Foreign Direct Investment Requires Pragmatic Shifts Not Protectionism

Investors are looking for a favorable and robust legal regime and more positive business operating environment

March 9, 2019, 12:16 p.m.

Changing Scenario: Why ‘Change’?

Economic Investment environment has been rapidly changing in recent past and investors are looking around for better investment opportunity, larger consumer market for unfettered flow of products and services, and reasonable rate of return on investments. Investment laws must take these key elements into consideration by creating a conducive climate of foreign direct investment. Stable economic and political environment and clarity in foreign policy direction are fundamental to attracting external investments. Currently, global market trend is appearing somewhat shrinking with rising protectionism. Entrepreneurs find operating environment challenging and are confronted with cut-throat market economy.

There are still opportunities if Nepal focuses attention to the right source/destination markets. There is, however, no automatic flow of foreign money into Nepal without pragmatic approaches to dealing with foreign direct investment challenges. Changes in the proposed investment bill of Nepal should take this scenario into full consideration.

There are competing economies in Asia, and ASEAN leading the way forward. Due to continuing trade dispute between USA and China the new trend in foreign investment is shifting towards the South East Asia. Opportunities exist for export market in growing economies and emerging markets, but investors/exporters need to be smarter, cost effective and quality competitive.

Investors are looking for favorable and robust legal regime and more positive business operating environment. Poor physical infrastructure and connectivity, unreliable energy and water supply, negative perceptions on foreign direct investments in small and medium size enterprises,lack of efficient transportation system and inadequate measures for cross-border trading access,including export to overseas market are distinguishing characteristics of Nepal’s industrial environment. These factors heavily weigh in foreign investor’s decision making. This is where Nepal falters and has been unable to attract foreign investment under the current foreign investment laws.

International entrepreneurs are seen moving into new destinations in Vietnam, Cambodia and Laos than others in Asia and in countries in Africa, particularly Rwanda, Ethiopia and Kenya. Investors will move to places where they find investments safer and competitive advantages, wider market opportunities and stable Supply-Chain setting. Nepal is an insignificant market in the current liberalized global environment with low purchasing of power of urban middle-class.

Nepal is not a highly favorable destination for large industrial establishments.Government of Nepal’s policy, thus, should encourage all investors, both non-Nepali as well as Nepalis without prejudice, to invest freely in small and medium enterprises(SMEs). This can help improve, domestic employment, balance of payments situation and give sense of economic security. Nepal government needs to do away with the large list of “the Areas Prohibited for Foreign Investment” from the Foreign Investment Act for attracting external investments in subsistence agriculture and tourism sectors as well.

What Needs to Change?

A large share of Nepal’s import from India is consumer goods including basic food items. This has created a serious vulnerability leading to food and economic insecurity and increased dependency on imports of staple items. Nepal is vulnerable to volatilizes of all sorts, be that in market opportunity or size, consumer base, accessibility, labour, political misgivings, corruption and faltering governance being the major elements.

The current investment policy of Nepal restricts foreign direct investment on variety of areas contributing to imbalance between consumer demand and supply of agricultural produce. Protectionist approach to foreign direct investment in small and medium enterprise is one of the major factors contributing to rise in imports of staple food items from India and other household items from China.

Economically active-age-group also find attractive to migrating elsewhere for employment for livelihood and better wage than available in rural Nepal. This phenomenon may have contributed to low level of capital mobilization for investment and employment in small and medium size enterprises(SMEs). SMEs are the back bone for stable national economy and government of Nepal has not shown required flexibility for foreign direct investment in this area.

The industrial and business investment environment and managing nation’s economy must, thus, reform with sense of pragmatism and realism with open mind is necessary.Investment laws relating to Foreign Investment and Technology Transfer Act and Industrial Enterprises Act, both enacted during 2049 (1992), are restrictive in investment amounts and contains a long list of ‘Areas Prohibited for Foreign Investment List’. These laws have not spurred high investment, contributing to long term sustainable economic growth.

High capital requirements requirement of rupees 5 billion (US$ 500 million or equivalent) is reserved to Nepali national may appear to be the limiting factor in foreign direct investments in small and medium size enterprises. Parallel, industrial investment performance of the past decades indicates that if the current trend continue in future industrial development will face even bigger challenges. It is necessary to revisit the existing laws now and introduce reforms needs on simplifying regulating measures while getting rid of restrictive measures and,then allow foreign direct investors’ participation in all economic areas.

Nepal is facing a severe problem of rising trade deficit with India, for imports are rising disproportionately rapidly while exports have plummeted in recent years. Imports of food items and petroleum products have increased much more than before. This is leading to a situation of economic crisis. In view of this, excluding defense and national security, the draft proposal for foreign investment bill recommends that foreign investment areas should be open to all economic sectors.

Pragmatic reforms could increase foreign direct investment landscape and decrease the trade deficit as well as increase the production of some essential items like food,making the country less reliant on the imports of basic items.

Nepal Policy Institute, an independent Nepali think-tank, has made a pragmatic recommendation to the government for encouraging private investors to invest in small and medium size business enterprises (SMEs) that will significantly:

  • increase the supply of basic consumable items including food;
  • expand livelihood and employment opportunities for Nepalis;
  • enhance economic value of farm products;
  • promote the welfare of Nepali consumers;
  • expand labour intensive activities and efficient utilization of materials and natural resources;
  • decrease imports and thus trade deficit;
  • increase quality and volume of exports and their access to domestic and foreign markets;
  • transfer relevant technologies in agriculture, industry and support services;
  • Increase construction of infrastructure facilities and industrial production establishments.

Change Strategy

The National Planning Commission was established during the time of Central Planning under command economy. It was fashionable during the Cold War era when world economies were divided into two major political blocks of “Capitalism” and “Communism”. Both systems have serious shortcomings. It is now generally believed neither philosophies can offer equitable solutions to addressing growing economic-divides,resolving poverty issues and sustaining quality of life throughout all economies. This is mainly due to disruptions caused by rapidly advancing and expanding technologies and inability of economies to adapt concomitant changes occurring from speed of development in information technology.The government also, needs to restructure the National Planning Commission(NPC) which suffers from several shortcomings. It should be revamped with expanded mandate of pro-active lead role.

China has prudently demonstrated pragmatic approach to way forward without surrendering its values and national economic security. India is following the suit despite hiccups and sticking to change. Nepal’s economic policy and practice of ’doing business need pragmatic adjustment to new realism otherwise population of this poverty-stricken nation will pay irrecoverable economic price. Given this, and against changing world economic environment, political climate, and global investment and market trends impacted by innovation, rapidly advancing technology and upsurge in automation Nepal must show its firm resolve to reforming economic landscape, setting new conducive investment and work environment, while augmenting institutional capability adapting flexible policy strategy and pro-active monitoring and implementation mechanism. NPC has not met these goals for various reasons. The new national authority (National Economic Policy Monitoring Authority) must rise above the call of the day and perform beyond producing planning in papers.

Nepal Policy Institute Recommends:

(1) Re-organization of the National Planning Commission (NPC) with new mandate and A new name National Economic Policy Monitoring Authority, (or NEPMA). This agency should be organized with new spirit of action-oriented dynamism and engage into delivery of achievable outputs. NEPMA should be responsible for developing economic policy and monitoring and implementation of investment programs and economic enterprises. The “National Economic Policy Monitoring Authority, or (NEPMA)” should, however, continue to prepare and guide mega projects of high export potentials in addition to regular policy framework and performance review of implementing and collaborating partners, and government and non-governmental agencies.

(1). NEPMA should assume central role in developing economic policy, advising government and implementing pragmatic strategies.

(2). All foreign investments should be approved and registered by Investment Board of Nepal under one window and approved within seven working days.

(3). Repeal the present Investment and Technology Transfer Act and other laws, replace itwith a new one reflecting the new realism and programmatic approaches to attract foreign investment while making laws better and more competitive than countries in Asia.

Introduce following changes in new foreign direct investment laws as proposed by the Nepal Policy Institute:

(1). Investors should be allowed to invest and own 100% in enterprises, including SMEs, except for some Areas Prohibited for Foreign Investment such as national and defense/security related products and services. Nepal needs to follow global economic “trends” taking into the ground realities. Nepal should, therefore, have a more liberal investment policy as compared to its two big neighbors as well as ASEAN countries.

(2). Nepal currently ranks at very low level in doing business” global business environment index.This rank can be improved by addressing restrictive issues related to reforming foreign investment laws.

(3). In view of the potential for cross-border trade with China (context Belt and Road), Nepal could benefit as a transit country for export utilizing dry port facility, export of produces from Export Processing Zone and possible transit supply-chain warehousing for third country export.

(4). Approval mechanisms should also be considered for investment in small and medium size enterprise at the provincial level in view of the federal structure of the governance.

(5). Millions of Nepali live and work outside of Nepal, including others of Nepali origin people should be allowed to invest in all productive areas of economy.

(6). Current foreign investment and technology transfer act is narrowly focused on foreign currency inflow. It is not linked to employment generation. Foreign direct investment in small and medium size business enterprises should be, where feasible, tied up with job creation and technology transfer.

(7). The new National Economic Policy Monitoring Authority (or NEPMA) should be empowered to review and update annually economic sectors/areas for foreign investment, develop policy guidelines on investment, and regularly monitor implementation of programs and projects.

(8). Banking regulations should be relaxed promoting larger involvement of commercial banks in handling foreign investment and clients. This is to separate functioning of banking and market from executive and political interference .Healthy banking and monetary practices are integral part of creating climate of business confidence and growth in investment market.

(10). Non-Nepali national, Nepali diaspora and people of Nepali-origin should be treated equally in the matter of investment. Investors need to be allowed for making investments with 100% ownership of enterprises.

(12). Investments should be approved and coordinated by the Investment Board of Nepal under one window within seven (7) working days. This will cut bureaucratic hassles from different Ministries/Departments one after another,for processing, registration and approval of foreign investment.

(13). Enterprise with paid-in equity capital less than US$ 150,000 could be reserved to Nepali nationals. However,if the business enterprise involves transfer of technology and provides direct employment of twenty (20) Nepali, then a non-Nepali can invest and own with paid-in capital of US$100,000 to generate local employment.

(14). Former Nepali citizens and Nepal-origin individual must have the same investment rights as that of a Nepali citizen.

(15). Nepal-born former Nepali national can own 5,000 square meters of urban land and four (4) hectares of rural land for business/enterprise purposes.

(16). All investments must comply with Environmental standards.

(17). No government agency should be allowed to nullify the provisions granted under terms of foreign investment agreement.

(18). No investment should be expropriated or confiscated by administrative measures in the operation of foreign owned enterprises.

(19). Investors should be allowed to repatriate foreign currency investment, profit from investment, principal of any loan obtained during business operations through commercial banks for all banks operate under the rules and regulations of Nepal Rastra Bank.

(20). Dispute settlement should be allowed to conduct outside Nepal like Singapore, Switzerlandor U.K.

(21). Transfer of foreign technology should be considered as integral part of capital contribution to enterprise.

(22). Imports of Machinery, equipment, plant and advanced technology required to establish, and smooth running of enterprise/industry should be exempted from import taxes and customs duties.

(23). Enterprises with foreign owned capital and parties to business co-operation contract should have the right to autonomy in conducting business/enterprise in accordance with the objectives stipulated in the investment license permit.

(24). Investor with foreign owned capital can purchase foreign currency for business purposes from commercial banks.

(25). Non-Nepali investor and his/her family should be issued a minimum period of one year investor visa with multiple entry/exit and will not be required to be registered with Police as foreigner living in the country. (Section 21 and Rule XIX).

The Global Knowledge Convention organized by Non-Resident Nepali Association (NRNA), held in Kathmandu in October 2018, made a wide range of recommendations to the government for reform in areas covering banking, finance, bankruptcy and insolvency, dispute settlement, brokerage and wealth management, income tax, double taxation, industrial policy etc should also be considered by the government.

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