Prospects of Foreign Direct Investment in Bangladesh Economy

Prepared for: Dr. Pinki Shah Course Instructor: Microeconomics MBA Program

Prepared by: Md. Tanvir Hasan ID. 091051019 Master of Business Administration

Semester: Summer 2009

ULAB, Dhaka August 10, 2009

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Section A: Introduction

1.0 INTRODUCTION Economic supremacy is the foremost feature of the current world. In order to survive, Bangladesh has no other options but to attain economic development. Foreign Direct Investment (FDI) is recognized as a key component for economic growth for Bangladesh. Being one of the Least Developed Countries (LDC) with insufficient domestic savings rate for investment after fulfilling its basic needs, the importance of foreign investment is unquestionable. Foreign Direct Investment (FDI) will create employment, increase efficiency of labor, encourage technology transfer and develop new exportable sector. To attract more and more FDI the government of Bangladesh has been trying to establish private investment friendly environment. A number of opportunities have been given by the Government of Bangladesh (GoB) to attract foreign investors to invest in the country in some prospective sectors. As Bangladesh does not have sufficient domestic savings for investment, foreign investment is the most powerful ingredient for its economic development. In international business FDI has become a significant component for many countries. Nowadays Asian countries have a great influence in the global economy. Though Bangladesh is comparatively lagging behind of them, there are a lot of opportunities to attain economic development by undertaking some initiatives. Considering the above facts the overall purpose of preparing the paper was to identify the prospect of Foreign Direct Investment in Bangladesh Economy.

1.1 Defining FDI FDI is defined as an investment involving a long-term relationship and reflecting a lasting interest and control by a resident entity in one economy (foreign direct investor or parent enterprise) in an enterprise resident in an economy other than that of the foreign direct investor (FDI enterprise or affiliate enterprise or foreign affiliate). FDI implies that the investor exerts a significant degree of influence on the management of the enterprise resident in the other economy. Such investment involves both the initial transaction between the two entities and all subsequent transactions between them and among foreign affiliates, both incorporated and unincorporated. FDI may be undertaken by individuals as well as business entities. Flows of FDI comprise capital provided (either directly or through other related enterprises) by a foreign direct investor to an FDI enterprise, or capital received from an FDI enterprise by a foreign direct investor. FDI has three components: equity capital, reinvested earnings and intra-company loans.

Section B: Details Analysis

2.0 PRESENT FDI STATUS IN BANGLADESH As a developing country, Bangladesh needs FDI for its ongoing development process. Since independence, Bangladesh is trying to be a suitable location for FDI. However, the total inflow of FDI has been increasing over the years. In 1972, annual FDI inflow as 0.090 million US$, and after 33 years, in 2005 annual FDI reached to 845.30 million US$ and to 989 million US$ in 2006 (UNCTAD-2005, Bangladesh Investment Handbook 2007- BOI). Contribution of FDI was not remarkable until 1980, a year of policy change. That year government enacted the ‘Foreign Investment Promotion and Protection Act, 1980’ with an attempt to attract FDI. Enacting the Act government opens all sectors for FDI other than defense equipment and

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Exhibit I: FDI inflow trend from 1995-2006

machinery, nuclear energy, forestry in the reserved forest area, security printing and minting, and railways (Foreign Investment Promotion and Protection Act, 1980).

The table shows a fluctuating trend of the FDI inflows over the above mentioned 12 years. Data shows that in 1999 there was a sudden fall in the FDI, and again in 2001, 2002 and 2003 the falling tend continued for many reasons. Among others serious political unrest during the period was a major factor that discouraged foreign investment in these years and it took quite some time to regain the confidence of foreign investors. It stabilized afterwards but remained below the average achieved during 1997-2000. Later on during next two years period it becomes alive again.

The graph shows inconsistent proceeding of the FDI in Bangladesh since 1995. It is a matter of great concern that in spite of Bangladesh’s comparative advantages in labor-incentive manufacturing, adoption of investment friendly policies and regulations, establishment of EPZs in different suitable locations and other privileges, FDI flows have failed to be accelerated. However, the year 2005 and 2006 show a substantial improvement in FDI achievement.

3.0 FDI TRENDS The increasing trend of FDI in recent years is a good sign for Bangladesh. But a sector-wise analysis of FDI reveals that the foreign investors have so far made a major shift in their investments in Bangladesh. Table II (Sector-wise analysis of FDI inflow) shows a shift of FDI that has been made towards power and energy, manufacturing (especially in RMG) and telecommunications, whereas agricultural, industrial and trade and commerce have been neglected. Industrial sector that plays key role in the economic development of a country got foreign investment US$ 494 million in 2000, which is the last highest amount of FDI in industrial sector till 2005.

Table II: Sector-wise FDI inflow, 2000-2005 (calendar year) (US$ in million)

Sectors 2000 2001 2002 2003 2004 2005

Agriculture & Fishing (Total) 15.2 1.1 1.6 4.1 1.7 2.3 Power, Gas & Petroleum 301 192.4 57.9 88.1 124.1 208.3 Manufacturing Industry 193.5 132.2 142.9 165.2 139.4 219.3 Trade and Commerce 53.2 27.6 63.7 44 66.6 130.5 Transport and Telecommunication 5.4 0.9 48.5 45.9 127.5 281.9 Other services 10.3 0.3 13.7 2.9 1.1 3 Total 578.6 354.5 328.3 350.2 460.4 845.3 Source: Statistics Department of Bangladesh Bank.

Table I: FDI inflows 1995-2006 (US$ in million)

Year FDI inflow

1995 92.3 1996 231.6 1997 575.3 1998 576.5 1999 309.1 2000 578.6 2001 354.5 2002 328.3 2003 350.2 2004 460.4 2005 845.3 2006 989

Source: Statistics Department of Bangladesh Bank.

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Exhibit II: Sector-wise allocation of FDI in 2005

Exhibit III: FDI inflow during 2001-06 (US$ in million)

Owing to comparative advantages and an accommodative policy regime, a large chunk of the FDI has gone into the ready-made garment. In 2005, FDI inflows in Bangladesh have been widely spread among the key business sectors, where the profit is higher, concerning on telecommunication (33%), manufacturing (26%), energy & power (25%), trade & commerce (15%), service, agriculture & fishing (1%).

4.0 SOURCE OF FDI Bangladesh generally, depends on 36 countries across the globe for FDI. Among the sources, 21 countries belong to the developing transition economics. In 2005, FDI has been originated from 30 different sources dominated by the developed economies (51.45%) and a significant share of FDI also came from developing economies (43.23%).

5.0 INTEREST OF FOREIGN INVESTORS Bangladesh is one of the easiest locations for doing business in South Asia, better than Sri Lanka and India. Besides, persistent growth in FDI is the best testimony of a favorable business climate prevailing in Bangladesh (Doing Business in 2006: Creating Jobs, World Bank 2006) In 2005, total FDI inflow in Bangladesh was increased by 84 % amounting US$ 845 million- highest ever in any year since her independence. The growth is second highest in entire South Asia (Bangladesh Investment Handbook 2007-BOI). Bangladesh now ahead of India in terms of FDI Performance Index being ranked 116th among 200 economies while India is ranked 119th (World Investment Report 2006).

Source/Regions FDI inflow % of share

Developed Economies Western Europe- 245.90m European Union- 243.60m Switzerland- 2.30m North America- 142.50m Other developed economics- 46.50m

435.90 51.45

Developing Economies Africa- 48.40m Asia and the Pacific- 317m

365.40 48.55

Others ADB- 12.70m IFC- 31.70m Others- 0.60m

45.00 5.32

Table III: FDI inflow share in 2005

Source: Bangladesh Bank Enterprise Survey, 2006

Source: Investment Bangladesh Handbook-BoI

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A component-wise analysis of FDI inflow in 2005 shows that about 50% of FDI came as equity, 29% as reinvestment and the rest as intra-company borrowing. The higher reinvestment rate indicates unwavering confidence of foreign investors on overall investment climate of the country and competitiveness. In recent years, tremendous interests of foreign investors are shown to invest in Bangladesh. In FY 2005-06, major foreign investors include Dhabi Group of United Arab Emirates, Singtel of Singapore, Orascom of Egypt, YKK of Japan and Mircrosoft of USA. Besides, a number of large investment proposals worth about US$ 10.5 billion are at negotiation and/or approval stages. These include investment proposals from Indorama Group of Thailand, Luxon Global of South Korea, Toray of Japan, Delta Arabia and other proposals from China, Malaysia, India, Taiwan, UK, USA, Australia, Singapore, Thailand, Saudi Arabia, UAE and Kuwait.

6.0 COMPETITIVE ADVANTAGES

6.1 Location Geographic location of Bangladesh is ideal for global trades with very convenient access to international sea and air route.

6.2 Natural Resources Bangladesh is endowed with abundant supply of natural gas, water and its soil is very fertile.

6.3 Human Resources Bangladesh has a population of more than 138.8 million who are hard working and generally intelligent. There is a profuse supply of disciplined, easily trainable and low-cost workforce suitable for any labor-intensive industry.

6.4 GSP Facility Most Bangladeshi products enjoy complete duty and quota free access to EU, Japan, Australia and most of the developed countries and quota regime to USA had been ended on 1st January 2005. However, despite quota phase out, Bangladesh apparel has successfully taken up a better position in US market and experiencing substantial growth.

7.0 SECTORS FOR PROSPECTIVE INVESTMENT A number of competitive sectors exist for investment in Bangladesh. Textile, Spinning, Frozen Foods, Leather, Electronics, Agro-based Industry, Information Technology, Ceramics, Light Engineering, Natural Gas-based industries, Steel and Pharmaceuticals are the most prospective areas for investment. Government of Bangladesh provides different types of incentives and facilities to attract more investments in several areas.

7.1 Textile RMG and textile sectors have enormous investment opportunities. The phenomenal growth in RMG was experienced in the last decade. In 1984-85, no of Garment factories was 800 RMG jointly with knitwear accounted for more than 70% of total investments in the manufacturing

FDI Component Total ($m) Share %

Equity Capital 425.6 50.35% Reinvested Earning 247.5 29.28% Intra-Company Loans 172.2 20.37% Total 845.3 100%

Table IV: Component-wise FDI inflow 2005

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sector during the first half of the 1990’s. At present with about 4,000 factories and a workforce of two million, 80% of which are women, employing over 50% of the industrial workforce and having 75% of the total exports earning of the country. Government provides highly favorable policy framework for investment in these sectors.

7.2 Frozen Foods The frozen foods export is the second largest export sector of the country. Frozen food sector has credible opportunities in Middle East, EU and North American countries and Far Eastern countries. In 2004-05, total fish production was 22.16 lack metric tons of which 8.82 metric tons were shrimp. At present, there are 868 fish hatcheries and farm of which 2.18 lacks hectors of shrimp farm. Investment in frozen food sector with new technology and equipment has a vast potential for growth.

7.3 Leather Bangladesh produces between 2 and 3 percent of the world’s leather market. Foreign direct investment in this sector along with the production of tanning chemicals appears to be highly rewarding. Having the basic raw materials for leather goods as well as for the production of leather shoe, a large pool of low cost but trainable labor force together with tariff concession facility to major importing countries under GSP coverage, Bangladesh can be a potential off shore location for leather and leather products manufacturing with low cost but high quality. In 2004-05 total export of leather goods was 220.93 million US$ on the other hand it is 257.27 million US$ during 2005-06 FY.

7.4 Agro-based Industry Being an agrarian economy, agriculture has dominated in the economy for years. It has fulfilled the preconditions of access to input and raw materials in setting up successful agro-based industries. Alluvial soil, a year-round frost-free environment, adequate water supply and abundance of cheap labor are available in Bangladesh. Increased cultivation of vegetables, spices and tropical fruits now grown in Bangladesh could supply raw materials to local agro-processing industries for both domestic and export markets.

7.5 Information Technology Availability of substantial number of qualified and experienced young people in various branches of engineering, science and technologies have opened up the scope of profitable investment in these sectors. A growing number of computer training schools and institutes are being opened. Management of most of the IT firms is professionally strengthened with the Bangladeshis who have studied and worked in both North America and Europe, and returned home. The annual market size for IT including computer hardware, peripherals and software was estimated to be worth approximately US$ 20 million. The market is fast growing at an annual rate of about 25%. The country has over 400,000 PCs. Formalization of VOIP by the early 2003 and telecom deregulation in mid 2003 would boost the overall IT sector lucrative for investment.

8.0 SPONSORING AGENCIES & AREAS OF RESPONSIBILITIES Sponsoring agency means an agency engaged in promoting, assisting, supervising and administering as well as offering pre and post registration assistance to industries. The list of sponsoring agencies responsible for private sector industrial development and their respective areas of responsibilities are as follows:

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Name of the Sponsoring Agencies Areas of Responsibilities incl. Registration Power

Board of Investment (BOI) All industries under private sector other than mentioned at serial 2 and 3 below.

Registration of all industrial projects in the private sector outside the authorities of BSCIC and BEPZA.

For institutional facility purposes, registration of industrial projects financed by Commercial Banks or by different financing institutions outside the authorities of BSCIC & BEPZA.

Bangladesh Export Processing Zones Authority (BEPZA)

Industries located in EPZs.

Approval of all projects to be located in the EPZs

Bangladesh Small and Cottage Industries Corporation (BSCIC)

Small and cottage industries.

Registration of industrial projects having capital investment not exceeding Tk. 30.00 million (for BMRE maximum Tk. 45.00 million)

Financing Institutions (FI) and Commercial Banks (CB) including Development Financing Institutions (DFI) and Nationalized Commercial Banks (NCB)

Approval and financing of projects having investment of any amount.

9.0 INCENTIVES FOR THE FOREIGN INVESTORS The foreign investors will choose Bangladesh for their next for investment destination as Bangladesh conducted Bilateral Investment Agreement (BIA), Double Taxation, Treaties etc. to protect the interest of them. The investors also enjoy the following incentives investing in Bangladesh.

a) Tax Exemptions : Generally 5 to 7 years. However, for power generation exemption isallowed for 15 years.

b) Duty : No import duty for export oriented industry. For other industry itis @ 5% ad valorem.

c) Tax Law : i. Double taxation can be avoided in case of foreign investors onthe basis of bilateral agreements.

ii. Exemption of income tax up to 3 years for the expatriateemployees in industries specified in the relevant schedule ofIncome Tax Ordinance.

d) Remittance : Facilities for full repatriation of invested capital, profit and dividend.

e) Exit : An investor can wind up on investment either through a decision ofthe AGM or EGM. Once a foreign investor completes theformalities to exit the country, he or she can repatriate the salesproceeds after securing proper authorization from the Central Bank.

f) Ownership : Foreign investor can set up ventures either wholly owned on injoint collaboration with local partner.

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10.0 FACTORS AFFECTING FDI IN BANGLADESH The vital element and major factor about foreign investment of any country is political stability, stable government, sound economic policy, a strong industrial base and peaceful atmosphere. Bangladesh, like other developing countries, is far from achieving these ideal conditions although progress has already been made in some but not in all sectors. Some of the problems that cause poor inflow of FDI in Bangladesh have been highlighted below:

10.1 Bureaucracy The activities of bureaucrators in some government agencies create problems in the implementation of the project, thereby giving rise to acrimony and legal hassles. In consequence, these adversely affect the attractiveness of a country for future potential investment.

10.2 Weak Infrastructure The infrastructural inadequacy like, power, fuel supply, telecommunication, road and railway communication, required manpower, trained workers, modern management technique and above all inadequate and insufficient port and shipping facilities hamper foreign investment. However, these type of facilities are available in EPZs.

10.3 Political Unrest Political unrest, due to lack of understanding between government and oppositions, delays the implementation of the project. The recurrence of strike and hartal in the country pollutes the investment climate and affects the fruitful operation of any project. It makes the investors unhappy and also hampers image of the country to the foreign investors.

10.4 Lack of Good Governance: Lake of good governance stands in the way of promotion of FDI in Bangladesh. It has been observed that there is tradition to change established rules and regulation overnight to give benefit to particular applicant. Thereby causing uncertainty and shaking the confidence of investors. On the other hand, affiliation of workers union with political parties also hampers good governance.

10.5 Ineffective Judiciary System The old and outdated law and the poor functioning of judicial system in the country have discouraged many of the prospective investors.

10.6 Lack of adequate information The image of Bangladesh is unfavorable for investment to the outside world. The cultivation of favorable image requires dissemination of information related to macro economic situation, industry policies, lists and descriptions of political joint venture partners, privatization programmes, laws and regulations governing FDI, administrative structures and procedures relevant to FDI. Apart from these information, foreign investors may not likely to come to Bangladesh.

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Section C: Conclusion and Recommendations

11.0 CONCLUSION Bangladesh has considered FDI as more favorable factor for stimulating economic growth. A number of factor lie behind this new orientation: slowdown of the world economy along with political unrest in the international arena, declining trend in public capital or foreign aid and the globalization of production and services. Though there are some interrelated administrative barriers which result inferiority in policy formulation and implementation, competitive drawbacks, poor quality of skills and infrastructure, ineffective institutions, and below average governance which dampen potential of FDI. Besides the above, it has also been found out that Bangladesh is not full of hindrances of FDI, but some opportunities and prospects are also available in this host country. In very recent the quarrelsome political environment has been changed and hopefully, new era will be started of investment for the native and foreign investors.

12.0 RECOMMENDATIONS In the view of foregoing detail findings, discussion on the key findings and subsequent conclusions, a number of recommendations have been offered. It is suggested that the offered recommendations are prioritized before going into action. Some recommendations have policy implication and so those should be dealt with cautiously with inclusion of strong policy advocacy strategy in the process.

Following recommendations are being offered:

• Political reformation ensure of good governance; • Dynamic and independent government agencies, improve coordination among them,

and ensure accountability and transparency; • Developing diplomatic relations and devoting efforts to shift FDI track; • Ensuring power and energy supply.

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REFERENCE Bangladesh Bank Annual Report- 2006

FDI Inflow Survey 2005, Board of Investment, Bangladesh

Kafi, Md. Abdullahel et al (Dec. 2007), “Foreign Investment in Bangladesh: Problems and Prospects”, The Journal of Nepalese Business Studies-2007, Vol. IV No.1, pp- 47-61

Muttakin, Mohammad Badrul et al (2005), ‘The Investment Scenario in Bangladesh- Problems and Prospects’ Pakistan Journal of Social Sciences 3 (4): pp- 534-540 © Grace Publications, 2005

UNCTAD-2005, Bangladesh Investment Handbook 2007- BOI

Doing Business in 2006: Creating Jobs, World Bank 2006

Foreign Investment Promotion and Protection Act, 1980

World Investment Report 2006

URL: http://www.boi.gov.bd ;

URL: http://www.nbr.gov.bd