Foreign Direct Investments, Infrastructure and Safety in Africa Series - Part 1: Introduction

Foreign Direct Investments, Infrastructure and Safety in Africa

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This series of articles applies thematic analysis in investigating the relationship among Foreign Direct Investment (FDI), infrastructure (in the next series I will cover other sectors), and safety concerns in selected African countries, each to be analyzed in more detail in the next pieces. I treat this series as one of the means of demystifying what is often generalized as “African risk” by describing each of its elements and the mechanics among them and showing ways of assessing and mitigating such risk(s). Before we come to that, however, it is essential to better understand the investment environment with its cultural, social and legal frameworks as well as future potential and goals.

In answering the questions 1) what is the relationship between infrastructure and FDI, and 2) how do safety concerns impact FDI? the article does not show the relationship between these concerns and infrastructure, but it demonstrates that infrastructure is a stimulus to FDI, and safety concerns impact FDI. Countries try to attract quality investments that increase their GDP, power purchase parity, jobs, technology transfer, and education level, including investors responsible for their investment behavior and respecting environmental and social standards. In other words, sustainable investments have been a critical goal for many (Giroud and Azémar, 2023). Investors, on the other hand, expect governments to be responsible, creating a transparent environment for investments, and most of the countries I will further mention have attracted FDI by creating legal, institutional enablers for FDI, such as attractive regulatory measures. Investors have also been attracted through infrastructure, which positively relates to FDI, legal infrastructure, and facilitating fiscal policies that attract investment as a critical component to investment (Evans et al., 2022).

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Enablers of Foreign Direct Investment

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Infrastructure is a crucial component in business and specifically in attracting FDI in developing countries, particularly for countries aiming to attract FDI from the United States (Wheeler and Mody, 1992), and countries that will be discussed in detail are no different. Haughwout (2001) points out that public infrastructure lowers firms' expenditures; thus, such infrastructure attracts business investments. Cases of African countries show that countries that improved their infrastructure benefited from investment, and in the 1980s, one unit of infrastructure had an increase of 1.12% in FDI per GDP (Asiedu, 2002). In addition, urbanization, standard of living, trade openness, external debt, domestic investments, labor force, current accounts, inflation, and wages impact FDI? in developing countries (Yasmin et al., 2003). This explains why there is prominence in economic growth leading to FDI, as opposed to FDI leading to economic growth (Choe, 2003).

Foreign Direct Investment (FDI) develops new ideas, skills, and technology (Mwega, 2010); it is an investment that helps build and improve the host’s infrastructure. It also strengthens the country's export capacity by giving access to new markets, strengthening the domestic economy. It also increases financial resources, ameliorates the effectiveness of the existing technology, and brings new initiatives and technological progress to the host country (Wekesa et al., 2016). Issues such as corruption and political interference also affect the level of FDI today, which is not emphasized enough in the literature, with many of the countries to be mentioned in this series being ranked high on the list of “Top 100 most corrupt countries in the world” (Transparency International, 2023), still these countries are attracting investments with a popular preference among citizens to FDI, more than domestic investment. Most politicians also share the same taste with constant calls about the need for FDI (Rhee and Yang, 2023). From an investor’s perspective it is therefore imperative to assume the right measures to not partake in corruption and secure oneself from the potential risks of making the decision not to participate in corruption.

Quite another group of risks linked strictly to the term mentioned as “African risk” and heavily affecting the investors’ appetite for FDI is a group of political/sovereign risk factors. These risk factors are naturally linked to the stability of the legal systems in the mentioned countries. The most notable examples are expropriation, breach of contract (including non-honoring of financial obligations), currency inconvertibility & transfer restrictions, and war or civil disturbances. As much as the gravity of each single risk factor is fundamental for the safety of an investment, it is possible to take proper steps practically every time to secure oneself from such risks fully. How to do that? We will get to that as we progress through the description of each country’s FDI scene. Further, we will look at the essential role of prominent institutional actors, such as the IFC - International Finance Corporation , the African Development Bank Group , or sovereign wealth funds.

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Foreign Direct Investment, Legal Measures and Safety Concerns

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Regulation focusing on investment policies, infrastructure and financial sector development, competition policies, corporate governance, trade, business conduct, and investment facilitation and promotion are significant to sustainable investment (Biau and Pfister, 2014).?

Some vital economic levers must be outlined to understand the relationship between safety concerns and FDI. First, the relationship between macro and micro/sectoral economy. Macro is related to the aggregate economic activities, while the latter is related to sectors (Sandler and Enders, 2008). Macroeconomy can be measured in terms of import-export exchanges, GDP or FDI. Microeconomy focuses on industries such as tourism, infrastructure or transport, all of ?which are impacted by safety concerns. However, we will only focus on the macro-economy, where the relation can be measured indirectly and directly. The latter measure is easy because one can see the cost/damage relation. Indirect measure is complicated because it involves the measurement of different indicators in various sectors and the second-round effects (Brück and Wickstr?m, 2004).

Financial markets have a relationship with foreign resources and investments. If there is uncertainty in the foreign investments of a country, the impact will be evident in the country’s stock market. The fear of safety concerns leads to investing in safety measures, making business and trade expensive due to transactional costs. It also leads to reduced individual consumption, which affects private allocation, shifts resources and creates uncertainty in the financial markets. The result is the reduction of investment, which impacts the macroeconomic performance. These activities are driven by different macroeconomic indicators: shelter consumption and investment rates, the export-import and GDP, and the ratio of defense purpose and spending on safety measures. For instance, safety concerns influence exchange rates.

Safety concerns impact the currency, affecting inflation rates, customer sentiments, investments, trade, and consumption, which are widely used as indicators to calculate the crisis effect (Haj-Yehia, 2003; Frey et al., 2007). “If a host country has an increased number of safety incidents centered towards an investor by one standard deviation, there is a decrease in the flow of investment by 14 percent of the average FDI share in a host's GDP” (Kinyanjui, 2014 p. 150), and if any of these incidents harms an investor, there is a spillover effect, with other investors withdrawing from investing in the country; thus, safety and political instability have a significant impact on FDI? (Kinyanjui, 2014).

Safety concerns increase government consumption and expenditure on safety measures, which affects investments in GDP and the share of the trade balance (Persitz, 2007). However, such observation has weak evidence regarding structural changes at the macro level, but several studies still show the relationship between safety concerns and FDI. For example, Shahbaz et al. (2013) indicate that if there is a negative effect on FDI in a country with increased uncertainties, foreign investors tend to walk away from it.

Further detailed analysis of selected countries

In the following articles of this series, a number of different African countries will be mentioned and analyzed. The potential of the African continent has for many years been known as immense. As with most developing markets, come not only significant opportunities but also risks corresponding to them. The aim of this series is to carefully describe the status quo and specifics of each country’s relevant risks but also to help identify the best way of mitigating them. The first country I will describe in the next article is Kenya.

Thank you for your interest and feel free to follow for the next parts!

#fdi #invesmtnets #emergingmarkets #africa #infrastructure #safety #privateequity

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EVANS, P., KARIUKI, P. & WAFULA, F. 2022. Effect of fiscal policy on foreign direct investment inflows in Kenya. International Journal of Finance

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