Why we lag in exports

One of Pakistan’s most pressing economic issues is the chronic shortage of foreign exchange underscored by an import-based-consumption-driven economy with an abysmal industrial base that cannot compete on the international stage and is shrinking with every passing day.

Exports are the need of the hour; while everyone including the government and SIFC (special investment facilitation council) are cognizant of this fact, unfortunately the policy measures that have been doled out, especially in the energy domain, reflect an opposite reality.

According to a recent report, the Bangladesh Commerce Ministry, in its draft Export Policy 2024-27, has proposed a 5 to 10 percent rebate on electricity bills for major export-oriented industries. In Pakistan, the government has abolished the preferential gas tariff for export-oriented sectors and hiked gas prices yet again—an increase of 223% since January 2023.

As a consequence, the end-use price of gas-based captive generation has skyrocketed. At the same time, grid electricity tariffs are at around 17.5 cents/kWh—over twice that faced by competing firms in regional economies like Bangladesh, India and Vietnam.

Is it any wonder then that Bangladesh exported around $47 billion worth of just textile and garments in FY23, while Pakistan’s total exports across all sectors of the economy stood at a meagre$28 billion during the same period? While Bangladesh and Vietnam have made significant gains in the global market for textile and apparel over the past decade, Pakistan’s share remains marginal (figure 1).

What is important to understand for our policymakers is that neither the economy nor the industrial sectors operate in a vacuum. Whether or not we can export a product depends on our cost of production relative to that of firms in other countries. If the government continues to push its inefficiencies and social obligations on to the private sector in the form of prohibitive taxes, cross subsidies, inflation, exchange rate depreciation and high interest rates, it translates into higher cost of production that render our products uncompetitive in international markets.

And this is the reality that the textile and apparel sector—Pakistan’s single largest and perhaps most important manufacturing sector—has been facing every day for well over a year now.

After growing by 54% in only two years and peaking around $19.3 billion in FY22, textile and apparel exports slumped to $16.5 billion in FY23 owing to the withdrawal of regionally competitive energy tariffs amid a larger macroeconomic crisis.

From a peak of $1.74 billion in April 2022, monthly exports declined to a low of $1.18 billion in February 2023 and have now become stagnant at around $1.4 billion/month—$600 million below the installed production capacity of approximately $2 billion/month (figure 2, above).

Following the most recent hike in energy prices, there is no financially viable source of energy available for industrial sectors to manufacture with and compete in international markets. Domestic production of yarn and cloth is at a 20-year (figure 3) low while a drastic increase has been observed in imports of the same (figure 4).

It is therefore safe to assume that the economy is going through premature deindustrialization and over the coming months we will observe a further decline in textile and apparel exports as most spinners and weavers are closing their doors and more and more yarn and cloth are being imported for export manufacturing, resulting in a decline in the share of domestic value-added in exports and deterioration in net exports or trade balance.

At the same time, the economy’s gross external financing requirements stand well over $25 billion per year for the next 5 years and plans for meeting these requirements are limited to squeezing more and more credit out of increasingly unwilling creditors.

To catalyze a resurgence in Pakistan’s textile and apparel sector, a multi-faceted approach targeting key barriers to export growth is imperative. This includes addressing the prohibitively high energy tariffs, persistent delays in tax refunds, high costs and shortage of financing, low product diversification, restrictive import and anti-dumping duties on raw materials, and attracting investment to upgrade and expand the limited manufacturing capacity. Addressing these challenges holistically can not only revive the sector but also position Pakistan as a competitive player on the global stage.

As discussed above, there is currently no financially viable source of energy available to industrial sectors. The cross subsidy from industrial power tariffs must be removed and they must be brought down to a regionally competitive 9 cents/kWh.

Moreover, considering that Pakistan must begin an immediate transition towards net-zero emissions in export production to maintain competitiveness under the EU’s Carbon Border Adjustment Mechanism and similar regulations in other key markets, the CTBCM must be operationalized to allow B2B power contracts with a wheeling charge of 1-1.5 cents/kWh and the cap on solar net-metering for industrial consumers must be increased from 1MW up to 5MW.

Equally vital is the expansion of the export basket beyond cotton-based products to include man-made fibers (MMF), leveraging global market trends and demand. This requires a reassessment of import and anti-dumping duties imposed on MMF raw materials like purified terephthalic acid and polyester staple fiber that afford high levels of protection to domestic manufacturers who use it to extract rents from the domestic market and hinder the development of an MMF-based apparel manufacturing culture in the country.

The limited manufacturing capacity must also be upgraded and expanded. Doing so requires attracting investment by, at the very least, matching the incentives being offered in the region. To name a few, Bangladesh is offering preferential income tax rates, duty free import of raw material, reduced withholding tax rates, and long-term financing facilities with preferential rates for exporters, while India is setting up seven mega industrial zones for textile and apparel manufacturing with developed factory sites, plug and play facilities and rebates of up to 3% of annual turnover, whereas Vietnam is offering preferential corporate tax rates, duty exemptions and various rebated modes of financing.

By prioritizing competitive industrial and energy policies and fostering an environment conducive to export-led growth, the country can navigate its current predicament and emerge stronger. However, if the status quo is maintained, a point of no return is not very far off in the future.

The consequences will be disastrous not just for the economy but also for Pakistan’s already weak social fabric as a large and young population that otherwise provides a demographic dividend at this stage of development will be further disenfranchised with no opportunities for gainful employment and no hope for a better future.

Copyright Business Recorder, 2024