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Ethiopia's Council of Ministers on 30 November approved an
amendment to the Investment Proclamation 2012, which is likely to
be finalized by the House of People's Representatives (parliament)
in December. The law provides a framework for foreign investors to
participate in the aviation, energy, logistics, and
telecommunication sectors, but the banking sector is excluded.
Parliament is very likely to finalize the new investment law
before 2020, enabling foreign investors to operate in competition
against, or in joint venture arrangements with, Ethiopian companies
in aviation, energy, logistics, and telecommunications. Prompt
passage of the law is almost certain because the ruling Ethiopian
People's Revolutionary Democratic Front (EPRDF) controls nearly all
the seats in parliament. Once the law is passed, foreign companies
will be allowed to enter joint ventures with Ethiopian companies,
up to a maximum 49% share of ownership. A minimum USD200,000 in
capital is required for a single project and any investor may
operate a foreign-currency account in Ethiopian banks. The
amendment bill was drafted within the Prime Minister's Office by
former World Bank and International Monetary Fund officials of the
Ethiopian Investment Commission (EIC) responsible for coordinating
Ethiopia's 'Doing Business Road Map'. This was established to
improve the country's business environment to support the flagship
'Home-Grown Economic Reform Program'.
The banking sector is excluded from privatization, although IHS
Markit sources note that the current draft bill states that
'financial services', such as developing credit information sharing
systems, are open to foreign investors. A further draft regulation
seen by IHS Markit on 29 November, which has not yet been submitted
to the Council of Ministers, specifically excludes foreign
investors from banking and insurance. A first step in opening the
banking sector was the inclusion of the Ethiopian diaspora in
August 2019. A key barrier to foreigners obtaining operating
licenses or stakes in state-owned banks is that Ethiopia's banking
sector is highly concentrated, with the state-owned Commercial Bank
of Ethiopia (CBE) accounting for 60% of sector assets and currently
experiencing severe foreign-currency shortages. Opening the sector
to foreign investment would help to alleviate the sector's
liquidity shortages, particularly in the provision of capital for
large transactions. In addition, it would facilitate trade
transactions due to improved access to foreign currency and should
assist in developing Ethiopia's virtually non-existent capital
markets.
A key indicator of banking-sector liberalization would be
government measures to reform and strengthen the financial
performance of state-owned Development Bank of Ethiopia (DBE),
which also would improve the banking sector's overall stability. In
September, the National Bank of Ethiopia (NBE), the central bank,
relaxed exchange control regulations on foreign-currency accounts
held by the diaspora and, in November, lifted its mandatory
requirement for private banks to purchase bills valued at the
equivalent of 27% of their loan book from the NBE. According to the
International Monetary Fund (IMF), 75% of funds from the mandatory
NBE bill purchases were channeled to the DBE, which is responsible
for longer-term financing of mega-projects and is struggling with
poor asset quality. Although the sector's level of non-performing
loans (NPLs) was just 3% as at June 2018 (when last reported by the
NBE), the NPL ratio for the DBE stood at 39% as of June 2018. This
is putting pressure on the sector's already weak liquidity
position.
IHS Markit assesses that a key barrier to foreign investment
will be the persistent shortage of foreign exchange (FX), although
the shortage is less likely to affect larger corporations in
export-focused sectors compared to small and medium-sized
enterprises (SMEs). Our outlook is that this shortage is likely to
persist as a constraint to investment. The government is struggling
to break the cycle of weak exports and depleted foreign reserves,
with the latter likely in our assessment to remain below three
months of import cover for the one- to five-year outlook. SMEs
typically face payment delays of over 90 days, while importers are
suffering growing backlogs with letters of credit because of severe
liquidity shortages in the domestic banking sector. Overall, SMEs
are particularly badly affected by FX shortages, making them less
attractive for foreign investors, whereas larger corporations are
likely to be less-severely impacted by these shortages. We assess
that FX shortages are least likely to affect the non-bank financial
and telecommunications sectors as investment destinations, as they
are less capital-intensive and not dependent on high-value
imports.
Ethiopia's privatization drive
If Ethiopia's GDP growth falls significantly below our current
forecast levels of 7.5% in 2019 and 7.4% in 2020, driven by
declines either in foreign direct investment (FDI) inflows or in
support from development partners, then the government will become
more likely to seek to break the cycle of weak exports and FX
shortages by liberalizing the managed exchange rate.
If the central bank devalues the Ethiopian birr, it will reduce
downside FX risks for potential investors. It could thus boost
future FDI once the currency was viewed as better underpinned.
If the investment amendment bill is modified before approval by
parliament to increase the minimum capital requirement to above
USD200,000, this will indicate a potential increase in the
aggregate amounts invested: the capital requirement is low versus
those of regional peers and an increase is unlikely to deter
investors.
If Defense Minister Lemma Megersa, the deputy chairperson of
the prime minister's Oromo Democratic Party, defects this month
given his opposition to the ruling EPRDF's merger into a single
party, this will indicate reduced support in parliament for the
Investment Amendment Bill or the need to include greater fiscal and
local-content concessions to the regional states, especially
Oromia.
Posted 23 December 2019 by Chris Suckling, Ph.D., Principal Analyst, Economics & Country Risk, IHS Markit