Accelerating FDI Growth in Bangladesh: The institutional investor’s perspective
Whilst modest efforts at Bangladesh’s country branding are visible through official channels, the country’s FDI growth performance has been outstripped by almost all emerging economies
Emerging economies typically grow faster than advanced industrialised economies due to their relative degree of underdevelopment. Foreign Direct Investments (FDI) facilitates growth convergence through capital deepening, as foreign capital flows into emerging economies, either as portfolio capital or longer-term direct equity/debt.
Since these economies are less integrated into global markets, they typically offer a higher risk premium to foreign investors, including term premium, credit premium, equity risk premium, and liquidity premium.
The MSCI Frontier Markets Index captures large and mid-cap representation across 28 "frontier markets" countries, which include: Bangladesh, Burkina Faso, Croatia, Estonia, Guinea-Bissau, Ivory Coast, Kenya, Nigeria, Oman, Pakistan, Sri Lanka, and Vietnam.
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All emerging market and frontier market economies vigorously compete for FDI as investors have a wide choice of strategic investment destinations, i.e., asset allocation decisions, and preferred country and sector selection.
Cognizant of the highly competitive landscape for FDI, various government investment promotion agencies aggressively market their country brands in order to be first in line for attracting the best investors.
Foreign private and institutional investors make strategic asset allocations, taking concentration risk into account.
While positive economic growth enhances equity valuations, it can dampen bond market valuations due to increasing interest rates and yield curve flattening which encourages reduction in portfolio duration exposure and enhancement in portfolio convexity.
In the post-Covid environment, restoring macroeconomic resilience will be a key driver behind FDI growth in frontier markets such as Bangladesh.
Foreign investors are not only looking for business friendly investment, regulatory, and fiscal climates; they seek political and economic stability, low cost of production, efficient infrastructure, access to skilled and productive labour; and increasingly, ESG (environment, social, and governance) sensitive policy regimes.
Furthermore, an unbiased legal and judicial apparatus; exchange rate and monetary stability; a dynamically prudential policy equilibrium; minimum amount of economic frictions or distortions; and above all, high relative risk-adjusted returns from investments are necessary, though not entirely sufficient conditions for FDI commitments.
According to UNCTAD's World Investment Report 2021, although FDI inflows declined by 35% globally in 2020, it declined by only 8% in developing economies. Top FDI destinations in 2020 were: the US, China, Hong Kong, Singapore, India, the UAE, the UK, Indonesia, Vietnam, and Japan.
Top 10 FDI investors in 2020 included: China, Luxembourg, Japan, Hong Kong, USA, Canada, France, Germany, South Korea, and Singapore.
FDI in South Asia rose by 20%, driven mainly by strong merger and acquisition activities in India, where FDI increased by 27% and reached $64 billion in 2020, according to the UNCTAD report. In Pakistan, FDI was down by 6% in Pakistan, cushioned by continued investments in power generation and telecommunication industries.
According to Bangladesh Bank, net FDI inflow into the country was only $2.6 billion in FY18, $3.9 billion in FY19, and $2.4 billion in FY20. Garment factories in Bangladesh faced some $3 billion worth of cancelled export orders in 2020, although the RMG order book seems to have rebounded in 2021/22.
According to UNCTAD, the prospects of FDI in LDCs remain subdued in the immediate future, i.e., 2022-2026. So how can Bangladesh accelerate the growth of FDI?
Bangladesh has a labour force of 67.23 million people, with the cost of labour among the lowest in the world. With a literacy rate of 74.68% and almost a quarter of its population living below the poverty line, the labour cost in our country will remain cheap.
According to The Global Economy, the capital investment/GDP ratio in Bangladesh stands at 30.47% as of 2020. In 2019, FDI was $1.91 billion or 0.63% of GDP. During the same time, foreign and official development assistance received amounted to $4.48 billion.
TheGlobalEconomy.com, which provides business and economic data for 200 countries, and is routinely accessed by global investors, presents a range of economic data that foreign investors observe.
On a scale of +2.5 to -2.5, Bangladesh receives a negative score in the rule of law, government effectiveness, control of corruption, regulatory quality, voice and accountability and political stability indexes.
Bangladesh has scored 20.2 and 29.14 out of 100 respectively in the Innovation Index and in the Economic Globalisation Index. As of 2020, Bangladesh ranks 168 out of 190 countries in the "Ease of Doing Business" ranking of the World Bank.
Currently, Bangladesh is not rated as an investment grade country. Emerging market countries seek investment grade status to lower financing costs for the sovereign, expand the pool of potential investors to institutional investors, and allow corporations the possibility of reducing their borrowing costs.
Bangladesh's current sovereign credit ratings are equivalent to a "non-investment grade" speculative, or junk bond rating.
Bangladesh has demonstrated mid-to-high single digit real GDP growth for over a decade, which has paid dividends in terms of socio-economic development. It is now the 37th largest economy in the world with a GDP of $419 billion. Its strongest sector, readymade garments, has a 6.3% global market share.
With 628 companies publicly listed, the stock market capitalisation in Bangladesh is $89.77 billion as of 2020 (27.69% of GDP), with average equity returns at 26.91%. In contrast, equity market capitalisation is 97.6% in India, 100.4% in Nepal, 51.2% in Vietnam, 121.4% in Malaysia, and 45.2% in Indonesia.
Although macroeconomic and business climate data are mixed in terms of the current state of the economy, I feel that Bangladesh demonstrates significant growth potential, with a resilient and innovative business community and a diligent and productive if under-skilled workforce.
The comparative advantage of low cost of labour is partially offset by a relatively low labour productivity compared to key Asian rivals. This is demonstrated by looking at the 2019 World Development Indicators Databank, which shows that the Industry Value Added per worker in 2019 was $5,648 in Bangladesh, compared to $5,744 in Vietnam, $5,795 in India, $6,484 in Myanmar, $14.511 in Philippines and $32,447 in Malaysia.
According to IMF's Balance of Payments database, net FDI inflow into Bangladesh in the last 10 years (2010-2019) amounted to $20.5 billion against the significantly higher absorptive capacity for FDI that the country clearly represents.
During this time period, Myanmar recorded net FDI inflows of $24.8 billion, Philippines $58.6 billion, Malaysia $106.9 billion, Indonesia $194.2 billion and India $371.8 billion.
Whilst modest efforts at Bangladesh's country branding are visible through official channels including BIDA, BEPZA, SEC, etc., the country's FDI growth performance has been outstripped by almost all emerging economies.
Privatisation of state owned enterprises is a prospective avenue for the government of Bangladesh to explore in terms of supporting a market-based economy. China and India were the two top emerging countries by total privatisation revenues in 2015.
From the institutional investor's perspective, lack of risk management instruments such as options and futures markets, or the ability to trade volatility as an asset class further constrain dynamic investment management capability.
Bangladesh must enhance its competitiveness and sustainability of economic and regulatory reform, so that it can be more successful in attracting FDI at an accelerated rate. Its persistent deficits in the current account is a result of consumption out-stripping savings, and budget deficits being supported through volatile remittance inflows.
Currency hedging can be facilitated through currency overlay strategies or non-deliverable forwards, since the taka is not convertible in the capital account. The imminent depreciation of the taka is due to inflation pressures that are impacting the Real Effective Exchange Rate (REER) to appreciate and likely overshoot in the medium term.
Not only do the government's internal policies related to FDI need to be cross-sectionally consistent in order for FDI inflows to remain sustainable over several years, it is imperative that existing foreign investors act as advocates for Bangladesh and its improving investment climate. International Chambers of Commerce may play a constructive role here.
Samir Asaf is a Global Managing Director at DelMorgan & Co. Investment Bank (USA). Email: sasaf@delmorganco.com.
Disclaimer: The views and opinions expressed in this article are those of the authors and do not necessarily reflect the opinions and views of The Business Standard.
