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Executive Summary
The Federated States of Micronesia (FSM) is a lower middle-income island nation of 104,000 people on 607 islands with a total land area of 271 square miles and an exclusive economic zone (EEZ) of over one million square miles (2.6 million square km) in a remote area of the Western Pacific Ocean. The nation is composed of formerly unrelated cultures and languages organized into four states under a weak national government. The FSM is part of the former U.S.-administered Trust Territory of the Pacific Islands that gained independence in 1986 and continues to use the U.S. dollar as its currency. Since independence, FSM has operated under a Compact of Free Association (Compact) with the U.S., receiving more than USD 100 million per year in development funding administered mainly by the U.S. Department of the Interior (DOI). The World Bank estimates Gross Domestic Income (GDI 2016) to be USD 3,550 per person, showing no growth over the previous 10 years.
The FSM currently has no major exports or domestic industry. Its primary sources of income are the sale of fishing rights (approximately USD 72.5 million in 2017) and taxes on offshore corporate registrations for captive insurance (USD 20 million in 2017). It is largely a subsistence economy, except in larger towns where the economy is centered on government employment and a small commercial sector. The cash economy is primarily fueled by government salaries paid by Compact funds (66 percent of employed adults work in the public sector) and, to a much lesser degree, by family remittances. Compact funding will change in 2023 from the current grants to proceeds from a trust fund developed over 20 years. This is estimated to lower government revenues from the United States by 20-30 percent.
The FSM GDP for 2016 was USD 329 million, a 4.44 percent increase from 2015 at constant prices. The economy recorded a trade deficit of USD 195 million in goods and services for the same year. The FSM government currently has low debt, but the lack of development of revenue to supplement Compact funding, the lowest tax-to-GDP ratio in the Pacific, and looming Compact funding reductions in 2023 mean that international development banks classify the country as a grant-only client, as they are concerned with the country’s ability to repay loans.
Foreign investment is almost nonexistent due to prohibitions on foreign ownership of land and businesses, difficulties in registering business (the process requires approvals from the four state governments and at the national level), poor enforcement of contracts, poor protection of minority (foreign) investors, weak courts, and weak settlement of insolvency. Domestic capital formation is very low because the commercial banks are classified as foreign entities and are not allowed to provide mortgages or business financing. The cost of doing business in FSM is high due to the region’s remoteness and dependence on imported materials and services.
Most political power of the nation is delegated to the four states by the constitution, including regulation of foreign investment and restrictions on leases. This means that investors may have to navigate between five different sets of regulations and licenses. U.S. citizens are able to live and work in the FSM indefinitely without visas. National legislators (senators) are directly elected, and two of the four at-large senators are selected by the other senators to act as president and vice-president. There are no political parties. The next elections for Congress are in March 2019.
Table 1
|
Measure |
Year |
Index/Rank |
Website Address |
|
TI Corruption Perceptions Index |
2018 |
N/A |
|
|
World Bank’s Doing Business Report “Ease of Doing Business” |
2018 |
155 of 190 |
|
|
Global Innovation Index |
2018 |
N/A |
|
|
U.S. FDI in Partner Country (M USD, stock positions) |
2018 |
N/A |
|
|
World Bank GNI per capita |
2017 |
USD 3,590 |
1. Openness To, and Restrictions Upon, Foreign Investment
Policies Toward Foreign Direct Investment
While the government of the FSM publicly expresses its intent to increase foreign investment, there are many structural impediments to doing so. These challenges, both regulatory and political, affect foreign investment and economic progress in general, and addressing them would require constitutional change that is unlikely in the foreseeable future. Many political leaders at both the state and national level are owners of the largest businesses on the islands and strongly oppose the required structural changes that would result in increased competition. The FSM scores in the lowest quintile in almost all measures and international indices of economic activity and the climate for doing business.
The country’s courts support contractual agreements, but enforcement of judicial decisions has been historically weak. Foreign firms doing business in the FSM have had difficulty in collecting debts owed by FSM governments, companies, and individuals, even after obtaining favorable judgments. For these reasons, the World Bank ranks the FSM very low in protecting minority investors and enforcing contracts, ranking 185th and 183rd, respectively, of 190 countries globally. U.S. companies and individuals considering doing business with parties in the FSM should exercise due diligence and negotiate minimal credit and payment arrangements that fully protect their interests.
Limits on Foreign Control and Right to Private Ownership and Establishment
All four of the FSM’s states have limits on foreign ownership of small- and medium-size businesses. Large projects are assessed by the government on a case-by-case basis. Each state requires a separate application for foreign investment permits. Foreign investment is strictly limited by local ownership requirements (51-60 percent) and residency requirements of more than five years. Financing through bank loans is not possible. Local small- and medium-size businesses are protected from foreign competition. Larger projects in a business sector already owned by public figures will face strong political opposition. Large and unrealistic development proposals have been received enthusiastically by politicians, but have not moved forward primarily due to land issues. FDI is screened at both the state and federal level.
Other Investment Policy Reviews
The FSM government has not undergone any third-party investment policy review conducted by United Nations Conference on Trade and Development (UNCTAD), World Trade Organization (WTO), or Organization of Economic Cooperation and Development (OECD).
Business Facilitation
Micronesia lacks a single window for online business registration or information portals providing comprehensive business registration information. The FSM Department of Resources and Development (R&D) maintains information on trade and investment at their website. It has been reported that obtaining licenses and permits in a timely manner may depend more on the relationship of the investor (or local legal counsel) with the official in charge, rather than any clear procedure or timeline. The World Bank’s 2017 Ease of Doing Business report ranks the FSM as 155th of 190 countries globally in terms of procedures to register a business.
Outward Investment
The FSM government does not promote, incentivize or restrict outward investment.
2. Bilateral Investment Agreements and Taxation Treaties
No bilateral investment agreement exists between the U.S. and the FSM. The 2003 Amended Compact of Free Association is the only applicable guidance, with additional information available online. Under this treaty, articles imported from the U.S. into the FSM are guaranteed to receive treatment that is no less favorable than any other foreign country. Articles exported from the FSM to the U.S. are duty exempt, with a few exceptions as listed in Article IV, Section 242 of the Compact.
Transparency of the Regulatory System
The FSM is not a signatory to any convention on transparency in international investment. Transparency of government actions depends more on personalities than on the law. Regulatory bodies sometimes involve themselves in issues beyond their jurisdiction. Conversely, other regulations are not uniformly enforced. It is often difficult to obtain public records, although some states and government organizations do require open meetings. In addition, government audits and statistical reports are not prepared promptly and current data is often unavailable.
One of the two websites that provided relatively recent (if not comprehensive) data and reports is no longer online after government reorganization. The website for the National Public Auditor (http://www.fsmopa.fm) remains active and updated.
International Regulatory Considerations
The FSM is not a member of any regional economic block, nor is it a member of the WTO
3. Legal Regime
Laws and Regulations on Foreign Direct Investment
No major laws or regulations regarding foreign investment have come out in the past year. A constitutional amendment allowing dual citizenship was voted on in March 2017, again failing to pass. The individual states directly regulate all foreign investment, except in the areas of deep ocean fishing, banking, insurance, air travel, and international shipping, which are regulated at the federal level. FSM national and state governments use a “traffic light” system to regulate businesses, with red for prohibited, amber for restricted, and green for unrestricted. Industry classifications in this system vary from state-to-state. Thus, a prospective investor planning to operate in more than one state must obtain separate permits in each state, and often follow different regulations as well.
The following are the regulations pertaining to restrictions by sector in each of the states:
FSM National
- Red: Arms manufacture, minting of currency, nuclear power, radioactive goods.
- Amber: Increased scrutiny before approval for non-traditional banking services and insurance.
- Green: Banking, fishing, air transport, international shipping.
Kosrae State
- Red: manufacture of toxic, biohazard materials, gambling, casinos, fishing using sodium/cyanide or compressed air. (Note: There is also currently a ban on all business transactions on Sundays in the capital town.)
- Amber: Real estate brokerage, non-ecology-based tourism, trade in reef fish, coral harvesting
- Green: Eco-tourism, export of local goods, professional services.
Pohnpei State
- Red: None presently defined, determined by board from amber candidates.
- Amber: Everything not classified as green.
- Green: Businesses with greater than 60 percent share owned by FSM citizens, initial capitalization of USD 250,000 or more, professional services with capitalization of USD 50,000 or more, and Special Investment Sector businesses with 51 percent FSM ownership in retail, trade, exploration, development, and extraction of land or marine based mineral resources or timber.
Chuuk State
- Red: Determined by the Director, none codified in law.
- Amber: Casinos, lotteries, industries that pollute the environment, destroy local culture and tradition, or deplete natural resources.
- Green: Eco-tourism, professional services, intra-state airline services, exports of local goods.
Yap State
- Red: Manufacture of toxic materials, weapons, ammunition, commercial export of reef fish, activities injurious to the health and welfare of the citizens of Yap.
- Amber: None at present.
- Green: All others.
Competition and Anti-Trust Laws
There is no law or agency governing competition in the FSM.
Expropriation and Compensation
The FSM Foreign Investment Act of 1997 guarantees that there will be no compulsory acquisition or expropriation of property of any foreign investment for which a Foreign Investment Permit has been issued, except for violation of laws and regulations and in certain extraordinary circumstances. Those extraordinary circumstances include cases in which such action would be consistent with existing FSM eminent domain law, when such action is necessary to serve overriding national interests, or when either the FSM Congress or the FSM Secretary of Resources and Development has initiated expropriation. There has been no history of expropriation involving foreign investors or U.S. companies.
Dispute Settlement
ICSID Convention and New York Convention
Since 1993, the FSM has been a member of the Convention on Settlement of Investment Disputes between States and Nationals of Other States (ICSID) but is not a party to the New York Convention of 1958 on the Recognition and Enforcement of Foreign Arbitral Awards. To date, there have not been any ICSID cases.
Investor-State Dispute Settlement
The FSM is not a signatory to a treaty or investment agreement in which binding international arbitration of investment disputes is recognized. Disputes take years to resolve and still may not produce concrete results. Some cases have been on the docket, with no or little movement, for thirty years or more.
International Commercial Arbitration and Foreign Courts
There are no provisions under FSM Federal law for alternative dispute resolution. This is also true of the states, with the exception of Kosrae, where an alternative dispute resolution system has taken the place of a small claims court. Judgments from foreign jurisdictions are not enforceable in FSM courts.
Bankruptcy Regulations
A bankruptcy law has been in existence since 2005 but has been used only three times, generally to avoid taxes.
4. Industrial Policies
Investment Incentives
There are currently no government programs or incentives to attract foreign investment.
There is no government agency tasked with developing an industrial strategy; however, the FSM government has made recommendations for growth in all sectors without substantive measures to realize those goals. The telecommunications sector has recently opened up in order to meet the World Bank conditions for a new fiber optic cable project. The largest state-owned enterprise, the FSM Petroleum Corporation (FSMPC), is planning to expand into renewable energy technologies like solar power, and coconut oil for export.
Politicians call for expansion of the tourism sector, but have created no tax, licensing, or leasing incentives to encourage investment. Considering the remoteness of the FSM, land ownership prohibitions, business ownership restrictions, and the current lack of hotel facilities and tourism services, growth in the tourism sector is not likely to meet local expectations. In addition, recent data shows that growth has actually fallen in the areas of scuba diving, boating, and fishing. Disagreements over land issues caused the 2013 closure of the most successful hotel in Pohnpei. UNESCO adopted the significant archaeological site of Nan Madol as a World Heritage Site in 2016. Statistics are not yet available to determine whether this has had any positive effect on tourism.
Foreign Trade Zones/Free Ports/Trade Facilitation
There are no Foreign Trade Zones, Free Trade Zones, or Free Ports in the FSM.
5. Protection of Property Rights
Real Property
The most important impediments to FDI derive from land and contract issues. Foreign ownership of land is prohibited; most land is owned and passed on within the clan structure, leading to conflicting title claims, the need to negotiate leases with multiple parties, and the possibility of changes when the original senior lessor dies. Dual citizenship is illegal, so Micronesian citizens born in the U.S. are unable to inherit or own property. There is no system for land title insurance in any of the country’s four states. The combination of these factors ranked the FSM at 187th out of 190 countries globally in the World Bank’s Ease of Doing Business report’s assessment of registering property.
Foreign nationals, including corporations, cannot own real land but in some cases can own buildings or other structures.
Intellectual Property Rights
Micronesia is a member state of the World Intellectual Property Organization (WIPO). Micronesia acceded to the Berne Convention for the Protection of Literary and Artistic Works in 2003. The country is not listed on USTR’s 2018 Special 301 Report, nor is it listed in the Notorious Markets Report. The Embassy has not received complaints from U.S. firms regarding IPR issues. That being said, the only U.S. corporations currently operating in FSM are United Airlines and Matson Shipping. There are only three U.S. chains present in Micronesia: Ace Hardware, True Value Hardware, and NAPA auto parts. They are 100 percent locally-owned franchises.
Intellectual property rights (IPR) are only nominally protected by the government. While there is weak and out-of-date legislation, enforcement is virtually nonexistent. A small CD/DVD pirating market exists, but there are no records of seizures. U.S. corporations have taken out legal ads in the local paper to protect their trademarks, but the enforcement of IPR has not been tested yet.
For additional information about national laws and points of contact at local IP offices, please see the country profiles on the WIPO website (http://www.wipo.int/directory/en/).
6. Financial Sector
Capital Markets and Portfolio Investment
There are no stock or commodities exchanges in the FSM.
Money and Banking System
The two commercial banks operating in the country, the Bank of Guam and the Bank of the FSM, can only make small, short-term unsecured loans. This is due to the prohibition of using land or business as collateral, difficulties inherent in collecting debts, and difficulties in identifying collateral that could be attached and sold in the event of default. The Bank of FSM is prohibited by its charter from investing in any securities that are not insured by the U.S. government, so the bulk of its holdings are U.S. Treasury bonds. The Bank of Guam operates as a deposit collector in the FSM, with most of its loans made in Guam.
The Bank of FSM is protected from takeover by a trigger from FDIC that will cancel their insurance status if foreign ownership exceeds 30 percent. Foreigners are not allowed to open accounts with the bank unless they can provide proof of local residence and work permits.
Since most businesses are family owned, there are no shares that could be acquired for mergers, acquisitions, or hostile takeovers. The FSM enacted a secured transaction law in 2005 and established a filing office in October 2006 primarily to serve the foreign corporate registration market.
Foreign Exchange and Remittances
Foreign Exchange Policies
The currency of the FSM is the U.S. dollar. The only two commercial banks operating in the country at present are the Bank of Guam and the Bank of the FSM, both of which are Federal Deposit Insurance Corporation (FDIC) insured.
Remittance Policies
There are no specific restrictions on repatriating profits from a business, except in the state of Chuuk, where an amount greater than USD 50,000 requires state approval.
Statistics on family-level and personal remittances are difficult to obtain, with various studies reporting figures ranging from USD 3 to USD 14 million per year entering the FSM. However, remittances travel freely into and out of the country. Micronesians working abroad and in the U.S. send money to their families in the FSM, while Filipino professionals and laborers working in FSM send money to their families in the Philippines.
According to the Financial Action Task Force (FATF), the FSM is listed as a “monitored” country, indicating that the risk of money laundering is low.
Sovereign Wealth Funds
The FSM has no sovereign wealth fund, but the government established a national trust fund modeled on the Compact Trust Fund to provide additional government income after 2023. That fund is managed by a commercial fund manager.
7. State-Owned Enterprises
The FSM established state monopolies and maintains state owned enterprises (SOEs) in the areas of fuel distribution, telecommunications, and copra production. These companies are the FSM Petroleum Corporation (FSMPC), the FSM Telecommunications Corporation, and the FSM Coconut Development Authority, which was folded into the FSMPC in 2014. Legislation passed in 2016 opened the telecom market to private companies in order to qualify for World Bank funding for a submarine fiber optic cable to Yap and Palau. Other prominent SOEs include the National Fisheries Corporation, the FSM Development Bank, the College of Micronesia, and Caroline Islands Air, Inc.
FSM does not currently adhere to the convention on the Organization of Economic Cooperation and Development (OECD) guidelines on corporate governance of SOEs.
Privatization Program
There is currently no privatization program in the FSM.
8. Responsible Business Conduct
There is little awareness or definition of responsible business conduct (RBC) in the FSM. However, most local businesses are small and generally responsive to the community in which they operate. The two U.S.-based companies in the FSM generally follow RBC principles. The host government does not promote RBC or factor it in evaluations for public contracts, nor does the country adhere to the convention on OECD guidelines for multinational enterprises
9. Corruption
The FSM has laws prohibiting corruption and there are penalties for corrupt acts. The National Office of the Public Auditor, with support from the Department of Justice, has been the entity most active in anti-corruption activities. A number of senior ex-FSM Government officials have been convicted of corruption under the FSM Financial Management Act, usually involving procurement fraud. Corruption is not a predicate offense under the money laundering statute. Bribery is punishable by imprisonment for no more than ten years and disqualification from holding any position in government. Given that many FSM National, State, and Municipal Government officials also own businesses, there exists significant potential for conflicts of interest.
The U.S. Embassy is not aware of significant anti-corruption efforts. The degree to which government officials accept direct bribes is unknown; however, misuse and misappropriation of government funds is widespread. The FSM has not signed or ratified the UN Convention on Corruption, or the OECD Convention on Combating Bribery.
Resources to Report Corruption
The FSM has no government agency specifically assigned with responsibility for combatting corruption. The Public Auditor has highlighted irregularities, but with no enforcement capability. The Department of Justice activity in this area has been variable.
Joses Gallen
Attorney General, FSM Department of Justice
Palikir, Pohnpei
+691-320-2608
jrg.fsm@gmail.com
There are no non-governmental "watchdog" organizations in Micronesia that monitor corruption.
10. Political and Security Environment
FSM enjoys a stable, democratic form of government, and has no history of civil or political strife. The islands became part of a UN Trust Territory under US administration following World War II. In 1979, the islands adopted a constitution, formally becoming the Federated States of Micronesia. Independence came in 1986 under a Compact of Free Association with the U.S., which was amended and renewed in 2004. Under this agreement, the U.S. Government guarantees the FSM’s external security.
The country’s last presidential elections were held in 2015, which brought Peter Christian, a former senator, to power. The next presidential elections are scheduled for 2019. The population’s main concerns relate to the high unemployment rate, depletion of marine resources from overfishing, and a reliance on foreign aid.
11. Labor Policies and Practices
Wages in FSM are very low, with minimum wage laws for government employees in all states and the federal government. Only Pohnpei has a minimum wage for the private sector at USD 1.75 per hour. Employment in the public sector is preferred because the wages are significantly higher. The minimum hourly wage for employment with the national government is USD 2.34. The minimum hourly wage for government workers in the individual states is: Pohnpei USD 2.00, Chuuk USD 1.25, Kosrae USD 1.42, and Yap USD 1.60.
There is no law regulating hours of work (although a 40-hour workweek is standard practice), nor are there enforceable standards of occupational safety and health. While there is one federal regulation that requires employers to provide a safe workplace, neither the Department of Health nor the Environmental Protection Agency has enforcement capability, resulting in varying working conditions. There is no law for either the public or private sector that permits workers to remove themselves from dangerous work situations without jeopardizing their continued employment.
Skilled labor in FSM is limited, with few FSM citizens trained to perform tasks of any technical nature. Foreign workers, primarily Filipinos, are hired to fill roles requiring technical skills. The vast majority of doctors, nurses, accountants, lawyers, engineers, construction foremen, and heavy equipment operators are foreign.
The FSM has seen no collective bargaining or strikes. Unemployment is high, and workers are easily replaced. There is no child labor, except in small family businesses. Occupational safety and health standards are low.
12. OPIC and Other Investment Insurance Programs
In 1988, FSM signed a bilateral agreement with the Overseas Private Investment Cooperation (OPIC). However, Since FSM law does not allow foreign corporations to operate independently in its territory, there are currently no OPIC financing projects in Micronesia.
13. Foreign Direct Investment and Foreign Portfolio Investment Statistics
Table 2: Key Macroeconomic Data, U.S. FDI in Host Country/Economy
|
Host Country Statistical Source |
USG or International Statistical Source |
USG or International Source of Data: |
|||
|
Economic Data |
Year |
Amount |
Year |
Amount |
|
|
Host Country Gross Domestic Product (GDP) (M USD) |
N/A |
N/A |
2016 |
322 |
|
|
Foreign Direct Investment |
Host Country Statistical Source |
USG or International Statistical Source |
USG or International Source of Data: |
||
|
U.S. FDI in Partner Country (M USD, stock positions) |
N/A |
N/A |
2017 |
(D) |
BEA data available at http://bea.gov/international/direct_investment_multinational_companies_comprehensive_data.htm |
|
Host Country’s FDI in the United States (M USD, stock positions) |
N/A |
N/A |
2017 |
USD 1 |
BEA data available at http://bea.gov/international/direct_investment_multinational_companies_comprehensive_data.htm |
|
Total inbound stock of FDI as % host GDP |
N/A |
N/A |
N/A |
N/A |
N/A |
hubei@investgo.cn