Special economic zones have proved to be one of the best tools at spurring industrialisation.
It seems that Kenya is yet to appreciate how special economic zones can be applied to spur industrialisation. In the run up to this year’s budget, Treasury secretary Henry Rotich proposed to eliminate incentives for special economic zones and in particular- the ten- year tax corporate holiday and customs and duty exemptions.
Predictably, the proposal by the minister was greeted with alarm especially by the manufacturing sector. Come the real Budget speech, and following representations by voices in the manufacturing sector- the minister dropped the idea of reducing the incentive regime incentives for special economic zones.
Yet when you read through the budget more closely, you will find that special economic zones did not get fair treatment. Firstly, instead of incentives for special economic zones, what Mr Rotich proposed is a very loose arrangement. On page 19 of the budget statement, he promised to offer ‘a special incentive framework arrangement to be given to targeted investors’.
He did not specify the criteria to be used for identifying and selecting these so- called targeted investors. Can we assume that the selection of targeted will be left to the discretion of bureaucrats? The world over- the best practice is that you target industries -not individual investors.
For instance, you can create a special economic zone targeting the chemicals industry, manufacturers of consumer electronics and appliances- or even manufacturing of computers. If you target individuals, and without transparently publishing the criteria for selecting investors- you will have created a perfect setting for graft and bribery.
Secondly, when you are creating special economic zones, investors will require certainty and predictability in the regime of incentives you are offering. They will only respond when the incentives are grounded in legislation, not discretion.
Today, the typical package of incentives for special economic zones will include zero per cent corporate tax, customs and duty exemptions on inputs, automatic work permits for expatriate staff and limited access to the domestic market. What Mr Rotich proposed in the budget amounts to driving in reverse.
It confounds because since 1990 when the EPZ programme was started, we have been progressing very well. Were it not for the current EPZ programme, we would not have benefited from the African Growth and Opportunity Act (Agoa).
When- in 2015- the government came up with the Special Economic Zones Act, we all expected that the regime of incentives would be made more expansive. Clearly, the government has uncritically swallowed the Washington Consensus that cautions against discriminatory and differential incentives for investors.
We forget that special economic zones must by definition be discriminatory. The model will not work or succeed if you approach it half-heartedly- and when you have not made your mind clear about the compromises that must be made.
Indeed, special economic zones have proved to be one of the best tools at spurring industrialisation. Where did the idea of special economic zones (SEZ) originate from and why has it come to occupy a special place in manufacturing strategies of many emerging market economies? Let us look at the lessons from South East Asia and the more recent examples from China.
From what I read, it would appear that the first best and purest application of the SEZ concept as a tool for industrialisation was by Chinese leader Deng Xiao Ping. Starting in 1978, China designated five areas to be exclusively devoted to special economic zones. The idea was to experiment in the zones with more liberal policies.
Secondly, the government offered extensive tax and customs incentives, including ten-year tax holidays, VAT and Customs exemptions and expedited approvals of licences and permits.
Indeed, China went beyond you usual tax incentive regimes to offer special features. Instead, of small isolated zones, then called export processing zones, China offered large enclaves on the scale of entire cities or regions which were then dabbed special economic zones.
To ensure a sufficient supply of cheap labour, China built massive dormitories and residential units to house workers. The third innovation the Chinese introduced was to build industry-specific SEZ instead of general purpose enclaves.
Thirdly, to make their SEZ absolutely competitive, they tossed in extensive subsidies on power water and other inputs.
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Note: The results are not exact but very close to the actual.
