The latest Report of the Committee on Economic Affairs and Labour - November 2008 (reproduced below) touches on one of the most discussed topics on this blog - the Government policy on MFEZs. The policy position as directly stated by government is somewhat unclear, so its useful to see the Parliamentarians attempt to get through the mud, but inevitably they come short. Excerpt:
I recently asked whether it was the government's policy to turn all of Zambia into an MFEZ. Well that atleast is answered by the call for "MFEZs in all districts". It also appears to have noted the issue relating to land. But other than that, I found the report shockingly poor, particularly in three aspects.
9.2 The role of the MFEZ in improving the competitiveness of Zambia’s industries
Your Committee was informed that the establishment of MFEZs in Zambia was meant to stimulate industrial development as laid out in the Fifth National Development Plan (FNDP). In this regard, the Government would offer fiscal incentives as provided for in the ZDA Act. The incentives would be as follows:
a) 0% tax rate on dividends of companies operating under the MFEZ for a period of five years of first declaration of dividends;
b) 0% tax on profits made by companies operating in the MFEZ for a period of five years from the first year profits were made. From the sixth to the eighth year, only 50% of the profits would be taxed while for the ninth and tenth year, 75% of the profits would be taxed;
c) 0% import duty on raw materials, capital goods and machinery, including trucks and specialised motor vehicles for the first five years; and
d) deferment of VAT on machinery and equipment, including trucks and specialised motor vehicles for investment in the MFEZ.
9.3 Benefits of MFEZ to ordinary Zambians
Your Committee were informed that the vision of the Government was to establish MFEZs in all districts in the country. Once fully operational, some benefits that the Government envisaged from the MFEZ included:
(a) improved infrastructure, such as telecommunications, schools and medical facilities in thezones;
(b) higher foreign exchange earnings;
(c) increased tax revenues after the expiry of the tax holiday provided under the ZDA Act; and
(d) attracting Foreign Direct Investments (FDIs).
9.4 Committee’s Observations and Recommendations
After careful consideration of the various submissions from witnesses, your Committee wish to make the observations and recommendations set out here under.
i) The operationalisation of MFEZs across the country is not an easy task. It requires vast amounts of resources, land and infrastructure. Your Committee recommend that care is taken to ensure that the land acquired is not used by communities for farming or any other social, religious and economic activity.
ii) Industries operating in MFEZs have the ability to potentially affect the companies that are operating outside MFEZs. This is because they will be enjoying incentives which will reduce their cost of production. Your Committee, therefore, recommend that the operations of MFEZs should not be to the detriment of firms that are operating outside the MFEZs.
iii) The incentives to operate in an MFEZ as provided for in the ZDA Act are very generous. In the past, companies which were given such incentives relocated to other countries when the tax holiday came to an end. Your Committee urge the Government to avoid a repeat of such unfortunate situations.
iv) The MFEZ is an important initiative that will improve the competitiveness of Zambia’s industries. However, there are no other companies that have applied to operate in the MFEZs apart from those of Chinese origin. They, therefore, recommend that other companies, particularly citizen influenced and citizen empowered companies, be allowed to compete freely in the Chambishi MFEZ area.
First, it ignores the fundamental issues. I would have like the MPs to have focused on three critical questions which have been raised before. The first issue relates to the lack of economic analysis that has underpinned the government MFEZ policy, or atleast the fact that if such analysis exists it has not been made available to ordinary Zambians. It would be good to know just how government reached the decision that MFEZs are good value for money. The second issue is whether MFEZs the right way to attract investment and can they really make any serious dent on poverty? I was particularly hoping that Parlimentarians would atleast be interested in looking at whether MFEZs have been successful in other countries in achieving objectives. Finally, and perhaps more importantly, how does the government vision of MFEZs in every district fit in within the current environment of a slow down in global economic growth? Simply put, is MFEZ policy still viable? and should we rely on a such a policy that may well be overrated?
Secondly, the assessment is wholly lacking in a clear exposition of the costs. While the report is keen to highlight the "benefits" it falls far short in discussing the costs. It seems to me that the key issue regarding MFEZs is whether the public is fully aware of the costs and benefits associated with it. I do not think the report has done a good job at clarifying what those costs are and whether in general the MFEZ policy as it stands constitutes a net benefit to Zambia in the short to medium term (say over the minimum period of 10 years). The key direct costs of course is the forgone tax revenue that may have accrued to GRZ without the MFEZ policy. A key element of the analysis is the issue of what would happen if the tax breaks and concessions are not made. Would Zambia get the investment anyway from other players, with the additional tax revenue? That is certainly possible if one believes there are credible alternatives to encouraging FDI divorced from the large tax breaks Government has offered. I have previously suggested that what we should focus on is to develop a bureaucratic hands-off approach, the freedom to invest across sectors, and promote contestable markets (with import competition, and privately financed infrastructure being two of the key factors - see the blog here).
Finally, the assumed benefits appear misguided or at worst intentionally misleading. Let us be clear from the start. All the stated benefits to "ordinary Zambians" are not actually "benefits" there are possible intermediate means for achieving some increase in welfare to ordinary Zambians in the future. They are therefore means to an end, not ends or benefits in themselves.
I was particularly struck by the bizarre "benefit" of "foreign exchange earnings". May be its my holiday season, but just how is this a benefit?
Moving from the bizarre to the misleading, I really don't understand how the MPs concluded that there are benefits in terms of "improved infrastructure, such as telecommunications, schools and medical facilities in the zones". I found this difficult to reconcile with previous government statements as discussed on two previous blogs - A Zambian Shenzhen or just another DA? and A Lumwana MFEZ? In both instances the government makes it clear that it will provide the infrastructure . In particular as part of the Chambishi MFEZ, the government has promised to "build roads and set up telecommunications, and water facilities in the [multi - facility economic] zone".
Then there's the speculative benefit of "increased tax revenues after the expiry of the tax holiday provided under the ZDA Act". Its quite interesting that the government has never really stated public that this as a key benefit. The reason is quite obvious. The Chambishi zone will roughly cost the companies $800m, with a profit of $900m annually. In short, they will get back the money from a single year of operation. After that the issue of whether they remain or leave is really down to market conditions, and of course whether after year 10 they can get better deals elsewhere. There's really nothing to stop these companies from abandoning ship like others did under the Chiluba era. To speak of tax revenue benefits is therefore highly speculative.
Surprisingly the MPs ignored the "employment" and "diversification" angles, which has been central to the Government's public case. It cannot be ignored that the main benefits appear to be coordinated employment creation and diversification of the Zambian economy. Indeed beyond the economic zones, there are will be a host of firms providing services to those firms within the free tax zone (generating catalytic employment). However, the extent to which this employment is really additional is debatable. Also as we have discussed previously, diversification is a complicated process. The existing empirical consensus is that it is difficult for emerging economies, like Zambia, to extract potential benefits of spillovers when a large technological gap exists between domestic and FDI firms operating in the MFEZ. If government wants to use MFEZ as diversification tool, it needs to put the MFEZ policy within a broader economic policy context. The government has to take the necessary steps to invest in basic non-MFEZ infrastructure, education and training, and above all encourage Zambian firms to invest in technological development. These policies will do a great deal in increasing Zambian firms technological capability, and hence make it easier for firm outside the MFEZ to benefit from spillovers of foreign firms within the MFEZ. But even then, the road is still uncertain as discussed in the blog - FDI and domestic spillovers...