Forging a new path: Widespread reforms are set to drastically reshape the economy

Myanmar was the economic frontier highlight of 2013, and has swept the international press with its bold reformation goals and political transformation. However, given that there are few historical examples of foreign firms operating in the country, international investors are still wary of making large commitments.

Changing Times

A new foreign investment law, an open telecommunications license tender and the exchange rate float, all in the past two years, have shown the government’s focused interest on developing the necessary legal, financial, and policy measures for attracting foreign investment and boosting the economy. A budding young labour force, abundant natural resources and a strategic geographic position at the heart of high-growth Asia give the country the potential to be a key global player in the coming decades.

Foreign development funding, political support and debt restructuring are all supporting progress towards a stable democratic future. However, after 50 years of economic isolation, there are many challenges to overcome. The country has major infrastructure gaps, limited telecommunications capacity, out-dated bank operations, and the government has little experience effectively managing such significant policy changes. ”The next five years will be decisive for Myanmar’s transformation. Following the nation’s liberalisation, we have a chance to attract new global investors as well as small and medium-sized enterprises interested in local opportunities,” U Aung Naing Oo, director-general of the Directorate of Investment and Company Administration (DICA), told OBG.

GDP: The reform progress has already translated into the beginnings of economic expansion, and indicators are pointing towards continued growth. New gas pipelines, as well as increasing foreign direct investment (FDI) and international development aid spending, are helping support the country’s ongoing expansion.

According to the IMF, GDP growth is estimated at 7.5% for FY2013/14 and projected to reach 7.75% for FY2014/15. Official figures from DICA reported that GDP growth for FY2012/13, which runs from April through to March, was already at 7.6%. An increase in investment, predominantly into energy and tourism projects, coupled with rising exports, are the key drivers in the country’s historic period of change.

Although figures vary, the Asian Development Bank (ADB) reports that agriculture accounted for 33% of GDP in 2012. However, this sector has been losing its dominance over the past four years, down from 42% of GDP in 2008, to make way for stronger processing and manufacturing activity, which accounted for a further 21% of output in 2012.

With a GDP of MMK51.7trn ($56.9bn) in 2012 and a population estimated at 61m, Myanmar’s GDP per capita of $996 makes it the poorest nation in ASEAN. The World Bank has reported that 26% of the country’s citizens live below the poverty line, with some regions far poorer. Myanmar now ranks below its peers such as Cambodia and Laos, when in the 1960s it was the wealthiest and most prosperous country in Asia.

Inflation averaged 23% from 2001 to 2010 as fiscal deficits were financed by the central bank, which severely affected the poor and quickly undermined confidence in the Myanmar kyat currency. In 2011, however, inflation dropped substantially and settled at a moderate 5% as food prices decreased globally and the fiscal deficit was serviced through other sources than the central bank. More planned reforms and easier access to international funding are expected to keep inflation under control for the coming years.

Government & Fiscal

Due to the floating of the MMK/USD exchange rate in April 2012, the Myanmar government will now more accurately measure the income of state-owned enterprises (SOEs) and thus increase state revenues, leading to higher government spending. A more stringent enforcement of tax laws and efforts to limit the shadow economy are also expected to help fill government coffers.

Between FY2009/10 and FY2011/12, government expenditure has accounted for between 15% and 17% of GDP, according to the IMF. But this figure is expected to rise sharply to about 28.4% for FY2013/14, given new terms on the back of a large debt restructuring by the World Bank, ADB and Japan. According to the ADB, consumption accounted for 71% of the GDP figure in 2012, as the trade balance is at a pivot, going from a trade surplus to a deficit.

SOEs have accounted for the majority of government revenues, averaging 66% of total receipts over the past five years. Yet, as transparency increases in the coming years, and the correct exchange rate books profits more accurately, the IMF predicts SOEs to account for well over 70% of the government’s revenues.

Tax receipts, on the other hand, represent only 3.3% of GDP compared to the world average of 22% and the ASEAN average of 13.2%. This revenue stream is likely to grow, however, as more structures are put in place to enforce tax collection, and the IMF predicts a steady growth of up to 7.6% of GDP in tax revenues by 2016.

Despite the challenges, Myanmar’s gross reserves have increased steadily over the past three years in line with the government’s goals to improve economic stability and shock-resistance. In November 2013, the Central Bank of Myanmar (CBM) announced that foreign exchange reserves had reached $8.19bn at the end of October 2013. This trend is expected to continue as a buffer for future risk alleviation. The CBM’s reserves statement also came as the first such announcement in many years, a concrete example of the central bank’s commitment to improving transparency.

The capital account is expected to grow rapidly as FDI pours into the recently opened nation and investors look to capitalise on new opportunities. Capital account growth averaged 97% over the past three years largely from FDI, and is expected to average 43% in the coming three years as growth continues. For FY2012/13, the IMF estimated that Myanmar owed $13.7bn in external debt, with 9% of this in arrears. However, with the planned restructuring, this figure is set to be reduced in order to encourage further growth and spending.

Foreign Investment

The Foreign Investment Law of November 2012 was one of the biggest steps for Myanmar in its economic reform process, aiming to attract foreign investors and open up local businesses to international capital. Recent years have seen large investment projects developed by Asian investors, but the new law has also caught the attention of larger Western firms looking for exposure to the next frontier high growth market. The new investment law offers many liberalisations from the previous law and aims to entice investors by offering tax breaks and long land leases, as well as clearly defining where capital can be deployed.

“The new investment law is better than the previous one,” U Kyaw Lwin, chairman of foreign banking at the Global Treasure Bank, told OBG. “It is more clear, more precise and more attractive to foreign investors.” However, investors are still cautious, and FDI has not exploded as quickly as some officials may have hoped.

According to figures from DICA, FDI spiked to $20bn in FY2010/11 and then fell to $4.6bn in FY2011/12 – still many multiples higher than the $1.7bn average from the previous five years. However, IMF estimates suggest $2.23bn for FY2010/11 and $2.08bn the following year, compared to $952m in FY2009/10. Both sources agree that investment in natural resources and energy projects have caused the growth, largely in hydro-electric power projects such as the controversial China-backed Myitsone Dam that was halted in 2011 by the current president, U Thein Sein, over environmental concerns (see Energy chapter).

Trade Partners

In the past, official trade figures have been mired in controversy due to a vastly overvalued exchange rate between the Myanmar kyat and the US dollar, which allowed state enterprises to declare much lower profits than the reality. However, in 2012, this artificially set rate was abandoned in exchange for a market-based figure that more effectively measures the revenues generated in-country and re-aligns macroeconomic data measured by international agencies.

According to the Central Statistical Organisation, for the first eight months of FY2013/14, Myanmar posted a trade deficit of $1.3bn, marking the largest negative balance in the last decade. This weakening is the most recent example of a trend that has held true since the 2011, with a modest trade surplus of $100.5m in FY2011/12 and a $91.9m deficit FY2012/13.

In terms of trade partners, Myanmar’s neighbours continued to dominate trade volumes over the first eight months of FY2013/14. China was Myanmar’s largest partner, accounting for 30% of exports and 28.5% of imports, followed by Thailand, with 36.7% of exports and 9% of imports. Other Asian nations filled out the remaining three positions of the top five, with Singapore accounting for 4.5% of exports and 20.1% of imports; Korea with 3.2% of exports and 12.8% of imports; and Japan with 4.7% and 10.1%.

Top Products

Natural gas exports make up the majority of Myanmar’s export revenue, accounting for $2.3bn in the first eight months of FY2013/14, according to official data. This was followed by jade exports, accounting for $830m; garments, at $564.5m; and teak logs, worth $351.9m. Myanmar’s fifth-highest-value export was sesamum seeds, worth $266.1m, although both matpe beans and rice were also key exports, valued at $245.6m and $247.6m, respectively.

Historically, petroleum has been the country’s top imported product; however, the recent economic activity has cause a surge in machinery and vehicle imports, which increased from $1.8bn in FY2011/12 to $2.9bn in the first eight months of FY2013/14. Over the same period, petroleum imports dropped from $1.9bn to $1.3bn, with the latter value still high enough to make oil the second-largest import. Other key imported products include base metals, worth $932m in the first eight months of FY2013/14; electric machinery at $409.1m; and edible vegetable oils worth $326.4m.

Given the new wave of investment expected over the coming years, especially in natural resource projects, construction and machinery imports are expected to continue rising, further widening the trade deficit. Largely due to this trend, the current account deficit is expected to grow in the coming years as imports of machinery and materials funded by FDI are predicted to outpace exports. The IMF predicts that the current account deficit for FY2014/15 will be 4.5% of GDP; however, this is projected to grow to 4.6% by FY2017/18.

Labour

The last official census conducted by the Myanmar state was in 1983, making much of its population and labour statistics unreliable. Furthermore, some regions of the country have been controlled by local ethnic groups for many years, making these areas inaccessible for more recent studies. Controversial issues over the nationality of certain groups such as the Rohighya Muslims in the western Rakhine State have also caused discrepancies between figures.

However, estimates for Myanmar’s population range from 55m to 70m, growing at around 1-2% per year, with a median age of 27.2. The country’s young labour force is a key asset for the economy, but with very low education expenditure, the quality of labour is conversely a key challenge in providing the necessary skills for companies looking to set up in the country (see analysis). The government’s official unemployment figure is typically between 4% and 5%; however, a January 2013 study by the parliamentary planning and finance development committee estimated that the rate could be as high as 37%. U Thaung Su Nyein, managing director of local IT solutions provider Information Matrix, told OBG, “Myanmar has the raw numbers in terms of people, but simply lacks quality education – especially with regards to information technology training.”

In 1990, when the last full labour survey was conducted, 57% of the population were employed in the agriculture, hunting and forestry sector and 11.4% in the manufacturing sector. In November 2013, the government signed an agreement with the International Labour Organisation to cooperate on the development of a new labour survey, set to rely on a sample from the planned March 2014 census.

There is currently no minimum wage in Myanmar; however garment workers are reported to earn $35 per month in the Yangon Industrial Zone, making the country a competitive option for companies looking to set up factories and other labour-intensive operations in South-east Asia. By comparison, in Laos and Cambodia, labour costs $75-80 per month and the minimum wage in Bangladesh is expected to rise to about $65 per month. Despite the currently low wages, a new minimum wage bill, proposed by President U Thein Sein, has been approved by parliament and is due to come into effect in 2014, partly due to factory worker strikes in 2012 that led to a temporary increase in wages to around $65 per month. Even with this rise, Myanmar’s inexpensive labour should continue to tempt foreign investors away from other South-east Asian nations.

Exchange Rate

Before 2012, the official and black market exchange rates differed by many multiples. In FY2011/12 the IMF used a rate of MMK5.56 to the US dollar, and yet in April 2012 the kyat was set at MMK818 to the dollar – depreciating overnight by 14,700% and converging to the unofficial rate. Today the central bank sets the exchange rate every morning through an auction with the banks, and the figure is listed online. Since the new system was brought online, rates have fluctuated between MMK840 and MMK985 to the US dollar, with the MMK depreciating 11.3% in the first year.

FESR: In January 2013, the latest draft of the government’s Framework for Economic and Social Reform (FESR) was approved, outlining clear policy priorities for 2012-15. The document highlights budget and tax reforms, central bank autonomy, trade and investment liberalisation, private sector regulatory reform, governance and transparency, and pushes for more focus on development in health and education, infrastructure and telecommunications.

The primary concern for the government in the next three years is achieving macroeconomic stability through prudent fiscal and monetary policies. The unification of unofficial and official exchange rates in April 2012 was a huge step towards this goal, easing the pressures on exchange rate appreciation and allowing the Myanmar kyat to depreciate. The currency auction system is now regulated by the CBM, with a 0.8% cap on daily variation. In July 2013, a new central bank law was passed that aimed to provide the CBM with greater autonomy from the Minister of Finance and outline the bank’s mandate in terms of monetary policy, financial sector supervision and promoting domestic price stability. Already the CBM is beginning to monitor and record the market situation and ensure interest rate decisions are in line with the economic outlook.

In order to increase transparency and improve valuations, a tender system for future privatisations of SOEs is already in place, notably used for the telecoms license tender initiated in 2013. The Foreign Investment Law introduced in August 2012 has also encouraged investors, allowing 100% ownership and giving various tax breaks and long leases on land.

Risks

Investor appetite for Myanmar is beginning to take off as the country pursues its reform process, but significant risks still remain.

There have been numerous on-going conflict zones within the borders of the country since independence from the UK in 1948. Some of the most widely reported conflicts are those with the Kachin Independence Army and Shan peoples in the north and the Karen National Union in the east bordering Thailand. These conflicts blot Myanmar’s reputation on the global forum and have prevented sustainable development in large areas of the country, highlighting the dark past of previous dictators and drawing continued criticism from the international community. A peace process currently under way holds potential to resolve some of these ethnic struggles; however, renewed eruptions of violence, such as the Muslim and Buddhist conflicts around the country in March 2013, remind investors that violence, unrest and military governance are still a lingering component of the country’s power structure.

Furthermore, due partly to the international sanctions and lack of investment, the country’s infrastructure is in need of major upgrades and development. For example, even as the country’s main commercial centre, Yangon suffers from limited sanitation infrastructure, unreliable communication networks and severe traffic congestion. The recent telecoms license tender aims to bridge a large area of this infrastructure gap as foreign partners have been invited to provide the necessary funding in exchange for the opportunity to tap into the least penetrated nation in the world. Banks are expanding rapidly as part of a financial sector development master plan, with new ATMs appearing around the country’s largest city and institutions competing for the savings of Myanmar’s largely unbanked population. However, although banking and telecoms development is progressing swiftly, new physical infrastructure will take longer to create.

Less Obvious

Over the past decades considerable economic power was amassed by associates of the previous dictator, U Than Shwe, during his rule from 1992 to 2011. Gems mining concessions and numerous other licenses were granted only to a select few, and this oligarch stratum is unlikely to dissolve swiftly. Furthermore, bribery is still technically a legal grey area. However, an anti-corruption board was established in January 2013 headed by the vice-president in order to follow the president’s October 2012 pledge to comply with the UN Convention against Corruption. Additionally, as this board was being formed, the Ministry of Communications and Information Technology was swept of many corrupt officials ahead of an international telecoms license tender as the first move of its kind for the new government and a bold signal that insider transactions will not be tolerated. Property prices in Yangon and many other developing zones have risen to economically prohibitive levels for many new businesses looking to establish a presence. Sanctions and restrictions have led funds to accumulate in land and, coupled with the sudden influx of foreign interest, prices have soared, with rents for prime office space reaching as much as $100 per sq metre.

Aside from the conglomerates of the ex-junta tycoons, there are few medium-large businesses that can accommodate the risk/return expected from foreign equity investment. Most small-medium business owners have learned to diversify risk across many smaller opportunistic endeavours rather than focus on a single entity that could grow to a noticeable size, compete with the elite and be undermined. However, this has left a strong entrepreneurial drive to persistently fill the smaller holes in a market when a new demand arises, and broker deals wherever possible regardless of expertise.

William Selig, managing director of financial consultancy New Crossroads Asia, told OBG, “Myanmar is unique in every sense of the word. Pricing is only the first variable of the calculation, but many more need to be considered with regards to the optimal location.” OUTLOOK Overall, Myanmar is living up to its reputation as the most exciting place for investors to visit and research for 2014, and for those attempting to leverage the first mover’s advantage, this is undoubtedly the country to focus on. But for many, the risks are still too high, and, although the speed of reforms is encouraging, this alone is not sufficient to attract foreign investors. Myanmar has just begun its development process and, although growth will be strong, there are still many legal and regulatory measures that need to be taken before Western firms consider it to be largely risk free.