Report No. 29949 Trade Policies in South Asia: An Overview (In Three Volumes) Volume III: Some Key Sectors September 7, 2004 Poverty Reduction and Economic Management Sector Unit South Asia Region Document of the World Bank Trade Policies in South Asia : Some Key Sectors POY Polyester Partially OrientedYams T & C Textile and Clothing PSU Public Sector Units TBT Technical Barriers to Trade PTFY Polyester Texturized Filament Yarn TCB Trading Corporation of Bangladesh QR Quantitative Restrictions TPR Trade Policy Review REER Real Effective Exchange Rate TRIMS Trade RelatedInvestment Measures RMG Ready Made Garments TRQ Tariff Rate Quotas ROO Rules-of-Origin TUFS Technological Upgradation Fund ROW Rest o f the World TV Tariff Values SAARC South Asian Association for Regional UR Uruguay Round Sadd Special Additional Duty VAT Value Added Tax SAFTA South Asian Free Trade Area WTO World Trade Organization SAIL Steel Authority o f India Vice President: Praful C. Patel, SARVP Regional Director: Alastair J. McKechnie, SAC01 Sector Director: Sadiq Ahmed, SASPR Sector Manager: Ijaz Nabi and Kapil Kapoor, SASPR Task Manager: Zaidi Sattar, SASPR and Gamy Purse11(Consultant, SASPR) TRADE POLICIESINSOUTHASIA: AN OVERVIEW TABLE OF CONTENTS CHAPTER 1: AGRICULTURE. LIVESTOCKAND FISHERIES................................................. 1 Introduction ......................................................................................................................... 1 Trade Policies inAgriculture upto 1997 ..................................................................................... 1 General trade liberalization. 1978-97 .......................................................................................... 3 The Uruguay Round and the Agreement on Agriculture ............................................................... 4 The situation in 1997 ........................................................................................................................... 4 What has happened since 1997?.......................................................................................................... 5 The external environment .................................................................................................................... 5 Importpolicies..................................................................................................................................... 6 Exportpolicies..................................................................................................................................... 7 India..................................................................................................................................................... 9 Bangladesh......................................................................................................................................... Pakistan.............................................................................................................................................. 12 16 CHAPTER 2: FERTILIZER POLICIESINSOUTH ASIA .......................................................... 29 Overview ........................................................................................................................... 29 Palustan .................................................................................................................................. 32 Nepal.................................................................................................................................................. 33 34 Bangladesh ............................................................................................................................. Sri Lanka ................................................................................................................................ 35 India................................................................................................................................................... 36 CHAPTER 3: TEXTILES. GARMENTS AND THE MFA PHASEOUT....................................... 41 The Setting ......................................................................................................................... 41 Global Trends inTrade and Production..................................................................................... 41 Preferential Trade inTextiles and Clothing....................................................................................... 45 MFAPhase Out................................................................................................................................. 49 The T&C Industryin SouthAsia .............................................................................................. 48 Supply Side Policy Issues andPolicy Changes in South Asia .......................................................... 52 India................................................................................................................................................... 52 Pakistan.............................................................................................................................................. 55 Bangladesh......................................................................................................................................... 56 Sri Lanka............................................................................................................................................ 58 Nepal.................................................................................................................................................. 59 Backward Linkages, Commodity Chains and Lead Times................................................................ 59 Some Conclusions ............................................................................................................................. 62 South Asian Domestic Market ProtectionPolicies.,.......................................................................... 62 Conclusions and Recommendations .................................................................................................. 65 Trade Policies in South Asia : Some Key Sectors APPEM)IX ..................................................................................................................................... 69 Bangladesh: A note on the protective effects o f VAT exemptions or reduction for domestic producers and distributors ..................................................................................... 69 LIST OF FIGURES 1 AGRICULTURE. LIVESTOCKAND FISHERIES . 1.1 U S Wheat Export Prices 1965.2002 ...................................................................................................... 24 1.2 India Domestic Prices and World Reference Prices for Wheat .................................................................. 25 1.3 PakistanWheat Prices 1965-2002....... 1.4 World Cotton Prices 1980181-2000101 1.5 Some Edible Oil Tariffs in South Asia 2 FERTILIZERPOLICIESINSOUTH ASIA . 2.1 India: Urea: Average US Dollar Import Price and Average ............................................. 39 11.2 IndianUrea Prices 1982-99........................................................................................................ 40 APPENDIX A.1 CottonFabric Tariffs inSouth Asia. China. US and EU ................................................. 84 A.2 Cotton Yam Tariffs in South Asia. China. U S and EU........................................................ 85 A.3 Polyester (POY) Y a m Tariffs in South Asia. China. US and EU.............................................. 86 A.4 Polyester Fabric Tariffs in South Asia. China. U S and EU .................................................. 87 A.5 India: Acrylic Fibre. July 2002 .................................................................................................. 88 LIST OF TABLES .1.1 Agricultural. Livestock and Processed FoodTariffs andNTBsin SouthAsia ............................ 19 1.2 World Prices o f Some Major Foodgrains 1995-2002........................................................................... 22 1.4 Sri Lanka: Export Prices for Three Major Agricultural Exports ..................................................... 1.3 World Prices o f Some Edible Oils and Copra 1996-2001.................................................................... 23 23 1.5 Bangladesh: Average and MaximumCustoms Duties since 1992/93 .................................................. 23 1.6 Bangladesh: Agricultural, Livestock and Fisheries Products subject to Export QRs........................... 24 1.7 Tariffs and QRs on Some Principle Tradable Inputs for Agricultural.................................................. 27 A.1 World Trade inTextiles and Clothing................................................................................................. 71 A.2 World T&C Imports ............................................................................................................................ 71 A.3 Importance o f T&C Exports inRegional Countries ............................................................................ 72 A.4 Regional T&C Export Composition.................................................................................................... 72 A.5 Regional T&C Import Composition.................................................................................................... 72 A.6 Comparative Quota Utilization in Selected T&C Categories.............................................................. 73 A.7 Principal Export Destination for Apparels .......................................................................................... 73 A.8 Some Cotton and Cotton Textile Tariffs inSouth Asia....................................................................... 74 A.9 Some Polyester and Polyester Textile Tariffs in South Asia............................................................... 75 A.10 Some Acrylic and Acrylic Textile Tariffs in South Asia................................................................... 76 A.11 Garment Tariffs inSouth Asia........................................................................................................... 77 Table o f Contents A.12 India: Acrylic Textiles ....................................................................................................................... 78 A.13 India: Representative Cotton and CottonTextile Tariffs................................................................... 80 A.14 India: Representative Polyester Textile Tariffs ................................................................................. A.15 India: Number o fTariff Bindingson Textiles and Garments............................................................ 80 81 A.16 EstimatedAd Valorem Equivalents ofIndianSpecific Tariffs on Garments.................................... 82 A.17 India: Number o f Specific Tariffs on Textiles and Garments............................................................ 83 A.18 Bangladesh: Tariffs and Protective Import Taxes onTextiles .......................................................... 88 A.19 Bangladesh: Polyester Textile Tariffs 2002-03 ................................................................................. 90 Chapter 1: Agriculture, Livestock and Fisheries Introduction Agriculture, livestock, fisheries and related rural activities` between them still account for by the far the largest part o f the workforces o f the South Asian countries and major shares o f GDP even though those shares have been declining with economic growth. In 2000, agriculture, livestock and fisheries together accounted for 25 percent o f the South Asian countries' combined GDP, and employed over 300 million people, equivalent to about 60 percent o f their combined workforce. The share o f agriculture in the economies o f the South Asian countries i s inversely but not perfectly correlated with per capita income. In2000, it accounted for 40.3 percent o f GDP inNepal and about 75 percent o f employment (per capita GDP $US 239) versus 19.5 percent o f GDP and 36 percent o f employment in Sri Lanka (per capita GDP $US $840), for example, but about the same share o f GDP in Bangladesh (24.6%) as in India (24.9%) and Pakistan (26.3%) even though Bangladesh's per capita GDP was about 20% lower than per capita GDP inIndia and Pakistan. As with everything else in South Asia, it is important to keep in mindthat India has by far the largest agricultural economy. In 2000 India accounted for 77.2 percent o f South Asian agricultural, livestock and fisheries GDP. The shares o f Palustan, Bangladesh, Sri Lanka and Nepal, were only 11.O, 7.9,2.2, and 1.5 percent respectively. Sri Lanka's andNepal's agricultural economies are smaller than the agricultural economies o f most of the Indian states; Maldives' and Bhutan's are smaller than the corresponding economies o f relatively small areas within states and provinces o f the other countries. The nature and evolution o f the trade and trade-related policies that affect these countries' agricultural sectors have been fairly thoroughly documented and analyzed up to about 1997, but less i s known about what has happened since. This chapter deals first with the pre-1997 period and then gives an account of the principal developments since 1997. Trade Policies and Agriculture up to 1997 The pre-reform period: trade controls with anti-agriculture discrimination. The interventionist and highly protectionist policies followed f o r many years in the S outh A sian c ountries were also applied to their agricultural, livestock and fisheries sectors, but the way these policies were applied discriminated heavily against these sectors for many well documented reasons, including the extent o f manufacturing protection, the resulting exchange rate overvaluation, and direct controls and/or taxation o f agricultural exports.2 Despite this discrimination green revolution technologies were introduced and spread rapidly with the support o f large scale public and private investment in irrigation. As a result, during the 1970s and 1980s domestic grain prices fell very substantially in real terms, and with the notable exception o f Sri Lanka, the subcontinent became a low-cost grain producer by world standards. For example, the real price o f wheat in India declined by more than half between 1965 and ~~ In this chapter the term "agriculture" is sometimes used broadly to refer to all these activities i.e. agriculture, livestock and fisheries. When this broad use i s intended rather than the narrower meaning of agriculture as crop farming, should be clear from the context. The chapter also discusses food processing, inpart because processed foods are covered by the WTO Agreement on Agriculture. Food processing includes agro-industries s uch as rice milling, s ugar c ane milling, and c otton ginning which are closely integrated with farming and needed for the farm products to be internationally tradable, but also processing industries which are parts o f the urbanmanufacturing sectors and which may have little direct connection with domestic farming activities insome cases. * Some o f the evidence on anti-agricultural discrimination during this period i s summarized in Blarel, Purse11and Valdes (1999), Chapter 3. Trade Policies in South Asia : Some Key Sectors 1991 (Fig 1.2). There were similar long term declines in the real prices o f rice and other food grains in Palustan, Bangladesh and Nepal duringthe same period. Despite differences between countries, these policies had some broad common effects on the agricultural and livestock sectors o f the South Asian countries. 0 Exchange rate overvaluation hurt both established and potential primary export industries. Export controls, export taxes, and parastatal export monopolies worsened these effects. One very large potential export product was common rice in India, where for more than 30 years the domestic price was suppressed by an export ban. Except for some (but not all) exportables and a few importables, markets for most agricultural and livestock products were 1argely insulated from world markets, and there were few direct linkages between world prices and domestic prices. The extent o f this insulation was most marked inIndia and varied from product to product. 0 Depending on the degree o f insulation, implicit nominal protection for most primary commodities (i.e. measured differences between actual domestic prices and world prices) had little or no relation to import tariff rates. Domestic prices were determined by internal supply and demand, support price policies, export policies, and input and other subsidies. Measured nominal protection mainly varied with the ups and downs o f world commodity prices and the individual countries' exchange rates. In India, Pakistan, Bangladesh, and Nepal, during this period the implicit protection rates o f the principal food grains were generally low or negative, except in a few years when world prices were exceptionally low (e.g. during 1985-88). 0 There were some heavily protected import-substitution primary industries (e.g. oilseeds and edible oils in India, Palustan, and Bangladesh, rubber in India, sugar in India and Pakistan, milk and dairy products in India), but because o f the overwhelming importance o f foodgrain production, empirical studies inthese countries all found that the weighted average implicit nominal protectionrates o f their agricultural and livestock sectors (taken as a whole) were negative. 0 In various ways Sri Lanka was different from the other South Asian countries. As discussed in Chapters 1 and 2 in Volume I,general trade liberalization started much earlier, in 1978, than in the other South Asian countries. During its pre-liberalization period, its principal food grain, rice, was heavily protected, but the overall impact o f this was outweighed by export controls and taxes applied to its major plantation export crops, coconutlcopra, rubber and tea, and the exchange rate overvaluation associated with very high protection o f import substitution manufacturing. Consequently, during this period, Sri Lanka's trade regime also discriminated heavily against agriculture as a whole. Followingi t s initial trade 1iberalization in the late 1970s and early 1980s, indirect disprotection o f agriculture through manufacturing protection policies and exchange rate overvaluation continued but was greatly diminished. Export controls and taxes continued to be applied to plantation crop exports, however, in contrast to continuing high protection o f import substitution rice production, which was extended to include some other major food crops (potatoes, onions and chillies). 0 Farming and rural production in South Asia was generally left to the private sector, but there was extensive government participation in, and regulation o f importing, exporting, trading, and storage. This government presence included parastatal organizations such as the FCI inIndia, PASSCO in Pakistan, TCB inBangladesh, the CWE in Sri Lanka, and many others, as well as regulatory controls over prices and practices in the private sector, o f which the most comprehensive and draconian i s 2 Agriculture, Livestock and Fisheries probably the Indian Essential Commodities Act. Government participation and intervention was also pervasive as regards the major agricultural inputs, both internationally tradeable inputs such as fertilizers and seeds and non-tradeable inputs such as irrigation water, electricity, and credit. The intention and effect o f these interventions was to replace or at least drastically control and limit the role o f the private sector, which advocates o f these policies considered to be inherently opportunistic and exploitative. The interventions were used to implement a variety o f direct subsidies (e.g. subsidized retail prices o f food grains and edible oils) and cross subsidies (e.g. pan-territorial and pan- seasonal farm support and fertilizer prices), which drastically reduced the incentive for the private sector to undertake its normal storage, arbitrage and risk-bearing functions inthese markets. InIndia, this effect was reinforced by direct controls to combat "hoarding" over private inventories of "essential commodities" (which included nearly all agricultural commodities) and therefore over the buying and selling policies of private traders. Controls over international trade of both outputs and key inputs were considered an integral part o f this general control system and essential for the viability o f the domestic controls. They took a variety o f forms, including government department and parastatal export and import monopolies, import and export licensing, and prohibitively high tariffs with periodic partial or complete exemptions when it was decided that imports were required. General trade liberalization, 1977-97. The general trade reforms o f the South Asian countries, the first o fwhich were Sri Lanka's reformsin 1977 and after, hadthe potential to substantially change the level and structure o f incentives for these countries' primary industries, but up to about 1997, the impact, while varying considerably between countries, had been limited overall. Because the agricultural industries are complicated, politically highly sensitive, and involved many regional and bureaucratic interests, the general trade policy reforms focused mainly on manufacturing, and reforms directly affecting agriculture were uneven and limited in scope. This was especially true in India3, but there was more and earlier action insome respects inthe other South Asian countries: Sri Lanka removed its export controls and taxes, Pakistan removed various interventions and subsidies affecting agricultural inputs and Bangladesh began to seriously cut back on the government's role in agricultural commodity markets in the mid-1980s. In India, import substitution food processing industries were also largely left out o f the trade policy reforms as a result o f the consumer goods import ban. The same omission occurred there and inthe other SouthAsian countries for some major traditional agro-industries which are closely integrated with domestic agriculture, such as oilseed processing, sugar milling and refining, and flour milling. On the other hand, trade liberalization was accompaniedby industrial deregulation, more liberal rules on FDI, and increased emphasis on export promotion, all o f which led to new private investments, both domestic and foreign, in export-oriented food processing inparticular. Except in India, there was also some impact on some food processing industries which began to face actual or potential competition from imports that hadpreviously been strictly limited or excluded altogether. For the South Asian countries' agricultural, livestock and fisheries sectors, the principal effects o f the general trade reforms came not so much directly from the trade reforms themselves as from the manufacturing trade liberalizations and the large real currency devaluations which preceded and accompanied them. For example, the Indian real effective exchange rate declined by about 130 percent between 1985 and 1992. These exchange-rate devaluations principally helped export commodities and also a few low-cost import substitution primary industries (e.g. pulses in India, Pakistan, and Bangladesh) which were not insulated from world markets by prohibitively highprotection. However, there was little or no direct pass-through o f the devaluations to the domestic prices o f products with redundant protection resulting from QRs, state trading monopolies or prohibitive tariff^.^ Consequently, the overall reduction Trade policy reforms which would have directly affected Indianagriculture e.g. "decanalization" (i.e. the removal o f parastatal import and export monopolies from major commodities) were included in the trade policy reforms that were supported by the World Bank's 1992 structural adjustment loan, but these parts o f the agreed reforms were never implemented. This disconnect between border and domestic prices i s apparent from the behavior o f domestic wheat prices in relation to wheat reference prices in India during 1988-92 (Fig 1.1). During this period domestic prices continued to decline even though 3 Trade Policies in South Asia : Some Key Sectors o f anti-agricultural bias that would be expected to show up inthe domestic terms-of-trade for apculture following trade liberalizationwas generally slow to appear and modest in extent. The Uruguay Round and the Agreement on Agriculture. Nepal and Bhutan were not WTO members at the time o f the Uruguay Roundnegotiations, but the other South Asian countries participated and as part o f their WTO membership signed on to the Agreement on Agriculture (AoA). For a number o f reasons, however, signing the A o A also had little or no immediate impact on their agricultural trade policies. First, except for Sri Lanka, which bound its agricultural tariffs at 50 percent, and some Indian tariff lines, India, Pakistan and Bangladesh bound nearly all their agricultural tariffs at very high to prohibitive levels ( 100, 150, and 300 percent). As intended, this has given these countries practically unlimited discretion to increase appliedtariffs up to levels which inmany cases amount to defacto import bans. Secondly, partly because o f A o A concessions to developing countries, but mainly because o f their low domestic support prices for major foodgrains mentioned above (in particular rice and wheat) they easily passed the AMs (Aggregate Measure o f Support) test and were under no obligation to reduce support prices or agricultural input or other subsidies. Thirdly, the WTO recognition o f the legitimacy o f state trading enterprises (STEs) -- government operated or mandated import or export monopolies-- meant that these organizations could continue to control trade in agricultural commodities. Fourth, India continued its long established general import licensing o f consumer goods which it justified under the GATT balance-of-payments clause (Article XVIII (b)). Consumer goods were defined to include all agricultural and most livestock and fisheries products, and for most o f them import licensing was in practice an import ban. Finally, as members of the WTO and signatories o f the A o A in 1995, the South Asian countries inprinciple had signed on to "tariffs only" protection o f their agricultural sectors, except for recognized GATT-legal import controls, o f which the most important are controls justified under the balance o f payments clause, health and safety and technical standards (regulated by the SPS and TBT agreements) and controls based on religious and similar social considerations. However, it i s probable that a major motivation for the ways in which some o f these controls were implemented was protection o f particular primary and food processing industries, in addition to which some prima facie GATT-illegal QRswere employed. InIndia, Pakistan and Bangladesh apcultural and livestockproducts were includedinthe general trade liberalization programs o f the late 1980s and early 1990s. Many QRs were removed in Bangladesh and Palustan, and agricultural applied tariffs were substantially reduced in all three countries, but the exchange rate devaluations which accompanied the reforms partly offset and sometimes more than offset the tariff cuts. Ingeneral, the governments o f Palustan and Bangladesh made sure that the tariff cuts were not so large as to lead to substantial increases inimport competition for domestic primary industries, and inIndia agriculturalandlivestock imports were mostly bannedaltogether, andifnot, they were controlled by the general import licensing systemand/or bythe parastatal import monopolies. Although not much changed on the import side, the exchange rate devaluations between the mid- 1980's and the mid-1990s inIndia, Palustan and Bangladesh didmake a big difference on the export side. Traditional agricultural and other primary industry exports became more profitable than they otherwise would have been, and the devaluations supported the development o f new export industries such as shrimp farming and the export of processed fruits and vegetables. The real devaluation o f the Rupee in India between 1985 and 1992 also supported the expansion o f common rice exports once export controls were 1ifted in 1995/96 and even helped make wheat exports profitable during a period o f highworld prices in 1996 and 1997. there was a huge increase in reference prices propelled by a sharp recovery in world prices combined with the continuing large (real) devaluation of the Rupee. 4 Agriculture, Livestock and Fisheries The situationin 1997 For the reasons given above, around 1997, despite their earlier trade- reform programs and their participation in the Uruguay Round, with some exceptions the domestic agricultural, livestock, fisheries and processed food markets o f India, Pakistan and Bangladesh remained about as closed to imports as they had been in the mid-1980s and earlier. The exceptions were products for which imports had been open even during the restrictive import-substitution period (e.g. pulses) and others for which influential industrial lobbies had been able to negotiate for unrestricted, low-tariff imports o f important inputs (e.g. cotton and wool). Edible oils remained a major primary import for all these countries despite continuing efforts to replace them with domestic production, but they were subject to erratic protectionpolicies including the use o f QRs and specific duties. The situation in Sri Lanka around 1997 was very different. As already noted, it reflected the fact that its initial trade reforms and the accompanying devaluation came earlier, in the late 1970s and early 1980s. By 1997 most QRs had been abolished and tariffs were generally low to moderate, including tariffs protecting domestic primary and food processing industries. Hence many o f these industries were subject t o import competition. There were some important exceptions, however, and both formal and realizedprotection o f four major domestically produced agriculturalproducts -- rice, potatoes, onions, and chillies --was very high.At the same time, during the second half o f the 1980s and during the 1990s, Sri Lanka's exchange rate was supported by the rapid growth o f its garment export industries and its tourism sector, andprovided no stimulusto its primary export industries. By contrast with India, Pakistan, Bangladeshand Sri Lanka, in 1997 (and for many previous years) the agricultural and livestock sectors o f Nepal and Bhutan were quite open to imports, with no QRs and generally low, uniform MFNtariffs plus tariff preferences for India inNepal and duty-free treatment for imports from India in Bhutan. Both countries also had (and still have) duty free access for their agricultural exports to India. Because o f the difficulty and expense o f bringinginbulky low-value imports from non-South Asian counties overland through India, more than i s the case with manufacturing industries, the extent to which their agricultural and livestock sectors are protected or disprotected with respect to the rest o f the world principally depends on the extent to which the equivalent industries in India are protected or disprotected. This connection i s reinforced by their fixed nominal exchange rates with India and the large informal border trade in primary products. However in both countries there appear to be pockets o f highprotection in some import substitution food processing industries, principally industries relying on imports o f inputsover zero or low tariffs. What hashappenedsince 1997? Upto about 1997 the level and structure of agricultural incentives and the trade and trade-related policies o f the South Asian countries are fairly well documented and researched, but there i s less information and analysis o f what has happened since then. Developments in import policies, traded policies for agricultural inputs, export policies and trade-related domestic policies and institutions are summarized briefly below. Before doing so, three major aspects o f the external environment which are important for understanding what has happened to these policies should be noted. The external environment. First, as discussed inVolume I, 2, India fought a rearguard Chapter action at the WTO to delay having to remove its across-the-board import licensing system which it justified under the GATT balance-of-payments article XVIII(b). M o s t o f the products covered by this system were consumer goods, which were defined to include nearly all agricultural, livestock and fisheries products, and for most o f these products "licensing" was a de facto import ban. After losing its effort to extend the phaseout o f the system to 2005, India abolished the list o f products subject to these restrictions in April 2001. Not surprisingly, there have been strong pressures to reinforce other existing means o fprotection and to findnew ones. The principal methods have been: 5 Trade Policies inSouth Asia : Some Key Sectors 0 The continued use o f parastatal import monopolies, previously known as "canalizing agencies" and now renamed "State Trading Enterprises" (STEs) for compatibility with the GATT 0 The use o f health and safety rules and technical regulations 0 Tariff increases A second important aspect o f the external environment since 1987 is that world prices o f some major commodities have declined substantially. During the mid-1990s, world markets for a number o f commodities which are important in South Asia were quite strong, including food grains, edible oils and oilseeds, cotton, and rubber. Since then prices have been much lower, however (Tables 1.2, 1.3, 1.4 and FigI.5) e.g. world wheat and rice prices (in nominal US dollars) went down by about a third and 20 percent respectively, palm oil and coconut oil by more than 50 percent, cotton by about a third, rubber by about 50 percent. Third, except in Palustan, real effective exchange rates remained about the same between 1997 and mid 2004 (Fig 1.1). As a result, these world price declines were more or less fully reflected in real domestic-currency border prices. This performance contrasts with a similar slump in world commodity prices between 1985 and 1988, when some o f the decline was absorbed by substantial real devaluation. InIndia and Pakistan the real effective exchange rate went down by about 28 percent, inBangladeshby about 18 percent, in Sri Lanka by about 17 percent, and inNepal by about 15 percent. Between 1997 and 2001 Pakistan's real exchange rate was devalued by approximately 15 percent, but this decline only partly offset the slump in world prices o f food grains, edible oils, and cotton, all o f which are very important in Palustan. I m p o r t policies. Not surprisingly, the declines inthe world prices o f key commodities have been important elements behind strong pressures emerging in South Asia since 1997 for increased agricultural protection and subsidies. These pressures were accentuatedin India as a result o f the phaseout o f its import licensing system. India, Bangladesh, and Sri Lanka have been very responsive to these pressures, but for the most part Pakistan has resisted them, continuing with a radical (by South Asian standards) liberalization o f its trade and trade-related policies in agriculture. There have also been some recent tariff increases inNepal. Table 1.1 shows current or recent (MFN, non-preferential) tariffs and non-tariff barriers for the principal agricultural products, livestock products and processed-food products produced and consumed in South Asia. With a few exceptions these products are covered by the Agreement on Agriculture; for the South Asian WTO members, they are therefore subject to basic A o A rules, in particular the requirement to bind all tariffs, the prohibition on the use o f QRs, and the rules on domestic support and export s ubsidies. The t ariff rates reported inthe t able include the e stimated total protective effects o f Customs duties and the para-tariffs discussed in Volume I,Chapter 3. . The table also notes the use o f specific tariffs (denoted by an S) and non-tariff barriers, including STEs (State Trading Enterprises-i.e. govemment mandated import monopolies), QRs (import licensing or quotas), TRQs (tariff rate quotas), and tariff values (TVs i.e. the use o f specified values instead o f cif prices to calculate tariffs). Non-tariff import controls based on religious and social considerations (e.g. beef in India and pork in Palustan and Bangladesh), and controlsjustified on grounds o f health, safety, and the regulation o f technical standards have not been noted except ina few cases (denoted NT) where information i s available that suggests that the principal motive and effect has beento protect the domestic industry.However, as discussed later, it i s possible that a close look at these controls would find similar predominant protective motives and effects insome andperhapsmany cases. Fishand crustaceans, naturalrubber, logs and timber and vegetable fibers are not subject to the AoA. 6 Agriculture, Livestock and Fisheries Some features o f current protection policies for the livestock, agriculture, fisheries and food processing sectors o f the South Asian countries which are apparent from the applied tariffs and non-tariff measures listed inTable I. 1, are worth noting: Interms of these formal instruments, India's and Bangladesh's policies appear to be the most protective, followed by the policies o f Sri Lanka. By contrast, in Pakistan, Nepal, and Bhutan, with a few exceptions (notably edible oils in Palustan), these sectors appear to be fairly open to import competition. Non-tariffmeasures are being freely usedinIndia which appear t o b e f ormally W TO-legal (e.g. STEs, TRQs with out-of-quota tariffs below tariff bindings, and the use o f health, safety and technical standards). There are many highto prohibitively high"tariff peaks" in India and Bangladesh, and some on major commodities in Sri Lanka, which greatly exceed the general maximum tariff. Because o f the generally very high tariff bindings in India and Bangladesh, there i s ample scope for these countries to make large tariff increases in applied tariffs for most commodities without breaching WTO obligations, and they have been doing so freely. Many big tariff increases have been made during the past two years, partly in response to the decline in world prices mentioned previously, and in India following the final phaseout o f its BOP-justified QRs inApril 2001. Pakistan also has very hightariff bindingsbutexcept for edible oils has not usedthe discretion this gives itto increase individualtariffs on livestock, agricultural and processed-food products above its highest general tariff slab. There are some strilung differences inthe restrictiveness o f import policies (i.e. the level o f tariffs and the existence ofnon-tariffmeasures) which apply to some major commodities. Inparticular: > Rice: very restrictive in India and Sri Lanka, moderate or l o w restrictiveness in the other > countries; Wheat and coarse grains (maize, sorghum etc): very restrictive in India, moderate or low > restrictiveness elsewhere (except wheat inSri Lanka) Dairy products (powdered milk imports especially): very restrictive in India and Bangladesh, moderate or low restrictiveness inthe other countries; P Pulses: moderate t o high restrictiveness in India and Sri Lanka, low restrictiveness in the other countries; P Edible oils: very restrictive in India, Pakistan and Bangladesh, moderate to high restrictiveness in Sri Lanka and Bhutan, low restrictiveness inNepal; P Sugar: very restrictive inIndia and Bangladesh, moderate inPalustan, highrestrictiveness in Nepal, very low restrictiveness in Sri Lanka. Export policies Inrecent years the South Asian countries have beenpaying increasing attention to the health and quality standards o f agricultural and processed exports in order to meet the SPS standards o f importing countries. Generally speaking, however, they are no longer explicitly taxing or usinglicensing or export bans or quotas as inthe past deliberately to restrict their agricultural exports and depress domestic prices. The removal o f cotton export QRs inIndia and Pakistan i s especially significant, as for many years both countries had used QRs to push domestic cotton prices below world prices, thereby taxing farmers and subsidizing the domestic textile industry. Compulsory parastatal export monopolies have also been abolished, including in India, where had previously used them to prevent or restrict exports o f some major commodities, notably common rice. However, there are some exceptions, inparticular inIndia where export conditions for a number of key commodities including common rice, wheat, coarse grains, wheat and coarse grain flours, sugar, bulk powdered milk, and butter are formally "free", but where export contracts have to be registered with APEDA, and the Ministry o f Commerce 7 Trade Policies in SouthAsia : Some Key Sectors (DGFT)can announce quantitative ceilings "from time to time". Explicitexport licensing also applies to a number o f products, including pulses inbulk, onions, paddy, and groundnut oil. Even if no quantitative ceilings are actually announced, keeping the right to invoke them in place i s presumably a deterrent for the private sector to invest in developing export markets, and depending on how the system i s operated, may not be much o f an improvement in this regard over explicit export licensing, In Bangladesh the export o f 18 agricultural products i s either banned or subject to licensing (Table 1.6). Palustan bans the export o f bulk edible oils and subsidizes the leather processing industrythrough export taxes on hides and skins and partially processed leather. In Sri Lanka, Nepal, and Bhutan, apart from SPS controls, as far as i s known there are no export taxes or restrictions applied to agricultural exports. Under the GATT, export taxes are permissible, but, like quantitative import controls, export restrictions directly breach GATT Article XI, according to which WTO members agree to eliminate export as well as import restrictions and prohibitions. The only plausible escape from this general prohibition i s a clause which states that export restrictions and prohibitions can be "temporarily applied to relieve critical shortages o f foodstuffs or other products essential to the exporting contracting party" (Art XI.2(a)). This clause could presumably be used to justify India's keeping the power to restrict exports in reserve and even to justify long-term export licensing, but it i s difficult to see how export bans such as those inBangladesh that are inplace for long periods are not violating the basic GATT rule. Inpractice, however, the governments o f countries with competing exporters have no motive to challenge other countries that voluntarily remove themselves from export competition, unless the export restrictions seriously reduce their own industry's access to a key product and/or indirectly hurt their export industries by providing an indirect export subsidy. For this reason only a few o f the South Asian export QRs have been challenged at the WT0.6The most likely route to removing these restrictions would be careful economic analysis clearly showing the losses ineconomic welfare that they cause. The South Asian countries are all applying the general export policies (see Chapter 4, Vol. I) used to promote manufactured exports to agricultural exports. The policies include schemes for rebating or exempting import duties on imported inputs that are used in exported products, such as drawback, duty exemption, bonded warehouses, the Indian duty exemption passbook schemes, and export processing zones. India has established a number o f specialized agro-industrial zones for exporters. There are also related or separate mechanisms for rebating VAT charged on inputs used to produce exports. Various specialized facilities and subsidies generally available to exporters are being used -- preferential pre- shipment and post-shipment credit lines, export credit guarantee schemes, income and corporate tax exemptions and reductions, and reduced withholding o f income taxes. India and Pakistan are also paying freight subsidies for a number o fprimary exports. Duringthe Uruguay Round none o f the South Asian countries declared any agricultural export subsidies, and consequently under the A o A they have all since had zero export subsidy commitments, except for freight and export marketing subsidies which were available to developing countries until January 1, 2004, and a few other minor subsidies. A number o f the currently implemented subsidies mentioned above probably breach this commitment, but their combined level and effect i s probably not very great. However, Indian exports o f surplus stocks o f rice and wheat since 2001 at prices far below prevailing domestic prices are much more significant. Depending on developments, the practice could have major long-term implications for India's agricultural trade policies and more generally could seriously compromise efforts through the WTO to move towards more open world agricultural trade. The zero export subsidy commitment o f India and the other South Asian countries i s the principal WTO discipline on their agricultural policies, because it sets a limit on domestic support or subsidies that Export restrictions on hides and skins and partially processed ("wet bhe") 1eather inIndia and Pakistan were successfully challenged bythe EUand contributed to their abandonment inIndia and their replacement inPakistan by an export tax. 8 Agriculture, Livestock and Fisheries generate exportable surpluses. Despite this, during the past three years India has employed exactly such policies and has been disposing o f its very large surplus stocks by selling wheat and rice in export markets for whatever prices can be obtained. These sales undoubtedly breach the spirit o f the A o A and almost certainly India's legal commitments. If they continue unchallenged and undiscussed, they will effectively remove this k e y c onstraint t o agriculturalprotectionism inIndia, while e stablishing a very undesirable precedent that other developing countries could be tempted to follow and reducing the pressures for reforminthe high-protectiondeveloped countries. The following sections discuss o f some o f the main features o f the agricultural trade policies o f the three large South Asian countries-India, Pakistan and Bangladesh- paying most attention to India, which has much bigger and more diverse primary industry sectors and more complex trade and other policies than its neighbors. India. Judging from the formal instruments employed -- tariff levels and the use o f non-tariff measures -- India's agriculture, livestock, seafood and food processing sectors appear to be getting more protection against imports from these instrumentsthan its manufacturing sectors. However, as inthe past, it is likely that implicit protection (i.e. actual differences between domestic prices and border prices) o f many livestock and agricultural products are considerably less than the apparently high levels o f protection that these formal instruments make available: some limited current evidence on this i s discussed below. Nevertheless the widespread use o f non-tariff measures and the relatively high tariffs probably support correspondingly high implicit protection o f some products and are also significant as indicators o f some o f the protectionist pressures operating inthese sectors. Inthis regard it i s relevant to note the following: STEs control imports o f rice and wheat and all coarse grains except maize (subject to a TRQ) and barley. These grains account for about 40 percent o f total agricultural GDP in India. An STE i s also being usedto protect copra, a highlypolitical crop inKerala. TRQs are being used to protect the dairy industry against powdered-milk imports. As with maize, the import quotas are very small inrelation to total Indian production, and the out-of-quota tariffs (maize 50 percent, powderedmilk 60 percent) are probably prohibitive. Other non-tariff barriers (denoted NT inTable I. 1) are beingused to protect some major commodities, specifically sugar, baby foods, and powdered and condensed milk. At least formally, India classifies these techniques as WTO-compatible, but the dominant motive and effect seems to be protection o f domestic industries. For sugar, the Essential Commodities Act was used during early 2000 to deter imports by requiring importers to sell 30 percent o f their stocks at a loss and to obtain permission to sell the balance.' The threat o f another, similar intervention would presumably discourage imports. Imported baby foods, powdered and condensed milk are included in the November 2000 list o f 133 products the exporters and importers o f w hich are required to meet the extremely demanding and expensive quality certification procedures required by the Bureau o f Indian Standards (already discussedinC hapter II, W V 01. I) ithout detailedresearch it is impossible t o assess the protective intent and impact o f India's general health, safety, and technical regulations, which apply to practically all imports o f livestock, agricultural, and processed-food products. N o attempt to do so has been made in compiling Table 1.1. However it i s pertinent to note that these regulations were introduced or reactivated and applied to imports at abut the same time that general import licensing of consumer goods was abolished on April 1, 2001.8 Since the imports o f most livestock and * Goyal, Easy Reference Customs T a r 8 2000-2001, p 232. It has been reportedthat this was an initiative of the "War Room" set up in 2001 within the Ministry o f Commerce to combat andmonitor imports (see discussion inChapter 2, volumeI) 9 Trade Policies inSouth Asia : Some Key Sectors agricultural products and processed foods were previously banned, it was logical to activate these regulations and apply them to imports at this time. But two questions remain (1) H o w widely and rigorously were these regulations being applied to domestic production before the abolition o f QRs?; and (2) Are they currently being applied to imports and domestic production with equal or at least similar rigor? As described in Goyal, they were not appliedrigorously to domestic production before 2001, and the new 2001 regulations as currently written and applied appear to involve a very substantial harassment factor at Customs which would heavily disadvantage imports.' 0 Many agricultural, livestock, and processed-food tariffs far exceed the current "general maximum" tariff o f 30 percent discussed in Chapter 3, Vol. I.These tariff peaks are mostly ina range o f between 50 and 100 percent for powdered milk; rice, wheat and some coarse grains; baby foods; some fruits and nuts; coffee, tea, a number o f spices, copra, edible oils, sugar, and latex. Relative to the total number o f livestock, agricultural and processed-food tariff lines, there are many more o f these "tariff peaks" than there are tariff peaks (even allowing for specific duties and anti-dumping duties) among non-agricultural tariff lines. More significantly, the share o f agricultural and livestock productionthat they protect i s probably considerably greater than the corresponding share being protected by non- agricultural tariffpeaks. 0 Aside from the tariff peaksjust mentioned, nearly all other livestock agricultural, and processed-food tariffs are inthe top 30 percent "slab" o fthe general range o f agriculturaltariffs. 0 Of the major commodities listed in Table 1.1, relatively few can be imported without non-tariff restrictions over low tariffs. For most o f those that can, there are strong domestic lobbies for which the product i s a key intermediate input e.g. raw hides and sluns, cotton, raw wool, rawjute, unshelled cashews (used by India's large, cashew export industry), barley, and oilcakes and meals. For many years pulses were restriction-free, final consumer agricultural products that were consistently imported in substantial quantities over low tariffs even though the imports compete with domestic production, but in 2003 this tariff was sharply increased and i s now 30%. Onions are also restriction- free and subject to a low tariff, but India i s a very low-cost onion producer, and prices are generally suppressed below export border prices by export controls, so it i s not profitable to import. The above summary o f India's current tariffs and non-tariff barriers to imports suggests that its agricultural, livestock and food processing sectors are heavily protected. This conclusion i s certainly accurate if protection i s understood as the extent to which barriers are placed in the way o f competing imports. But empirical studies have shown that for many years measured nominal protection o f major crops was low or negative even though competing imports were banned altogether or subject to QRs. Similar detailed empirical studies comparing domestic and intemational prices would be needed in order to properly understand the current situation. Some indication that it probably has not changed in its essentials i s suggested by an update from 1997 to April 2002 o f earlier nominal protection estimates for wheat. These results are graphed inFig 1.2, which shows the domestic support price for wheat in relation to an estimated import reference price and an estimated export reference price, with all prices (per quintal") expressed in constant 1980/81Rupees. The graph illustrates a number o f relevant points. First, expressed in Rupees, since 1965 there have been large fluctuations in border reference prices but no obvious trend, up or down. Reference prices in 2002 The new phytosanitaryrequirements for imports o f plants, fruits, seeds etc (introducedin May 2001) and for imports o f animals and animal products (introducedin July 2001) are described in Goyal, Easy Reference Customs T a r 8 2002-2003, pp PI41 and Pi42. On the latter, the discussion concludes that "the immediate implication of the permit condition for entry is that normal inflows of animal foods will be stoppedby the customs". lo 1 quintal=100 kg 10 Agriculture, Livestock and Fisheries were about the same as they were in 1965 despite a very large decline during this period inworld wheat prices expressed in constant U S dollars (Fig 1.1). The devaluation o f the Rupee effective exchange rate duringthese 37 years just about exactly offset the decline inthe U S dollar price o fwheat. Second, with only a few upward blips, the domestic wheat price remained in a strong downward trend -- decliningby more than 50 percent inreal terms -- for 27 years until 1992. Since 1993, however, real wheat prices have increased by about one third, with an especially sharp jump in 1998. Third, over the entire period there has always been a very large gap between import and export reference prices. In2002, this gap was equivalent to about 40 percent o f the import reference price; put another way, the export reference price i s 40 percent less than the import reference price. The reasons for this gap are that the high costs o f international transport relative to world wheat prices create large differences between cif and fob prices at Indian ports." and high domestic transport costs (relative to international prices o f wheat) create an even bigger gap between prices farmers would receive if they were to export their wheat and the prices with whichthey would have to compete ifwheat were imported. Fourth, except inthe early period between 1965 and 1973 when wheat was protected with respect to both import and export reference prices, and for about 6 years duringthe 1990s when domestic support prices were lower than export reference prices, domestic prices have been inbetween import and export reference prices. This positioning means that the implicit or measured protection o f wheat was ambiguous: negative if measured with respect to the import reference price and positive ifmeasuredwith respect to the export reference price. As the graph illustrates, this remained the situation between 1998 and 2002. In 2002 the domestic support price was about 25 percent below import reference prices, but about 40 percent above export reference prices. From this it i s apparent that the current wheat tariff (50 percent) has no apparent relevance to actual protection levels, since there would be no (or very few) wheat imports even with zero tariffs and the abolition o f FCI's import monopoly while domestic prices remain so far below import reference prices. .Among other things, this reality suggests that the very large, excess, public wheat stocks that India has accumulated over the past few years are not the result o f high protection o f the industry against imports, but rather the result o f a major failure o f domestic price policies, where support prices have been increased inreal terms instead o f allowing prices to adjust and equilibrate domestic supply and demand. The same general policy failure also explains the very large, excess, public stocks o frice. Inaddition to wheat, it is highlyprobable that detailed empirical investigation would revealthat many other products have considerable redundant protection, inparticular: Animals, meat and eggs Common rice (substantial exports) Coarse grains (maize, sorghum etc) Fishand crustaceans (there are substantial exports) Vegetables (substantial exports) Processed fruits and vegetables (substantial exports) Spices (a major export industry) Tea and coffee (substantial exports) Raw tobacco (substantial exports) The existence o f high and very high tariffs and also non-tariff measures protecting these industries against competing imports, even though within most o f them some products have low " Inadequatebulkhandingfacilities inlandandatIndianportsexplainsomepartofthehighdomesticandintemationaltransport costs. Apart from affecting domestic transport and port costs directly, intemational freight rates are higher because o f uncertainties and delays at Indian ports. Trade Policies inSouth Asia : Some Key Sectors production c osts and are being exported, s uggests that the protection they are receiving reflects 1ong- ingrained, anti-import impulses to exclude all imports, rather than any likelihood that imports would be very substantial or require much adjustment in domestic markets if imports were allowed restriction-free over l o w tariffs. On the other hand, it is probable that for some other primary industries, hightariffs and non-tariff measures are infact producing high,realizedprotection inthe domestic market. These include: 0 Dairy products 0 Some frutis andnuts 0 Coffee 0 Edible oils 0 Raw silk 0 Sugar 0 Latex and naturalrubber It is significant that world prices o f most o f these product groups are highly cyclical and that coffee, copra, edible oils, and sugar, for instance, have been in a low phase o f their cycles for the past several years. H o w to manage policies for products such as these raises well known but difficult problems which until2001India had largely avoided as a result o f its unhindereduse o f QRs. Pakistan. As discussed in Chapter 11, Vol. I,Pakistan has carried out a much more radical liberalization o f its general trade policies since 1996/97 than India and Bangladesh, and this reform has included its agricultural sector. As o f August 2002 (Table 1.1): There were no QRs on imports o f agricultural, livestock, and processed-food products (except for products not included inthe positive list exempted from the general ban on imports from India). All parastatalimport and export monopolies hadbeenremoved. With the exception o f edible oils, the general maximum tariff o f 25 percent is also the de facto applied maximum tariff for agricultural, livestock, seafood and processed-food products, subject to the proviso that some extra protection i s being given through the advance income tax on imports and possibly through sales tax exemptions for some domestically produced agricultural products (see Vol I, 3) Chapter All export QRsand export taxes hadbeen removed, except again for edible oils and a few other products The steady removal during the 1990s o f import licensing, STEs, and other non-tariff barriers to imports o f livestock, agricultural and processed-food products from MFNsources was completed in2001. As for industrial products, the general ban on imports from India o f products not on the limited positive list of 677 items i s a major qualification to these liberalizing reforms, given the considerable potential o f this trade. However, there are about 75 livestock and agricultural products on the list, including live animals, various vegetables, pulses, c offee, tea, some spices, edible oils, soybean meal, and r a w silk, wool, cotton, andjute and other vegetable fibers. The list, however, excludes fish, meat, dairy products, food grains and food grain flours, and almost all processed foods. As with industrial products, the composition o f the list appears to be heavily influenced by the lobbying power o f the local industries that insome casesbenefit frombeingable to importraw materials from India (e.g. abattoirs, textile producers) 12 Agriculture, Livestock and Fisheries and which in other cases probably do not object to the exclusion o f various products from the list since it prevents (legal, ifnot illegal) competitive imports from India. Between 1996197 and 2002103, the "tops down" approach to tariff reduction reduced the general maximum tariff in the agricultural, livestock, and food-processing sectors from 65 percent to 25 percent. In strilung contrast to India, tariff peaks in excess o f this general ceiling have been allowed for only one group o f agricultural products (edible oils). Consequently, the variance o f Customs duties and the apparent potential for higheffective protection from escalated tariff structures has also been substantially diminished. Between 1996/97 and 2001/02, both the mean and standard deviation o f agricultural and livestock tariffs fell by more than half, along with similar reduction inthe mean and standard deviation o f processedfood tariffs (Table 1.5). Boththe mean and standard deviationprobably declined again since the 2002103 budget, which reduced the general maximum tariff (the top tariff "slab") from 30 percent to 25 percent. As discussed in Chapters 2 and 3 (Volume I), extent to which the apparent absence of QRs the and moderate to low tariffs corresponds to moderate to low protection for domestic industriesi s subject to the caveat that actual protection could be considerably higher if Pakistan's VAT-type sales tax i s less rigorously collected from domestic producers than from importers, and similar effects would result from asymmetric collection o f the income withholding tax. In this regard it i s relevant to note that the 15 percent sales and the 6 percent withholding tax apply uniformly to all products in the Customs tariff schedule, including all primary products covered by the Agreement on Agriculture. Inan extreme case in which both these taxes are collected on imports by Customs but not collected at all on the equivalent domestically produced products, for the maximum customs tariff o f 25 percent which applies to many processed foods, the total protection rate would be 52.4 percent, o f which the components (percent o f cif prices) would be: 25% (Customs duty)+sales tax( 18,8%)+withholding tax(8.6%). On the same extreme assumption, the protection corresponding to a 10 percent Customs duty would be 34.1 percent=lO%(Customs duty)+l6.5%(sales tax)+7,6%(withholding tax). Leaving this complication aside, the tariff reforms have also created generally uniform tariffs within major product groups (Table 1.1): 10 percent for coarse grains, oilseeds, and fresh vegetables; 20 percent for spices; 25 percent for most h i t s and nuts; and 25 percent for most processed foods, for example. In strong contrast to Bangladesh, and to a lesser extent India and Sri Lanka, this tariff uniformity for livestock, agricultural, marine and food products should be an important plus for customs administration inPalustan. Finally, again with the exception o f edible oils, "cyclical" commodities such as sugar, natural rubber, and coffee have not been singled out for special protection. For some o f these products, a principal reason i s that they are either not produced in Pakistan at all, or not in significant quantities. Thus, no effective producer lobbies prevent intermediate and final consumers from benefiting from low world prices. This i s not true o f other commodities, however, notably sugar, which i s Palustan's fourth largest crop accounting for over 6 percent o f agricultural and livestock GDP.I2Despite this, in contrast to India (60% tariff plus QRs), Bangladesh (93.9% total protection rate) and even Nepal (44.5% tariff), in Pakistan no QRsapply to sugar imports, and tariff increases from 10% in 2001 to 25% currently have not gone above the general maximumrate. As noted earlier, Palustan's (real) exchange rate has declined since 1997, but this has only partially o ffset the decline insugar and other world c ommodity prices s ince. Palustan has been much more willing than India and Bangladesh t o stick with i t s general trade 1iberalization program without backtracking and making opportunistic exceptions, accepting and benefiting from the downswing phase This is the share of sugarcane farming only. Sugar milling i s also a very large industrybut i s not includedin agricultural GDP. 13 Trade Policies inSouth Asia : Some Key Sectors inthe worldprices ofthese cyclical commodities. The special treatment ofedible oils, anexceptionto this approach, appears to have more to do with the strength o f industrial oilseed processing lobbies than with the farming oilseed sector. OilseedproductioninPakistanonly accounts for about 0.5 percent oflivestock and agricultural GDP and oilseed tariffs are low (10 percent), but the oilseed processing sector includes 11public-sector firms some o f which are beingfully or partially pri~atized.'~Future import liberalization o f edible oils will be made more difficult as long as the present very high protection through specific duties i s used to protect employment inand profits o fpublic-sector firms and to provide incentives for the private sector to buy or participate inthese firms. In addition to radically liberalizing its agricultural import regime, since 1997 Pakistan has also removed most o f its remaining export controls and restriction^.'^ In particular, exports o f cotton (after wheat Pakistan's second largest rural industry) were decontrolled in 1999. Prior to this, export controls were periodically imposed in order to suppress domestic cotton prices and thereby subsidize the textile industry. With a few exceptions, the private sector can now freely export cotton and all other livestock, agricultural and processed products without having to obtain licenses (other than health, safety, and quality assurance clearances) or pay export taxes. Export controls have also been removed from hides, skins, and partially processed leather, as have export quotas from potatoes. The two principal remaining restrictive export measures are a ban on bulk exports o f edible oils and a 20-percent export tax which has replaced the previous export controls over hides, skins, and partially processed leather. The role o f parastatals in exporting has also been abolished or reduced as part o f the general policy o f withdrawing from government participation intrading inagricultural and livestock products. On the other hand, the government is operating a number o f export subsidy schemes which include livestock and agricultural products. The most important appears to be a 25-percent freight subsidy for exports o f fresh h i t and vegetables, fresh fish, and flowers and confectionery. According to the 2002 WTO TPR report, this freight subsidy i s now confined to potato exports only." In addition, food processing firms in EPZs benefit from the general tax and other concessions o f the zones; together with all other exporters, firms exporting livestock, agricultural, and processed-food products are subject t o much lower (1.25%) income withholding tax on export proceeds than importers. Although a number of these export subsidies are probably incompatible with the A o A and other WTO rules,16 unlike India, Pakistan does not appear to be operating any major agricultural export subsidies with important effects and implications for the general direction o f its trade p~licies'~. In Pakistan as in India, the old import substitution regime strongly discriminated against agriculture directly through measures that suppressed domestic agricultural prices and indirectly through manufacturingprotection and exchange-rate overvaluation. Inthe aggregate, these effects on output prices far outweighed substantial subsidies for tradable (e.g. fertilizers, pesticides, farm machinery) and non- tradable (e.g. electricity, irrigation water, credit) inputs. The principal empirical study which documents these effects covers wheat, cotton, rice, and sugarcane growing for the period 1960-86, activities which together accounted for about half or more o f agricultural and livestock GDP duringthis period. It would be o f considerable interest to update these earlier studies and to broaden them to include other crops and also livestock and fisheries" sectors, which now respectively account for about 36 percent and 4 percent l3WTO ,PakistanTPR Report2002, Table 111.4. l4More detail on Pakistan's exportpolicies i s inthe Pakistan2002 TPR report, pp 59-66. l5Ibid, p.64. I6Unless changes are made to the rules during the Doharoundnegotiations, the freight subsidy is allowed under the AoA until the end of the 9 -year implementationperiod f or developingcountries on January 1,2004. Subsidizedexport credit and the reduced income-withholdingtax rates are probably WTO-compatible. However according to the TPR report, some of the other subsidiesprobablybreachAoA and/or other WTO ruleson export subsidies. l7However, it has beenreportedthat Pakistan exportedwheat at subsidizedpricesduring 2003 As inIndia andBangladesh, amajor part of fisheries productioni s from inlandponds andwaterways 14 Agriculture, Livestock and Fisheries o f total agricultural and livestock GDP. It would be particularly important to include the livestock sector which grew very rapidly during the 1990s (at over 6 percent per year during 1991/92 and 2001/01) and within that to include milk products and the poultry industry.For a number o freasons, it is probable that the general anti-rural-industry discrimination that existed up to the mid 1980s still exists but has diminished substantially. The dramatic drop inmanufacturingprotection, especially since about 1997, also implies that exchange rate overvaluation that discriminates against tradeables and agricultural exportables inparticular (especially cotton and basmati rice) has declined. Direct discrimination (export controls and taxes) against exportables has also been removed. Subject to caveats about smuggling, the new "tariffs only" protection regime a priori suggests generally low to moderate positive nominal protection for most import- substitution agricultural and livestock products which may on average not differ very much from average manufacturing protection. A possible exception i s the oilseed industry, as a result o f the high specific tariffs applied to edible oil imports. But this protection seems to be focused on edible oil manufacturing. The extent to which oilseed farming is protected is not clear, given that oilseeds can in principle be importedrestriction free over a uniform 10percent tariff. On the other hand, at least up to 2000, some provisional price comparisons for wheat (Fig IV.3) indicate continuing substantial tariff redundancy, since domestic wholesale prices were still substantially below import reference prices, even though wheat was being imported by the government duringmost o f this period. Wheat prices actually received by many farmers (especially small farmers) are reported to have been lower than reportedwholesale prices, owing to the monopsonyposition and buyingpractices o f the grain parastatal (PASSCO). The government's reform program which aims to phase out PASSCO's operations in the wheat market and to remove barriers to private-sector grain trading and storage should, inprinciple, pullup wheat prices closer to import reference prices. However, that change depends on the supply response to this and other reforms, including reforms affecting input prices, quality and availability. Depending on how these work out inrelation to demand and trends inworld prices, it i s quite possible that Pakistan could achieve self-sufficiency in wheat (and also in common (IREU) rice production) with domestic prices frequently (but not always) lying somewhere within the very large gap between import and export reference prices. If this were to happen, it would be incorrect to characterize the entire gap between domestic wholesale prices and import reference prices as direct "disprotection" or anti-agriculturaldis~rimination.'~ All of the preceding discussion assumes that Pakistan's ban on wheat (and other food grain) imports from India will continue. Ifthis were to change, unless India were to become a net importer as a result o f the exhaustion o f its security food grain stocks, the relevant import reference price would be much lower than reference prices based on wheat imports from non-South Asian sources such as Australia or the US. Inthat case, the major wheat-growing areas in Pakistan's Punjab would be in direct competition with wheat grown next door in the Indian Punjab and the other northwest Indian states. Wheat growers and traders in these states would presumably be willing to offer prices equivalent to fob prices at Indian ports minus the very substantial transport cost they would save by shippingthe wheat to When international and domestic transport and marketing costs are very highrelation to world prices, as they are for wheat and other grains such as c o m and sorghum ( and to a lesser extent rice) , and domestic prices lie between export and import reference prices, it can be misleading to assume that the entire difference between these references represents "protection" o f" disprotection" in some sense. In fact, if there is n o significant govemment intervention that influences domestic prices, the protection system is approximately neutral, in the sense that domestic prices would not be much different under free trade in these products. Ideally, when there is intervention (as there has been for these commodities in Pakistan and India) which clearly affects domestic prices, the relevant reference price with which these with-intervention prices should be compared, are estimated "without intervention" prices Le. domestic prices which would equate domestic supply and demand in the absence o f intervention. Sometimes (perhaps frequently) these estimated non-intervention reference prices m a y also lie between the import and export reference prices. 15 Trade Policies in South Asia : Some K e y Sectors the Palustan 1and border in the north rather than to the Indianports in the south. As with the partial integration o f the Indian and Bangladesh rice markets (see below), both Palustan and India would realize major economic welfare gains from open, bilateral trade in food grains. For both countries, but especially for Palustan, general grain trade liberalization including India-Palustan trade w ould have c onsiderably greater economic welfare benefits than general grain trade liberalization that left the present ban on India- Pakistan trade inplace. Bangladesh. During the 1990s Bangladesh included agriculture, livestock, and fisheries in its general liberalization o f trade and trade-related policies. As o f March 2004, in terms o f the formal protective and other instruments and institutions inplace, these sectors appeared to be considerably more open to international trade than they are inIndia, but 1ess than inP alustan. A few s alient points (see Tables I. 1and 1.6): There are no purely protective import QRs being operated, except for the import bans on fowls and eggs. There are no legally enforced state trading monopolies o f either exports or imports. These were removed during the early 1990s, much earlier than the recent withdrawal o f the government and parastatals from international trade inPakistan. Inparticular, the private sector now has the dominant role inrice importing.20 But 18products are subject to export QRs:for 13 an export ban and for 5 export licensing (Table 1.7 ) Banned exports include oilseeds, edible oils, wheat, pulses, onions, unprocessed and unfrozenprawns and shmp, raw hides, and wet blue leather. The principal motivation i s presumably to decrease domestic prices, which in the case o f intermediates such as hides and leather and fresh shnmp subsidizes the user industries. As inIndia, it is likely that a strong protection motivation exists inthe application o f some health and safety (SPS) regulations to imports. Domestic industries for which this impetus may be important include dairying (i.e. milk and milk-based products), oilseeds and edible oils, and some fish and crustacean products (Table 1.1) As part of Bangladesh's general tariff reforms during the 199Os, Customs duties applied to agricultural, livestock, and fisheries products have declined very substantially. But as discussed inChapter 3 (Vol. I), the mid-1990s a number o f other import taxes have been since used to give extra protection. At present these include the IDSC tax (an extra 4% on top o f Customs duties on practically all imports), supplementary duties, regulatory duties and exemption o f selected domestically produced products from the 15% VAT applied to imports. Including the IDRC tax means that the maximum general protective tariff i s actually 34%, not 30%, and the selective use o f VAT exemption, regulatory duties and supplementary duties can give muchhigher and also difficult- to-quantify extra protection to the domestic industries which benefit. As shown in Table 1.1, these methods have been used to apply very high-to-prohibitive protective tariffs to such products as bulk powdered milk, cheeses or baby foods, sweet biscuits, fresh apples, oranges grapes, and mangoes fresh orange and applejuices, frozen fruit juices, jams andjellies, various spices and sugar. The large number o f tariff peaks well above the general maximum tariff o f 34% suggests that in Bangladesh, as in India, strong domestic rural and food processing industry lobbies are able to obtain 2oThe privaterole inrice importing andtradingi s discussedMurshid (1999). See also Shilpi (1998) and Dowlah (2001). 16 Agriculture, Livestock and Fisheries special treatment with little government resistance. Thus the 2002/03 and 2003/04 budget speeches announced a series o f new and increased supplementary duties which involved large increases in total protective duties for a number o f the products mentioned above, without indicating the resultinglevels o f protection involved and without any explanation o f the justification for the increases. These changes are good examples o f the general point emphasized in Chapter 3, Volume 1 and also in a number o f World Bank, WTO, and other reports on Bangladesh's tariff policies, that the complexity and lack o f transparency resulting from Bangladesh's multiple import taxes i s a major problem in itself. One o f the most important i s the resulting ability to introduce major changes in protection without indicating their total effects. The remedy for this situation i s very simple: merge all the additional protective measures in a single Customs duty so that the protective effects o f changes would be clear. The apparent resistance to this obvious reform suggests that the complexity and lack o f transparency is deliberate and is retained precisely because the effects o f ad hoc changes are obscured.21 Looking at unweighted average Customs duties alone as indicators o f relative incentives, it would appear that incentives for the rural sector (i.e. livestock, agriculture and fisheries) as a whole are about the same as incentives for manufacturing as a whole. For a number o f reasons this could be a very misleading conclusion. First, as emphasized above, it i s necessary to take account o f the protective effects o f the other import taxes discussed above. Tahng these into account, unweighted average protective import taxes are much higher inagriculture than inmanufacturing (see Chapter 3, volume I). Onthe other hand, , effective protection that takes account o f input protection as well as output protection can be very different from output protection alone. Because Bangladesh tariffs are quite escalated according to the degree o f processing, and intermediate material inputs are generally a much higher share o f the final selling prices o f manufactured products than o f farm and other rural products, effective protection would tend to be higher inmanufacturing.Third, rice is by far the most important ruralproduct, and its implicit protection rate has historically been low or negative. As this still appears to be the case, the weighted average protection o f the rural sector remains i s still quite low. It i s also likely that the implicit protection o f other major crops (especially other food grains which compete with rice) i s also low or negative. This suggests that there is probably still substantial overall anti-rural bias inthe system, though its extent i s probably moderated by a number o f factors. As demonstrated by many past empirical protection studies22 and reaffirmed once again by a new detailed study,23 effective protection o f manufactured exports in Bangladesh i s low or negative. Since the garment and other export industries now constitute a very large proportion o f total manufacturingproduction, allowance for their positionwill substantially reduce the weighted average protection o f the manufacturing sector as a whole. Allowance also needs to be made for the very large volume o f smuggled imports, especially fromIndia, o f both intermediate and final consumption goods. The net effect o f this large smuggling trade on implicit protection i s difficult to predict, because while smuggled, low-priced, final consumer goods will reduce 21 In addition, the complexity also has the highly undesirable consequence of increasing the scope for negotiation during Customs clearance 22 e.g. World Bank, 1996. Bangladesh: Trade Policy Reform for Improving the Incentive Regime, and World Bank, 1999. Bangladesh TradeLiberalization: Its Pace and Impacts. 23 Maxwell Stamp PLC, 2002. Review of Relative Protection,2002. Report prepared for the Bangladesh Tariff Commission. February, First Draft Report. This study estimates the nominal and effective protection for 204 firms that was available from output and input tariffs duringthe three years 199912000, 2000/01, and 2001/02. Exports are assumed t o have zero nominal protection and to benefit from import duty exemptions for the inputsused to produce them. The empirical results demonstrate the very marked anti-export bias resulting from the tariffs and their structure, and also the highly inefficient dispersion of effective incentives that the tariffs make available for production for the domestic market and show in a convincing manner the large efficiency gains that could result from lower and more uniform tariffs. However, the studydoes not attempt to estimate the actual differences between the border and domestic prices of outputs and inputs sold domestically, which for a variety o f reasons, including competition from smuggled goods, may inpractice differ considerably from the price differences theoretically available from protective tariffs. For most Bangladesh manufacturing firms, this probably means that actual realized effective protection i s lower (perhaps considerably lower) than the effective protection available from tariffs. 17 Trade Policies in South Asia : Some Key Sectors the nominal and therefore the effective protection o f Bangladesh production o f the same goods and smuggled, intermediate goods will likewise reduce the nominal and effective protection o f competing Bangladesh producers, smuggled intermediates will have the opposite effect and increase the effective protection o f Bangladesh producers that use them as inputs. On balance, it i s likely that smugglinghas been substantially reducing the average realized protection rate (nominal and effective) o f the manufacturing sector's production for the domestic market, below the protection rate theoretically available from tariffs. As regards the broad structure o f incentives within the rural sector, the following hypotheses seem plausible and would be worth checking empirically: L o w incentives for the major food grain crops --rice, coarse grains, wheat, and pulses. Together, these account for by far the largest part o f agriculturalGDP and employment. L o w or negative incentives for the major exported primary products, principally, frozen shrimp and fish, tea, and rawjute. This is despite hightariffs and assumes that competition between exporters is keeping domestic prices broadly inline with export prices. Moderate to low incentives for oilseed crops competingwith imports over relatively low tariffs. High to very high incentives for some import substitution crops, in particular vegetables, fruits and nuts, and spices, and sugar duringdown years o finternationalprice cycles. Although these crops only account for a small share o f agricultural GDP at present, this share will grow a s consumption o f vegetables and fruit increases with higher real incomes. Inthe livestock sector, highto very highincentives for dairy products and the poultry industry, but probably moderate to low for cattle herding as a result o f the export ban on live cattle, sluns and partially processedleather. Very high and probably redundant protection for the fisheries sector in the domestic market, especially following the introduction o f regulatory duties inthe 2003 budget. 18 Agriculture, Livestock andFisheries TABLE I..1 AGRICULTURAL, LIVESTOCKAND PROCESSEDFOOD TARIFFS AND NTBSINSOUTHASIA 1. Animals 10120125 11.5 30 19.5 3 Poultry 30 10120 26.5+QR 30 19.5 3 Eggs 3O+NT 20 34+QR 30 19.5 10 2. Meat & skins Meat: Fresh, chilled, 30 10125 41.5 30 14.5 10 fiozen, processed (except poultry meat) Poultry meat 301100 25 49 30 14.5 10 Hides & skins raw 0 0 4 12 7.5 10 Processed incl leather 20 0 4 12 14.5 10 3. Fish and crustaceans 30 10 64179+NT * 12 19.5 10 4. Dairy products Freshmilk and cream 30 25 49 30 19.5 30 Yogurt 30 25 49 30 19.5 30 Powdered milk bulk 15 or 60 20 63.25+NT 10 24.5 (4.5%) (TRQ)+NT 30 Powdered milk (>1.5%) 15 or 60 20 63.25+NT 10 24.5 Powdered milk retail (TRQ)+NT 20 63.25+NT 10 pack 15 or 60 30 (TRQ)+NT 30 Powdered milk (>1.5%) 60+NT 20 30.8134163.3 10 24.5 sweetened +NT 30 Butter 40 25 86.4 30 19.5 10 Butteroil 40 25 66.5 30 19.5 30 Cheeses 30 25 49186.4 30 19.5 10-30 5. Rice Common 87.2+STE 10 7.5 S 24.5 0 Basmati 87.2+STE 10 7.5 S 24.5 0 6. Wheat and wheat flour Durum(hard) wheat 80+STE 25 7.5 O+STE 19.5 0 0ther wheat 70+STE 25 7.5 O+STE 19.5 0 Wheat flour 30 20 18.5 10 19.5 10 7. Coarse grains & flours Maize 15 or 50 (TRQ) 10 0 0 19.5 0 Sorghum 5O+STE 10 4 30 19.5 0 Millet 5O+STE 10 19 30 19.5 0 Barley 0 10 4 12 19.5 0 Rye O+STE 10 4 12 19.5 0 Oats O+STE 10 4 12 19.5 0 Other grains O+STE 10 19 30 19.5 0 Coarse grain flours 30 10 19 30 19.5 10 8. Processed cereals 19 Trade Policies in South Asia : Some Key Sectors 20 53.5 5 7.5 30 Baker's dough 30 25 34 12 14.5 30 Pasta 30 20 34 30 44.5 30 Biscuits (sweet) 30 25 131.5 30 44.5 30 Biscuits (other) 30 25 49 30 44.5 30 Breakfast cereals 30 25 34 30 19.5 30 All others 30 25 34 30 19.5 30 10. Pulses 5 11 30 7.5114.5 11.Vegetables 10 26.5147.9 30 19.5 10 Potatoes 30 10 34 S 19.5 10 Onions 30 10 26.5 S 19.5 10 Tomatoes 30 10 34 30 19.5 10 Garlic 30 10 26.5 12 19.5 10 Driedmushrooms 30 20 26.5 30 19.5 10 Driedonions 30 20 26.5 30 19.5 10 Driedpotatoes 30 20 26.5 30 19.5 10 12. Fruit 30 25 26.5134 30 14.5119.5 20 Apples 50 25 86 30 19.5 20 Grapes 40 25 86 30 19.5 20 Plums 25 25 34 30 19.5 20 Driedprunes 25 25 34 30 19.5 20 Driedgrapes 105 25 86 30 19.5 20 Cashews: inshell 0 20 26.5 30+QR 14.5 20 Cashews: shelled 30 25 26.5 30 14.5 20 Coconuts 70 20 26.5 30 19.5 20 Almonds S 20125 26.5 30 14.5 20 Areca (betel) nuts 100 25 99 30 14.5 20 Dates 30 25 25375.5 6 14.5 20 Figs, pineapples, guavas 30 25 34 30 19.5 20 Mangoes 30 25 86 30 19.5 20 13. Preparations of 30 25 34/86 30 29.5144.5 30 fruits and vegetables About 13 veg preps 30 25 34 30 29.5 30 Fruitjuices 30 25 34186 30 44.5 30 Fruitjuices, frozen 30 25 34186 30 44.5 30 Jams, jellies etc 30 25 86 30 29.5 30 Orange juice, not frozen 30 25 86 30 44.5 30 Apple juice, not frozen 30 25 86 30 44.5 30 14.Coffee (unprocessed) 100 20 34 30 14.5 20 Roasted coffee inbulk 100 20 34 30 29.5 20 15. Tea 100 25 34 30+QR 29.5 20 16. Spices 30 20 34149 30 7.5114.5 20 Pepper 70 20 34149 30 7.5114.5 20 Chillies 70 20 26.5149 S 7.5114.5 20 Cardamom 70 20 49166.5 30 14Sl29.5 20 Caraway seeds 30 20 34/49 12 7.5 20 Thyme, bay leaves 30 20 34149 3.0 14.5 20 Coriander 30 20 34149 30 7.5 20 Cumin 30 20 66.5 30 9.5 20 Cinnamon 30 20 86.4 30 14.5 20 20 Agriculture, Livestock andFisheries 49166.5 Turmeric 49166.5 30 Nutmeg 34149 30 Ginger 26.5141.5 30 Dill, cassia & others 34149 30 14.5 17. Oilseeds 0 30 II14.5119.5 I 10 Copra 70+STE 10 26.5 30 14.5 10 Sunflower seeds 30 10 0 12 19.5 10 Soya 30 10 0 30 19.5 10 Rape/mustard 30 10 0 30 19.5 10 Rape & colza seeds low 30 10 0 12 14.5 10 acid I 1 18. Oil seed cakes & 15 1 110120 0 12 I 19.5 I o meals 19. Edible vegetable oils: Crude 75 7.5 26 9.5114.5 30 Refined 85 34 30 19.5 30 Crude palm oil 65+TV 7.5+NT 26 9.5 30 Processed palm oil 85+TV 26.5134+NT 30 19.5 30 Soya oil, crude 45 7.5 30 19.5 30 Coconut oil, crude 75 26.5+NT 30 14.5 30 Coconut oil, refined 85 66.5+NT 30 14.5 30 Margerine (veg 85 34 30 19.5 30 vanaspati) 19.5 20. Raw cotton 10 0 0 0 21. Other fibres Raw wool 5115 015 11.5 Rawjute 5 5 26.5 Flax, 15 5 26.5 7.5 Sisal, coconut etc 25 10 26.5 7.5 Silk cocoons 30 5 4 2.5 Raw silk 30 5 26.5 7.5 Fine wool: cashmere 15 5 19 0 7.5 22. Sugar R a w 60+QR 25 93.9 Refined 60+QR 25 93.9 I ::: I 23. Natural rubber Latex 70 5 19 12 7.5 20 Smoked sheets 25 5 19 12 7.5 20 24. Raw tobacco 30 25 19 25. Wood and wood 5-20 10-25 4-53.5 0-30 02.5-19.5 10-20 products 21 Trade Policies in SouthAsia : Some K e y Sectors Notes: The products included inthis table have been c hosenbecause? hey are derivedfromrural 1ivestock or ~~ agricultural activities which are important in all or at least some o f the South Asian countries, and are also important inconsumption. In Bangladesh Sri Lanka and Nepal the tariff rate is the total estimated protection rate o f other import taxes as well as the Customs duty. See discussion in V o l I,Chapter 3. All the tariffs are the MFN rates i.e. they are not preferential rates. Bhutanhas a free trade agreement with India and so there is no tariff on imports from India. A slash between two or more tariffs means that the rates indicated apply to different products or specifications in the heading. A dashbetweentwo tariffs means that there are a number o frates between the two indicated. +S means that the tariff i s the higher o f the ad valorem rate or a specific duty. S means that there i s a specific tariff only. TV means that the tariff is based on a specified "tariff value" rather than cif prices, or the higher o f cif prices and the tariff value. TRQ means there is a tariff rate quota, under which the lower tariff applies to an import quota, and the upper rate to any imports inexcess o f the quota. STE means that a state trading enterprise (usually a public sector enterprise such as the Food Corporation o f India) controls imports. QR means that that there i s some form o f quantitative restriction (e.g. an import ban, import licensing, or an import quota) the principal or major purpose o f which i s to protect domestic production. The import o f some products i s banned or restricted for religious reasons: these cases have not beennoted as QRs. In all the countries the products in the table require some form of health, safety, sanitary or phyto-sanitary clearance to be imported. This has not been noted except in a few cases where NT indicates that there i s information which suggests protection i s probably a major purpose and effect o f the controls (see text discussion). NT* means that this applies to some butnot allproducts within the general heading. InBhutan there is import licensing of all imports except imports from India, including livestock, agricultural and processed-foodproducts. Informationon the actual restrictiveness o f this system has not been obtained. Insome cases tariffs for a general product heading are given when these rates apply to most products under the heading. Important products inthat product group and products within the group that have different tariffs or other import conditions (e.g. QRs)than the general rate are indicated below the heading. (**) Tariff rates for Bangladesh are as o f April 2004 and do not reflect the adjustments made inthe FY05 Budget announcements o f 10 June 2004. Wheat Maize Sorghum Rice 1995 177 124 119 309 1996 207 165 150 319 1997 160 117 110 283 1998 126 94 98 288 1999 112 90 84 234 2000 116 89 88 190 2001 129 89 95 163 2002 128 183 Wheat: N o 2 hard r e d winter, Fob U S gulf; 1992 avg first five months; M a i z e No 2 yellow, fob U S gulf; Sorghum: No 2 Milo yellow, fob U S gulf; Rice: Thai milled 15% broken, fob Bangkok. Calendar year average prices: 2001 first 11months for maize & sorghum. Sources: data supplied by IFPRI, and Ministry of Agriculture (New Delhi) website 22 Agriculture, Livestock and Fisheries I World Prices of Some Edible Oils and Coma. 1996-2001 $US/MT iunflower PalmOil Crude Groundnut Oil ieedOil :opra Coconut Oil 1996 531 897 294 489 752 301 1997 546 1010 274 434 657 281 1998 671 909 309 411 658 294 1999 436 788 239 462 737 204 2000 310 714 207 305 450 190 2001* 250 693 215 191 297 196 Agricultural Exports 1992-2001 Source: Calculated fromTables in: Central Bank o f Sri Lanka, Annual Report 2001 mumCustoms duty % I I I I 3 IManufacturing 1 59.0 I 22.5 I 300 137.5 132.5 Sources: WTO, Bangladesh Trade Policy Review, 2000, Table AIV.1, and 2002-03 Customs Tariff S chedule (computer file). Average customs duties for 2002-03 have not been calculated. Because o f other protective import taxes, customs duties are lower than the total protectionrate. 23 Trade Policies in South Asia : Some Key Sectors FIG1.1 US WHEAT EXPORTPRICES 1965-2002 m 220 - US hardwinter wheat no.2 fob US gulf 0 INDIANCROP YEARS 24 Agriculture, Livestock and Fisheries FIG1.2 INDIA DOMESTIC PRICESAND WORLD REFERENCE PRICES FOR WHEAT, 1965-2002 240 - DOMESTIC --&--REFERENCE (IMP)-1)-REFERENCE (EXP) 220 200 180 160 140 120 100 80 60 40 7 2o t INDIANCROP YEARS Fig 1.3 Pakistan Wheat Prices in constant 1995 Rs/MT 8000 - 7000 - 6000 . 5 ' 5000 4 4000 3000 ~ I Domestic price 2000 Import reference price 1000 - +-Exportreferenceprice 25 Trade Policies in South Asia : Some K e y Sectors Fig 1.4 World Cotton Prices 1980/81-2000/01 (Cotlook A Index, Current $US) 1.80 1.60 kd 1.40 (fi0.40 - 0.20 - 0.00 Fig 1.5 Some Edible Oil Tariffs in South Asia July 2002 90 1 26 Agriculture, Livestock andFisheries Urea II35.2+STE I15 18.5+QR 0 25 Other fertilizers I 9.2 1 5 1 0/11/18.5+QR 1 0 1 25 Pesticides I 3 6 1 5 I 11+QR 10 1 5 Weedicides, fungicides 36 5 8.5111+QR 0 5 Tractors 36 30 3.5+QR 0 10 Farm machinery & 30 10120 11 12 5 implements Dairy equipment 36 5 11 0 5 Poultry equipment 30 10 11 0 5 Maize for poultry 19.6 or 56 10 3.5 0 10 VRQ) Oilcakes and meals 19.6135.2 10120 0 12 10 Notes: Tariff rates are percentages; QR=quantitative restriction; STE means there is a state trading import monopoly; I I I I I I TRQ=tariff rate quota. Sources: Customs tariff schedules o f each country for 2002-03, except for Nepal which used the 2001-02 tariff schedule. The Pakistan and Sri Lanka tariff schedules are available on line at www.cbr.aov.pak and 27 Chapter 2: Fertilizer Policies in South Asia Overview During their early periods of planned development, there was broad agreement in the South Asian countries that fertilizers should be made easily available to farmers at low prices, and that domestic production should be promoted to reduce reliance on fertilizer imports. L o w and stable fertilizer prices were considered essential to persuade farmers to adopt "green revolution" technologies in food grain production, which in turn was considered necessary for food self sufficiency with low food prices. Domestic production substitutingfor imports was thought to be essential for ensuring that farmers would not be cut off from fertilizer supplies by disruptions o f international trade. The principal need was for nitrogen supplements for food grain farming which i s supplied by urea: urea still accounts for 70430% o f total fertilizer consumption in the South Asian countries, and the push to establish domestic production focused on this. However, inpractice the production costs o f import substitution firms-most at first inthe public sector-turned out to be highinmost years inrelation to world fertilizer prices, and higher still than the low prices policy makers considered were neededto persuade farmers to adopt the new technologies. InIndia, Pakistan, BangladeshandSriLanka, where localfertilizerproducingindustrieswereestablished, these differences w ere c ompensated by c entral government subsidies which c overed the excess o f the domestic production costs over controlled prices charged to farmers, and also the difference between the prices o f imported fertilizers and the controlled farm prices. Inaddition substantial but hidden subsidies were transferred to the fertilizer producers by charging them prices for feedstocks (mainly natural gas, naphtha or LPG) which were well below'their opportunity costs. InIndia, where at present there are about 34 major urea plants, the feedstocks include naphtha, LPG, natural gas and coal, all o f which are supplied by parastatal firms. In Palustan and Bangladesh the sole feedstock i s natural gas, and in Sri Lanka naphtha and LPG. In Nepal there was no local production during this early period, and so its fertilizer s ubsidies just covered the excess o f import prices over the c ontrolled farm prices. Two urea plants commenced production in 1999but by thenNepal had abolished its fertilizer subsidies. Judged according to their objectives i.e. low fertilizer prices for farmers and the substitution o f local production for imports, the South Asian countries' fertilizer policies have been very successful. For example, farm urea prices inIndia declined by about 50 percent inreal terms between the early 1980s and the mid 1990s and have been well below both average production costs and import parity prices (Fig 11.2) while domestic fertilizer production expandedto supply almost 90% o f demand compared with about half in the early 1980s. Fertilizer prices for farmers were also kept very low in Pakistan, Bangladesh, Sri Lanka and Nepal, and inthe first three domestic productionrapidly substituted for imports. There were some differences between these countries .in the ways these objectives were achieved, but they all involved very large budgetary and non-budgetary subsidies, as well as government participation in and comprehensive regulation o f production, importing and distribution. In particular, imports were managed by public sector import monopolies under govemment direction, wholesale and retail prices were set by the government at levels which were well below domestic production costs and in most y ears below import parity prices, public s ector firms c ontrolled domestic wholesale distribution, prices were uniform geographically and seasonally, domestic fertilizer production was subsidized with low priced feedstocks, and the fertilizer manufacturers were subject to detailed govemment regulation. While these policies were very successful in achieving what they set out to do, there are strong reasons for thinking that the "green revolution" in grain farming in South Asia could have occurred at much lower economic cost without the subsidized farm fertilizer prices, and that the forced import substitution in fertilizer production also involved high economic costs which were unnecessary because reliable supplies were available from imports. This i s an issue in counterfactual history which will never Trade Policies inSouth Asia : Some Key Sectors be definitively resolved, but starting from the present situation i.e. where fertilizers are a normal and well known part o f the farming environment, and where very substantial fertilizer manufacturing capacities have been established, there i s general agreement that the traditional system o f controls and subsidies i s economically inefficient in many ways. Recognizing this, there have been reform initiatives o f varying comprehensiveness in all five countries. The two most complete reforms have been in Palustan and Nepal, where fertilizer subsidies for farmers and state controls over imports, distribution and farm prices have been abolished. Pakistan still transfers natural gas to domestic urea producers at discounted prices, but this has little or no impact on prices charged to farmers since the local producers must compete with imports that are free o f QRs and subject only to a 5% tariff. Bangladesh has also liberalized its fertilizer market and abolished explicit fertilizer subsidies for farmers, but subsidized transfer prices o f natural gas to local urea producers have allowed urea selling prices which in the past, up to 1996/7 ( the last year for which comparisons have been made), were well below import parity prices. Bangladeshhas also retained QRs on urea imports and various controls over urea distribution. Sri Lanka has comprehensively privatized importing, distribution and production o f fertilizers, and allows imports o f all fertilizers including urea without QRs over a zero tariff. However, it has retained a large subsidy and controlled, low farm prices for urea. Some limited reforms o f its traditional control system started in India in 1992, but were reversed in 1996. Apart from liberalizing influences from other more general reforms', India still operates its traditional comprehensive control system for fertilizers, in which large budgetary subsidies have an essential role. Fertilizers are also still included in the list o f commodities subject to the Essential Commodities Act, which allows the government to intervene at all distribution stages, including importing. Government committees in 1998 and again in 2000 recommended phasing out the subsidies and the general control system, but so far there has been no action. The inefficiencies o f the traditional system o f fertilizer controls and subsidies which have been widely recognizedin SouthAsia and motivatedthe reforms and reform initiatives summarized above, can be grouped into effects in the rural economy, effects on domestic producers, and effects on the government's budget. The following summary i s fully relevant for India's present system, but only partially for the policies followed in the other South Asian countries which have liberalized their policies to varying extents. For the rural economy, subsidized low prices for fertilizers lead to their overuse since the cost to farmers i s lower than the opportunity costs o f the fertilizers, where the opportunity cost i s either the (marginal) cost o f importing or producing them, plus distribution and marketing costs. Subsidies for non- urea fertilizers have now been abolished in all the South Asian countries except India. Urea subsidies were removed in Pakistan in 1996 and in Nepal in 1999, but there are still large direct subsidies o f urea farm prices in India and Sri Lanka. InBangladesh, there i s no explicit subsidization o f urea farm prices, butthere are probably implicit subsidies in the sense that the controlled urea prices of domestic producers are frequently below import parity prices, as a result o f low prices for natural gas supplied to the fertilizer plants. Secondly, episodes o f partial liberalization duringwhich farm-price subsidies were removed for non-urea fertilizers but not for urea, have caused farmers to cut back on the application o f non- nitrogenous fertilizers (mainly phosphatic and potassic) but to further expand their use o f urea. The overuse o f urea in turn has been reported to have had damaging soil quality and environmental effects in some regions. As noted above, all the South Asian countries except India have removed farm subsidies for non-nitrogenous fertilizers: India removed them for a while but then reintroduced them. At present subsidies do not affect farmer choices between nitrogenous and non-nitrogenous fertilizers in Palustan E.g.the removal o f industrial licensingandthe relaxationrestrictions on foreign direct investment. 30 Fertilizer Policies in SouthAsia and Nepal, where both subsidies have been abolished. InIndia both are still subsidized. In Sri Lanka and Bangladesh choices are distorted by subsidies for urea butnot for non-nitrogenous fertilizers. Non-N subsidies removed India 1992 1996:non-N subsidiesreintroduced. Nsubsidies continue Pakistan n.a. 1996:Nsubsidies removed Bangladesh 1992 Indirect (see explanation above) Nsubsidies continue to the present SriLanka 1997 Nsubsidies continueto the present Nepal 1997 1999:Nsubsidies removed *N=nitrogenous A third major inefficiency for the rural economy i s that the traditional system o f controls and subsidies involves uniformpan-seasonal and pan-territorial pricing, s o that neither transport and other distance-related marketing costs nor inventory holding costs are reflected infarm fertilizer prices, leading to obviously suboptimal use o f fertilizers by region and season, as well as making it difficult or impossible for the private sector to operate in the areas in which these pricing rules apply. This i s no longer the case in Pakistan and Nepal, where the rural fertilizer market has been fully liberalized. InSri Lanka, there are no controls over non-nitrogenous fertilizer prices nor over wholesale and retail margins inurea distribution. InBangladesh there are no price controls over non-nitrogenous fertilizers, and the private sector markets urea after it i s sold at a single controlled price at the fertilizer factories. However, in 1998 Shilpireports that ureatraders hadtobe 1icensed, were subjectto various purchase andsale requirements and were allocated market areas in which they had sole marketing rights. H o w this distribution regulatory system inBangladesh has worked out inpractice i s unclear. InIndia, in contrast to the other four South Asian countries, the old system is still fully operative i.e there are detailed controls over the wholesale and retail prices o f urea and non-nitrogenous fertilizers, which involve uniform prices nation-wide and during selling seasons. Fourth, as with any price-based subsidy, most o f the South Asian fertilizer subsidies go to medium and large farmers who buy most of the subsidized fertilizers. A frequently heard argument for retaining the fertilizer subsidies i s that they help small, marginal family farmers who consume most o f their own production and hence are short o f cash and have difficulty in obtaining credit to purchase fertilizers. But there are many less expensive and better targeted ways o f dealing with rural poverty than paying very large subsidies o f which only a very small proportion reaches poor rural families. One that has been recommended by an Indian official committee, i s the issue of coupons to small and marginal farmers that would enable them to purchase fertilizers at unsubsidized market prices. As regards domestic fertilizer production, the traditional fertilizer policies inSouth Asia have also involved high economic costs as a result o f the ways by which import substitution in fertilizer (mainly urea) production has been pursued. The sources o f these economic costs include: 0 Direct government c ontrols over imports which have removed or a t 1east substantially diminished import competition disciplines for the local producers 0 Large input subsidies from low preferential feedstock prices which have been discretionary, plant- specific, and non-transparent 0 Absence o f price competition between domestic producers which must sell at government mandated prices 0 The normal motivation and management problems o f public sector enterprises2 * The poor performanceofpublic sector fertilizer producing firms inPakistani s discussed inFaruquee et a1(1995) 31 Trade Policies in South Asia : Some Key Sectors 0 Cost-plus pricing, especially under the "retention price" system in India (see later discussion in the section on India).in which subsidies paid to individual plants are higher the higher their production costs, and inwhich low cost efficient plants effectively cross subsidize highcost inefficient plants 0 L o w motivation and bureaucratic obstacles to innovation in all dimensions, including products, processes and marketing. 0 In return for protection and subsidies, detailed and intrusive government regulation of firms and plants involvingnegotiation and discretionary decisions with major financial consequences Finally, the traditional fertilizer policies in South Asia have involved high costs to national budgets. InIndia, where the full traditional structure is still inplace, the fertilizer subsidy recognized in the 2000/01 central government budget was 4.2% o f total central government revenue and 0.66% o f GDP. This is without accounting for the substantial non-quantified subsidy from low feedstock prices to the domestic fertilizer industry. Following liberalizing reforms in the other South Asian countries, only Sri Lanka now pays an explicit budgetary subsidy (for urea), in 2000/01 equivalent to 0.21% of GDP. However, there are large subsidies in the form o f low natural gas prices to urea producers in Pakistan and Bangladesh. InPalustan, these subsidies are entirely absorbedby the fertilizer manufacturers, as farm prices o f urea are directly linked to world prices through decontrol o f imports. In Bangladesh, an unknown share i s passed on to farmers in the form o f urea prices which are lower than import parity prices. There have been no budgetary fertilizer subsidies in Nepal after the fertilizer market was liberalized and farm fertilizer subsidies finally abolished in 1999. Pakistan. During the 1970s and 1980s Pakistan subsidized farm fertilizer prices and the government dominated production, importing and distribution. The farm subsidy for fertilizers other than urea (of which the most important i s DAP3)were removed in the late 1980s, but urea continued to be subsidized, with the result that, as in the other South Asian countries, it was overused relative to other fertilizers. The urea farm subsidy was finally removed in 1996. These reforms also allowed unrestricted imports by the private sector over low tariffs (currently 5%). Consequently domestic fertilizer prices have been tracking border prices, DAP since the early 1990s, and urea since 1996.4 Inorder to consolidate the reforms and to guard against "crowding out " effects for the private sector, the Fertilizer Import Department (FID) o f the Ministry o f Food, Agriculture and Livestock (MINFAL) ceased importing in 1999, and is to be c losed as part o f the general agricultural policy reform program. Three provincial government enterprises which used to distribute fertilizers imported by FID (as well as other agricultural inputs) are also to be closed. A public sector firm (National Fertilizer Corporation) owns 5 plants which are responsible for about 40% o f domestic fertilizer production: these are being privatized. This will also involve closing a public sector distribution company which i s a subsidiary o f NFC. As in India and Bangladesh, natural gas i s being supplied to these plants and to the private sector producers at subsidized prices which are far below the opportunity cost o f the gas: the reform program envisages that these subsidies will be withdrawn. This is one o f the major remaining issues inthe sector, although as long as imports remain open and tariffs are low, it does not directly affect farmers since any production cut-backs could be compensated by increased imports. It will therefore be very important to resist pressures to increase tariffs or reintroduce other means o f protection against fertilizer imports which are likely to result from the withdrawal o f the natural gas subsidies'. Other key issues are: 0 Ensuring that entry into private sector importing, wholesale distribution and retailing is not unreasonably restricted and that the distribution network i s competitive. According to Shilpi6, during early 2001 small traders were being excluded by excessive security deposits Diammoniumphospate Shilpi(June2001)p.20 The temptationto do so will beespecially strongwhen sellingthe publicsector plants to privatebuyers, Shilpi(June2001)p.20. 32 Fertilizer Policies in South Asia Ensuringthat importers and the domestic producers observe quality standards, and minimizing the extent to which farmers (especially small farmers) are cheated by adulteration and similar practices. The reform program envisages that a fertilizer unit will be established within MINFAL to deal with quality standards, but doing something about the latter i s obviously muchmore difficult. Resisting pressures to increase tariffs to protect local producers when world prices are low, and resisting pressures to reintroduce farm subsidies when world prices are high. This will mean that farmers and the private manufacturing and trading sectors will have to learn to live with and manage the large swings inworld fertilizer prices that have characterized world markets inthe past and which will probably continue inthe future. One o fthe normal functions o f traders is to deal with uncertainty and changing prices, and if they function efficiently and competitively they will absorb the fluctuations to some extent and partly insulate the farmers. Nepal.' UntilNovember 1997 the import and distribution o f fertilizers inNepal (until 1999 there was no domestic production) was controlled by a parastatal, the Agricultural Inputs Corporation (AIC). For many years AIC distributed the imported fertilizers at controlled, heavily subsidized prices, plus an additional transport subsidy in remote hill and mountain regions. InNovember 1997, competing private imports were allowed, the subsidies on non-urea fertilizers were abolished, and a four stage phase-out o f the urea subsidy over two years commenced. The urea subsidy was finally eliminated inNovember 1999. During these two years bothtotal fertilizer imports and the private sector share o f imports, increased substantially with apparently favorable effects on agriculturalproductivity and production. For a while, in late 2000, it appeared that there might be a repeat o f the 1995 "urea crisis" in Bangladesh, in this case caused by an AIC decision to not fully pass on the effects o f increased world prices and the final withdrawal o f the urea subsidy to farmers, but to largely absorb these cost increases and to sell at low prices which would have made it unprofitable for private firms to compete. The crisis was averted inpart because o f working capital shortages at AIC which kept the amounts it could import low and allowed other importers t o return t o the market, and by increased penetration o f subsidized illegally imported Indian fertilizers. For a number o f reasons the Nepalese fertilizer reforms appear t o have been strongly w elfare improving. First, the substantial budgetary cost o f the subsidy has been eliminated. Secondly, the Nepalese government subsidy was replaced to some extent by Indian govemment subsidies on illegally imported fertilizer from India'. This trade had always existed, especially inthe border Terrai areas, where prices on the Indian side reflect both the general system o f controlled, subsidized prices and a variety o f additional subsidies (both central and state government) for particular groups e.g. the central government's small farmer input subsidies, marginal farmer input subsidies, scheduled castes and tribes input subsidies. Not surprisingly, when the Nepalese urea subsidies were withdrawn and prices inNepal went up, the volume o f subsidized Indian urea smuggled into Nepal increased. Based on farm-level surveys, one estimate i s that in 2001 about 60% o f fertilizer consumption in Nepal was o f illegally imported Indian fertilizersg. Thirdly, under the controlled system managed by AIC reliability o f delivery was a major problem and i s reported to have improved with the entry o f legal private importers. Fourth, rent seehng and corruption associated with excess demand for subsidized fertilizer allocated by AIC has 'Thefollowing account o f Nepal's liberalization o f its fertilizer market mainly relies on Shrestha (December 2000), a report on the government agriculture reform program: Nepal, Ministry o f Agriculture and Cooperatives and Asian Development Bank (2001), and personal communications from Sugandha Shrestha. * Fertilizer exports from India require and export license, precisely to prevent the benefits o f the Indian subsidiesbeing passed on to fanners inneighboring c ountries. But in areas s uch as those along the India-Nepal border this r estriction is impossible t o enforce. MinistryofAgriculture and Asian Development Bank (2002). 33 Trade Policies in South Asia : Some Key Sectors been eliminated. lo Fifth,as regards urea, the quality andreliability of the brands that are legally imported from third countries are reported to be markedly better than most o f the Indian brands, and some are smuggled into India where they are preferred by some farmers even though they sell for considerably higher prices than Indianbrands. This trade is presumably welfare -improving for both the Nepalese traders and the Indian farmers, although it would be more efficient if the Indian import controls were lifted so that Indian farmers could be supplied directly rather than by the roundabout route throughNepal. After some delays, the reforms in Nepal privatized AIC, which has a large distribution network throughout the country, and the subsidizing o f transport costs to remote areas was transferred to general district agricultural development programs. Fertilizers imported under a Japanese grant program which were previously distributed by AIC and used to cross subsidize its other imported fertilizers, are now being auctioned by the govemment to the private sector. Some remaining issues are: 0 The impact o f the subsidy removal and privatization o f the import trade on small and marginal farmers. One viewpoint on this i s that small farmers are benefiting owing to improvements in availability when the fertilizers are needed. It i s also pointed out that small marginal farmers were hurtmost inthe pastwhen scarce supplieswere rationedbyAIC. Smuggledlow cost Indianfertilizers also continue to be available. 0 The viability o f Nepal's two new fertilizer plant, established in 1999 0 H o w to ensure reasonable quality and to minimize adulteration and cheating Sri Lanka". There were thoroughgoing govemment controls over all aspects o f the fertilizer industryduringSri Lanka's import-substitutionplanneddevelopment period. As inthe other South Asian countries, this included protected and subsidized productionby public sector firms, a govemment import monopoly, and heavily s ubsidized farm prices. M o s t o f the s ubsidized fertilizers (principally urea) l2 went to rice growers and was considered to be a key component in the drive for self sufficiency in rice. N o changes were made to these policies duringthe first phase o f Sri Lanka's general liberalizing reforms which started in 1977. Fertilizer reform started in 1990 and proceeded thereafter slowly and somewhat erratically, presumably reflecting its political sensitivity. The main developments have been: 1990-94: removal o f the fertilizer farm price subsidies (all fertilizers, including urea) in 1990, but reintroduction in 1994. 1994 and 1996: privatization o f the public sector fertilizer producing firms. 1997: farm price subsidyremoved for non-nitrogenous fertilizers 1998: State Trading Corporation import monopoly removed and private sector imports allowed Since 1998: all fertilizer imports allowed over a zero tariff. 2002: In the 2002-03 budget, it was announced that direct subsidies to importers and domestic urea manufacturers enabling them to sell urea at controlled prices, will be replaced by a system o f coupons with cash values that are issued to farmers, which they will be able to use to purchase fertilizers and other farm inputsat market prices. As o f October 2002, this new policy hadnot been implemented. At present fertilizers are imported duty free without QRsand compete with domestic production by four now private ex-PSUs. Domestic producers and importers receive subsidies which enable them to sell at controlled prices which are lower than production costs and usually lower than cif prices paid by the importers. Whether there i s some protection for the local producers would mainly depend on the terms on which they receive their raw materials (e.g. naphtha) and on whether the urea subsidy i s paid in such a loAccording t o theNepal Ministryo f Agriculture & ADB report (2001, C h 13. p.8) A I C was only able t o import asmuch fertilizer as was consistent with its annual subsidy allocation from the central govemment budget. It seems that this allocation was frequently inadequate to meet demand at the subsidized prices, inwhich case the subsidized supplies were allocated by AIC. This section mainly relies on World Bank, 2002. Sri Lanka. Promoting Agricultural and Rural Nonfarm Sector Growth; Shiki (1995) and Central Bank o f Sri Lanka, Annual Report 2001. At present about 75% ofthe urea used inSri Lankagoes to rice farmers (World Bank, 2002, p. 23) 34 Fertilizer Policies in SouthAsia way as to be neutral between them and importers. As in India, Bangladesh and Nepal, keeping the farm subsidy for urea while removing it for other fertilizers has created unbalanced use and soil quality problems, but in principle this distortion would disappear if the coupon system i s implemented, since in deciding how to spend the cash value o f the coupon farmers would take account o f the market price o f urea as well as the market prices o f the other farm inputs for which the coupons can be used (e.g. seeds, pesticides etc). However, the subsidy i s very large: in 2001, the retail price o f urea was reported to be approximately $US 78NT which was probably at least 50 percent or more below import parity prices at the farm, and the total budgetary subsidy was equivalent to approximately 0.21% o f GDP13.As i s also the case in India and Bangladesh, medium and large farms use most o f the urea and therefore get the most benefit from the subsidy. Another potential advantage o f a coupon system, i s that it mightbe possible to target the subsidy to small, poor farmers while reducing or eliminating the coupon values received by large farmers14. Inthis way it could also be used to reduce the total budgetary cost o f the subsidy while at the same time not distorting fertilizer and other inputprices. Bangladesh". Until 1988, production, imports, distribution and pricing o f fertilizers were controlled by the government. The government role included subsidized prices for farmers, large natural gas input subsidies for public sector producers under the control o f the Bangladesh Chemical Industries Corporation (BCIC), and control o fbothwholesale and retail distributionby the Bangladesh Agricultural Development Corporation (BADC). Starting in 1988, a series o f liberalizing reforms allowed the private sector into retail distribution and into importing and wholesaling o f fertilizers other than urea. Subseqently, subsidies on two major non-nitrogenous fertilizers were removed in 1992, and the private sector was allowed t o participate inurea wholesaling, although urea prices were still s et w ell below import parity levels. Then in 1994/95 a series o f uncoordinated and seemingly opportunistic, short sighted decisions by BCIC and BADC led to serious shortages o f urea, farmer protests, and a major reversal o f the liberalization program16. This included the reintroduction o f controls over urea distribution. At present, the situation seems to be as follows: 0 Urea production by six public sector subsidiaries o f BCIC, plus one govemment joint venture with a Japanese firm. These plants use natural gas at heavily subsidized prices (in 1996/97 about 60% below the price charged to other users). Urea accounts for about 80% o f total fertilizer consumption. Production capacity i s sufficient to fully meet domestic demand and there are usually no imports. 0 No direct budgetary subsidization o f the farm urea price, but indirect subsidization through low controlled ex-factory prices made possible by the natural gas subsidies to the urea producers. According to estimates by Shilpi (1998) between 1987/88 and 1996/97 these prices were well below estimated import parity prices, in 1996/97 by about 40%. The extent o f this subsidy at farm level since 1996/97 has not been quantified". 0 Controls to prevent exports o f urea which benefit fi-om the natural gas subsidies when world urea prices would make them profitable 0 Farm prices for non-nitrogenous fertilizers (potassic and phosphatic) which are imported and distributed by the private sector, approximately tracking import parity prices plus distribution margins l3 Ibid l4 Coupons for small and marginal farmers were suggested by an Indian government committeeas away of helping small farmers cope with the its recommendedphase-out of India's fertilizer subsidies. Government of India, Economic Survey 2001- 2002 p.198. This sectionmainly relies on Shilpi (1998) pp 24-32, Dowlah (2000) andWorld Bank (2002). The "urea crisis" i s described in more detail in Shilpi (1998) and Dowlah (2000). Readingbetween the lines o f these two accounts, strongly suggests that it was an outcome of very poorly managed and conceivedpartial privatization and liberalization of the ureamarket. The resultingfarmer protests and political backlashhavemade it difficult to reintroducethe reforms. l7 According to the BangladeshMinistry of Agriculture website (http://bangladeshgov.org/moa)"The Government is providing no subsidy on fertilizers at the farm level and is sellingall fertilizers at full cost pricing". It i s not clear what this means: it most likely just means that there is no further subsidy after the urea is purchased from the urea manufacturers. But the Bangladesh public sector producers are subsidized, by the low price they pay for their natural gas. This is compatiblewith a substantial farmer subsidy ifas aresult farmprices are lower thanimport reference prices. 35 Trade Policies inSouth Asia : Some Key Sectors 0 Private sector wholesaling and retailing o f urea, but subject to regulatory controls which specify exclusive distribution zones for wholesale distributors. 0 Smuggled imports from India o f low priced subsidized fertilizers, especially inborder areas 0 Government buffer stock operations Unless there have been major changes since the Shilpi's and Dowlah's papers were written, Bangladesh could still be following economically wasteful fertilizer policies, the effects o f which could include overuse o f nitrogenous fertilizers, subsidized non-transparent PSU production hiding major inefficiencies including lagging production technologies and failure to introduce new products, and the stifling o f competition in distribution. To better understand the present situation, it would be helpful to update Shilpi's comparisons o f farm level fertilizer prices with import parity prices (hers go up to 1996/97 only), to undertake an economic cost-benefit analysis o f the public sector fertilizer production, and to analyze the present situation in fertilizer wholesaling and retailing. India. Fertilizer policies inIndia have had two principal objectives: (1) reduced reliance on imports by promoting and protecting domestic production (2) low, subsidized uniform selling prices to farmers The principal means for achieving the first objective have been direct controls over fertilizer imports by parastatal import monopolies, the establishment o f public sector fertilizer producing firms'*, and supply o f major fertilizer inputs(especially naphtha and natural gas) to Indianproducers at subsidized prices. In order to achieve the s econd objective there i s a large annual c entral govemment budgetary subsidy, one component of which is paid to domestic fertilizer producers to make up the difference between their controlled selling prices (called "retention prices") and the fixed, generally much lower farm prices, and another component which i s paid to importer/traders to cover the difference between the cost o f imported fertilizers and the fixed farm price. This subsidy i s one o f the largest single components o f the central government budget, in 2001/02 estimated at Rs 14,170 Crore or approximately $US 2.95 billion. In 2000/01 it was 4.2% o f total central govemment tax revenue, and 0.66% o f GDP. This i s without allowing for the subsidized selling prices o f the petrochemicalinputs (mainly naphtha and natural gas) used by the fertilizer producers. Ifthese input prices were not subsidized, fertilizer production costs and retention prices would be higher and the explicit budgetary fertilizer subsidy would need to be correspondingly greater inorder to keep the farm fertilizer prices at the same level. These fertilizer policies were initially not affected by India's 1991/92 economic reforms: the only change was indirect, through the lifting o f industrial licensing which made life somewhat easier for the private fertilizer producers, even though they were still regulated by the Department o f Fertilisers in the Ministry of Chemicals and Fertilizers. However, there was a major change in August 1992, when subsidies for phosphatic and potassic fertilizers were discontinued and imports decontrolled. The decontrolling o f imports meant that the parastatal import monopoly was removed and private sector imports permitted over a zero tariff, and that domestic fertilizer producers would have to adjust their selling prices to compete with these imports. The removal o fthe subsidy was followed by a sharp increase inthe farmprices ofthese fertilizers, particularlythe price ofDAP(Diammonium Phosphate) when there was a jump inworld prices during 1994/95. Apart from the resulting farmer unhappiness, this partial liberalization o f the fertilizer market with high subsidy rates remaining on urea, led to inefficient fertilizer choices with substitution o f urea for non-nitrogenous fertilizers. The rational economic solution would have been to similarly decontrol urea and also remove the urea subsidy, but instead, in 1996 subsidies (but not import controls) were reintroduced for the non-nitrogenous fertilizers. Since 1996/97, the non-nitrogenous fertilizer subsidies have increased in every year except one: in 2001/02 they have been estimated to account for about 40% o f the total budgetary fertilizer subsidy, which was made up approximately as follows: '* At present PSUs account for about 30% of total fertilizer production ( about 15 million tons annually). The rest is producedby cooperatives (20%) and private firms (about 50%). 36 Fertilizer Policies inSouth Asia Subsidy for Rs Crore $US million "Controlled imports" i.e.mostly urea 500 104 imported by MMTC" to make up the difference between production and domestic demand "Controlled domestic production" i.e. 7956 1658 mainly domestically producedurea "Decontrolled fertilizers" i.e. mainly 5714 1190 imported and domestically producedDAp and MOP TOTAL 14170 2952 Source: Government o f India, Economic Survey 2001-2002, Table 8.17 In2001/02, the per ton subsidies were equivalent to the followingpercentagesofthe controlled maximumretail prices t o farmers: urea 8 9%; locally produced DAP 4 2%; imported DAP 17%; MOP 75%.20That is, without the subsidies, if the full accounting costs o f Indian produced fertilizers had been covered, farm retail prices would have been about 30 to 50 percent higher. However, this does not mean that farmers were subsidized to this extent with respect to the intemational prices o f these fertilizers, because, depending on the level o f intemational prices, some part o f the subsidy covers the excess o f domestic production costs over import prices. In 2001102 for example, the weighted average urea retentionprice was about $US 18lcompared to cif import prices o f about $US 120. Hence, ifworld prices at the Indian border plus port, domestic transport and marketing costs, are taken as the basis for estimating the allocation of subsidies, in years when world prices are low a higher proportion o f the subsidy will go to domestic producers and a lower proportion to farmers, and conversely when world prices are high. These relationships are illustrated for urea in Figs 11.1 and 11.2, which are based on data from empirical studies o f this topic by Ashok Gulati and Sudha Narayanan covering the period from 1981/82 to 1998199'l. Expressed in constant Rupees, there was no clear trend in urea reference prices during this period, but strong cyclical pattems and s ome 1arge y ear-to-year changes. Duringthe 1980s and up to 1992, the impact of changes inU S dollar prices on Rupee reference prices was affected by the large and continuing Rupee devaluation which started in about 1985: in particular Rupee reference prices rose considerably between 1985/86 and 1989/90, by almost 40% while U S dollar border prices remained about the same. After 1991/92 the real Rupee exchange rate has not changed much so that changes in Rupee reference prices have been closely aligned with changes inU S dollar border prices. The pattem o f large cyclical and year to year changes inworld urea prices urea has continued since 1998/99, but again there i s no apparent longer runtrendz2. Fig 11.2 shows the relation between Rupee import reference prices o f urea during this period, farm prices, average retention prices, plus for the last four years maximum retentionprices. All prices are adjusted for inflation by the Indian wholesale price index. The diagram illustrates a few key points about the urea subsidy system: . Inreal terms, urea prices paid by farmers declined very substantially during the 12 years 1981/82 to 1993194, by more than 50 percent. After that, up to 1998199they remained about the same l 9Metals andMineralsTradingCorporationLtd 2o Calculated fromsubsidy andpricedatainGovernment of India,Economic Survey 2001-01,pp 196-197. Gulati, Ashok and SudhaNarayanan(2000). "Demystifying Fertiliser andPower Subsidies in India", Economic and Political Weekly,March4, pp 784-794. 22 Urea Futures, Editorial 16 May 2002. 37 Trade Policies in South Asia : Some Key Sectors . Weighted average retention prices23o f urea producers declined from the mid 1980s up to about 1995/96.Between 1987/88 and 1995/96the reduction was about one quarter. This probably reflected . increased operating efficiencies o f new larger fertilizer plants, but cost and retention price changes were also affected by changing inputprices which were inturn affected by input subsidy policies. Between 1987/88 and 1998/99 the absolute gap between retention prices and farm prices remained about the same in terms o f real Rupees, but increased as a proportion o f retention prices. In 1998/99 . the farmpricewas about 45% lower than the averageretention price, just slightly 1ower than the discount farmers receivedin 2001/02notedpreviously. During the 1980s average retention prices exceeded import reference prices by a wide margin, indicating that on average the local fertilizer producers were protectedby the import control system. By contrast, during a three year period of highworld prices during the 1990s (1994/95 to 1996/97) average retention prices were well below reference prices. The data graphed in Fig 11.2 on its own suggests that on average the Indian ureaproducers were competitive with imports duringthe 1990s, but as noted previously, this is subject to a major caveat regarding input subsidies. Gulati and Narayanan have adjusted for this, and found that in 1996/972 0 o f 3 1urea plants, accounting for about 68% o f Indian production, would have been competitive with imports24. The number o f competitive plants and the proportion o f competitive production would be lower with lower world . prices than the 1996/97prices, however: perhaps about half the plants and half the production at the average level o f world prices duringthe 1990s. The Indian retention price system for the fertilizer manufacturing industry i s plant-specific and cost- plus. That is, subject to certain guidelines on capacity utilization and some other parameters, a "normative cost o f production" i s estimated and a price fixed to give a 12 percent post tax return on net worth. Since the fertilizer plants differ in many respects, notably as regards feedstocks, technology, scale, location and vintage, there are very large differences in the resulting guaranteed retention prices. Before adjusting for input subsidies, in Gulati and Narayanan's sample o f 34 urea plants, the highest retention price was three times the lowest. After adjusting for the input subsidies and reranking the plants by the adjusted cost, this difference increased to a factor o f 3.4. To give some idea o f the wide range o f production costs among urea plants, the highest retention price in each year during 1995/96-1998/99i s graphed inFig 11.2. It i s apparent from this, as emphasized by Gulati and Narayanan, that the Indian system has created and i s supporting a substantial group o f high cost inefficient urea plants that would either have to restructure or close down ifthe industrywere opened to competition and the two key subsidies removed i.e. the explicit central government fertilizer subsidy, and the implicit subsidy that results from the under-pricing o f inputs. India's fertilizer policies have been highly successful in their own terms. Indian producers have replaced most imports and presently supply about 87% o f demand, compared to 77% in 1990/91 and 52% in 1980/81, while as intendedfarmers are benefitingfrom low subsidized fertilizer prices which have made it worthwhile for them to increase yields through intensive fertilizer use. The low fertilizer prices also benefit small, marginal farmers who consume most o f their own crop and who have limited cash resources to buy it. But these successes have come with very considerable economic costs, which in recent years have been more widely understood and accepted than was the case inthe past. Reflecting this new understanding, in February 2000 a government Expenditure Reforms Commission set up to review all non-developmental government expenditure, recommended a four stage decontrol program to take place over five years, starting in February 2001 and concluding in 2006.25 The recommended reform program included phased increases inretail prices and corresponding reductions in subsidies, initially using average retention prices for groups o f urea plants before moving to full decontrol o f urea prices ~ 23 The average retentionprices estimatedby Gulati and Narayanan are weighted by production. In 1998199 there were 34 urea plants intheir sample. 24IbidTable 3(b) 25The recommendeddecontrolprogrami s summarized in Govemment o f India, Economic Survey 2001-2002, Box 8.2 p. 198. 38 Fertilizer Policies inSouthAsia with import competition, a separate freight subsidy for distant areas (e.g. the north east states and J&K), and the issue o f tradeable coupons for fertilizer purchases by small and marginal fanners. However it retained the objective o f self sufficiency and for that purpose recommended some tariff protection and continuing input subsidies on naphtha and natural gas. These recommendations ran into strong opposition from the fertilizer industry and fanners, as well as bureaucratic constituencies, especially within the Department o f Fertilizers and the Ministry o f Agriculture. As o f October 2002 none o f the principal recommendations had been implemented. Fig 2. 1 India, Urea:Average US Dollar Import Price and Average Rupee Import Reference Price, 1982-1999(in constant 1981 prices) 180 - +US dollar import price 1981 $US/MT CIF India 3000 i- 2 .- Import reference price India 1981 RslM U tI2500 2 - 4 2000 +j-C 3 1500 .z8 e 80 1 7 co S I 60 8 - - 1000 E I I 2 500 9 -2 0 0 39 TradePolicies in SouthAsia : Some Key Sectors Fig2.2 Indian urea prices 1982-1999 (constant 1980/81 RslMT) 3500 3000 4 . + z 2500 1 . 1 v 2000 00 0 1500 - 7 1000 - 500 1 Reference prices -Farm prices -Average retention prices 9 Maxjmum retention price I 40 Chapter 3: Textiles, Garments and the MFA Phaseout The Setting Exports o f Textile and Clothing (T&C) emerged as a significant foreign exchange eamer in South Asia countries, in large part, due to the quota system under the auspices o f the Multi-Fiber Arrangement (MFA) governing world trade in T&C. The MFA was designed to help a phased and less disruptive decline o f the T&C industry in the USA and EU while giving space to the low-cost economies o f the developing world. The quota system i s being phased out by 2005 as part o f the Agreement in Textiles and Clothing (ATC) o f the Uruguay Round (UR) trade negotiations. The dismantling o f the quota system i s expected to increase the market access opportunities for T&C products from South Asia countries as well as pose serious challenges from unbridled competition in a quota-free regime. However, South Asian countries are not evenly poised to reap the benefits from the larger T&C market or to cope with the new challenges. Sri Lanka, Bangladesh, and Nepal were the clear beneficiaries of the quota system, growing into major exporting countries o f readymade garments (RMG) in 1990s, after literally starting from scratch. Post-MFA challenges will be far greater for these countries than to India or Pakistan, which were endowed with large competitive primary textile sectors, and which appeared to have been constrained by the quota system, in gaining greater market access in the expanding market for T&C products. Thus, it i s pertinent to note, that the post-MFA world presents non-uniform challenges and opportunities to the countries o f South Asia. Globaltrends in trade andproduction World trade in T&C has been undergoingmajor structural changes inthe last decade in terms o f composition.' Table 111.1shows that world trade inT&C was around $356 billion in2000. O f this, over half (55%) was accounted for by trade in clothing and apparels (or garments), and the balance by trade in textiles. While trade in textiles accounted for about around 2.5% o f world merchandise trade (3.4 % of world exports of manufactured goods), trade in clothing exceeded 3% o f world merchandise trade (4% o f world exports o f manufactured goods). These figures indicate the share o f clothing and apparels to be the growing segment o f world merchandise T&C trade. Global apparel exports are expected to rise to some $350 billionby 2005-6. World imports o f T&C remained fairly steady from 1998-2000 (Table 111.2). Within T&C imports however there i s a distinct trend. Textile fibers barely accounted for about 6% o f world imports, whereas textile yarn and fabrics accounted for over a third (39%), and apparels and clothing accounted for over half (55%). These disaggregated figures o f T&C imports, besides reinforcing the global importance o f world trade in apparels and clothing, indicates that within textiles, textile fabrics and made-ups are the next important segment o f the world T&C industry. The share o f developing countries in world T&C was approximately around a third (30%) o f world exports, with C hina emerging as a major T&C exporting nation. A 1ook a t the world's 1eading apparel exporters in the 1980s and 1990s reveals both a broadening and deepening o f global sourcing networks, ifwe take $1 billion o f apparel exports as a threshold for major players inthe global industry.2 In 1980, only People's Republic of China (PRC), HongKong, SouthKorea, Taiwan, andU S were major global apparel exporters. By 1990, Indonesia, Malaysia, and Thailand in Southeast Asia, and India and '' AsianTextileBusiness, various issues. IntemationalTrade Center 2000. Gereff, Gary (February 2002). Trade Policies in South Asia : Some Key Sectors Palustan in South Asia were added to the list. By 1998, the new members included the Philippines, and Vietnam in Southeast Asia, Bangladesh and Sri Lanka in South Asia. Within the South Asia region, India and Palustan export significant amount o f textiles -with Pakistan being particularly successful in exporting textile made-ups in recent times, while India and Bangladesh are significant exporters o f clothing and apparels. Bangladesh has emerged as the largest single "Least developing country" exporter o f apparels and clothing (both woven and knitwear- although particularly stronger in knit-wear goods) in the last few years3 Exports o f apparels have been growing significantly in Sri Lanka and Nepal as well. A notable trend in the world T&C industry- as in other industries- is the globalization of production activities increasing the opportunities for developing countries to participate and gain from trade.4 Globalization - defined as slicing up o f the production chain- provides greater room for developing countries to specialize in the labor-intensive stages o f the manufacturing process o f a commodity, which as a whole mightbe capital-intensives5The main factors which have contributedto the globalization o f world apparel industry are the labor-intensive nature o f apparel production technology, the loss o f comparative c ost advantage of developed c ountries, search for production sites with lower labor costs, and the shift in apparel exports fi-om more restricted to less restricted among the developing countries due to the discriminatory nature o f the restrictions imposedby Multifibre Arrangement (MFA).6 It i s reportedthat roughly halfo f the total productioncapacity inthe apparel industryhas shiftedfrom the developed to the developing countries over the past three decade^.^ Because of their lower wages relative to developed countries and emerging economies in East Asia, developing countries have a greater production cost advantage in the more labor intensive apparel components o f the T&C industry than in fibers or textiles. For this reason, the apparel exports o f developing countries have been growing much faster than their fiber, textile yarn, and fabric exports. Shifting Geographical Location Pattern of the T&C Industry. Alongside these T&C industry composition changes, are the changes in the world geographical or spatial location pattern o f T&C industries,inresponse to shiftingcomparative advantage and the effects o f world T&C quota restrictions. These changes will have implications for the T&C industries in South Asia. Despite the binding quota constraints and the adjustment problems associated with the T&C industry in developed countries, the labor intensive sectors o f the T&C industry, especially garments, have been moving away from highwage developed countries to low-wage developing countries. There i s also a trend for relocation o f apparel industriesfrom the highwage emerging economies o fEast Asia- particularly South Korea and Taiwan- to regions with relatively lower wages, but which have (or at some point inthe past had) less bindingquota restrictions. The South Asian countries- especially Bangladesh, Sri Lanka, and Nepal- have benefited from this worldwide relocation o f T&C activities. At the same time, the more developed T&C exporters (such as Malaysia) are concentrating on the quota-restricted higher quality, higher priced T&C products in the production o f which their relatively highwage levels puts them at less o f a disadvantage inrelation to the lower wage developing countries. But after the phase out, this segment of the industry -higher priced and quality apparel and textile Asian Textile Business. Gereffi andKorzeniewicz(1994) Inthe apparelindustry,globalizationofproductionactivitieshas meant that agarmentcanbe designedinNew York, produced by usingthe fabric madeinIndiaor China, cut inHongKong, andassembled inBangladeshor Nepal, for eventual distribution in the UnitedKingdomor the US. 'Ramaswamyand Gereffi (2000). Hartmann(1993). 42 Textiles, Garments and the MFA Phaseout products- will no longer be protected by quotas for any country. The quota phase out will hence provide a major market opportunity for the low-wage producers inhigher value-added T&C products as China i s expected to be a major competitor for T&C products from South Asia. China / Hong Kong i s currently the world's largest exporter o f garments, with an 18% share in total world export^.^ China's T&C exports are largely in the low and medium end segment o f the market as are the exports o f the S outh A sian economies - although C hina has been relatively more s uccessful indiversifying into high-valued added T&C products- particularly from the China-origin T&C products from Hong Kong. China's accession to WTO, the guarantee o f minimumT&C quotas for China's T&C products under the Agreement on Textiles and Clothing (ATC), and its commitments to very low bound tariffs which China agreed to as part o f its accession requirements, i s expected to strengthen China's competitiveness in all segments o f the T&C industry.Another 1ow wage East Asian c ountry which i s likely t o emerge as a formidable competitor for T&C products from South Asia i s Vietnam which, although not a member o f WTO, i s increasingly being integrated into the global economy through the US-Vietnam bilateral trade agreement in2001. China's accession to WTO can however be an opportunity for the trade prospects o f T&C products from South Asia." One, as part o f its accession requirements, China i s committed to greater integration with the world economy, and this integration extends to T&C products as well. China's commitment to reduce imports tariffs on yam, clothing, and textile products by 2004 represents a huge market access potential for exports from South Asia. Two, China's commitment to remove the yam export quota as a precondition for its accession i s boundto benefit countries which import yam. Also, South Asia's T&C industries can get some respite for malung significant adjustment intheir respective T&C industries, due to the stringent accession conditions that China has agreed to for its membership to WTO". Under China's accession conditions, importing countries can impose safeguards against surge o f imports from C hina for a specified period o f time f r o m the time o f C hina's entry t o WTO. The specified time 1imit v aries across c ountries as it was detennined o n the basis o f bilateral accords between China and the respective WTO member countries. For T&C products, these safeguards by member countries against Chinese imports can be imposed under two categories: Under the "Textile Safeguards'' category, countries can impose safeguards on T&C imports from China ,ifthese imports are deemed to cause "market disruption", for anywhere from four to eight years from the date o f China's accession." While the "Textile Safeguards'' pertain specifically to T&C products, under China's accession conditions, member countries can also impose safeguards on products from China under the "product- specific safeguard'' category. These safeguards which can be imposed for up to 12 years from the date of China's accession into WTO, differ from "Textile Safeguard" inthat they can be imposed on any product- including T&C products. The presence o f these safeguards which China has acceded may well undermine the potential Chinese competition inthe coming years. A distinct "regionalisation" trend is also evident in the consolidation o f regional sourcing structures to take advantage of geographical proximity inthe two largest T&C markets- U S and EU, with implications for countries in South Asia. Countries inAsia are ingeneral becoming much less important * * International Trade Center (2000). WTO Annual Report (2002) Based on 1998 Comtrade Database. loEglin, WTO Secretariat 2000. Lardy, Nicholas, 2001. The time limit for countries varies, since they are based on bilateral accords (Eglin, WTO 2000). 43 Trade Policies in South Asia : Some Key Sectors inUS apparel ~ourcing.'~Mexicoisnow the leadingexport supplier for the US marketinthe wake ofthe North American Free Trade Agreement (NAFTA). The fastest growing T&C suppliers in U S are the Latin American and Caribbean countries including Honduras, El Salvador, Dominican Republic and Jamaica. The U S market i s clearly showing a trend favoring suppliers located in the Westem hemisphere at the cost o f Asian suppliers, as indicated by the relatively lenient Rules-0f-Origin requirements for the special trading arrangements that U S has entered into with countries in the Western Hemisphere in the last few years.14 This trend i s expected to intensify with the additional preferential benefits provided to these countries with the passage o f the United States Trade Development Act o f 2000 discussed be10w.l~ Inthe case ofthe EU,the sourcingofclothing isbeinggraduallydivertedto Eastemcountries and the countries o f the Mediterranean rim. Two factors have contributed to this: One, the low labor costs and Two: the prospects o f reduction in transport costs and reduced delivery time associated with geographical proximity o f these countries. Moreover, the EUnations have established what are known as Outward-Processing Trade (OPT) to shift apparel production from high costing Westem Europe to low costing Eastern European nations. OPT, regulated inEU since 1982, i s the practice by which companies export fabrics, or parts of garments, to be further processed in a third country and then re-imported as finished garments in an EU country.'6 These rules create incentives to use inputs (yam or cloth) that originate within the region, since trade policy inEUdiscourages the shift o f textile production. Ifnon EU fabrics are used in OPT, they are penalized by a tariff o f 14 percent levied on their re imports. The level o f tariff duties offsets the advantage o f lower production costs, This facility i s believed to have an impact on the sourcing operations o f EU, and thereby the shifting o f trade in the 90s away from Asian suppliers." The presence o f African (excepting for Mauritius) and Middle East countries in the U S and EU market have not been very significant as yet, despite the presence o f the Lome Convention providing preferential access to products from Africa inthe EUmarket. This however i s likely to change under the combined influence o f duty-free access and rules-of-origin relaxation conditions under the Africa Growth and Opportunity Act (AGOA) in US, and duty free access for less-developed countries under the "Everything-But-Arms" initiative o f EU.18Likewise, the presence o f Middle East countries-particularly Jordan- i s likely to change with the passage o f the US- Jordan bilateralFree Trade Agreement. Inthe new global market environment of the post-MFA, the following distinct trends are most likely: (a) T&C industries in medium- and high-cost countries (US and EU) will shnnk and these countries will no longer be importing textiles or exporting garments, which they still do. (b) established textile exporting countries in South Asia (India and Pakistan) will be exporting more garments (in addition to China, Hong Kong) in a quota-free environment, and (c) new exporters (Bangladesh, Sri Lanka, Nepal) have opportunities to further augment RMGexports, but Sri Lanka i s poisedto outperform Bangladesh or Nepal, because it has the best image among South Asian suppliers o f product quality and consistency, there has been substantial transfer o f technology and marketing expertise due to the large FDIpresence inthe sector, andit has a fairly open trade regime for inputso fyarn and fabrics. l3 G ereffi (2002). T he four c ountries PRC: Hong Kong, China: Korea and Mexicowere core US suppliersduring the 1ast decade.Now only Mexico andPRChold that distinction. l4 Rules-of-originrequirementsinUS andEUare discussedbelow. l5 United States- CaribbeanTradePartnershipAct (2000) l6 Gereffi(2002) Spinanger (2000). BothAGOA and `Everything-But-Arms" initiatives are discussedbelow. 44 Textiles, Garments and the MFA Phaseout PreferentialTrade in Textiles and Clothing GSP. GSP i s the scheme by which developed countries -especially U S and EU- provide preferentialmarket access to goods from eligible developing c ountries. P referential access c an either mean quota-free status, and/or market access at preferential tariffs - as compared to the MFN rate- or duty-free status for goods from eligible countries. Preferential tariff rates and duty free status for the beneficiary countries allow the importers from the preference granting countries to claim duty drawback on imports from beneficiary countries, thereby providing incentives for importers to source imports from beneficiary countries. The GSP preferences grantedby bothU S and EUare country and product-specific, that is, they accrue to imports from selected countries, and selected products from eligible countries. There are however, significant differences in the eligibility criteria used by the two preference granting countries in terms o f product coverage, the types o f preferences granted, and Rules-of-origin (Roo) requirements for eligibility. USandEUGSP."The GSP status inboththe US andEUare basedon income criteria (specified interms of per capita income). Countries whose per capita income are below a level specified by the World Bank for three years in a row are eligible for GSP benefits. All the five countries o f the region qualify for GSP status based on the income criteria. However, U S GSP system (as does EU) has a product criterion as well, specifying which products are eligible for GSP status. T&C products are specifically prohibited in US. This means that even if c ountries qualify for GSP preferences based on income criteria. as i s the case o f S outh A sia countries, T&C products from these countries would still be subject to quotas and the specified MFN tariff rate for that product category in US.2oThe U S GSP expired in 2001, and has not been renewed, although legislation to renew the programwith retroactive effect i s under consideration incongress. The EU GSP system has been in effect since 1971, and in view o f the importance o f EU GSP system to the regional countries, the EUGSP (2002) i s discussed in detail.'l EUhas an income category for GSP eligibility as does US, and all five countries o f South Asia qualify for EU GSP based on income criteria. EU system has a product criteria as well, and the extent o f GSP benefits varies across products. The EU system has no quantitative restrictions on products from eligible countries. That is, products from beneficiary countries face no quotas in EU. The EU system provides product-specific tariff preferences as well, and these preferences are calculated as a percentage o f the MFNrate. Products are classified as sensitive and non-sensitive for the sake o f GSP preferences. On non- sensitive products (numbering 3300), beneficiaries get duty-free access in addition to quota-free status. For sensitive goods (numbering 3700) - and this includes T&C products as well, beneficiary countries get preferential tariffs as compared to the MFN rate, and quota-free access. In general, for most sensitive products, preferential tariffs- linked to the MFN rates- are reduced by a flat percent o f 3.5 percentage points.22An exception i s the preferential tariffs for T&C products, whose duty i s reducedby 20% o f the MFNrate for beneficiarycountries. US Generalized System o f Preferences Guidebook. Office o f the USTR Executive Office o f the President, Washington DC. (March 1999). 2o Six categories o f textile products- handicraft textiles- were eligible for GSP treatment under a special scheme. Handicraft textiles from Nepal and Pakistan were beneficiaries under this scheme. This scheme was suspended inJune 30, 1996. 21EUGSP (2002). 22 A reduction of an MFNrate of 14% on a product by a flat rate o f 3.5 percentage points would result in a preferential rate of 11.5% for beneficiary countries. If however, the MFN rate i s 7%, the reduction of 3.5 percentage points wouldresult ina preferential rate o f 3.5%. (EU GSP 2002). 45 Trade Policies in South Asia : Some Key Sectors GSP benefits can be denied inEUon two conditions: (1) Under the exclusionprinciple, countries deemed to be sufficiently developed based on income criteria can be excluded from GSP status (that is, countries whose per capita income exceeds the level specified in the World Bank for three years in a row). (2) Under the Graduation principle. Under this principle, GSP benefits can be denied for specific products, although the country i s still a GSP beneficiary based on the income criteria. Such preferences can be withdrawn for two reasons. One, if the sector in question from a country i s presumed to have reached a level o f competition which would ensure their growth without preferential access to EU. Such preferences may also be withdrawn if imports o f a product from a country to EU exceeds 25% o f the imports o f the same product from other beneficiary countries. T&C products from India and Pakistan forfeited their GSP status inEUin 1999 under the graduation principle. (The GSP for T&C products from Pakistan was however reinstated in2001under a different scheme discussed below). While the general preference accrues to all beneficiary countries (no quotas, duty free access for non-sensitive goods, and preferentialtariffs as compared to the MFNrate for sensitive products), there are certain other schemes by which beneficiary countries can get additional benefits under the EU GSP scheme. (1) Under special Incentive arrangements, beneficiary countries get additional benefits - over and above what i s given for general beneficiaries- for complying with certain environmental requirements and labor standards (the social clause). Benefits are doubled (as compared to general beneficiaries) for countries complying with these standards. These benefits are granted upon request and require compliance with environmental or labor standards. (2) Under the EBA (Everything But-Arms) scheme: Under EBA, countries formally recognized by the UN as least developed countries (48 countries including Bangladesh and Nepal), get duty-free access on all sensitive goods (including T&C , but excluding arms). Intended beneficiaries o f this scheme are however, subject to stringent Roo requirements discussed below. (3) Benefits in theform ofduty-free access for sensitive products are also given to countries for undertakmg efforts deemed at combating drug and narcotics production. The reinstatement of GSP benefits for Pakistan in2001 was under this scheme. Insum, all the five regionalcountries were recipients ofUS GSP system (now expired). The US system however excludes T&C products. Although all countries are GSP beneficiaries in EU based on income criteria, India's T&C products face quotas due to the graduation principle. T&Cs from Sri Lanka benefit from GSP under general arrangements- no quotas and tariff preferences as compared to the MFN rate. T&C from Pakistan, Bangladesh and Nepal face no quotas and duty-free access in EU. The duty- free access for Bangladesh and Nepal are contingent upon strict Roo requirements . RooRequirements inEUZ3Theserequirements exist to ensure that the benefits provided to preferential trading arrangements are confined to products originating in the beneficiary country, and that such goods are not merely trans-shipped or given minimal processing in the country receiving the benefits. Goods shipped to the U S and EUmust comply with these requirements for preferential market access eligibility. Since T&C products are specifically excluded from the US GSP s chemes, T &C exports from South Asia face the MFNrate in the U S market. Further, although U S does grant Roo relaxations for T&C products made with imported US fabrics for countries from certain regional groups with which it has special arrangements discussed below, it does not do so for countries in the SAARC region. Given the importance o f the EU GSP status for apparel exports from Bangladesh and Nepal, the ensuing discussion focuses on the EURoo requirements. Inthe EURoo guidelines for T&C products, wholly obtained products (defined as products with no import content) are eligible for GSP preferences. Products manufactured with inputs from other 23EUGSP (2000) 46 Textiles, Garments and the MFAPhaseout countries are considered as originating in the exporting country and hence eligible for GSP benefits, if they undergone sufficient worhng or processinginthe exporting country.24 The criteria for determining whether there has been sufficient worlung or processing o f the product i s based on two factors: (I) "Change ofTariffHeading Rule". The product inquestion musthave undergone processing sufficient to fall under a different tariff heading at the Harmonized System 4 digit level. (2) Percentage Criterion. The value o f the imported inputs must not exceed a certain specified percentage - 40% o f the value o f the finishedproduct. For most articles of apparel and clothing accessories that are not knitted, the EU requires manufacture from yarn. The use o f imported fabrics would not confer origin, a significant disadvantage for countries like Bangladesh andNepal whose apparel exports have a highimport fabric content. Regional Cumulation. The EU GSP utilization for Bangladesh and Nepal for knitwear particularly, registered a considerable improvement since 1999, due to EU's change o f Roo which allowed garments made from imported yam to qualify for GSP.25 EU Roo 1999 provides for regional partial cumulation o f origin for T&C products in certain cases. A product manufactured in the originating country with inputs from two or more countries belonging to a regional group can satisfy the Roo conditions, and hence be eligible for EUGSP benefits. This m a y include inputs from c ountries o f a regional group that are beneficiaries o f less favorable arrangements or which are not beneficiaries o f the GSP at all. However, the main criteria i s that imported inputs have to be specifically from countries which are part o f the regional group. Countries o f the SAARC region qualify for this EUGSP facility and regional cumulation for SAARC entered into force in 2000.26 Interms o f this, inputs originating in any SAARC member States which are further worked or processed inan other SAARC country can be treated as if they originated in the country o f further manufacture, providedthe value added inthe beneficiary country claiming the GSP benefiti s greater than the highest customs value o fthe inputs originating inSAARC. That is, Bangladesh and Nepal which use imported fabrics from India- would be eligible for duty- free status in EU, ifthe value added in Bangladesh or Nepal i s greater than the value added in India. EU importers can in these cases claim a 100% duty rebate on imports o f T&Cs from Bangladesh or Nepal with imported fabrics.27 However, ifthe value added inBangladesh or Nepal i s less than the value added in India, Bangladesh and Nepal can still claim GSP benefits, although the duty drawback that EU importers can claim on imports from these countries would not be loo%, but the rate applicable to India.28The verification associated with EURoo however i s however quite complex. 24 The issue o f Roo for Bangladesh came into prominence following allegations by EC to the effect that Bangladeshi exporters were claiming GSP on the basis o f false declarations o f origin between 1994-1996. As a result, thousands o f GSP certificates issued by the Export Promotion Bureauwere cancelled and Bangladesh was also asked to return about $60 million in which EC customs authorities had paid on duty drawback to EUimporters of apparels from Bangladesh. (Bhattacharya and Rahman 2000). 25 Bhattacharya and Rahman (2000). 26 The other regions are: The Association o f South-East Asian Nations (ASEAN): The Central American Common Market (CACM): and the Andean Community. 27 According to current GSP provisions under EC preferential regime, LDCs are eligible to receive 100% duty rebate (EU GSP 2(JOO). 28 According to current GSP provisions, while the duty rebate for LDCs i s loo%, the duty rebate i s only 15% for developing countries like India (EUGSP 2000). 47 Trade Policies in South Asia : Some Key Sectors The T&C Industryin SouthAsia The textile sector is one o f the oldest manufacturing sectors in both India and Pakistan. Both countries are significant producers o f cotton and export and synthetic yam and fabrics. The textile component o f the T&C industry's exports i s smaller inBangladesh, Sri Lanka and Nepal. Under the MFA regime, while apparel exports o f established producers, India and Pakistan, were constrained, exports from Sri Lanka, Bangladesh and Nepal, grew rapidly as these countries offered abundant competitively priced labor, were able to meet quality standards o f existing customers, and had supporting government policy framework in place. But Bangladesh, and perhaps Nepal, suffer from major weaknesses that might stifle future growth o f RMG exports. These are: total dependence on buyer's agents with buyinghouses providing orders for manufacturers' garmenting capacities, unreliable delivery dates and inconsistent quality, low labor productivity and machine utilization levels, limited market knowledge, problems with ports and inland transport, and so on. T&C Regional Exports. Tables 111.3 provides the importance o f T&C in terms o f their contribution to foreign exchange earnings. In 1998, T&C exports accounted for over three quarters o fthe gross foreign exchange earnings from merchandise exports in Bangladesh and Pakistan (80% and 75% respectively), over a half in Sri Lanka and Nepal (53% and 48% respectively), and slightly less than a third in India (27%). The contribution o f the sector in net terms (after deducting for T&C imports), is reduced inBangladesh, Sri Lanka, and Nepal, with net foreign exchange earnings as a percentage o f total export earnings being 60% in Bangladesh, 28% in Sri Lanka, and 35% in Nepal. The rather low contribution innet terms i s due to the highimport content o f T&C inthese countries interms o f imported fabrics. Table 111.4 gives the composition o f T&C exports. Exports o f textile fibers i s limited inmost o f the countries, except Pakistan. The share o f textile yam and fabrics intotal T&C exports i s high inIndia (about 51%), followed by Nepal (56%) and Pakistan (15%). Apparels account for over 90% o f total T&C exports o f Bangladesh and Sri Lanka. Table 111.5 gives the composition o f T&C imports. Imports o f T&C products consist mainly o f textile yam and fabrics, as the share o f apparel imports in all the countries i s very small. The share o f textile yam and fabrics in total T&C imports i s particularly high in Sri Lanka (92%), followed by Bangladesh (79%) and Nepal (68%). While reliance on imports does not necessarily mean a disadvantage since imports can be sourced competitively from cotton producing neighboring countries (India and Palustan) and elsewhere, import reliance does influence lead times and transportation costs. Transport and logistics efficiency are hence especially crucial for these countries ina post MFA phase. The growth o f the T&C industry in the regional counties was mainly due to the relatively large quotas access in US, and both quota free and preferential tariffs by EU under the Generalized System of Preferences (GSP) including duty-free access for T&C from Bangladesh, Nepal and Pakistan. Inview o f the importance o f preferential access for T&C products from the countries, the GSP preference schemes are discussed at length. Export Destination of T&C. Table 111.6 gives the comparative U S quota utilization in selected quota T&C categories for India, Bangladesh, Pakistan, Sri Lanka, and China in 1999. Quota utilization has been particularly highin Bangladesh, Sri Lanka, India and Palustan inthat order. On average it was around 8 5% f o r Bangladesh, 80% for India and Sri Lanka and around 60% for Pakistan. The quota utilization realized in these countries compare favorably with that o f China. These figures suggest that the T&C sector o f these countries have been reasonably capable inutilizing the opportunities provided by T&C quotas. 48 Textiles, Garments and the MFA Phaseout The T &C exports from the regionremains highly concentrated interms o f export destination (Table 111.7). U S and EUaccounted for bulk o f the apparel exports from the regional countries (over 90% in the case o f Bangladesh, Sri Lanka and Nepal, and over 80% in the case o f India and Pakistan). Although there has been apparel market penetration o f countries like Japan, Australia, New Zealand, and emerging countries in East Asia by India and Bangladesh especially, export diversification o f apparels i s limitedinthe region, withhardly any intra-regional trade inapparels. Although India and Pakistan export textile fabrics and EUprovides Roo relaxations for garments made with imported fabrics from regional countries, intra- regional trade in textiles i s limited. This i s particularly true for intra-regional trade between Palustan and other regional countries, despite Pakistan being a significant cotton producer, and Bangladesh, Nepal and Sri Lanka dependence on imported fabrics. T&C Product Concentration. The region's T&C export composition are highlyconcentratedin cotton-based products. The bulk o f the exports o f the region are in categories pertaining to Chapters 61- 63, these being articles o f apparel and clothing accessories knitted or crocheted, articles o f apparel not knitted or crocheted, and other made-up textile articles. At a more disaggregated level, exports of apparel from the region consist o f standardized low- value added items such as T shirts, singlets, headgears and fittings, men's or boy's suits and women's or girls suits, trousers and shorts, anoraks and parkas, and textile made-ups such as towels, and bed sheets. Though there i s some diversification in the case o f India and Bangladesh with the countries diversifying into slightly high-value added items like quality suiting, the extent of product diversification i s much less than that o f China. The product composition o f T&C products from the regional countries shows concentration inthe items which are likely to be more competitive from the other low-wage countries in the post quotaphase. Insum, T&C products from the regionare highlyconcentrated interms ofexport destinations and product composition. While such concentration i s understandable given the sheltered quota access, such concentration in terms o f market destination renders the countries o f the region vulnerable to country- specific external shocks. MFA Phaseout The bulk of world trade inT&C i s regulated by the Multi fiber Arrangement (MFA) which came into force in 1974. Under the MFA the developed countries negotiate bilateral agreements with individual trading partners in order to restrict the quantity o f exports o f specific product categories by their trading partners. The intention o f MFA was to protect domestic producers in the developed countries from market disruption. An important outcome o f the Uruguay Round (UR) in 1995 was the Agreement on Textiles and Clothing (ATC), by which the textile quota imposing industrial countries agreed to phase out the clothing and textile quotas (the Multi-Fiber Agreement), which had governed world T&C trade for three decades or so.'' The ATC provides the legal framework for the ten-year, three stage phasing o f the MFA and the integration o f T&C into the GATTNTO framework by 2005. From 1995, no new restrictions can be introduced except as provided for under the agreement or under provisions such as the balance-of- payment rules. The main features o f the ATC are:3o *'Agreementon Textilesand Clothing (ATC). WTO Website. 30Report on Workshop: Textiles and Clothing: Implicationsfor the Less- Advantaged Countries.(June 1999). 49 Trade Policies inSouth Asia : Some Key Sectors One, the ATC stipulated that quotas were to be phased out in four stages- with complete dismantlement o f T&C by the end o f 2004. At the start o f each phase o f integration, importing countries must integrate (or bring into the nondiscriminatory MFN framework o f WTO) a certain specified minimumportion o f their textile and garment exports based on total trade volume in 1990. Inthe first stage, 16% o f T&C categories in the Harmonized System were to be "integrated" (or brought into the nondiscriminatory MFN framework o f WTO) by 1995, a further 17% in the second stage by 1998, followed by a 18% inthe third stage by 2002, and a further 49% by the end o f 2004. For products which remains on the list, the MFA bilateral framework (example U S and EU bilateral agreements) are to continue. Two, with integration there was to be a n increase in the existing quota growth rates, with annual quotas increasing by 16% , 25%, and 27% in 1995, 1998 and 2002 respectively. Three, it was mandatory that products selected at each stage for integration had to include at least one product from each o f the following sub sectors: Yarns, fabrics, clothing and other textile products. The third stage o f integration was completed in Jan, 2002. Both U S and EU integrated further 18% o f product categories as per the agreement. Very few T&C categories (particularly in the largely labor-intensive apparel category) o f interest to countries in South Asia were integrated in the now completed three s tages - with US and EUchoosingt o integrate product c ategories- where imports o f products are already unrestricted, or relatively capital intensive. The limited integration o f product categories in which the regional countries have comparative advantage suggests that virtually all o f the liberalization o f the politically sensitive high-value added textile and clothing items would be inthe final stage. Before we come to what the regional countries have done to prepare themselves for meeting the challenges, and what the countries can do enhance their competitive advantage in the post MFNphase, we briefly describe what are likely to be the problems for the T&C industryfor the regional countries. Tariffs in the Post MFA Phase. Although quota restrictions will be removed in 2005, MFN tariffs on T&C will remain. These are not likely to be reduced inthe future, given the political sensitivity o f these industries and the restructuring and adjustment problems associated with these industries in developed countries. Although average tariffs in developed countries have come down from 6.3% during the Pre Uruguay Round to about 3.8% on average for manufactured goods, MFN tariffs for T&C, and particularly on the apparels continue to remain high.31 An indication o f MFN tariff rate that T&C products can be expected to face in future i s provided by the current MFN rates for U S and EU in 2002.(Table 111.8). Average tariffs on T&C products in both U S and EUhave tended to go up in line with the stage o f processing to protect the high value added items in both countries. The average tariffs on T&C products i s much higher in U S than inEU. The U S MFNrates on selected apparels range are as highon average as 19%, on Cotton Yarn 7 % and woven cotton fabrics i s 10%. The comparable figures for EU are around 12% for apparels, 4% on Cotton yam and 8% on woven cotton fabrics.32 EU however does accord duty-free access to T&C from Bangladesh, Nepal (subject to Roos) and Pakistan, and a rate lower than the MFNrate for apparels from Sri Lanka. Trade Diversion and preferential trading arrangements. Also no less important are the potential trade diversion implications due to the rules-of originrelaxations for beneficiary countries under the Africa Growth and Opportunity and the U S Caribbean Trade Partnership Act, with the passage 31 In spite of across the boardreductionby the EUcountries, reductioncommitments by EUduring the UR were the lowest for ''textilesandMFN apparels. (BhattacharyaandRahman2000), and H o e h a n et a1(2002) The US rate even within selectedproductcategoriesvaries dependingon specificationof the product. The EUtariff rate on the other hand, within product categoriesdoes not vary that much. 33 AGOA ACT (2000) 50 Textiles, Garments and the MFA Phaseout o f the US Trade Development Act in2000. Under AGOA, U S i s committed to providing unlimitedduty free and quota free access to apparel made in Afnca from U S made materials.34Further, under a special rule, apparels from lesser developing countries in Sub-Saharan Africa with a per capita income o f less than less than U S 1500 dollars, apparels from beneficiary countries could be accorded both duty and quota free access to the U S market from fabrics made anywhere inthe world. Likewise, the current U S Caribbean Basin Trade Promotion Act (CBTPA) signed in 2000 to boost the economies o f Caribbean and Central American countries differs from the existing U S Caribbean Economic Recovery Program (CBERP) in providing additional preferential access to goods from beneficiary countries.35Important features o f this act include: (a).Extending NAFTA like preferential tariff treatment to several products excluded from the past CBERP. (b). Duty free and quota-free treatment for certain textile and apparel products previously excluded from CBERP. (C) Roo relaxations for goods made with U S fabrics for beneficiary countries. This means that even if countries like Bangladesh, Nepal and Pakistan get U S GSP (which excludes T&C) if and when it i s renewed, the T&C products from these countries would be at a disadvantage (since their T&C products would still be subject to the existing MFNrate), when compared to T&C products from African and Caribbean countries whose T&C products are entitledto preferential and/or duty free treatment with Roo relaxations for goods made with US fabrics. TransitionalSafeguards and Anti-Dumping (AD) The phase out o f MFA will result in the . demise o f the special transitional safeguards on T&C,- the measures which countries can resort to in the event o f a surge o f imports from particular destinations . Although safeguard measures are still allowed after the T&C phase out, safeguards in the post MFA phase will have to be non-discriminatory, and conform to other normal requirements o f WTO such as strict proof o f domestic injury criteria, and compensation o f affected exporters.36 However duringthe transitional period, transitional safeguards are possible. Action under transitional safeguards could be taken if it can be demonstrated by the importing country that the imports from an exporting country were a threat to domestic industries. Action under the transitional safeguard mechanisms which could be taken either by mutual agreement following consultations or unilaterally, could remain in place for up to three years without extension or until the product has been integrated into the nondiscriminatory MFNframework o fWTO. This implies that T&C products ofregional countries may be vulnerable to transitional safeguards during the implementationperiod of ATC. An example of such transitional safeguard measure was the attempt by the US government to defend its quota restrictions on imports o f combed cotton from Pakistan in 1999 which was removedby US in2001 after having been turned down by three appellate bodies of the WTO?' AD cases can be expected to continue after the MFA phase out. The use o f AD extends beyond high income nation, with many middle-income nations such as Argentina, Mexico and Turkey increasingly relying on AD against T&C imports from developing countries. Some recent instances o f AD cases against T&C imports from regional countries include the imposition o f AD on bed linen from India by EU, AD duty on Polyester Texturized Filament Yam (PTFY) by Turkey against India, re imposition o f AD on towels by US on Bangladesh, and AD on cotton combed yam from India by South Korea.38While these traditional methods o f precluding market access 34 EventhoughT&C importswere explicitly forbiddenunderthe USGSP scheme prior to its expiry in2001 35 The U S CaribbeanTrade PartnershipAct (2000). 36 Hoekman et a1 (2002) "WTOAnnualReport(2002) 38 AntiDumping(AD).WTO Website. 51 Trade Policies inSouth Asia : Some Key Sectors are likely to increase in intensity, regional countries have to be prepared for some new methods (environmental and social standards) which can be usedas non-tariff trade barriers. Supply-sidepolicyissues andpolicychanges in SouthAsia India The T&C industry inIndia is one of the most important manufacturing s ectors inIndia as in neighboring Palustan. It accounted for about 20% o f the total output o f manufactured goods and about and 27% o f the foreign exchange earnings during 2000-200 1.39 Fabrics, garment exports, and made-ups account for the bulk o f this sector's exports. India's T&C exports are largely cotton-fiber based. The industry's comparative advantage and success in penetrating foreign markets i s due to a combination o ffactors. T hese include: 0 ne, 1abor c ost advantage a s c ompared t o the wage rates in countries o f East Asia. Two, indigenous availability o f cotton fabrics, since India i s a major cotton producing country. Three, T&C quotas in the major industrial markets. Four, the largely decentralized mode o f production, which has proven successful inproduction o f low-volume apparels ina wide variety o f fabric design specifications. Indian suppliers are perceived by importers to be especially "accommodating" in makmg small sample runs, compared to minimum order pieces from East Asia c~untries.~' India's exports of textile-based products and garments are destined mainly to the quota-imposing countries o f EUand the US. The c ombined share o f these two markets i s over 7 0% and non-quota countries account for the balance. Other export destinations include the entrepot centers, where intermediate textile products from India are processed for re exports (eg, Singapore, Taiwan and Bangladesh and Sri Lanka inthe region). Apparels exports from India fall mainly into the middle-price segment o f casual wear for which the principal competition i s from China, Taiwan, Bangladesh and Sri Lanka. India's garment exports are also concentrated in only a few items, with women's outerwear and men's shirts contributing more than 50 percent o f India's garment exports. India's T&C products face quotas in US, and EUas well (since T&C products are not entitled to EUGSP since 1999). The main challenge for India's T&C industry in the post T&C quota phase stem from the following: One, despite textiles being a relatively old industry,India's T&C products remain inthe low to medium price range, where price is the main determinant for success (and India's low-labor costs has definitely been an advantage in these products). World competition from relatively low-wage counties, which are increasingly being integrated with the global economy and which are entering into regional preferential arrangements with major world importers i s however likely to be more intense in these products. Two, perceptions about the low quality o f India's T&C products - and more importantly - quality inconsistency o f largely cotton-based Indian textile and & clothing products. Closely related are also perceptions regarding the quality consistency of indigenous cotton.41Three, the domestic fabric base i s believed to be not fully compatible with the demands o f 1arge-scale factory production, with large lengths o f uniform lots o f fabric, which are needed for factories.42 The lack o f uniform quality is largely a consequence o f the pro-small sector bias and discrimination against large-scale enterprises in the T&C 39 Ministry of Textiles, AnnualReport, India2001-2002. 40 World Bank (2000) 4' In a study of 149 apparel manufacturers in five countries of South East Asia, manufacturers in Hong Kong and Thailand observedthat Indiangarmentslackedconsistencyanduniformity inquality (Khanna 1993). 42 Kathuriaet a1(2001). 52 Textiles, Garments and the MFA Phaseout sector. Recent textile policies have removed some aspects o f the pro- small sector bias. Prior to discussing the policy changes, we give a brief summary ofthe structure o fthe T&C industryinIndia. Structure of India's T&C 1 n d ~ s t r y : ~ ~ U n lthei k eT&C industries in most other countries, the T&C industry in India reveal a dualistic manufacturing feature characterized by highly `decentralized' and small-scale industries (SSI) in the knitting and garment component o f the T&C industry, and a vertically integrated "composite' component o f the industry.44T&C enterprises in India, comprising o f spinning, weaving, fabric processing and garment-malung units, are classified as "organized" or "unorganized", and this classification i s based on criteria such as permissible investment, employment and so on. The organized sector in the textile sector consists o f composite mills (vertically-integrated mills covering the full array o f all textile processing operations- spinning, weaving, dyeing and printing) and independent spinning mills. While there i s extensive public involvement in the composite mills, the independent spinning millsare largely inthe private sector. The "unorganized sector"- called as such due to the decentralized nature o f their operations- consist o f power loom, handloom, knitting and fabric processing units. Coordination o f production i s by a master weaver or loom owner. In the master weaver system, the fabric supplier, upon accepting an order from a garment manufacturer, purchases yarn and arranges for their weaving. The resulting "gray cloth" i s sub contracted to a processing house for dyeing and printing. In the loom-owner system , the loom owner coordinates all the processing activities. The unorganized sector currently produces the bulk o f fabrics inIndia. India's textile policy have until recently favored small-scale enterprises in the T&C sector. The SSI bias was manifest in discriminatory policies against the "composite" mill s egment relative t o the handloom sector, reservation policies for small scale enterprises inthe knitting and apparel component o f the T&C sector, and reservation of production categories o f textile articles ( such as cotton sarees, dhotis, towels and lungis, exclusively for the handloom sector). The discrimination w as through regulations relating to firm size, product composition, investment ceilings, exclusive rights to produce certain fabric varieties, low-interest workmg capital, and tax exemptions o f products produced by small scale enterprises. Government policy for promoting small-scale industries uses the value o f capital investment to define small scale factories. Small scale units are eligible for a variety o f promotional measures like preferential credit, investment subsidies, etc. Some products such as hosiery are reserved for exclusive production by small scale enterprises. The small scale nature o f Indian production has resulted in flexibility advantage. Small-scale producer demand for specific fabrics i s largely met by the power loom sector- which have the advantage o f shorter 1ead time in the delivery o f fabrics, which is critical for apparel manufacturers supplyinglargely to fashion-oriented niche markets. However, there are problems o f quality fabrics for standardized garments based on standardized cloth, and difficulty o f procuring certain types o f heavy cotton fabrics and fabrics inrequired counts and Another constraint often cited i s the unavailability o f good quality trimmings, and embellishments such as laces, buttons, zip fasteners, thread interlinings, and packaging materials. The reservation o f clothing products and accessories for the small scale sector has precluded entry o f both 43 India CottonandTextile IndustriesReformingto Compete. World Bank, 2000. andKathuria et a1(2001). 44 A "sick" enterprise inthe Indian context is definedas a company that has been registeredfor five years andhas negative net worth (accumulatedlossesexceeding equityplusreserves). World Bank(2000). 45 Uchikawa(1998) 53 Trade Policies in South Asia : Some Key Sectors large domestic firms and foreign direct investment into the apparel sector, besides restricting the flow o f new investment and technology ~ p g r a d i n g . ~ ~ India's textile policies have been guided by two objectives: One, the policy o f ensuring an adequate supply o f reasonably-priced cotton to the largely protected domestic textile industry. Two, protecting employment in the T&C industry, both through exit barriers o f the large textile mills and through explicitly encouraging employment in the handloom sector and small-scale enterprises in knitting, hosiery andthe garment component o f the T&C sector. Policies have discriminated against the expansion and modernization o f vertically-integrated composite spinning mills. Some examples o f these policies are, the yam export quota, the Hank-Yam Obligation (HYO) ,and the discriminatory treatment o f man-made fibers relative to cotton fibers. The vertically integratedmills had an yam export quota. This policy, institutedt o ensure a n adequate supply o f yam to the weaving industry,by holding down the domestic prices o f yam relative to internationalprices, was an implicit tax on textile products producedby mills (The yam export quota was dismantled following the New Textile Policy o f 2001). The Hank Yarn Obligation (HYO), a requirement on spinningmills to supply not less than a quarter o f their deliveries in hank form to the "unorganized" handloom sector. Three, discrimination against man made and synthetic fibers, and this discrimination continuing into the yarn and fabric stage. Man-made and synthetic fibers are subject to higher rates o f excise taxation than similar cotton-based products, and this made the use o f these fibers expensive either as a supplement to cotton inblendedyams or as a substitute. Apparels inIndia are primarily produced in small-scale units, a consequence o f the past policy o f reserving apparels production for the small-scale sector. The apparel sector can be classified into three types: domestic manufacturers (few in number), manufacturer exporters, and subcontractors (or fabricators). The merchant exporter who accepts an export order subcontracts the labor intensive operations to fabricators. These goods are ultimately shipped by the merchant exporter. The amount o f subcontracting to fabricators i s much higher in India than in countries with a broad base o f apparel export^.^' The most important policy change pertaining to the T&C industry was the de reservation o f garment sector from SSI following the recommendations o f the Abid Hussain Committee that the reservation policy had hurtIndia's ability to compete and expand exports inmany areas, including T&C4* This is a significant policy change, because there were attempts in the past to promote expansion and modernization o f garment industries through increasing the investment ceiling permitted for this sector, there were preconditions attached to the investment expansion in this sector. Such ceilings were permitted only for enterprises which had to fulfilling export obligations (75% later reduced to 50%), and specifications regarding exports to non-quota countries.49 Given the cyclical nature o f demand in export markets and the uncertain domestic demand for ready-made garments, large firms have been reluctant to invest in the garment industry. The de reservation o f the woven segment o f the garment sector from the small scale sector should provide a more conducive for expansion and modernization through attracting investment- both domestic and foreign. The knitting and the hosiery sector however continues to be reserved for the small scale sector- although the investment ceiling has been raised for both sectors. The discriminatory treatment o f the 46Ramaswamy and Gereffi(2000). 47Khanna(1993) 48HussainCommittee (1997). 49Ramaswamy and Gereffi(2000) 54 Textiles, Garments and the MFA Phaseout handloom sector however, still remains, with reservation o f certain textile articles exclusively for the handloom sector.50Both the composite mills and the independent spinningmills are still obligated by the Hank Yam Obligation. The other significant Textile policy change pertains to the Technology Up gradation Fund Scheme for Textile and Jute Industries.jl Despite having significant cost advantage and a strong fiber and production base, the textile industry in India suffers fi-om severe technological obsolescence and lack o f economies o f scale. In order to capitalize on the opportunity arising out o f phasing out o f MFA and to move up the value chain, the Government o f India has initiated a technology up gradation fund (TUFS) in 1999, aimed at making the Indian textile exports more competitive inthe internationalmarkets. Some o f the main features o f the scheme are: One, easing the working capital requirements by the identified financial institutions through a 5% reimbursement on the interest for investment in technology modernization in the textile industry. Two, another feature i s the benchmarking o f technology levels in terms o f specific machinery for each sector o f the textile industry for reimbursement o f interest. For investment in machinery with technology levels lower the specified would not be permitted for reimbursement under this scheme. Pakistan The Textile sector i s the largest industrial manufacturing sector in Palustan. In2000, this sector accounted for 40% o f direct employment, 30% value-added production by the manufacturing sector and about 60% o f the total merchandise exports.'* Pakistan's T&C exports in 2001 consisted o f cotton yarn, fabrics (and these include in order o f importance, cotton fabrics, knit ware (hosiery), art silk and synthetic fiber and tents and canvas), ready made garments, and textile made-ups (including bed ware, linen and towels). Exports o f made-ups and ready made garments roughly accounted for slightly more than a halfo f the export earnings, with the balance accounted for by exports o f fabrics and cotton yarn.53Pakistan like India, exports mainly cotton-based products. Structure of the Industry.Enterprises inthis sector, as in India, consist o f spinning, weaving, processing and finishing, knitted fabrics and clothing, woven garments, and woolen spinning, weaving and garments. Textile enterprises include both vertically integrated units (engaged in an array o f activities including s pinning,w eaving, and unlike inIndia these enterprises are involved ingarment making as well), large enterprises dealing in exclusively knitting and woven garments, and small factories involved infinishing,dyeingand knitwear operations. Pakistan's T&C exports are highly concentrated in terms o f market destination, with the U S and the EU accounting for more than 70% o f exports. There however i s some market penetration o f T&C products in markets o f South Afi-ica, Turkey and Mexico in recent times.54 The industry's comparative advantage i s due to a combination o f factors. These include: One, the labor cost advantage. Two, indigenous availability o f cotton fabrics- although there are questions about the quality and quality 50 The implementation o f this policy gor a boost in 1994 when the Supreme Court dismissed the petitions challenging the Handlooms (Reservation o f Articles for Production) Act o f 1985 (Kathuria et al, 2001). EXIMBank O fIndia(2002). Textile Vision (2000). 53 Export Promotion Bureau Pakistan (2002) 54 Pakistan's T&C exports was particularly hit in 2001 due to a combination o f general external shocks (recession in US and EU), and more specific events following September 11 which led to cancellation of orders, difficult buyer-contact (because of travel advisories on the one hand and visa restrictions for Pakistani exporters on the other), imposition o f war risk insurance, disruption o f airline services, and an overall situation where goods ftom Pakistan could only be sold at low prices as the buyers perceived Pakistan to be an unreliable source o f supply. (Pakistan Trade Policy 2002-2003). 55 Trade Policies in South Asia : Some Key Sectors consistency o f Pakistani cotton, as in the case o f India." Three, T&C quotas in U S and no quotas plus duty free access to EUsince 2001.. The main problems faced by the T&C industry are: One, although Palustan's T&C exports have been generally growing, the growth in T&C exports i s more in volume than in value terms. The unit prices o f T&C exports has been falling over time s6. Two, due to the perception regarding the quality consistency o f cotton fabrics. This i s mainly due to concerns about the quality o f cotton. Although T&C exports are a major export earner for the c ountry, there have been few recent policy changes pertaining specifically to T&C sector, except for the cotton policy (discussed below), and the installation o f ELVIS (Electronic Visa Information System) with U S for eliminating the chances o f fake export licenses vi sa^).^' This facility i s expected to transmit information on textile quota transactions electronically from the computer network inPalustan to the U S Customs Computer Network. More general policies aimed at enhancing the competitiveness o f exports inrecent times include, the c onversion o f the managed floating exchange rate to a market-determined inter-bank floating rate system with currency convertibility for trade transactions, removal of prior permission required for setting up enterprises, facilitating regional trade through developingroad transport 58, the setting up o fthe Palustan Export Finance guarantee agency, and a favorable climate for FDL5' Pertaining specifically to the T&C sector given the importance o f cotton-based products in Pakistan's exports and the concerns regarding the quality and quality consistency o f Pakistani Cotton, are the recent policies relatingto the cotton sector. These changes include, free import of superior grades of cotton, preparing a draft law for standardization o f cotton for improving both the image of Pakistani cotton in world markets and bringing a more sound basis for cotton trading, and removing the seasonal price fluctuations o f cotton through resumptiono f forward trading incotton. Bangladesh The garment sector i s the most important export earner (having supplanted jute) in Bangladesh since the last decade or so.6oSince 1997/98 Bangladesh has been the seventh largest apparel exporter to U S and the fifth 1argest to EU, and these t w o countries account for more than 90% o f the country's garment exports.61 The industry i s estimated to provide employment to 1.5 million directly (mainly women), and official sources estimate that another 10 to 15 million benefit indirectly through this industry.The current export policy (1997-2002) has identified this sector as one o fthe `thrust' sectom6* Apparel exports from Bangladesh fall into three categories: goods made from woven fabrics, goods made from circular knitted fabrics, and increasingly- a growing production of sweaters. Although both woven and knitwear goods exported by Bangladesh have shown considerable growth, the growth o f knit-wear goods has been particularly significant, ever since the EU granted the Roo relaxations for Knit "Pakistan,TextileVision(2000). ''Martinwas '6 (2002) andPakistan, Textile Vision (2000). This done at US insistence, following allegations of misuse of T&C quotas by Pakistan, resulting in a virtual cut in US quotas for Pakistan in 1999 . (Textile Vision, 2000). ''At present Pakistan's exports by roads is negligible. This is a constraint for exporters, particularly interestedin exporting to the regionalmarkets (Pakistan, Trade Policy 2002-2003). 59Inthe ADB's index of opennessto FDI,Pakistanscores 2.0 as comparedto 3.0 for other countries in SouthAsia. Lower score denotes more openness(ADB2000). 6oBangladesh. The Textile Sector Study. (2000) World Bank (1999). 62The Textile and Clothing Industry o f Bangladeshin a Changing World Economy" CPD (1999) 56 Textiles, Garments and the MFA Phaseout wear products with imported regional fabrics. The bulk o f the apparel items exported by Bangladesh are destined for the low to medium end o fthe market. Structureof the Industry. The industryis largely indomestic hands, withmore than 95% ofthe garment factories entirely owned by Bangladeshi companies or families. Although not policy-induced as in India, most garment firms are small enterprises in Bangladesh. The majority of foreign-owned companies, locatedinthe Export Processing Zones, are South Korean and HongKong Chinese. The competitive strength o f the Bangladesh garment industry i s due to the following factors: One, apparel from Bangladesh is highlyprice c ompetitive inapparels. T hisbeingparticularly so for garments at the low and medium ends o f the market. Two, the low labor cost advantage. The wages o f garment workers in Bangladesh are low even by South Asian regional standards.63Projections o f wages further indicate that Bangladesh will have this low labor cost advantage in the near f ~ t u r e . ' ~Three, though apparels from Bangladesh face quotas in US, it faces no quotas and has duty-free access to EU, and besides has benefited from the Roo relaxations for its knitted products. Further, there i s no legal obligation for origin labeling o f Bangladesh garment products in EU, which i s a significant advantage for Bangladeshi exporters. Four, unlike in Nepal, the growth in apparel exports has encouraged backward linkages in accessories, with almost 80% o f the garment industry's accessory requirements, such as elastic, collar bands, hangers, metal clips are now being domestically produced- although there i s a shortage o f interlining material.65 The main challenges to the prospects for Bangladesh garment exports (and Sri Lanka and Nepal as well) stem from the following: One, lack of backward linkages in domestic fabric production (and this applies to the regional countries o f Sri Lanka and Nepal as Bangladesh i s dependent on imported fabrics, and this dependence has raised questions about the whether the country's apparel exports will continue inthe post T&C quota phase. A policy change which needs to be mentioned inthis connection i s the policy prohibiting imports o f fabrics for ostensibly curtailing illegal trade through land routes- usually cheaper for small lot consignments from India.67 Two, the leadtimes for delivering garments are long, and this may hamper the garment exports in a quota-free system, given the present trend towards reduced inventory holdings and quick response systems by overseas wholesalers and retailers. The lead times for garments from Bangladesh was estimated to be around 120-150 days from the date o f order to the date o f shipment from Chittagong. In comparison, leadinggarment manufactures inHong Kong and China are believed to offer lead times from 45 to 60 days." Three, apparel companies offer mainly manufacturing capacities, that i s , cutting and sewing,- besides incurring transport costs (CMT). ''The agents (overseas or domestic) supply the intermediate inputs (the fabrics and accessories), besides providing marketing and sales efforts. The contribution of 63 Wage rates reported in Bhattacharya and Rahman (2000) show that wage rates were US$ 0.23 per day in Bangladesh as compared to US$0.56 for India, and US$0.49 for Pakistan. 64 Reza, Rashid and Rahman (1998). 65 World Bank (1999). 66 A study by the Ministry of Textiles, Bangladesh, reported in World Bank (1999), argued that after 2005, when quotas are abolished, Bangladesh apparel industry would face a shortage o f fabrics because quota-constrained countries like China and India which currently export fabrics will use their fabrics to produce apparels to the North American and EU market. Hence it was argued that it would be inthe interests o f Bangladesh to develop backward linkages infabric production. 67 Asian Textile Business (2001). World Bank 1999. 69 Inmost developing countries, C M is used to denote the cost of manufacturing. Typically this includes the cost of producing the garment but excludes the cost o f all materials suppliedby agents. C M T includes the cost of manufacturing plus the cost of transport minus the cost o f materials. (Textile Policy 1999). 57 Trade Policies in South Asia : Some Key Sectors garment exporters interms o f selling, marketing and promotion i s limited. It i s estimated that less than a quarter o f the country's garment exports are sold directly to retail groups and brand suppliers overseas. While such reliance is not necessarily disadvantageous given the nascent state o f the industry,it would be inthe interests ofthe country to move upwards inthe "buyer-drivencommodity chain" discussedbelow.70 The issues dealing with development o f backward linkages into domestic fabric production, the lead times associated with delivery o f products, and moving up the commodity chain, are especially important for Bangladesh, Nepal and Sri Lanka. Since these problems are similar for the countries, these issues are discussed following a brief description o fthe T&C industries in Sri Lanka and Nepal. Sri Lanka Since 1986, the T&C sector i s the most important sector in terms o f industrial output, employment, foreign exchange earnings. In 2001, this sector contributed approximately 55% o f foreign exchange earnings, 44% o f industrial output, andprovided employment for roughly 8% o f the total labor force. Within T&C, the apparel industryi s the leading sector and for over a decade, the apparel sector has replaced tea, the traditional front liner as the leading export earner. The import content o f this sector i s high- since Sri Lanka like Bangladesh and Nepal i s dependent on imported fabrics. 71 Structure of the Industry 72 The garment sector i s mainly export-oriented. The textile firms number over 150, with a large number o f small enterprises, less than 10 large firms accounting for bulk o f gross output o f the industry. In contrast, the garment sector had more than 800 firms, with the top garmenting firms accounting for a third o f output, and most o f the factories operating in the export processing zones.. The factors responsible for the growth o f the apparel sector are: One, availability o f relatively inexpensive labor (there are however indications that Sri Lanka i s either losing or has already lost the labor-cost advantage as compared to the neighboring regional South Asia co~ntries).~~Two, relocation o f garment producing countries by the quota-exhausted countries in East Asia - particularly South Korea, Taiwan and Indone~ia.~~.Three: the beneficial effects o f quotas assuring guaranteed market access inU S and preferential tariff rate as compared to the MFNrate in EU for its T&C products (although not duty- free access as Sri Lanka and Nepal inEU). The main problems for T&C products from Sri Lanka are although to a more limited extent than in of Bangladesh, dependence on imported fabrics since the country's domestic fabric base is limited, highleadtimes (though not to the extent as faced by Bangladesh or India since Colombo has an efficient port and there are plans for making it a hub port for transhipment), and over dependence on domestically- based buying agencies. Nearly 65% o f the total garment exports are estimated to be channeled through the buying offices in Sri Lanka.75 This limits direct access to leading buyers and the potential links on foreign liaison offices. 70Gereffi (2002) 7'Central Bankof Sri Lanka, Annual Report (2002). 72Perera(1997) and WeerakoonandVijauasuri (2000) 73 Even by the mid 199Os, labor costs had risen in Sri Lanka, and the labor costs in Sri Lanka are now higher than in India, Pakistan, Bangladesh, Nepal, Vietnam and China- although lower than labor costs in Hong Kong, Singapore and Malaysia (Weerakoon andVijayasuri ,2000). 74Fonseka(1999). 75Majumdar (1996). 58 Textiles, Garments and the MFA Phaseout Nepa176 Although exports o f T&C products from Nepal i s o f more recent origin than in any o f the other regional countries, currently the industry i s one o f the largest economic manufacturing sectors o f Nepal. Interms of trade, this sector is providing about half of the export earnings from merchandise and this is mainly accounted for by the apparel component o fT&C. T&C Exports are destined mainly to US (where Nepalese garments face quotas) and EU (where Nepalese garments face neither quotas nor tariffs). Nepal, like Bangladesh has benefited from the Roo relaxation for its garments made with imported fabrics from regional countries- mainly India. The products composition i s concentrated as well, with men's and boy's trousers and shirts made out o f cotton and boys and girls shirts accounting for bulko f exports to bothU S and the EU. Some o f the major problems facing the industry are long lead times (which in Nepal's case is compounded by its geographical location dependent on transit through third countries) and lack o f trade support logistics services. Backwardlinkages,commoditychains andleadtimes There are two possibilities for countries which lack a domestic fabric base. One, to continue sourcing fabrics competitively, whether locally or from abroad. Two, to enhance the backward linkages by providing a conducive environment for private sector investment (including FDI) in domestic fabric p r o d ~ c t i o n . ~ ~ For relatively small producers there are some advantages in procuring fabrics from indigenous sources. Use o f local fabrics as compared to imported fabrics would make some difference in reducing lead time and transport costs. However, there are problems associated with developing domestic fabric production at this stage o f development for Bangladesh, Nepal and Sri Lanka, suggesting that competitive sourcing o f fabrics (whether domestic or imported) i s more important than conscious indigenous development o f backward T&C linkages. One, indigenous production o f fabrics entails more investment interms o f financial resources since Textile industries are by nature capital intensive as compared to the domestic production o f garments which are relatively labor intensive7*. Two, the concern that there could be scarcity o f imported fabrics for these countries in the post quota phase since the now quota-constrained countries would start utilizing their fabrics i s not well founded, in view o f the worldwide oversupply o f yarns and fabrics in the qualities similar to that used in Bangladesh, Nepal and Sri Lanka." Further,China's accession agreement on lifting its export yarn quota within a specified time frame suggest that the worldwide shortage o f yams and fabrics i s quite unlikely in the near future. 76 NepaleseGarmentIndustryUnder Changing GlobalTradingEnvironment,WTO Cell (2000) 77 The Government o f Bangladesh i s providing an export subsidy - equivalent to 25% o f the value o f the exported goods for usingdomestic fabrics.This howeverhasbeen subject to abuse. Although this subsidy continues,the subsidy for Jamdani Sarees usingdomestic fabrics was withdrawn after it was shown that exporters were abusing the systemfor getting the subsidy (World Bank, 1999). 78 Estimates show that while a garment makingfactory employing 200 workers and 200 machines couldbe set up in Sri Lanka for less than US$ 1 million, setting up aweaving factory capable of producing for the minimumlevel of efficiency of the firm- would requirenearlyUS$20million (Edwards 1996). 79 TextilePolicy (1999). 59 Trade Policies inSouth Asia : Some Key Sectors Three, while indigenous fabrics would improve lead times somewhat, it i s not clear whether there could be very significant improvement in lead time solely due to the availability o f domestic fabrics.8o Further what matters for responsiveness in exports and extemal market penetration i s not merely availability o f domestic fabrics insufficient quantity, but quality o f domestic fabrics as well8'. Four, EUGSP does provide relaxation o f Roo for Knitwear products with imported fabrics from regional sources. This means that knitted products from countries like Bangladesh, Nepal or Sri Lanka with imported fabrics from India or Palustan are not at a disadvantage, and this advantage could be increased further by indigenous production o f accessories, and thereby increasing the extent o f value addition at home relative to value addition inthe regional country from which they are importing fabrics. Lastly, a further important factor that with today's rapidly changing demands for access to the full range o f fabrics and styles there would be a distinct advantage in selecting the fabric which will be in fashion for the season from worldwide sources, rather than being in a position o f selecting fibers from a limitedrange o f locally producedcloth. These considerations suggest that while private investment (domestic and/or foreign) inthe textile sector should be encouraged for developing domestic production o f fabrics, for the apparel industry's prospects it i s more important to ensure that fabrics are sourced competitively. Experience from other countries suggest that although possibilities for attracting FDI exist in knitting, dyeing and finishing in these countries, it might be difficult for these regional countries to attract such heavy investment in the near future in fabric productioninan industrythat i s highly capital intensive.82 Although there i s a trend to shift production capacity o f fabrics out o f the industrial countries in view o f the shifting comparative advantage out o f the top ten textile exporting countries inthe world, the beneficiaries o f such investment have been mainly other industrial countries inthe west, with Hong Kong and China being the main exceptions. This shifting trend o f textile industries from industrial countries and the beneficiaries from the shifting trend would seem to suggest that potential investors generally prefer to install large-scale textile plants either inother industrial countries, or possibly incountries with a large home market such as India and China where they can also benefit from the huge domestic market. Lead Times. Lead times refer to the time taken from when orders are placed by wholesalers or retailers to when delivery i s made by exporters. L ead times are estimated t o be particularly 1ong for Bangladesh and Estimated lead times from these countries range from 120 to 150 days- as against 60 to 90 days for India and under 50 for China.84. Reducing lead time i s undoubtedly important considering the trend towards minimizing inventory holdings and quick response systems by wholesalers and retailers, and increasedbuyingseasons inthe fashion-conscious T&C industry. One reason for the long lead times from these countries i s because garment enterprises do not hold adequate stocks for meetingunexpected increases indemand. E stimates providedby the W orld Bank (1999) show that for standard piece dyed fabrics -representing a major portion o f world import demand for fabrics- lead times could be reduced substantially if adequate stocks o f non-dyed grey fabric could be held on stock, and processed for delivery as soon as the order i s confirmed, and by converting the imported grey fabric into higher value-added goods by adding value addition at the stages o f dyeing and finishing. Such a system, applied by a large number o f processing houses in Europe, i s more effective and less expensive than establishing backward linkages in an industry that i s highly capital so Spinanger (2000). Spinanger (2000). 82WorldBank(1999) 83 Spinanger (2000) andNepal(2000). 84 Spinanger (2000). 60 Textiles, Garments and the MFA Phaseout intensive for minimumlevel o f efficiency. It i s also instructive in this context that the largest garment manufacturing foreign-owned groups (mainly from South Korea) inBangladesh, reducedthe lead times to between 9 0 - 120days for more s ophisticated items and t o 6 0 days for basics eventhough the entire volume o f fabrics (synthetics and blends) were imported from South Korea, merely by holding adequate stocks o f grey fabric^.^' Lead times also depend crucially on the transport efficiency and availability o f trade-related logistics services. Transport efficiency in turn depends not only on the quantity and quality o f transport infrastructure alone, but the imputed time cost incurred inchokepoints associated with administrative and customs clearance, both at ports and roads. With the worldwide dismantling o f artificial trade barriers and phasing o f T&C quotas, transport and logistics efficiency i s going to be even more crucial in determining the competitive advantage o f nations. Inan industry, where the demand for rapid change o f style is s o great and where there i s a n increasingrange o f designs indemand, response times c an be improved by the use o f computer-aided design systems, both for processing trade documentation and for expedited cargo clearance. In this connection, Bangladesh has made a beginning, with the endorsement of the Customs ModernizationProgram (CAM), the first phase o f which will be completed by the end o fthis year. 86The intended objectives o f this program i s expedited cargo clearance, both by simplifyingprocedures and by selectivity profiling to ensure expedited cargo clearance without compromising the revenue c ollection through customs revenue. Elements o f this program include rationalizing the cascading duty structure and otherwise simplifyingthe schedule to reduce the scope for discretionary import assessment, adoption o f the WTO mandated transactions system o f customs assessment, inspecting some specified percentage o f every consignment, random checking o f containerized consignment and thereby facilitating movement o f containers from the congested port area, and introduction and upgrading o f electronic technology for reducing the scope for corrupt practices. Likewise, the lead times for garments from Nepal i s expected to be improved considerably with the functioning o fthe inland container depots. Buyer DrivenCommodity Chain. Itwould be inthe interests o f countries, Nepal and to a more limited extent, to establish "Buyer-driven'' global commodity chains.87 A commodity chain refers to a whole range o f activities involved in the design, production and marketing o f a product. There are two distinct types o f commodity chain- "the producer-driven'' and "buyer driven" commodity chains. The producer- driven commodity chain are those in which large, usually transnational manufactures play the central roles in coordinating production networks (including their backward and forward linkages). Such producer-driven commodity chains are usually found in capital and technology-intensive industries such as automobiles, semiconductors and machinery. In contrast, the buyer-driven commodity chain, is common in labor-intensive, consumer goods industries such as garments, footwear and toys. In such a chain, large retailers, marketers and brandedmanufacturers play the mainrole in setting up decentralized production networks in developing countries. Tiered networks o f contractors that make finished goods for foreign buyers c arry outproduction. L arge retailers o r marketers that order the goods supplythe specifications, act as s trategic brokers in1inking overseas factories and traders with evolving product niches inthe main consumer markets. The buyer-driven commodity chain i s different from mere assembling o f imported inputs inT&C products, in that it involves a more domestically integrated and higher value-added form o f exporting. Whereas the assembly model i s a form o f subcontracting inwhich the manufacturers provide the parts for simple assembly to garment sewing plants, the buyer-driven commodity chain is a form of commercial 85 World Bank(1999). 86 Draper (2001) 87 Gereffi (2002) and Ramaswamyand Gereffi(2000). 61 Trade Policies in South Asia : Some Key Sectors subcontracting in which the buyer-seller linkage between foreign merchants allow for greater degree o f local learning about the upstream and downstream segments o f the apparel chain. Some Conclusions Worldwide trends in T&C reveal that clothing and textile made-ups represent the growing segment o f world T&C trade. While countries in South Asia have made impressive progress inexporting T&C products o f good but not necessarily consistent quality, it has been largely inlow to mediumrange o f goods, where price i s the main determinant o f success. The world competition for these goods i s likely to be especially intense after the dismantlement o f quotas from the other low-wage countries which are increasingly being integrated inthe global economy. It would be intheir interests to diversify the product composition interms o f higher value-added textile and apparel products, where their labor cost advantage would be a significant -advantage in the Post quota phase, provided they make the necessary adjustments interms o freducingleadtimes throughtransport andlogistics efficiency amongothers. A notable trend inthe geographical pattem pertains to the regional sourcing of T&C imports by U S and EU. Both U S and EU seem to be doing a preference for sourcing imports from geographically proximate countries to reduce transportation costs and reduce lead times in line with the trend towards reducing inventories for the Quick response system. Although both U S and EU (particularly EU inview o f the duty free access for T&C products from Bangladesh, Nepal and Palustan and EU's Roo relaxations for goods made with imported fabrics from regional countries) will remain important markets, it would be inthe interests o f countries in South Asia to diversify their T&C exports to other countries in general- and encourage trade within the region inparticular, by removing the policy-induced impediments to intra- regional trade. The EURoo relaxations for products made with imported fabrics from the region again strongly suggests the need for intra-regional trade. Intra-regional trade in T&C i s as yet quite limited. (Current figures for the Intra-regional trade in T&C needs to be checked). South Asia has traditionally been a major cotton-producing region, with two of the important cotton-producing countries of the world- India and Pakistan. The region as a whole also has a very large market for textiles and garments which can be easily be supplied from within the region. There i s practically no intra-regional trade in apparels. Trade in textiles is largely confined to trade between India, Bangladesh, Nepal and Sri Lanka, with India exporting fabrics to the respective countries. Trade between Pakistan and other countries o f the region i s extremely limited, althoughPalustan i s a significant cotton producing country. Another trend is t he w orld T &C industryis that o f increasedbuyings easons and minimizing inventory holdings through JIT and Quick Response systems by wholesalers and retailers in major markets. This highlights the need for reducing lead times associated with delivery. Lead times depends on the efficiency associated with transport efficiency and efficiency associated with providing trade- related logistics services. Transport efficiency depends not only on the cost, but also the time taken in delivering products, door-to-door. That is, not only the cost and time associated with the oceangoing leg o f the travel, but the time and cost from factory gates to the port o f embarkation (and transit cost through third countries as inthe case o fNepal) ,and the logistics (expedited cargo and administrative clearance at chokepoints whether it i s ports or roads, port charges, expedited trade documentation and so on). SouthAsian DomesticMarket ProtectionPolicies Tables 111.9 to 111.12 compare tariffs and QRs (as o f September 2002) in the South Asian countries for some o f the principal textiles fibres, yarns and fabrics (i.e. cotton, polyester and acrylic) and for garments (knitted garments and garments made from woven fabrics). A number o f major points emerge from these comparisons. 62 Textiles, Garments and the MFA Phaseout 0 Explicit QRs are no longer used to protect domestic markets, with the important exceptions o f the textile fabric industryinBangladesh, and India's ban on the import o f second hand clothing. 0 In addition to its textile fabric QRs (for most an import ban unless they are used by exporters as inputs) Bangladesh also gives extra protection to its textile yam and fabric producers by exempting them from the VAT which (inaddition t o Customs and other import taxes) is paidby importers. Hence, as discussed earlier, for these products the VAT on imports may act as an extra protective import duty, depending on whether the purchaser o f the domestically produced yam or fabric i s subject to VAT, and if so at what rate. The total protection rate for fabrics goes from 32.7 percent with normal duties only applying, upto 52.1 percent ifthe VAT exemptionis fully effective. 0 India employs an extensive array o f specific tariffs to protect its fabric and garment industries (see Tables 111.13-18). In its T&C tariff HSC chapters (50-63) 267 out o f a total o f 848 tariff lines currently have specific duties i.e. the duty i s the higher o f the general ad valorem rate or the specific amount. All except two o f these are fabric and clothing products, for which the proportion o f tariff lines subject to specific duties i s as follows: cotton fabrics, 49%; man-made filament fabrics, 88%; man-made staple fibre fabrics, 69%; special woven fabrics (including tyre cord fabrics), 51%; knitted apparel, 30%; apparel, not knitted, 62%. India has also imposed anti-dumping duties on five major synthetic textiles; acrylic fibres, acrylic yams, nylon tyre cord fabrics, polyester staple fibres, and polyester partially oriented yams (POY). As noted in the previous discussion o f anti-dumping, the anti-dumping duties are targeted at low priced supplies and are also specific. The intention and likely effect o f the specific duties i s to exclude low priced imports from the Indian market altogether. Some examples o f the ad valorem equivalent o f Indian specific duties on cotton fabrics and polyester fabrics are shown in Figs V.1-3. For cotton fabrics the four randomly chosen examples correspond to ad valorem tariffs o f between 45 and 60 percent, and one o f the polyester fabric examples i s equivalent to an ad valorem tariff o f more than 100percent. An example o f an anti-dumping duty i s illustratedin FigV.3. The export prices and other details o f how these ad valorem equivalent duty rates have been calculated are given in Tables 111.13-15. By estimating prices cif India from detailed price data on Chinese garment exports to the US, the ad-valorem equivalent Indian tariff on cotton shirts i s estimated a t 3 6.9% for the median Chinese export price, and 4 9.4% for the first quartile Chinese export price, For mens' cotton trousers, the ad valorem equivalent tariffs are 52.7 % (median Chinese export price) and 120.1%(first quartile Chinese export price). As with most of textile specific duties, these protective rates are so highthat there i s no way that shirts and trousers priced below or even at the median level prevailing in international markets could be profitably exported to India. For low value textile fabrics and garments, tariffs at these levels are effectively continuing the explicit import ban that was finally phased out on April 1, 2001 following India's loss o f its GATT Article XVIII (b) case at the WTO. 0 Across the board, protection o f the domestic T&C industries i s much higher in India and Bangladesh than inthe other South Asian countries. 0 T& C industryprotection inIndia and Bangladesh i s also muchhigher than present tariff protection in China, and higher still compared to China's final bound WTO tariff bindingse.g. 5% for cotton yarn in2002, 10% for cotton fabrics in2003, 5% for polyester yam in2004, and 5% for polyester fabrics in2005.For most garments, China's current tariffs arebetween 18% and23% andits final tariff bindings, to bereachedin2004 or 2005, are 14%or 16%. 0 Tariffs inIndia and Bangladesh are also muchhigher than tariffs inthe U S and the EU.Assuming the MFA quotas are infact abolished as agreed inDecember 2004, these tariffs (which are bound at the WTO) will become the principal means o fprotecting T&C producers inthe U S and the EU. 63 Trade Policies in South Asia : Some Key Sectors Instrikmgcontrast to IndiaandBangladesh, inSriLankasince 1997there hasbeenfree trade inthe textile industryi.e. no QRs and zero protective tariffs on yams and fabrics. There i s also a single low 10%tariff on imported garments. T&C protection inPakistan i s markedly lower than inIndia and Bangladesh, but in some segments it still highby intemational standards. Inparticular, cotton yam tariffs (5%) are low, but combined with 25% tariffs on cotton fabrics, make available very high effective protection to cotton fabric production. Except in Sri Lanka, T&C tariffs in the other South Asian countries are mostly steeply escalated according to the degree o f processing, starting with generally l o w or zero tariffs on raw cotton and other textile fibres, with higher tariffs on yams and higher again on fabrics. This systematically provides higher effective protection to processing margins than the nominal protection o f final outputs. However, garment tariffs are not always higher than fabric tariffs (notably in Bangladesh), perhaps reflecting the fact that a large share o f fabrics are effectively sold as final consumer goods. In India, tariff escalation i s also moderated by protection commitments to upstream domestic synthetic fibre and yarn producers, and further upstream by protection commitments for petrochemical producers (not shown in these tables).These high upstream tariffs which are reinforced by anti- dumping and specific duties (see examples for polyester and acrylic textiles in Tables 111.13.and 111.15) increase downstream input costs and provide arguments which fabric and garment producers have s uccessfullyused t o obtain extra protection from specific duties. There also appears t o be a similar commitment to an upstream synthetic fibre producer in Pakistan, but the government has not allowed this to undermine its general trade liberalization and tariff reductionprogram by giving extra protection beyond its general maximumtariff slab, to yam, fabric and garment producers. Nepal has a low-tariff regime for t extile yarns and fabrics (zero tariffs o n cotton y ams) but as in Palstan these low input tariffs combine with a 25% tariff on imported garments to make available very highlevels o f effective protection to its garment industry. Bhutan also has a very escalated T&C tariff structure, with zero tariffs on fibres and yams, 20% on fabrics, and 30 % (increased fiom 20% in 2001) on garments. This structure also makes available higheffective protectionlevels for localfabric and garment production. Tariff bindingswith the WTO have constrained Indian applied tariffs to some extent, but only a few o f Pakistan's T&C tariffs are bound, and none in Bangladesh or Sri Lanka. India has bound 26 percent o f its T&C tariff lines, mostly at 25% or 40%. Nearly all these bindings are fibres and textile yams: o f 642 6-digit fabric and garment tariff lines, 604 are unbound (Table 111.16). As discussed in Chapter 11, the tariff lines which are bound seem to have had some constraining effects. There has also been some constraint on tariff increases resulting fiom bilateral agreements on maximum applied textile tariffs between India and the U S and India and the EU, which were negotiated during the Uruguay Round and which cover a fairly wide range o f textile products including a number o f fabrics. Although these maximum applied tariffs were negotiated bilaterally, they are applicable multilaterally under the WTO MFNprinciple. For the U S and the EU, however, the maxima are principally seen as ways o f possibly opening opportunities for exports to India o f some specialized high quality, high- value textile products. Consequently they have not objected and indeed may have been pleased when India introduced specific duties for many o f the fabrics covered by their agreements, since the effect o f the specific duties was to penalize and probably exclude low-price suppliers such as China, while generally not exceeding the agreed ad valorem duties and therefore not penalizing U S or EUexports (or potential exports) to India. 64 Textiles, Garments and the MFA Phaseout ConclusionsandRecommendations Perhaps more than in any other part o f the world, there are very substantial economic opportunities in the MFA phaseout for the South Asian countries. But for many reasons, with the exception o f Sri Lanka, the continuing high protection o f all or substantial segments o f their domestic markets suggests that they are far fiom ready to take full advantage o fthese opportunities. Firstly,highprotectiontakes the pressure off industriesto improve their performance and makes it easier for bureaucrats andpoliticians to avoid or put offtaking policy decisions which are clearly inthe longer run national interest, but which are politically difficult and which may not serve their institutional or personal interests. A very clear example i s the use o f specific duties inIndia. These were introduced in 2000 to compensate for the abolition o f QRs and tariff reductions that were in the offing. H o w and why this was done inthe case o f garments has been explainedby the president of the ClothingManufacturers' Association o f India (CMAI) ina symposiumon the textile and garment industry88: "With.. .the removal o f import controls on several commodities including garments, countries are vying with each other to export garments to India. Initially, cheap low quality garments had started entering the country. Alarmed with this trend that could hurt the domestic garment industry, C M A I took inhandthe task ofcalculatingspecific import duty for eachgarment. Since then import duty of40 percent ad valorem.. .did not offer the industry a level- playing field with the imported garments. The domestic industryis already saddled with duties and taxes on inputs o f garments, which cumulatively add up to 38 percent o f the cost o f production. It took C M A I four long years to convince the ministries o f textiles, commerce and finance the necessity to put inplace the specific import duties so calculated." In the same symposium, similar reasons were given by the textile producers for the extra protection they also obtained through specific duties on imported fabrics. These reasons included high prices for their inputs (Le. fabrics into garments, yams into fabrics, and synthetic fibres into yams), the poor quality o f domestic cottons, and a variety o f problems affecting their processing costs including low productivity machinery. Hence poor quality and high costs in each stage o f the processing chain feeds into higher input costs for the next stage, and on this basis each stage has been demanding and obtaining special protection. But all o f the problems afflicting the Indian T&C industryhave been well known for many years, and attempts o f limited effectiveness to deal with them go back at least 15 years. Most o f these have been subsidy schemes o f various kinds devised and directed by the Ministry o f Textiles, the latest o f which i s the "Technological Upgradation Fund Scheme"(TUFS) introduced in 1999. The main thrust o f this scheme i s to provide subsidized funding for equipment investments by textile producers, especially the power loom sector, by an interest rate subsidy o f 5 percent for purchases (either local or imports) o f specified types o f equipment, or alternatively a direct subsidy equivalent to 12 percent o f the cost o f approved types o f machinery. One motivation for the TUFS scheme i s to help the industry face up to the coming MFA phaseout, but the immediate motivation i s to help adjust to the removal o f the Indian textile and garment QRswhich occurred inApril 2000 and April 2001, and also to prospective reductions in general tariff levels including textile tariffs. But the simultaneous imposition of new forms of protection, through specific and anti-dumping duties strongly supported by the Ministry o f Textiles, seems to have removed much o f the urgency for adjusting, and two years into the scheme there were few takers for the subsidized loans, and pressures to make new investment more attractive by measures such as lowering or removing textile machinery tariffs, paying firms to scrap old spinning equipment etc i.e. 88 Textile Office. Com website http://www.textileoffice.codinterview/index.cgi/. The website includessummaries o f interviews with the Ministerof Textiles andthe chairmenof the major IndianT&C industryassociations 65 Trade Policies in South Asia : Some Key Sectors for more subsidies in addition to the TUFS investment subsidies and the extra tariff protection that had been obtained through specific duties and anti-dumping actions8'. A second reason for the South Asian countries to avoid policies o f high protection to their domestic markets, i s that low cost, internationally competitive domestic T&C markets will provide a much better basis for exporting to a more competitive post-MFA world than a situation when all or some domestic segments o f the T&C industries are protected. For example, there are many advantages for garment exporters when some or all o f their fabric requirements are supplied by domestic textile firms e.g. shorter delivery times, closer contact with suppliers, avoiding the inevitably more complex formalities o f international trade, especially at Customs. But exporters cannot afford to buy their inputs locally unless the firms that supply them are fully competitive with international suppliers. Thirdly, exports from a highcost protected domestic industry are much more vulnerable to anti- dumping in importing countries than exports from open competitive domestic markets where internal prices are in line with prices in export markets. With the disappearance o f the MFA and relatively low bound tariffs in developed countries, i t i s unfortunate but realistic to suppose that anti-dumping will become the new dominant form o f protection in the world T&C industry. Except for Sri Lanka, the present protective structures o f the South Asian countries make them very vulnerable to these hnds o f measures. By country, the most vulnerable T&C sectors are probably: India: synthetic fibres, cotton yarns and synthetic yams, fabrics, garments Pakistan: some synthetic fibres, synthetic yarns, fabrics, garments Bangladesh: cotton yams and synthetic yarns, fabrics, garments Nepal: garments Fourth, in addition to anti-dumping, after the MFA phaseout, T&C exporters in high protection countries are also likely to be more vulnerable than exporters inlow protection countries to countervailing duty actions inimportingcountries that take aim at direct and indirect subsidies, especially excessive duty drawbacks or subsidies resulting from other schemes (such as the Indian advance licenses and duty exemptionpassbook (DEPB) scheme) which rebate o r offset tariffs on directly or indirectly imported intermediate inputs. It i s well known that these schemes in South Asia have periodically provided substantial subsidies for a variety o f exported products including textiles and clothing, but there have been relatively few cases initiated against them by developed countries, since the exports have inany case been restricted by the MFA quotas. Similar export subsidies have also resulted from the various bonded warehouse schemes, both from legal domestic sales, and from illegal leakage o f both duty exempt materials and finishedproducts into the domestic market. When the tariffs on the inputs are zero, as i s the case for yarn, thread and fabric inputs for the Sri Lankan garment industry,by definition there i s no scope for this kind o f export subsidization, except insofar as diversion avoids domestic indirect taxes. Even then, with the VAT systems that are now in place in all the South Asian countries, there would be little tax advantage in the diversion, since the buyer o f the illegally diverted materials loses the VAT credit on the inputs. Fifth, bilateral and multilateral negotiations on world T&C trade are sure to continue after the MFA phaseout, including especially negotiations on regional preferences and the rules o f origin associated with them, anti-dumping and subsidies rules, technical and health standards, and 1abor and environmental standards. The South Asian countries will have a much more credible role in these discussions and will be able to pursue their own negotiating interests more effectively if segments o f their 89 This comes out very clearly from the symposiuminterviews, including the interview with the Minister of Textiles, published onthe Textile 0ffice.com website. See also an interview with the Chairmanof the IndianCottonMills Federationduring2001 on the ICMFwebsitewww.icmfindia.com. 66 Textiles, Garments and the MFA Phaseout own domestic markets for textiles and clothing are not hermetically sealed or heavily protected against imports. Their markets are also large enough (especially the markets o f India, Pakistan and Bangladesh) to give them considerable negotiating leverage with countries from which they import, because even a very small market share in say India could represent a very large export interest for most exporting countries. Of course it could be argued that by heavily protecting their markets now, India and to a lesser extent Bangladesh and Pakistan are increasing their bargaining power and will be able to obtain more concessions from other countries by having more to give away. There are two major problems with this as a strategy. First, the economic costs o f the extra protection come up front and are likely to greatly exceed any discounted economic benefits o f improved access to other markets that bargaining away the extra protection might (or might not) generate in the future. Secondly, it i s highly likely that the domestic interests created by policies o f high protection will resist and may prevent altogether or greatly limit future attempts to bargain away their protection, and hence future bargaining benefits may be zero or negligible while the economic costs o f the extra protection continue. Sixth, low or zero protection and open domestic markets for T&C in South Asia would remove much ifnot all the motivation for both conventional and "official" (also known as "technical") smuggling between India and its neighbours, and would go much further towards establishing a South Asian common market for textiles and clothing than has happened under SAPTA or i s likely to happen under the various bilateral trade agreements. This smugglingand the corruption on both sides o f the borders that accompanies it i s a persistent irritant in India-Bangladesh and India-Nepal economic relations, in particular. Seventh, open domestic markets would also greatly improve the benefit to South Asian garment exporters o f preferential arrangements such as the EU's GSP, under which the use o f fabric and other inputsproducedinany o fthe SAPTA countries qualify the garment for the EU'soriginrules. Finally, and most important, South Asian consumers will benefit if protection i s reduced or eliminated, as they have in Sri Lanka where there i s free trade in textiles and a low 10 percent tariff on garments. Inthis regard, it i s important to recall that in South Asia, although T&C exports are important, domestic sales are very large. I n India about 90percent of textilefabrics are sold domestically, mostly in small retail shops to consumers who either employ local tailors or themselves make them into saris or other traditional garments. Most o f this very small scale local tailoring activity i s not captured at all in published production or national income statistics even though it i s much larger than both the "registered" and the "unregistered" garment industries which principally specialize in westem style clothing. Consequently high fabric protection reduces consumer economic welfare in two ways, not only by increasing the input costs and the selling prices o f garment factories, but much more importantly by directly increasing the prices o f textile fabrics purchased by final consumers. Because o f the focus o f the protection policies on keeping out imports o f low price/lower quality fabrics and garments through specific duties and anti-dumping duties, the economic welfare cost is greater for low income consumers. InIndia, the regressive nature of T&C protection is reinforced by the longstandingban on imports of second hand used.clothes, which can only be imported ifthey are tom up and mutilated sufficiently to be unwearable, and used as an inputs for the shoddy industry (which reprocess the mutilated garments into yam, rough blankets etc). Inthis way India has chosen to isolate (or to attempt to isolateg0)its consumers from the obvious benefits o f the extensive world trade in used garments, many o f which are not used at all, but are remainders o f seasonal unsold stocks in developed countries. The other South Asian countries 90 It seems that there are substantial leakages o f usedclothing through Customs. One method is to declare consignments which contain unmutilated second handclothing as rags. According to the president o f the Indian clothing manufacturers association, if the customs officers open a consignment they are supposed to mutilate the contents, but "this effort i s both tedious and time consuming and often results in the release o f a consignment after the mutilation o f only a few pieces." To deal with this "CMAI has suggested the installation o f huge shredders at all leading ports for easy shredding o f full consignment. As an alternative, the clearance should be denied to such illegal cargo and such consignments should be sent back to the sender o f totally destroyed" 67 Trade Policies in South Asia : Some Key Sectors allow used clothing imports, albeit inBangladesh", Nepal and Bhutan over the relatively hightariffs that are applied to imports o f new clothing. In Pakistan, however, they are imported over a low 10 percent tariff, and in Sri Lanka over its general garment tariff o f 10 percent. ''For unknownreasons, inBangladeshonly a limitednumber oftraders are licensed to import used clothing. 68 Appendix Bangladesh:a noteon the protectiveeffects of VAT exemptions or reductionsfor domesticproducersand distributors As an example take the case o f cotton textile yarns. The Customs duty (CD) is 15%, VAT on imports 15% and the IDSC tax on imports i s 3.5%. Inthis case there i s no supplementary duty (SD). As explained in the National Board o f Revenue website' the base for Customs duties i s the "assessable value" (AV) which i s the CIF price plus landing charges, which are either actual landing charges or the CIF price plus 1%. This has not been allowed for in the estimated protective effects o f import duties, so all the protective rates should be understood to be inrelation to the landed value or assessable value rather than CIF prices. This i s reasonable since what local producers have to compete with i s the imported goods after they have been landed, not while they are still on the ship at the CIF stage. The base for VAT on imports i s (AV+CD+SD). The base for IDSC tax i s AV. Consequently the total duty paid cost of cotton yarn to an importer/wholesaler would be AV*1.15*1.!5+.0325*AV=AV*1.3575. For imports with a landed value (or AV) o f Tk 100, the cost to the importer would break down as follows: Landed value (AV) 100 Customs duty 15 VAT 17.25 IDSC 3.5 Total cost 135.75 In considering how much he would be willing to pay a domestic producer for the same cotton yarn, the importer/wholesaler will take into account (1) the total cost o f the imported yam o f Tk 135.75, and (2) the potential VAT credit to himo f Tk 17.25 which he can offset against whatever VAT he himself has to pay when he resells the yarn. Ifthe importer/wholesaler is himself subject to the general VAT rate of 15%, and domestic yam producers are also subject t o VAT a t 15%, then the maximumprice h e would be willing t o pay t o a domestic supplier would be (AV+CD+IDSC) =(100+15+3.5)=18.5. In this case the domestic producer charges the importer/wholesaler Tk 118.5 +VAT = Tk 118.51-118.5*0.15=(118.5+17.78)=136.27. The importer/wholesaler pays a slightly higher VAT inclusive price than he does if he imports the yam, but this is compensated by the fact that he has a higher VAT credit (Tk 17.78 instead o f Tk 17.25) which he can offset against hisVAT liability when the yarn i s resold. So the operative cost o f imports that he looks at when deciding whether to import or to buy domestically i s the landed price plus the Customs duties that can't be offset against hisVAT liability. Now suppose the current actual situation where the VAT on imports i s 15% but that domestic producers are exempt from VAT and instead pay an excise tax o f 2.5%. If the importer/wholesaler i s subject to the normal 15% VAT, this will not change his buying decision, since if he buys from the local producer he has no VAT credit that he can use to offset his own VAT liability when the yarn i s resold. Therefore, as in the previous case, the maximum price he will pay the local producer i s 118.5. However, the local producer now has to pay an excise tax o f 2.5% o f his selling price. Therefore, his net price i s ` Trade Policies in SouthAsia : Some K e y Sectors 118.5/(1+0.025)= 115.6. Therefore, the protective effect i s 15.6% and i s lower than the sum o f the customs duty and the IDRC tax owing to the excise tax that the local producer must pay. Next, take a case where the local producer i s exempt from VAT and instead pays and excise tax o f 2.5%, and the importer/wholesaler i s also exempt from VAT. This couldbe legal exemption, or simply due to lax VAT collection from distributors. Also assume that the VAT system does not allow for refunds, and that the importer/wholesaler i s not able to offset VAT on imported or domestically purchased yam against VAT liabilities on other products which he sells. Inthis case, for the importer/wholesaler all the VAT charges are a cost, and since the VAT i s lower when he buys domestically, he will make his decision by comparing the VAT inclusive price o f imports with the VAT inclusive price o f domestically produced yarn. The total cost to him o f imports i s therefore Tk 135.75, and that i s the maximum VAT inclusive price he will be willing to pay local suppliers. Since the local suppliers have to add 2.5% excise to their selling price, the VAT free price they receive i s Tk 135.75/1.025=Tk 132.4. The total protective effect in this case i s therefore 32.4% o f the landed price i.e. as a result o f the combined effects o f the Customs duty, the VAT exemption, the excise tax and the IDSC, they would be able to raise their selling prices by 32.4% above the landed prices o f importedcotton yarn. A major point here is that the VAT exemption for domestic textile producers will not give them any extra protection unless the traders to whom they sell are (1) exempt from VAT (2) unable to claim VAT refunds or to credit VAT payments against VAT liabilities on products other than textile yarns and fabrics. If the traders are only partially exempt from VAT on their own sales and (2) holds, there may be some extra protection for local producers from the VAT exemption, but it will be less than the case with full exemption. Hence the estimate o f 32.4% protectionfrom the preferentialVAT is anupper bound: the actual protective effects are somewhere inbetween this upper bound and the lower bound o f 18.5% which applies ifthe importer distributor i s subject to the normal VAT on his own sales. H o w this works out in practice i s an empirical question. For example, if the domestically produced textiles are sold by local producers directly to small retail shops which are either exempt from VAT or pay only low VAT rates, imported textiles that pay the full VAT at Customs will be disadvantaged and the protectionrate for the local producers may be at or close to the upper bound. But as soon as the domestic textiles are sold to other firms which come within the VAT net at normal rates (whether producers which use them as intermediate inputs or traders) the extra protection will be lower and may approximate the lower bound owing to the loss o f VAT credits 70 Appendix Table A.l: World TradeinTextiles and Clothing Textiles Clothing TotalT&C Value (2001) 157 199 356 Annual Percentage Change 1980-85 -1 4 1985-90 15 17 1990-00 4 6 1998 -4 1 1999 -2 0 2000 7 7 Share inWorldMerchandiseTrade 2.5 3.2 Share inWorld Exportso f Manufactures 3.4 4.3 Note: Figures are based on constant dollars Source: WTO Annual Report(2002) Table A.2: World T&C Imports (inBillions o fU S Dollars) 1998 1999 2000 Textile Fibers 25 20 22 Textile Yard FabricslArt 144 140 143 AppareYClothingiAccessories 191 194 206 TotalT&C 360 354 371 Share o f TextileFibers inT&C 7 6 6 Share o f TextileYarn inT&C 40 40 39 Share o f Apparels inT&C 53 55 56 Source: UNCOMTRADEDATABASE 71 Trade Policies in South Asia : Some Key Sectors Table A.3: ImportanceofT&C ExportsinRegionalCountries (1998) (inmillions ofDollars) India Bangladesh Pakistan Sri Lanka Nepal Total Exports 33062 5010 8013 4000 524 Total T&C Exports 9123 4023 6023 2123 312 Total T&C Imports 823 1012 300 1000 127 Net T&C Exports 8300 3011 5723 1123 185 Share o fT&C inTotal Exports 28 80 75 53 60 Net T&C Exports as % o f Total Exports 25 60 71 28 35 Share o f T&C Imports in T&C Exports 9 25 5 47 41 Table A.4: RegionalT&C ExportComposition (1998) (inmillionofUSDollars) Product India Bangladesh Pakistan Sri Lanka Nepal T&C Exports 9431 3927 7200 2525 312.1 Ofthis: Textile fibers 92 83 4257 34 0.1 Textile YamiFabricsiArt 4557 59 1097 205 174 Apparels/ Accessories 4782 3785 1846 2286 138 Share of Textile Fibers 1 2.1 59.1 1.4 0 Share o f textile yarn 48.3 1.5 15.2 8.1 55.8 Share o f Apparels 50.7 96.4 25.6 90.5 44.2 Table AS: RegionalT&C Import Composition(1998) (inmillionofUS Dollars) Product India Bangladesh Pakistan Sri Lanka Nepal Total Imports o f all goods 42424 7017 10159 5338 1347 T&C Imports 865 1924 587 1433 175 Share o f T&C Imports inTotal 2.04 27.42 5.78 26.85 12.99 O f this: Textile fibers 407 339 470 28 53 Textile YardFabricslArt 445 1521 113 1331 119 Apparels/ Accessories 13 64 4 74 3 Share of Textile Fibers 47.1 17.6 80.1 2 30.3 Share o f textile y a r d fabrics 51.5 79.1 19.3 92.9 68 Share of Apparels 1.5 3.3 0.7 5.2 1.7 Source: COMTRADEDATABASE 72 Appendix Table A.6: ComparativeQuota Utilizationin SelectedT&C Categories (as on Dec 1999) MFN Category Produce India Bangladesh Pakistan Sri Lanka China 331 88.3 67.8 61.9 75.4 3381339 96.3 88.8 88.0183.9 85.9 94.8 3401360 99.5 87.3 83.7 88.7 78.8, 97.8 341 93 87.4 24.6 77.0171.6 93.3 3421642 85.7 80.7 38 88.9 87.2 3471348 87.3 100 92.7 93.6 97.1 3521652 95.6 52 71.5 96.1 363 93.9 80.5 90.4 73.4 62.8 369 60.1 90.3 75.1 99.9 4.9 6381639 89.9 75.3 78.3 93.5 6471648 76.3 95 65.7 77.8 81.1/93.3 Source: Reproduced from: Bhattacharya and Rahman(2000) Note: Products corresponding to numbers need to be checked Table A.7: PrincipalExportDestinationfor Apparels (1998) Per cent CountrieslRegion India Bangladesh Pakistan Sri Lanka Nepal World 100 100 100 100 100 NorthAmerica 39 49 52 61 76 EU 42 48 37 34 17 Japan 4 1 1 1 3 Australia and N e w Zealand 3 < 1 < 1 1 3 East Asia 3 < 1 2 1 Middle East and Central Asia 4 < 1 3 < 1 South Asia 3 < 1 2 < 1 Others 2 1 2 2 1 Note: < denotes less than Source: COMTRADEDATABASE 73 Trade Policies inSouthAsia : Some K e y Sectors Table A.8 Some Cotton And Cotton Textile Tariffs In South Asia, September 2002 HSC Product India Pakistan Bangladesh Sri Lanka Nepal Bhutan code 5201 Cotton not carded or 5 5 0 0 0 n.a. combed 5202 Cotton waste 19.6 20 11 0 0 n.a. 5203 Cotton carded or 35.2 5 0 0 0 n.a. combed 5204 Cotton sewing thread 24.8 25 15.6-32.4 0 0 0 5205 Cotton yam > 85% 24.8 5 15.6- 32.4 0 0 0 cotton 5206 Cotton yarn<85% 24.8 5 8.3-24.0 0 0 0 cotton 5207.10 Cotton yarn for retail 30.0 20 8.3-24.0 0 0 0 sale > 85% cotton 5207.90 Cotton yarn for retail 35.2 20 8.3-24.0 0 0 0 sale < 85% cotton 5208 Cotton fabric >85% 36.0 +S 25 32.7-52.1+QR 0 5 20 cotton <200gmim2 5209 Cotton fabric >85% 36.0 +S 25 32.7-52.1+QR 0 5 20 cotton >200gdm2 5210 Cotton fabric 4 5 % 36.0+S 25 32.7-52.1+QR 0 5 20 cotton < 200gdm2 mixed mainly with man-made fibres 5211 Cotton fabric >85% 36.0 +S 25 0 5 20 cotton > 200gdm2 mixed mainly with man-made fibres 5212 Other woven fabrics of 36.0 +S 25 32.7-52.1+QR 0 5 20 cotton Notes: (1) InIndia, many but not all cotton fabrics inHSC 5209-5212 are subject either to the higher o f ad valorem duties or specific duties. This i s indicated by "+S". As explained inthe text (see also Annex Table A.12) the applied ad valorem duty shown in this table includes the estimated protective effect o f the special additional duty (Sadd). Examples o f the ad valorem incidence o f specific duties are given inAnnex Table A.12. (2) InBangladesh the ad valorem duty shown here includes the estimated protective effect o f the IDSC import tax as well as Customs duties. Inthe case ofcottonyarn and cotton fabrics, the 15%VAT onimports may also beprotective since domestic cotton yam and fabric producers are exempt from VAT and instead pay a 2.5% excise tax . Whether there is a protective effect and the extent o f the additional protection however depends on whether the purchaser o f the yam or fabric i s subject to VAT, and if so at what rate (see text discussion). In Bangladesh, unless they are used as inputs by exporters, the import o f all textile fabrics i s either banned or subject to import licensing (indicated as +QR). (3) In Sri Lanka the customs duty on all textiles including cotton textiles i s zero. (4) There is just one ad valorem customs dutyrate inPakistan,NepalandBhutanandno otherprotectiveimport taxes. TheBhutantariffschedule (1996 edition) has only two rates, zero for yarns and 20% for fabrics. Fibres are not mentioned (5) Imports inPakistan are subject to an income withholding tax at the rate o f 6% on the cif price plus the Customs duty plus the sales tax. There is a similar "Advance income tax" inBangladesh at 3% o f the "assessable value" i.e. approximately the duty free landed value. These taxes have not has not been included as a protective import taxes since they can be credited against income tax liabilities. However, they could be protective if competing domestic producers pay no or lower income taxes relative to the price o f the product, than the advance income tax on imports. 74 Appendix TableA.9 SomePolyesterAnd Polyester TextileTariffsInSouthAsia, September 2002 HSC code Product India Pakistan Bangladesh Sri Nepal Bhutan Lanka 5503 & Polyester staple fibre 25.6 20 0 0 5 n.a. 5506 5505 Waste o f man-made fibres' 36.0 10 0 0 5 n.a. 5509 Polyester yam from staple fibre 25.6 10 15.6-32.4 0 10 n.a. >85% polyester 5511 Polyester yarn from staple fibre 25.6 +S 10 15.6-32.4 0 10 0 > 85% polyester for retail sale 5402 Polyester filament yam (PFY) 26.3 25 15.6-32.4 0 10 0 <750D (general rate) 5402.33 Polyester filament yarn (PFY) 26.3 25 22.9-40.9 0 10 0 <750D cabledtexturised 5402.42 Polyester partially oriented 39.2 +AD 25 8.3-24.0 0 10 0 yam (POY) 5512 Fabrics > 85% polyester, 36.0+S 25 32.7- 0 10 20 unbleached or bleached 52.1+QR 5513 Fabrics < 85% polyester with 36.01-S 25 32.7- 0 10 20 cotton, <170 gIm2 52.1+QR 5514 Fabrics < 85% polyester with 36.0+S 25 32.7- 0 10 20 cotton, >170 glm2 52.1+QR 5515 Other polyester fabrics 36.0+S 25 32.7- 0 10 20 52.1+QR Notes: (1) In India, many but not all polyester fabrics in HSC 5209-5212 are subject either to the higher o f ad valorem duties or specific duties. This i s indicated by "+S". Polyester partially oriented yam i s subject to anti-dumping duties (+AD). As explained inthe text (see also Annex Table A.12) the applied ad valorem duty shown inthis table includes the estimated protective effect o f the Special additional duty (Sadd). Examples o f the ad valorem incidence o f specific duties and anti-dumping duties are given in Annex Table A.12. (2) In Bangladesh the ad valorem duty shown here includes the e stimatedprotective effect o f a number o f other import taxes a s well as Customs duties. Inthe c ase o f polyester yam and polyester fabrics, the 15% VAT on imports may also be protective since domestic polyester yarn and fabric producers are exempt from VAT and instead pay a 2.5% excise tax . Whether there i s a protective effect and the extent o f the additional protectionhowever depends on whether the purchaser o f the yarn or fabric i s subject to VAT, and if so at what rate (see text discussion). In the case o f polyester filament yarn (PFY) and textile fabrics, the 15% VAT on imports may also be protective since domestic PFY and textile fabric producers are exempt from VAT and instead pay negligibly small excise taxes . Whether there i s a protective effect and the extent o f the additional protection however depends on whether the purchaser o f the PFY or fabrics i s subject to VAT, and if so at what rate (see text discussion). InBangladesh, unless they are used as inputs by exporters, the import o f all textile fabrics i s either banned or subject to import licensing (indicated as +QR). (3) The Sri Lanka customs duty o n polyester and all polyester textiles i s zero. (4) There i s just one ad valorem customs duty rate in Pakistan, Nepal and Bhutan and no other explicitly protective import taxes. (5) The Bhutan tariff schedule (1996 edition) has only two rates, zero for yarns and 20% for fabrics. Fibres are not mentioned. (6) Imports inPakistan are subject to an income withholding tax at the rate o f 6% on the c i f price plus the Customs duty plus the sales tax. There i s a similar "Advance income tax" in Bangladesh at 3% o f the "assessable value" i.e. approximately the duty free landed value. These taxes have not has not been included as a protective import taxes since they can be credited against income tax liabilities. However, they could be protective if competing domestic producers pay no or lower income taxes relative to the price o f the product, than the advance income tax on imports. 75 Trade Policies inSouthAsia : Some Key Sectors Table A.10 Acrylic And Acrylic Textile Tariffs In South Asia, September2002 HSC code Product India Pakistan Bangladesh Sri Lanka Nepal Bhutan 5501.30 Acrylic tow & acrylic 26.6 +AD 20 11 0 5 n.a. 5503.30 fibre 26.6+AD 20 0 5506.30 26.6+AD 20 0 5509.31 Acrylic yarnX35% acrylic. 26.6+AD 10 15.6-32.4 0 10 0 5509.32 Single 26.6+AD 10 15.6-32.4 0 10 0 Multiple 5509.61 Acryliclwool yarn 26.6 10 15.6-32.4 0 10 0 5512.21 Fabric>85% acrylic. Grey 30 +S 25 32.7- 52.1 0 15 30 5512.29 Dyedor printed 30+S 25 +QR 0 15 30 32.7- 52.1 +QR 5515.21 Acrylicifilament fabric 30 +S 25 32.7- 52.1 0 15 30 +QR 55 15.22 Acryliclwool fabric 30 +S 25 32.7- 52.1 0 15 30 +QR Notes: (1) InIndia, most acrylic fabrics are subject to the higher o f ad valorem duties or specific duties. This i s indicated by "+S". As explained inthe text (see also Annex Table A.12) the applied ad valorem duty shown inthis table includes the estimated protective effect o f the Special additional duty (Sadd). Examples o f the ad valorem incidence o f specific duties are given in Annex Table A.12. (2) In Bangladesh the ad valorem duty shown here includes the estimated protective effect o f the Infrastructure Development Surcharge (IDSC as well as Customs duties. Acrylic yams fabrics, the 15% VAT onimports may also be protective s ince domestic acrylic fabric producers are exempt from V AT and insteadpay a small 2.5% excise tax.. Whether there i s a protective effect and the extent o f the additional protection however depends o n whether the purchaser o f the fabric i s subject to VAT, and if so at what rate (see text discussion). In Bangladesh, unless they are used as inputs by exporters, the import o f all textile fabrics i s either banned or subject to import licensing (indicated as +QR). (3) In Sri Lanka the customs duty on all textiles including acrylic textiles i s zero. (4) There is just one ad valorem customs duty rate inPakistan, Nepal and Bhutan and no other protective import taxes. The Bhutan tariff schedule (1996 edition) has only two rates, zero for yarns and 30% for fabrics. The fabric tariff was increased to 30% from 20% during 2001. Imports inPakistan are subject to an income withholding tax at the rate o f 6% on the cifprice plus the Customs duty plus the sales tax. There i s a similar "Advance income tax" inBangladesh at 3% o f the "assessable value" i.e. approximately the duty free landed value. These taxes have not has not been included as a protective import taxes since they can be credited against income tax liabilities. However, they could be protective if competing domestic producers pay no or lower income taxes relative to the price o f the product, than the advance income tax on imports Fibres are not mentioned. See text discussion. 76 Appendix Table A.ll Garment TariffsIn SouthAsia, August 2002 HSC code Product India Pakistan Bangladesh Sri Nepal Bhutan Lanka 61 Knitted garments (general 36 +S 25 36 10 25 30 rate all tariff lines except for those below in some countries) 6103.12119 Knittednon-woollen suits 36 25 18.5136 10 25 30 6104.12/13 6112.11 Knitted track suits (cotton) 36 25 26 10 25 30 6112.12119 Knitted track suits (non- 36 25 18.5 10 25 30 cotton) 6112.31/39 Knitted swimwear 36 25 18.5 10 25 30 149149 6116.10.10 Sports gloves and accessories 36 25 26 10 25 30 6117.80.91 6117.80190 Knitted garments: other 36 25 36 10 15 30 accessories and parts 10 62 Garments, not knitted 36+S 25 36 10 25 30 (general rate all tariff lines except for those below in some countries) 6211,11112 Swimwear 36 25 18.5 10 25 30 6211.32113 Traditional clothing (Dhoti, 36+S 25 18.5 0 5 30 3139143149 Lungi, Gamchha, Sari etc) 6217 Clothing accessories 36 25 36 0 15 30 Notes: (1) InIndia, 30% and 62% respectively o f the Chapter 61 and 62 garment tariff lines are subject to the higher o f ad valorem duties or specific duties. Specific duties are indicated by "+S". Examples o f the ad valorem incidence o f India's specific duties are given inAnnex Table A.12. As explained inthe text (see also Annex Table A.12) the applied ad valorem protective duty shown in this table includes the estimated protective effect o f the special additional duty (Sadd). (2) InBangladesh the ad valorem duty shown here includes the estimated protective effect o f the Infrastructure Development Surcharge (IDSC) as well as Customs duties. Incontrast to yams and fabrics, there i s no extra protection for domestic garment producers resulting from exemptions from the domestic VAT. (3) In Sri Lanka the general customs duty rate on garments i s 10%. (4) For each tariff line, there i s just one ad valorem customs duty rate in Pakistan, Nepal and Bhutan and no other protective import taxes (5) Imports in Pakistan are subject to an income withholding tax at the rate o f 6% on the c i f price plus the Customs duty plus the sales tax. There i s a similar "Advance income tax" inBangladesh at 3% o f the "assessable value" i.e. approximately the duty- free landed value. These taxes have not has not been included as a protective import taxes since they can be credited against income tax liabilities. However, they could be protective if competing domestic producers pay no or lower income taxes relative to the price o f the product, than the withholding tax or advance income tax o n imports.. See text discussion. (6) The Bhutan garment tariff was increased from 20% to 30% in 2001. (7) A slash between two tariff rates indicates that one or the other rate applies to different specifications within the product category. 77 Trade Policies in SouthAsia : Some Key Sectors - wl 3 m 3 wl 3 wl 3 VI N VI m N N wl N m 3 D 3 c! 0 m t m W v; d m d -0 0 0 0 0 c 3 0 0 0 0 0 I1 M $ 2 - &9 N - 277 3 m 0 m 0 m 0 m 0 m 0 m N c'! VI wl 78 Appendix h P n 3 3 3 d d 0 m 0 m m 0 N m 79 Trade Policic7-T- SouthAsia : Sor Sect( - 0 d d m N 0 N 2 % - N 2 C n m vl vl - d m Appendix TABLE A.15 INDIA:NUMBEROF TARIFFBINDINGSON TEXTILESAND GARMENTS rrcin Number o f6-digit tariff lines Fabric and clothing tarifflines Jl3L Chapter Chapter Products bound Of which% bound Total bound Of which% specific 50 Silk 10 4 40 3 0 51 Wool, animal hair etc 39 25 64 11 0 52 Cotton 132 49 37 78 0 53 Other veg fibres (incl jute) 29 21 72 7 71 54 Man-made filaments 66 30 45 34 0 55 Man-made staple fibres 115 43 37 68 0 56 Wadding, felt, rope etc 33 24 73 17 47 57 Carpets and other floor coverings 23 0 0 23 0 58 Special woven fabrics (incl tyre cord) 41 4 10 41 10 Impregnated, laminated fabrics etc 59 (incl industrial) 25 21 84 25 21 84 60 Knitted or crocheted fabrics 43 0 0 43 0 0 61 Apparel and clothing, knitted 114 0 0 114 0 0 62 Apparel and clothing, not knitted 119 0 0 119 0 0 Other textile made-ups, worn clothing 63 &rags 59 0 0 59 0 0 TOTAL 848 221 26 642 38 6 Source: Arun Goyal, Easy Reference Customs 81 Trade Policies in South Asia : Some Key Sectors TABLE A.16 ESTIMATED AD VALOREMEQUIVALENTS OF INDIAN SPECIFIC TARIFFS ON GARMENTS Mens' cotton shirts Mens cotton trousers HSC 620520 HSC 620342 Median 1st QuartileMedian 1st Quartile Price Price Price Price Prices o f Chinese exports to U S A in2000, $/unit Price fas China 6.95 5.37 9.21 5.70 Average consignment cost 0.44 0.44 0.3 1 0.31 Price cif U S A 7.39 5.81 9.52 6.01 Average U S quota premium during 2000 1.77 1.77 3.51 3.51 Estimated quota free price CIF U S A 5.62 4.04 6.01 2.50 Tariff equivalent protectioninU S A Quota premium 31.5 43.8 58.4 140.4 U S tariff (as % o f estimated quota-free cifprice) 25.0 26.9 23.9 36.3 Operative total protection rate inU S A % 56.5 70.7 82.3 176.7 TariffprotectioninIndia (% o f cif price) Basic ad valorem duty % 30.0 30.0 30.0 30.0 Additional protection from Sadd 6.0 6.0 6.0 6.0 Total protection with ad valorem basic tariff 36.0 36.0 36.0 36.0 Estimated price cif India, $/unit 5.62 4.04 6.01 2.50 Indianspecific duty $US/unit 1.73 1.73 2.76 2.76 Ad valorem equivalent o f specific duty % 30.8 42.8 45.9 110.4 Additional protection from Sadd % 6.1 6.6 6.8 9.8 Total protection with specific duty 36.9 49.4 52.7 120.2 Notes: Indian Tariffs from Arun Goyal(2002). U S imports from U S Bureau o f the Census C D r o m o f U S imports in 2000. This gives a detailed information down to 10-digit HSC levels on individual consignments. The consignment level information includes the exporting country, "dutiable value'' ( in the U S import duties are applied to the fas - free aboard ship-price inthe exporting country), import duties paid, consignment costs (Le. shipping, insurance and other transport costs), number o f items (for most garments in dozens), net weight, port o f entry, and whether the consignment i s by sea or air. The consignments considered in this table are sea shipments from China. The quota prices are averages for Chinese quotas in 2000 as reported in the Chinese quota auction site . The cotton shirt and cotton trouser quota prices are for U S apparel quota categories nos 340 and 347. Cotton shirt prices ranged from $0.92 a shirt to $25.35 a shirt fas, and cotton trouser prices from $1.59 to $40.81 per pair o f trousers. T o give an indication o f plausible Chinese prices cif India, it i s assumed that when exporting to India, Chinese exporters would be willing to charge the U S price minus the U S quota premium for a given type and quality o f shirt or trouser, and that these prices in 2000 would give an approximation o f current prices inAugust 2002. Among other things this assumes that sea consignment costs from China to India are equal to average sea consignment costs from China to USA. The U S protection rates have also been expressed with respect to this price i.e. they are the sumo f the quota premium as a percentage of the quota-free cif price and the U S tariff as a percentage o f the U S quota-free price. This i s indicative only: world prices including Chinese export prices would change ifthere were no U S and other developed country MFA quotas. 82 Appendix TABLE A.17 INDIA: NUMBER OF SPECIFIC TARIFFS ONTEXTILES AND GARMENTS Number o f 6-digit tariff lines Fabrics and clothing tariff lines HSC Chapter Chapter Products Of which% Specific Total specific specificwhich% specific Of 50 Silk 10 0 0 3 0 0 51 Wool, animal hair etc 39 11 28 11 11 100 52 Cotton 132 37 28 78 38 49 53 Other veg fibres (incljute) 29 0 0 7 0 0 54 Man-made filaments 66 30 45 34 30 88 55 Man-made staple fibres 115 50 43 68 47 69 56 Wadding, felt, rope etc 33 0 0 17 0 0 57 Carpets and other floor coverings 23 7 30 23 7 30 58 Special woven fabrics (incl tyre cord) 41 21 51 41 21 51 Impregnated, laminated fabrics etc (incl 59 industrial) 25 0 0 25 0 0 60 Knitted or crocheted fabrics 43 0 0 43 0 0 61 Apparel and clothing, knitted 114 34 30 114 34 30 62 Apparel and clothing, not knitted 119 74 62 119 74 62 Other textile made-ups, worn clothing & 63 rags 59 3 5 59 3 5 TOTAL 848 267 31 642 265 41 Source: Arun Goyal, Easy Reference Customs Guide 2002-2003. 83 Trade Policies in SouthAsia : Some Key Sectors Fig A.l Cotton Fabric Tariffs in South Asia, China, US and EU 70 1 60 c 5& 50 n 40 30 20 10 0 Tariffs are for HSC 5209 (cotton fabrics >85% cotton, >200 gdm2). The examples of Indian specifictariffs are giveninTable A.17. The tariffs ofthe other SouthAsian countries are given in TableA.11. InBangladesh localproducersare exemptfrom VAT which is appliedto imports. The diagramshows the estimatedupper andlower boundofthe resultingprotection.In Bangladeshfabric imports are also subjectto QRs(inpractice an importbanfor most fabrics, unless they are inputsfor exporters.The Sri Lankatariff i s zero. The second Chinese tariff i s the final WTO boundlevelto be reachedin2003. The U S tariff i s the presentMFNtariff which in principlewill bethe principalprotective instrumentwhentextile importquotas expire at the end nf 7OOA 84 Appendix Fig A.2 Cotton Yarn Tariffs in South Asia, China, US and EU The tariffs are for HSC 5205, cotton yarn >85% cotton. The South Asian tariffs are given inTable A.11.The tariffrange for Bangladeshdistinguishbetweenpossible protective effects resulting from the exemption o f local producers from VAT which is applied to imports. Tariffs in Sri Lanka, Nepal and Bhutan are zero. The second Chinese tariff shown is the final bound level under China's W T O accession agreement, for this product reached in2002. The range o f U S tariffs and the EUtariffs are the present tariffs which will become the principal protective instrument after the end o f the MFA quotas inDecember 2004. 85 Trade Policies in SouthAsia : Some Key Sectors Fig A.3 Polyester (POY) Yarn Tariffs in South Asia, China, US and EU 100 - 90 80 70 2e C 60 50 40 30 20 10 0 Notes: These tariffs are for HSC 5204.42 polyesterpartially orientedfilament yam (POY). The tariff rates are given inTable A.11and explainedinthe table notes and inthe text. The first Indiantariff i s the generalad valorem rate. The second shows the range of total protection above the ad valorem rateresulting from anti-dumping duties which vary by exporting frm and country. The Bangladeshtariffs are the rangeofpossibleprotective effects resulting from the exemptionoflocalproducersfrom VAT which is appliedto imports. Tariffs are zero inSri Lanka, Nepal andBhutan. China FB04 is the fmal level in2004 of China'spolyester filament yarn tariff bindings. The U S and EUtariffs are current MFNtariffs which inprinciple will be the principalform ofprotectionwhen the MFA quotas expire at the endof2004. 86 Appendix Fig. A.4 Polyester Fabric Tariffs in South Asia, China, US and EU 110 1 100 - 90 I 80 70 - 60 TI - I 50 - 40 - 10 0 0 Notes: These tariffs are for HSC 5512.19 and 5513.21, which are respectively polyester fabrics ( 3 6 % polyester) and polyestedcotton fabrics. Details are inTable A.8 and Table A.9. The range o f tariffs in Bangladesh distinguishes between possible protective effects resulting from the exemption o f local producers fiom VAT which i s applied to imports. Fabric imports inBangladesh are also subject to QRs, for most types inpractice an import ban unless they are used as inputs by exporters. The China FB 05 tariff is the final WTO boundrate to be reached in2005. The US and EUtariff are the current tariffs which will become the principal means o f protection when the MFA quotas expire at the end o f 2004. 87 Trade Policies inSouthAsia : Some Key Sectors Fig AS INDIA ACRYLIC FIBRE JULY 2002 ESTIMATED AD VALOREM INCIDENCE OF ANTI-DUMPING DUTIES ON IMPORTS FROM VARIOUS EXPORTERS AND EXPORTING COUNTRIES Table A.18 Bangladesh :Tariffs and protective import taxes on textiles COTTONTEXTILES VAT onExcise Tax on HSC CD SD Imports VAT OnDomestic Domestic AIT IDSC PD1 PD2 Production Production 5201 Cottonnotcardcombed 0.0 0 0 0 0 3 0 0.0 n.a. 5202 Cotton waste 7.5 0 15 15 0 3 3.5 11.0 n.a. 5203 Cottoncardedcombed 0.0 0 15 15 0 3 0 0.0 n.a. 5204 Cottonsewing thread 15.0 0 15 0 2.5 3 3.5 15.6 32.4 5205 Y a m >85% cotton 15.0 0 15 0 2.5 3 3.5 15.6 32.4 5206 Y a m 4 5 % cotton 7.5 0 15 0 2.5 3 3.5 8.3 24.0 5207 Yarn retail sale 7.5 0 15 0 2.5 3 3.5 8.3 24.0 5208-12 All cotton fabrics 32.5 0 15 0 2.5 3 3.5 32.7 52.1 88 Appendix Notes: See cell formulas for how the total protectionhas been estimated Domestically produced cotton yams and fabrics are exempt from VAT and subject to a 2.5% excise tax ** Another excise tax on grey cloth (5208,5209,5210, 5211, 5212) i s 50 paiselm2 or 4 U S cent"2. which is negligible and not allowed for The advance income tax (AIT) is shown here buthas notbeenincludedinthe estimation o fthe total protective duty rate, since in principle it canbe credited against normal income tax liabilities P Dl=Protective Dutyrate (total) without allowing for exemption o f domestic producers from VAT PD2=Protective Duty rate (total after allowing for exemption o f domestic producers from VAT InFY 03 License Fee (LF)abolished, IDSC increased to 3.5% Note: VAT reduction o n local sales will only give extra protectionif it i s on a final product which is sold at the last stage o f the VAT chain e.g. to distributors assuming VAT stops at the ex-factory stage. A VAT reduction on an intermediate product doesn't help the user because he will have that muchless to claim as a credit against VAT due on his own sales. For yarn this probably means that the effective domestic VAT exemption(1) gives no extra protection against imports when it i s sold to domestic producers o f knitted garments, since they are subject to the normal 15% VAT (2) gives extra protectionwhen it i s sold to fabric producers, since they are also exempt from domestic VAT (3) gives some extra protection when it i s sold to wholesalers or retailers which don't pay the full normalVAT or which are exempt from VAT. The same distinctions apply to the exemptionfor fabrics. Ifthe fabrics are sold to garment firms there i s no extra protectionfor the fabric producers since the garment firms lose this part o f their normal VAT input credit. However, if the fabrics are sold directly to distributors including retailers that are not subject to the full normal 15% VAT there could be some extra protection depending o n the effective VAT rate appliedto the distributors. Most domestic fabrics inBangladeshare sold inretail stores andsewneither inhouseholds or by small artisantailors who are not subject to VAT. The extent o f the extra protectionto the fabric producers therefore depends on to what extent fabric wholesalers and retailers are effectively subject to VAT. At present not much VAT i s actually collected at this level and so the higher protective rate shown inthe column PD2 column i s the most relevant. These estimates do not allow for "tariff values" which are base for import duties for many textiles. In order to quantify this actual c i fprices would be needed. The actual cif prices o f a few fabrics inAugust 2002 were considerably lower thanthe tariffvalues onthe NBRCustoms tariff website, but the latter were for the old tariff schedule. It's possible they have been changed and not reported yet on the website. 89 Trade Policies in SouthAsia : Some Key Sectors Table A.19 Bangladesh Polyester textile tariffs 2002-03 VAT onExcise Tax on HSC CD SD Imports VAT OnDomestic Domestic AIT IDSC PD1 PD2 Production Production 5503 & 5506 Polyester staple fibre 0 0 0 0 0 3 0 0.0 n.a. 5505 Polyester waste 0 0 15 15 0 3 0 0.0 n.a. 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