Benefits and Challenges of Special Economic Zones

Special Economic Zones (SEZ) – an umbrella term which includes Free Trade Zones, Export Processing Zones, Freeports, and others – are becoming common across the globe. According to the United Nations Conference on Trade and Development (UNCTAD), as of 2019, 147 countries had established some kind of SEZ, with the total number of SEZs worldwide nearing 5,400. Among the many advantages offered by these is a more relaxed regulatory environment, which increases the overall ease of doing business. The flow-down benefits for states hosting successful SEZs can be significant: a high-performing zone with strong foreign investment can create thousands of jobs while also building the capabilities of the local workforce as outside investors share expertise and know-how.
However, these advantages also carry risks. The relaxation of certain regulations can create an environment that may prove attractive to nefarious actors engaging in illicit activities such as counterfeiting, money laundering, and general smuggling. According to a 2018 report from the Organisation for Economic Co-operation and Development (OECD), “…illicit trade, and other forms of criminality, such as fraud and money laundering, are relying on the opaque nature of Free Trade Zones [FTZs] to further the interest of bad actors, by allowing them to carry out illicit business, at lower risk.” These illicit activities jeopardize the benefits enjoyed by governments that establish SEZs through reputational risks. A zone that gains a reputation for opacity and criminal activity will simultaneously become less attractive to firms – especially large multinational corporations – that are seeking legitimate investment opportunities to grow their business.

Poorly managed SEZs also present a threat to international security, especially in the area of weapons proliferation. Zones are frequently used as transshipment points by state and non-state actors working to procure goods and materials destined for weapons programs. Proliferators are constantly endeavoring to acquire a long list of “dual-use” goods; that is, goods that have both civil and military applications. In their 2016 article, “Free Zones and Strategic Trade Controls,” authors Andrea Viski and Quentin Michel explain that “Illicit actors can forge documents and use free zones to repackage or relabel goods, or manufacture and assemble new goods in the zones.” Using the infamous A.Q. Khan proliferation network as an example, Viski and Michel note that “free trade zones in Dubai were critical in allowing nuclear technology to reach Iran, DPRK, Libya, and other states.” While the UAE government has taken action to address the issues revealed by the Khan network, similar oversight gaps endure in SEZs across the globe.
The measures necessary to address these oversight gaps are well known to scholars and trade professionals familiar with SEZs. The primary limiting factor to implementation is a lack of awareness among policymakers. Unfortunately, as the abovementioned OECD report notes, “There are presently no wide-reaching international frameworks that set out a series of rules or governing regulations for FTZs.” Still, guides and recommendations do exist. In 2019, the OECD published its “Code of Conduct for Clean Free Trade Zones.” This document advises states to, among other things:
– Provide unconditional access to the competent authorities, in accordance with their domestic law, to carry out unobstructed, ex officio enforcement checks of operators in support of investigations of violations of applicable laws and regulations.
– Prohibit operators and persons who do not provide the necessary assurance of compliance with the applicable customs provisions from carrying out an activity in the FTZ.
– Ensure that economic operators active in the FTZ maintain detailed digital records of all shipments of goods entering and leaving the zone, as well as all goods and services produced within it, sufficient to know what is inside the zone at any given time.
Of course, these recommendations are only useful so long as they are communicated to and adopted by policymakers. With this goal in mind, CRDF Global hosted a virtual event entitled “Special Economic Zones: Addressing Proliferation Challenges through Best Practices in SEZ Management” on November 10, 2020. The event included insights from industry, academia, and international organizations focused on improving SEZ governance and enhancing international security.