Can countries legislate to attract more investment?

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The effectiveness of legislating to address investment policy shortcomings is a recurrent debate in development circles. More specifically, do countries need a singular investment law? Should governments expend the political capital required to put in place a law if the likelihood of its implementation is questionable from the outset? Is it not better to work on more implementation-focused activities? And: If countries do undergo the reform process, what should it entail?

Revising or enacting investment laws is one of the first steps that many developing countries take to achieve its objectives for Foreign Direct Investment (FDI). In some cases, the purpose is to signal political will to reform; in other cases, changes are more substantial and seek to profoundly increase legal certainty and improve the value proposition for investors. Reforms may also arise from obligations that countries adopt under international investment agreements.

Investor certainty can bring substantial payoffs to host countries. Foreign investors want to be clear, among other things, about market access; about the requirements for business operation; about their rights and obligations; and about the accessibility and enforcement of dispute resolution.

Lack of certainty can have dire consequences. According to the 2013 Political Risk Survey by the Multilateral Investment Guarantee Agency (MIGA), almost 10 percent of investment plans were cancelled or existing investments were withdrawn due to various adverse regulatory changes in the preceding year. The value of such lost investment, coupled with the cost of international disputes that may arise from it, could climb to tens of millions of dollars for a single case.

But, this does not mean that enacting an FDI law is a guarantee of more investment. Effective reform requires, first, policy based on good practice and, second, implementation (legal, regulatory and administrative) through institutions that are up to the task. An investment framework should be implementable locally while remaining consistent with good practice.

Ideally, an investment law should be a part of a broader set of reforms dedicated to achieving specific objectives, such as more exports, jobs, productivity and other forms of value addition. All stages of investment should be addressed, including attraction, retention and linkage to the local economy.

A bespoke approach is a must. Many OECD countries do not have a stand-alone investment law, yet they account for the majority of FDI flows. The reason, however, is that these countries, by definition, have high-quality commercial environments. By contrast, in many developing countries, the investment climate tends to be very complex. An investment law is a useful tool to organize policy in such environments; however, much depends on the political will to reform. The major upside of a legal review is that it can open the door to a high-level discussion on the investment agenda, and that it can result in an agreement on a broader set of reforms by multiple stakeholders. The solution is not simply to introduce a developed-country investment framework into a developing country. Rather, the process is all-important.

How to better tailor legislative reform to a specific context remains a question that requires discussion and further research. Some food for thought may be found in recent impact literature on International Investment Agreements (IIAs). Upon ratification, these agreements become an integral part of a country’s domestic law. Studies, for example, indicate that ratified IIAs, in particular those liberalizing trade and investment simultaneously, seem to increase FDI in developing countries. It also suggests that some investment provisions (e.g.. liberal admission rules) matter to investors more than othersCertain sectors (e.g.. those with high initial "sunk cost") also seem to benefit from such agreements much more than others. Nevertheless, significant knowledge gaps remain, and targeted research would be a powerful way to inform the discussion on effective private sector reform strategies for attracting investment and the place of legislation within it.
 

 

Authors

Ivan Nimac

Head, Vienna Office, Trade and Competitiveness Global Practice

Jana Krajcovicova

Investment Policy Specialist

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