The Role of Direct Investment in Business Activation

Teimuraz Shengelia, Doctor of Economic Science, Professor Head of the Department of Business Organization and Management TSU M. Gelashvili, Associated Professor

It is a well known fact that one of the major factors for the growth of economic potential of any country is attracting investments.

Most of politicians and analysts agree with the opinion that direct investments are of an utmost importance for restructuring economics. Therefore, the growth of investment flow is one of the major elements of economic policy.
If we take ongoing reforms in Georgia’s legislature system into consideration, approved by number of international institutions (such as the World Bank, IFC, EBRD and others) it will become clear that Georgia has undertaken many efforts in the direction of attracting foreign investments. According to preliminary analysis total value of investments will exceed Gel 2 billion by the year of 2007.
During the recent years, the government of Georgia has undertaken serious steps in attempting to improve business environment in the country. In early 2005 Georgia adopted a new Tax Code that reduced the number of existing taxes as well as their rates.
New customs code adopted in 2006 reduced the number of custom categories and export- import tariffs. This makes trade a lot easier. The same liberalization was undertaken in the spheres of License, Permits and labor regulation.
Privatization is not considered as the state governance policy, but it is being discussed as an element of state structural and institutional policy. Still, the following questions keep their importance: will suitable business environment automatically attract investments? Do investments face the challenges that are not controlled by Georgia? What is the role of active government policy and intensive arrangement in solving the issue?
Before discussing the given issues, we should analyze global investment problems in brief.
According to United Nations Conference on Trade and Development (UNCTAD) World Investments Report-2006, the total flow of direct foreign investments in 2005 amounted to USD 916 billion – 29% more than in previous year. Basic part of the investment is based on joining the companies of developed countries. At the same time investments from developing and transitional countries are constantly rising as competition and economic growth in Asia or other developing economies push them to widen in other countries. In 2005 Investment flows from the developing countries reached the total of USD 133 billion or 17 % of total investment [5]
Share of developing and transitional countries increases in foreign direct investment in-flows as well. Foreign direct investments made in South-East Europe and in Commonwealth of Independent States In 2005 amounted to USD 40 billion, or 4% of total investments.
Their concentration in the region, including Georgia, was too high: 75 % of in-flow came on three counties—Russia, Ukraine and Rumania. [3]
A possible reason for increasing a role of transitional and developing counties, as investor countries, may be the pressure of globalization that makes companies to struggle for competitiveness in local, as well as foreign markets. According to UNCTAD, transitional and developing countries supposedly invest in other countries of the same type. The investments will become an important factor for the development of a recipient country [3]. Therefore, according to Conference material analysis, Georgia has an opportunity to benefit from investments of the following countries: Turkey, Ukraine, Russia, Azerbaijan. Motivation for the Foreign Direct Investments will differ according to sectors in the country. The first stage of making foreign investments in Georgia was connected to the process of state property privatization. In the beginning state property privatization forms were not well defined. The process was often violated or implemented through vague methods.
It can easily be said that the process was adjusted to a single person or single group, was a direct give out of a state property.
Statistical materials show that at the first stage of state property privatization, for the period of two years (1995 -1996) foreign Investments have actually not been realized in Georgia. Only Ukrainian investment – amounted USD 3753 thousands – was attracted.
In 1996 foreign investment reached the total of USD 3753 thousands, in 1997–USD 242586 thousands, in 1998 – USD 265331 thousands. In 1999 -2003 the process of Investing was interrupted by representatives of some country (check table No 1); the trouble was caused by the following: wrong and imperfect legislation, high level of corruption, unsuitable environment for investors and “legal offence”, provided by state structures.
State property privatization process, following the implemented investments, may be divided into two stages: The first stage is 1995 -2002 –a period of unfulfilled mission.
Investments made for the given period reached the total of USD 1, 0023 15 thousands. Still, the country suffered deep economic and social problems. Implemented reforms in the sphere of privatization during this period, hindered the development of different spheres of social life.
2003 -2006 may be considered as the second stage. After the Rose Revolution, new government of Georgia made swift and fundamental reforms. Attracting Foreign Direct Investment and creating suitable environment for business is the priority of Georgia’s government economic policy.
Georgia ` s economic reform is focused on reducing state interference and regulations, making stable institutional deals on investment protection and on promotion International business cooperation. It is a complex task. It requires implementation of joint activities, aiming to reach agreement, in important strategic spheres such as: State administration, legislature, Tax administration, Customs, License-issuing, Court systems and rehabilitating infrastructures.
The government’s economic policy have resulted in investments of 2003-2005 – amounted to USD 1034140 thousands. The amount exceeds 1995 -2002 investments with USD 31825.
It is worth noting that the government change in Georgia increased developed countries’ interest towards investing in our country. According to investments, made for the last three years, we may claim that Georgia becomes more and more attractive for investors.
Investments nominal growth peer year rate in fixed capital included 13 %, what was not high statement from the one side. Increasing was basically stipulated by constructing expanses in state and private sectors, but provided constructive works under large energy products frames faced reduction. In 2005 apartments construction sphere faces fast generation, what caused record hitting prices on real estate. Main investment resource directed in today` s most profitable filed is not considered as productive assert.
The year of 2006 was important with the monetary flows point of view. Investments made in main capital amounted to GEL 3853 million. Investment share in GDP reached 28%. This indicator exceeds the previews indicators. The structure of investment has drastically changed as well. Foreign Direct Investments reached 47% of total investments. instead of 25 % in 2005 [4]. It` s doubtless, that sharp increase of foreign investments in the country was stipulated by business environment improving and successful privatization process in the country. Georgia gradually becomes stabile investment country and process if the forming is irreversible.
Foreign Direct Investment reached the total of USD 1026 million in 2006, being 128 % more than previous year indicators. Basic investment flows came from Britain (17, 7 %), Kazakhstan (14, 8 %), Turkey (12, 4 %) [4]. The biggest investor in 2006 was BP company –that made more than USD 200 million investment during the year. Total investment volume also included huge number of attracted investments by privatization [4].
According to forecast data, huge number of investments increase is expected also in 2007 BP company schedules to increase its investing number, by state property privatization USD 200 million foreign capita presumably will be attracted, investments will be put in construction of hotels and airport, scheduled to be realized in 2007. Treasury flow increasing is also expected in banking sector, volume of which may exceed USD 500 million. According to 2007 first and second quarter data, total volume of investments included USD 1, 500 million.
For estimation of investing policy and adequate policy providing for more capital attraction, analyzing of companies` motivation investing in Georgia bears importance. It mentions obligatory of direct foreign investments ` micro grounds, because total and aggregated numbers often create incorrect imagination and bring us up false strategy resolutions.
For instance, up from 2003 the biggest number of investments concerns to Baku –Tbilisi –Ceyhan oil pipeline and a little bit later South –Caucasus (Shah –Deniz) gas pipeline construction (check table No: 3). Internationals consortium share included 75 % of 2005 investment flows, but according to preliminary data, 50 % is expected this year.
It` s doubtless, that correlation between direct foreign investments and economy growth really exists, but its direction of acting is not clear: two –side cause –result interaction with circulation useful effect is frequently felt. Country should be attractive (“investment climate”) for direct foreign investors and should supply export oriented investors fog tax negative balance reduction. According to recent, too extensive observation of theoretical and empirical literature on direct foreign investments, local institutional environment bears big importance.
It should be noted, that direct foreign investments do not fulfill automatically positive role. It might be followed with low technology transmission, if foreign proper sector will be isolated from other economics, as it was while Baku –Tbilisi- Ceyhan oil pipe –line construction. This trend is stronger when industry property rights are not correspondingly defendant in reception countries. In today` s Georgia direct foreign investments are not oriented on industries, it ` s put in infrastructure or service (retrial trade, insurance, banking). The trends exist in central and East Europe countries, where more then half of direct foreign investments put into non- industry sector [3].
Just direct foreign investments may provide hasten of economy generation in Georgia, especially in transport infrastructure (roads, railway, ports and airports), tourism (hotels), agriculture and other food producing, also other fields of infrastructure. To the investments of long term perspective should be added capital investment maintaining employment and export improving.
Investment environment supplying is easy to be realized, when it is un-separated part of national development strategy. Attraction of foreign investments is a basic component of any regional, small and middle business or general industry strategy. EU new member countries and member candidates are exactly same strategy treating motivated, because following from this strategy EU structural founds provide financial supplement. For starting new industry business, making reference on one of the aspects of investing supplement policy, Georgia should become able pro –active strategies jointing with local industries revive, with the assistance of foreign investors. Supplement of investments should be basic of industry policy, because in total, just at least just regional level competitiveness capacity sectors may attract investments. Obvious instance of inter –relationship is provided pilot program of suppliers development in Czech Republic. Supplement of large multi –national corporations investments for second and middle size.
Economy policy and law issues Georgian – European consulting center analyzes in its survey –gist and importance of this exact pilot program, which is obvious illustration of investments supplement. Agency of International Investments “Chekhinvest” provided the program fro electronic sector in 1999.
18 municipal corporations and 45 Czech suppliers have been selected for participating in the program. Auditors defined and agreed the spheres where local companies could not satisfy criteria of municipal corporation. While second round of auditor, on the background of these criteria, business of the companies had been estimated. For the last stage 20 most successful and high potential companies have been selected. Each of them was supplied with individual and necessary pilot maintain. With the assistance of the program fifteen companies signed up new contracts. Newly started business volume could become possible in every month.
Forty per cent of the production is supplied on Czech territory, 26 % of profits came on last production, 62 % on parts and components, but 12 % on package material. In more then half of companies, received production volume increase included 75 %.
Interior management, human resources and clients administration relationship issues improved in program participant companies.
The program faces that without large investments its hard to realize broad programs which will maintain local economy inter- relation development. But at the same time it should be noted that without investing in serious amount, providing of such sort big problems would be absolutely unjustified. Despite of this, investors do no wish providing any pilot programs in the countries having small economics like Georgia is. For example, Georgia may become competitive capacity in production of citruses or other products of agriculture. Maintain of boosting large investments bears huge importance for the country, for creating of small size enterprises.
As we have already mentioned, Georgia has undertaken serious steps to improve investment climate. The most important of them are laws, regulating investment business in Georgia is The law on promotion and guarantees of investment activity, “Georgia ` s national investment agency”, 2002, the Georgian law on State Support of Investments, 2006. Treatment an enforcement of which aims support of boosting investments and obligatory procedures for industry business improvement, by complementary regime creation.
The Georgian law on State Support of Investments ascertainments special norms and complementary maintaining arrangements providing. State support of investments is maintained by Georgia ` s national investment agency. The instance of that is state representation with administrational branches and relationship with other individuals. By the agreement made between investor and the agency, the agency provides service supplement. The service is requiring payment, which is established by the Ministry of Economy Development. At the same time, agency plenipotentiary is not limited by investor, while relationship with administrative branches providing via other representative or exact individual.
This law makes importantly easy investment business running for investor and investments goals reanalyzing, but we have episodes in the law being necessary to think about. For instance, no sort of payment is established fro “investments of especial importance”, that mentions investments exceeding the amount of GEL 8 million or investments provided in high lands of Georgia, exceeding GEL 2 million.
The Georgian law on State Support of Investments does not determine made memorandum (so called “unchangeable articles”) between Georgia ` s government and an investor, so it` s not clear what limit has investor if having especial status. Law defines preliminary license and/ or permission giving out procedures, and distinctly reflects competention of Georgia ` national investment agency and duties of municipality and state branches on passing investment procedure in time. Realization of this in practice may make confuse investors, because established tariffs on the service do not exists for yet.

Law on issuing permission additional regulation on the process, but has no institutional, neither secondary legislation. Besides, several regulations create less attractive the process for the investors. Reference should be made on the issue that 2006 law, complementary explains administrative procedures, which similarly continue regulations on privatization, 1997. To say exactly, it includes determination of direct selling, That gives opportunity of fast selling, but at the same time does not except opportunities of administrative licenses while resolution making process concerning investment.
Of course, attraction of foreign investments is hugely important for the country, but while the process absorption of national interest should not take place. The government should maintain attraction of foreign investments. Foreign investments supply the country with founds for economy generation, but limits hinder capital flowing and accordingly limit economy freedom.
So, role of investments supplement agency bears huge importance, including functions of generation and caring about country ` s image. For today in the world there are at least 180 national and at least 300 sub- national agencies. How they can influence on investors ` resolution. Effectiveness of agency is dependent on the environment, where it is functionering. [7].
Agency acting in non preferable investment environment is less effective. Following the reforms provided in Georgia, the country should have a success by investment supplement strategy providing. Besides that, the agency ` s services are different by quality and functions
Georgia made a lot of efforts to improve investment climate. Despite this, number of spheres still require special attention: reforms in Court system, fight against corruption, Business related administration (tax, customs and other inspections)
Creating an effective Investment promotion agency will greatly assist to overcome political, institutional and technical problems in combination of related reforms.