The Federated States of Micronesia (FSM) is a lower middle income island nation of 113,815 (2019) 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, gaining independence in 1986. Since independence, the United States has provided over USD 100 million annually to the FSM under a Compact of Free Association (Compact) with the United States. FSM uses the funds for development under the administration of the U.S. Department of Interior Office of Insular Affairs (DOI). The World Bank estimates FSM’s 2018 Gross Domestic Income (GDI) at $3,568 per person, a trend reflecting no growth over the previous 10 years. The national currency of exchange is the U.S. dollar.
Commercial fishing remains the key economic sector in the FSM. The country’s primary sources of income are the sale of fishing rights (USD 72.3 million in 2018), corporate income taxes, mainly from offshore corporate registrations for captive insurance (USD 84.5 million in 2018), and grants (USD 26.5 million in 2018). It continues largely as 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 (70 percent of employed adults work in the public sector) and, to a much lesser degree, by family remittances and Social Security benefits paid to FSM citizens who previously worked in the United States or who are the surviving spouse of an American citizen. (The World Bank predicts a 3.3 percent drop in overall remittances in 2020 due to COVID-19.)
Compact funding will change in 2023 from direct funding in the form of sector grants, to the use by the FSM of proceeds derived from a trust fund developed from U.S. contributions over 20 years. As of September 2020, the balance of the Compact Fund stood at USD 783.9 million. FSM has also created its own trust fund, contributing USD 17.3 million in FY2020, raising its overall balance to USD 307.3 million.
The FSM GDP for 2018 was USD 402 million, a 19.5 percent increase from 2017 at constant prices. The economy recorded a trade deficit of USD 125 million in goods and services for the same year. FSM government debt at USD 83.2 million was low, giving FSM a low 23.7 debt/GDP ratio, one of the lowest in the Pacific. Major creditors are the Asian Development Bank (52.5 percent of debt) and the U.S. Rural Utility Services (20.7 percent of debt). Despite the low levels of debt in absolute terms, the International Monetary Fund deemed FSM to be at a high level of debt stress due to the uncertainty created by looming Compact Funding reductions in 2023 and the possible need to borrow to maintain operations of state governments.
Foreign direct investment (FDI) is almost nonexistent due to prohibitions on foreign ownership of land and businesses (in specified industries), difficulties in registering companies (the process requires approvals from the state governments as well as the national government), poor private sector contract enforcement, poor protection of minority (foreign) investors’ rights, weak courts, and weak bankruptcy settlement management. In addition, lack of infrastructure, poor health and education systems, the scarcity of commercial flights, and high costs of imported goods and various business services also contribute to the lack of FDI.
Pohnpei State’s Legislature amended its laws September 2018 to reduce requirements on foreign investment. The law specified the business sectors that permit FDI, with the remaining sectors available for Pohnpei citizens only. Domestic capital formation is very low. Commercial banks are classified as foreign entities and their ability to provide commercial loans, especially secured by real estate, is very limited. Banks view all credit to FSM borrowers as essentially unsecured.
Most national political power is delegated to the four states by the FSM constitution, including regulation of foreign investment and restrictions on leases. This means that investors 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 under the Compact but cannot own property on most FSM islands. FSM voters select national legislators (senators). The national senators then caucus to select the president and vice-president from among the four at-large senators. There are no political parties. On May 11, 2019, Senators selected David Panuelo and Yosiwo George as president and vice president, respectively, for a four-year term. The most recent elections for Congress were held March 1, 2021.
3. Legal Regime
Transparency of the Regulatory System
The FSM is not a signatory to any convention on transparency in international investment. Transparency of government actions is typically based 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. Text or summaries of proposed regulations are published before enactment but are not printed in an official journal or publication, and there is no appeal or administrative review process. In addition, government audits and statistical reports are not prepared promptly and timely data are often unavailable (the most recent publications occurring in 2019 using 2018 data).
The websites that provide the most relevant economic data on FSM are:
International Regulatory Considerations
The FSM signed on to the Pacific Island Countries Trade Agreement (PICTA) in 2001, but did not ratify the agreement. PICTA is a free trade agreement on trade in goods among 14 members of the Pacific Islands Forum (excluding Australia and New Zealand). Eleven countries – Cook Islands, Fiji, Kiribati, Nauru, Niue, Papua New Guinea, Samoa, Solomon Islands, Tonga, Tuvalu and Vanuatu — have so far ratified PICTA. The FSM is not a member of any regional economic block, nor is it a member of the WTO.
Legal System and Judicial Independence
The FSM follows the U.S. common law system, and uses U.S. case law as precedent. There are no specialized courts with the exception of Land Courts in Pohnpei and Kosrae. All States have State Courts and State Supreme Courts. The judicial system remains independent of the executive branch, but is reported to be slow, weak, and lacking the ability to enforce judgments properly. Regulations or enforcement actions are appealable. Appeals may be adjudicated in either the State or National courts.
Laws and Regulations on Foreign Direct Investment
In September 2018, the Pohnpei State Legislature overrode the Governor’s veto of a bill on Foreign Investment regulations. The bill became State Law over the objection of several local business leaders. The new law placed all decision making power into the hands of one person, the Registrar of Corporations.
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. 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. Thus, a prospective investor who plans 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:
- 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.
- Red: manufacture of toxic or 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. End Note.)
- Amber: Real estate brokerage, non-ecology-based tourism, trade in reef fish, coral harvesting.
- Green: Eco-tourism, export of local goods, professional services.
- Red: None presently defined, determined by board from amber candidates.
- Amber: Everything not classified as green.
- Green: Businesses with greater than 60 percent FSM ownership, initial capitalization of USD250,000 or more, professional services with capitalization of USD50,000 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.
- Red: Determined by the Director, none codified in law.
- Amber: Casinos, lotteries, and 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.
- 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 no compulsory acquisition or expropriation of property of any foreign investment for which a Foreign Investment Permit is 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.
ICSID Convention and New York Convention
Since 1993, the FSM has been a member of the International 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 been no 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 little or no 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.
A bankruptcy law has been in existence since 2005, but was used only three times, generally to avoid taxes.
4. Industrial Policies
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 several sectors, most notably tourism and fishing and aquaculture, without substantive measures to realize those goals. The telecommunications sector recently opened up in order to meet World Bank conditions for a new fiber optic cable project. The largest state-owned enterprise, Vital Energy, the parent of FSM Petroleum Corporation (FSMPC), built its first solar power plant in Guam in 2013 and plans to expand its renewable energy capacity into FSM in the future.
Politicians have called for expansion of the tourism sector, but have created no tax, licensing, or leasing incentives to encourage investment. Although there is considerable potential for growth in the tourism sector, the remoteness of the FSM, land ownership prohibitions, business ownership restrictions, and the current lack of hotel facilities and tourism services mean growth in the tourism sector is unlikely to meet local expectations. Data prior to the onset of the COVID-19 pandemic show that growth fell in the areas of scuba diving, boating, and fishing. The March 2020 FSM border closure has brought the sector to a standstill.
The United Nations Educational, Scientific and Cultural Organization (UNESCO) adopted the significant archaeological site of Nan Madol as a World Heritage Site in 2016, and has been working toward designating other sites in Yap, Kosrae, and Chuuk. Other efforts, including those by the U.S. Embassy and National Geographic, are underway to highlight the considerable cultural heritage extant in the FSM.
Foreign Trade Zones/Free Ports/Trade Facilitation
There are no Foreign Trade Zones, Free Trade Zones, or Free Ports in the FSM.
Performance and Data Localization Requirements
The FSM government mandates local employment when qualified individuals are available. U.S. citizens may reside in and work in the FSM indefinitely. Citizens of other countries must apply for the appropriate permits. There are no defined performance requirements for investments.
5. Protection of Property Rights
The most important impediments to foreign direct investment (FDI) are derived 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 United States are unable to inherit or own property unless they renounce their U.S. citizenship. 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.
Although foreign nationals, including corporations, cannot own real land, they can own buildings or other structures and lease the land beneath on a long term basis.
Intellectual Property Rights
Intellectual property rights (IPR) in the FSM are nominally protected, and the country is a member state of the World Intellectual Property Organization (WIPO). The country is not listed in the USTR Special 301 Report, nor is it listed in the notorious market report. The Embassy has not received complaints from U.S. firms regarding IPR issues, and the only U.S. corporations currently operating in FSM are United Airlines and Matson Shipping. The only three U.S. chains present (Ace Hardware, True Value Hardware, and NAPA auto parts) are 100 percent locally-owned franchises.
For additional information about national laws and points of contact at local IP offices, please see WIPO’s country profiles at 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 because of the prohibition of using land or businesses as collateral, difficulties inherent in collecting debts, and the inability to identify collateral that can be attached and sold in the event of default. There are no credit reporting agencies. The Bank of the FSM is prohibited by its charter from investing in any securities not insured by the U.S. government, so the bulk of its holdings are in U.S. Treasury bonds. The Bank of Guam operates as a deposit collector and transactions facilitator in the FSM, with most of its loans made in Guam.
The Bank of the FSM is protected from takeover by a trigger from the Federal Deposit Insurance Corporation (FDIC) that will cancel its insurance status if foreign ownership exceeds 30 percent. Foreigners are not allowed to open accounts with the bank unless they provide proof of local residence and work permits and fulfill U.S. Treasury “know thy customer” requirements.
Money Exchange companies such as Western Union operate within FSM and handle the majority of remittances.
Since most businesses are family owned, there are no shares that can 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
The currency of the FSM remains 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 were FDIC insured.
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 into and out of the country. Micronesians working abroad and in the United States sent money to their families in the FSM, while Filipino professionals and laborers working in FSM sent money to their families in the Philippines. The World Bank estimates a drop in remittances of 3.3 percent for FY2020 due to reductions in employment attributable to the COVID-19 pandemic. It did not, however, provide monetary estimates of remittance flows.
Sovereign Wealth Funds
The FSM had 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 U.S.-based 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 Vital Energy (the parent of FSM Petroleum Corporation (FSMPC)), the FSM Telecommunications Corporation, and the FSM Coconut Development Authority, which was folded into Vital Energy 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.
There is currently no privatization program in the FSM.
13. Foreign Direct Investment and Foreign Portfolio Investment Statistics
|Direct Investment from/in Counterpart Economy Data|
|From Top Five Sources/To Top Five Destinations (US Dollars, Millions)|
|Inward Direct Investment||Outward Direct Investment|
|Total Inward||Amount||100%||Total Outward||Amount||100%|
Table 3: Sources and Destination of FDI
No detailed information is available on the IMF’s Coordinated Portfolio Investment Survey (CPIS) website and no information is available on outward direct investment from FSM.
Table 4: Sources of Portfolio Investment
No detailed information is available on the IMF’s Coordinated Portfolio Investment Survey (CPIS) website and no information is available on outward direct investment from FSM. 14. Contact for More Information