FINANCE - 01 MAY 2020

The dynamics of foreign investment flows in Nigeria

The dynamics of foreign investment flows in Nigeria
Tony Elumelu, Chairman, Heirs Holdings, speaking at the UK-Africa Investment Summit.   Source: DFID via Flickr

 

In 2001, MTN spent $285 million in acquiring a GSM license that ushered it into Nigeria. Soon after, the entry of Etisalat (2008) and the acquisition of Zain by Bharti Airtel (2012) brought in more dollar-denominated funds that have led to the impressive growth of the Nigerian telecommunication sector.

Money that flows into the country in this manner is referred to as Foreign Direct Investment (FDI). More resonating examples of FDIs can be found in the oil and gas sector (e.g. Shell). The automobile industry (e.g. Toyota), media (e.g. BBC, CNN), and consumer product sectors (Shoprite). 

Direct investments are not the only avenue through which foreign funds can flow into a country. 

Another route for the inflow of foreign money is through the Foreign Portfolio Investment (FPI) channel.

FPIs are investment types that allow foreign money flow in, through the purchase of stocks or bonds issued in Nigeria. 

The performance of FPIs largely depends on how profitable those assets are and the stability of the economic environment.  

The distinction between these categories of investment is that FDI involves long term commitment while FPI (also known as hot money) is short-term - investors could leave in a snap.

 

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Where are we with foreign investments in Nigeria?

Like almost everything in Nigeria, there is room for improvement in our foreign investment position. 

FDI provides more lasting advantages for the economy. Yet, it fell dramatically during the 2016 recession - FDI inflow contracted from $2.3 billion in 2014 to $1 billion in 2016. 

FDIs subsequently tumbled. Events that worsened this fall include the MTN repatriation scandal, the backlog of taxes slammed on oil companies and the withdrawal of two global financial institutions in Nigeria. 

Foreign investors thus reacted negatively to these developments and withheld investment due to the perceived risk and uncertainty surrounding the Nigerian business environment. 

Within six years the proportion of FDIs to total investment flows dropped from 20% in 2016 to 4% in 2019. The actual valued has stayed just below $1 billion since 2016.  

By default, this means FPIs have been rising. In 2016, portfolio investments were 35% of total investment, by the end of 2019, data from the National Bureau of Statistics showed FPIs had hit 68%. A dramatic increase from $1.8 billion to $16.4 billion. 

Nigeria became one of the most attractive markets in the world because of our attractive yields on bond instruments. 

 

Central Banks' monetary policies

Between July and October 2019, the US Federal Reserve cut its benchmark rates three times to bolster its economic activities. This led to a lower yield level of about 1.8%-2.0%. Compared to Nigeria, the average fixed-income yield for Treasury bonds between the period of the US rate cut was around 14%. 

Consequently, FPIs became a significant channel for acquiring foreign exchange in Nigeria. And the CBN continued to fuel this position

The apex bank even restricted local investors from participating in the OMO market - a high-interest bond that attracted foreigners. Its desire was to use these OMO bills to attract foreign investors while pushing local investors to spend their money on other sectors like agriculture. 

The CBN thought it could eat its cake and have it. 

But at the time, no one knew Saudi Arabia would start an oil price war and that a virus will bring the entire world to a standstill; consequently crippling a major source of revenue, and hampering Nigeria’s abilities to pay obligations.

The coinciding events created uncertainty and resulted in selloffs by foreign investors, as evidenced by the selloff on the stock exchange and the current lack of liquidity in the debt market. 

This story is not new. Whenever crude oil prices plunge, foreign portfolio investors take their leave and Nigeria loses on both sides. We lose forex inflow from dwindling crude oil prices and also lose forex to investors who are pressed to leave.

Nigeria, however, is not alone in this predicament. Countries like China and Egypt have faced similar problems with FDIs and FPIs, but they were able to scale through with their governments embarking on various projects which rerouted a growth projectile. 

 

What Nigeria can learn from China & Egypt 

China was the world's second-largest recipient of foreign direct investment (FDI) after the United States in 2019. 

Year-on-year FDI inflow rose by 5.8% in 2019 partly due to “40,000 new foreign-funded enterprises”, established in the country last year.

China had embarked on the implementation of initiatives like the public-private partnership (PPP) on infrastructure development. The country grants income tax exemptions to foreign investors who reinvest profits earned in China. It also created Special Economic Zones (SEZs), and constantly reviews its foreign investment law to accommodate transparency. 

Similarly, Egypt- the largest recipient of FDI in Africa in 2019, went through various structural reforms to achieve this feat. In 2016, Egypt adopted the floating exchange rate system to restore investors' confidence in the country. It enacted the Industrial Permit Act to ease the procedures for obtaining licenses for industrial establishments. Currently, the country is making headway on its privatization program of 23 State-owned enterprises (SOE). 

Taking a cue from these examples will help Nigeria improve prospects for attracting foreign investments. 

Providing tax incentives is rather tricky for a government that is looking to diversify its revenue base, specifically through taxes. However, China was able to gain in the long run, by granting tax concessions to businesses who reinvested their profits in the country. That way, the country was able to grow, while FDIs continued to rise.

A stable business environment will attract investors, but to keep them, Nigeria must give them some other reason besides oil.

 

Follow this writer on Twitter @tundeeogun. Subscribe to read more articles in our newsletters here.

 

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Babatunde Ogunleye

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