The End of Textiles Quotas: A case study of the impact on Bangladesh Montie Mlachila and Yongzheng Yang International Monetary Fund June 19, 2004 1
Objective To analyze Bangladesh s vulnerabilities to the final stage of textiles quota elimination, focusing on the impact on employment, exports, and GDP growth 2
Outline Background for Bangladesh s RMG sector Analyzing past performance and competitiveness Domestic supply constraints Estimating the impact Conclusion 3
The Background 4
Going off the cliff 60 MFA Quota Phase-Out 50 40 Percent 30 20 10 0 Phase I (Jan-95) Phase II (Jan-98) Phase III (Jan-02) Phase IV (Jan-05) Quota removal Quota growth rate 5
After very strong performance during most of the 1990s (about 16 percent per year), the growth rate of RMG exports has slowed down significantly since 1998 Bangladesh Exports (in millions of U.S. dollars) 8,000 7,000 6,000 5,000 Other Jute and jute products Frozen food RMG sector 4,000 3,000 2,000 1,000 0 FY90 FY91 FY92 FY93 FY94 FY95 FY96 FY97 FY98 FY99 FY00 FY01 FY02 FY03 6
The role of the RMG sector in the Bangladeshi economy is very important 77 percent of exports and 20 percent of imports directly employs 1.8 million people (40 percent of manufacturing employment), of whom 80 percent are women contributes to incomes of about 10-15 million people Note: In terms of contribution to GDP, the direct contribution of the sector is relatively limited, at about 2.4 percent. 7
Bangladesh depends heavily on the exports of textiles and clothing Proportion of T&C Exports in Total Exports 90.0 80.0 70.0 60.0 Percent 50.0 40.0 30.0 20.0 10.0 0.0 Macao, China Bangladesh Cambodia Pakistan Mauritius Sri Lanka Tunisia Turkey Morocco2 India Romania China2 Hong Kong, SAR2 Portugal Egypt Bulgaria Jamaica Greece Indonesia Vietnam Croatia Italy Korea Taiwan 8 Peru
Analyzing Competitiveness 9
Facts about Bangladeshi T&C exports Four restricted markets: US, EU, Canada and Norway: Quota and tariff restrictions remain in the US Quota- and duty-free access in the EU under EBA Quota- and duty-free access in Canada Quota- and duty-free access in Norway for all LDCs. Considerable preferences in the restricted markets other than the US. 10
Bangladesh depends very much on restricted markets (95%) and restricted products Proportion of T&C Exports Subject to Quotas in US Market 100 90 80 70 60 Percent 50 40 30 20 10 0 Bangladesh Cambodia China Egypt Hong Kong India Indonesia Pakistan Philippines Sri Lanka Thailand Turkey 2001 2002 11
This means the stake is high Fewer benefits from higher prices in the unrestricted markets after 2004 Large gains in the restricted market if competitive, or Large losses if not competitive So is Bangladesh competitive? Because the T&C market is so distorted, past growth does not tell much 12
Bangladesh s quota utilization rates in the US are generally high and this suggests that quotas are binding 120.0 Bangladesh: Quota Utilization Rates on US Market 100.0 80.0 60.0 40.0 20.0 0.0 2001 2002 Knit Shirt & Blouses Shirts & Blouses, not Knit, W&G Underwear Shirts, not Knit, M&B Trousers, etc. 13
Bangladesh s quota utilization rates compare favorably with its main competitors 90 Bangladesh: US Quotas and Fill Rates, 2001-02 (in percent) 80 70 60 50 40 30 20 10 0 Bangladesh Cambodia China Egypt Hong Kong India Indonesia Pakistan Philippines Sri Lanka Thailand Turkey Number of quota categories Average quota fill rate 14
Implications of high quota utilization High quota utilization does not necessarily mean that Bangladesh is more restricted than its competitors Need to look at indicators of quota restrictiveness In a well-functioning market, quota prices measures the restrictiveness of quotas. 15
Estimated export tax equivalent for clothing 2002/03 (World Bank Estimates) (percent of f.o.b. prices net of quota rents) Bangladesh India Pakistan China USA 24 (7.6) 20 10 36 EU 0 20 9 54 16
Growth rates of Base US Quotas, 2004 (percent per year) Bangladesh China India Pakistan Indonesia Sri Lanka Thailand Vietnam Average 12.9 2.0 10.6 12.0 9.8 9.7 9.6 6.0 8.5 17
Impact of Quota Removal on Bangladesh P S S B S B P 0 E 0 P B P 1 B 0 B 1 E 1 D S O Q B1 Q B0 Q B2 Q 0 Q 1 Q 18
The similarity index I AB n = Min( S A, S B = i 1 i i ) 100 S i A = share of product i in country A s exports to a market S ib = share of product i in country B s exports to the same market n = number of products covered 19
Product similarity between Bangladesh and its competitors Competitor USA EU China 71.5 22.0 India 57.1 39.1 Pakistan 34.8 67.6 20
At the Product Level In the US market, for every Bangladesh product restricted by quota its Chinese counterpart is also restricted face higher quota prices and quota utilization; Nine out of top 10 exports coincide In the EU market, five quota categories cover 86 percent of Bangladeshi exports. These categories account for only 13 percent of Chinese exports and have very high quota prices. 21
Phase III Exports to the EU (percentage change Jan.-Sept. 2003 vs. Jan.-Sept. 2001) 120 80 Percent 40 0-40 -80 Indonesia Vietnam Thailand Bangladesh Sri Lanka Morocco India Tunisia Turkey Czech Rep Romania China 22
Phase III Exports to the US (percentage change Jan.-Sept. 2003 vs. Jan.-Sept. 2001) 250 200 150 Percent 100 50 0-50 -100 Thailand Sri Lanka Philippines Bangladesh Cambodia Indonesia Mexico Egypt Turkey India Pakistan China 23
Supply Constraints 24
Bangladesh s biggest comparative advantage, preferential access, is likely to disappear and low wages won t do the trick 6,000 Value Added and Wages per Employee 5,000 4,000 U.S. dollars 3,000 Value added Wages 2,000 1,000 - Bangladesh El Salvador India Indonesia Morocco Sri Lanka 25
Bangladesh has considerable structural weaknesses Unreliable and insufficient electricity supply Unreliable, expensive (especially for overseas communications) telecommunication network Very slow ports: Lead times in Bangladesh are typically 120-150 days compared to 90-120 days in India 26
Policy-induced weaknesses Restrictions to FDI in RMG sector ( virtually no FDI in the sector, except in EPZ. Requirement to have back-to-back LCs before imports are approved lengthening of lead times Governance: Bangladesh was ranked last in Transparency International s Corruption Perception Index (CPI) last during the past three years Other nuisances: Prevention of use of land ports for textile imports Requirement to use nationally registered shipping companies for 40 percent of exports 27
Estimating the Effects of Quota Removal 28
Model and Data Standard GTAP model Standard GTAP database V5 Own estimates on export tax equivalents for Bangladesh Database updated to 2007 to capture medium-term impact (using WEO projections) 29
Assumptions All quotas are removed (except in one scenario in which China continues to face restrictions) No other policy changes No dynamic or non-price effects Labor and capital are fully mobile across sectors 30
Modeling strategy Given the uncertainty over key parameters and market conditions, a range of model closures and assumptions are tested: Elasticity of substitution Labor market conditions Investment behavior Post-ATC restrictions on China 31
Simulation Results Fixed nominal wages (percentage deviation from the baseline) GDP Employment Trade balance (% of GDP) Total exports Clothing Central elasticity -2.3-4.5-1.2-14.2-17.7 32
Simulation Results Central elast. Lower elast. Higher elast. GDP -2.3-1.3-4.1 Employment -4.5-2.5-7.7 Trade balance in % of GDP -1.2-0.7-2.1 Total exports -14.2-6.8-29.5 Clothing -17.7-8.3-38.1 33
Simulation Results Fixed N. wages Constant real wages Constant employment GDP -2.3-1.3-0.3 Employment -4.5-2.1 0.0 Trade balance in % of GDP -1.2-0.4 0.3 Total exports -14.2-8.4-3.0 Clothing -17.7-11.8-6.2 34
Simulation Results Central elast. Lower investment China restricted GDP -2.3-3.7-1.7 Employment -4.5-7.6-3.2 Trade balance in % of GDP -1.2-0.3-0.9 Total exports -14.2-10.2-10.1 Clothing -17.7-13.6-12.7 35
36 Simulation Results -12.7-13.6-6.2-11.8-38.1-8.3-17.7 Clothing -10.1-10.2-3.0-8.4-29.5-6.8-14.2 Total exports -0.9-0.3 0.3-0.4-2.1-0.7-1.2 In % of GDP Trade balance -3.2-7.6 0.0-2.1-7.7-2.5-4.5 Employment -1.7-3.7-0.3-1.3-4.1-1.3-2.3 GDP (7) (4) (3) (2) (6) (5) (1) China restr d Lower invest. Const. empl. Const. real wages Higher elast. Lower elast. Central elast.
Conclusions Bangladesh is vulnerable to quota removal given its: high dependence on RMG exports high dependence on restricted markets low labor productivity structural rigidities and policy weaknesses Based on what has happened in Phase III quota integration and modeling results the outlook post 2004 is one of considerable risks 37
What to do? A new IMF policy Trade Integration Mechanism (TIM) 38
Don t throw away the baby with the bath water... 39
Policy recommendations Abolish back-to-back letter of credit requirement Enhance trade facilitation Lift ban on FDI outside the EPZ Eliminate or reduce tariffs on yarn and fabrics Abolish the cash incentive program 40