72365 Realizing the potential of FDI to diversify Lesotho’s exports: An assessment of the key opportunities and constraints Policy note* August 2009 Poverty Reduction and Economic Management 1 & International Trade Department Southern Africa Africa region ____________________________________________________________ Document of the World Bank * Written by Ian Gillson and Kebede Feda, with inputs from Thomas Doyle (customs and trade facilitation). 1 Introduction Lesotho is a small economy1, highly dependent on trade with both the US and South Africa2 and, being landlocked, relying primarily on the latter for its access to trade with the rest of the world. Lesotho‟s macroeconomic policy is circumscribed because of its membership in the Common Monetary Area (CMA) while its trade policy is limited because of its membership in the Southern Africa Customs Union (SACU). These features are, however, not necessarily liabilities. Being landlocked is not a constraint because Lesotho‟s access to South Africa‟s superior infrastructure offers low cost exit to world markets for it merchandise. Smallness can be an asset too as the country only needs to capture a small share of a large market to have a significant impact on exports, growth and job creation. But for Lesotho to do this, it must be part of a larger open market. Hence reinforcing a liberal economic environment domestically, ensuring macroeconomic stability and encouraging integrated markets both regionally and with the rest of the world are key to Lesotho‟s economic success. Lesotho, with PPP GNI per capita of US$1,890 in 2007 (World Bank, 2009) stands out in four important respects from other LDCs. First, while landlocked, Lesotho borders just one country – South Africa – that has a developed economy with modern transport infrastructure. Secondly, because of its large external sector, gross national income (GNI) is a better indicator of national welfare than is GDP. Thus while per capita GDP grew by an average of just 2.6 percent per year between 2000-07, annualized GNI per capita increased by an average of 5.2 percent per year over the same period. Thirdly, Lesotho has had a relatively liberal (but complex) foreign trade regime through its membership of SACU. Fourthly, among countries with similar developmental characteristics, Lesotho‟s foreign trade and investment performance stands out. Openness of its economy as measured by foreign trade as a percentage of GDP was 151 percent in 2007, the second highest among African countries (World Bank, 2009). Only the Seychelles (317 percent) is more open. Over 2000-07, the average annual growth in imports plus exports (13 percent) has been higher than the growth in GNI (11 percent). Export-led growth has therefore driven Lesotho‟s economy, with an average annual export growth rate of 19 percent over the same period. Lesotho has done very well in attracting FDI to support its economic growth. Over the past two decades investments have been driven largely by the construction of the Lesotho Highlands Water Project (LHWP), and by capital injections (largely from South Africa and Asia) into textile and clothing manufacturing for export. Through mostly foreign- owned firms, Lesotho has become the largest exporter of clothing under AGOA. Foreign firms in Lesotho now account for three-quarters of total export earnings and, in non- clothing sectors, account for over half of exports to South Africa. Foreign subsidiaries 1 It has a small population of 2.0 million (versus 47.6 million for South Africa) residing in an area that has only 2.5 percent of South Africa‟s land mass. 2 The volume of its trade amounted to 151 percent of GDP in 2007. Over 80 percent of its imports are sourced from South Africa, but 60 percent of its merchandise exports are sent outside Africa, primarily to the US. 2 employ over 40,000 workers – or one in four in the private sector. Consequently foreign investment has and will continue to shape Lesotho‟s foreign trade. But the external conditions that have helped drive Lesotho‟s trade and investment boom are disappearing. This is reflected by growth rates that were once high but are now starting to fall. For example, in 2006 growth was 8 percent but has since weakened. GDP growth decelerated to 3.5 percent in 2008 and is projected to be 0.6 percent in 2009. The causes have been numerous, but one of the most important has been the end of quotas on international clothing trade which since 2005 has intensified competition from large Asian clothing producers and has resulted in a fall in exports, particularly to Lesotho‟s largest export market – the US. Added to this has been the more recent impact of the global slowdown in demand which since 2007 has negatively impacted both Lesotho‟s manufacturing sector but also diamonds. Lesotho‟s clothing exports, in dollar terms, fell by 11.5 percent in 2008, and in the first six months of 2009 were 21 percent lower compared with the first six months of the previous year. Jobs in the sector have declined from 45,000 in July 2008 to 39,000 in February 2009. And since the second quarter of last year, prices for Lesotho‟s high quality gemstones have declined by more than 40 percent. In the 2009 Budget Speech to Parliament, the Minister of Finance and Development Planning provided a precise summary of the actions Lesotho must take to address these challenges:  Preserve capacity to produce more and better goods [when global demand returns];  Seek new markets and identify new products to sell regionally and internationally. [Lesotho’s] national market and purchasing power are small, hence the need for international markets;  Preserve as many as possible of [Lesotho’s] existing manufacturing jobs and create new ones through enhanced public investment;  Undertake structural and institutional reforms to enhance [Lesotho’s] global competitiveness and attractiveness for “Doing Business� and for being an “Investment Destination of Choice�; and,  Take advantage of [its] location inside the huge economic powerhouse in the region [South Africa] through, among others, enhanced cooperation and policy dialogue. The objective of this policy note is to examine how these can be achieved. Given the low savings in the country, as well as major fiscal challenges arising from declines in SACU revenues which leave fewer resources for public investments, and most crucially the need for international entrepreneurial know-how, the prospects for growth in new sectors will depend on the country‟s ability to attract new foreign direct investments, particularly 3 from South Africa. This note also, therefore, addresses the policy and structural constraints that must be overcome to attract FDI. Market access and export opportunities Lesotho‟s exports of goods and services as a share of GDP have grown rapidly over the past two decades, more than doubling from 21.0 percent in 1980 to 50.7 percent in 2007. Virtually all of this increase has come about through changes in merchandise exports, accounting for 64 percent of total exports in 1980 and increasing to 81 percent of total exports in 2006 (World Bank, 2009). The US is Lesotho‟s largest export market, accounting for almost one-half of Lesotho‟s exports in 2007, followed by South Africa and Europe. High export growth, particularly in low value-added manufactures, has necessitated higher imports of capital inputs and raw materials. The structure of Lesotho‟s imports has remained fairly stable, with imports from South Africa dominating. Imports from Asia have increased in importance as Asian clothing exporters in Lesotho source inputs from their host countries, particularly Taiwan, Hong Kong and China. Prospects for Lesotho’s exports to the US Market: Recent data for US imports, Figure 1: US imports from Lesotho taken from the United States 500 International Trade Commission 450 Total imports HS 61 & 62 (USITC), shows that until 2004 400 Lesotho‟s exports to the US were almost 350 entirely in clothing (HS61 & 62), and US$ millions 300 from 2004 onwards diamonds (8% in 250 2008) and clothing (91%). Figure 1 200 illustrates the dramatic rise in Lesotho‟s 150 exports to the US following the 100 introduction of AGOA in 2000 growing 50 at an average of 36% per year between 0 2001 and 2004. 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 Source: USITC. However in 2005 Lesotho‟s exports to the US fell by 14% due to the end of quotas governing international trade in clothing (the expiration of the WTO Agreement on Textiles and Clothing) as well as an appreciation of the domestic currency. These events brought increased competition from larger, more competitive producers such as China and Vietnam. Exports of clothing have since continued to fall (by 16% in 2008 alone) but going forward there are four factors that will affect the prospects for Lesotho‟s exports of clothing to the US. The most important will be (i) the ability of Lesotho to improve its competitiveness through increases in productivity. This is needed to counter the negative effects arising from (ii) the fall in aggregate demand for clothing from US consumers as a 4 result of the global slowdown and (iii) the demise of the Duty Credit Certificate Scheme (DCCS) for clothing exporters. (iv) The value of the Rand also has an effect. In terms of competitiveness, Lesotho‟s labor costs are its key source of Table 1: Average wages in clothing comparative advantage in clothing US$ per hour production. These remain competitive Selected SACU competitors despite the recent expansion of the Lesotho 0.45 clothing sector which has led to some South Africa 1.38 upward pressure on wage rates (see Swaziland 0.86 Table 1). Fluctuations in wages are also Selected AGOA competitors influenced by exchange rate volatility of Kenya 0.38 the South African Rand which is pegged Mauritius 1.25 one-to-one with the Lesotho Maloti. Madagascar 0.33 Lesotho‟s labor force still tends to be Selected Asian competitors characterized by a lack of technical and China 0.78 managerial staff. This problem is often India 0.38 aggravated by skilled labor leaving Sri Lanka 0.48 Lesotho to work in neighboring South Source: Fontaine (2008). Africa where there are higher wages and more employment opportunities. While slowly changing, the paucity of skilled labor is one factor that has constrained Lesotho in its ability to attract new FDI to diversify into higher value added exports such as leather and consumer electronics (Bate, 1999). Lesotho‟s labor productivity levels are also lacking, being around half of those in East Asia (Sandrey et al., 2005). Few firms, especially in the manufacturing sector, have formal training programs. So while there have been some efforts towards on-the-job training adopted in Lesotho3 which have successfully attributed to productivity increases (with funding from the World Bank as well as the ComMark Trust4), labor productivity in Asia has risen more rapidly as workers there benefit from more frequent retraining as new technology is adopted. Lesotho currently spends 300-400 million Maloti annually on tertiary training but more might be required to supply those types of (semi-)skilled workers demanded by foreign investors, particularly for activities outside of clothing production. Another approach might be the use of public-private partnerships to address skill gaps. For example, the skills program in the garment industry in Lesotho financed under the World Bank Private Sector Competitiveness and Economic Diversification Project has already trained 200 workers and is gaining a lot of traction from the private sector. Contributions from the private sector are received on a sliding scale. Initially, 100 percent of the financing came 3 Principally, projects aimed at making the Basotho workforce more productive and providing skills which will enable them to move into supervisory and middle-management position. 4 Launched in June 2004, the LNDC/ComMark Apparel Training Co-financing Scheme allocated a three- year budget of R7.5 million for training of factory workers. The scheme provided incentives for textile and clothing companies to train their employees. 37 companies, representing 85% of the sector, registered with ComMark to use their training providers. 5 from the project falling to 20 percent in its last year (80 percent to be received from firms). Lesotho must also consider possibilities for export expansion in the US market with both existing products that it currently sells elsewhere as well as potential new ones. The former would comprise products such as shoes which are almost exclusively sold to South Africa despite being eligible for preferences in the US under AGOA. For example, Lesotho exports US$2 million of shoes made from textiles to South Africa (HS 640299) but none to America (at least in 2008), despite the US importing almost US$4 billion of these products annually from all sources including under preferences from other AGOA beneficiaries such as Ethiopia. The latter might include new clothing lines but particularly higher grade products such as leather products, furniture and simple electronics. New products could also be developed to add value to existing garment exports, for example knit fabric manufacturing, sewing thread, zips, buttons, and labels as well as finishing facilities (e.g. dyeing, packaging) and services (e.g repairs). There are also other potential textile and apparel products that Lesotho could consider manufacturing that are less dependent on time-to-market considerations and not so complex that they are capable of being produced there, for example blankets; tablecloths; towels; technical textiles such as waterproof fabrics; laminated fabrics; and, medical textiles. AGOA now provides preferences for these products to lesser developed beneficiaries like Lesotho but unlike for apparel products, these items remain subject to strict rules of origin so the inputs would need to be sourced regionally. Export opportunities in the EU market: There are also opportunities for Lesotho Figure 2: EU imports from Lesotho to diversify into new global markets to 180 reduce its dependence on the US. Europe 160 Total imports Diamond imports is a growing market for Lesotho, 140 accounting for one-fifth of Lesotho‟s 120 exports and now the third largest Euro millions destination after South Africa. Most of 100 Lesotho‟s exports there are in diamonds 80 (see Figure 2). The EU is not currently 60 an important market for Lesotho‟s 40 clothing sector although small flows of T-shirts and pullovers have been 20 exported there since 2002. 0 2002 2003 2004 2005 2006 2007 2008 Year Source: Eurostat. In the past, rules of origin have explained Lesotho‟s inability to penetrate the EU market as it needed to make clothes from regionally-produced fabrics to be eligible for duty-free treatment there. But EU rules of origin have now been relaxed since the beginning of 2008 under the interim Economic Partnership Agreement (iEPA). Single transformation rules have been agreed that are similar to those under the third country fabric derogation 6 in AGOA. These have the potential to give a significant boost to the clothing industry in Lesotho and present a new option for diversifying its exports. In addition there may also be opportunities for arbitrage-seeking activities from South African clothing investors looking to set up cut, make and trim operations in Lesotho and to use it as a gateway to preferential access in the EU clothing market under the new rules. Within the clothing sector, the initial impacts of the iEPA appear promising although Lesotho‟s exports of these products to the EU remain small. Recent monthly data shows that EU clothing imports from Lesotho increased by approximately 9 percent in 2008 compared with the previous year. In contrast, EU imports of these products from all sources increased by just 2.2 percent over the same period so Lesotho has gained import share. And some of Lesotho‟s clothing exports to the EU, such as men‟s jackets and trousers, have grown much faster. But while the EU market for clothing is larger than regional markets, such as South Africa, it remains smaller than the US. Crucially, pricing is also more competitive in the EU than in the US. For example, the average margin of preference conferred on EU clothing imports under the iEPA is 12 percent, which is three percentage points lower than under AGOA (the US imposes higher MFN tariffs on its clothing imports versus the EU). This presents a challenge to those Taiwanese-owned clothing firms currently supplying the US market who are already showing a willingness to explore opportunities in the EU. Outside of clothing, the benefits of an iEPA for Lesotho are likely to be limited unless a full EPA (with provisions going beyond goods trade) is designed that contributes to a broader strategy for Lesotho to increase its competitiveness and to accelerate export growth and diversification. Prior to signing the iEPA, Lesotho already had duty-free and quota-free access to the EU market under the Everything But Arms initiative so preferences alone will not be enough to achieve this objective. A full EPA would therefore need to go beyond tariffs to reduce other forms of trade costs if it is to bring real benefits, outside of the clothing sector, to Lesotho. The trade costs relate not only to exporting goods to foreign markets but also to reducing the cost of imported inputs that go into domestic production. iEPAs should therefore not be the end of the process if EPAs are to have a meaningful impact on trade. In their current form, they will provide for tariff preferences as part of a WTO-compliant trade arrangement, and offer particular benefits to clothing due to the simplified rules of origin, but do little to reduce other forms of trade costs. For example, an important market access issue is rules of origin, which – outside of clothing – remain complex and limit the benefits of duty-free access under the iEPA. There is no compelling reason to expect the non-clothing export performance of Lesotho to significantly improve unless rules of origin are simplified. Services and trade facilitation have also not yet been properly addressed yet in most EPAs. These are important sources of trade costs, affect the performance of the whole economy, and where trade policy could have a positive impact. There is also a need for pro-active support for export expansion. As in many countries at a similar level of development, trade support institutions remain weak in Lesotho. Here, development assistance, through Aid for Trade, could help reduce the costs firms face associated with finding information about export markets or complying with product standards. 7 There have also been concerns that some of the SADC-EPA provisions are not consistent with SACU‟s common trade policy and that support to regional integration, a longstanding objective of EPAs, is therefore proving to be surprisingly nebulous. The iEPA was signed by Lesotho, Botswana and Swaziland on 4 June, 2009 and by Mozambique on 15 June, 2009. But since then, the countries that did not sign the SADC- EPA (Angola, Namibia and South Africa) have become increasingly strong in their opposing rhetoric. Chief among their complaints, these countries have argued that some of the SADC-EPA provisions are not consistent with SACU's common trade policy. For example, there were differences in the liberalization schedules that Botswana, Lesotho and Swaziland had agreed with the EU under the iEPA, on the one hand, and South Africa under its Trade, Development and Cooperation Agreement on the other. The iEPA will provide the EU with improved market access into the BLS countries for about 320 products, while the TDCA extended more favorable terms on 53 lines (see Table 2). This would contravene SACU‟s common external tariff. The EU has since promised to show some flexibility on this issue by last December proposing to align the interim EPA tariffs with those under the TDCA and to compensate South Africa for any increase in market opening. But more recently other conflicts have also arisen with SACU's common trade policy. Most recently, South Africa has highlighted that the MFN clause under the EPA is not mandatory under the TDCA. Consequently, whereas Botswana, Lesotho and Swaziland will be obliged to offer to the EU any deeper preferences they negotiate with "large" trading partners, South Africa is not. Table 2: Comparison of the TDCA and SADC-iEPA TDCA SADC-iEPA Signatories EU, South Africa (BLNS de facto EU, Botswana, Lesotho, Swaziland, members) Mozambique (Namibia initialed) Came into effect 1 January 2000 1 January 2008 EU merchandise 94% of EU imports will be 100% duty-free and quota-free access to the import commitments liberalized by 2010. Excludes wine & EU market from 1 January 2008 with some agricultural products transitional periods for sugar, rice & bananas. 450 products have lower tariffs under the EPA than the TDCA. Other signatories 86% of RSA imports will be 86% of BLS imports will be liberalized by merchandise import liberalized by 2012. Excludes red 2018. Similar to RSA under TDCA but for commitments meats, dairy products, sugar, grains some products (e.g. fish) BLS are bringing and some manufactures e.g. textiles forward liberalization to 2008, ahead of 2012 & clothing. under the TDCA and for others liberalization will be delayed (to 2018) relative to the TDCA (2012). For 4 items rates have been frozen at 2007 TDCA levels. Mozambique has committed to liberalize 80.5% of EU imports by 2018, only one-fifth of commitments overlap with BLS. Rules of origin More liberal under iEPA than TDCA for clothing (single transformation), fish & processed agricultural products. Most Favored Only consultation with the EU Countries agree to extend any preferences Nation clause required. granted to third parties to each other, if the third party is a major trading economy defined as having a share in world merchandise exports of greater than 1%. 8 Export opportunities in South Africa: Most importantly, the prospects for export growth and diversification in Lesotho are also influenced by the potential for increased regional trade under both SACU and SADC and, in particular, its close links with the largest market in the region - South Africa. Because of its size and high level of economic development, South Africa supplies more than 80 percent of Lesotho‟s imports and provides a market for 30 percent of its exports including important services such as tourism and power. Lesotho‟s exports to South Africa have been increasing, offsetting some of the losses from recent falls in clothing exports to the US. Other than the proximity advantage for Lesotho, it also has the distinct advantage of being generally counter-cyclical to demand changes in the US and EU (e.g. opposite seasons for clothing) and therefore can act as a counterbalance to these markets. Lesotho‟s main merchandise exports to South Africa are water (accounting for one-fifth of total merchandise exports); clothing (accounting for another fifth); television-related electronics; cereals and milling products; bricks (sandstone construction blocks) and wooden furniture (handicraft related). Some of these exports have witnessed high growth in market share i.e. trousers from knitted fabrics, dresses, leather, wooden furniture, sandstone, cotton fabrics and shorn wool so there remain export opportunities in these. There are also other products currently exported by Lesotho to the world (but not South Africa) that are also showing relatively high growth in South African import demand (from the world) while at the same time offering potentially high margins of preference to Lesotho within the context of SACU. These unexploited export opportunities in the South African market include types of clothing (that are currently exported solely to the US) such as trousers and shirts but also some types of leather footwear and other leather goods. There might also be other opportunities, for instance the manufacture of pharmaceuticals for regional projects to combat malaria and HIV; handicrafts; bottled water (which is still imported from South Africa despite Lesotho having one of the best springs in the world) and household appliances (building on the success of the mature TV assembly industry). Realising some of these will involve Lesotho tapping into South African supply chains. For example, the Philips factory at Maseru will produce some components for South African electronics firms. But beyond this, there might be scope for Lesotho to produce parts for the South African motor vehicle industry e.g. brake pads. There is also the important potential for agribusiness in sectors where South African farms are looking to invest to supply the largest food market in the region (e.g. animal husbandry for beef cattle, sheep and goats) as well as by exploiting niche opportunities to sell to South African supermarkets - pears and apples, mushrooms, seed potatoes, Chinese vegetables, dairy (long-life milk) and organics. 9 Attracting FDI for export diversification in Lesotho A crucial determinant of Lesotho‟s ability to realise new export opportunities will be its capacity to attract and sustain foreign investments, particularly from new sources such as South Africa, but also in new sectors. While it is clear that Lesotho has been actively trying to attract FDI to develop export production in these areas, as well as to service new markets, such investments (especially those from outside Asia) have not reached the needed levels, despite high-profile achievements such as the new Philips factory. In particular, its success in attracting Taiwanese FDI for clothing export to the US has not been matched in other sectors (e.g. agribusiness) or by other types of investment (e.g. South African). Lesotho therefore needs to increase its attractiveness as an investment destination and, to really succeed, provide a better investment climate than South Africa, which is facing its own challenges. Failure to act might result in investments locating in regional competitors where there are countries endowed with similarly low cost labor and with equal, and sometimes better (e.g. clothing), access to the South African market (Malawi, Mozambique, Zambia Tanzania) or to middle income ones (Botswana, Namibia, Mauritius) that have superior infrastructure and can afford generous investment incentives. This means that those indicators of competitiveness that rank relatively low in Lesotho should be targeted for accelerated improvement if FDI is to be attracted to promote export growth and diversification. Reform efforts are particularly needed in the following areas. Land law reform - access to factory shells and supporting infrastructure must be facilitated: Most crucially, and to secure those foreign investments that are already waiting to happen in Lesotho by South African firms, the Government must take immediate action to house these and provide the supporting infrastructure. This is by far the most serious constraint for new FDI in Lesotho. To overcome the current shortage in suitable industrial estates, the land law needs to be changed to allow foreign investors to lease land directly and for longer periods. There is also a need to reform land institutions, particularly the LNDC, to promote private sector development and/or management of industrial estates. Experience from elsewhere in the world suggests that the success of building physical facilities and supporting infrastructure for foreign investment has been linked to the ways these are located, developed and managed. Management of factory shells is enhanced when they are operated on a cost-recovery rather than a subsidized basis, and are market- orientated as well as customer-focused. This is often accomplished when factory shell development and/or management are undertaken by the private sector on a commercial basis (FIAS, 2008). For example, some of the earliest export processing zones (EPZs) in the world proved to be disappointing financially for sponsoring governments. In most cases, land and building rates were set below cost-recovery levels and zones were not expected to 10 recover operating (let alone development) costs. In other cases, foreign enterprises benefited from subsidized energy, water and other inputs. Some were developed in remote areas requiring massive public sector outlays. Incidences of failures are numerous. The Bataan EPZ in the Philippines required the construction of a US$25 million dam to provide water to zone enterprises. The Cartagena Free Zone in Colombia was located on a swamp resulting in extremely high capital development costs. The San Bartolo Free Zone in El Salvador had to be subsidized to offset high development costs due to poor site conditions. And both the Katunayake EPZ in Sri Lanka and the Kingston Free Zone in Jamaica were poorly designed, resulting in congestion and over-crowding. Other industrial estates have been developed, without investor demand. The Zolic Free Zone in Guatemala constructed over 24,000 square meters of factory space which sat empty for two years (FIAS, 2008). In recent years though, the public development costs of modern industrial estates have been reduced internationally through better location and planning of sites and the associated infrastructure together with a greater reliance on the private sector (both domestic and foreign) to develop and operate factory shells. For example, industrial zones in Mauritius, Madagascar and Kenya have all performed extremely well. Lesotho, however, conforms in many ways to the old model of factory shell development and there are clear synergies between its industrial estates and the experience with those projects elsewhere in the world that have been less than fully successful. Its provision of subsidized rents for LNDC-constructed industrial premises (see Box 1) coupled with strong demand for FDI-financed expansion of the manufacturing export sector, particularly from South African investors attracted by the prospect of lower wages and close proximity, have resulted in a clear shortage in supply of serviced industrial sites particularly for the most attractive estates (Maseru). The root cause of this shortage is Lesotho‟s land legislation that is overly restrictive and deters investment in industrial property development from the private sector in general and foreign sources in particular. Foreign investors do not have direct access to land title. Under the Land Act of 1979, “land can only be held by a citizen who is a Basotho� and it cannot be held by an individual of foreign or non-Basotho origin. Given the sensitivities over foreign land ownership in many countries in the region, not least in Lesotho that perceives its usable land to be scarce and that the land system should prevent a few who might well be foreigners from acquiring excessive amounts, leasing could be a politically acceptable alternative. But even here, under Lesotho‟s leasehold system, only Lesotho citizens and firms majority controlled by Lesotho citizens may lease land (Kumar, 2002). Maximum lease tenure is up to 90 years for residential use and 60 years for business use (30 years for foreign interests). Foreigners are only allowed to sub-lease land from Sesotho-owned entities. 11 Box 1: The Lesotho National Development Corporation LNDC is a development arm of the Government of Lesotho in terms of its founding Act, with the central goal of industrializing the economy. In pursuing this LNDC has used a two prong approach: i) attracting FDI for export production primarily by providing factory shells; and, ii) developing the local private sector. Initially, the focus on the latter was through LNDC taking equity participation in local firms but less attention has been placed on this in recent years due to the low success rates of those earlier projects supported. LNDC has been quite successful in promoting FDI in Lesotho, mostly because of external developments in the international trade environment such as the introduction of AGOA. LNDC initially focused on attracting Asian and South African investments to use Lesotho as a base for export production under preferences to both the US and regional markets. While the end of the WTO Agreement on Textiles and Clothing has brought dramatic increases in competition from Asia, newer efforts to promote FDI, particularly from South Africa, as well as the introduction of new tax incentives (in 2007 the reduction in the corporate tax rate from 15% to 10% on manufactures for export to SACU and zero percent for extra-SACU manufactured exports) have meant firms continue to enter. The LNDC portfolio of companies stood at 70 at the end of September 2008, compared to 68 in June 2008. The companies comprise 61 leasehold and 9 subsidiary and associate companies.5 Employment in the leasehold companies fell by 6.5 percent from 42,518 to 39,764 between June and September 2008 and by 2.9% in subsidiary and associate firms from 1,107 to 1,075 over the same period due to the global slowdown in demand (LNDC, 2008). A key constraint is the lack of factory shells to accommodate potential foreign investors. Rentals charged by LNDC for its factory shells are subsidized and offered to foreign investors below market rates to compete with similar rents charged by SACU neighbors (such as Swaziland) which also subsidize. This renders the industrial component of LNDC‟s operations unprofitable when seeking finance for the construction of new factory shells at market interest rates. Consequently proposals have been presented to the Government that would require it to seek concessional financing that is then lent-on to LNDC. LNDC also earns rental income through commercial operations (offices, retail, homes) which in practice cross-subsidize its industrial rentals. The recent slowdown in global demand is having an impact on new construction. Building new factory shells in the current environment is perceived to be undesirable in the event that incumbents are forced to exit leaving excess capacity without rental income to repay construction loans. Also assets in the form of factory shells for clothing production on LNDC‟s balance sheet are now considered too risky for private funding. LNDC constructs factory shells on a selective basis (which are then leased for 5 years with extension subject to review). Investors must show a commitment to invest in the form of signing a pre-construction agreement. Employment is also a primary concern in selectivity, as is the source of investment. Asian investment is dominant and Lesotho would like to attract more investment from South Africa with a view to diversifying the country‟s reliance on the US market by exploiting more long-term export opportunities with the region. Factory shells are not constructed in advance due to bad past experiences with this approach. For example, in the south of the country factory shells built in anticipation of investor demand (for activities that are water intensive due to an abundance of water in that location) remained idle as investors were more interested in being near Maseru Bridge and Maputsoe Bridge to reduce the costs of transport associated with clearing their goods though the border. The Van Rooyenshek border near the facilities in the south was perceived to lack capacity. Recent constructions include the Philips factory shell at Tikoe Industrial Estate and Nyenye Clothing (South African) at Nyenye Industrial Estate. Ten other projects remain on a priority list but due to constraints in providing new factory shells only two have been assisted. A small number of factory shells are provided outside of LNDC by private owners. However these charge market rates for rents and tend to be used only in cases of excess demand and are often vacated if and when a (subsidized) LNDC facility subsequently becomes available. 5 Five are in the production of footwear; 41 in textiles & clothing; three in packaging; three in building materials; three in electronics & engineering; two in printing & embroidery; one in health & household care; one in umbrellas; and two commercial. 12 Consequently the LNDC has evolved as a stopgap solution for foreign investors by first leasing tracts of land from the Government for industrial purposes before sub-leasing these on to them. However this is neither a competitive nor a sustainable solution. It is not competitive for three reasons. First, every land transaction involving foreign interests requires ministerial approval. In addition, while the maximum duration granted is 30 years, all sublease agreements for longer than 3 years must be registered in the Deeds Registry after obtaining Ministerial Consent for the sublease. Ministerial consent and subsequent registration can take from 3 months to 3 years. Usually, however, agreements are entered into for 3 years less 1 day, which does not require registration or any formalities except the formal stamping of the agreement according to the Stamp Duty Order. Secondly, sub-lease agreements must also pay high rates of stamp duty: 0.5% for those up to five years; 0.8% for those between 5-10 years; 1% for between 10-20 years; and, 1.4% for over 20 years. Thirdly, the procedures for transfer of titles (as well as registration of mortgages) are also cumbersome. It often takes over six months to complete these transactions. Again, ministerial approval is required for all land transactions involving foreign interests and this power has only been delegated for small mortgages (under US$100,000). These shortcoming have meant that Lesotho‟s land system has not permitted an efficient market to develop in which investors requiring land are freely able to lease or purchase titles from others and put them to industrial use. The LNDC solution is not sustainable because it offers subsidized rent on the pre- constructed factory shells it leases to foreign investors. Consequently, while there are a small number of privately-owned factory shells in Lesotho, investors often choose to establish firms in existing LNDC estates because the former charge ordinary market rents. This deters private investment in factory space and means, in effect, that the number of foreign investors in Lesotho is limited by the capacity of LNDC to build serviced sites. In turn, construction of new factory shells is being severely hampered by the inability of LNDC to secure financing at market rates again because the rents it charges do not allow for cost recovery and continue to drain its resources. On average LNDC rents are US1-2/m2 per month, among the lowest in the region but on a par with competitors such as Mozambique (see Table 3). 13 Table 3: Comparison of industrial prime rents Country Industrial rents Country Industrial rents (US$/m2 per month) (US$/m2 per month) Lesotho 1-2 (LNDC) Malaysia 3.7 Algeria 7 Mali 2 Angola 16 Mauritania 4 Argentina 5 Mexico 3.1-3.6 Benin 2 Morocco 3-4 Botswana 3 Mozambique 2 Brazil 4.0-4.4 Namibia 6 Cameroon 3-6 Nigeria 2 Central African Republic 2 Philippines 2.7 Chad 8 Rwanda 2 China 3.5-4.1 Senegal 4 Côte d‟Ivoire 3 South Africa 4-6 DR Congo 6 Sudan 12 Egypt 7 Tanzania 5 Equatorial Guinea 8 Thailand 4 Ghana 3 Togo 8 India 1.5-15 Tunisia 4 Indonesia 2.7 Uganda 6 Kenya 3 Zambia 4 Libya 6 Zimbabwe 0.2 Malawi 2.50-3.50 Source: Knight Frank LLP (2007) and Cushman & Wakefield (2009). At the same time some facilities that have been built continue to lay idle because they were constructed in parts of the country deemed by investors to be less attractive (although once thought strategic by LNDC). The ability of LNDC to offer factory shells to foreign investors at below market rates is therefore proving to be only a temporary solution to attracting and housing foreign investment in Lesotho. The impact of these shortcomings on inward FDI into Lesotho is already being felt and is most clearly evidenced by the large backlog of South African firms waiting to be allocated factory space. The number of foreign investors successfully accommodated in Lesotho by LNDC continues to be less than those that those that have been turned away. In fiscal year 2008 (April 2007 – March 2008), LNDC housed three South African companies in Lesotho. One produces electronics (Philips), the second screen printing (which is seen as important to provide backward linkages to the clothing industry) and the third duvets. There were also five expansions of existing companies. Total employment generated from both new investments and expansion of existing ones was 2,109 down from 3,008 in fiscal year 2007. Expansions were in two sectors: electronics and clothing. One expansion was for TV assembly (generating 600 jobs) and another for workwear (overalls for export to both regional and international markets creating 200 jobs). 14 However, LNDC was unable to find factory shells (either on its estates, or privately owned) for at least 10 “priority� foreign investors willing to setup up operations there. Among these were Mahlogwa (South African) to producing clothing, Spillar jeans (that caters solely for the South African market) and Madina clothing (Zimbabwean). Existing foreign firms that already had a presence in Lesotho have also found it difficult to secure premises from LNDC for expansion of their operations. For example, Jonssons clothing (a South African firm) produces workwear and corporate uniforms for South African retailers such as Pick and Pay. It employs 1,815 workers at five factories and warehouses in Lesotho but has not been able to secure a new facility this year.6 The greatest demand for factory shells, and therefore the main shortages, are for facilities around Maseru. Clothing firms, in particular, are reluctant to locate in those areas where there are vacant factory shells but the industry is not well-established because these often lack access to the larger customs borders (necessary for quick clearance of imports of inputs and exports of the final product) at Maseru Bridge and Maputsoe Bridge. Sometimes industrial areas outside of Maseru also lack supplies of labor familiar with clothing production7 and, for those firms wishing to expand, setting up in new areas may be costly if existing factories are interdependent i.e. those making fabrics need to be close to those producing clothing which, in turn, need to be located near to warehousing facilities in order to minimize transport costs, delays and time-to-market. Another concern raised by those potential foreign investors unable to find suitable factory space, and another symptom of below-market rents, is that existing LNDC facilities in those locations they consider prime are perceived to be underutilized. For example, some argue that the use of factory shells in Maseru for warehousing is wasteful, given the potential to use these facilities for more productive, employment-intensive activities. The inability to acquire factory shells, especially in the most desirable industrial estates, is leading many of Lesotho‟s potential investors to actively seek production facilities elsewhere in the region. Nevertheless many investors, particularly those from South Africa, still view Lesotho as a first-best location not least because the close proximity facilitates managerial oversight. Construction and management of factory shells are under the mandate of the LNDC while the Government‟s responsibility is to provide the supporting infrastructure. Infrastructure provision is also proving to be problematic, especially supplying essential utilities to those factory shells that have been built. The Philips factory is a prime example. While the factory is nearing completion, progress on the developing the complementary infrastructure (an access road, electricity, water and electricity) has yet to 6 On average, Jonssons clothing has managed to acquire one new facility every year since it established production in Lesotho. It has, therefore, only been the last 1-2 years when finding a new site has proved particularly challenging. 7 While some firms actively source workers from rural areas, others are more reluctant to do this. For example, Spilla Jeans has revealed a strong preference to be located in Maseru on the grounds that it has negative experiences elsewhere in attracting suitably skilled labor from non-urban areas after last establishing production facilities in more remote areas of Swaziland. 15 begin and is inducing delay. Power is the greatest problem. There is a sub-station located on the site but no power cable linking this to the factory. For those finished factory shells that have been provided with a basic level of infrastructure, other constraints include telecommunications, unreliable water and electricity supplies to the industrial estates and handling capacity at the Maseru Railhead which is critical to Lesotho‟s manufacturing for export (DTIS, 2003). Again, private sector participation in the provision and management of industrial sites could alleviate some of these infrastructure constraints, especially internally within the estates themselves. Internationally, the entry of the private sector into industrial estate development has changed the range of facilities, services and amenities available within them particularly when the private sector is also allowed to play a role in the provision of on-site infrastructure. In general there has been a shift from price-based competition (where industrial estates compete on the basis of subsidized factory shell rentals) to product differentiation and non-price-based competition (FIAS, 2008). Noteworthy trends include:  Increased specialization of facilities catering to the unique needs of target industries. High technology industrial estates have been established in Malaysia, Taiwan and Singapore. Zones catering to the software industry have been developed in India, Jamaica, the Dominican Republic and Mauritius.  Provision of a greater range of business support services. In well-run private zones, as much as 50 percent of revenues can be derived from these sources in addition to traditional rental and sales income. On the whole, privately operated industrial estates tend to offer better facilities and amenities and attract higher value-added activities. In contrast, many public sector industrial estates have poorly designed and inadequately maintained facilities. Because private factory shells are run on a cost recovery basis, they are generally more responsive to the needs of foreign investors and therefore provide a wider range of property management services including health clinics and day care centers. Private industrial estates are also generally able to command higher rents through offering better facilities, services and infrastructure. For example, standard factory building rentals in the private industrial free zones in the Dominican Republic are up to three times higher than in government-run zones (see Box 2). Elsewhere, the preference of exporting firms to locate in better configured and privately-run estates is also common where the choice exists: Kenya, Vietnam, Thailand, the Philippines, Lithuania and El Salvador. 16 Box 2: Private industrial estate development in the Dominican Republic The Dominican Republic‟s 22 public industrial development zones were established primarily as a means to encourage regional development outside of the capital city. Privately-operated zones, which currently number 31 including those that are jointly public-private owned, are instead heavily concentrated around the nation‟s capital which is the largest population center and is situated near critical port and airport infrastructure. There are 194 firms operating in the public estates and 326 in the private ones. Surveys of these enterprises show the role of the private sector in upgrading facilities and services required for exporting firms, particularly those in manufacturing. As a result, firms have demonstrated a willingness to pay higher prices (in some cases up to three times higher) in return for higher quality services and infrastructure facilities. The private estates have quality telecommunications services, business support services as well as manufacturing and office space. Source: FIAS (2008). Private industrial estates also tend to be better performers than publicly-operated ones. For example, in the Philippines firms in private industrial estates account for over 70 percent of total zone exports. Initially Government-run sites produced apparel for export but since these were opened up to private investment, 80 percent of the country‟s electronics exports now originate from these sites. In El Salvador and Honduras, over 90 percent of both exports and employment take place in private zones. Indeed, outside of East Asia and Dubai, the vast majority of government developed and operated industrial estates have been consistently less effective than their private counterparts. From the perspective of the host country, private industrial estates can therefore yield better results. They are also less expensive to develop. Private industrial sites usually require less public funding to establish and operate, mainly because private developers finance onsite infrastructure and facilities while governments are required only to provide offsite infrastructure which is normally only a fraction of the total development costs (typically no more than 25 percent). The public cost of administering industrial estates has also been reduced in a number of countries. Most private zones in Latin America and the Philippines, for example, pay for customs officials to remain onsite on a 24 hour basis. In other countries (Kuwait, Costa Rica, Uruguay and Colombia), industrial estates operators assume specific „regulatory functions‟ such as inventory counts in bonded warehouses on behalf of customs authorities, thereby further reducing the administrative costs to governments. However public cost savings through the involvement of the private sector in industrial estate development and management depend crucially on where factories are located. When private EPZs were first developed in Mexico and Central America in the 1980s, the location of these was largely unregulated. As a result, their development often required the provision of new public infrastructure. In contrast, the construction of most modern zones are subject to development controls which ensure that new industrial estates are located close to existing public infrastructure and facilities, thereby reducing government outlays. In this respect coordination and effective partnerships between private industrial estate developers and the Government in terms of external infrastructure provision are vital. Industrial areas in Vietnam, for example, have sat 17 vacant because local and national authorities could not provide road and infrastructure connections to privately built sites. The implementation of a private sector led approach to industrial estates therefore requires host Governments to ensure that the appropriate legal, regulatory and institutional framework is in place outlining rights, responsibilities, obligations and commitments of all parties with respect to industrial estate development, financing, operation, regulation and promotion. A greater role for the private sector in the provision and management of industrial estates should therefore be considered if Lesotho is to attract and cater for higher levels of FDI. This is not to say however that the Government should have no role in the process. If private development is not viable because internal rates of return are not sufficient to attract private investment in factory shells (e.g. if margins are too slim for those sectors in which the country has a comparative advantage) but economic rates of return justify public financing (e.g. in terms of job creation or export earnings) then Government intervention will still be needed. Determining the appropriate mix of public versus private financing requires good feasibility and demand analyses to determine whether private developers will choose to build sites and where. But even if internal rates of return are insufficient to attract private developers, and Government ownership of factory shells persists, management of these facilities by the private sector could still be explored to improve service and on-site infrastructure provision on the industrial estates. In Dubai, for example, this approach has been successful where there is Government ownership of the industrial zones but private management of the facilities and services. To house new FDI private sector participation (both domestic and foreign) in building and/or managing both the industrial estates and their internal infrastructure must be explored with the Government providing land, external infrastructure, the overarching regulatory framework and (possibly) financial support. The virtual monopoly that LNDC holds over the provision of factory shells in Lesotho must also be opened to allow other entities to build, own and manage industrial sites. This could be done in two ways: i) by the Government building factory shells independently of LNDC that are then managed by the private sector; and/or ii) increasing participation of the private sector in industrial site development. These would require relatively simple changes to the Lesotho‟s land law. First, it should be permitted to lease land directly to foreign investors over longer periods sufficient to attract private development. A uniform term of at least 60 years should be provided, regardless of the type of business. Secondly, the requirement for the minister or officials to approve lease title transfers should be removed. This would promote a market in land and facilitate private investment in developing industrial estates. Land use issues could be dealt with by zoning regulations instead of through approving individual land leases. Thirdly, the removal of a case-by-case approach to processing leases (and mortgages) would speed up the land process. These reforms would help those foreign investors looking to develop their own factories in Lesotho while also increasing competition among existing leased properties. There would of course be implications for LNDC which could consider (initially) entering into joint ventures with the private (including foreign) investors or (later) full privatization. Independently of private sector participation, the Government should also maintain its focus on assuming risks in providing the supporting off-site infrastructure while taking 18 steps to improve the investment climate more broadly through taking steps to reduce the costs of doing business. Investment incentives - preferential taxes should be replaced by uniformly low rates across all sectors: In addition to the provision of subsidized factory shells, Lesotho, like many countries, offers numerous tax incentives to its exporters to attract foreign investments. The preferential corporate tax rate is 0% for manufacturing firms exporting outside SACU and 10% for other manufacturing exporters as well as agricultural. The general corporate tax rate is 25 percent. For LDCs like Lesotho these tax incentives, which are linked to exports, are WTO compatible but they nevertheless create distortions. There are also other tax incentives for foreign investors in Lesotho which include (FIAS, 2007):  5% depreciation allowance for industrial buildings (but services, tourism and farming are non-depreciable).  125% training expense deduction.  No withholding tax on dividends distributed by manufacturing firms to local or foreign shareholders.  Free repatriation of profits derived from manufacturing firms.  VAT deferment facility for imported inputs into manufactured exports.  Upfront VAT refund scheme for local purchases by textiles and clothing exporters.  Duty free imports of raw materials and capital goods for manufacturing exporters.  The DCCS for exporters of clothing to non-SACU markets. Selective tax incentives such as these are second-best in encouraging investment. This is best illustrated by the pressures for granting tax concessions to new sectors in Lesotho. First, there is demand from exporters to extend the preferential 0% corporate income tax to exports within SACU. Secondly, domestic manufacturing firms that primarily supply exporting firms with inputs remain subject to the standard regime. In countries where EPZs exist, firms which mainly supply exporters can also receive EPZ status. Thirdly, the general taxation regime outside of the special regimes for manufacturing and agriculture are relatively unattractive for investors, in tourism for example.8 Consequently, a first- best solution to help diversify the economy would be to have a uniformly low level of taxation facing all sectors. Red tape must be reduced particularly in areas where South Africa is ahead: Regulatory relief from excessive administrative procedures is also important to foreign firms when making their investment decisions on where to locate. An important feature of those countries that have been successful at attracting FDI, such as Mauritius or South Africa, is a streamlined investment climate that reduces red tape and the costs of doing business. But even though Lesotho has been taking important steps to reduce these costs, 8 In South Africa the general rate of corporate tax is 18 percent. 19 including with the support of the World Bank (see Box 3), other countries are moving ahead with reforms more quickly. For example, in terms of Lesotho‟s overall ranking in the Doing Business Indicators (123 out of 181) it has fallen 26 places from its ranking in 2006 and four down from last year. This places Lesotho bottom versus its regional competitors in SACU as well as Mauritius (see figure 3). Figure 3: Costs of Doing Business 24 32 108 51 38 123 nk a ll ra er 36 48 21 38 119 150 Ov i ts P erm ion 119 178 70 38 142 uct ors n s t r v est Co gI n 20 147 154 150 149 141 with c tin ers t e ord a li ng Pro s B Mauritius De 127 87 153 129 29 135 ros y Ac ert South Africa d in g P rop Swaziland a g 7 47 153 112 80 125 Tr rin s ste nes Namibia e g i B usi Botswana R a 76 82 129 36 92 104 ng act s rti Lesotho S t a o ntr C 84 2 43 12 43 84 ng edi t f o rci Cr E n g ttin 70 73 65 52 26 69 Ge ess u sin B 64 102 40 34 73 63 ga rs lo sin rke C o gW 11 23 52 96 17 54 lo yin axe s p gT Em y i n Rank (out of 181 countries) Pa Source: www.doingbusiness.org Versus the investment climate in South Africa, which as mentioned earlier Lesotho should aim to match or even better, there are clear shortcomings in areas such as protecting investor and registering a property. Both countries also perform particularly badly on the trading across borders component, so there are also opportunities for cost- saving reforms at Lesotho‟s border crossings with South Africa. 20 Box 3: The World Bank Private Sector Competitiveness and Economic Diversification Project In April 2007, the Government of Lesotho and the World Bank (IDA) entered into a five year Financing Agreement which became effective in October 2007. The project is supported by a specific investment loan of US$8.1 million of which US$4.2 million is a grant. In addition the Government of Lesotho is providing US$2 million counterpart funding. The project is split into three components: 1) Improving the business climate: company registration and licensing reform; immigration and passport service reform and the design of a national ID card system; and, improving access to finance for SMEs. 2) Supporting economic diversification: horticulture outgrower scheme; tourism development; and, establishment of garment skills centers. 3) Implementation support: LNDC is responsible for the provision of procurement, financial monitoring and evaluation services. To provide guidance to the project, a public-private steering committee has been established but the framework remains weak as to-date it has not yet met. Achievements so far include:  Skills development in three sectors: garments, tourism and horticulture. For the garment industry, two skills development centers have been established in Maputsoe and Maseru. Training programs are being implemented and 200 workers have been trained. In horticulture, 10,000 fruit trees were planted in 7 pilot locations in Northern, Central and Southern parts of the country to investigate the potential for commercializing fruit production. Farmers in the pilot sites have received basic training on plant maintenance and care, soil management, pruning and application of pesticides. Using the tree varieties that have been identified by the project as successful, a roll-out strategy will soon be developed to include other farmers. Denmar (a South African firm) is involved in joint venture on fruits (apples, cherries, peaches and blueberries) including organics for export to the UK and South African markets. The Lesotho harvest is a few weeks earlier than in South Africa which is a distinct advantage. Another firm is being sought to enter into a similar arrangement for vegetables.  Support to develop a tourism strategy: the World Hotel Link has been recruited to facilitate the establishment of an online booking system for local tourism facilities. 25 establishments are currently using this. The Lesotho Council for Tourism, an umbrella body representing the Lesotho tourism private sector, is being revived to better serve its members on training in hospitality; and, an interim steering committee has been elected to facilitate the establishment of a new umbrella organization, the Lesotho Tourism and Hospitality Association. The development of a grading system for accommodation facilities is underway and will be completed in July 2009. Developing „brand Lesotho‟ remains a challenge for the project.  Lesotho Enterprise Assistance Program (LEAP): LEAP aims to improve the competitiveness of SMEs in both domestic and foreign markets by providing matching grants for training and production start-up. It also provides business mentoring and supports three professional business associations. An international advisor has been recruited to provide technical support and the position of LEAP manager has been filled.  Improving access to finance: LNDC has designed a Credit Guarantee Scheme with the assistance of the project but there is currently a lack of Government funds to start it. This would provide guarantees in the form of collateral to SMEs to access loans from commercial banks. A study on prospects for establishing a leasing industry in Lesotho has been proposed but a suitable consultant has yet to be identified.  Company registration and licensing reform: The Companies Act was reviewed and a new law was drafted. This has been submitted to the Attorney General and is expected to be presented to the Parliament during its next seating in August 2009. A draft Business Reporting and Industrial Licensing Bill has also been prepared with the objective of streamlining trade and industrial licenses and moving to a system of business reporting.  Immigration and passport service reform: procedures for issuing visas, work permits and residence permits are in the process of being streamlined. A feasibility study for the introduction of a national ID card system (most people currently use their passport) has been completed. 21 Business licensing: The current system of business licenses and permits in Lesotho raises transactions costs for investors. It should be replaced by a system of registration rather than licensing. A positive development has been the creation of a One-Stop-Shop, set up in the Ministry of Trade and Industry, Cooperatives and Marketing in September 2007. This brings together, under one roof, the functions of approval for trading licenses, import and export issuances, company registration residency visas, work permits and tax. However the One-Stop-Shop was set up without any strategic direction. Consequently, the officers who staff it must report back to their various ministries rather than the One- Stop-Shop acting with autonomy. Antiquated legislation for firms also continues to contribute significantly to the costs of doing business in Lesotho. For example, the Industrial Licensing Act of 1969 and the Companies Act of 1967 introduced during an era of import substitution policies still shape the investment climate (Kumar, 2002). The latter sets out those procedures required for registering and licensing a firm in Lesotho, many of which are unduly complex. The Trading Enterprise Order of 1993 regulates trading companies and services owned by Basotho entrepreneurs. Like the other regulations it is outdated. All large manufacturers and services providers require a license to operate in Lesotho. Trading licenses are required for over 40 types of business. Some firms require up to four licenses per premises. A new draft Business Reporting and Industrial Licensing Bill has been prepared with the objective of streamlining trade and industrial licenses and moving to a system of business reporting. At the moment this is being reviewed by the Government but a clear consensus on how to move forward with Lesotho‟s system of trade licensing has yet to emerge. A draft of a new Company Bill has also been developed since 1998 which would simplify the registration process for firms. This also proposed to move the office of the Registrar of Companies from the Ministry of Law to the Ministry of Trade and Industry. To-date this has not been enacted but recently there has been renewed momentum for reform as the new Companies Bill was approved by the Attorney-General in April 2009 for submission to Cabinet. Trade facilitation and customs Table 4: LPI Index procedures: The World Bank‟s Logistics 5 = highest score, 1=lowest scrore Performance Index (LPI) measures the Component South SSA Lesotho efficiency and effectiveness of customs Africa and other border procedures. Within the LPI 3.53 2.35 2.30 LPI, Lesotho scores an average of 2.30 Customs 3.22 2.21 2.40 which places it below South Africa (3.53) but also the average for sub- Infrastructure 3.42 2.11 2.00 Saharan Africa as a whole (2.35) - see Table 4. Lesotho‟s relatively low score International 3.56 2.36 2.50 shipments is a result of outdated and inefficient Logistics customs procedures and systems that 3.54 2.33 2.20 competence have resulted in high transaction costs, Tracking & 3.71 2.31 1.83 delays in the clearance of imports and tracing exports, and opportunities for Domestic 2.61 2.98 3.50 logistics costs administrative inefficiencies. Timeliness 3.78 2.77 2.83 Source: www.worldbank.org/lpi 22 Lesotho has five commercial border posts with South Africa and the two largest account for 90 percent of Lesotho‟s trade (Maseru Bridge and Maputsoe Bridge). A number of border authorities are present at each crossing including three types of revenue collecting agencies: the Road Fund; the Traffic Commissioner (fines for excess weight on the weighbridge); and, the Lesotho Revenue Authority (import duties and VAT). Infrastructure constraints on both sides of the Lesotho-South Africa border impose costs on trade. For example, at Maputsoe Bridge trucks carrying cargo into South Africa and being processed on the South African side of the border must be left at the Lesotho side while the driver walks across to process the transaction. There is very little space to park or inspect trucks. The Lesotho-South Africa ports of entry therefore display infrastructure designs that predate today‟s security, trade and travel demands and priorities, with the facilities on both sides of the border in all cases suffering from inadequate capacity and infrastructure. These problems are aggravated by Lesotho being one of only a handful of countries that lacks a computerized system for customs clearance. This means LRA is seriously hampered in its ability to deliver any meaningful contribution to national regulatory control, trade facilitation or to support regional integration efforts. There are immediate opportunities to streamline the procedures on the Lesotho side of its borders with South Africa insofar as the roles of its various revenue-collection agencies could be consolidated. Beyond this, the upgrading of customs facilities on both sides of the border would be an important step in cost-effectively improving regulatory control and trade facilitation between the two countries. In this regard a single window development would be beneficial. Under this approach, core functions from both SARS and LRA should be converged and streamlined under one roof to benefit both border agencies. Lesotho should also collaborate closely with SARS to examine options for cooperation in customs computerization. A central suite of reference data should be set- up, such as external customs tariff, classification and value information, origin certificates, reference material and transit guarantee. Foreign work permits and residence visas: Despite recent efforts to streamline immigration and passport services, reform has been very slow. Procedures to obtain residency visas and work permits in Lesotho remain complex, discouraging expatriate workers and foreign investors alike. The main challenge is a lack of capacity within the immigration service. For example, there is currently a backlog of 400,000 passport applications in Lesotho. The Labor Code Order of 1992 requires every non-citizen employee or self-employed person to have a valid work permit. Work permits are issued by the Labor Commissioner who must be satisfied that no qualified Lesotho citizen is available for the position. The statutory maximum duration of a work permit is two years, although they are commonly issued for just one. No real distinction is made between those entering as employees or to start a business. In the clothing industry, however, there are special provisions. For example, companies are permitted to employ one foreign national for every 20 domestic employees. For residence visas the Aliens Control Act sets out the conditions under which a non-citizen employee or self-employed person can obtain an “indefinite� visa to reside in Lesotho. Applicants need to submit a work permit, evidence of educational attainment, tax clearance and medical certificates. Self-employed applicants must submit, in addition, company registration documents, bank statements and their manufacturing license. Every applicant is also required to have a sponsor, which may be a government ministry or a citizen. Renewals impose an administrative burden. Permits tend to be issued for one year only and are renewed on the basis of resubmitting all documentation. If Lesotho is to diversify into higher value-added products, it will be necessary to use more expatriate expertise and managerial staff. And in order to attract more FDI, it will also need to facilitate the entry of foreign investors and their families. The residence visa and work permit system should therefore be reformed. First, applications for foreign staff from investors should be facilitated. Secondly, applications for work permits and residency visas should be considered jointly. Finally work permits and residence visas should be granted for longer periods to employees and indefinitely to self-employed individuals once they have established their investment. Conclusion With the completion of the LHWP and declining remittances, Lesotho‟s exports (which are overwhelmingly FDI-financed) are now the main engine of growth. However the global environment which has driven Lesotho‟s trade and investment boom is changing and this brings with it both challenges and opportunities. New and better FDI is needed to maximize the benefit of Lesotho‟s main comparative advantage which continues to be its low-cost labor. In particular, there is great potential for Lesotho to host new FDI from South Africa to service opportunities in the South African retail market as well as to integrate Lesotho into its neighbor‟s supply chains. The interim EPA also brings an opportunity for Lesotho to increase its exports of clothing to the EU, possibly again with South African investment. But the realization of these is being constrained by the availability of factory shells and supporting infrastructure that are not even sufficient to house those South African investments already waiting to happen. Consequently Lesotho needs to take immediate and proactive measures to correct for this, including land reform but also restructuring LNDC in the context of a broader policy agenda that seeks to improve the investment climate in Lesotho more generally, including reducing the costs of doing business in key areas such as taxation, business licensing, customs, trade facilitation, foreign work permits and residence visas. In some of these, cooperation with South Africa would facilitate reform and benefit both countries. 24 References Bate, D. (2000), „Lesotho industrial estates: commercial viability study‟, The Services Group, Washington, D.C.. Cushman & Wakefield (2009), „Industrial Space Across the World 2009‟, Cushman & Wakefield Real Estate Solutions. 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