Foreign Direct Investment in Saudi Arabia - Research Paper Example

An empirical study on FDI, inward or outward Table of Contents Introduction 1 FDI Performance of Saudi Arabia 3 Comparison of Saudi Arabia’s FDI Profile 5 Factors influencing FDI Flows in Saudi Arabia 6 Government Policies controlling FDI Flows 8 Evaluation of the Present Scenario 8 Conclusion 10 References 10 Bibliography 11 Introduction Foreign Direct Investment plays a very significant role behind the growth and economic performance of a nation. FDI could actually be synonymised with capital flows and could be further distinguished into two categories according to the purposes which they serve. Borrowed credits change ownership hands after being lent out while the second category including investments or transaction payments are completely owned by foreign investors. Irrespective of the form of FDI, they are quintessentially featured by the investor’s profit motives but are also characterised by attributes which contribute to the recipient nation’s economic growth (Nijkamp & Toth, 2006, p. 27). This is in fact the reason why developing nations all around the world are keen to attract FDI inflows which recuperates their resource crunch by a large extent. Saudi Arabia is also one of the nations which have recently understood the importance of foreign direct investment for a sustainable long term economic growth. This actually has stimulated the amount of FDI inflows within the nation from Middle-Eastern nations as well as non Middle-Eastern ones. Statistics recorded in the year 2010 state the total volume of FDI inflows in Saudi Arabia to equate almost US$ 5.8 billion. This has actually assisted in capital enhancement in the economy, a growth in productivity of factors as well as an improvement in employment opportunities within the economy (Ramady, 2010, p. 343). In addition, the nation is also involved in FDI outflows, which equally contributes to the nation’s development through returns on investment. The present paper purports the trends in FDI inflows and outflows within Saudi Arabia and tries to draw a comparison with the current situation in the nation with four other economies. The ultimate objective of the paper will be to evaluate the effectiveness of Saudi Arabia’s FDI performance. FDI Performance of Saudi Arabia Saudi Arabia had been performing commendably as far as its FDI inflows and outflows are concerned. The diagram underneath reflects the traits in gross FDI inflows in the economy between 2005 and 2009. It clearly shows a rising positive trend in the same in addition to a rise in the nation’s stock of capital being accumulated. However, despite the overall positive scenario, the gross volume of FDI inflows is found to have diminished between 2008 and 2009 even though it is a nominal one, amounting to US$ 2.7 billion. But one positive point about this negative difference is that it is much lower in magnitude compared to the magnitudes of rise in FDI inflows that the nation had been experiencing over the past few years. This very fact suggests a smoothening of fluctuation in the inflowing volumes of FDI which implies a softening of discrepancies. In fact, as far as the Government of Saudi Arabia has opined, the economy possesses immense potentials which could be employed in enticing more FDI. This is evident from the reduction or easing of annual differences in inflows and outflows within and out of the economy (SAGIA, 2010, p. 2). Growth in the volume of FDI outflows is also found to be quite satisfactory as FDI inflows. This is evident from the diagram underneath which shows a consistent rise in FDI outflows between 2002 and 2005 even though the nation faced with considerable depreciation in 2006 (values in the diagram denominated in US$ billion). While, the fall in the FDI outflows during recent years could be regarded as a temporary fluctuation, the largely rising trend is assigned to hefty export revenues earned by GCC nations owing to a hike in oil prices (UNCTAD, 2007). As far as the statistics for the year 2006 are concerned, Saudi Arabia along with UAE and Egypt tops the list of West Asian nations in terms of FDI inflows accounting for over US$ 5 billion. On the other hand, the economy is posited at the third position in the region in terms of FDI outflows which ranges between US$ 0.5 and 0.9 billion. In terms of net FDI inflows in the nation between 1996 and 2000, Saudi Arabia tops the list (Ibrahim, 2007, p. 28). The nation has been appreciating in terms of FDI inflows as well as outflows as the performance indices respectively show. The FDI performance index for inflow of capital had been found to be rapidly climbing up from 92 in 2005, 66 in 2006 and 51 in 2007. The corresponding figures for FDI outflows performance index from Saudi Arabia has been found to be equally soaring from 86 to 79 to 41 within the three year span. One obvious point which shows from the estimated ranks is that while the marginal scale of rise in FDI inflows had been higher between 2006 and 2005 than between 2007 and 2006, it had been the opposite in case of FDI outflows from Saudi Arabia. However, the potential performance index for FDI inflows remained constant at rank 28 between 2005 and 2006 (UNCTAD, 2008, p. 215). Comparison of Saudi Arabia’s FDI Profile Saudi Arabia had developed substantially in terms of FDI receipts and outflows within the last few years. In fact, the amount of development that the economy has attained is well comparable to that of Western economies and Asian emerging nations. The following diagram illustrates trends in the net inflow of FDI (difference between gross FDI inflows and FDI outflows) between 1987 and 2007 for USA, South Asia and Euro regions (United Nations, 2010, ‘Foreign direct investment, net inflows’). The diagram above compares the trends that net FDI inflows in different regions of the world are found to adopt over a span of 20 years. It shows the marginal improvement to be highest for the Euro zone past 1998, i.e., around the period of its inception on January, 1998. However, United States had historically attained one of the fastest growths in terms of net FDI inflows, though its growth rate eventually receded below that of Euro zone. Respective growth rates in South Asia and Saudi Arabia had been marginal in comparison to those of the other two regions under consideration. To be precise, the growth rate of FDI inflows had been recorded to be slightly higher in case of South Asia since 2005. In other words, of the four regions being considered, Saudi Arabia accounts for the lowest growth in terms of net FDI inflows over the span of 20 years. The primary reason behind such a situation is that the Kingdom of Saudi Arabia had actually opted for liberalisation much later than its three other peers. In fact, Saudi Arabia still had been at a nascent stage of liberalisation at a time when all three regions had been mature enough in this aspect. If a growth in net FDI inflows could be considered as a representative of economic liberalisation, then Saudi Arabia could be regarded as attaining the same since 2005 post when the economy started earning a positive volume of net FDI inflows. Factors influencing FDI Flows in Saudi Arabia In order to attract a good deal of net FDI inflows within an economy, it is highly important to consider the factors which tend to influence the same. These factors could actually be categorised into three kinds, namely, location choice decisions, competitive advantage of operating in a particular economy and lastly, the ease with which a particular host economy market could be entered. All the aforementioned points had been assessed for Saudi Arabia in the paragraphs underneath. Location Factors Normally, the foreign investors tend to examine the advantageous facets of locating their future production unit at a particular spot. Their later step will be to convince the respective government of the nation to allow their entry through offering them with incentives and other lucrative proposals (Oman, 2000, p. 115). Saudi Arabia is one of the most lucrative of all destinations for FDI inflows in West Asia as is relevant from the fact that the lion’s share of the total volume flows into Saudi Arabia as far as statistics between 2005 and 2006 are concerned. The diagram alongside illustrates the above point. One of the prime reasons behind an increasing trait among global investors to invest in Saudi Arabia is that the national government has decided to spend a lump sum amount on infrastructure owing to an expansion in oil revenues occurring due to oil price hikes. Development of infrastructure in case of Saudi Arabia actually refers to betterment in drainage as well as energy endowments. These advances would not have been possible without support from private as well as foreign investors (UNCTAD, 2008, p. 55). Rationale behind selecting these very sectors is to lure industrial units from different corners of the world to set up their businesses in the nation. Competitive Advantages Factors which contribute to the competitive advantage of locating at a particular region lies in a variety of factors such as low cost of labour, benefits of location, etc. These are the very factors which actually stimulate foreign investors towards deciding to invest in a particular host economy. These factors decide the extent to which the investors need to endure the costs of operations. Improvement in the infrastructural front is one of the factors which actually contribute to a reduction in the cost of production. Saudi Arabia had been contending in this front with many of its developed peers in order to divert the flow of FDI inflows within the nation. The better the infrastructural development in the nation is, lower will be the marginal cost of production in the nation. This is the reason why Saudi Arabia had been so prompt in ensuring an improvement in its infrastructural aspects. The national government has been investing behind the development of both social and physical infrastructure of the nation immensely. In fact, the investment of US$ 17 billion which it made for the betterment of educational sector of the nation is worth mentioning. The kind of improvement it has been carrying on includes the arrangement of training programmes, providing employment facilities to the women of the economy, reduction in reliance upon foreign workers in order to create youth employment in the nation, etc (Niblock, 2006, p. 120). Entry Mode It is equally vital for potential investors to examine the mode of entry within the market of the respective host nation. In case that the mode of entry is quite a tough one, it is reflected almost in the form of an increased cost of operation. The mode of entry in the Saudi Arabian market still is quite restrictive in nature and demands all potential investors to possess a license of operation within the economy. The duration of granting the license by the Saudi Arabian General Investment Authority (SAGIA) is a month. Furthermore, foreign investors cannot also own more than 60 percent of total stakes in a company set up within the host economy. Their participation in the domestic stock market is also limited to 10 percent of total shares being issued (Office of the United States Trade Representative, 2008, p. 436). Government Policies controlling FDI Flows The national government of Saudi Arabia had taken immense efforts in attracting FDI flows within the nation. The Council of Ministers of Saudi Arabia granted a new FDI policy in order to facilitate the establishment of fully or partially owned foreign companies. The national government also set up the SAGIA in order to assist the foreign investors towards establishing their business in the nation. Additionally, the organisation founded a Women’s Investment Centre to encourage foreign women entrepreneurs. SAGIA which is a representative of the national government permitted the establishment of financial intermediaries through the Capital Markets Law of 2004. However, there are certain rules and regulations which they need to maintain in order to obtain individuality (Office of the United States Trade Representative, 2008, p. 436). Evaluation of the Present Scenario The present scenario of the Saudi Arabian market is quite alarming given that the nation is believed to be moving at a sloth pace regarding an appropriate employment of its resources. This had been evident from a large number of researches being carried on by observers on the basis of cross-sectional surveys and employing qualitative research techniques. An interview conducted across the economy to examine the financial, investment and bureaucratic situations in the economy in the year 2004, revealed quite alarming facts about the nation which actually raise a question about the effectiveness of operation of the national administration. One of the most important requirements for the provision of FDI flows within the nation will be an increased amount of privatisation within the nation. However, according to the views posed by the interviewees, the national government maintains a very poor stance as far as the issue of privatisation is concerned. This is evident from the poor rate of participation in the domestic stock market which broadly reflects the negative mindset among the indigenous investors. Furthermore, the national credit market position is also not worth mentioning given the woes of potential borrowers while asking for loans. The extent of infrastructure that the nation involved itself into is found to be quite poor and lagging behind the demands of privatisation. Most of the interviewees criticized about a lack of proper drainage system, supply of electricity, etc. They also complained about an improper telecommunication system in the nation which actually is regarded as a hurdle for industrial development in a nation. The country had an access to mobile connectivity only after the advent of the new millennium and that too in certain selected areas. Quite obviously, the situation could be comprehended as a tensile one for the development of Information Technology within the economy. This is a serious setback in an age of liberalisation when most of the companies with their offices spread across the world prefer to stay connected with each other via IT. A recent report suggests that the national government needs to invest at least US$ 267 billion more over a span of 20 years more in order to bring infrastructural development in Saudi Arabia in the true sense of the term. According o the records for the year 2004, only 6.5 percent out of the total budget had been allocated for the development of physical infrastructure in Saudi Arabia (Niblock, 2006, p. 120). In addition, the interviewees also pointed out the lack of efficiency among the national bureaucrats which actually is reflected through their indifferent nature and absence of interest about privatisation plans, which actually is very important in order to ensure a sustainable development. Moreover, many also pointed out a lack of transparency in the legal framework of the nation which prohibited many potential investors from venturing into the economy (Malik, 2004, p. 134-6). Conclusion The present paper dealt with the prevailing investment situation in the economy of Saudi Arabia. The nation has been found to possess immense investment potentials though it lacks the effectiveness of operation. But given the nation’s liberalisation move post the 21st century, its progress had been commendable and so had been the national government’s efforts. However, there is yet a long way to go to attain success in the field and for the economy to establish itself as a lucrative destination for foreign investments. References Ibrahim, B. E. D. A. 2007. Economic co-operation in the Gulf: issues in the economies of the Arab Gulf Co-operation Council states. Malik, M. 2004. ‘The role of the private sector’ in Economic development in Saudi Arabia by Wilson, R. (ed). London, UK: Routledge. Niblock, T. 2006. Saudi Arabia: Power, legitimacy and survival. Oxon, UK: Routledge. 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