Malaysia's ratification of the Regional Comprehensive Economic Partnership is a step in the right direction, but there are still barriers to foreign direct investment in services which can be rolled back.
The Ministry of International Trade and Industry (MITI) Malaysia announced the ratification of the Regional Comprehensive Economic Partnership (RCEP) on 21 January 2022. The agreement is set to enter into force on 18 March 2022.
The announcement highlighted the expected export gains from the agreement based on United Nations Conference on Trade and Investment (UNCTAD) 2021 Report. Among the ASEAN member states (AMS), Malaysia and Singapore are expected to be the largest beneficiaries of the tariff concessions in RCEP. Exports from Malaysia are projected to increase by US$200 million with the tariff cuts at the end of the 20 years.
What is not highlighted in the announcement is the potential for investment gains from the agreement. The agreement facilitates foreign direct investment (FDI) in several ways. The investment chapter prohibits performance requirements, which is a boon for investors. There is also a standstill and ratchet mechanism, whereby existing non-conforming investment measures are locked in and cannot be replaced by new measures that are more restrictive. There are also improved investment facilitation provisions that emphasise investor after-care. Although there are no provisions on investor-state dispute settlement, there is a built-in work programme on this issue, which should be concluded within five years of entry into force. There is also a dispute settlement mechanism.
Since investments are needed to facilitate economic recovery from the ongoing Covid-19 pandemic, it is important for Malaysia to seize the investment opportunities accorded by the agreement, especially since FDI has been declining since 2016. However, these investment opportunities accrue for all member countries and Malaysia will have to reduce its FDI barriers to compete with other potential host economies. According to the OECD’s FDI restrictiveness index, a measure of the restrictiveness of a country’s FDI rules, Malaysia has the least restrictions in manufacturing, relative to the primary and tertiary sector in 2020 (Figure 1). The rules include foreign equity restrictions. Of the ten AMS, FDI restrictiveness in the tertiary sector is the highest for Indonesia, followed by the Philippines and Malaysia.
Although FDI restrictions are low in manufacturing, Malaysia does not have strong locational advantages for manufacturing FDI.
It is dependent on foreign labour, and there are complaints about non-compliance to Environmental, Social, and Governance (ESG) goals in this sector. The relatively higher unit labour cost and smaller domestic market compared with its AMS neighbours make Malaysia relatively less attractive for manufacturing FDI. In fact, the services sector has attracted more inward FDI than manufacturing since 2015.
Malaysia has offered services and investment liberalisation in the RCEP using the negative list approach whereby all sectors are opened up, subject to the listed non-conforming measures (NCMs) or measures that are not in compliance with the overall opening. However, Malaysia has listed in its NCM the right to adopt or maintain any measure relating to Bumiputera, Bumiputera status companies, trust companies and institutions, to meet development and social policy objectives. This applies to all services and investment sectors.
Since investments are needed to facilitate economic recovery from the on-going Covid-19 pandemic, it is important for Malaysia to seize the investment opportunities accorded by the agreement, especially since FDI has declining since 2016.
The service sub-sectors are governed by different laws and guidelines. For example, the extent of foreign participation in the distributive sector is provided by the Guidelines on Foreign Participation in Distributive Trade Services. Importantly, the laws and guidelines governing the different service sub-sectors are all preserved in the second type of NCMs listed, so that effectively foreign and Bumiputera participation have to adhere to the conditions specified in each sub-sector’s law or guideline.
Since foreign equity caps are common for developing countries, the second-best option for investors is clear, transparent, and non-specific rules in this matter. Malaysia’s foreign equity caps in the services sector are unfortunately sector-specific, and they are sometimes determined on a case-by-case basis. Likewise, Bumiputera equity conditions are also sector-specific. For example, in the logistics sector, there is no equity condition for ordinary warehouses, but public bonded warehouses must have at least 30 per cent Bumiputera equity, while private bonded warehouses have no equity conditions. Freight forwarders with an Integrated Logistics Services (IILS) status from Malaysia Investment Development Authority (MIDA) are allowed 100 per cent foreign equity ownership.
In the eyes of potential investors, the two types of NCMs have resulted in an elaborate patchwork of regulations. In particular, this has led to an element of uncertainty when equity requirements are not stipulated but given on a case-by-case basis. In the telecommunication sector, licenses are needed to operate, with four categories of licenses that are market-specific. These can be individual or class licenses. The World Trade Organisation has noted that although there are no foreign equity restrictions on class licences, individual licences are assessed on a case-by-case basis. This implies that equity conditions can be imposed as license conditions. In general, 49 per cent foreign equity is allowed for a network facility or service provider, together with another condition, 30 per cent Bumiputera equity requirement. These equity restrictions do not apply to public listed companies.
Competing AMS for FDI, on the other hand, have progressively improved their locational advantages for attracting FDI. Notably, Indonesia introduced the Omnibus Law in 2020 to amend many government regulations to make it easier to do business in the country. Vietnam has ratified the Comprehensive and Progressive Trans-Pacific Partnership, which Malaysia has yet to do. The European Union-Vietnam FTA has already entered into force in August 2020. This has enabled the EU to have a foothold in the RCEP market through Vietnam and Singapore, which also has an FTA with the EU.
Malaysia can likewise improve its locational advantages for investments by reducing FDI barriers in services and hastening the long-outstanding ratification of the CPTPP. In short, the ratification of the RCEP is a step in the right direction, but the country can do more in the fight for investment dollars.
Tham Siew Yean is Visiting Senior Fellow at the ISEAS – Yusof Ishak Institute and Professor Emeritus, Universiti Kebangsaan Malaysia.