Technology transfer the case for free trade zones

Technology transfer: The case for free trade zones M S Siddiqui

China launched its first free trade zone in Shanghai on September 29, 2013.

Technology is critical to economic growth and welfare of any country. In many developing and transitional economies, enterprises generally perform little research and development (R&D) themselves; the bulk of it is done in universities and government research institutes and is often de-linked from the productive sector and meant for academic purposes only.

Some developing countries have made significant technological advancements in the past two decades or so, even outpacing those in the developed countries (World Bank, 2008). However, technology gap between the rich and poor countries remains wide, with developing countries employing only a quarter of the level of technology compared to that in the developed countries -- measured by the extent to which specific technologies have permeated economic activities.

For most low-income countries, technological progress is mainly a process of adoption and adaptation from abroad rather than innovation and invention. Therefore, the transfer and diffusion of technology is crucial to building their domestic technological capabilities.

The gap between developed and developing countries in technological advancement is more pronounced in respect of the new and emerging methods. Special attention needs to be given to the role of technology transfer and diffusion in building productive, adaptive capacities and enhancing human resources in developing countries, in particular least developed countries (LDCs) or low-income countries.

Most of the LDCs or low-income countries are still not actively participating in global R&D networks for creation of new technologies, though some are beginning to benefit from the transfer of existing technologies, including from developing countries.

The knowledge and expertise involved in technology takes many forms, including a wide range of hard and soft elements - e.g., technologies embodied in capital goods, production,

organisational, managerial and other skills.

One of the sources of technology for developing countries is the transnational companies (TNCs). TNCs, foreign affiliates can diffuse technology and skills to local firms, particularly through backward linkages. But acquisition of technology from TNCs is not automatic and is still largely confined to advanced developing countries. The interaction between TNCs and domestic firms in developing countries can result in higher rates of knowledge and technology diffusion. They can adopt many mechanisms, such as-- imitation, increased competition, backwards and forwards linkages, training and human resources mobility.

The generation of new and advanced technologies is concentrated in the developed world, financed and controlled by the TNCs. Currently, the R&D spending of some large TNCs is higher than that of many developing countries. Twenty TNCs - with Toyota, Roche, Microsoft, Volkswagen and Pfizer at the top - spent more than $5 billion on R&D in 2009. In comparison, among developing economies, the total R&D spending exceeded $5 billion only in Brazil, China, the Republic of Korea and Taiwan. There were five companies from developing countries listed on the largest 100 R&D spenders, of which three were Korean TNCs and two Chinese.

Foreign direct investment (FDI) by the TNCs is the best possible way to bring technology through investments in developing countries. FDI, besides bringing capital, facilitates the organisational and managerial practices and skills as well as access to international markets.

More and more countries are striving to create an enabling climate to attract FDI as a policy priority through incentives. An important objective of using incentives to attract investment in developing countries is transfer of technology. They have been offering various fiscal and tax incentives to lure the potential entrepreneurs. Certain types of tax incentives are designed specifically for this purpose, which among others include an increasing trend to offer full or partial tax holidays or reduced tax rates.

The increasing prevalence of inducements, mostly in the form of rebates and exemptions, is applied to import duties on capital machinery, raw materials and semi-finished components, duty drawbacks, accelerated depreciation, specific deductions from gross earnings for income-tax purposes, investment and reinvestment allowances and deductions from social security contributions.

Some countries, such as Singapore and Malaysia, introduced a specific set of incentives directed towards research and development (R&D) activities and technology projects. These include taxexempted technology development funds and tax credit for expenditures on R&D and for upgrading human resources related to R&D. Corporate tax is usually high in developing countries. In Bangladesh, corporate tax is 45 per cent. Reductions in the standard rates of corporate income tax and tax holidays are the most widely used fiscal incentives. Tax incentives, for example, include reduced tax rates on profits, tax holidays, accounting rules that allow accelerated depreciation and loss carry forwards for tax purposes, reduced tariffs on imported equipment and raw materials.

China is offering foreign firms a tax refund of 40 per cent on profits that are reinvested to increase the capital of the firm or launch another firm. India, similarly, offers a tax exemption on profits of firms engaged in tourism or travel, provided their earnings are received in convertible foreign currency.

Singapore is a unique example for LDCs to follow. At the time of independence of the island state in 1965, its major problem was unemployment. A prudent development policy providing for a wide range of incentives to foreign and local investors is credited for its success in riding out the problem as well transforming the economy towards a well directed target. Initially, it introduced entrep么t or re-export at its sea port for other countries. But re-export could not create enough jobs. The solution was found in rapid industrialisation with the participation of foreign investors in manufacturing and financial services. An Economic Development Board was formed to manage the industrialisation programme. In 1967, the Economic Expansion Incentives Act (EEIA) was introduced in order to give tax incentives to manufacturers in pioneer industries and to promote export. In the late 1960s, the annual growth rate of Singapore averaged 9.0 per cent, and by 1970, unemployment rate was reduced to as low as 6.0 per cent.

Among the incentives offered by many countries to attract investment and transfer of technology, free trade zones (FTZs) figure prominently. However, FTZs typically cover incentives for exportoriented manufacturing industries and re-export facilities. Dubai, for example, gained much FDI through FTZs. The unique geographical location of Bangladesh could attract FDI in FTZs for reexport to India and China.

India was a very restricted economy compared to Bangladesh only a decade ago. Now India too offers FTZ facility for investment in industry and trade. India is now re-exporting products manufactured in other countries posing challenge to Dubai and Singapore.

For import of technology, tax incentives are provided by some countries for transfer costs of patent rights and import fees, exemption of income from consulting and granting of tax privileges to R&D projects. Similarly, cooperation and partnership agreements among firms for R&D are often exempted under competition laws, particularly in developed countries such as the United States and member States of the European Union. Through various competition regulation exemptions, it is possible to allow increasing legal certainty to technology holders and licensees willing to invest in new projects using new technologies in a country. Bangladesh has a Competition Law but there is little initiative for adaptation and application of the law. This may be disadvantageous for TNCs for investing in some sectors due to dominance by some local or foreign companies.

The offer of incentives can be justified on the grounds of the positive externalities, or spillovers resulting from investment, such as the diffusion of new knowledge and technology, upgradation of the skills of the workforce or investment in R&D. The investor may train workers or impart managerial or marketing skills, where the benefit to the society far outweighs the benefit to the investor. Employees receiving such training may utilise their knowledge and skills elsewhere in the country.

LDCs may target to make the best use of TNC-mediated technology transfer and diffusion.

Proactive policy support is a critical requirement here. TNCs usually look for a place with educated human resource and some technological expertise so that coping up quickly with advance technology is not difficult. Government policy and regulatory framework, including intellectual property laws, are preconditions that enable the development of a sound knowledge base and technological capacity in a country. The policy may provide an interface for technology-related TNC activities, support the development of the absorptive capacities of domestic enterprises and their linkages with TNCs. The writer is a legal economist. shah@banglachemical.com