This Selected Issues paper reviews Bangladesh’s recent growth experience and per capita income. The paper identifies several key impediments to growth, namely: poor governance; restrictive trade and regulatory regimes; and inadequate investment in human capital and physical infrastructure. The paper makes the case that the medium-term fiscal strategy should be centered on boosting the revenue performance of the National Board of Revenue (NBR) by reorganizing it along functional lines, adopting a system of self-assessment, establishing a risk-based auditing system, and introducing a unique taxpayer identification number.


This Selected Issues paper reviews Bangladesh’s recent growth experience and per capita income. The paper identifies several key impediments to growth, namely: poor governance; restrictive trade and regulatory regimes; and inadequate investment in human capital and physical infrastructure. The paper makes the case that the medium-term fiscal strategy should be centered on boosting the revenue performance of the National Board of Revenue (NBR) by reorganizing it along functional lines, adopting a system of self-assessment, establishing a risk-based auditing system, and introducing a unique taxpayer identification number.

III. The RMG Sector and External Competitiveness in the Post-MFA World9

33. This chapter assesses Bangladesh’s external competitiveness in the context of the RMG sector after the full phase-out of the quotas dating back from the 1974 MFA. On January 1, 2005, the set of bilateral quotas that had governed trade in RMG for over 30 years was eliminated. As these quotas had led to an artificial trade structure, the international RMG market faces a restructuring process.

34. Bangladesh’s exports are heavily concentrated in the RMG sector, which has been a main driver of growth and poverty reduction. With more than three-quarters of exports RMG related, the country is vulnerable to the MFA shock, in particular since it is confronted with other problems that affect its competitiveness. These problems are not limited to the RMG sector, but will be exposed more fully there in the post-MFA world. The challenge is therefore to improve competitiveness, both in the RMG sector and economy wide, and diversify exports, thus contributing to increased growth and poverty reduction. Section A describes the RMG sector in Bangladesh. This gives some background for a brief assessment of the impact of the elimination of MFA quotas so far, including specific policy reactions, in Section B. Section C moves beyond the short-term impact on the RMG sector, to Bangladesh’s medium-term competitive position in general, looking at its main determinants. Section D concludes.

A. Background

35. Bangladesh’s RMG sector emerged out of the MFA of 1974. The MFA subjected RMG-exporting countries to quotas for their exports to major importing markets, primarily to the European Union (EU) and the United States (US). Yet, for Bangladesh, the quotas helped to establish market presence as a kind of shield from major regional competitors, in particular China. About 95 percent of Bangladesh’s RMG exports go to the EU (55 percent) and US (40 percent).

36. The RMG sector has been the main source of export growth and formal employment in Bangladesh. RMG exports accounted for almost 83 percent of the growth in the value of Bangladesh’s total exports between 1984 and 2004. The share of RMG in total exports thus increased from 10 to 75 percent over the same period, one of the highest shares among major RMG exporting countries. The sector plays a key role in employment and in the provision of income to the poor, directly employing almost 2 million people, or about 40 percent of manufacturing sector employment, 90 percent of whom are women. The abundance of low-wage labor is Bangladesh’s main competitive advantage. Indirectly the RMG sector supports about 10 to 15 million people. Over the past 20 years, the number of manufacturing units has grown from 180 to over 3,600, 95 percent of which are locally owned. The typical firm employs 200 to 1,200 workers, with an average of about 550 to 600 workers. Some 90 percent of the factories are located in and around the capital Dhaka, and the port of Chittagong.

37. The direct contribution of the RMG sector to GDP is estimated at about 5 percent only, due to a high import content. Most of Bangladesh’s RMG exports are made from imported textiles. The country has a small textiles industry, but the volume and quality of its output are unable to meet the demands of the RMG sector. This, incidentally, is an important source of conflict between the industry associations of these two sectors, which often frustrates the implementation of good policies, for example abolishing long-standing quantitative restrictions on textiles imports, which was forced through only recently. Bangladesh also imports most of its needs in cotton and other raw materials for the textile industry.

38. Bangladesh is not unique in the lack of domestic inputs for the RMG sector. In fact, the most successful RMG exporters in history—namely, Japan, Hong Kong SAR, the Republic of Korea, and Taiwan Province of China—all relied heavily on imports of raw materials and textiles in the early stage of their export drive. China, despite its large agriculture and textiles industries, also imports large volumes of raw materials and textiles. While lack of domestic inputs limits backward linkages to domestic industries, it is not necessarily a competitive disadvantage for the RMG sector as long as it can access inputs at world prices with short lead times. This points to the importance of an open import regime, trade facilitation, and infrastructure (see below).

39. The RMG sector has attracted only very limited foreign direct investment (FDI), most of which has gone to the export processing zones (EPZs), which contribute about 10-12 percent of total exports. Bangladesh’s RMG sector was originally launched by foreign investors, mostly from the Republic of Korea and Hong Kong SAR, who were taking advantage of Bangladesh’s export quotas in restricted markets, as well as an abundance of cheap labor. Over time, however, the role of FDI has become smaller because of problems in the business environment, including government restrictions. This has contributed to the slow diversification and upgrading of exports, giving low wages and quota access a greater role in maintaining competitiveness. Bangladesh mainly produces at the low end of the market (referred to as the “cut, make, and trim” segment), where value added and profit margins are low.

B. Impact of Elimination of MFA Quotas

40. With the elimination of MFA quotas, competition for global market share will intensify, with potentially significant consequences for Bangladesh. The Agreement on Textiles and Clothing in 1995 called for a gradual, staged phase-out of the quotas carried over from the MFA regime over a 10-year transition period. However, in practice the phase-out was heavily back-loaded.10 This is why the final stage of January 1, 2005, will have the largest consequences. Experience from the elimination of earlier quotas, model simulations, and exporters’ relative success in quota-free markets all indicate that only a handful of countries may end up reaping the benefits of liberalization, in particular, China, India, and Pakistan.11 Specific model simulations for Bangladesh indicate that exports could fall substantially in the wake of quota removal.12

41. Nevertheless, the limited evidence so far indicates that RMG exports are holding up reasonably well in most low-income Asian countries, including Bangladesh. In most of these countries exports and orders have been better than expected, and business surveys also show some optimism that export volumes may remain at current levels in the short run. However, prices are weakening, and local industry associations still expect a significant eventual impact.13

42. Although the RMG export growth in Bangladesh has moderated over recent months, the knitwear sector continued to expand (in particular to the EU), compensating in part for the weaker performance of the woven garments sector (Figure 1). Bangladesh’s knitwear sector enjoys several advantages over the other component of its RMG sector: (i) its technology confers a greater role to low-wage, unskilled labor; (ii) most of its raw materials are sourced locally or from the region, making it less difficult to meet rules of origin (ROO) in major export markets; (iii) greater availability of local inputs implies shorter lead times for orders. Available RMG export data for Bangladesh do not allow for a volume-price decomposition, but import data from Bangladesh for the US for the first quarter of 2005 still show a volume growth of 15.6 percent on a 12-months basis, and a price increase of 4.5 percent, which is actually a much better performance than in the first quarter of 2004.14



(12-months change in percent of three-months moving average)

Citation: IMF Staff Country Reports 2005, 242; 10.5089/9781451804157.002.A003

Source: Bangladesh Export Promotion Bureau.

43. During the recent Article IV consultations in Bangladesh, staff discussions with private sector operators left the impression that RMG-export competitiveness may be better than previously assumed. No closing of factories or loss of jobs in the RMG sector have been observed so far. Private sector operators stated that they had not experienced a structural break in the RMG-export climate, in spite of the full MFA-quota phase out as of January 1, 2005. Recent order positions had held up well, and even some expansion plans in Bangladesh were reported (as opposed to plans in other countries). RMG activities in Bangladesh could also be consolidated to better compete with other regional RMG exports in the high-volume, low-margin segment of the world market, particularly as buyers are expected to keep their sources of supply at least somewhat diversified.

44. The Bangladesh government has taken some welcome and important measures to improve the competitiveness of the RMG sector. The flexible exchange-rate system provides a line of defence against the impact of the full elimination of MFA quotas. Regarding infrastructure, with the assistance of the AsDB, the capacity of the Chittagong port is being upgraded, which should help to reduce lead-times for RMG orders. The authorities are also working closely with the World Bank and AsDB to formulate a restructuring plan for the energy sector, which should help to alleviate electricity problems. An action plan of US$40 million for the RMG sector is being finalized, to be financed by the donor community, mainly concentrating on the provision of training and marketing programs for potential displaced workers. The restrictions on FDI in the RMG sector outside the EPZs have recently been removed.15 Finally, Bangladesh is seeking duty-free access for RMG exports to the US market, together with other LDCs that are facing similar pressure from the removal of quotas (a bill to this effect currently lies with the US Senate).16

45. Some temporary breathing space for Bangladesh’s RMG sector is likely to be created by the recent invoking of WTO safeguards with respect to China by the US, and subsequently the EU. It is imperative that this breathing space will be used to implement further actions to improve competitiveness. Under China’s 2001 protocol of WTO accession, special anti-surge clauses for RMG products allow other WTO members to keep restrictions on China’s exports for up to four years. On May 13, the US announced that it is invoking safeguards based on the magnitude of increases in RMG imports from China and China’s significant capacity to increase production and exports to the US in three product categories (cotton knit shirts and blouses, cotton trousers, and cotton and man-made fiber underwear). This led to quotas limiting Chinese annual export growth to the US in these categories to 7.5 percent. More categories are under consideration. On May 23, the EU followed suit, launching safeguards consultations with China on two categories of RMG products (t-shirts and flax yarn). The possibility of further safeguard measures against China has led RMG importers to maintain a more diversified sourcing structure than they otherwise might have. However, it will only postpone the full force of Chinese competition, and not eliminate the increased competition from other countries. The Bangladesh government and RMG sector should thus make good use of the breathing space resulting from any safeguards measures.

C. Medium-term Competitiveness

46. Bangladesh’s medium-term competitiveness, including that of the RMG sector, depends on the general business environment and ability to diversify the economy. Longer-term developments in the real effective exchange rate (REER) do not point to overall problems with external price competitiveness as the REER has been remarkably stable for over 20 years. Since the floating of the exchange rate in May 2003, the taka has depreciated by 9 percent and 5 percent in nominal and real effective terms. The relative stability of the taka during this long period was in part due to the rapid growth of RMG exports, and increasing remittances from Bangladesh’s workers abroad. Together, these increases more than offset the trend decline in aid inflows relative to GDP, and were sufficient to balance increases in imports. The relatively favorable macroeconomic climate in Bangladesh has also contributed to exchange rate stability.

47. However, a recent study on growth and export competitiveness by the World Bank identifies serious competitiveness problems, and lists Bangladesh as a worse performer than comparator countries on several components of the business environment.17 These problems center on infrastructure bottlenecks, weak governance, insufficient financing, inadequate labor quality, low FDI, and a trade regime that has an anti-export bias.

Infrastructure bottlenecks

48. Infrastructure bottlenecks related to power, telecommunications, and the road network significantly increase the cost of production, impede productivity growth, and hamper external competitiveness of Bangladeshi firms (Table 1). Only 31 percent of the population has access to power. Inadequate access to electricity was the most frequent complaint among firms surveyed for a recent investment climate assessment.18 For those with a utility connection, reliability is a major issue. Another significant source of the weak business environment is the lack of access to communications services. Teledensity (fixed and cellular) is far lower than in comparator countries. Even in regions that are within reach of the telephone network, access is made difficult by the extremely high cost involved in getting the initial connection. Despite a relatively dense road network, poor road conditions seriously impair private activity.

Table 1.

Infrastructure Indicators: Cross-Country Comparisons

article image
Source: World Bank.

49. Poor port conditions are leading to lost economic potential, and are of particular importance for the RMG sector, given its large international trading volumes. The Chittagong port, which handles nearly 85 percent of the country’s merchandise trade, is plagued by labor problems, poor management, and lack of equipment, a situation that is fairly symptomatic of the rest of the port system’s problems as well. These problems are exacerbated by time consuming and cumbersome customs procedures that provide constant opportunities for bureaucratic discretion. Customs procedures at ports require more documents and take longer than at other regional ports. For the RMG sector, this implies the longest lead times for orders in the region (over 100 days), except for land-locked Nepal.

Weak governance

50. Bangladesh’s business environment performs relatively badly on various indicators of governance. Most prominently, Transparency International has placed Bangladesh last on its cross-country corruption ratings for the last two years. In a recent survey, about 60 percent of firms surveyed viewed corruption as a major constraint to business operation and growth; lack of access to electricity was the only other constraint that was viewed as a major constraint by a higher number of surveyed firms. According to the World Bank’s Doing Business 2003 database, although the number of procedures involved in starting a business in Bangladesh, and the time to clear these procedures, is relatively low, the cost of these procedures is extremely high as a percentage of per capita income (Table 2). Similarly, the cost of getting a business contract cleared and enforced is quite high. Tax administration is also identified as one of the main structural reforms of the authorities program, is singled out as a major problem area.

Table 2.

Cost of Doing Business: Bangladesh vs. Comparator Countries

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Source: World Bank.

51. Further efforts are important to move the economy to a more friendly business environment. This implies addressing in particular the corruption and the law and order problems. Progress is very much dependent on strong political commitment. The central policy challenge is to create a broad, enabling business environment conducive to private investment. The government would need to define the rules of competition, strengthen the regulatory environment, and tackle the problem of poorly performing state-owned enterprises

Insufficient financing

52. Bangladesh has a relatively shallow financial sector, where weak governance and large nonperforming loans limit access to finance. Bank credit to the private sector and broad money as a percentage of GDP are relatively low. Deep-rooted institutional weaknesses drastically restrict the efficacy of the banking sector. Due to ineffectual management, political interference, and problems of corruption and directed lending, the four nationalized commercial banks (NCBs) are in a weak financial position.

Inadequate labor quality

53. While abundant low-wage labor may be Bangladesh’s main competitive advantage, the relatively low productivity of that labor constrains the growth potential. Table 3 shows that, other than Sri Lanka, Bangladesh has the lowest productivity, using button-down shirts as a comparison, of any South Asian country. In this comparison of shirts per worker, it should be kept in mind that this measure could be substantially underestimating productivity in Sri Lanka, as its shirts are a high-value product. Similarly, since Bangladesh is mainly producing in the low end of the market, its productivity could in fact be overestimated by this measure. Although similar statistics for China are not available, anecdotal evidence suggests that value addition per worker in a Chinese RMG factory is more than twice that in a similar Bangladeshi factory. Furthermore, even after paying the higher wages and greater amounts of capital spending, a typical Chinese factory is still much more profitable than the comparable factory in Bangladesh. The relatively low productivity in Bangladesh is a cause of competitiveness problems, but at the same time at least to some extent reflects the structural problems mentioned above.

Table 3.

Labor and Productivity Comparisons

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Source: World Bank


54. Another factor that at the same time can be viewed as cause and effect of competitiveness problems is the lack of FDI. Gross FDI inflows as a ratio to GDP in Bangladesh have been among the lowest in the world. This is at least partially related to the structural problems in the business environment mentioned earlier. The perception of widespread corruption likely features prominently among these. The lack of FDI has meant that Bangladesh has missed out on the positive technology spillovers that it usually provides. It is also a well-established stylized fact that foreign firms in LICs generally have higher (labor) productivity and wages than domestic firms.

Anti-export bias in trade regime

55. A lack of openness in Bangladesh’s trade policy has also hindered competitiveness. This has been a particular problem for the outward-oriented RMG sector, with its high import content. Although commendable progress has been made in trade liberalization, Bangladesh still has the most protected economy in South Asia and one of the most protected worldwide,19 implying considerable anti-export bias. While tariffs were reduced and streamlined, a complex structure of duties and exemptions increases effective protection (Table 4). Furthermore, Bangladesh remains the only country in South Asia with some traditional quantitative restrictions still in place. Thus the costs of inputs are raised for the RMG sector.

Table 4.

Rankings of Average Tariffs in South Asia in Relation to Average Tariffs in Other Developing Countries

(from most to least protectionist)

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Source: World Bank.

56. Furthermore, customs procedures are cumbersome, and the duty-drawback system is functioning badly, further raising business costs. In particular the latter acts as a constraint on diversification. Unlike the RMG sector, exporters who do not/cannot access the duty-free bonded warehouse system or EPZs, or who acquire specific inputs paying import duties or domestic taxes, can benefit from the duty-drawback system managed by the Duty Exemption and Drawback Office (DEDO). However, despite various attempts to improve DEDO’s governance and efficiency through staff training, new technical staff, and strengthened reimbursement procedures, this office still remains weak in governance, and inefficient in disbursing rebates, as reflected in significant delays in payments of tariff/tax rebates. This is partly due to the complexity of the existing import duty regime, and a very lengthy duty drawback process involving the determination of input-output coefficients and the submission of 18 documents by direct exporters (even more documents in the case of indirect exporters).

57. In trade policy, significant progress has been made in the FY05 budget. Key measures include a substantial reduction in the level and dispersion of customs and supplementary duties. The number of products subject to quantitative restrictions was also halved with effect from April 2005, together with a reduction in the number of regulatory stages involved in import and export. In addition, the authorities intend to remove the remaining quantitative restrictions on imports, except those on grounds of religion, health, security, and the environment, by June 2005.

58. The key objectives of future trade reform should be: further simplification of the import tax regime; reduction in the dispersion and average level of nominal (and thus effective) protection (merging para-tariffs with customs duties), preferably through a pre-announced medium- and long-term schedule of tariff reductions (as done recently by India), and the elimination of any remaining trade-related quantitative restrictions. Furthermore, DEDO would need to be effectively reformed, in order to make the duty-drawback system function efficiently. To protect government revenues, parallel progress is required in expanding the base of VAT and direct taxes, while strengthening tax administration.

D. Conclusion

59. The full elimination of MFA quotas on January 1, 2005 will lead to increased competition and repositioning in the world RMG market. Bangladesh must face this challenge by taking measures to improve competitiveness, both with a view to maintain the RMG-export market share and to diversify its export structure. Bangladesh could continue to benefit from the abundance of low-cost labor, but it must also address a host of competitiveness problems, mainly in infrastructure, governance, finance, labor quality, FDI, and trade policy, if the economy is to keep up with comparator countries. It is imperative to make good use of the breathing space resulting from any safeguards measures against China, before the full force of its competition is unleashed. The investment regime should be further liberalized to support export diversification, supported by reducing supply constraints and promoting non-RMG exports over the medium term.


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Prepared by Luc Moers (PDR).


See for example, IMF, 2005b.


US Department of Commerce, Office of Textiles and Apparel; similar data for the EU are not available.


These restrictions required potential investors to make a substantial investment in backwardly linked industries in order to be allowed to make an investment in the RMG sector.


Since 2001, duty-free access to the EU has already been guaranteed through the Everything But Arms agreement, if ROO requirements are met. A relaxation of ROO requirements would provide additional support to the industry.


This section draws heavily on that study, World Bank, 2004a.


See World Bank, 2004b; note that this assessment was made before the most recent lowering and streamlining of tariffs, in the context of the budget for the FY05, which brought down the top customs-duty rate to 25 percent, moved to three-tier non-zero tariffs, and significantly scaled down supplementary duties.

Bangladesh: Selected Issues
Author: International Monetary Fund