Courtesy of STRATFOR (subscription required), some analysis of potential challenges to foreign investment in Myanmar:

Myanmar held parliamentary by-elections April 1, during which the country’s opposition party, led by democracy activist Aung San Suu Kyi, won at least 40 of 45 seats. The polls come one year after the March 2011 establishment of a nominally civilian government following decades of military rule.

Though only 10 percent of the seats in the lower house of parliament were contested, the elections have been viewed both within Myanmar and internationally as a sign of progress in the country’s ongoing political opening. Next on Naypyidaw’s agenda will be economic reforms aimed at increasing foreign direct investment. However, even if Myanmar is able to enact the reforms — by no means a certainty given the still-powerful military’s entrenched economic interests — the country’s weak and politicized judicial system will likely limit its appeal to foreign investors.

Analysis

Political reforms have long been a prerequisite for Western countries to lift their economic sanctions against Myanmar and allow foreign direct investment, and the April 1 elections have been taken as a demonstration of Myanmar’s progress on the issue. Indeed, the European Commission has already hinted at dropping EU sanctions against Naypyidaw since the elections. However, the end of sanctions will not automatically make the country an attractive destination for foreign capital. Substantial foreign investment would require confidence not only in Naypyidaw’s political system but also in its economic management.

To win this confidence, Myanmar has initiated or proposed numerous structural economic reforms. These include liberalizing the terms for foreign investment, restructuring state-owned enterprises, allowing foreign banks to open in Myanmar, privatizing economic sectors with a large potential for growth, such as telecommunications, and adjusting currency exchange rates.

Economic Liberalization and Currency Exchange

One of the near-term economic reforms is adjusting the country’s law on foreign investment. Myanmar’s parliament has drafted new legislation that will allow a five-year tax holiday for foreign firms (extended from the current three-year holiday), permit foreigners to lease land from the government or private citizens and will guarantee the right to 100 percent repatriation of profits, among other changes. The parliament has not yet passed the law, but it is viewed as a first step before the country takes on more daunting reforms to boost foreign direct investment.

Over the course of the military junta’s long rule, many current and former members acquired significant economic interests in the country’s state-owned enterprises and strategic sectors. Meaningful economic reform will necessarily reshape these sectors, and the individuals benefitting from the current system have the most to lose. One of the most important and controversial issues is the currency exchange rate, which could determine how much their assets are worth.

Naypyidaw announced March 7 that it would try to bring the country’s official exchange rate closer to the black market exchange rate that most private enterprises and individuals use. Myanmar’s currency, the kyat, had been officially traded at 6.4 kyat per U.S. dollar, while the black market rate varied from 800 to 850 per dollar in recent months. The new rate went into effect April 2, set at 818 kyat per dollar, much closer to the black market rate.

The new exchange rate will heavily impact state-owned enterprises, which must conduct their business using the official rate that puts the value of Myanmar’s currency far lower than it had been previously. The government’s willingness to tolerate bankruptcies or difficulties in loan repayment may indicate its political commitment to the reforms.  

Banking Sector

Naypyidaw is also likely to allow foreign banks into the country by 2015, a move that could help foreign firms move capital into the country but would also limit the power of Myanmar’s current dominant banks. Some Thai banks have already received permission to operate in Myanmar, especially those involved in financing the Dawei project, and Australian banks have indicated interest in moving into the country. Myanmar’s state-owned banks — Myanmar Investment and Commercial Bank, Myanmar Foreign Trade Bank and Myanmar Economic Bank — were previously the only authorized banks to conduct foreign wire transfers. In January 2012, the Myanmar Ministry of Finance and Revenue changed regulations to allow 11 banks to trade foreign currencies, which could enable an increase in foreign capital.

The Central Bank of Myanmar is not independent from the central government, and Naypyidaw sets the deposit rate (8 percent) and lending rate (13 percent). A new banking law under consideration will likely attempt to increase the independence of the central bank, particularly in its power to set interest rates. The change could increase macroeconomic stability in Myanmar, but will also disrupt the current financing system through which Naypyidaw directs funds to its state-owned enterprises. An independent central bank will improve investor confidence in Myanmar’s economic policies and could allow the government to issue bonds to raise capital, increasing the sophistication of its financial sector.

Telecommunications

Myanmar has one of the least developed telecommunications sectors in the world — only 3 million people in a population of 58 million use mobile phone services. Because the opportunity for expansion is so vast, foreign investors would likely be interested in taking part in the privatization of this industry. However, Naypyidaw sees the communications sector as critical to national security, and it is thus tightly controlled by the government.

The state-run Myanmar Post and Telecommunications Department (MPTD) has suggested both domestic and foreign firms will be allowed to enter the telecommunications sector. Privatization would cause the MPTD to lose market share and it could face opposition from the current officials heading it, as the industry promises to be lucrative and may expand to broadband Internet as the country liberalizes.

Judicial Obstacles

Even if these structural economic reforms proceed, Naypyidaw will need to demonstrate to potential foreign investors that the country has an impartial judicial system through which grievances can be addressed. At present, this is not the case. Various state ministries have often used the judiciary to attack opponents. In filing defamation suits against critical organizations or individuals, government agencies and officials have manipulated state control of the judiciary to quash dissent. One example of the ineffectiveness of Myanmar’s judicial system is the limited number of commercial disputes that have reached courts or been settled through arbitration.

Due to Naypyidaw’s control over judiciary rulings, Myanmar has often ranked as one of the worst countries for reliably enforcing the rule of law. Foreign investment projects have been highly vulnerable to unpredictable state directives. Major projects are not exempt from such problems and are open to politicization. In two recent examples, Thailand’s Ratchaburi Electricity Generating Holding was ordered to halt a coal-fired power plant in Dawei, and construction was halted on China’s Myitsone Dam project. Meanwhile, entrants into the country are subjected to scrutiny by the Myanmar Investment Commission, which has thus far vetted any joint ventures involving foreign firms but does not always judge investment projects impartially and is also open to corruption.

The transition to a civilian government has not ended the military’s hold on key industries and sectors. While it is likely that Myanmar will take nominal measures in strengthening the rule of law and judicial independence, as with economic restructuring, entrenched interests will pose obstacles to economic and legal liberalization.