Exclusive Analysis, recently acquired by IHS, examines the key risks for investors in four Asian countries.
With worldwide investors ready to pounce on Myanmar’s resources, joint ventures are likely the easiest way to mitigate some investment risk.
In October 2012, parliament moved to amend the 1990 Central Bank law to create an independent Central Bank of Myanmar (CBM) with full authority over monetary policy. The CBM falls under the industry ministry at present. This decision, along with the government allowing for a freely floating kyat, reflects a policy commitment to price and currency stability and more currency convertibility. The move is likely to see the creation of an independent monetary policy framework within the one-year outlook. However, the benefits are unlikely to be immediate due to the slow pace of legislation, the lack of an effective financial infrastructure and too few trained financial officials.
The government began a managed float regime of the kyat in April 2012 and is moving to develop an interbank money market. This follows decades of a fixed-rate currency system that led to the growth of a large black market in foreign currency transactions. Access to currency is likely to become gradually easier following the CBM’s decision in December 2012 to allow 11 domestic banks to transfer foreign currency. Only two banks had previously been allowed to do this. In March 2013, the government announced it would phase out its Foreign Exchange Certificates (FEC) gradually over an unspecified time period. The FECs were introduced to stop tourists from exchanging dollars for kyat on the black market at a much higher rate.
The previous currency regime, which had been in use for over three decades, kept the kyat artificially overvalued. In March 2012, before the managed float was introduced, the kyat was officially valued at US$1/6 compared to a black market rate of US$1/820. Since then the kyat has remained relatively stable and similar to the black market rate. The kyat was valued at US$1/880 officially compared to US$1/885 on the black market in March 2013.
The economy has been cash-based, with almost no credit card usage. Only 2% of the population have bank accounts, and there is little public trust in banks after the 2003 banking crisis. This means they have little capacity to access savings to support credit for business loans. Foreign investors will need to raise capital outside of the country for at least the next year. The government is highly unlikely to open the banking sector to foreign investment in the next year as it fears that local banks will be unable to compete. It is more likely that foreign banks will be able to participate in joint ventures in which they hold a 35 to 40% stake by 2015.
The government is hesitant to cancel foreign contracts as these bring in much-needed foreign direct investment (FDI) and because many senior military leaders have vested interests in such joint ventures. There are three main groups which have influence over the signing and allocation of contracts within the country and any foreign investor who wants to do business will probably have to work with one of the groups in order to sign contracts with the government.
The first are retired and current Tatmadaw (military) officers, many of whom are members of the former military government and have political backers, who own the most successful businesses ranging from hotels to ports and restaurant chains. The second are the economic arms of the military: the Union of Myanmar Economic Holdings and Myanmar Economic Corporation. The third are associates who were the direct recipients of state-owned businesses that were privatised before the 2010 elections, giving them a significant commercial presence.
Political reforms now allow for citizens to carry out protests and this, coupled with rising environmental concerns, puts the government under increasing pressure to go back on contracts in the natural resources sector. In September 2011, the government was forced to cancel the Asia World and China Power Investment Corporation’s Myitsone dam project following major street protests and demonstrations by villagers affected by the project.
The government may be trying to reassure investors, but mining firms face operational risks that will likely increase.
On April 19, Mongolia’s parliament amended the strategic entities foreign investment law (SEFIL), removing the need for private investors to seek parliamentary approval for their investment. The SEFIL, enacted in May 2012, governs the financial, telecommunications and mining sectors and the government acknowledges it has contributed to investors’ perceptions of a deteriorating investment climate. Additionally, the Mongolian government has indicated a new investment law will be introduced as early as July 2013, guaranteeing private investors protection from legal and regulatory changes for up to 20 years.
These measures may facilitate private foreign investment in the financial and telecommunications sectors but there are still likely to be risks facing mining investors. The governing Democratic Party (DP) and its coalition partners, who took office last July, are jostling for control of regulatory agencies, which will likely slow administrative procedures. In addition, the DP-led coalition is also likely to undertake corruption investigations in connection with contracts awarded by the previous government. In January 2013 the former head of the mining authority was convicted for corruption.
Further, proposals for a new mining law would give local government greater control over mining projects. As political power in Mongolia is partly defined along ethnic clan lines, devolving control over mining projects effectively boosts clans’ power relative to one another. Increasing local governments’ powers will likely heighten the risk of interference with mining projects at the local level, and tighten parliamentarians’ scrutiny on the basis of clan loyalties at the central level.
Although mining firms are lobbying to have provisions of the proposed new law revised, we do not expect the provision concerning increased local control over mining projects to be substantially changed. The DP-led coalition has a slender parliamentary advantage, which it must keep intact while fending off allegations of appeasing the mining lobby from a strong opposition. These political factors make it unlikely that proposals for a new mining law will be significantly watered down, and could also delay passage of the new law.
Vietnam’s contract frustration risk score sits at 3.8 in the ‘severe’ category. Below only Afghanistan and North Korea, the country’s severe risk rating is due to the likely delays and disruption in enforcing contracts.
Although considerable improvements have been made in legislation related to investments, contracts and arbitration over the past five years, disruption and delays in enforcing contracts are severe. Current laws emphasise arbitration between parties before seeking enforcement through courts. Judges often have little experience in dealing with complicated cases, and without any systematic publication of judicial decisions, precedent is difficult to assess. In addition, corruption and political interference surface at all levels, from trial to enforcement. Foreign investors require an investment licence to operate in Vietnam. Although licences are unlikely to be arbitrarily revoked given the vested interest of senior government leaders, foreign firms are unlikely to win a contract dispute with the government.
Conflicting maritime claims by Vietnam and China in the South China Sea increase the risk of contract delays and cancellations for firms operating in the area. As a result, in April 2012, Indian oil company ONGC Videsh announced that it was suspending operations in Block 123 in the PhuKanh basin in the South China Sea, which straddles the disputed area between the two countries. Similarly, Exxon Mobil also halted its operations in the area in late 2011. As long the territorial dispute is not resolved, which is unlikely in at least the next year, this risk will remain.
The risk of bank runs in the one-year outlook is low only because the government is injecting capital into the banking sector and forcing mergers of smaller banks to improve their capital base. The government will likely continue to force state banks to lend to financially vulnerable companies, as the suspension of this credit channel would certainly increase systemic bankruptcy risks. Given the pressures on larger banks, public bank loans to corporates are likely to continue to have shorter repayment timelines than the loans made by private banks. This will probably leave banks exposed to liquidity shortages, especially if the government suspends credit facilities to the banking sector. Thus the banking system will probably remain dependent on government support and will face a high risk of bank runs and defaults if this is suspended.
In December 2010, state-owned shipbuilding company Vinashin defaulted on a US$60mn instalment of a US$600mn loan made by a Credit Suisse-led consortium, after its losses reached nearly US$4bn. The government intervened to stabilise the shipbuilder’s production and business, and to restructure its finances. Contracts of Vinashin and other large state-owned enterprises are likely to come under closer government scrutiny in 2013. The government is very likely reviewing the viability of projects of such state-owned companies in order to ensure that no other state-owned corporation defaults on its loans or contractual obligations.
Political parties are likely to call for greater indigenous control of resources ahead of the 2014 elections, but it’s just rhetoric.
On March 7, 2013, Prosperous Justice Party (PKS) candidate Gatot Pujo Nugroho won gubernatorial polls in North Sumatra, following another PKS candidate winning the governorship of West Java in February. Campaigning partly on a nationalistic platform of greater localisation of foreign businesses, PKS along with PDI-P, Golkar and the Democratic Party, are likely to push for a greater local control of energy resources ahead of legislative and presidential elections next year. We assess this to be largely campaign rhetoric, with few policy implications in the one to three-year outlook. However, in the five to 10-year outlook, opportunities for foreign firms will decrease as successive governments increasingly seek greater indigenisation.
Energy resources nationalism is very likely to wane immediately following the elections. Key leaders within the country’s ruling coalition (Golkar and the Democratic Party) and key opposition (PDI-P, PKS) parties have vested interests in many foreign oil and gas operations across the country. In addition, the government is likely to prioritise attracting FDI to supplement falling oil production and capital inflows.
Indonesian political parties are pushing a nationalistic resources policy because it is popular with the electorate. In November 2012, the Constitutional Court disbanded oil and gas regulator BPMigas over allegations that the body was overly benefitting foreign firms to the detriment of local companies. The application was brought about by political parties and Islamic groups supported by Golkar and PDI-P. Legislators are also pushing to ensure that new production-sharing contracts limit gas exports to 50% or less of total production. The energy and mineral resource ministry has said that some oil and gas operations could face contract renegotiations if they were not “beneficial” to the country.
Golkar’s Abudrizal Bakrie and the Opposition PDI-P’s Megawati Sukarnoputri have also been openly pushing for an increase in local operator ships of 29 oil and gas concessions that will expire by 2021. However, this is likely to be rhetoric as all major parties have interests in the oil and gas sector, and they will use the current regulatory uncertainty ahead of the elections to make money for themselves.
According to the 2009 law on presidential elections, only political parties or coalitions who win more than 20% of legislative seats can field presidential candidates for direct election in mid-2014. With legislative elections expected only in April 2014, it is unclear who the presidential candidates will be. Regardless of the candidates, PDI-P, Golkar, PKS and the Democratic Party are very likely to be important players in determining who becomes president.