TWN Info Service on Finance and Development (May11/03)
9 May 2011
Third World Network

FDI in LDCs should focus on creating jobs
Published in SUNS #7143 dated  5 May 2011

Geneva, 4 May (Kanaga Raja) -- Foreign Direct Investment (FDI) in the 48 Least Developed Countries (LDCs) should be channelled towards creating jobs and on enhancing the productive capacities of these countries, the United Nations Conference on Trade and Development (UNCTAD) has recommended.

While FDI to the LDCs grew rapidly over the decade to reach an estimated $24 billion in 2010, most of these flows in terms of value were dedicated to natural-resource extraction, a sector that has tended to create relatively few jobs, said UNCTAD.

In its report titled "Foreign Direct Investment in Least Developed Countries: Lessons Learned from the Decade 2001-2010 and the Way Forward", UNCTAD said that although FDI has recently enabled some LDCs to connect with the global value chain in which products are upgraded and reap higher profits, the majority of the LDCs remain marginalised from the world economy.

According to UNCTAD, its report on the status of FDI in the LDCs is intended to be a contribution to the discussions at the Fourth UN Conference on the LDCs, taking place in Istanbul from 9-13 May.

In a preface to the report, UNCTAD Secretary-General Dr Supachai Panitchpakdi said that ten years ago, the world community adopted the Brussels Declaration and the Programme of Action for the Least Developed Countries (LDCs), providing a framework to accelerate economic growth and achieve sustainable development in LDCs.

"Yet, despite the fact that some of them enjoyed the world's highest and most sustained growth rates and they have development potential in general, more than half of their population still lives in absolute poverty. Their economic hardships are being compounded by the recent economic and financial crisis, increasing food and energy insecurity and climate variability," he added.

"Foreign direct investment (FDI) has played an important role in LDCs in the last decade, as it was a major contributor to the group's capital formation. FDI contributed towards promoting pro-poor growth and sustainable development, and reducing social and income disparities. However, the concentration of FDI in enclaves of export-oriented primary production with limited employment, technological and productivity linkages remains the main challenge in most LDCs," he further said.

According to the UNCTAD report, some 850 million people, or 12% of the world's population, live in the 48 least developed countries (LDCs). These countries are the world's poorest, with per capita GDP under $1,086, and with low levels of capital, human assets, exports and technological development.

The Programme of Action of the Least Developed Countries for the Decade 2001-2010 adopted at the Third United Nations Conference of the Least Developed Countries in 2001 in Brussels stated that foreign direct investment (FDI) was an important source of capital formation, know-how, employment generation and trade opportunities for LDCs and called for accelerating FDI inflows into these countries.

Although there was an abrupt interruption of the secular trend in 2009, the report notes, FDI flows to LDCs grew at an annual rate of 15% during 2001-2010 as a whole to reach an estimated $24 billion by 2010, compared with $7.1 billion in 2001, and their share in global FDI flows rose from 0.9% to over 2%.

The Brussels Declaration contained 30 international development goals for LDCs, including the attainment of an investment-to-GDP ratio of 25% and an annual GDP growth rate of at least 7% in order to achieve sustainable development and poverty reduction in LDCs. The Brussels goal of 7% growth is being achieved by LDCs as a group and by 15 LDCs individually.

"However, this improved performance has been the result of an exceptional boom in international commodity prices and was not broad-based across LDCs. Furthermore, their per capita GDP growth is modest and is lagging behind that of other developing countries. Indeed, 11 LDCs even saw their per capita income decline," says the report.

Moreover, it adds, today's LDC level of total investment at about 20% of GDP falls short of the Brussels Plan of Action (BPoA) target to support the sustained growth needed for development and poverty reduction.

The report goes on to analyse the trends in FDI flows and stock in LDCs as well as policy developments concerning FDI at the national and international levels over the last decade, in particular since BPoA was adopted at the third conference of the LDCs, and from this, it draws some major observations and highlights some shortcomings from the past decade (2001-2010).

According to the report, in the past decade (2001-2010), FDI inflows have been the most important external private capital flows for LDCs, exceeding foreign portfolio and other investments combined. While they still remain below the level of total official development assistance (ODA) flows, they have been larger than bilateral ODA (that is, ODA excluding ODA from multilateral organizations) from
2006. In the period 1990-2009, in 13 LDCs, FDI increased while bilateral ODA decreased.

FDI inflows to LDCs, at an estimated $24 billion in 2010, account for a tiny portion of both global FDI and FDI inflows to the developing world (at 2% and 5% respectively in 2010). Despite the relatively modest flows, they are a major contributor to capital formation in LDCs because of their higher share in LDCs' total investment.

This contribution of FDI to LDCs' capital formation has increased in the first decade of the twenty-first century. While FDI flows were equivalent to only 20% of gross fixed capital formation (GFCF) at the start of the decade, they reached
28% in 2008, though they declined in the last two years (2009-2010), says the report. Attracting FDI is one of the key strategies of LDCs in achieving the 7% economic growth target put forward by the BPoA. The pace of FDI flows to LDCs grew spectacularly until 2008 on the back of host-country economic reforms, following the relatively slow progress in the 1990s.

"However, after the economic and financial crisis, flows began to decline despite rising commodity prices and the participation of new investors from within the developing world," the report finds, noting further that the stock of inward FDI, on the contrary, has risen continuously throughout the period, attaining $154 billion in 2010, as well as in terms of GDP.

FDI does play an important role in LDCs and this importance has grown over the past decade, as evidenced by the expanding presence of the largest transnational corporations (TNCs) such as the Fortune 500 companies in LDCs which doubled their presence in the past decade. However, some of these TNCs pulled out from LDCs - equivalent to disappearance of 75 affiliates from LDCs during the past decade, "showing another aspect of FDI in LDCs that is also often unsustainable and footloose."

The report further finds that during the last decade, FDI inflows have risen in LDCs across all regions. The decline in flows, as a consequence of the global economic and financial crisis, by 12% in 2009 to $28 billion and again in 2010 by 14% to $24 billion, was felt most in Asian LDCs, where FDI inflows were nearly halved.

"Today's level of total investment at 20 per cent of GDP, although higher than the 17 per cent that prevailed in the 1990s, falls short of the BPoA target and is insufficient to support the sustained growth needed for development and poverty reduction," the report stresses.

The decline in FDI inflows to LDCs in 2009-2010, due to the crisis was an abrupt interruption of the secular trend. The slow FDI recovery in LDCs, compared to other developing countries is a matter of grave concern as FDI is a major contributor to LDCs' capital formation. This is especially so in African LDCs, where the share of FDI flows in gross fixed capital formation was as high as 34-35% in most of the past decade.

"Improving this situation as part of the effort to achieve sustainable poverty-reducing growth in LDCs is one of the pressing challenges facing the Fourth United Nations Conference on the Least Developed Countries

The report also finds that the distribution of FDI flows among LDCs remains uneven. In recent years, over 80% of the flows went to resource-rich economies in Africa, while inflows have stagnated or even declined in such countries as Bhutan, Burkina Faso, Djibouti and Mauritania. The concentration in a limited number of resource-rich countries has risen over the past decade.

Ten countries (Angola, Sudan, Equatorial Guinea, Zambia, United Republic of Tanzania, Myanmar, Cambodia, Bangladesh, Uganda and Mozambique in that order) had FDI stocks of more than $5 billion as of 2010, accounting for two-thirds of the total inward stock in all LDCs. Four mostly natural resources-exporting countries - Angola, Equatorial Guinea, Sudan and Zambia - received over half of total FDI into LDCs.

Country rankings in 2001 and 2010 point to the fact that FDI has largely targeted extraction industries such as oil and mineral resources. While in Asian LDCs services industries such as telecommunications and electricity have attracted most foreign investments, in Africa extraction activities account for the lion's share of inflows to LDCs.

"Although it showed a marginal rise in the past two decades, investment in the manufacturing sector in Africa has remained low, mainly because of a lack of political stability and availability of skilled workers," UNCTAD said, adding also that the low performance of investors in the manufacturing sector was possibly due to gradual liberalization of trade in major markets which has eroded the preferential market access of LDCs; and the end of some agreements has created added uncertainty.

European investors account for the largest share of FDI flows from developed countries to LDCs, with about 20-30% of the world total. However, the past decade has seen substantial shifts in world FDI patterns due to the emergence of FDI from developing economies, which have become major players with respect to international investment, exports and technology flows, especially in LDCs.

According to the report, the share of FDI in LDCs originating from developing and transition economies during the past decade has increased significantly. Especially, investment from China, India, Malaysia and South Africa is on the rise in both relative and absolute terms. Chinese FDI flows to LDCs have increased from $45 million in 2003 to $981 million in 2008, reaching some 3% of total FDI inflows to LDCs. Indian data suggest that most of their FDI in LDCs, amounting to about $80 million in 2005 (most recent year for which data are available) was in Sudan.

"TNCs from both countries have begun to play a significant role in facilitating mutually reinforcing links between trade and FDI in Africa. One consequence of their presence is that inward FDI is engendering an increase in Africa's exports."

In terms of modes of investment, the report finds that the bulk of FDI in LDCs is in the form of greenfield projects. FDI via M&As (mergers and acquisitions) is still limited, but their number has nearly doubled over the last decade. In 2003, there were 123 greenfield FDI projects undertaken in LDCs, with an estimated value of $35 billion, generating 45,330 jobs; by 2010, the number of recorded greenfield projects increased to 287, the value of the projects to $38 billion and jobs generated to 67,393.

According to UNCTAD, technological advances and organizational changes in the global economy and within TNCs have fundamentally altered the way goods and services are produced. Global value chains with a high degree of specialization of individual players have become the norm for the production of goods, and increasingly so for services as well.

"Participation in global value chains, however, requires an ability to produce specialized goods or services at a demanding level of quality and quantity, and within tight timelines. These demands have made it difficult for most LDCs to integrate into global value chains, aside from participating at the downstream level as providers of raw materials."

In 2009, LDCs represented only 1% of world trade flows (exports plus imports) in industrial goods, which highlights their marginal role in the production of goods for the global market. The majority of LDCs face stiff challenges in integrating into global value chains, either through the direct participation of local firms or by enticing TNCs to use them as production centres by affiliates. Key among these are high operating and trading costs, poor infrastructure, limited human capital and the shortage of potential local partners, the report says.

"Yet, participation in global value chains is key to the long-term development of LDCs, as it is the major stepping stone to access international markets and as it has the potential to generate low-skill but labour-intensive activities. As long as LDCs remain at the margin of global value chains, it is likely that they will stay on the losing-end of economic globalization."

The report finds that foreign affiliates of TNCs frequently account for a significant share of formal private sector employment in LDCs and rank among the largest individual employers. Yet, expectations about job creation related to FDI have frequently not been met.

In most cases, it notes, this is the consequence of the predominance of FDI projects in natural resource extraction, which are capital intensive. While they tend to generate significant employment during construction phase, they typically require relatively small numbers once in operation. Even large-scale mining activities may generate fewer than 1,000 direct jobs, which pales in comparison with the capital invested and the proportion it may represent in the country's overall investment flows.

The report proposes a plan of action for investment in LDCs for the forthcoming decade, whose emphasis is on seeking ways to ensure that the potential of FDI in helping LDCs achieve their national development goals is maximized.

According to the report, recommendations are built around five critical areas for action, namely, strengthening public-private infrastructure development efforts, boosting aid for productive capacity, enabling firms of all sizes to capture LDC opportunities, fostering local business and easing access to finance, and starting the next wave of regulatory and institutional reform.

In this context, the report recommends amongst others the establishment of an "LDC infrastructure development fund" that it says would improve these countries' abilities to attract investment by upgrading such factors as electricity supply, roads, railroads and computer or internet connections.

It also calls for an aid-for-productive-capacities-programme that would support technical and vocational training, education and entrepreneurship in LDCs. The intent is to provide LDC populations with skills that can attract foreign investment and spur sustainable economic progress, UNCTAD added. +