Framework for Economic Development, in Social and Legal Studies , vol. 8, no. 2 (1999), pp. 75–96 54 See Mogilevsky R. and Khasanov (2001) GDN Explaining Growth, in Global Research Project: Kyrgyz Republic 55 Hewko J. (2002) p. 1
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“passive spectators of the reform process, hesitant to enter the fray until a modification or overhaul of the legal system has occurred.” 56
Hewko’s view is corroborated by the World Bank (1999) which concluded that “the massive move by developing and transition countries toward market economies necessitated the adoption of strategies for the encouragement of private investment, domestic and foreign.”57 The World Bank further states that “naturally, there was a general realization that such an objective could not be achieved without modifying and, sometimes, completely overhauling the legal and institutional framework and firmly establishing the rule of law, thereby creating the necessary climate of stability and predictability.”58
Although legal stability is one of the determinants of FDI, many authors agree that establishing such desired stability is complicated for most developing countries. Hewko J. (2002) gives five reasons for this assertion: (1) that legislative and institutional reform is an organic process not conducive to easy or quick solutions; (2) that levels of appreciation of adjustment of legislative framework differs with large multinational investors from small entrepreneurial investors; (3) foreign investors are not passive spectators but active influencers in the legislative reform process; (4) international community championing for general legal reforms creates false expectation since once the reforms have been made at country level, they prove to be inapplicable and call for further changes to detail realities on the ground; and (5) the process of obtaining consensus on what foreign investors want is burdensome and foreign investors use their own resources to identify their own specific risks and problems relating to their investments. 59
In terms of the weight of legal stability as a determinant of FDI, it has been established that it is not the key determinant. Ramasatry, Slavova and Berntein (1999) surveyed market perceptions of corporate governance executives and found that perceptions of legal stability come second to
56 Hewko J. (2002) p. 3 57 World Bank (1999), Initiatives in Legal and Judicial Reform, Washington, D.C.: International Bank for Reconstruction and Development, p. 1 58 Ibid p.2 59 For more information, see Hewko J. (2002) p. 4-5
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business opportunities that exist in the host country. 60 Ramasastry et al (1999) confirmed the superiority of business opportunities over legal certainty when they studied investment flows in Moldova after changing laws to fit into the European Union standards. Agarwal (1996) found that despite inadequate legal systems in Central and Eastern Europe after communism, FDI came in. 61 Perry (2000a) qualifies Agarwal’s finding by stating that investor size plays a role in how the investor will function in a foreign legal environment. He says small investors are likely to use informal ties and thus not get concerned with the existence of a modern, efficient legal system. In another angle, Lankes and Venables (1996) argue that increased FDI into countries that have progressed in legal reform assists export-oriented industries.
Nevertheless, legal certainty gives confidence to investors that they will be able to plan and execute decisions within levels of prediction of the conduct of the state. The importance of legal certainty was well articulated by Franz Bohm (1989) who said legal certainty is manifestation that in the particular economy “the one who has power has no right to be free and the one who wants to be free should have no power.” 62
In view of the above, this paper establishes that legal stability is important to FDI, but that the degree of its importance depends on the existence of real business opportunities in a particular host country, the overall first perception that foreign investors have of a host country, and the stage in the investment decision i.e. if an investor is already established in the host country, he will be interested more in legal situation than when the investor is yet to establish in the host country.
60 See Ramasatry et al (1999) p. 32 - 39 61 See Agarwal and Prasad (1996) pp. 150–63 62 See Bohm F. in Moschel W(1989) p. 146
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Chapter Five: Foreign Direct Investment Environment in Malawi
In order to properly locate the framework within which the hypothesis in this paper is premised, the paper appraises the foreign direct investment climate in Malawi. In this section, we introduce the political economy of Malawi, the developments in the macroeconomic and legal environments and the associated flows of foreign direct investment.
The importance of FDI cannot be overemphasised since a lot of literature shows that of all developing countries the fastest growing economies are those with most foreign direct investment inflows. 63 This assertion is further proven by Bergsman, Broadman and Drebentson (2000) who show that one percentage increase in FDI brings about, ceteris paribus, an extra 0.8 percentage point increase in per capita income.64
I. The Malawi Political Economy
Malawi is a landlocked country located in South East Africa and is surrounded by Tanzania to the north-east, Mozambique to the South and South-east and Zambia to the west.
Malawi has 13.1 million inhabitants 65 and in 2008 the country had GDP per capita of US $210, 66 maintaining the country’s classification as one of the poorest countries in the world. 67 85% of the population lives in the rural areas. 68 The National Statistics Office puts the poverty headcount for Malawi
63 See World Investment Report: 2002 64 See Bergsman, Broadman and Drebentsov (2000) 65 According to the 2008 Preliminary results of Population and Housing Census released by National Statistics Office on November 10 2008 and found at http://www.nso.malawi.net last visited on 2 May 2009 66 Over the past 5 years, Per Capita GDP has been hovering at an average of US$ 200 67 World Bank, Debt Relief at the Heavily Indebted Poor Countries (HIPC) Initiative Completion Point and Under the Multilateral Debt Relief Initiative (MDRI), page 1 68 Government of Malawi, Malawi Growth and Development Strategy, page 14
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at 40% 69 and the World Bank (2009) states that it will not be possible for Malawi to achieve more than half of the Millennium Development Goals (MDGs) by 2015 despite the country being on track with the goals on Gender Equality, Under-five Mortality, Combating HIV and AIDS and other diseases, and Developing Global Partnership for Development. 70
Malawi attained independence from Britain in 1964. For 31 years thereafter, the Malawi economy was centrally controlled by the government of late Dr. Hastings Kamuzu Banda. Kamuzu was Life President of the then only allowed political party called the Malawi Congress Party (MCP). In 1994 Mr. Bakili Muluzi became State President after winning the first multiparty democratic elections under the ticket of the United Democratic Front (UDF). Muluzi’s rule brought both political and market reforms, but is often referred to as a ‘lost decade’ 71 due to the underdevelopment of the economy from 1994 to 2004. After 10 years in power, Muluzi was succeeded by Dr. Bingu Wa Mutharika of the same UDF party, who later dumped the party that ushered him into power and formed his own party - the Democratic Progressive Party (DPP). Mutharika won his second term presidency in the May 2009 general elections and his party commands more than two-thirds majority in parliament. 72
Malawi is member to a number of international and regional communities and agreements. Among them the African Union (AU), the Africa Caribbean and Pacific (ACP) group, the African Development Bank (AfDB), the Commonwealth, Food and Agriculture Organisation (FAO), Group of 77 (G- 77), International Monetary Fund (IMF), the World Bank, World Trade Organisation (WTO), the United Nations (UN), International labour Organisation (ILO), and many others. 73
69 National Statistics Office, 2008 Welfare Monitoring Survey, page 4 70 World Bank, Malawi Country Brief on http://go.worldbank.org/PH14P64710 last visited on 6 May 2009 71 See Muula A and Chanika E (2005) 72 For more information, see www.mec.org.mw/Elections/2009ResultsReports/tabid/98/Default.aspx last visited 25 May 2009 73 Other groups to which Malawi is member are IAEA, IBRD, ICAO, ICCt, ICRM, IDA, IFAD, IFC, IFRCS, IMO, Interpol, IOC, ISO (correspondent), ITU, ITUC, MIGA, MONUC, NAM, ONUB, OPCW, UNCTAD, UNESCO, UNIDO, UNMIL, UNMIS, UNWTO, UPU, WCL, WCO, WFTU, WHO, WIPO, WMO
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Specific to Africa, Malawi is member of the Common Market for Eastern and Southern Africa (COMESA) 74 and the Southern Africa Development Community (SADC). 75 It must be noted that there is some membership and programme overlap between COMESA and SADC. 76 SADC was formed in 1980 and has a vision of a “common future, within a regional community that will ensure economic well-being, improvement of the standards of living and quality of life, freedom and social justice, peace and security for the peoples of Southern Africa.” 77 Under SADC, Malawi is undertaking a number of investment ventures together with this regional economic block. SADC has a Finance and Development Protocol, a key tool for integration of the region aimed at attracting and retaining foreign investors. The regional grouping is also implementing joint investment promotion programmes with the European Union. 78
COMESA region covers 12 million square kilometres. Malawi is member of this grouping which has 19 member states with total population of over 389 million and an annual import bill of around US$32 billion with an export bill of US$82 billion. 79 COMESA members launched a Regional Investment Agency (RIA) in 2006, and adopted an investment agreement for COMESA Common Investment Area, which envisions a free investment area by 2010. In 2009 COMESA launched a Customs Union. Malawi is also part of the implementers of the African Development Bank – Export-Import Bank of China Memorandum of Agreement aimed at providing co-financing or guaranteeing for public sector and possible private sector investment projects in COMESA region. 80
74 Other members of COMESA are Burundi, Comoros, D.R. Congo, Djibouti, Egypt, Eritrea, Ethiopia, Kenya, Libya, Madagascar, Mauritius, Rwanda, Seychelles, Sudan, Swaziland, Uganda, Zambia and Zimbabwe 75 Other SADC member countries are Angola, Botswana, the Democratic Republic of Congo (DRC), Lesotho, Madagascar, Mauritius, Mozambique, Namibia, Seychelles, South Africa, Swaziland, Tanzania, Zambia and Zimbabwe 76 Eleven COMESA members are also members of SADC, while seven of SADC members are not in COMESA 77 For more information, see www.sadc.int last visited on 20 June 2009 78 See www.sadc.int (last visited on 21 June 2009) and UNCTAD, World Investment Report 2008. 79 From www.comesa.int last visited on 20 June 2009 80 For more information, see www.comesa.int last visited on 20 June 2009
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After Malawi attained independence in 1964 from Great Britain, the government prioritised improvement of infrastructure, education system and agriculture. 81 Over one hundred and fifty state owned companies were set up, covering almost every sector of the economy. 82 Malawi’s economy was closed from international competition and government controlled most macroeconomic fundamentals such as exchange rates, and interest rates.
From the late 60s to early 80s, Malawi experienced boom. Analysts have described that boom as “not … free and neutral” because the environment entailed extensive state participation and government regulation of market indicators.” 83 Mhone (1992) writes that the “Malawi government … deliberately manipulated market indicators by making them ‘wrong’ so as to maximise accumulation and growth while ensuring that state enterprises led the market with regard to investment trends.” 84
Government’s major industrial and commercial policy was for promotion of easy, labour intensive “import substitution into mass consumer goods and processing of primary products..…and the promotion of local indigenous Malawians into domestic trade.” 85 Whiteside (1989) said of Malawi’s industrial strategy that “Malawi probably has the least coherent policy towards industrialisation of all Southern African countries. Its investment incentives offer less than any other country and it has attracted very little foreign investment …. The industrialisation took place with internally generated capital.” 86
Unlike the neighbouring Tanzania, Malawi did not attempt a socialist society. However in 1978 government instituted an Economic Africanisation Policy which targeted Malawians of Asian origin and limited their business and residence to urban areas. This affected many of the nation's businesses. From the late 1970s, following the break out of civil war in Mozambique,
81 See Mhone G, Malawi t the Crossroads: The Post-Colonial Political Economy, (1992), 82 For more information, visit www. Privatisationmalawi.org last visited on 3 April 2009 83 Mhone G, p. 20-25 84 Ibid p.22 85 Ibid p.20 86 Whiteside A. Industrialisation and Investment Incentives in Southern Africa, 1989
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Malawi access to the sea was hugely hampered. In addition Malawi became home to over a million refugees from the neighbouring Mozambique. 87 This made Malawi a less attractive destination for FDI.
In 1994, Malawi became a multiparty democracy, and with it came official liberalisation. 88 The multiparty government committed itself to market economy to the extent of incorporating it in the Constitution. 89 Immediately afterwards, the government developed in 1995 a Policy Framework Paper (1995 – 1998) that defined policies aimed at promoting economic stabilisation, broad-based economic growth, and higher rate of social development.
Government trade policies favoured export-oriented manufacturing. Beginning February 1994 Malawi floated the Malawi Kwacha, embarked on Export Processing Zones incentives in 1995; signed a bilateral trade agreement with Zimbabwe in 1995 and reduced the base surtax from 30% to 20% in 1996. National Privatisation Programme was started in 1996 targeting over 80 companies. The Malawi Kwacha was devalued in 1999, a year before Malawi joined the COMESA Free Trade Area in 2000 where tariffs on intra-trade were reduced by 60 to 90 percent, allowed imports of finished goods from member countries duty free, while imports of raw materials and intermediate goods from other countries attracted duty.
II. The Macroeconomic Environment
Malawi’s economy is agricultural-based with the agriculture sector providing 80% of the export earnings and employing 80% of the work force. 90 The
87 See Malawi’s history at www.zum.de/whkmla/region/southafrica/malawiind.html last visited on 19 June 2009 88 Much as liberalisation was not acknowledged in Malawi government, several changes were already happening such as devaluation of the Malawi Kwacha in early 80s. 89 Section 13(n) of the Republic of Malawi (Constitution) Act, 1994 (No. 20 of 1994) 90 Government of Malawi, Malawi Growth and Development Strategy (2005) page 14
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sector contributes 39% of the GDP. 91 According to the Doing Business Report (2004) 91% of Malawi’s agricultural exports are raw commodities. This heavy dependence on raw agricultural commodities for exports has made the country vulnerable to fluctuations in world commodity prices, over which the country has no control; and has for a long time tied aggregate real GDP growth to fluctuations in the climatic conditions. This is evidenced by the drop of Real GDP (at factor cost) in years when the country experienced drought such as in 1998, 2000, and 2001.
Although agriculture sector has been making significant contributions to Malawi’s GDP since independence, services remains the highest contributor to the country’s GDP at 44.3% in 2006. See Table 1 below for more information.
Table 1: Sectoral Percentage contribution to GDP %age Contribution to
GDP 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 Agriculture 24.8 30.4 34.7 32.6 35.6 37.8 39.5 38.8 39 35.7 34.9 31.3 32.4 Mining and Quarying 0.5 0.4 1.8 1.3 1.3 1.3 1.4 1.6 1 1.1 1.2 1.8 1.3 Manufacturing 17.1 15.8 14.3 13.5 13.6 13.4 12.9 11.5 11.3 10.3 10.1 10.6 10.4 Electricity and Water 1.6 1.4 1.3 1.3 1.4 1.3 1.4 1.4 1.4 1.8 1.9 2.1 2 Construction 2.2 2 2 2 2 2.2 2.2 2.2 2.4 4.4 4.3 4.8 5 Ownership of Dwellings 1.7 1.6 1.4 1.4 1.4 1.4 1.4 1.5 1.5 4.7 4.5 4.7 4.6 Services 52.2 48.4 44.5 47.9 44.7 42.5 41.1 43 43.4 42.1 43 44.8 44.3 Distribution 27.1 24.3 22 24.1 22.3 21.1 20.9 22 21.9 15.9 16.9 18.6 18.6 Transport and Communication 5 5.1 4.3 4.4 4.3 4.4 4.2 4.3 5 6.2 6 6.5 6.4 Financial and Professional Services 6.7 6.5 7.1 9 8.2 7.9 8 8.1 8.5 8.4 8.5 8.9 9.7 Private Social and Community Services 2.3 2 2 2.1 2.1 2 2.1 2.2 2.2 9.6 10.2 10.4 9.9 Producers of Government Services 14.1 13.3 11.8 11.2 10.6 10 9 9.4 9.2 6.9 6.9 6.8 6.5 Unallocable Finance Charges -3 -2.9 -2.7 -2.9 -2.7 -2.9 -2.9 -3.1 -3.4 -4.9 -5.6 -6.4 -6.9
GDP at Factor Cost 100 100 100 100 100 100 100 100 100 100 100 100 100 Source: Various Government of Malawi: Annual Economic Reports 1997, 2000, 2003, and 2006
91 Malawi Investment Promotion Agency on http://www.malawi-invest.net/inves_opp_agri.html last visited on 7 May 2009
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From 1994 to 1997, Malawi enjoyed stable economic growth following the government’s adherence to prudent policies and adherence to the structural adjustment targets, and the subsequent increased balance of payments support, moderately good rains and no major commodity price shocks. 92
By late 1997 however, government of Malawi relaxed its expenditure controls and missed the commitments it had under the Enhanced Structural Adjustment Facility (ESAF) of the International Monetary Fund (IMF) resulting in the suspension of the programme. 93 In year 2000, the country got into a support programme with the IMF under the Poverty Reduction and Growth Facility (PRGF) aimed at restoring macroeconomic stability. This programme however also went off track in end 2001 due to fiscal slippages and this led to donors withholding budgetary support. The government resorted to domestic borrowing to finance its increasing budget deficit, a situation that made the country’s debt service to government revenue ratio reach record high of 29.3% in 2001 and amounted to two and half times the amount of total output in the period 1995-2002. 94
During the period 2000 – 2003, the manufacturing sector showed the fastest fall. The sector which grew by 5.5% in 1995 declined to growth rate of -3% in 2000 and further –14.2% in 2002. 95 The poor performance of the sector had been mainly due to an adverse macroeconomic environment, which had been characterized by instability of the exchange rate accompanied by high lending interest rates averaging 43%. (See figure 1 and 4 for Interest Rates and Real Effective Exchange Rate respectively.
In 2001 the government launched the participatory process of developing the Malawi Poverty Reduction Strategy Paper (MPRSP), a blueprint for national prioritisation aimed at meaningfully reducing poverty by empowering the poor. The MPRSP was launched in April 2002 and it was its successful
92 CIDA (1998), p. 3 93 IMF, Malawi: Staff Monitored Programme, IMF Country Report No. 04/295, September 2004 94 Government of Malawi, Economic Report (2002) 95 Government of Malawi, Economic Report (2002)
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implementation that saw Malawi qualify for debt cancellation under the Multilateral Debt Relief Initiative (MDRI). 96 Stakeholders, particularly from the private sector, in the development of the Malawi Economic Growth Strategy (MEGS) observed that the MPRSP was more for distribution than for generating growth and hence viewed as insufficient to achieve a sustained annual economic growth of at least 6 percent required to reduce poverty by half by the year 2015. 97 Consequently, government developed the Malawi Economic Growth Strategy (MEGS), a pro-private sector strategy to supplement the MPRSP. MEGS was aimed at stimulating private sector investment and trade. In 2005 the government combined the MPRSP and MEGS and produced a hybrid strategy called the Malawi Growth and Development Strategy (MGDS), which to-date is a key development guide for Malawi until 2010.
Since change of government in 2004, Malawi’s economy is ‘registering fast growth and development.’98 From 2005 to 2008 the country’s real GDP growth has averaged 6.53%, up from an average of 1.03% from year 2000 to 2003. 99 Inflation is fast being contained towards single digits down from the range of 83.1% in 1995, to 44.3% in 1999 further to 7.2% in 2008. See figure 1 below for details.
96 Multilateral Debt Relief Initiative provided to eligible Highly Indebted Poor Countries (HIPC) 100% relief on eligible debt from the IMF , World Bank and the African Development Bank. 97 See Malawi Economic Growth Strategy (2004), p. 10 98 For more information, see World Bank at http://go.worldbank.org/PH14P64710 and IMF Press Statement at http://www.imf.org/external/np/sec/pr/2009/pr09105.htm both last visited on 2 May 2009. 99 The real growth rates for Malawi were as follows: 2.2% in 2000; -4.1% in 2001; 2.1% in 2002; 3.9% in 2003; 4.9% in 2004; 5.7% in 2005; 6.4% in 2006; 6.8% in 2007 and 7.2% in 2008. Source: http://www.malawi-invest.net/stats_economy.html last visited on May 6 2009
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Figure 1: Real Growth Rates, Inflation Rates and Interest Rates for Malawi 90 80 70 60 50 40 30
Percentage 20 10 0 -10 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 Real Growth Rate Inflation Rate Year Interest Rate - Lending Rate
Source: National Statistics Office Year Book 2000, 2004, 2008; Malawi Economic Growth Strategy Vol. 2 (2006), and MIPA (2008)
Malawi’s 2008 inflation of 7.2% is the third best in Southern and Eastern Africa after Botswana and South Africa.100 Malawi is also registering fast growth, with real growth rate of 7.2% in 2008, up from -4.1% in 2001 (see figure 1). The International Monetary Fund estimates that in 2009 Malawi’s growth will be 9.7% 101 and The Economist forecasts Malawi to be the 2009 second fastest growing economy in the world after Qatar. 102
The International Monetary Fund (2006) described Malawi as “just recovering from a fiscal crisis” in year 2006.103 Fiscal deficits as percentage of total government expenditure had lowered down from 27% in 2003/2004 to 14% in 2005/2006. This was supported by cancellation of 90% of Malawi’s external debt amounting to US$2.97 billion under the MDRI from the IMF, World Bank and Africa Development Bank after the country reached the Heavily Indebted Poor Countries (HIPC) Completion Point in September 2006. The IMF and
100 See Standard Bank Group Economics (2008) report which puts Angola’s inflation rate at 12.3%, Botswana at 7.03, Democratic Republic of Congo at 16.9%, Kenya at 26.5%, Lesotho at 8.0%,Mauritius at 9.7%, Mozambique at 8.2%, South Africa at 7.1%, Uganda at 11.9%, Zambia at 12.4% and Zimbabwe at 12,562.7% 101 IMF, Statement At The Conclusion of An IMF Staff Mission To Malawi, Press Release No. 09/105 102 http://www.economist.com/world/international/displaystory.cfm?story_id=13278585 last visited on 16 March 2009 103 See IMF Article IV report 2000-2004 and 2005-2009
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World Bank initiative was followed by a further debt cancellation by bilateral creditors in October 2006, thus reducing Malawi's total foreign debt to less than US$480 million. 104
The aforementioned developments in the Malawi economy were directly correlated to the behaviour of Real Effective Exchange Rates for the period 1994 to 2008. As discussed in section 1 of Chapter Four above, Real Effective Exchange Rates is an important international variable that helps explain the state of a country’s macroeconomic stability.
This paper is mindful of the caution that Zanello and Dominic (1997) gave that the use of REER can be tricky and hence we need to be cautious with the evaluation. This is so because different choices of index, choice of base year, the method of calculation and relative short-run and long-run movements in countries under consideration give varying results.
In this study, we use the computed annual Consumer Price Index (CPI) and Wholesale Price Index (WPI) for Malawi from 1994 to 2008 obtained from the International Financial Statistics published by the IMF, the Reserve Bank of Malawi (RBM) and National Statics Office (NSO). In the computed indices, the base year is 1994 (1994=100). The weights are based on trade in manufactures, primary commodities and tourism services over the years and take into account bilateral trade flows as well as third market competition, as stylised by the International Monetary Fund. This methodology is similar to the one used by the European Central Bank (ECB).
The real effective exchange rate for Malawi can be expressed as:
wij ∏ PiRi } REER = j ≠ i PjRj
104 Malawi Government Budget Document No. 4a, 2007
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Where, Pi is Malawi’s price index, Ri nominal exchange rate of the Malawi Kwacha in US dollars, Pj price index of country j, Rj nominal exchange rate of country j’s currency in US dollars, and Wij country j’s weight for Malawi.
Following are Real Exchange Rates for Malawi for period 1994 to 2008, with 1994 base year.
Figure 2: Real Effective Exchange Rates for Malawi (1994 - 2008) 160.00 140.00 120.00 100.00 80.00 60.00 40.00 20.00 0.00 Real Effective Exchange Rate
94 001 006 19 1995 1996 1997 1998 1999 2000 2 2002 2003 2004 2005 2 2007 2008 Year Real Effective Exchnage Rates for Malawi (1994 - 2008)"
Source: IMF International Financial Statistics, Reserve Bank of Malawi and National Statistics office
Figure 2 above shows that the Malawi Kwacha has been fluctuating over time, but with an average trend of real depreciation for the period 1994 - 2008. REER stability was experienced briefly in years between 1998 and 1999; and from 2003 to 2006. Malawi Kwacha depreciated in years 1994 – 1995; 1997 – 1998; 2002 – 2003; and from 2006 -2008. The Malawi Kwacha appreciated from 1996 – 1998; and from 2001 – 2002.
From the above discussion on the Malawi economy, studying macroeconomic instability in Malawi would have to combine developments in a number of variables among them interest rates, inflation and REER. But REER being an international price, inflows of FDI are related more to REER than would domestic interest rates or inflation rates alone.
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III. The Legal Environment
As it has been described in Chapter Four above, legal certainty gives confidence to investors that they will be able to plan and execute decisions within levels of prediction of the conduct of the state. The legislature makes the laws which the executive implements and the judiciary determines whether particular action is within the meaning of the law. In Malawi, the President is both Head of State and Government as such he has powers under section 90 of the Republican Constitution to issue any directive or decree that has the effect of law. In addition, a resolution passed in the national assembly becomes law only when the President assents. Cabinet Ministers also have powers under the relevant Act of Parliament to issue decrees in form of regulations and licence requirements that they see appropriate for the execution of relevant policies under their ministries. Section 11(2) of the Tobacco Act, for example, empowers the Minister to fix prices for the tobacco. Therefore in looking at the certainty of legal environment, this paper accommodates the determinations of the legislature, and decrees of the Cabinet and the State President.
An environment of legal certainty is available when stakeholders have the opportunity to know and operate their programmes with predictability of what the law says. The stable environment is also available where proposed bills that are known to the public turn into their fruition. Therefore, frequent changes to laws, frequent introduction of new laws, frequent decrees, and lengthy or frequent rejection of bills expected by the public smack of legal uncertainty.
In this section, the paper will look at what has transpired in the Malawi legal environment from 1994 to 2008. The discussions will be limited to laws that are related to business investment. This information will help us understand behaviours of FDI in Malawi in the prescribed period.
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1. Amendment of investment related laws in Malawi
The paper clusters the years under study into three sets: 1994-1998, 1999- 1993 and 2004-2008. The clustering is significant in that the starting years on 1994, 1999 and 2004 were Presidential and Parliamentary election years. Consequently, the ensuing years were fertile years for reviewing, repealing and / or introducing new laws and decrees.
Between 1994 and 2008, the Malawi Parliament made 467 amendments to the laws of Malawi. Of these, 318 concern investment, representing 68.9% of all amendments. 105 This shows that laws that directly affect investors were subject to most amendments. 13.21% of these amendments to investment- related laws were made between 1994 and 1998; 61.01% between 1999 and 2003; and 25.78% between 2004 and 2008. The following Table 2 gives list of investment-related laws that were amended between 1994 and 2008:
Table 2: Investment Related Laws amended between 1994 and 2008 Amend Amend Law ments Law ments Taxation 46 Labour Relations 2 Customs and Excise 38 Insurance 2 Corrupt Practices Act 25 Export Processing Zones 2 Constitution 17 Employment 2 Inland Waters Shipping 14 Electricity 2 Automotive Trades Registration Aviation 13 and Fair Practices 2 Land 13 Banking 2 Surtax (Later Value Added Tax) 12 Workers' Compensation 1 Companies 8 Trademarks 1 Treaties and Conventions Finance and Audit 8 Publication 1 Copyright 7 Stamp Duties 1 Immigration 7 Tea CESS 1 Pharmacy, Medicines and Poisons 7 Tourism and Hotels 1 Business Licensing 5 Public Enterprises (Privatisation) 1 Control of Goods 5 Public Procurement 1 National Roads Authority 5 Rural Electrification 1 Estate Duty 4 Money Laundering, etc 1
105 See various Malawi Government Gazettes from 1994 to 2008; and the Laws of Malawi Volumes I to X
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Land Survey 4 National Road Safety Council 1 Weights and Measures 4 Public Audit 1 Bretton Woods Agreement 3 Deeds Registration 1 Business Names Registration 3 Energy Regulation 1 Dangerous Drugs 3 Environment Management 1 Exchange Control 3 Export Promotion Council 1 Malawi Revenue Authority 3 Gaming 1 Occupational Safety, Health and Liquid Fuels and Gas (Production Welfare 3 and Supply) 1 Pesticides 3 Investment Promotion 1 Registered Designs 3 Mines and Minerals 1 Malawi Development Corporation 2 Adjudication of Title 1 Patents 2 Biosafety 1 Public Finance Management 2 Building Societies 1 Registered Land 2 Communication 1 Statutory Bodies 2 Competition and Fair Trading 1 WaterWorks 2 Cooperative Societies 1 TOTAL 318 Source: Malawi Government Gazettes from 1994 to 2008; Laws of Malawi Volumes I to X.
Of the laws in Table 2 above, it is clear that the most amended investment- related laws, in their order of frequency, were: Taxation; Customs and Excise; Corrupt Practices; Constitution; Inland Shipping; Aviation; Land; Value Added; Companies; Finance and Audit; Copyright; Immigration; Pharmacy, Medicines and Poisons; Business Licensing; Control of Goods; National Roads Authority; Estate Duty; and Land Survey. Graphically, Figure 3 below shows Taxation Act, Customs and Exercise Act, Corrupt Practices Act and the Constitution as the most amended:
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Figure 3: Most Amended Business-related Laws in Malawi: 1994 - 2008
70
60
50
40
30
20
10 Number of Amendments Numberof 0
g d on es on dit n on ti ight ices u i u oods ppi Land sons dde viati it G ct e Duty A oi A st ra hi P axat A d Exciseat S T Licensingompanion Copyr P st and d ue C an E Immigrationnd al ss C ce Land Survey an rupt oads Authoritys V or Inla R Control of nan ne C Fi ci Busine nal Customs edi Natio M acy,
Law harm P Source: Malawi Government Gazettes from 1994 to 2008; Laws of Malawi Volumes I to X, with author’s o wn calculation
These frequent and high number of amendments meant that the investors were uncertain about the requirements of the aforementioned laws. Between 1994 and 1998, 7 amendments were made to the Taxation law; 6 to the Customs and Excise law; and 5 amendments to the Constitution, representing 16.67%, 14.29% and 11.90% of amendments for the period respectively. Between year 1999 and 2003, the Customs and Excise law was the most amended law at 26, followed by the Taxation act with 16 amendments. From 2004 to 2008, Parliament made 24 amendments to the Corrupt Practices Act, 22 amendments to the Taxation law, 10 amendments to the Value Added Tax law.
Table 3 gives the top three laws that were amended most in their respective years.
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Table 3: Top-3 most amended laws in 1994-1998, 1999–2003 and 2004-2008. Period 1994 – 1998 1999 – 2003 2004 – 2008 Law Amendments Taxation 7 16 22 Customs and Excise 6 26 6 Constitution 5 5 7 Value-Added 0 2 10 Corrupt Practices 1 0 24 Source: Malawi Government Gazettes from 1994 to 2008; Laws of Malawi Volumes I to X.
The preparation of this paper preceded consultations that the author held with Malawi Confederation of Chambers of Commerce and Industry (MCCCI), the Economics Association of Malawi (ECAMA), the Indigenous Business Association of Malawi (IBAM) and the Malawi Investment Promotion Agency (MIPA) on FDI related laws in Malawi. The respondents were purposefully selected because they represent the views of the larger membership of their groupings while MIPA interacts with investors on day-to-day basis. All of the interviewees, i.e. MCCCI, ECAMA, IBAM and MIPA, said that there is urgent need to amend relevant laws which would facilitate carrying out of business easier. Following is a list of the laws that MCCI, ECAMA, IBAM and investors submitted to the Ministry of Justice as requiring urgent amendment: 106
(A) Industrial Development Laws : (1) Export Incentives Act, cap 39:04 of the Laws of Malawi, (2) Investment Promotion Act, cap 39:05 of the Laws of Malawi, (3) The Export Processing Zones Act, cap 39:06 of the Laws of Malawi, (4) The Public-Private partnership Development Bill, 2008
(B) Commercial and Trade Laws: (1) The Arbitration Act, cap 6:03 of the Laws of Malawi, (2) The Control of Goods Act, cap 18:08 of the Laws of Malawi, (3) The Taxation Act cap 41:01 of the Laws of Malawi,
106 As compiled by Anchor Mooring Partners and Nicholas Andrew Towle for the Government of Malawi Ministry of Justice, 2008, and confirmed by author through interviews
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(4) The Business Licensing Act, cap 46:01 of the Laws of Malawi, (5) The Business Names Registration Act, cap 46:02 of the Laws of Malawi, (6) The Companies Act, cap 46:03 of the Laws of Malawi, (7) The Competition and Fair Trading Act, cap 48:09 of the Laws of Malawi, (8) The Communications Act, cap 68:05 of the Laws of Malawi
(C) Employment-Related Laws: (1) The Immigration Act, cap 15:03 of the Laws of Malawi, (2) The Labour Relations Act, cap 54:01 of the Laws of Malawi, (3) The Employment Act, cap 55:01 of the Laws of Malawi, (4) The Retirement Funds Bill, 2008
(D) Land Ownership Laws: (1) The Land Act, cap 57:01 of the Laws of Malawi, (2) The Registered Land Act, cap 58:01 of the Laws of Malawi, (3) The Conveyancing Act, cap 58:03 of the Laws of Malawi, (4) Land Acquisition Act, cap 58:04 of the Laws of Malawi, (5) Customary Land (Development) Act, cap 59:01 of the Laws of Malawi.
(E) Agriculture Commodities Laws: (1) The Tobacco Act, cap 65:02 of the Laws of Malawi, (2) The Cotton Act, cap 65:04 of the Laws of Malawi.
(F) Financial Services-Related Laws: (1) Banking Act, cap 44:01 of the Laws of Malawi, (2) Banking Bill, 2007 (to replace the Banking Act), (3) The Reserve Bank Act, cap 44:02 of the Laws of Malawi, (4) The Capital Market Development Act, cap 46:06 of the Laws of Malawi, (5) The Securities Bill, (6) The Payments Systems Bill, (7) The Micro- Finance Bill, 2007, (8) Credit Reference Bureau Bill, 2008, (9) Insurance Bill, 2008, (10) Financial services Bill, 2008, (11) The Financial Cooperative Bill, 2008
(G) Security-Related Laws: (1) Corrupt Practices Act, cap 7:04 of the Laws of Malawi, (2) The Money Laundering, Proceeds of Serious crime and Terrorist Financing Act, 2008, (3) The National Registration Bill, 2008
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(H) Intellectual Property Laws: (1) The Trademarks Act, cap 49:01 of the Laws of Malawi, (2) The Patents Act, cap 49:02 of the Laws of Malawi, (3) The Copyright Act, cap 49:03 of the Laws of Malawi, (4) The Registered Designs Act, cap 49:05 of the Laws of Malawi
Asked to prioritise the above mentioned laws and bills in need of Parliament’s passing, MCCI, ECAMA, IBAM and investors through MIPA prioritised the laws as follows: 107
Table 4: Priority Laws by investors and stakeholders Priority Law High Business Licensing Act; Employment Act; Trademarks Act; Copyright Act; Patents Act; Registered Designs Act; Immigration Act; Business Names Registration Act; Taxation Act; Export Incentives Act; Export Processing Zones Act; Communications Act; Capital Market Development Act; Medium Competition and Fair Trading Act; Labour Relations Act; Customary Land Act; Land Acquisition Act; Banking Act: Reserve Bank Act; Payment Systems Act; Arbitration Act; Cotton Act; Tobacco Act; Low Corrupt Practices Act; Money Laundering Act; The Control of Goods Act Source: Government of Malawi BESTAP report, 2008
In addition, the stakeholders state that they cooperated with the development of the following bills which they agreed to be very important for investment in Malawi: Investment and Export Promotion Bill; Public-Private Partnership Development Bill; Financial Services Bill; Securities Bill; Microfinance Bill; Banking Bill; Financial Cooperatives Bill; Insurance Bill; Retirement Funds Bill; Credit Reference Bureau Bill; and National Registration Bill. 108 Business players waited therefore for opportunity for Parliament to discuss and pass the
107 For detailed report, see Government of Malawi Ministry of Justice, Business Environment Strengthening Technical Assistance Project, Report on Prioritisation of Economic Laws for Revision, 2008 108 See Government of Malawi BESTAP Report, 2008
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bills into laws. The bills, however, were either rejected by the opposition- dominated parliament or withdrawn by government before passing. This caused anxiety among investors.
Comparing the laws that Parliament amended and what investors expected Parliament to pass, it becomes apparent that there is a huge discrepancy. Only four out of the sixty-six laws that were amended fall within the priority interests of the business sector, namely Business Licensing Act, Copyright Act, Immigration Act and Taxation Act.
The views of the MCCCI, ECAMA and IBAM are that although 68% of the amendments made in parliament between 1994 and 2008 were related to investment laws, “so far the amendments made were not what were required to improve investment climate in Malawi…. In fact the amendments only made making business more difficult.”109
Another respondent summed up the private sector frustration when he said “most regulations being used now are outdated. Instead of reviewing pro- business laws, parliament is amending the not-so-important laws and rejecting new important bills.” 110 He was referring to the failure by parliament to pass the Financial Services Bill in the 2005-2008 period. The parliament sitting of 2008 was scheduled to debate and pass 13 business related bills namely The Public-Private Partnership Development Bill, The Retirement Funds Bill, The Securities Bill, The Payments Systems Bill, The Micro-Finance Bill, Credit Reference Bureau Bill, Insurance Bill, Financial services Bill, The Financial Cooperative Bill, The National Registration Bill, The Appropriation Bill, National Water Development Bill and Electricity Inter-Connection Bill. Only the Appropriation Bill was passed but after over four months of debates and threats in parliament amidst debates on whether section 65 of the constitution should be implemented before the budget is passed. 111 The World
109 Interview with Victor Alex, Executive Secretary of the Gala Tobacco Company on17 March 2009 110 Interview with Mr.Fanuel Kum’dana, Executive Director of the Banker’s Association of Malawi. On 29 March 2009. 111 Section 65 of the Malawi Constitution says any Member of Parliament who was elected on a ticket of a political party represented in parliament, and joins another political party represented in
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Bank has the following impression of Malawi Parliament: “The 2004-2009 parliamentary season ended up being one with the fewest meetings characterized by uphill battles for bills to be passed.” 112
When bills are known or expected by the public but are being frustrated by parliament, it contributes significantly to the legal uncertainty. Mr. Bamusi of the Human Rights Consultative Committee said “with the current parliament, we cannot tell which law they will wake up angry with and amend.” 113
The legal environment was uncertain, particularly from 1999 to 2008 albeit in different ways. Over 55% of amendments to investment-related laws were made in between 1999-2003. Not only were investment related laws frequently amended, but the amendments put more controls on investors. The period 2004 – 2008 had 90% of all the bills that were either rejected or withdrawn since 1994. The bills that the investors worked on with the Ministry of Justice to have them passed by parliament were shelved, while parliament discussed and passed bills that were not on the agenda.
2. Presidential and Ministerial Decrees
Apart from the laws that are passed in parliament, FDI decision making is affected by decrees made by the State President and/or Cabinet Ministers. Section 90 of the Constitution of the Republic of Malawi gives power to the State president to make any decrees that he deems to be in the interest of the nation. Additionally, under specific Acts of Parliament, Cabinet Ministers have power to make decrees that have effect of law. Under the provision of Section 3 of the Control of Goods Act, Chapter 10:08 of the Laws of Malawi, for example, the Minister of Industry, Trade and Private Sector has powers to make decrees that prohibit and restrict the importing and exporting of any parliament, loses his seat as member of parliament. At that material time, over 75 members had joined the newly formed Democratic People’s Party (DPP), which is the party that the State President Dr. Bingu Wa Mutharika formed after he dumped the party on which he became president of Malawi. 112 World Bank on http://go.worldbank.org/PH14P64710 last visited on 6 May 2009 113 Interview with Mr. Mavuto Bamusi, National Director for the Human Rights Consultative Committee on 4 April 2009.
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goods. Similar decrees are made by Minister of Agriculture, Minister of Health and others.
There are also other pieces of legislation that are used to effect licences for importation of certain goods. These include the Firearms and Ammunition Ordinance, which is administered by the Minister of Home Affairs and Internal Security through the Inspector General of Police; the Dangerous Drugs Ordinance, which is administered by the Minister of Health and Population, and the Merchandise Marks Act which prohibits importation of goods bearing forged marks or false trade descriptions, or marked with offending marks in terms of the Act. The Minister of Agriculture can also make decrees on minimum prices for particular goods, which must be complied with.
Since 1994, import decrees have been made on 15 products namely: clothing and uniforms for the police and army, radioactive materials, mist nets for capturing wild birds, wild animals and related products, fish, compound products containing flour and meal residues, poultry and related products, meat and meat products, dielrin, aldrin, kitchen and table salt, Portland ordinary cement, cane sugar, wheat flour, and fertilisers. In order to import the aforementioned goods, one required to apply to the responsible minister for import licence which was valid for six months and could be renewed once upon acceptable explanation.
There were also decrees made on 11 goods for export namely: Implements of war, atomic energy and materials used in production of arms and ammunition, petroleum products, wild animals and animal products, maize, unmanufactured tobacco, tea, scrap metal, cotton, soya beans and rice. Export licences are valid for three months and can be renewed to another three months at the discretion of the relevant Cabinet Minister. Figure 6 below gives decrees that were given every year from 1994 to 2008.
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Figure 6: Presidential and Ministerial Decrees in Malawi: 1994-2008 20 18 16 14 12 10 8 6 4
Number of decrees issued Number of decrees 2 0 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 Year Export decree Import decree
Source: Ministry of Trade and Private Sector Development, Ministry of Agriculture, Malawi Revenue Authority, Malawi Confederation of Chambers of Commerce and Industry
A total of 172 decrees have been recorded on imports and 134 on exports from year 1994 to 2008 representing 56.21% and 43.79% respectively. Years 2001 and 2008 recorded the highest number of decrees of 18 each made on imports while the highest exports decrees were issued in 2006. Year 2006 saw the highest combined import and export decrees at 32. The period 2004- 2008 saw the highest total decrees at 139, of which 76 were on imports. See Table 5 below for details:
Table 5: Aggregate Decrees on imports and exports: 1994 - 2008
1994-1998 1999-2003 2004-2008 1994-2008 Import Decrees 30 66 76 172 % of total import decrees 51.72% 60.55% 54.68% 56.21% Export decrees 28 43 63 134 % of total export decrees 48.28% 39.45% 45.32% 43.79% TOTAL NUMBER 58 109 139 306 Source: Ministry of Trade and Private Sector Development, Ministry of Agriculture, Malawi Revenue Authority, Malawi Confederation of Chambers of Commerce and Industry
The fact that Ministers have the power to decide to relax the decrees that they made on imports and exports on a case-by-case basis meant that business persons were not certain whether they would be allowed to transact in the concerned product. Since year 2000, decrees on imports increased by
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80.23% while decrees on exports increased by 76.87%, with 46.48% and 40.57% of the decrees on imports and exports respectively being issued between 1999 and 2004.
3. Legal Environment Uncertainty Index for Malawi
With the findings enumerated above on legal amendments by Parliament and Presidential and Ministerial decrees, we construct composite Figure 7 below for comparison.
Figure 7: Investment Related Law Amendments and Decrees in Malawi: 1994 - 2008 160
140
120
100
80
60
40 Numberof Amendments and Decrees
20
0 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 Years Bills Rejected by or withdrawn from Parliament Presidential and Ministerial Decrees Investment related law amendments All Law amendments Source: Government of Malawi Ministry of Justice and Constitutional Affairs, Ministry of Trade and Private Sector Development, Ministry of Agriculture, Malawi Revenue Authority, Malawi Confederation of Chambers of Commerce and Industry
Further, we can determine the level of certainty of the legal system in Malawi by applying the Legal Environment Uncertainty Index (LEUI).114
Legal Environment Uncertainty is determined by:
114 This index is an adaptation of the Legal Environment Stability Index first developed by Mogilevsky and Khasanov (2001) .The difference here being that in the LEUI there is inclusion of bills that were expected to be tabled by parliament but were either rejected or withdrawn prematurely.
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Na + Nd + Ne LECI = N Where Na is the number of amendments made to the laws in the succeeding years; Nd is the number of Presidential and Cabinet decrees made in the succeeding years; Ne is the number of bills expected to be passed in Parliament but were rejected or withdrawn and N is number of laws and decrees adopted in the period under study.
The index falls in the range of 0 to 1, with 1 being the most uncertain legal environment. Applying the index to years the 1994-1998; 1999-2003 and 2004-2008, we get the following results in Figure 8:
Figure 8: Legal Uncertainty Index 1994-1998, 1999-2003; 2004-2008
0.80 0.70 0.60 0.50 0.40 0.30 0.20 0.10
Legal Uncertainty Index Legal Uncertainty 0.00 1994-1998 1999-2003 2004-2008 Years
Source: Government of Malawi Ministry of Justice and Constitutional Affairs, Ministry of Trade and Private Sector Development, Ministry of Agriculture, Malawi Revenue Authority, Malawi Confederation of Chambers of Commerce and Industry
Accumulatively, Malawi experienced legal environment uncertainty in all the three clusters of years. The explanation to the uncertainty in the period 1994- 1998 is that since Malawi had just turned a multiparty democracy, the period was for repealing of the old one-party government led laws and formulation of new laws to fit the multiparty democracy. The period had the least number of presidential and ministerial decrees and also least number of expected bills rejected or withdrawn from parliament.
The period 1999-2003 saw the most amendments made to the laws by parliament. 73% of all amendments made between 1994 and 2008 were done
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in this period. This increase in amendments may be a sign that the laws that were developed in the first multiparty government were of low quality as they may have been developed by non-experienced legislators and that government realised after some years of implementation the need to amend the laws to become best fit with the developments of the New Republic. Baniak et. al (2002) said this is ‘typical of transitional economies.” 115 36% of all presidential and ministerial decrees were also made in this period. Only 2 bills out of total 20 were withdrawn from Parliament.
Malawi’s legal environment was most uncertain from 2004 – 2008 with uncertainty index of 0.73. This uncertainty came largely from parliament’s rejection or withdrawal of expected bills at 90% of the occurrence; followed by presidential and ministerial decrees contributing 45% of all decrees in the study period. Only 18% of all amendments to the laws were made in this period. In this period, the political party in government - the Democratic Progressive Party (DPP) had a minority in Parliament. Therefore government business was frustrated in the National Assembly by the opposition political parties, which controlled over 60% of the votes in the August House, leading to either rejection of government bills, or government just withdrawing the bills before parliament tabled them.
Figure 9 below gives a year-to-year contribution to the legal environment uncertainty in Malawi from 1994 to 2008. Years 2000 and 2003 made the biggest single contribution to legal environment uncertainty in Malawi at 19% and 15% respectively.
115 Baniak et al (2002), p. 8
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Figure 9: Year-to-Year Contribution to the Legal Environment Uncertainty
0.40 0.35 0.30 0.25 Uncertainty Index 0.20 0.15 0.10 0.05 0.00 1994 1996 1998 2000 2002 2004 2006 2008 Years
Uncertainty Index on All Laws and Decrees Uncertainty Index in Investment Laws and decrees
Source: Government of Malawi Ministry of Justice and Constitutional Affairs, Ministry of Trade and Private Sector Development, Ministry of Agriculture, Malawi Revenue Authority, Malawi Confederation of Chambers of Commerce and Industry
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IV. The Flow of Foreign Direct Investment in Malawi
Information on FDI in Malawi was first officially compiled in 1999 by the Government of Malawi team comprising officials from the National Statistical Office (NSO), Reserve Bank of Malawi (RBM), Malawi Export Promotion Agency, Ministry of Finance, Ministry of Economic Planning and Development and Ministry of Trade and Private Sector Development (formerly called Ministry of Commerce). As such, FDI database in Malawi has little information on pre-1999 period. 116 Nevertheless, the author managed to supplement relevant information from other non-governmental sources, including UNCTAD.
So far, four official surveys have been conducted on FDI in Malawi. The first covering the years 1999 to 2000; the second one covering years 2000 to 2001; the third covering 2001 to 2004; and the latest covered years 2005 to 2007. The first two surveys used a structured questionnaire to capture private capital stocks and RBM Exchange Control Forms (E-Forms) to capture capital flows. The use of the E-Forms proved however unsuccessful and subsequent surveys therefore covered both stocks and flows, and “hence there is now a coherent database spanning the period 2000 to 2003”117
The FDI data compilation in Malawi faces problems such as limited enterprise coverage due to lack of regular updates to the FDI register; computation of up-rating factors to blow the sample results to the population estimates; inadequate submission of financial statements; and difficult book value estimation - often companies report only share capital for book value, excluding reserves and retained earnings. 118
116 Interview with Mr. Machinjiri, the Commissioner General for the Malawi National Statistics Office on 27 February 2009 117 See Malawi report to UNCTAD Expert Meeting on Capacity Building in the Area of FDI: Data Compilation and Policy Formulation in Developing Countries, 12-14 December 2005, p. 3 118 For detailed discussion, see Machinjiri C, FDI Data Collection in Malawi, p. 3-5
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Compared to other countries in the SADC region, investment flows into Malawi can be said to be small. The Malawi Economic Growth Strategy (MEGS) (2004) states that Malawi’s past poor FDI performance was due to poor macroeconomic environment. 119 The government decision of 1971 to amend the Companies Act by instituting section 3 to facilitate local participation in foreign owned subsidiaries and foreign direct investment may explain the trend of investment in Malawi. 120 Although the then State President His Excellency Dr. Hastings Kamuzu Banda explained that “there can be no question of using it (the Companies Act) as a sort of ‘backdoor’ nationalism…(but that) Malawi cannot be allowed to be anyone’s commercial or industrial policy,” 121 investors continued to fear possibility of outright nationalisation. 122 Whiteside (1989) summed it well when he said “Malawi investment incentives offer less than any other country and it has attracted very little foreign investment …. The industrialisation took place with internally generated capital.” 123
Since Malawi embraced market economy in 1994, Government of Malawi has put in place investment policies that allow investors both local and foreign to invest in any sector of the economy without restrictions on ownership, size of investment, source of funds or whether the product is destined for foreign or domestic markets. Malawi has taken initiatives aimed at creating an investor friendly environment and attract more FDI, among them the repeal of the Forfeiture Act in 1992. Government also officially eliminated price controls, terminated import restrictions and the need for import licences, and embarked on privatisation of state-owned companies. Government also has special incentives for investors in the sectors prioritised by the government namely Manufacturing, Tourism, Mining, Agriculture and horticulture, Infrastructural development and Information technology. 124
119 MEGS Vol. II, 2004, p.1 120 The Companies Act, Section 3, was amended in 1971/72 to provide powers legalising local purchase of equity in foreign owned companies 121 See Malawi Hansard, 9-16 March 1971, p.839 122 Silumbu E., Foreign Trade Policies and performance in Malawi 1965 – 1990, in Mhone, 1992 123 Whiteside A. Industrialisation and Investment Incentives in Southern Africa, 1989 124 MIPA, Investors Guide to Malawi, 2007
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Furthermore, Malawi signed double taxation treaties with Denmark, the Netherlands, France, South Africa, the United Kingdom, Norway, Sweden and Switzerland. The country is a member of the International Convention for the Settlement of Investment Disputes (ICSID) and also member of the Multilateral Investment Guarantee Agency (MIGA).
Investing in Malawi is facilitated by the Malawi Investment Promotion Agency (MIPA), a body established by an Act of Parliament. MIPA facilitates tax incentives as enshrined in the main tax legislations that include the Customs and Excise Act, the Income Act and the Export Processing Zones (EPZ) Act, to encourage investment. The incentives apply equally to both domestic and foreign investors and are aimed at encouraging development that will enhance gross domestic product, be of net benefit to the nation’s foreign exchange reserves and expand employment opportunities. The main thrust of investment incentives comes through the tax system, directly and indirectly.
In relation to other countries in the SADC region, in the year 2000, Malawi stood at number 10 out of 14 (behind Mozambique and ahead of Zimbabwe) in terms of attractiveness to FDI. 125 Its trade tariffs were confirmed to be on the decline to -15.6%, -12.1% and -19.9% on all products, primary products and manufacturing products respectively in 2000 from 1995 rates. 126
Major FDI into Malawi largely comes from South Africa, China, France, India, United Kingdom, Taiwan, United States of America, Germany, Italy, Kenya, Lebanon, Libya, United Arab Emirates and Zimbabwe, in their order of importance. 127 Most of the FDI goes into the sectors of Agriculture, Manufacturing, Services, Tourism and Mining, in their order of importance. Since 2000, 30% of FDI comes in form of Merger and Acquisition, 49% Greenfield, while 21% is other. 128
125 See World Bank 2001a, World Economic Forum 2000 126 See Malawi Investment Promotion Agency, Trade and Investors, 2008 127 See Malawi Investment Promotion Agency, Trade and Investors, 2008 128 UNCTAD, FDI/TNC Database 2008
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Before the liberalisation of Malawi’s economy in 1994, the country’s annual FDI inflow averaged US$20.4 million.129 This proportion was about 15% of GDP and so too small to generate the growth of 6% per annum that the Government targeted. 130 The United Nations Industrial Development Organisation (UNIDO) calculated that an average growth rate of 6% would require an investment rate of 33% of GDP, including domestic savings and Overseas Development Assistance. 131 The following Table 6 gives FDI inflows and stock for Malawi from 1994 to 2008.
Table 6: MALAWI FDI Inflows (in US$ at current prices in Millions)
FDI Flow (US$ FDI Flow Per FDI Stock FDI Stock per Year Millions) Capita (US$) (US$ Millions) Capita (US$) 1994 24.99 2.51 224.76 22.60 1995 5.64 0.56 230.4 22.83 1996 15.8 1.53 246.2 23.86 1997 14.87 1.40 261.07 24.61 1998 12.1 1.11 273.17 24.97 1999 58.53 5.19 331.7 29.39 2000 39.6 3.41 357.7 30.77 2001 41.4 3.47 419.01 35.08 2002 16.73 1.36 390.49 35.08 2003 26.83 5.24 409.93 32.60 2004 107.71 8.35 562.34 44.72 2005 26.5 2.02 503.02 39.01 2006 185.3 2.21 535.62 43.81 2007 92.06 7.14 590.26 45.79 2008 143.25 10.94 764.51 58.36 Source: UNCTAD FDI Statistics; Malawi Investment Promotion Agency, National Statistics Office
As shown in Table 6 above, between 1994 and 1998, FDI inflow to Malawi amounted to US$ 73.41 million. From 1999 to 2003, FDI inflow increased to US$ 183.07 million and from 1994 to 2008, FDI inflow into Malawi stood at US$ 554.82 million.132 Of the FDI flows in 2004-2008, 73% went to the mining sector while 23% went into manufacturing 133
Overall, Malawi’s recorded FDI inflows have been fluctuating and increasing over time. See Figure 10 below.
129 Malawi Economic Growth Strategy 2005, p. 106 130 Ibid, p. 106 131 UNIDO, Foreign Investment Perceptions in Sub-Saharan Africa, 2002 132 See UNCTAD Statistics at http://stats.unctad.org/FDI/TableViewe.aspx?ReportId=1254 133 Investors’ Guide to Malawi, 2007, P. 15
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Figure 10: FDI Inflows to Malawi: 1994-2008 200 180 160 140 120 100
prices) 80 60 40
US$ US$ millions current (at 20 0 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 Year FDI Inflows to Malawi: 1994-2008
Source: UNCTAD FDI Statistics; Malawi Investment Promotion Agency, National Statistics Office
It is possible to relate the pattern of FDI inflows as given in Figure 10 above to the developments in the legal and macroeconomic environment. As it has been discussed in Chapter Five section II above, Malawi experienced macroeconomic instability in late 90s and early 2000 and stabilised from 1995. This paper also established in Chapter Five section III above that Malawi’s legal environment has been uncertain since 1994, but that the causes of the uncertainty have varied. It appears therefore that there is a relationship between FDI inflows, macroeconomic stability and legal environment. However the level of influence than each of the later two has on FDI has not been established yet. In the next chapter, we will use regression analysis in order to confirm or reject the hypothesis of the paper that macroeconomic instability negatively affects FDI inflow more than legal environment uncertainty does in Malawi.
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Chapter Six: Testing The Hypothesis
In this chapter, we test the hypothesis that macroeconomic instability negatively affects foreign direct investment inflows more than legal environment uncertainty does in Malawi. The hypothesis is significant in that in this time of globalization, many different countries offer similar conditions to attract the same FDI. As such policy makers need to prioritise the determinants that will effectively bring in FDI.
The pattern of FDI flows in Malawi observed in Chapter Five above shows that both macroeconomic instability and legal environment uncertainty affect FDI flows. There is a negative correlation between FDI inflow and macroeconomic instability, and also between FDI inflow and legal environment uncertainty. We will now test to see which of the two affects FDI more than the other.
I. Methodology
Here follows, we will run standard OLS multivariate regression 134 presented below to test whether in Malawi, macroeconomic instability affects FDI flows more than does legal environment uncertainty: Y = α + βE + γX + ε where Y is FDI inflow; α is a constant; β is the effect of Real Effective
Exchange Rate ; E is Real Effective Exchange Rate; γγγ is the effect of Legal Environment Uncertainty; X is the legal environment uncertainty index; and
εεε is the “noise” term reflecting other factors that influence FDI inflow.
In this study, we are primarily interested in the relative importance between macroeconomic instability and legal environment uncertainty. Running the regression 135 above gives the results in Table 7:
134 in EA/LimDep 8.0
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II. Results
Table 7: Results of Model A
Variable Coeff. Std.Err. t-ratio P-value REALEFFE -1.37445 0.515881 -2.66427** 0.0206279 LEGALUNC -19.8138 310.464 -0.06382 0.950164 Constant 182.469 56.7254 3.21671 0.00739944 R2 = 0. 0.393747 ** significant at 5% Where REALEFFE = Real Effective Exchange Rate, and LEGALUNC = Legal Environment Certainty Index.
The results show that 39% of the variation in FDI is explained by the regression equation above. Although the R square is less than 50%, the model nevertheless can be used to predict FDI flows in Malawi as it is above 30%. 136 With t-ratio at less than -2, the results show that we can predict that Real Effective Exchange Rate is a good predictor of FDI in Malawi. In addition, with P= 0.0206279, the model tells that macroeconomic instability has an observed significance level of 95%, confirming that it is a more significant determinant of FDI compared to the legal environment uncertainty.
The above model produces a high t-ratio but a lower R Square. In addition, it is the unexplained constant variable that has observed significance level at 95%. This suggests that other variables that have statistically significant effect on FDI are not in the model. As a test and control measure, we introduce other variables in the model namely Trade Balance, Interest Rates, Inflation Rates and Real Growth Rates for Malawi. Running a standard OLS multivariate regression as in Model A produces Model B results in Table 8 as follows:
135 Details of the variable are in Annex 1 136 Steven Silbiger in: The 10-Day MBA, 2005 Revised, Riakhus, London, states on page 189 that an R Square of 30% is considered very high since in practical economy there are many variables that could affect economies.
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Table 8: Results of Model B
Variable Coeff. Std.Err. t-ratio P-value Constant 97.3663 117.512 0.828564 0.431375 TRADEBAL -0.0669931 0.0637023 -1.05166 0.323682 REALEFFE -0.689669 0.907846 -0.759676 0.46924 INTEREST 0.360213 1.47951 0.243468 0.81377 INFLATIO -0.519577 0.956036 -0.54347 0.601618 REALGROW 0.741746 2.22313 0.333649 0.747221 LEGALUNC -94.2344 393.992 -0.239178 0.816981 R2 = 0.608121 Where TRADEBAL = Trade Balance; REALEFFE = Real Effective Exchange Rates; INTEREST = Interest rates; INFLATIO = Inflation Rates; REALGROW = Real Growth Rates; and LEGALUNC = Legal Environment Certainty Index.
In this model B, unlike in Model A above, 61% of the variation of FDI can be explained by this regression equation. However, none of the independent variables in Model B has statistically significant effect on FDI. 137 Nevertheless, Real Effective Exchange Rate has a bigger value (P = 0.46924) compared to Legal Environment Uncertainty ( P = 0.816981), suffice that neither of them is significant.
The above findings show that macroeconomic instability is a more important variable than legal environment uncertainty. The finding confirms the hypothesis of this study that macroeconomic instability negatively affects foreign direct investment inflows more than legal environment uncertainty does in Malawi
137 There is no independent variable with t-ratio larger than 2 and less than -2.
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Chapter Seven: Conclusion
This paper has confirmed the hypothesis that macroeconomic instability negatively affects foreign direct investment inflows more than legal environment uncertainty does in Malawi. This has been done after running standard OLS multivariate regression on data that the author collected on Malawi, after discussing the determinants of FDI, theories around the activities of FDI and reviewing previous empirical findings.
Although the empirical analysis that was ran for this paper was limited to testing the aforementioned hypothesis, the process has revealed that there is need for more research into the factors that affect FDI in Malawi and other developing countries. The analysis has shown that it is possible that Real Effective Exchange Rate in itself is not sufficient measure of macroeconomic instability, as has been traditionally associated. Adding more variables to REER and legal uncertainty to our model diluted the significance of REER. It would have been more instructive to test the effect of a combined variable comprising REER, interest rate and inflation, for example. But because that was not the scope of this study, we pack it as an area for more research.
Through this paper, it has been confirmed that macroeconomic instability negatively affects foreign direct investment inflows more than legal environment uncertainty does in Malawi.
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Annex
1. RESULTS OF REGRESSION ANALYSIS
+------+ | Ordinary least squares regression Weighting variable = none | | Dep. var. = FDIINFLO Mean= 54.08733333 , S.D.= 53.94103599 | | Model size: Observations = 15, Parameters = 3, Deg.Fr.= 12 | | Residuals: Sum of squares= 24695.64686 , Std.Dev.= 45.36486 | | Fit: R-squared= .393747, Adjusted R-squared = .29270 | | Model test: F[ 2, 12] = 3.90, Prob value = .04965 | | Diagnostic: Log-L = -76.8316, Restricted(b=0) Log-L = -80.5850 | | LogAmemiyaPrCrt.= 7.812, Akaike Info. Crt.= 10.644 | | Autocorrel: Durbin-Watson Statistic = 2.41128, Rho = -.20564 | +------+ +------+------+------+------+------+------+ |Variable | Coefficient | Standard Error |t-ratio |P[|T|>t] | Mean of X| +------+------+------+------+------+------+ REALEFFE -1.374448670 .51588130 -2.664 .0206 92.625742 LEGALUNC -19.81379226 310.46381 -.064 .9502 .54140395E-01 Constant 182.4693873 56.725387 3.217 .0074
--> REGRESS;Lhs=FDIINFLO;Rhs=ONE,TRADEBAL,REALEFFE,INTEREST,INFLATIO,REALGROW ,LEGALUNC$
************************************************************************ * NOTE: Deleted 1 observations with missing data. N is now 15 * ************************************************************************
+------+ | Ordinary least squares regression Weighting variable = none | | Dep. var. = FDIINFLO Mean= 54.08733333 , S.D.= 53.94103599 | | Model size: Observations = 15, Parameters = 7, Deg.Fr.= 8 | | Residuals: Sum of squares= 15963.15518 , Std.Dev.= 44.66984 | | Fit: R-squared= .608121, Adjusted R-squared = .31421 | | Model test: F[ 6, 8] = 2.07, Prob value = .16816 | | Diagnostic: Log-L = -73.5590, Restricted(b=0) Log-L = -80.5850 | | LogAmemiyaPrCrt.= 7.982, Akaike Info. Crt.= 10.741 | | Autocorrel: Durbin-Watson Statistic = 3.07443, Rho = -.53721 | +------+ +------+------+------+------+------+------+ |Variable | Coefficient | Standard Error |t-ratio |P[|T|>t] | Mean of X| +------+------+------+------+------+------+ Constant 97.36631733 117.51210 .829 .4314 TRADEBAL -.6699313145E-01 .63702254E-01 -1.052 .3237 -326.32939 REALEFFE -.6896687606 .90784591 -.760 .4692 92.625742 INTEREST .3602129543 1.4795080 .243 .8138 39.348000 INFLATIO -.5195766720 .95603645 -.543 .6016 25.033333 REALGROW .7417462164 2.2231311 .334 .7472 3.6066667 LEGALUNC -94.23436659 393.99236 -.239 .8170 .54140395E-01 (Note: E+nn or E-nn means multiply by 10 to + or -nn power.)
--> SAVE;file="C:\Program Files\Es\LIMDEP\Program\collins.lpj"$ --> REGRESS;Lhs=FDIINFLO;Rhs=ONE,TRADEBAL,REALEFFE,INTEREST,INFLATIO,REALGROW ,LEGALUNC,X10$
************************************************************************ * NOTE: Deleted 1 observations with missing data. N is now 15 * ************************************************************************
Page 75 of 87 The Political Economy of Foreign Direct Investment in Malawi – MLB Thesis
Error: 131: Models - Regression; regressors are collinear. --> REGRESS;Lhs=FDIINFLO;Rhs=ONE,TRADEBAL,REALEFFE,INTEREST,INFLATIO,REALGROW ,LEGALUNC$
************************************************************************ * NOTE: Deleted 1 observations with missing data. N is now 15 * ************************************************************************
+------+ | Ordinary least squares regression Weighting variable = none | | Dep. var. = FDIINFLO Mean= 54.08733333 , S.D.= 53.94103599 | | Model size: Observations = 15, Parameters = 7, Deg.Fr.= 8 | | Residuals: Sum of squares= 15963.15518 , Std.Dev.= 44.66984 | | Fit: R-squared= .608121, Adjusted R-squared = .31421 | | Model test: F[ 6, 8] = 2.07, Prob value = .16816 | | Diagnostic: Log-L = -73.5590, Restricted(b=0) Log-L = -80.5850 | | LogAmemiyaPrCrt.= 7.982, Akaike Info. Crt.= 10.741 | | Autocorrel: Durbin-Watson Statistic = 3.07443, Rho = -.53721 | +------+ +------+------+------+------+------+------+ |Variable | Coefficient | Standard Error |t-ratio |P[|T|>t] | Mean of X| +------+------+------+------+------+------+ Constant 97.36631733 117.51210 .829 .4314 TRADEBAL -.6699313145E-01 .63702254E-01 -1.052 .3237 -326.32939 REALEFFE -.6896687606 .90784591 -.760 .4692 92.625742 INTEREST .3602129543 1.4795080 .243 .8138 39.348000 INFLATIO -.5195766720 .95603645 -.543 .6016 25.033333 REALGROW .7417462164 2.2231311 .334 .7472 3.6066667 LEGALUNC -94.23436659 393.99236 -.239 .8170 .54140395E-01 (Note: E+nn or E-nn means multiply by 10 to + or -nn power.)
Page 76 of 87 The Political Economy of Foreign Direct Investment in Malawi – MLB Thesis
2. QUESTIONNAIRE:
THE POLITICAL ECONOMY OF FOREIGN DIRECT INVESTMENT IN MALAWI
Master Thesis for Collins Magalasi Master of Law and Business Bucerius Law School / WHU Otto Beisheim School of Management, Germany
SECTION 1: GENERAL INFORMATION
Background information of the respondent: a) Name of the company: b) Year started in Malawi: c) Contact Person: d) Telephone number: e) Email address: f) Date of the response:
What industry are you in?
a) Agriculture (incl. Fishing, Livestock) b) Tourism and hospitality c) Manufacturing d) Services e) Trading Consumer goods (includes also consumer durables and retailing) f) Healthcare, pharmaceuticals and biotechnology g) Energy and mining h) Utilities i) Construction and real estate j) Entertainment, media and publishing k) Financial services (non-insurance plus insurance) l) IT services m) Professional services n) Telecommunication o) Transport p) Government public sector q) Other (specify)
What is your company’s annual turnover? a) Under K50m b) K50m – K100m c) K100m - K250m d) K250m – K500m e) K500m – K1bn f) K1bn – K3bn g) Over K5bn
What countries do you export to, and in what goods and services?
What countries do you import from, and in what goods and services?
Page 77 of 87 The Political Economy of Foreign Direct Investment in Malawi – MLB Thesis
SECTION 2: FDI TRENDS
What country does your Investment come from?
a) Latin America: ______b) North America ______c) Western Europe ______d) Eastern Europe ______e) Asia-Pacific ______f) Middle East & North Africa ______g) SADC Region ______h) Other Sub Sahara Africa ______
If you were to relocate the business, where would you go to, and why? a) Latin America: ______b) North America ______c) Western Europe ______d) Eastern Europe ______e) Asia-Pacific ______f) Middle East & North Africa ______g) SADC Region ______h) Other Sub Sahara Africa ______
How does your company’s total planned level of investment for the next five years compare with total investment over the past five years? And Why?
a) Over 100% increase in investment b) 50%-100% increase in investment c) 25%-50% increase in investment d) 10%-25% increase in investment e) Up to 10% increase in investment f) Same level of investment g) Up to 10% decrease in investment h) 10%-25% decrease in investment i) 25-50% decrease in investment j) 50-100% decrease in investment k) Over 100% decrease
If you were to make a fresh investment in Malawi, what would be the main forms of investment activity for your company in the next five years? Please rank each in order 1 to 5, 1 being the primary form of activity.
a) Follow-on investment in existing operations b) Joint ventures c) Mergers and acquisitions d) Greenfield investment e) Franchising
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Why did you choose Malawi for your FDI? a) New markets b) Low-cost inputs e.g. labour, raw materials c) Innovation, technology, New partnership possibilities d) Acquisition opportunities – e.g. privatisation e) Availability of natural resources f) Institutional Stability – macroeconomic g) Institutional Stability – legal and political h) Institutional Stability – standards, trade policy, vision,
Please rate the importance of the following factors on your decision to invest in the country between 1 and 5, 1 being extremely important & 5 being unimportant
a) skills in the labour market b) level of corruption and bribery c) quality infrastructure d) Quality of suppliers e) Geographic location f) Political stability g) Overall policy towards free business and competition h) Specific policies towards foreign investment i) Rule of law j) Stability of laws k) Enforcement of laws l) Presidential / government decrees m) Macroeconomic stability (Inflation, exchange rate n) Competition on the market o) Access to credit p) Tax regimes q) competition from local firms r) Red tape s) Market growth – size of market
Which of the following worry your company? (Please rate the following risks between 1 and 5, 1 being extremely significant and 5 being insignificant).
a) Skills in the labour market b) Level of corruption and bribery c) Quality infrastructure d) Quality of suppliers e) Geographic location f) Political stability g) Overall policy towards free business and competition h) Specific policies towards foreign investment i) Rule of law j) Stability of laws k) Enforcement of laws l) Presidential / government decrees m) Macroeconomic stability (Inflation, exchange rate n) Competition on the market o) Access to credit p) Tax regimes q) competition from local firms r) Red tape s) Market growth – size of market
Page 79 of 87 The Political Economy of Foreign Direct Investment in Malawi – MLB Thesis
SECTION C: THE LEGAL ENVIRONMENT
What (How many) Laws, Policies, Presidential/Ministerial decrees or other having effect on FDI were introduced, approved / amended / in
Year Details of Bill / Law/ policy Details (Amended, passed, ordered) / decree 1994 1995 1996 1997 1998 2000 2001 2002 2003 2004 2005 2006 2007 2008
What laws are of concern to you as a business? Please give the law that is of high priority, medium priority and low priority.
What is your comment on laws that have been amended in Malawi?
How stable are the business-related laws in Malawi?
What laws are in need of amendment, and for how long?
Name the laws that you know have not been implemented objectively.
State any presidential or other decrees or decisions that affected your business decisions
Page 80 of 87 The Political Economy of Foreign Direct Investment in Malawi – MLB Thesis
Respondents: a) Malawi Investment Promotion Agency b) Malawi Confederation of Chambers of Commerce and Industry c) Investors ( purposefully chosen to represent Years of operation, Sector, Size) a. In Malawi the past 1 year b. In Malawi the past 5 years c. In Malawi the past 10 years d. In Malawi more than 10 years e. Big corporations f. Medium scale corporations g. Small-scale business d) Parliament e) Government – a. Ministry of Industry, Trade and Private Sector Development b. Ministry of Justice c. Ministry of Foreign Affairs d. Competition and Fair Trading Commission e. Law Commission f. Malawi Law Society f) Judiciary – a. Industrial Relations Court, b. High Court, g) Reserve Bank of Malawi h) Malawi Revenue Authority i) International Monetary Fund j) Economists Association of Malawi
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RESPONDENTS Industrial 1. Illovo Sugar Malawi (South Africa) 2. Transglobe Produce Exports (Mali) 3. Valmore Paints (UK) 4. Limbe Leaf Tobacco Company Limited (USA) 5. Mandala Limited (UK) 6. Bata Shoe Company (Canada)
Tertiary (sales) 1. CFAO Malawi Limited(France) 2. Metro Cash and Carry Malawi (Germany) 3. Celtel Malawi Limited (Kuwait) 4. Gestener (Japan) 5. Alexander Forbes Mw Ltd (South Africa) 6. Continental Discount House Ltd (Mauritius) 7. The Cold Chain (Zimbabwe) 8. Lipton Tea (UK) 9. Hertz Corporation (US) 10. Macmillan Malawi Ltd (Germany) 11. Maaersk Malawi Ltd (Denmark) 12. Potland Malawi Ltd (France) 13. Pricewaterhousecoopers (USA) 14. Sara Lee Corporation (USA) 15. Xerographics (USA)
Finance 1. Standard Bank (South Africa) 2. AON Malawi Ltd (USA)
Page 82 of 87 The Political Economy of Foreign Direct Investment in Malawi – MLB Thesis
AMENDMENTS TO LAWS OF MALAWI: 1994 – 2008 1994 - 1999 - 2005 - THE LAW 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 TOTAL 1998 2003 2008 Penal Code 3 7 10 3 7 0 Corrupt Practices Act 1 24 25 1 0 24 Criminal Procedure and evidence Code 1 9 1 11 1 10 0 Extradition 1 1 0 1 0 Mutual Assistance in Criminal matters 1 1 0 1 0 Wills and Inheritance 2 1 3 6 3 3 0 Army 12 3 2 17 12 5 0 Malawi Citizenship 0 0 0 0 Immigration 4 3 7 0 7 0 Immunities and Privileges 4 4 0 4 0 Treaties and Conventions Publication 1 1 0 1 0 Statutory Bodies (Control of Contracts) 2 2 0 2 0 Control of Goods 2 3 5 0 5 0 Pharmacy, Medicines and Poisons 5 2 7 0 7 0 Dangerous Drugs 1 2 3 1 2 0 Pesticides 1 2 3 0 3 0 Medical Practitioners and Dentists 5 8 1 14 5 9 0 Nurses and Midwives 1 1 2 0 2 0 Finance and Audit 4 4 8 0 8 0 Government securities 0 0 0 0 Malawi Development Corporation 2 2 0 2 0 Export Promotion Council 1 1 0 1 0 Investment Promotion 1 1 0 1 0 Export Processing Zones 1 1 2 1 1 0 Malawi Revenue Authority 1 1 1 3 1 1 1 Investment Disputes (Enforcement of Awards) 0 0 0 0 Bretton Woods Agreement 1 2 3 0 3 0 Taxation 1 1 1 2 2 1 8 1 7 10 11 1 46 7 17 22
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Customs and Excise 5 1 9 2 6 9 2 4 38 6 26 6 Surtax (Later Value Added Tax) 1 1 1 9 12 0 2 10 Tea CESS 1 1 0 1 0 Stamp Duties 1 1 0 1 0 Estate Duty 2 2 4 2 2 0 Road Traffic 1 2 3 6 1 5 0 National Road Safety Council of Malawi 1 1 0 1 0 National Roads Authority 1 1 1 1 1 5 2 2 1 Aviation 1 6 6 13 1 12 0 Inland Waters Shipping 1 8 5 14 1 13 0 WaterWorks 1 1 2 1 1 0 Electricity 1 1 2 1 0 1 Constitution 1 2 1 1 1 4 7 17 5 5 7 Land 1 5 2 5 13 1 7 5 Business Licencing 1 4 5 1 4 0 Labour Relations 1 1 2 1 1 0 Business Names Registration 1 2 3 1 2 0 Building Societies 1 1 1 0 0 Companies 1 6 1 8 1 7 0 Insurance 1 1 2 1 1 0 Communication 1 1 1 0 0 Competition and Fair Trading 1 1 1 0 0 Employment 1 1 2 0 2 0 Workers' Compensation 1 1 0 1 0
Veterinary and Para-veterinary Practitio 0 0 0 0 Biosafety 1 1 0 1 0 National Parks and Wildlife 53 53 0 0 53 Weights and Measures 4 4 0 4 0 Commercial Credits 0 0 0 0 Trademarks 1 1 0 1 0 Patents 2 2 0 2 0
Page 84 of 87 The Political Economy of Foreign Direct Investment in Malawi – MLB Thesis
Copyright 1 6 7 1 6 0 Registered Designs 3 3 0 3 0 Automotive Trades Registration and Fair Practices 2 2 0 2 0 Liquor 5 15 20 5 15 0 Banking 2 2 0 2 0 Exchange Control 2 1 3 2 1 0 Public Enterprises (Privatisation) 1 1 0 1 0 Gaming 1 1 0 1 0 Cooperative Societies 1 1 0 1 0 Public Audit 1 1 0 1 0 Public Finance Management 1 1 2 0 1 1 Public Procurement 1 1 0 1 0 Science and Technology 1 1 0 1 0 Prevention of Domestic Violence 1 1 0 0 1 Roads Fund Administration 1 1 0 0 1 Money Laundering, Proceeds of Serious Crime and Terrorist Financing 1 1 0 0 1 Tourism and Hotels 1 1 0 1 0 Supreme Courts 1 1 0 1 0 Energy Regulation 1 1 0 0 1 Rural Electrification 1 1 0 0 1 Liquid Fuels and Gas 1 1 0 0 1 Occupational Safety, Health and Welfare 2 1 3 0 3 0 Registered Land 2 2 0 2 0 Deeds Registration 1 1 0 1 0 Adjudication of Title 1 1 0 1 0 Land Survey 4 4 0 4 0 Environment Management 1 1 0 1 0 Mines and Minerals 1 1 0 1 0 39 8 3 8 14 12 143 8 8 87 94 15 14 0 14 467 72 258 137
Page 85 of 87 The Political Economy of Foreign Direct Investment in Malawi – MLB Thesis
COMPOSITE LEGAL AMENDMENTS, BILLS AND INDEX No. of No. of bills Stability No. of presidential rejected by Index in Stability Investment and / withdrawn Investment Index on All No. of All law related law Ministerial from Laws and Laws and Year amendments amendments Decrees parliament decrees Decrees 1994 39 12 22 0 0.052795031 0.042875158 1995 8 8 11 0 0.029503106 0.023959647 1996 3 3 10 0 0.020186335 0.016393443 1997 8 7 7 0 0.02173913 0.017654477 1998 14 12 8 0 0.031055901 0.025220681 1999 12 3 7 0 0.01552795 0.01261034 2000 143 102 23 0 0.194099379 0.157629256 2001 8 8 27 2 0.057453416 0.04665826 2002 8 8 26 0 0.052795031 0.042875158 2003 87 73 26 0 0.153726708 0.124842371 2004 94 41 28 0 0.107142857 0.087011349 2005 15 14 23 3 0.062111801 0.050441362 2006 14 13 32 2 0.072981366 0.0592686 2007 0 0 26 4 0.046583851 0.037831021 2008 14 14 30 9 0.082298137 0.066834805 Total 467 318 306 20 1 0.812105927 644 1 1
1994- 1998 72 42 58 0 0.155279503 0.5889029 1999- 2003 258 194 109 2 0.473602484 0.662042875 2004- 2008 137 82 139 18 0.371118012 0.72887768
Page 86 of 87 The Political Economy of Foreign Direct Investment in Malawi – MLB Thesis
Collins Magalasi Bucerius Law School Berliner Tor 3 20099 Hamburg Germany
16 June 2009 The Solicitor General Ministry of Justice and Constitutional Affairs Capital City Lilongwe Malawi
Dear Madam/Sir,
REQUEST FOR INFORMATION
I write to seek your support in my accessing information on (a) list of new laws that were passed in Parliament; (b) list of laws that were amended ; and (c) list of bills that were expected in parliament but were either not put to the floor, or were rejected on the floor, or were contained to Committee level, or were withdrawn, or were just not assented to by the State President. The period is from 1994 to 2008.
I need this information to complete thesis for my academic studies of Law and Business which I am doing with the Bucerius Law School in Germany. My thesis is on The Political Economy of Foreign Direct Investment in Malawi. Specifically, I am looking at the impact that legal (un)certainty has on foreign direct investment. I am paying special attention to (a) industrial development laws; (b) commercial and trade laws; (c) employment-related laws; (d) land ownership laws; (e) agriculture commodities laws; (f) financial services-related laws; (g) security-related laws; and (h) intellectual property laws.
Your support will therefore be greatly appreciated. I look forward to your usual support and I thank you in advance for your help.
Yours sincerely, Collins Magalasi
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