Incentives Effectiveness

|university of bradford – MZUMBE COHORT 2011/2012 |
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|Dissertation Proposal – ID-7017D |
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|“The effectiveness of Investment Incentive Package in Attracting Foreign Direct Investment in Tanzania” |
|Words count 2720 |
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|UoB # 11031994 |
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|Acronyms |
|OECD – Organisation for Economic Co-operation and Development |
|UNIDO-United Nations Industrial Development Organization |
|UNCTD-United Nations Conference on Trade and Development |
|WB - World Bank |
|WDI - World Development Indicators |
|WTO - World Trade Organization |
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TABLE OF CONTENTS
CHAPTER ONE 1
BACKGROUND OF THE PROBLEM 1
1.1 Introduction 1
1.2 Background of the problem 1
1.3 Statement of the problem 2
1.4 Research objectives 3
1.4.1 General research objectives 3
1.4.2 Specific objectives 3
1.5 Research Questions 3
1.6 Significant of the study 4
1.7 Limitation of the study 4
CHAPTER TWO 5
LITERATURE REVIEW 5
2.1 Introduction 5
2.2 Overview of Foreign Direct Investments 5
2.3 Tanzania FDI Incentives 6
2.3.1 Types of Incentives in Tanzania 7
2.4 Theoretical Review 8
CHAPTER THREE 10
RESEARCH METHODOLOGY 10
3.1 Introduction 10
3.2 Research design 10
3.3 Sources types of Secondary data 10
3.4 Locating of data 11
3.5 Data evaluation 11
REFERENCES 12

CHAPTER ONE

BACKGROUND OF THE PROBLEM

Introduction

Tanzania like many other developing countries around the world has continued to peg incentive packages to achieving long term Foreign Direct Investment (FDI) goals. FDI according to Contessi (2009) is an international venture in which an investor residing in the home economy acquires a long-term “influence” in the management of an affiliate firm in the host economy. The existence of such long-term influence is assumed when voting shares or rights controlled by the multinational firm amount to at least 10 percent of total voting shares of rights of the foreign firm (Contessi, 2009).

Background of the problem

Incentive packages were introduced in the early 1990s during the economic liberalization era and instituted by then the Investment Promotion Agency (IPA) Economic and Social Research Foundation (ESRF) (2009). During that time of promoting FDI through tax holidays FDIs increased from USD 150 millions in 1995 to USD 516.7 million in 1999. Some other studies cited in (Contessi, 2009) highlight reasons why FDI may not accelerate growth: Aitken and Harrison (1999) argue that increased local competition caused by multinationals may crowd out domestic firms; Boyd and Smith (1992) show that FDI distorts resource allocation and slows growth when other distortions are present in the financial sector, prices, or trade. This would imply that FDI does not necessarily contribute to growth, and countries could be harming their economies with provisions that favour FDI (Contessi, 2009). From the foregoing, it can be interpreted that though FDI does not always answer most of the country’s direct investment concerns, OECD (2002), its success nevertheless far outweighs the shortcomings (Nunnenkamp (2002”). For any developing country to take upward economic step, selected tax incentive should be used as a long run strategy. This study intends to assess the effectiveness of incentive package in achieving foreign direct investment goals in Tanzania, with a close analysis of the variables that entail FDIs inflows.

Statement of the problem

Many scholars have agreed entirely with several benefits (effectiveness) associated with introducing incentive package as a tool for attracting FDI. Among other advantages, FDI triggers technology spillovers, assists human capital formation, contributes to international trade integration, helps create a more competitive business environment and enhances enterprise development (OECD, 2002). But crude as it may sound FDI has also placed host countries under tremendous pressure to offer, as an example, relaxation of restrictions on profit remittances, indirect subsidies in the form of infrastructure, and tax concessions in terms of tax holidays (Bryan, Unknown). For example, Tanzania lost approximately Tshs.381billion between 2008-2010 fiscal years (Allafrican, 2012). The amount of FDI into the host countries may double while substantially reducing the long-term benefits per dollar of investment. Other drawback according cited by other scholars, may include economic, environmental and social costs (e.g. in the quantity and quality of employment). It is not a surprise to note that while the motivations for these incentives packages have often yielded greater investment targets in the host countries’ economies, the resultant costs can not be entirely ignored. Thus the debate as to whether incentives packages should still remain as the best ‘carrot’ to tab in FDI, while completely ignoring the negative consequence of their operations in the host country continue to play in most countries’ galleries.

Research objectives

General research objectives

The general objective of this study is to investigate the country’s investment in incentives package and its success in attracting substantial and sustainable FDI inflows.

Specific objectives

i) To assess whether regulatory framework is in place to control and monitor FDI operations in Tanzania. ii) The analyse the cost benefit of providing the tax incentive package in form of tax holiday to FDIs iii) To establish the relationship between incentive packages and proliferation of FDIs in the country

Research Questions

This study will be guided by the following research questions: i) Is there a regulatory framework to control and monitor FDI operations in Tanzania? ii) What are the costs and benefits of providing tax incentive package in the form of tax holiday to FDIs? iii) Is there a relationship between incentive packages and proliferation of FDIs in the country?

Significant of the study

The study is significant in a variety of ways. From the desk survey already undertaken, it is without doubt that so little has been written on the government FDI goals, and whether its stated aim of tying incentive package to FDI still holds water. By the end of this study, research findings and conclusion will be available to mitigate the growing scarcity of research materials in this area. Policy recommendations will be available to help guide the policy makers on the best effective tool to use for attracting FDIs beyond the provision of incentive packages.

Limitation of the study

The study like other studies is expected to encounter obstacles regarding the difficulty in achieving the desired study objectives and the validity/reliability of the data to be used. As can be seen, available local research materials to help build a strong case for the study are insufficient. The research has relied heavily on researches done outside Tanzania on incentive packages and FDIs. Nevertheless, FDIs are mostly from developed to developing countries, and any other studies done along those lines will have comparisons across board.

CHAPTER TWO

LITERATURE REVIEW

Introduction

A lot has been done by researchers on the study of incentive package for direct foreign investment; critical analyses have been presented on incentives packages for FDI provided by host countries in order to tape the benefits of foreign direct investment in the host country. However there has been contradicting arguments on how the incentive packages can influence the foreign investors and yet create a positive spill over outcome for the host countries. This research will critically look at what FDI is, and the various incentive packages mooted in order to attract foreign investors.

Overview of Foreign Direct Investments

Foreign Direct Investment (FDI) is the purchase, or construction, of productive capacity in a country by an individual or company based outside their country of origin. The International Monetary Fund (IMF) defines FDI as an “investment made to acquire a lasting interest in a foreign enterprise with the purpose of having an effective voice in its management” Bjorvatn, (2000). In the context of this research FDI refers to the flows of capital and personnel from abroad for investment in the country. The ownership of such capital can be either by a natural person or an institution such as a company registered outside the country. The shares owned by such a person or institution should be fifty percent (50%) of the total investment or more (Ngowi, 2000).

Tanzania FDI Incentives

FDI incentives are benefits offered by host economies to foreign investors to attract more FDIs and/or retain those already present in a country (Ngowi, 2000). The Tanzania Investment Act (1997 [3]) interprets incentives as “…tax relief and concessional tax rates which may be accessed by an investor under the Income Tax Act, (1973), the Customs Tariff Act, 1976, the Sales Tax Act, (1976) and any other for the time being in force, and includes additional benefits that may be accessed by an investor under section 19 and 20”.

There is a wide spectrum of FDI incentives examples, tax incentives, guarantee against arbitrary treatment in case of nationalisation, government provision of such utilities as water, power and communication at subsidised prices or free of cost; tariffs or quotas set for competing imports; reduction/elimination of import duties on inputs; interest rate subsidies; guarantee for loans and coverage for exchange rate risks; wage subsidies; training grants and relaxation of legal obligations towards employees Ngowi(2000).

Types of Incentives in Tanzania

According to Tanzania Investment Centre (TIC, 1998), various incentives have been devised to compensate and reward investors for their entrepreneurship; to match the changing needs of the country; to channel investments in the direction most needed for economic development and to ensure growth with social equity. The Investors’ Guide to Tanzania 1998 (pp. 14-19) mentions various tax rates for different sectors. For example the mining sector and export processing zones have a 0% tax rate on the following; custom duty on capital goods, sales tax on capital goods and withholding tax on interest (Ngowi, 2000).

Tanzania also offers some sectoral incentives. The agricultural sector enjoys a 20% capital deduction for clearing land; installing power or water; building farmhouses or buildings for processing, storage, or livestock accommodation; and constructing labour quarters, drains, fences, windbreaks, or other works necessary for proper operation of a farm. The mining sector enjoys 100% capital deductions for companies seeking specified minerals, including copper, coal, gold, lime, magnesium, bentonite, magnesite, meerschaum, mica, tin, tungsten, vermiculate, nickel, cobalt, platinum, kaolin, and zink. Companies prospecting for other minerals receive a 40% capital deduction in the first year with a 10% deduction for the following six years. Qualifying activities include prospecting and testing deposits, purchasing the rights to deposits, acquiring machinery and buildings that would have little or no value on cessation of mining, and general administration and management prior to production. Tourism receives a capital deduction of 20% on hotels and installed machinery. A 6% deduction is allowed for buildings used as hotels.
The agricultural sector, air aviation, commercial building, commercial development and micro- finance banks, export oriented projects, geographical special development areas, human resources development, manufacturing, natural resources, rehabilitation and expansion, tourism and tour operations, transport and radio and television broadcasting enjoy a 0% tax rate on sales tax on capital goods and withholding tax on interest. All the sectors mentioned above enjoy a 100% capital allowance deduction in the years of income. While all other sectors pay 5% custom duty on capital goods the mining sector and export processing zones enjoy a 0% rate. A 10% withholding tax on dividends is paid by all, except the export processing zones, in which case the rate is 0%. A 30% corporation tax is paid by all the sectors, except tourism and tour operations whose rate is 35%(Ngowi, 2000).

Theoretical Review

There are many theoretical papers written to justify the need for FDI. The following scholars were cited in (Vintila, 2012). Blomstrom (1994) finds positive evidence in Mexico and Indonesia, while Smarzynska (2002) found that local suppliers in Lithuania benefited spill over from supplying foreign customers. Several theories have been cited by Vintila, (2012) to explain the motivation of FDI. Two of these theories, the Internalisation Theory and the Eclectic Paradigm of Dunning closely reverberate with the objectives of the research.

• The Internalisation Theory
This theory explains the growth of transnational companies and their motivations for achieving foreign direct investment. The theory was developed by Buckley and Casson, in 1976 and then by Hennart, in 1982 and Casson, in 1983. Initially, the theory was launched by Coase in 1937 in a national context and Hymer in 1976 in an international context. In his Doctoral Dissertation, Hymer identified two major determinants of FDI. One was the removal of competition. The other was the advantages which some firms possess in a particular activity (Hymer, 1976). Buckley and Casson, who founded the theory demonstrates that transnational companies are organizing their internal activities so as to develop specific advantages, which then to be exploited. Internalisation theory is considered very important also by Dunning, who uses it in the eclectic theory, but also argues that this explains only part of FDI flows. Hennart (1982) develops the idea of internalization by developing models between the two types of integration: vertical and horizontal. Hymer is the author of the concept of firm-specific advantages and demonstrates that FDI take place only if the benefits of exploiting firm-specific advantages outweigh the relative costs of the operations abroad. According to Hymer (1976) the MNE appears due to the market imperfections that led to a deviation from perfect competition in the final product market. Hymer has discussed the problem of information costs for foreign firms respected to local firms, different treatment of governments, currency risk (Eden and Miller, 2004). The result meant the same conclusion: transnational companies face some adjustment costs when the investments are made abroad. Hymer recognized that FDI is a firm-level strategy decision rather than a capital-market financial decision.

• The Eclectic Paradigm of Dunning
The eclectic theory developed by professor Dunning is a mix of three different theories of direct foreign investments (O-L-I): “O” from Ownership advantages which includes intangible assets, which are, at least for a while exclusive possess of the company and that may be transferred within transnational companies at low costs, leading either to higher incomes or reduced costs. These advantages are the property competences or the specific benefits of the company. The firm has a monopoly over its own specific advantages and using them abroad leads to higher marginal profitability or lower marginal cost than other competitors (Dunning, 1973, 1980, 1988). “L” from Location:
When the first condition is fulfilled, it must be more advantageous for the company that owns them to use them itself rather than sell them or rent them to foreign firms. Location advantages of different countries are the key factors to determining who will become host countries for the activities of the transnational corporations. “I” from Internalisation: Supposing the first two conditions are met, it must be profitable for the company that use these advantages, in collaboration with at least some factors outside the country of origin (Dunning, 1973, 1980, 1988). These theories are relevant to the topic under discussion since it portrays many FDI coming into the country factored by a need for lower operational costs, cheap labour and raw materials while at the same time maximising profits

CHAPTER THREE

RESEARCH METHODOLOGY

Introduction

This chapter is intending to address the entire process that we are going to make use of to answer our research problem. According to the university instruction, this research will be conducted through the uses of secondary data; this is due to the fact that no enough time to gather and analyse the primary data. Our research will adapt the deductive approach due to the fact that the research is not intending to develop theory.

Research design

To meet the objective of the research, substantial time will be spent to carry comprehensive literature review. Much time will be used reviewing existing literature to unlock the study objectives. Facts will be established from the theoretical ideas and review of the previous work on the same area. Where necessary and for validity of quantitative data statistical tools will be used to establish the correlation between the variables mentioned.

Sources types of Secondary data

Raw data and published summaries will be collected from various sources, such as news letter papers, internet, various reports, and other documents available in CD-ROM (Saunders, M. et al 2009). Three types of secondary data will be employed: documentary data, written materials from newspapers, organisation websites and journals. Secondly Survey records/data will also be used in this study as a source of our data whereby we are expecting to look at the continuous and regular surveyed data about our problem (Bryman, 1989, Hakim, 2000 and Sounders M. et al. 2009).

Locating of data

Secondary data on incentives package for FDI will be gathered from the Tanzania investment centre (TIC) and documentary records especially in the Tanzania daily news papers and Multination organisations like WTO, UNIDO, UNCTD, and IMF have written a lot on FDI. Internet using gateways path (WDI and WB data) or straight to internet link, e-books, articles and Journals available in libraries have stock of reliable data for our problem that we are intending to address (Kombo B.K and Tromp D.L.A, 2009) and (Saunders M. et al. 2009).

Data evaluation

Although (Kamins and Stewart, 1993) commented on using secondary data as more advantageous that using primary data, (Wolf A, 2007) warned that using secondary data especially when data are extracted from internet source is very dangerous. Wolf further argued that we need to assume that the sample was enough to represent the population. During this study data will be evaluated prior to use to test for suitability, so as to examine the effectiveness of incentive package. The evaluation of secondary data will also involve the process of checking for permission and copyright. According to (Kalvin, 1999) secondary data should be tested for their suitability to answer the research.

REFERENCES

Allafrican media group (April, 2012),Tanzania lost Tshs.381bln between 2008-2010 fiscal year.
Bjorvatn, K. (2000). FDI in LDC: Facts, theory and empirical evidence. Manuscript NHH/LOS.
Bryan R Evans(Unknown). Investment and development. A discussion paper on investment, development and the poor, Tearfund, Teddington, Middlesex TW11 8QE, UK.

Economic and Social Research Foundation (2009). Incentive Package for Foreign Direct Investment (FDI) In Tanzania. TAKNET Policy Brief Series No. 03/2009. http://old.esrf.or.tz/docs/INCENTIVEPACKAGEFORFDI.PDF, accessed in September, 2012.

Findlay, R. 1978. “Relative Backwardness, Direct Foreign Investment and the Transfer of Technology: A Simple Dynamic Model.” Quarterly Journal of Economics 92: 1-16
Haddad, M. and A. Harrison. 1993. “Are There Positive Spillovers from Direct Foreign
Hanson, G. H. 2001. "Should Countries Promote Foreign Direct Investment?" G-24 Discussion Paper No. 9. New York: United Nations.
IMF (1985). Foreign Direct Investment in Developing Countries. Occasional Paper 33, IMF, Washington D.C.
Investment?” Journal of Development Economics 42: 51-74.

Krugman, P. 2000. “Fire-Sale FDI.” In Capital Flows and the Emerging Economies, edited by Sebastian Edwards. Chicago: The University of Chicago Press
Ngowi HP (2000). Tax Incentives for Foreign Direct Investment (FDI): Types and Who Should/Should not qualify in Tanzania. In “Tanzanet J. 1: 100-116.

OECD (2002), Foreign Direct Investment for Development Maximising Benefits, Minimising Costs. OECD PUBLICATIONS, 2, rue André-Pascal, 75775 PARIS CEDEX 16 PRINTED IN FRANCE (00 2002 34 1 P) No. 81839 2002

Peter Nunnenkamp (2002”). Foreign Direct Investment in Developing Countries: What Economists (Don’t) Know and What Policymakers Should (Not) Do! #0216 SUGGESTED CONTRIBUTION Rs.30/$5, CUTS Centre for International Trade, Economics & Environment D-217, Bhaskar Marg, Bani Park Jaipur 302 016, India

Saunders, M., Lewis,P., Thornhill,A.(2009) Research methods for business students ,Pitman publishing imprint ,Edinburgh gate Harlow, Essex CM20 2JE England

Silvio Contessi and Ariel Weinberger (2009). Foreign Direct Investment, Productivity, and Country Growth: An Overview. Federal Reserve Bank of St. Louis Review, March/April 2009, 91(2), pp. 61-78.

Tanzania Investment Act, 1997.

Tanzania Investment Centre (1998). Investors’ Guide to Tanzania. Printing Colour Print (Ltd), Dar-es-salaam.

References: Allafrican media group (April, 2012),Tanzania lost Tshs.381bln between 2008-2010 fiscal year. Bjorvatn, K. (2000). FDI in LDC: Facts, theory and empirical evidence. Manuscript NHH/LOS. Economic and Social Research Foundation (2009). Incentive Package for Foreign Direct Investment (FDI) In Tanzania. TAKNET Policy Brief Series No. 03/2009. http://old.esrf.or.tz/docs/INCENTIVEPACKAGEFORFDI.PDF, accessed in September, 2012. Findlay, R. 1978. “Relative Backwardness, Direct Foreign Investment and the Transfer of Technology: A Simple Dynamic Model.” Quarterly Journal of Economics 92: 1-16 Haddad, M Hanson, G. H. 2001. "Should Countries Promote Foreign Direct Investment?" G-24 Discussion Paper No. 9. New York: United Nations. IMF (1985). Foreign Direct Investment in Developing Countries. Occasional Paper 33, IMF, Washington D.C. Krugman, P. 2000. “Fire-Sale FDI.” In Capital Flows and the Emerging Economies, edited by Sebastian Edwards. Chicago: The University of Chicago Press Ngowi HP (2000) OECD (2002), Foreign Direct Investment for Development Maximising Benefits, Minimising Costs. OECD PUBLICATIONS, 2, rue André-Pascal, 75775 PARIS CEDEX 16 PRINTED IN FRANCE (00 2002 34 1 P) No. 81839 2002 Peter Nunnenkamp (2002”) Saunders, M., Lewis,P., Thornhill,A.(2009) Research methods for business students ,Pitman publishing imprint ,Edinburgh gate Harlow, Essex CM20 2JE England Silvio Contessi and Ariel Weinberger (2009) Tanzania Investment Act, 1997. Tanzania Investment Centre (1998). Investors’ Guide to Tanzania. Printing Colour Print (Ltd), Dar-es-salaam.