Capital Flows to IDA Countries

Transcription

1 Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Capital Flows to IDA Countries International Development Association May 1998

2 Capital Flows to IDA Countries While private capital flows to the developing world Y have been increasing steadily over the last decade, and have tripled since 1990, much of these flows have bypassed most IDA countries. Among all the IDA-eligible countries /, most of the increase in private capital flows has been directed towards China, and very little has reached the IDA-only countries. Among the IDA-only countries, foreign direct investment (FDIY/ rose at an average real rate of 20% a year between 1991 and 1996, but this increase was from a small base of approximately $2.3 billion. Figure 1. FDllnfiows to Developing Countries Oeveloping Countries _IOA Eligible Countries -tr-ioa-only.olllnt""" Because many IDA borrowers have benefited very little from the recent surge in FDI flows, Official Development Assistance (ODA) remains by far the largest source of external capital for these countries. The relative importance of ODA to IDA borrowers has lessened only slightly over the last decade (see Figure 2), and ODA flows are now three times the size offdi flows to these countries. This situation contrasts sharply with the trends experienced over the last decade in many other developing countries where there has been a complete switch in the 11 "Developing world" is dermed here as the 158 countries in the low-income and middle-income categories as detennined by the World Bank. Low-income countries are those in which 1996 GNP per capita is no more than $785; middle-income countries are those in which GNP per capita is between $786 and $9,635 (calculated using the World Bank Atlas method). 2/ There are 80 IDA-eligible countries, including 63 IDA-only countries and 17 blend countries. IDA-eligible countries (except some small islands) have a per capita income below $925 in 1996 dollars. The IDA-only countries are unable to borrow from IBRD due to lack of creditworthiness whereas the blend countries are creditworthy for IBRD lending. China and India are the largest blend countries. 3/ In this note, foreign direct investment (FOI) is used as an indicator of private capital flows. Other types of private capital flows such as portfolio equity, bonds and commercial bank loans tend to be very small in the poorer developing countries and are more volatile.

3 - 2 - roles played by private capital and ODA. In 1985, ODA flows to the developing world as a whole were twice the size offdi flows; now FDI flows are twice as large as ODA flows. 30 T Figure 2. Capital Flows to IDA Only Countries ~ 5 ~ i, '" = "'" = CODA Net Official Deveiogment Assistance and Official Aid~ World Develogment Indic.tars t Foreign Direct Investment Considered together, developing countries have witnessed a dramatic surge in foreign direct investment (FDI) flows since However, it is useful to disaggregate this group to see exactly where the flows are going. Foreign direct investment in China surged from $4 billion in 1991 to $40 billion in 1996 and now represents 31% of all FDI flowing to the developing world and 76% of the FDI flowing to IDA-eligible countries. Ifwe look at the IDA countries without China, we find that they have received only 11 % of the FDI inflows to the developing world during the period; this compares to 18% in the late 1980s (see Figure 3). The proportion offdi going to the IDA-only borrowers, has remained unchanged over these two time periods, and accounts for only 5% of the flows to the developing world. In absolute terms, FDI flows to IDA-only countries have grown since Annual flows to.ida.. only.countries stood at just under $7.00 per capita in However, Vietnam has accounted for a large part of the increased FDI flows to this group of countries during the 1990s. In fact, Vietnam received 30% of the FDI going to IDA-only countries during the period. If Vietnam is excluded from the analysis, FDI flows to IDA-only countries rose at an average real rate of only 12% a year, and per capita flows amounted to less than $4.00 per capita in In contrast, FDI flows to the developing world as a whole rose at an average real rate of 25% a year between 1991 and 1996 to stand at $22.00 per capita in 1996.

4 - 3 - Figure 3: FDI Inflows China 16% Rest of developing countries 66% China 37% Rest of developing countries 52% IDA Countries less China 18% IDA Countries less China 11% Outside of China, much of the increase in private capital flows during the period went to middle-income countries. In East Asia, Korea and Indonesia also witnessed a surge in private capital during the early 1990s, but suffered a drastic decline in mid-1997 as a result of the financial crisis that hit the region. In 1996, the following ten countries accounted for over 80% of total FDI to the developing world: China, Brazil, Mexico, Indonesia, Poland, Malaysia, Argentina, Chile, Peru and Colombia 4 The growth in FDI flows to developing countries during the 1990s has been spurred mainly by three factors: developing countries' liberalization of their economies, particularly privatization and the lifting of restrictions on FDI; strong growth in the GDP and trade of the major recipients offdi flows; and the falling cost and rising quality of communication and transportation services which have caused private corporations to shift toward more integrated global investment and production'. In addition, trade expansion and export orientation promote FDI flows. Analysis at both the firm and the country level shows a strong positive link between foreign investment and trade flows. Regional economic integration can induce higher foreign investment flows by expanding markets, but if integration is accompanied by increased trade or regulatory distortions, these may outweigh the benefits of the increased FDI to the economy6. Intra-regional FDI has also been shown to be an important source of investment. Many of the Asian economies have benefited from intra-regional investment; for example, from August 1994 to March 1996, more than half of the investment in Cambodia came from Malaysia and Singapore. Similar flows of intra-regional investment are not observed in Africa yet, although southern African countries could potentially benefit from.such.a.pr,ocess in the context offdlfrom South Africa'. As overall world trade grows and regional trading blocks solidify, those IDA countries that have not liberalized their trade regimes or have not become part of a regional market could be left behind. 41 In declining order of size of flows. 51 Global Development Finance, World Bank, March Ibid. 71 World Investment Report 1997: Transnational Corporations, Market Structure and Competition Policy, UNCTAD.

5 -4- In order to attract private capital, a country must undertake a broad range of policy reforms and establish credibility with the outside world. Experience has shown that if a government commits to just several reforms but does not achieve "a critical mass" of policy reforms, private investors will not respond positively. In addition, many developing countries have experienced long periods during which reforms were followed by reversions to poor policies. A country must maintain good policies for a substantial period of time to establish credibility with private investors. The time lag between the point at which a country initiates reforms and the point at which private capital begins to respond may be longer than was expected in the 1980s. This phenomenon would explain why many of the reforming IDA borrowers are not yet receiving the levels of private capital that are consistent with their policy performance (see Figure 4). Figure 4. FDI Per Capita (US$) o India China Other Good Performers IDA-eligible countries in the top two performance QuintUes as of the 1997 Country Performance Assessment. Official Development Assistance At the same time that FDI flows to IDA-only countries have stayed at a relatively low level, Official Development Assistance (ODA) to these countries has been declining. Figure 5 (below) shows both concessionallending and grants from all sources. Total development assistance to IDA-only countries has fallen by 28% in real terms since 1990 and is now at the same level as it was in Concessionallending has fallen by more than 50% from a high of US$6 billion in 1986 to US$4 billion in Grant funding, while larger now than a decade ago (both in absolute and relative terms), has not been able to compensate for the decrease in multilateral and bilateral concessionallending over the last seven years.

6 - 5 - Figure 5. Net ODA Flows to IDA-Only Countries Concessional lending CGrants Among IDA-eligible countries as a whole, development assistance has followed the same pattern as in IDA-only countries: total ada has dropped by 31 % since Concessional lending has fallen more gradually from its peak ofus$9 billion in 1986 to US$6 billion in 1996, and grants, while larger now than they were a decade ago, have fallen by 32% from their peak of US$14.5 billion in While total development assistance to IDA borrowers has fallen over the last seven years, IDA funding has risen in absolute terms. IDA flows to IDA-only borrowers have maintained approximately the same level since Because other sources of development assistance to IDA countries have fallen while IDA has maintained or increased its funding, IDA now plays a relatively larger role in the ada provided to many of these countries. Among IDA-only countries, IDA accounts for 16% of total concessional financing, up from 14% in 1990 and 12% in 1991.

7 -6- Figure 6. Net ODA Flows to IDA-Only Countries 25 T I 20 ~ I V? c; ~.2i -C/1 ::: OtherODA o IDA Investment Needs Against this backdrop of decreasing public capital flows and a decreasing share of private capital flows, a number of IDA countries are at a critical juncture. In countries such as Armenia, Cote d'ivoire, Senegal and Uganda, governments have initiated policy reforms, and economies have begun to grow fast, experiencing growth rates in the 6-10% range. However, these economies will require more investment in order to sustain these growth rates into the medium and long term. In many cases, reform economies are able to grow at high rates in the short term because the reform of poor policies creates a phase of easy growth. Many of the reforming IDA borrowers currently have low investment/gdp ratios, on the order of 10-15%. This compares with investment/gdp ratios of25-37% in other fast growing developing countries. For example, from , China grew at an average annual rate of 12.5% and had an investment/gdp ratio of36% during that time. In many of the other IDA economies, in addition to the government's maintaining sound and credible macroeconomic policies, investment levels must increase, or their growth will decelerate. The average investment/gdp ratio for IDA countries in the top two performance quintiles (excluding China) during was 18%. In order to increase this ratio to 25%, a level that can sustain high growth rates, in 15 of the good IDA performers, approximately $12 billion per year of additional resources would be necessary (see Table 1). While some of these additional resources could come from increased domestic savings, in the short and medium term, this can only be a modest addition since a larger amount would imply a decrease in consumption. Therefore, the increase in investment would have to be financed externally, through some mixture of public and private foreign inflows.

8 -7- Table 1: Investment Levels In Selected IDA Countries with Good Policy Performance Inv/GDP Required Country Investment GOP Ratio Inv. Level :!! (US$mil) (US$ mil) (US$ mil) Armenia 250 2,843 9% 711 Bangladesh 4,842 29,110 17% 7,277 Cote d'ivoire 1,262 10,069 13% 2,517 Georgia 81 2,325 3% 581 Ghana 1,173 6,315 19% 1,579 Honduras 839 3,937 21% 984 India 76, ,082 24% 81,021 Kyrgyz Republic 678 3,054 22% 764 Macedonia, FYR 281 1,975 14% 494 Malawi 186 1,465 13% 366 Mauritania 155 1,068 15% 267 Senegal 761 4,867 16% 1,217 Uganda 879 5,655 16% 1,414 Total 88,181 99,191 II to Increase mvestmentlgdp ratio to 25%. Difference (US$ mil) 461 2,436 1, , ,010 Since FDI flows to these 13 countries totaled only $2.6 billion in 1995, a large gap still exists between what the private sector is providing and the investment needs of these IDA countries. IDA plays a crucial role by financing the investment needed to sustain high growth rates and by helping to create the environment (in terms of overall economic policy environment and improved physical and human capital) needed to attract more private inflows. At a time when a growing number ofida countries are making concerted efforts to reform their economies, increased flows ofinvestment resources, both official and private, are essential. Most importantly, IDA can playa critical role in those reforming countries that are in the transition period between initiating policy reforms and benefiting from the private investment that will follow.