1. Investment Climate & Foreign Direct Investment in Africa
Emmanuel Nnadozie, Director, EDND
&
Angelica Njuguna, Economic Consultant
United Nations Economic Commission for Africa
Addis Ababa, Ethiopia
6th African Economic Conference
25-28 October 2011

2. Outline of Presentation
Introduction
Patterns and Trends of FDI in Africa
Investment Climate & FDI
Business Environment & Doing Business Africa
Empirical Model, Data, & Results
Conclusions & Policy Recommendations

3. Introduction The role of FDI:
Providers of technology; management expertise; link to external market; employment; and finance for development
- May lead to structural transformation & rapid economic development. E.g. Japan & NICs

4. Introduction Developed countries are the preferred destination of FDI
Over 50 % of world’s shares go to developed countries

5. World’s FDI Inflows, 2009

6. Introduction
Distribution of FDI inflows among the developing countries are uneven.
FDI in Africa remains small and lowest

7. Distribution of FDI, Developing Regions, 1970-2009

8. FDI in Africa
Concentrated in few countries mostly with natural resources
60 % go to 5 countries (Angola, Egypt, South Africa, Nigeria & Libya)
79 % go to 10 countries
92 % go to 20 countries
8 % go to remaining 33 countries

9. Top 10 countries main FDI destination
Belong to middle income countries
Main FDI to 6 countries is in mining & quarrying (oil/hydrocarbon sector)
Main exports of these 6 countries are petroleum & petroleum products ranging from 47 % to 97 % of total exports
However, Egypt, South Africa, Morocco & Tunisia’s exports are more diversified to other sectors.

10. Policy Questions
If the main driver of FDI in Africa is the natural resource endowment.
What is the chance of a poor, less-endowned African country to attract FDI?
What do African governments do to obtain more FDI if it is believed to help in economic development?

11. Investment Climate & FDI
A growing consensus in literature believed that domestic “investment climate” matters to attact FDI.
Investment Climate refers:
Foreign investment regime
General investment environment

12. Investment Climate & FDI
Different studies used broad indicators to describe investment climate (sound economic & political conditions, infrastructure, financial development, etc.)
However, the consensus is: investment climate constraints negatively influence FDI inflows.

13. Reforms & business environment
African economists & policy makers believe in a friendly business environment
E.g. Uganda attacks FDI due to its predictable investment climate
Governments institute reforms to improve their business environment: reduce taxation; privatization; governance reforms (APRM); stabilization of macroeconomic environment

14. Business Regulations & Ease of doing Business
Fundamental premise of “doing business” is that economic activity requires good rules
In 2003, the World Bank introduced ranking of countries according to the “ease of doing business” index.
*Index indicates that the lower its value the easier it is to do a business in a particular country.

15. Which indicators make up the ranking?
Starting a business:
procedure, time, cost and paid-in minimum capital to open a new business
Dealing with construction permits:
procedures, time and cost to obtain construction permits, inspections and utility connections
Employing workers:
Difficulty of hiring index, rigidity of hours index, difficulty of redundancy index, redundancy cost

16. Which indicators make up the ranking?
Registering property:
Procedures, time and cost to transfer commercial real estate
Getting credit
Strength of legal rights index, depth of credit info index
Protecting investors
Strength of investor protection index: extent of disclosure index, extent of director liability index and ease of share holder suits index

17. Which indicators make up the ranking?
Paying taxes
Number of tax payments, time to prepare and file tax returns and to pay taxes, total taxes as a share of profit before all taxes borne
Trading across borders
Documents, time and cost to export and import
Enforcing contracts
Procedures, time and cost to resolve a commercial dispute
Closing a business
Recovery rate in bankruptcy

18. Ease of doing business ranking
Region Ave. Ranking
OECD
East Asia & Pacific 83
Middle East & N Africa 92
Latin America & Caribbean 95
South Asia
Sub-Saharan Africa 139
Source: WB 2010

19. Doing Business in 20 most favored-FDI countries
14/20 countries favorite FDI destinations have rank better than 139 (African average).
South Africa, Namibia, Tunisia, Zambia & Ghana made it to top 100 countries (out of 183)

20. Doing Business in 20 most favored-FDI countries
Doing business is easier compared to average African country, in many stages of business life cycle:
starting a business takes less days/procedures
registration of properties takes less days/procedures
Easier access to credit
Trading across border is cheaper
Lower taxes
Higher recovery rate of investments

21. Why is it important to do this study?
There is a perception that FDI in Africa is mainly driven by natural resource endowment.
Since natural resource endowment is exogenous variable, resource-poor countries have small chance to attract FDI.
FDIs in extracting industries have limited linkages to other sector of the economy.
Reforms to improve business environment/regulations is a costly exercise and therefore, is it really worth it?

22. Empirical Model
Theoretical framework was based on the behavior of a rational economic agent, where firm’s main objective is to maximize profit
i.e. Foreign investors invest in another country due to profit or return to investment, which is a function of total cost and quantity produced.
 minimizing total cost of doing business or maximizing profit for FDI looks for favorable investment climate.

23. Empirical Model FDI = F (policy variables, economic variables,
governance/political variables,
others e.g. structural variables)

24. Data Two sets of data from World Bank
CPIA = country policy and institutional assessments
* Macroeconomic ratings
* Transparency ratings
* Business ratings

25. Data
(2) Ease of doing Business Index – average of country’s rankings on the 10 topics presented earlier. This is to represent business reforms/regulations.
plus: population, oil production dummy
education
inflation, GDP per capita
openness
transparency index

26. Regression Results using CPIA Data
Dependent variable: FDI
Variable
Regression 1: Coefficients
Regression 2: Coefficients
Constant
Business Rating
Macro Rating
Tranparency Rating
Oil_production Dummy
GDP
(-9.01) ***
69.43
(6.91) ***
76.81
(6.95) ***
51.73
(2.86) ***
653.21
(13.53) *** ..
-46.35
(-1.82) *
11.42
(2.02) **
-14.01
(-3.06) ***
11.76
(0.78)
231.41
(4.08) ***
0.06
(12.67) ***
Adj R2
N = 38 countries
Total panel = 152 observations
0.14
0.53

27. Panel data estimation with Ease of doing Business Index
Dependent variable: FDI
Variable
Regression 1:
Coefficients
Regression 2:
Constant
Ease of doing business
Inflation
Population
Openness
Oil_dummy
Transparency ratings
275.02
(1.31)
-2.71
(-2.45)**
-33.78
(-4.69)***
31.03
(8.56)***
1.39
(1.68)*
845.25
(3.87)*** ..
(-0.49)
-4.06
(-2.71)***
-45.61
(-3.78)***
27.54
(6.36)***
3.50
(1.94)*
361.06
(1.58)*
207.33
(2.74)***
Adj R2
No of countries
Total panel obs.
0.61 35 70
0.75 25 50

28. Conclusions & Policy Implications
Reiterate that structural, economic, political and policy variables matter
Business reforms & regulations matters
Countries in Africa that are not endowed with abundant natural resources can still attract FDI
African countries should not only improve economic and political for business but also on policies and business reforms and regulations.

29. Thank you