Selected Issues

Abstract

Selected Issues

Export Diversification1

Bangladesh’s narrow export base, notably the low-skilled garment industry, is nearing saturation. Export growth is constrained by the lack of diversification, inadequate infrastructure, shortage of power, and insufficient investment. Bangladesh’s diversification, and in turn growth potential, will hinge on whether these challenges are met in the coming years.

A. Why Diversification?

1. Exports in Bangladesh are dominated by the large Ready-Made Garments (RMG) sector which is the real backbone of the economy. The RMG sector provides about 4 million jobs directly, empowers women as well as economically disadvantaged households, and accounts for over 80 percent of the total exports. The sector took off with the introduction of the multi-fiber arrangement (MFA) in the 1970s, along with supportive policies from the government such as lower tariffs on imports and bonded warehouse facilities. It helped Bangladesh to diversify from more traditional agricultural based sectors towards manufacturing, in particular, garments. Currently, Bangladesh is the fifth largest garment exporter to the European Union and among the top ten apparel suppliers to the United States.2

2. Studies show that diversification lowers output volatility, provides greater macroeconomic stability, and in turn supports growth (IMF, 2014). Diversification and structural transformation play important roles in improving the macroeconomic performance of low-income countries. Increases in income per capita at early stages of development are typically accompanied by a transformation in a country’s production and export structure. This can include diversification into new products and trading partners as well as increases in the quality of existing products.

3. Given the current challenging external environment, diversification has become even more crucial. In recent years, the global RMG trade has stagnated. Per the World Trade Organization, the world’s garment export has decreased by 0.3 percent in 2016. While the global upswing in the economic activity is strengthening recently, raising potential output growth will continue to be a challenge for many countries. Furthermore, a retreat from globalization by major countries could also affect the outlook of the RMG sector. In this setting, the lack of diversification may increase the exposure to adverse external shocks and macroeconomic instability.

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Performance: RMG Sector

(in percent)

Citation: IMF Staff Country Reports 2018, 159; 10.5089/9781484360347.002.A003

Sources: Bangladesh Bank

4. The authorities acknowledge that diversification is necessary. The Seventh Five-Year Plan (FY16–20) refers to two positive developments on export diversification; (i) the recognition of new products and growing sectors, and (ii) growing diversification within quality in the RMG sector. Sectors, such agro-based products, light engineering, footwear and leather, and pharmaceutical are growing and have shown potential for diversification.

B. Status of Export Diversification

5. Bangladesh has exported over US$34 billion worth of goods in FY17 representing a 1.7 percent growth from the previous year. Bangladesh exports 82 products with revealed comparative advantage.3 Top export destinations include Australia, Canada, China, European Union (EU), India, Japan, and United States. Europe, particularly the United Kingdom and Germany, is the largest export market accounting for more than sixty percent of exports followed by the United States and Canada (20 percent), and then Asia (15 percent). Exports by Bangladesh are broadly classified as primary and manufactured commodities. Primary commodities include frozen food, live fish, and agriculture products, while manufactured commodities include RMG, jute and jute goods, leather, footwear, and chemical products. Top products in FY16 include RMG (US$28 billion), followed by leather (US$1.2 billion), jute and jute goods (US$1 billion), frozen foods (US$0.5 billion), and footwear (US$0.2 billion). RMGs continued to dominate the export performance in FY17.

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Shares of RMG vs Non-RMG in Total Exports

(in percent)

Citation: IMF Staff Country Reports 2018, 159; 10.5089/9781484360347.002.A003

Source: Bangladesh Bank
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Exports of Goods

(In billions of U.S. Dollars)

Citation: IMF Staff Country Reports 2018, 159; 10.5089/9781484360347.002.A003

Sources: Bangladesh Bank

6. Compared to the past, current diversification efforts have met with limited success. While the RMG sector continues to maintain a large and steady share in total exports at around 80 percent, its growth has been tepid and its production costs continue to increase.4 Growth in FY17 was only 0.2 percent – the lowest observed in the last fifteen years – while the average growth in the past five years has been half of what it used to be in the five years preceding. In addition, since FY13, the sector has been declining as a share of GDP. Challenges in export diversification are also observed in the Theil index – a lower value of the index corresponds to more diversification.5 Comparing Bangladesh with a competing country such as Vietnam – a lower middle-income country and a close competitor in the garments sector – shows how diversification has evolved over the years in both countries. Starting early 1990s, Vietnam and Bangladesh diverged – Vietnam became more diverse over time while very little progress was observed in Bangladesh.

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Quality Index: Manufactured Goods

(Higher index value represents higher quality)

Citation: IMF Staff Country Reports 2018, 159; 10.5089/9781484360347.002.A003

Sources: IMF, Diversity Toolkit
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Export Diversification Index

(Theil Index; Lower Values = More Diversification)

Citation: IMF Staff Country Reports 2018, 159; 10.5089/9781484360347.002.A003

Sources: IMF, Diversity Toolkit

7. Producing higher-quality varieties of existing products can constitute a way of building on existing comparative advantages. An index to measure quality for manufactured goods shows that quality in Bangladesh has not been improving since the mid-1990s.6 Furthermore, this index reveals that both Bangladesh and Vietnam benefit from upgrading quality in several ranges of products when compared to other countries. For example, in manufacture goods sector, which includes RMG, both countries are at comparable quality, however, they have room to improve, when compared to the quality of the rest of world. Similarly, Bangladesh does relatively well on quality in the beverages and tobacco sector, but is taken over by Vietnam in crude material or chemical sector.

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Quality Index 2010

(Higher index value represents higher quality)

Citation: IMF Staff Country Reports 2018, 159; 10.5089/9781484360347.002.A003

Sources: IMF, Diversity Toolkit

C. What can Help Diversification?

8. A range of general policies and reform measures have proven effective in promoting diversification (IMF, 2017). These include improving infrastructure and trade networks, investing in human capital, supporting SME development, and reducing barriers to entry for new products. In the case of Bangladesh, infrastructure and power are the two main bottlenecks for diversification. The lack of proper infrastructure and power supply leads to increased production costs. For example, much of the garment manufacturing is dependent on uninterrupted power. Frequent power interruptions hurt production and increase final costs. At the same time, as per data from BGMEA, the price of Bangladeshi garments has, on average, declined in 2016 and has continued to drop in 2017 in major markets such as the United States and in Europe. With increased international competition, this shortage of power coupled with poor infrastructure has dampened profits and competitiveness. In the “World Economic Forum’s Global Competitiveness Report 2017–2018”, Bangladesh’s rank improved from 107 (of 140 countries) in 2016 to 99 (of 137 countries), but the quality of institutions, infrastructure, education, technological readiness, and innovation continue to be highlighted as arears where more needs to be done.

Growth in Garment Prices

(in percent, 2017)

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9. The chronic under-implementation of the Annual Development Program (ADP) should be addressed. Despite its higher priority and continuing growth in each year’s budget, the actual spending under ADP has been falling short of the original budget over the recent years, reflecting implementation bottlenecks. The 2015 Article IV consultation reported that delayed execution, significant intra-year revisions to the ADP, and cost over-runs of development projects have been common, suggesting problems with planning and budget practices. Some of the underspending has been attributed to problems with the project tender process, delays in financing, land requisition, and legal issues amongst others.

10. Infrastructure needs, especially the quality and service provided at the ports, must be also addressed urgently. A large share of import and export related activities are carried out via the Chittagong seaport, Benapole land port, and Dhaka airport. At both Chittagong and Benapole, congestion, shortage of needed equipment, and long wait times for consignments have been long standing problems. Given this, exporters resort to costlier options, such as air freight, to meet deadlines thereby increasing operating costs. However, problems at Dhaka airport such as the lack of storage facilities for goods, including the loss of goods from theft or from damage due to natural causes like rain, have been quoted as major problems. The expansion and modernization of the ports and upgrading the facilities at the Dhaka Airport need immediate attention.

11. While the power generation capacity has increased, its transmission and distribution are still lacking, affecting businesses including new factories. In addition to electricity, the shortage of gas has also been a problem for businesses. No new gas connections, line transfers, or increases in capacity had been approved given the shortages. Recently, this restriction was eased, but factories still find it increasingly difficult to have new connections due to the labor-intensive efforts and complicated approval process to install new gas lines. Investments in power, including in new technologies harnessing renewable sources, should be proactively pursued.

12. There is a need to reform the tax regimes, including supplementary duties, to increase competitiveness in non-RMG industries. Some of the tax benefits for the RMG industry, such as duty exemption for imported inputs, should also be extended to non-RMG sectors. In addition, many import-substitute products are shielded from competition with supplementary duties imposed on imported goods. This leads to higher profitability from domestic sales than from exports through the price differentials between the domestic and international markets. These barriers must be scaled down to expand export production.

13. Efforts in investing in human capital, enhancing the business environment, and expanding into new markets should continue. Policies to boost higher education, training, and improving health would increase the quality of human capital. A favorable business environment, particularly reducing barriers to entry, would reduce costs and encourage entrepreneurs to expand business. Further efforts are necessary for improving banking services for business; easing the processes for issuing letters of credit; and increasing research and development. Some of these challenges have been picked up in the latest SME Competitiveness Outlook for 2017. This report praises Bangladeshi SMEs in capacity utilization, dealing with regulations, access to an educated workforce, and business licensing and permits. But it also points to several detriments such as the lack of international quality certification, bank accounts, e-mails, websites, audited financial statements, foreign technology licenses, and formal training program to employees (World Economic Forum, 2017). Marketing programs to promote Bangladesh through trade fairs, road shows, sending of business representatives, and other campaigns could aid new market expansions. The government could help these efforts, including through involvement by the Bangladesh embassies abroad.

14. The importance of macroeconomic stability along with security cannot be underestimated in encouraging new investments. The threat of political instability and the rise in religious extremism with security risks have held back business activities. Sporadic organized protests by the opposition have recently resumed and religious fundamentalism has been on the rise as observed in the targeted killings of secular bloggers, minorities, and foreigners during 2016. In addition, some countries imposed restrictions against direct imports from Bangladesh, quoting security concerns. It is therefore essential for the authorities to take appropriate steps reassuring the business community that measures are being put in place to minimize these concerns.

D. Towards More Diversification

15. The authorities continue to make efforts to improve the power situation. In the Power System Master Plan 2016, the authorities have formulated an extensive energy and power development plan up to the year 2041, covering energy balance, power balance, and tariff strategies (Government of the People’s Republic of Bangladesh, 2016). The Power System Reliability and Efficiency Improvement Project supported by the World Bank and other upcoming projects, such as the nuclear power plant in Ruppur and a coal-fired electricity plant to be built by the Chinese joint venture – Bangladesh-China Power Company Limited – are expected to help reduce power outages. Bangladesh is also planning to import LNG in 2018.

16. More infrastructure investments are expected from the Belt Road Initiative with China. Per Hong Kong Trade Development Council, under the Belt and Road Initiative, Chinese authorities have planned to finance several infrastructure projects, including investments from entrepreneurs in several sectors, such as telecom, agriculture, power, and energy.7 The initiative is also expected to provide a boost in trade with China. In 2016, Bangladesh imported US$14.7 billion of products from China and exported US$860.0 million to China (CEIC data). China is now Bangladesh’s largest trade partner, accounting for 26.3 percent of its total imports.

17. Development partners, including the World Bank and Asian Development Bank, continue to support the authorities’ efforts. The ‘Jobs and Economic Transformation’ program under IDA 18 is promoting better jobs and female empowerment, improving working conditions, closing gender wage gaps, and improving human capital. The World Bank’s Private Sector Development Support Project is expected to help develop new Economic Zones through identifying, licensing, and negotiating Public-Private Partnership for economic zone development. The Asian Development Bank’s development efforts in Bangladesh have focused on energy security, transport services and connectivity, education and skills development, water resources management, urban infrastructure, and finance.

18. The authorities have listed various measures in the Seventh Five-Year Plan detailing their plans for diversification. The main aim of the plan is that Bangladesh reaches middle income status by 2021 – the 50th year of its independence. To meet this objective, the authorities have envisioned several policies, including export diversification, and institutional changes to boost productivity and growth. Exports under the plan are projected to reach close to 24 percent of GDP by FY20. A multi-faceted approach has been suggested to combat (i) constraints at the borders, (ii) constraints behind the borders, and (iii) constraints beyond the borders. Bonded import facilities are being provided to the emerging sectors. And these facilities will be extended not only to export oriented sectors, but also which target the domestic market. Other efforts include redesigning the current Duty Drawback Scheme to improve its cost and time efficiency.8 Furthermore, the removal of bureaucratic red tape should trigger large investments in export processing zones.

References

  • Asian Development Bank, 2017. “Bangladesh: Country Operations Business Plan (2018–2020)”, Manila.

  • Government of the People’s Republic of Bangladesh, 2016. “Power System Master Plan (2016)”, Dhaka.

  • International Monetary Fund, 2014. “Sustaining Long Run Growth and Macroeconomic Stability in Low Income Countries – The Role of Export Diversification”, Washington.

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    • Export Citation
  • International Monetary Fund, 2016. “Bangladesh: 2015 Article IV Consultation-Press Release; Staff Report; and Statement by the Executive Director for Bangladesh”, Washington.

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    • Export Citation
  • International Monetary Fund, 2017. “The Diversification Toolkit: Export Diversification and Quality Databases (Spring 2014)”, Washington.

    • Search Google Scholar
    • Export Citation
  • International Trade Centre, 2017. “SME Competitiveness Outlook 2017 – The region: A door to global trade”, Geneva.

  • MG Robbani, 2000. “World trade organization and the ready-made garment industry of Bangladesh: A critical Analysis”, Journal of Business Studies.

    • Search Google Scholar
    • Export Citation
  • Planning Commission, Bangladesh, 2016. “Bangladesh Seventh Plan FY2016 – FY20: Accelerating Growth, Empowering Citizens”, Dhaka.

  • World Bank, 2017. “Power System Reliability and Efficiency Improvement Project”, Washington.

  • World Economic Forum, 2017. “Global Competitiveness Report 2017–2018”, Geneva.

  • World Trade Organization, 2017. “WTO – Annual Report 2017”, Geneva.

1

Prepared by Jayendu De.

2

The MFA governed the world trade in textiles and garments from 1974 through 2004, imposing quotas on the amount that developing countries could export to developed countries.

3

Revealed comparative advantage refers to when the country’s share of global exports is larger than what would be expected from the size of its export economy and from the size of a product’s global market.

4

According to Bangladesh Garment Manufacturers and Exporters Association (BGMEA) in 2017, cost increases over the two years included wage costs (by 32.4 percent), accessories, packaging and washing costs (by 4.9 percent), freight and transportation costs (by 40 percent), and costs from an increased consumption of power and gas (by 15 and 7 percent respectively). The costs of compliance are also high. A small to medium sized factory spends about BDT 50 – 200 million (approximately US$0.6–2.4 million) to maintain compliance.

5

The IMF’s diversification index is available for product and for partners, and it can be decomposed into two components. The “between” component of the Theil index captures the extensive margin of diversification (i.e. the number of products/partners), while the “within” component measures the intensive margin (i.e. product shares).

6

To examine the impact of quality upgrading, Fund staff developed a dataset with estimates of export quality for 178 countries from 1962–2010. Concentration in sectors with limited scope for increases in productivity and quality may result in less broad-based and sustainable growth.

8

Under the Duty-Drawback Scheme, exporters receive reimbursements for the tariffs paid on imported intermediate inputs. The scheme is expected to be revamped to reduce long lags and high transaction costs for reimbursements.

Bangladesh: Selected Issues
Author: International Monetary Fund. Asia and Pacific Dept