How to Knit Up Interests of Kazakhstan and TNCs
It's no secret that foreign investments played a key role in the economic rise of independent Kazakhstan, which, in many respects, was a result of an effective investment policy of the republic. Meanwhile, in the framework of accelerated industrial and innovative development, the main challenge for our country today is the reallocation of FDI inflows from the extracting sectors of the economy to the processing sectors.
Ups and downs
With the collapse of the USSR, Kazakhstan, like the other former Soviet republics, faced acute shortage of financial resources. Over the period of 1991–1996 alone, investments in fixed assets declined by more than 10 times, compared to 1990, that put the country on the verge of an investment crisis. In such circumstances, the government made a decision to attract foreign investors, primarily in the oil and gas industry. The state focused its efforts on creating a favorable investment climate, while the laws guaranteed long-term investments and ensured the stability of fulfillment of the concluded contracts. As a result of a strategic partnership with international oil companies, which had invested billions of dollars in the domestic raw material sector, Kazakhstan managed to enter the global market of hydrocarbons.
Kazakhstan was the first among the CIS countries to be awarded investment grade ratings from international rating agencies Moody's (in 2002), Standard & Poor's (in 2004) and Fitch Ratings (in 2004). According to experts of the UN and the World Bank, Kazakhstan today is among the most attractive countries for foreign investment. In 1993–2011, $146.633 billion of foreign direct investment was raised in the domestic economy. Lagging behind only Russia by the gross amount of FDI, Kazakhstan is the leader in the CIS in terms of FDI per capita and their share in the country’s GDP. It is noteworthy that in 2007–2009, in the midst of the global financial recession, when the global FDI flows declined almost twice, Kazakhstan, in contrast, sharply raised their inflows. Moreover, in 2011 their amount reached $19.85 billion, up $90 million on the previous record high recorded in 2008.
If to compare the structure of the gross FDI inflows by countries, here the Netherlands (39.9 % of all FDI inflows) is the leader; then France follows with a large gap (7.8 %), then China (5.9 %), the USA (5.2 %), Britain (4.6 %), Russia (3.9 %), the Virgin Islands (British) Islands (3.3 %), and Japan (3.1 %). The list of the countries that have invested in Kazakhstan's economy includes more than 120 countries.
Meanwhile, despite the positive dynamics of investment inflows, they have not undergone substantial diversification. The analysis of the sectoral structure of the 100 largest investor companies in Kazakhstan by sales volume showed that most of these companies still operate in the oil and gas sector of the country. The activity of the investors in the fuel-and-energy sector and mineral and raw material sector is much higher than in the real sector of Kazakhstan’s economy.
In particular, of $146.633 billion of the FDI raised in 1993–2011, $56,779.2 million (38.7 %) were directed to geological exploration and prospecting, while $44,883.9 million (30.6 %) in the extraction of raw materials. In the processing industries foreign corporations invested only $15,411.8 million (10.5 %). Further it follows trade with its $7,322.7 million (5 %), financial activities – $7,155.0 million (4.88 %), construction – $3,335.5 million (2.27 %), as well as transport and communication – $2,391.2 million (1,63 %). At the same time, the share of other types of economic activity was slightly more than 1 % of all the FDI.
Because of the extremely uneven distribution of capital investment, the imbalances in the industries are aggravated by imbalances at the level of economic development of the regions. According to data of the Agency for Statistics, about 60 % of all the investments in the country fall on the cities of Almaty and Astana, and Western Kazakhstan, Atyrau, Aktobe, Mangistau and Kyzylorda regions (where the raw material sector enterprises are concentrated). In these regions, more than 80 % of all the enterprises with foreign participation and affiliates of the fuel-and-energy sector operate.
We have to admit that favorable conditions for investment in the non-raw material sectors, including the granting of tax privileges and preferences, and the giving of guarantees against changes in the law, which are provided for by the laws of Kazakhstan, have failed to contribute to intensive growth of capital investment in the industries, producing products with high added value. This is quite clear; the implementation of science-driven and high-tech projects is usually associated, as a rule, with greater investment risk than that in the extracting industries. Accordingly, to attract investors in such projects, it is necessary to create to the maximum comfortable conditions for them and to reduce risks. But this is not an easy task against the backdrop of strengthened global competition for FDI.
The emphasis is apparent
Analysis of the polls conducted among foreign investors uncovered a number of factors that constrain them from participating in non-raw material projects in Kazakhstan:
· Lack of consistency in implementing the state investment policy;
· Instability of the legislation and the lack of mechanisms ensuring compliance with the laws and contractual relations;
· Poor condition of competition in attracting investments, including customs and foreign exchange treatment;
· Poor development of infrastructure and services that provide the raising of investments, including financial, banking, consulting and transportation areas, information and analysis, SEZ, and etc.;
· Instability of the government administration system in attracting investments (continuous reorganization of the central agency dealing with foreign capital, "gaps" in the rights, responsibilities and competencies across numerous departments, as well as the intricacies of their duties;
In this regard, in 2010 under the 2010–2014 state-run program of accelerated industrial and innovative development, the Government of Kazakhstan launched a reformatting of the interaction with foreign investors. Thus, in October 2010 they adopted the 2010–2014 Program of Raising Investments, Development of Special Economic Zones and Exports Promotion. Under this, they started working with large foreign companies from key investor countries simultaneously on 200 investment initiatives. In two years, they arranged and conducted more than 20 international business forums with participation of transnational companies. As a result, about 5,000 foreign investors visited Kazakhstan in 2010, while in the last year this number rose to 10,000.
In addition, the National Investment website www.invest.gov.kz was launched in 2010, supported in 12 foreign languages where everyone can get all necessary information about business conditions in the country, up to the cost of utilities in every region.
To improve the investment-related laws, a new law on special economic zones was enacted in 2011, as well as the law on state support of industrial and innovation activities, providing a considerable expansion of the existed benefit package and simplification of licensing procedures for the SEZ members. However, in 2011 the Ministry of Industry and New Technologies (MINT) proposed to reinstate the provision concerning the stability of legislation back in the Law on Investment, similar to that provision which was in effect in 1994–2004, but now to apply it for the processing sector alone.
According to studies by MINT, the current investment capacity of Kazakhstan has sufficient potential for growth. According to the Minister of Industry and New Technologies Asset Issekeshev, through raising of competitiveness of the economy and more efficient use of advantages alone, the annual FDI flows can increase by $10 billion. To implement this possibility, the said Ministry developed a National Plan of Action on Raising Investment, development of SEZ and export promotion, which was approved by the Government on December 23, 2011.
The plan of action, first of all, provides for more systematic work with foreign investors. For this purpose, the priority industrial sectors were identified, and on their basis 20 priority investors countries were selected by the size of their investment in these sectors. Based on the analysis of the strategies of leading companies from the given countries and the prospects of development of a particular sector of the domestic economy for each of these companies, the approximate time periods involved and the number of transnational companies were identified. So, before 2014 work will be carried out with 78 multinational corporations, and in 2015–2020 theirnumber will grow to 81 TNCs.
With this, the plans are to carry on individual negotiations with every large potential investor. Such individual approach involves the conducting of a road-show in the priority countries, as well as the development and implementation of "road maps" for interaction with the target investors. This includes assistance in passing through the procedures related to the launching and conducting of business in Kazakhstan, arrangement of meetings with key political leaders and top managers of leading domestic companies, providing consulting services both at the stage of investment project development and its implementation, and post-investment support.
An important factor of work with the investors will be their support in the regions of Kazakhstan. For this, investor service centers will be set up in every region, ensuring prompt and proper response to the applications of foreign investors in the regions and, in fact, will serve as the regional representative agencies on export and investment of KAZNEX INVEST.
In addition, now the issue of setting up coordinating councils on investment climate under the regional administration offices (akimats) in the cities of Astana and Almaty is under consideration. Their main task will be to assist the investors in solving any problems, including issues related to cooperation with government agencies.
At the government’s level a Committee on Investment will be set up, which will play the role of an investment ombudsman. As a consulting and advisory body under the Cabinet of Ministers (by analogy with the Foreign Investors’ Council, which acts under the President of the country), the committee will develop proposals with regard to coordination and control activities of the government agencies and national holding companies on attraction of investments, issues of ongoing activities of the investors and protection of their rights and interests.
We'll have to fight
In the coming few years, the government’s role during the processes of structural changes in the FDI will be critical; thus, new tools, being introduced by the Government under the program of attraction of "non-raw material" investors are, in their essence, quite correct and timely. Work in this given direction has already started, and visits of our official delegations to foreign countries more often end with the conclusion of new agreements and memoranda in the processing sector. No wonder, in the latest rankings called Change Readiness Index 2012, prepared jointly by KPMG and the think tank International Development Institute, Kazakhstan ranks fifth of 60 countries, lagging just behind Chile, Tunisia, Taiwan, and Jordan. In this ranking, which assesses the ability of the emerging markets to adapt to rapidly changing global economy, we are far ahead of the countries such as China, Malaysia, India, Brazil, Turkey and South Africa. Of our neighbors among the CIS countries Ukraine ranks 37th while Russia ranks only 51st.
At the same time, the task of Kazakhstan to attract FDI is complicated by the fact that today against the backdrop of a decline in direct investment flows, more and more countries in the world join the struggle for them. According to data of the World Investment Report 2011, promulgated by the United Nations Conference on Trade and Development (UNCTAD), in 2010 the global FDI inflows rose by just 5 % to $1.24 trillion. With this, if the global industrial production and trade already returned to their pre-recession figures, the volume of the FDI flows remained about 15 % lower than the average pre-recession level and nearly 37 % below its peak in 2007. According to UNCTAD, in 2011 alone, FDI flows reached $1.4 trillion to $1.6 trillion. It is expected that in 2012 they will come to $1.7 trillion, and only in 2013 they will return to their peak level at $1.9 trillion.
However, the post-recession state of the business environment is fraught with many uncertainties. Some risk factors such as the unpredictability of global economic governance, a possible large-scale sovereign debt crisis, the imbalances in budgets and financial sectors of some developed countries, and rising inflation and signs of overheating of the leading states with emerging markets can hinder the rise in the FDI.
That fact that over the past two years the developing countries increased even more in their weight both as the recipients of FDI and the foreign investors can be referred to the important trends that should be taken into account by Kazakhstan with regard to FDI. Since the center of international production, and more recently, of international consumption, shifts to the countries with economies in transition, the global players more actively invest their money in projects aimed at the development of sales markets in these countries. In particular, in 2010 the emerging markets spent for the first time more than half of global FDI flows, while the six economies in transition were themselves in the list of twenty largest investors. The dynamics of activities of TNCs from the countries with emerging economies look in contrast with the background of low investment activity of corporations from developed countries, whose foreign capital investments are still about half of the peak in 2007.
For Kazakhstan, which is now more focused on attracting the companies that are leaders in terms of advanced technologies and know-how (and these are more likely the TNCs of the developed countries) rather than simply on the inflow of cash, this state of matters can hardly be called successful. Besides, our traditional slogan "Minerals in exchange for investment" for the companies operating in the processing industries is hardly attractive other than for the raw material TNCs.
There is an alternative
Meanwhile, global economic cooperation today is no longer developing due to only FDI and trade. In recent years, the role of an intermediate link – the non-equity modes (NEMs) of international production – increased. These include contract manufacturing and contract farming, outsourcing of services, franchising, licensing, management contracts and other types of contractual relations through which TNCs coordinate the activities within their global production and selling chains (GPSC). The NEMs allows them instead of setting up a production branch (i.e. the placement of FDI) in the host country to transfer the production functions to the contractor-manufacturer or to issue a license to local companies for manufacturing of products. For the investors themselves, the NEMs projects are characterized by relatively low initial capital costs and reduced risks. In their turn, the host countries are provided the possibility to integrate into GPSC. According to data by UNCTAD, in 2010 alone the sales by using the described mechanism exceeded $2 trillion, and this took place mostly in developing countries.
One of the main advantages of NEMs is that they represent more flexible mechanisms of interaction with local companies that encourage TNCs to invest in their partners through the transfer of knowledge and technologies.
In some industries NEMs can become a more appropriate alternative than FDI. For example, in agriculture, contract manufacturing provides better solving of issues related to responsible investing (respect of the rights of local farmers and sustainable use of resources) than large-scale acquisition of land. Today, contract farming spreads throughout the world, covering more than 110 developing countries and the output of a wide range of agricultural products.
In the automotive industry, contract manufacturing accounts for 30 % of global exports of car components and a quarter of jobs within the industry, while in the labor-intensive industries such as the clothing, footwear and electronics industries over 50 % of global trade falls on NEMs. A striking example of the successful application of this method is the experience of China.
Thus, for the countries which seek to increase their export, which is quite applicable to Kazakhstan, NEMs can become a sort of "highway to the market," the initial point of access to production-and-supply chains by TNCs, with further gradual building up of independent export potential.
NEMs are a good means of increasing technological capabilities of the host country. By essence, they represent transfer of intellectual property protected by the contract. In a number of countries of the East and Southeast Asia, Eastern Europe and Latin America, the gaining of knowledge and technologies on the basis of NEMs in the electronics, clothing and pharmaceutical industries, service sector and outsourcing sector has led to the transformation of local companies into international corporations and even to their turning into technological leaders.
In general, NEMs can make significant contribution to the development of domestic production potential and improvement of long-term prospects for industrial development of the country, since the corporations have the need for domestic entrepreneurs and domestic investment. With this, the access to funding for domestic companies is facilitated, either directly as part of the measures under the TNCs program, as the TNCs provide support to the domestic partner, or through implied warranties arising from the fact of partnership with the large transnational corporation.
Based on the foregoing, we can say that for our country it would be advantageous to look seriously at the benefits provided by NEMs with regard to relations with foreign investors. According to the recommendations of experts from UNCTAD, to successfully exploit the potential of this mechanism, the public agencies responsible for the development of the investment policy have to answer the following key questions. First of all how to integrate policy, with regard to NEMs, into the overall context of the national development strategies. Secondly, how to ensure support to the development of the production potential of domestic companies which could become part of the global production-and-supply chains. Thirdly, how to develop the tools to promote and encourage NEMs.