The Promotion of Foreign Investments – A Strategy for Sustainable Economic Development

Foreign direct investment has been widely recognized over the past decades as a major contributor to growth and development. It can bring capital, technology, management know-how and access to new markets. In comparison with other forms of capital flows, it also tends to be more stable, with a longer-term commitment to the host economy.

The general policy framework for the promotion of investments in Mozambique has improved greatly in recent years, a trend that is backed the new provisions of the 2004 constitution and important legal reforms. However, it would be also fair to state that the environment for foreign investments protection is still inadequate to attract high quality and efficiency-seeking investments and the incentive framework continues to suffer from a number of deficiencies.

Faced with increased international competition, foreign investors, in their global strategies, seek to maximize their competitiveness by locating facilities in multiple locations around the world. The lack of competitively in comparison with other global FDI destinations signifies that Mozambique is losing development potential.

In this increasingly globalized world, attracting foreign investment depends more on the ability to provide a favorable investment protection regime and competitive factors of production. The former requires a stable, efficient, and service-oriented environment that welcomes investors into most economic activities without discrimination.

Modern legal and intellectual property rights, effective competition policies, a strong judiciary and minimum bureaucratic harassment are all important to attract foreign investors. The latter are the ultimate determinants of FDI. Competitive factors of production no longer mean just cheap raw labor and basic infrastructures.

Mozambique is becoming a major target and perhaps the most most attractive investment destination as a result of recent legislative reforms

Mozambique has recently made considerable progress towards economic development, absolute poverty eradication and the promotion of well being of the population. In a feature dated May 17 2005 issue, the New York times described Mozambique as the “Rising star of Africa”. This is a reason to be proud of for all Mozambican citizens. And this international recognition is just the evidence of the country’s considerable performance during the two last decades.

The new country’s constitutional framework adopted in November 2004 is a real revolution for the country’s consistent progress towards free-market and liberalization. New provisions were introduced with the aim of protecting basic citizen’s rights and properties. Political pluralism was reinforced, governance and transparency were widely strengthened. Freedom of association and private initiative, free entrepreneurship, private investments were given official recognition and protection. New laws on tourism and investment are widely acclaimed by national and international observers as concrete improvements of the business environment. Further legislation should be completing these initial foundations towards more credible and internationally acceptable standards. The tone is set for greater achievements.

Still there are important sectors which need special attention if the Government has to realize one of its stated objectives: to achieve modern industrialization by year 2025.The fundamentals for economic growth and economic development still need to be strictly applied through the design of proper policies and the consistent implementation of adequate economic plans. The country still needs to further modernize its legal, institutional and operational framework for the promotion of a better friendly business environment. Modern infrastructure and standards need to be adopted and strict controls pout in place in order to guarantee the success of defined policies.

The basic characteristics of a nation set for sustainable economic success

For Mozambique to become an industrialized nation, it is important to adopt a wide ranging policy package that encompasses all key sectoral aspects. Among the major areas of priority intervention which can be identified, we may consider the following sectors:-

1. Education: training of world class and a highly motivated workforce, both in the public and private sectors, is the basis of success for the Government’s economic development plans ;

2. Health: for the Mozambican nation to grow, it is important to have a healthy people. The pandemics of Malaria, Tuberculosis and HIV/AIDS, etc. need special attention.

3. Environment: Mozambique is blessed with an environment which has not been tampered with. Natural resources are still untapped. It is important to carefully plan the exploitation of resources to avoid their misuse for the benefit of all Mozambicans.

4.Social welfare: the Mozambican common citizen is still living in abject conditions. Policies for the improvement of the social and economic well being are needed and their implementation are of priority if the economic development we are targeting need to succeed. Social and political stability are of great importance for the country’s future development.

5. Legal and institutional framework: to achieve sustainable development, the country needs a viable environment both for the national and foreign economic operators. Legal and institutional guarantees are of utmost importance if the fruits of economic development have to be properly initiated, developed and matured.

6. Industrial sector and production: the Government should work as a priority on the development of production activities for the transformation of the economy from an exchange economy into a production economy.
(vii) Resource mobilization : the revamping of institutions, in particular, the financial institutions, should be undertaken with the view to harness national and international resources. Measures to encourage national saving schemes should be set as a priority.

Having identified the basic characteristics of a nation set for sustainable economic success, it is now timely to introduce the main lines for the promotion of FDI. Mozambique needs to promote, attract and protect foreign direct investment as the key engine of its economic development plans.

The present article’s main objective is to explore the environment, the conditions, the factors and the requirements for the promotion of FDI in Mozambique as a strategy to achieve economic and industrial development by 2025. It is articulated into five chapters which cover respectively: an economic background, the determinants of FDI flows, the priority areas of FDI intervention, the required legal and institutional reforms, the future prospects and finally concluding remarks and recommendations.

Background: the Economic environment of Mozambique

1. The colonial and civil war legacy

Mozambique has been strife-ridden through much of its post-independence history. When the Portuguese colonial empire collapsed in 1975, an independent state of Mozambique emerged and adopted a socialism – communism political orientation. Civil war between the FRELIMO government and armed opposition rebels allegedly assisted by then South Africa’s apartheid regime lasted from the 1970s to 1992. During this period, armed conflict and massive displacement of civilian population overrode any prospects for coherent economic development. Even while completely engulfed in this struggle, the ruling FRELIMO Party took a pragmatic approach to economic policy, moving in the 1980s toward a mixed rather than purely static model. Mozambique joined the World Bank and IMF in 1984. The government disavowed its previous endorsement of Marxist principles in 1989.

2. Rising from the ashes

Mozambique still ranks among the world’s poorest and least developed countries. According to the United Nations Development Programme, 38 percent of the people still live on less than one dollar per day. Notwithstanding this daunting level of absolute poverty, however, the country’s progress in the period after the civil war — in a context of reconciliation, consolidation of elected government, and ambitious economic restructuring — has been considerable.

Two-thirds of industrial output was generated by the private sector in the late 1990s, up from one-third at the beginning of the decade, although the government remains a joint owner of most large industrial firms, and sole owner of most transport, utility and communication entities. Recent liberalization allowed the creation of banks with majority private ownership, and while this reform was marred by massive losses at two of the newly- launched banks, the government moved quickly to recapitalize them directly in one case and by a sale to a foreign banking group in the other.
Mozambique is currently determined to carry out a credible and reasonably effective poverty reduction program — although its economic base is so low, merely reducing the poverty rate from the current 70 percent to 50 percent is likely to take at least a decade.

The IMF, the World Bank and the international community generally consider Mozambique as a successful case of structural adjustment under sound macroeconomic management where further steps toward an open and competitive economic system promise to foster impressive growth.

The Mozambican economy is still largely based on subsistence agriculture. Agriculture accounts for about one-third of GDP and employs four-fifths of the people. Commercial agriculture is highly diversified; cashews, sugar cane, cotton, tea and copra are all significant crops. But market farming is hindered by rudimentary physical infrastructure as well as institutional constraints including a restrictive leasehold tenure system and poor availability of rural credit.

Currently, Mozambique’s transition to rapid development is on the right track, well-established and is a trend that is widely expected to gain substantial momentum. The Government’s stated key priority is to expand domestic processing of the country’s considerable mineral resources. Mozambique’s largest industrial project, and one of the largest anywhere south of the Sahara, is the US$1.2 billion Mozal aluminum smelter, located near the capital city of Maputo, which began production in June 2000 and reached its full output rate in 2001.

Other metallurgical projects under consideration are an even larger steel plant in the coastal city of Beira, and a second phase of the Mozal smelter. Mozambique has significant hydroelectric capacity, some already installed and some not yet developed. It is currently locked into long-term agreements to sell much of the electric power it produces to other countries, particularly South Africa, at very low rates which officials are attempting to renegotiate. The country imports virtually all of its petroleum, but it does have a major natural gas resource in its Pande field, which was discovered before the civil war but not developed during it. South African energy company SASOL owns the rights to develop the Pande field and has started the construction of a 600-mile pipeline into South Africa to export the gas.

Services as well as industrial activity are set to expand considerably during the next several years. Tourism has grown rapidly in the time Mozambique has been at peace, but its magnitude is still minor. Mozambique’s long Indian Ocean coastline encompasses many of Africa’s most unspoiled seaside areas. However, successful development of tourism and indeed all sectors of the economy await massive infrastructure construction and reconstruction. Mozambique has never had an adequate transport, utility and communications network, and much of what had been in place was damaged or destroyed by war.

The port of Beira, at the mouth of the Zambezi River, is well situated to become one of the continent’s key gateways, serving not only Mozambique but also the landlocked countries of Zambia, Zimbabwe, and Malawi. Despite this favorable location, the Zambezi Valley area of Mozambique, like most of the country, remains extremely underdeveloped. A railway from the coast to Zimbabwe was destroyed early in the war but has been rebuilt and reportedly earns some US$350 million annually.

An additional adverse factor of note, which Mozambique has in common with most of Southern African countries, is a high rate of AIDS. It is estimated that one of every seven Mozambicans is infected with the AIDS virus. Containing the disease’s spread and coping with its aftermath will divert scarce resources from the country’s mammoth general development challenges for years to come.

3. Economic Performance:

Mozambique received worldwide attention from February to April 2000 when parts of the country experienced disastrous flooding. Some 700 people died; many tens of thousands were displaced and overall losses were assessed at US$500 million. The severe disruption of productive activity reduced GDP growth to less than two percent from the previously projected six to eight percent rate that had been typical of the late 1990s. The contraction would have been worse but for the start up during 2000 of the new Mozal aluminum smelter which reached its full production rate during 2001.

Before the flooding in 2000, Mozambique posted one of the world’s strongest sustained runs of economic growth, albeit from a very low base. GDP rose by 7.1 percent in 1996, 11.3 percent in 1997, 12 percent in 1998 and 9.7 percent in 1999. After the flood-affected GDP growth rate of 1.6 percent in 2000, the economy came roaring back in 2001 to grow 13.9 percent so that the trend rate of growth established in the late 1990s has been maintained despite the slowdown in 2000. Moreover, a combination of grants, development financing, revenue rationalization and privatization receipts had stabilized the government’s fiscal position. The fiscal deficit is still quite large-averaging between 4.5 and five percent of GDP during 2000 and 2001. However, financing for it appears to be in place and the deficit is expected to subside as rapid growth continues in the next few years.

Inflation — which fluctuated between 33 percent and 63 percent per year in the 1990-96 period — fell to low single digits in the late 1990s while the exchange rate held steady. Flood-caused shortages and the run-up in oil prices in 2000 contributed to a moderate spike in inflation in 2000 and 2001: inflation was in excess of 11 percent in each year. Given continued sound monetary and fiscal management, the current pattern of rising prices should subside once these exogenous shocks have been absorbed.

4. Balance of Payments:

Mozambique relies on donor financing, is highly indebted, and needs substantial further development financing. In the wake of the 2000 flood disaster, multilateral and bilateral financial institutions moved Mozambique onto an expedited debt relief track. The country has qualified for the enhanced level of debt relief offered under the IMF-World Bank heavily indebted poor countries (HIPC) initiative. Mozambique’s nominal official debt, prior to the HIPC process and other debt relief mechanisms, stood at about US$6 billion, 145 percent of 1999 GDP – comparatively, although not extraordinarily high for a sub-Saharan country. Several bilateral European lenders canceled Mozambican debts outright after the floods. The IMF estimates that, accounting for debt relief, the net present value of Mozambique’s external debt will stabilize at about 25 percent of GDP, a level that should be manageable given the country’s growing capacity for export from its mega-projects.

With strong increases in export values anticipated over the next several years, the merchandise trade balance — historically strongly negative — is projected to move into surplus. In the past three years, the trade balance has been affected by inflows of imports for the building of the Mozal smelter and subsequently, following commencement of its operations, rising exports of aluminum. In 2001, the first full year of Mozal operations, the trade balance was just US$332 million, down quite substantially from more than US$1 billion in each of 1999 and 2000. However, aside from a consistently large inflow of unrequited foreign aid grants (i.e. not requiring any future repayment) averaging US$200-300 million per year in recent years, all the other components of Mozambique’s current account are in deficit.

In 2001, the net balance on services transactions with the rest of the world was US$250 million as compared to a deficit of about US$120 million in the previous two years. Similarly, the balance on net factor income payments is a deficit, about US$200 million in 2001 which was in the same range as the deficits for 1999 and 2000. Overall, the current account deficit remains in substantial deficit, about 16 percent of GDP in 2001 even after accounting for the US$200 million in foreign aid and other grants. The current account deficit totaled US$590 million in 2001, down from US$760 million and US$910 million in 2000 and 1999 respectively, primarily due to the large reduction in the merchandise trade deficit in 2001.

The capital and financial account of the balance of payments is still dominated by capital grants, official loans and debt relief credits; a minority of the current account deficit has been financed by private foreign direct investment flows in recent years despite the fact that large infrastructure projects like Mozal have had a large FDI financing component. FDI accounted for US$250 million of financing in 2001, below the peak of almost US$400 million in 1999, but still well above the levels of the mid-1990s before the mega-projects began to come to fruition. In 2001, net borrowing activity in the financial account actually resulted in an outflow of funds as government borrowing resulted in more repayments of principal than disbursement of new loans.

This situation left Mozambique’s overall balance of payments in deficit requiring exceptional financing in excess of US$400 million. However, with the cooperation of the IMF and the World Bank and debt relief programs, that financing was forthcoming. While Mozambique has been highly dependent on exceptional financing for a long time, it now has the prospect of becoming self-sustaining as its production and export capacity rise rapidly.