Improving monetary environment to attract foreign investment

Article written by M. S. Qazi

The latest data released by the central bank shows that foreign direct investment (FDI) fell by 29 per cent to $1.232 billion during the first 10 months of current fiscal year from $1.724 billion in the corresponding period of last year, depicting a fall of $492 million. Net foreign investment, comprising of FDI and portfolio investment both, decreased by 8.6 per cent in the first 10 months of current fiscal year. In the same time period, net inflows of foreign investment reached $1.534 billion, as compared to $1.678 billion in FY2010, depicting an overall decline of $144 million. These figures are certainly not encouraging especially when compared to FDI and portfolio investment figures in other countries in the region.

The domestic private investment situation is not encouraging either. It has been on a declining trend during the last three years primarily because of tight monetary policy pursued by the SBP to contain inflation and expansionary fiscal policy adopted by the government through borrowing from central and commercial banks that has crowded out borrowing by the private sector. It resulted in decrease in import of machinery and equipment and has reduced industrial output for domestic and foreign markets. According to recent data, the gross fixed capital formation dwindled by 16 per cent over and above 8.5 per cent contraction that took place last fiscal year. In addition, investment in large scale manufacturing (LSM) sector reduced by 32 per cent during current fiscal year, which was above 17 per cent contraction witnessed last year. The investment-to-GDP ratio had also plummeted to less than 17 per cent last fiscal year in comparison to 22 per cent in mid-2000s.

The present situation calls for undertaking concrete measures to attract domestic and foreign investment in various sectors of the economy for giving an impetus to economic growth and development. Several factors, including poor infrastructure, energy crisis, deteriorating law and order situation and unstable government policies are responsible for the decline in the country’s investment level. Moreover, lack of an effective privatisation programme is also one of the major hurdles in the way to attract investment. Privatisation has practically hit a standstill since 2008 and FDI has plunged to the lowest figure of $2.08 billion by the end of FY2009-10 compared to $8.42 billion in 2006-07. These events are attributable to lack of transparency and prevalence of corrupt practices that end up in litigation in the Supreme Court, as witnessed at the time of privatisation of Steel Mills a few years earlier. It eroded investors’ confidence. Economic slowdown, high interest rates and chronic circular debt have also hampered private investment. Despite these conspicuous hitches, entrepreneurs are keen to invest in a few sectors of the economy such as oil and gas exploration. However, potential investors are being held back from doing so as they are waiting for the domestic investment environment to improve.

The case of Karachi Electric Supply Corporation (KESC) is a prime case that demonstrates settlement of management-labour row in a privatised commercial organisation according to the existing labour laws, rather than through political intervention. On Jan 20 almost 4,000 KESC employees-while protesting against the decision of firing them- went on a rampage at the KESC head office. They resolved not to leave the premises until they were reinstated. The police force deployed at the premises stood passively to watch the drama unfold and did not even bother to do something to protect private property being destroyed. The inaction by law enforcement agency sent a clear signal to investors that the state will not come to their rescue when intervention on its part would be essential. Subsequently, a committee comprising federal and provincial ministers successfully negotiated with the management of KESC to reinstate the laid-off employees. The terms and conditions of the reinstatement were not made public but the stance adopted by the KESC management later on to review the Voluntary Separation Service again and decide about laying-off of non-core employees indicated that the matter was hardly resolved to its satisfaction. The issue has resurfaced again as the company wants to use its right to retrench the staff according to the provisions of law. Nevertheless, the entire fiasco must have sent a downbeat message to the business and investment community.

Pakistan is in dire need of investment, both domestic and foreign, however it seems unlikely in the existing circumstances. The government needs to evolve a feasible privatisation strategy to restructure loss-making state-owned enterprises into profitable ones to attract investment. It also needs to change the overall fiscal and monetary environment to attract investment, for which the following suggestions would be valuable:-

(1) The government should strengthen the rule of law to win the confidence of investors.

(2) Transparent decisions to award mega projects ought to be made to satisfy all the stakeholders, for reducing the prevalence of corruption. It is necessary to build confidence of investors in state institutions and their process of decision making.

(3) Fiscal and monetary policies must be reviewed particularly with respect to reducing fiscal deficit, inflation and discount rate to promote investment.

(4) Efforts have to be taken for infrastructure development and resolution of energy crisis.

(5) Security environment should be improved at the earliest.

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