Cablegate: Investment Climate Statement 2010

VZCZCXYZ0548
PP RUEHWEB

DE RUEHAE #0009/01 0131533
ZNR UUUUU ZZH
P 131533Z JAN 10
FM AMEMBASSY ASMARA
TO RUEHC/SECSTATE WASHDC PRIORITY 0666
RUEATRS/DEPT OF TREASURY WASHDC PRIORITY
RUCPDOC/DEPT OF COMMERCE WASHDC PRIORITY
RUCPDOC/USDOC WASHDC PRIORITY
RUCPCIM/CIMS NTDB WASHDC PRIORITY

UNCLAS ASMARA 000009

SIPDIS

DEPARTMENT FOR EB/IFD/OIA
DEPARTMENT PLEASE PASS TO USTR

E.O. 12958: N/A
TAGS: EINV EFIN ETRD ELAB KTDB OPIC USTR PGOV ER
SUBJECT: INVESTMENT CLIMATE STATEMENT 2010

REF: 09 STATE 124006

1. The following is keyed to reftel, para 15.

Openness to Foreign Investment
------------------------------
2. Eritrea remains a strict command economy, with government
activities crowding out most private investment. Investors in
Eritrea face significant risks, including: lack of transparency in
the regulatory process, severe limits on the possession and exchange
of foreign currency, lack of objective dispute settlement
mechanisms, difficulty in obtaining licenses, large-scale use of
conscripted labor, and expropriation of private assets. The
Government of the State of Eritrea (GSE) uses the judicial system as
a coercive tool to promote its own interests, making the courts a
biased arbiter in legal disputes. These risks discourage domestic
private investment not conducted under the GSE's auspices.

3. The exception to this trend appears to be the mining sector.
Fourteen small and mid-size mining and exploration companies have
signed license agreements with the GSE, many of them have already
set up offices and begun exploring. Representatives from the mining
companies claim companies receives preferential treatment, including
blanket travel permits, personal security details in the field,
liberal import and export agreements, and easy access to government
officials.

4. The World Bank's 2010 "Doing Business" ranking of 181 countries
rates Eritrea in the bottom 10 in the following categories: overall
ease of doing business (175), starting a business (181), obtaining
credit (177), dealing with construction permits (183), and closing a
business (183). Eritrea was also near the bottom for registering
property (171) and trading across borders (164). Eritrea was ranked
in the upper half in only two of a possible eleven categories:
employing workers (86) and enforcing contracts (48).

5. The Heritage Foundation's 2009 Index of Economic Freedom labeled
the Eritrean economy as "repressed," ranking it 175 out of 179
countries, with an overall score of 38.5. The index also ranks
Eritrea 45th out of 46 countries in the region. Eritrea scored far
below the world average in the following categories: business
freedom (18.3; world avg 64.3), government size (9.9; world avg
65.0), investment freedom (10.0; world avg 48.8), financial freedom
(20; world avg 49.1), property rights (10.0; world avg 44.0), and
freedom from corruption (28.0, world avg 40.3). Eritrea did score
above the world average, however, for labor freedom (73.9; world avg
61.3) and fiscal freedom (86.4; world avg 74.9).

6. The Transparency International's 2009 Corruption Index ranked
Eritrea 126 out of 180 countries for corruption perception, "the
degree of corruption as seen by businesspeople and country
analysts."

7. The Millennium Challenge Corporation's 2009 scorecard ranked
Eritrea unfavorably in the following categories: government
effectiveness (24%), rule of law (29%), fiscal policy (1%),
regulatory quality (7%), business start up (28%), and natural
resource management (13%). Eritrea scored high marks in the
following categories: control of corruption (72%), trade policy
(54%), and land rights and access (86%).

8. The GSE enacted a number of commercial laws purporting to allow
for private enterprise, but these laws are not consistently
implemented. The Foreign Financed Special Investments (FFSI)
Proclamation issued in April 2007 established a framework for
investments greater than $20 million. The proclamation's stated
objectives are to achieve self-sustaining growth, facilitate the
rapid expansion of exports, expand employment, and promote and
protect foreign investment. The Eritrean Investment Proclamation
issued in 1994 establishes a more general framework for investment.
This proclamation's stated objectives are to encourage investment,
expand exports, expand employment, and encourage the use of new
technology. It also provides tax incentives for investors, as well
as a framework for dispute resolution.

9. Proclamation 114 issued in August 2001 gives the Ministry of
Trade and Industry the authority to negotiate the sale of public
enterprises, but details of the process are unspecified. In
practice, investors require approval from the Ministry regulating
the specific project before investing, but there may also be other
unpublished approval requirements. The Office of the President must
approve all large-scale projects. The GSE has selectively and
narrowly courted foreign investors to explore under-utilized
resources, primarily in mineral extraction, but also in energy,
fisheries, and tourism. Despite the investment proclamation's
assurance against expropriation, the GSE has nationalized many
foreign-owned businesses and other assets.

Conversion and Transfer policies
--------------------------------
10. Proclamation 115 issued in August 2001 allows for unrestricted
investment and repatriation of foreign currency. In addition, Legal
Notice 44 issued in July 2000 states that the Bank of Eritrea is
responsible for all foreign exchange, and no other entity can
transfer funds into or out of Eritrea. The Bank of Eritrea has
maintained an artificial Nakfa/dollar exchange rate at 15:1, but the
black market exchange rate may be as high as 40:1. The GSE has
extremely low foreign currency reserves and requires using a
government-owned monopoly for all foreign exchange. Foreign
business owners are unable to convert locally generated profits to
hard currency. For example, the GSE notified Lufthansa in July 2001
that it would no longer be allowed to convert profits from nakfa to
euros.

Expropriation and Compensation
------------------------------
11. The GSE has shown a pattern over many years of expropriating
businesses without notice, explanation, compensation, or recourse.
For example, in October 2008 the GSE abruptly terminated the
Intercontinental Hotel Corporation's management contract for a
government-owned hotel in Asmara. The hotel later reopened as a
GSE-operated establishment. Legal provisions for such
expropriations, other than eminent domain for public purposes, do
not exist, and the GSE liberally interprets the idea of public
purpose.

Dispute Settlement
------------------
12. Eritrea does not have neutral dispute mechanisms, although there
are several unimplemented laws on the books regarding dispute
settlement. Article 15 of Investment Proclamation No. 59/1994
provides a framework for investment dispute settlement and pledges
the GSE to enter into bilateral and multilateral protection
treaties. Foreign investors also have the option to resolve
disputes through mechanisms specifically stipulated in investment
agreements with the GSE, or through mechanisms created by
multilateral treaties such as International Center for Settlement of
Investment Disputes (ICSID). Eritrea has neither ratified nor
signed the ISCID Convention, and there are no known cases in which
the GSE accepted international arbitration for business disputes.

Performance Requirements and Incentives
---------------------------------------
13. Although laws and regulations provide for investment incentives,
in reality the GSE provides them only rarely and on an ad hoc basis.
The Customs Proclamation of 2000 Part X, provides for relief from
duties and taxes for imports receiving value-added processing prior
to export, but due to the lack of businesses operating in Eritrea,
Post is unaware of any businesses receiving such relief. The GSE
restricts travel within Eritrea, requiring explicit written
permission for foreigners with a minimum ten-day advance notice.
The GSE frequently denies foreigners permission to travel, often by
not replying to the application, and explanations are rarely given.
Eritrea also has an opaque visa regime, and foreigners of many
nationalities have reported difficulties obtaining entrance visas,
including lengthy and unexplained delays. Eritrea is not a member
of the WTO.

Right to Private Ownership and Establishment
--------------------------------------------
14. The FFSI specifically limits foreign investment in financial
services, domestic wholesale trade, domestic retail trade, and
commission agencies, but permits investment in other sectors. The
FFSI makes allowances for the remittance of net profits and has
guarantees against nationalization or confiscation, except for
public purposes and with due process of law. Investors should be
aware, however, that most medium-to-large businesses in Eritrea are
controlled by either the GSE or the ruling party, the People's Front
for Democracy and Justice (PFDJ). In 2005 the GSE suspended all
private construction activity, leaving only those owned by the GSE
or PFDJ in operation.

Protection of Property Rights
-----------------------------
15. Eritrea's civil law protects private property, but the GSE has a
history of expropriating houses, businesses, and other private
property without notice, explanation, or compensation. Trademarks,
patents, and copyrights are available through a procedure involving
a public advertisement in the local press, but Eritrea is not a
party to any international conventions on intellectual property
rights.

Transparency of the Regulatory System
-------------------------------------
16. Eritrea has not convened a parliament for over a decade, and all
laws are issued by proclamation from the executive branch. The GSE
also does not operate a clearly organized regulatory system; what
procedures are in place appear to be of haphazard creation and
irregularly enforced. The GSE often does not announce new
regulations prior to implementation, and they are often unequal in
application and subject to sudden change. In addition, the GSE
neither publishes accounts of its decision making process nor offers
a public comment period for proposed laws or regulations. Local
business owners report extensive difficulties with obtaining import
and export licenses, customs clearances, telephone and mobile phone
lines, land leases, and work permits. The central and regional
governments often do not coordinate policies and procedures, adding
to the opacity of conducting business outside of Asmara. The
International Monetary Fund (IMF) reported investor confidence is
undermined by the state's growing role in commercial activities and
the lack of a transparent regulatory environment.

Efficient Capital Markets and Portfolio Investment
--------------------------------------------- -----
17. Eritrea has neither a stock exchange nor a stock market, and the
state owns all financial institutions. Although the IMF states that
the banks have a high proportion of non-performing loans, the banks
may be profitable due to income from foreign currency transactions.
The GSE's complete control of foreign exchange makes repatriation of
profits difficult or impossible.

Political Violence
------------------
18. The threat from domestic insurrection, civil disturbances, and
political violence is low, although there are reports of opposition
movements operating in remote areas. Eritrea's borders with
Ethiopia and Djibouti are tense due to unresolved border issues.
The GSE uses the unsettled border dispute with Ethiopia to justify
drafting large numbers of Eritreans into national and military
service for unlimited terms of service, as well as extensive
restrictions on country's economic and political freedoms.

Corruption
----------
19. Eritrea has historically been known as a country with low
corruption, but there are indications that corruption does exist.
Civil court cases are often directly influenced by the Office of the
President, or by former fighters obtaining decisions in their favor
(fighters, soldiers from the struggle for independence, have high
social standing and considerable influence within the GSE). High
ranking military officials have also been known to confiscate houses
and other property. The GSE controls all foreign exchange, making it
virtually the only legal source of imports and creating illicit
profit opportunities for smugglers (who are often high-ranking
Eritrean military officers). Eritrea is not known to be a party to
any international anti-corruption agreements.

Bilateral Investment Agreements
-------------------------------
20. Eritrea's only known bilateral investment agreement is with
Italy, although it is possible that unpublished investment
agreements also exist with Qatar, the U.A.E, Iran, and/or China.

OPIC and Other Investment Insurance Programs
--------------------------------------------
21. OPIC programs do not currently operate in Eritrea. Due to the
poor state of bilateral relations and the lack of bilateral trade,
the GSE has little interest in such an arrangement.

Labor
-----
22. Eritrea has a large supply of semi-skilled laborers due to high
levels of unemployment. Technical experts, highly skilled
professionals, and managers are in short supply. Many of the
highest skilled workers have left Eritrea due to deteriorating
economic conditions. Eritrea is not a signatory of the ILO,
although purporting to uphold many of its provisions. As much as
one-third of Eritrea's workforce is conscripted into national
service, in which there is no defined term of service. The GSE
forces national service employees to work indefinitely in specific
jobs with no job mobility, in which they are paid well below the
national minimum wage.

Foreign Trade Zones and Free Trade Zones
----------------------------------------
23. The GSE constructed a free trade zone in Eritrea's port city of
Massawa in 2001, and promised to issue the first licenses in 2006,
but no companies are known to operate in the zone. The GSE
continues to promise the imminent issuance of more licenses, but it
has yet to follow through. Proclamation 115 issued in August 2001
declares that in the zone there will be: 1) no taxes on income,
profits, or dividends; 2) no customs duties on imports; 3) no
currency convertibility restrictions; 4) no minimum investment; 5)
100 percent foreign ownership; and 6) 100 percent repatriation on
profits and capital. There is at least one foreign company that
shows readiness to invest in the free zone. The free zone
authorities claim that at least 14 other companies, local and
foreign, will follow suit.

Foreign Direct Investment Statistics
------------------------------------
24. Data on foreign direct investment (FDI) is not available from
the Bank of Eritrea. Although the Investment Proclamation of 1994
governs all foreign investment, it contains no specific definition
of FDI. The UN Conference on Trade and Development (UNCTD) 2008 FDI
report states Eritrea had $3 million in FDI inward flows and $380
million in FDI stock (accumulated inflows) in 2007, the most recent
year for which data is available. No data is available on outflows.
FDI in the mining sector increased substantially in 2009, as
Nevsun's Bisha mining project prepares for ore extraction, beginning
in 2010. It is unlikely, however, the GSE will see profits until
2012, since the initial profits will be used to recoup Nevsun's
investment costs.MCMULLEN

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