Strengthening Competitiveness In Bangladesh—Thematic Assessment: A Diagnostic Trade Integration Study

Chapter 1

Bangladesh’s Trade Performance

Sanjay Kathuria, Mariem Mezghenni Malouche, Martha Denisse Pierola, and Jose Daniel Reyes

Introduction

The Government of Bangladesh recognizes that export-led growth and a broadening of the export structure are pivotal to the country’s growth ambitions. In the Sixth Five-Year Plan, trade is considered a strong source for accelerating growth and providing high productivity and high-income jobs. The government recognizes that a dynamic manufacturing sector will benefit from greater outward orientation, particularly based on the experiences of other successful Asian exporters, such as China, India, the Republic of Korea, Thailand, and Vietnam. The government has emphasized product and market diversification and regional and global integration. The Sixth Five-Year Plan projects …the share of exports in relation to gross domestic product (GDP) to rise by 7.7 percentage points to 23.9 percent of GDP by the end of the Sixth Five-Year Plan, reflecting a leading role that export sector is envisaged to play in increasing domestic activity (Government of Bangladesh 2011, 86).

This chapter describes the trade performance of Bangladesh at the macro and micro levels for goods and services. The analysis of the basic orientation of trade is crucial to judge the extent to which a country’s trade structure is conducive to future growth. The analysis of trade performance at the aggregate and sector levels is complemented by a micro analysis based on detailed firm-level data from customs, in the trade outcomes analysis. The analysis uses the decomposition of the margins of trade growth as a framework for exploring trade competitiveness and analyzes the level, growth, and market share performance of existing exports (the intensive margin), as well as the market share performance of new exports.

Complementing more aggregate assessments with firm-level data can lead to improved understanding about competitiveness. Firms are heterogeneous in characteristics and performance. Moreover, important changes in production models are taking place worldwide, which are deeply affecting economies’ transmission mechanisms, domestically and internationally. Macro aggregations miss the critical features and effects of firm heterogeneity on the macro-economy. After briefly describing the overall external environment in Bangladesh, the chapter provides a thorough analysis of merchandise trade performance, including that based on customs transactions data. It then presents the performance of services exports.

The analysis highlights the following: (a) the heavy sector and market concentration of exports; (b) the potential to improve trade performance by penetrating new markets and exporting new products, as the low entry and exit rates of firms suggests competitiveness challenges likely driven by weaknesses in the general export environment; and (c) untapped potential in services exports despite a noticeable increase in services exports, driven by the growth in communications services and other business services (including engineering, consulting, and other professional services), which reflects Bangladesh’s large pool of labor and growing opportunities in emerging services, such as skill-intensive and professional services. Overall, the analysis suggests that there is potential to intensify exports based on the existing factor endowment (a large pool of unskilled labor); that is, existing exports can grow significantly in current and new markets. The data suggest that Bangladesh will have to work harder to produce another large, labor-intensive cluster like garments, but its export presence in a wide variety of manufactured products indicates that it is possible, with the right supporting environment and with skill upgrading.

Bangladesh’s Macroeconomic Performance

Bangladesh has posted robust and resilient economic performance over the past decade, accompanied by a sustained decline in poverty. Real GDP grew at a healthy rate of around 6 percent per year (table 1.1) over the past decade, accelerating by a percentage point compared with the previous decade. GDP growth was remarkably stable, with a low standard deviation of 0.7 percent during this decade (half of what it was a decade earlier). This robust growth was accompanied by a uniform and steady decline in poverty headcount rates between 2000 (48.9 percent) and 2010 (31.5 percent) and a continuous decline in the number of poor people—from nearly 63 million in 2000 to 47 million in 2010, despite a growing population.

Table 1.1 Key Macroeconomic Indicators, FY2006–FY2014

Sources: Bangladesh Bureau of Statistics, Bangladesh Bank, Export Promotion Bureau, Ministry of Finance, International Monetary Fund, and World Bank estimates.

Note: — = not available; FY = fiscal year; CPI = consumer price index; GDP = gross domestic product; GNFS = goods and non-factor services.

Economic growth has accelerated largely since the 1990s, because of the accumulation of physical capital, increase in the size of the labor force, and, to a much smaller extent, increase in total factor productivity.¹ Underpinning this were several economic reforms: sound macroeconomic management; targeted trade policy reforms that enabled the garments sector to thrive and similarly focused policies that facilitated takeoffs in other sectors, such as frozen foods in European markets; import and financial sector liberalization, and investment in human development and social protection. Remittances and garment exports were the twin drivers of growth in the economy—remittances through their effect on consumption and construction as well as easing the foreign exchange constraint and garment exports through providing sustained direct and indirect employment for millions of workers in garments, input and ancillary suppliers, and so forth. The manufacturing sector has been the largest single contributor to growth in the past two decades. As a result, the share of manufacturing in total GDP increased from 9.8 percent in fiscal year (FY) 1980 to 18.7 percent in FY2014. Modest investment rates notwithstanding, capital deepening in agriculture and industry played an important role.

Bangladesh has also proven to be relatively resilient to global economic shocks. Its growth continued to be resilient despite several external shocks that slowed exports, remittances, and investment growth, including the end of the Agreement on Textile and Clothing in 2005 and the 2008–09 global financial crisis, thanks largely to strong fundamentals at the onset of the crisis, relatively underdeveloped and insulated financial markets, and preemptive policy response. However, while slow growth in Europe and the United States, the country’s two main export markets, put strains on Bangladesh’s export growth, exports have recovered and grown at a reasonable pace.

The current account and balance of payments have been stable, thanks to remittances. Bangladesh relies heavily on imports for capital goods, oil, intermediates, and a variety of consumer goods. Exports are not sufficient to pay for all imports, but the current account has been positive since FY2006, owing to growing remittances, which have proved critical to the stability of the balance of payments. Despite some concerns in FY2011 and FY2012 about oil imports and their impact on the balance of payments, the external sector has by and large been stable over the years. Reserves grew and stood at more than five months of goods and services imports in FY2014. Macroeconomic pressures that had developed on account of energy subsidies have also eased, supported by more restrained fiscal and monetary policies.²

However, despite the stable macroeconomic situation, institutional weaknesses and several vulnerabilities loom large and pose challenges for macroeconomic management. Political uncertainty, together with frequent general strikes and associated violence, has added to the longstanding energy and infrastructure deficits in dampening investment, posing a nontrivial threat to sustaining the recent average 6 percent growth, let alone raising it to 7 percent in the near future. Moreover, deep-rooted weaknesses in institutional capacity underlie the failure to speed up implementation of top priority infrastructure projects and are not easily addressed.

Bangladesh’s near- and medium-term macroeconomic outlook is subject to several vulnerabilities.³ A resumption of political violence or heightened uncertainty would adversely impact investment, growth, and inflation. Continued weakness in the banking sector, in particular at the state-owned banks, could undermine credit and growth prospects and affect fiscal sustainability, as would a failure to launch the new VAT. On the external side, a protracted slowdown in the European Union (Bangladesh’s main export destination) could hurt exports. Moreover, the outlook for remittances is uncertain: while worker outflows have recovered, persistent low oil prices could eventually affect investment and employment in key host countries. While previous oil price shocks had limited and short-lived effects on remittances, the current more pronounced and prolonged decline, coupled with fiscal tightening in many oil-exporting countries, is likely to hurt migrant worker earnings and consequently remittances. From a broader perspective, natural disasters and global climate change pose major risks for Bangladesh. Linkages with large emerging market economies and international financial markets remain limited, cushioning against potential shocks from these sources.

Bangladesh’s export growth has been impressive since the early 1990s, and it has been accompanied by reduced distortions in trade policy. Although Bangladesh is still a least developed country (LDC), it has an unusually high share of manufactured exports in its export basket (90.5 percent in 2013) relative to its income level, which illustrates its strengths in mass manufacturing and labor availability. Economic growth has been associated with greater trade openness over the past two decades. As measured by the ratio of exports plus imports to GDP, openness has increased from 18 percent on average in the 1980s to 35 percent in the 2000s (figure 1.1). A reduction in trade policy distortions has helped Bangladesh’s export competitiveness to a significant extent.

Figure 1.1 Trade Openness in Bangladesh and Comparators, Measured by Exports and Imports as a Share of GDP

Source: Calculations based on Export Promotion Bureau and World Development Indicators data.

Note: GDP = gross domestic product.

Primarily owing to the emergence of a dynamic ready-made garments (RMG) industry, Bangladesh doubled its world market trade share, from 0.08 percent in 1995 to 0.16 percent in 2011. Its overall exports grew on average by 11.2 percent from 2000/01 to 2009/10. During 2005–10, Bangladesh gained world market share in most of its top 25 export products (figure 1.2). Exports remained strong during the 2008–09 crisis, owing to the so-called Walmart effect, driven by low-value garment exports.

Figure 1.2 Growing Share of Bangladesh’s Top 25 Exports in World Markets, 2005–10

Source: Calculations based on United Nations Comtrade data.

Note: Products are identified by six-digit Harmonized System (HS) codes. The bubbles in the figure are relative to the importance of the product in the Bangladesh export basket, and the straight line shows the points at which world and Bangladesh growth rates are the same. CAGR = compound annual growth rate.

Bangladesh has scope to diversify its exports and increase the contribution of trade in growth and poverty reduction. Although growing over time, the role of trade in the overall economy is still low. Imports were 21 percent of GDP, while exports were 17.4 percent of GDP in FY2014. Exports lack diversity, with garments accounting for four-fifths of total exports. Bangladesh is sometimes referred to as a mono-product export basket. Market concentration is also high. More important, there are concerns whether physical and institutional infrastructure as well as skill availability can keep pace with the desired growth rate of Bangladesh’s exports. And trade policy has not been used in a deliberate way to enhance consumer welfare or promote export competitiveness in general. Neither has it been mainstreamed as a critical policy for long-term growth.

Bangladesh’s Performance in Goods Trade

Bangladesh’s export portfolio has been dominated by RMG, knitwear and woven garments in particular. In FY2013, RMG represented 79.7 percent of total exports (figure 1.3) and most of the growth has come from the RMG sector over the years. Within the RMG sector, the knitwear sector has grown at 18.4 percent over 2001–10; woven garments during the same period grew at 7.2 percent. The main reason for this difference is that EU rules of origin required a double transformation from yarn to fabric and from fabric to garment to be eligible for lower duties under the Generalized System of Preferences (GSP). These rules of origin benefitted the knitwear industry, which was more likely to meet the required local content. Domestic value addition in knitwear is about 75 percent, thanks to strong backward linkages to spinning factories, with local factories supplying about 90 percent of the total fabric required. By contrast, only about 16 percent of the woven exports to the European Union qualified for the GSP facility because imported fabric typically accounted for 60 percent of the output price. However, effective January 2011, the European Union’s rules of origin have been relaxed, which has already improved the performance of woven garments (see chapter 3 on market access for a discussion of GSP). In the following two years, 2011–13, woven garments exports grew at a rate of 15 percent, while knitwear growth was barely 6 percent.

Figure 1.3 Bangladesh’s Top Export Products, FY2013

percent of total exports

Source: Export Promotion Bureau.

The concentration in garments still appears to be almost unique to Bangladesh among many peer countries. figure 1.4 shows that between 2000 and 2012, this concentration increased further: the share of garments in Bangladesh’s exports rose from 77 to 84 percent. In other countries, such as Lesotho and Pakistan, where per capita incomes grew slower than Bangladesh’s over 2000–12, the reliance on garments declined substantially (Sri Lanka is an exception to this trend). In high-growth countries, such as China, Vietnam, and India, the relative reliance on garments has been declining even faster.

Figure 1.4 Ready-Made Garments as a Share of Total Merchandise Exports, Bangladesh and Other Major Garment-Exporting Countries, 2000 and 2012

Source: UN Comtrade database.

Concentration of export markets and products is high. Bangladesh’s exports are heavily concentrated at the sector level and even at the product level, where five products account for more than 50 percent of sales in the U.S. and EU markets.⁴ Twenty-one of the top 25 products are clothing articles. In general, product concentration in Bangladesh is much higher than in comparators (figure 1.5 shows the number of products exported by countries). Similarly, in terms of markets, the European Union and the United States together account for about two-thirds of the country’s total exports. Despite Bangladesh’s fortunate location between the world’s fastest-growing and potentially largest economies, the shares of China, India, and the Association of Southeast Asian Nations (ASEAN) in Bangladesh’s exports are only 2.5, 1.5, and 1.5 percent, respectively. Bangladesh is not making the most of the growth of the Asian giants. Exports have been boosted by duty-free access to Australia, Canada, China, the European Union, Japan, and Norway. In June 2013, the United States suspended the GSP facility provided to Bangladesh. However, the GSP facility did not provide duty-free access for some of Bangladesh’s key exports, and only a few goods qualified under the U.S. GSP. Only 0.62 percent of the country’s goods exported to the United States qualified under this system (WTO 2012). As a result, import duties on Bangladesh’s exports to the United States amounted to US$824 million in 2014.⁵ At present, 96 percent of Bangladesh’s exports to the United States consist of RMG and textile products, which are bought by retail groups such as Walmart, Gap, and Target.

Figure 1.5 Number of Exported Products, Bangladesh and Comparators, 2011

Source: World Bank staff.

Note: The x markers represent particular countries. Bangladesh is at the intersection of the dotted lines.

However, garments are not a single category of exports; if garments are treated separately, Bangladesh is actually more diversified than most comparators. As highlighted in Cadot, Carrère, and Strauss-Kahn (2011), export concentration follows a U-shape path as a function of the level of development (as measured by purchasing power parity (PPP) income per capita in constant 2005 U.S. dollars). Poor countries start out concentrated, then diversify, and then—beyond about the PPP level of US$25,000—re-concentrate. As shown by Theil’s concentration index in figure 1.6,⁶ Bangladesh’s exports have been de-concentrating—diversifying—rapidly over the years, so that the country is now clearly below the regression curve describing the average concentration at each level of income. Bangladesh exports a range of garment products, whereas many countries at the same level of income export a single primary product. T-shirts, trousers, and swimsuits (all garments) are the same type of export, but they represent a type of diversification, as their prices are imperfectly correlated (for instance, knitwear and woven garments are typically not the same product). Thus, the concentration in a range of products all belonging to the RMG category does not expose Bangladesh to the single-price fluctuations that exporters of primary products face.

Figure 1.6 Export Concentration, Bangladesh and Comparators

Source: Data from Cadot, Carrère, and Strauss-Kahn 2011.

Note: Calculations use UN Comtrade mirrored export data. Concentration is measured by Theil’s index at HS6. GDP = gross domestic product; PPP = purchasing power parity.

Bangladesh’s export patterns have changed little over time, indicating a lack of dynamic churning. First, the same products have dominated the market over the decade. This is a striking difference compared with more vibrant economies, for which the top five products are seldom the same over a decade, with a substantial churning of top export earners over time. For example, in China only one of the top five products in 1998 was still among the top five in 2008. Second, Bangladesh has low export growth of old products in new markets. The decomposition of Bangladesh’s export growth between the intensive and extensive margins shows that this is mostly explained by an increase in exports of old products in old markets. The contribution of this component in Bangladesh is particularly high compared with peer countries.

Persistent Low Sophistication of Exports

The sophistication of Bangladesh’s export basket has also stagnated over time. The level of sophistication of products appears to matter for economic growth. According to Hausmann, Hwang, and Rodrik (2007), countries that have a more sophisticated export basket enjoy accelerated subsequent growth while those with a less sophisticated export basket tend to lag behind. The data for Bangladesh and selected peer countries show that the sophistication of Bangladesh’s export basket is comparable to that of Pakistan, despite Bangladesh’s lower per capita income (figure 1.7). However, Bangladesh’s sophistication stagnated between 2002 and 2008, whereas India’s and China’s have increased over time. According to Lall’s (2000) classification, Bangladesh’s exports are heavily concentrated in the low-tech space, representing more than 90 percent of total exports of goods (other LDCs export primary and resource-based products). This reflects the concentration of Bangladesh’s exports at the lower end of the textiles and clothing sector, despite the sector being differentiated. An assessment of the relative quality (relative unit values) of textile exports to the European Union shows that Bangladesh’s increased market share in the EU market is associated with a decrease in the average unit price of products relative to the unit prices other exporters charge for the same type of products. Vietnam, another leading garment exporter, has been able to increase significantly its share of high-tech exports since the mid-2000s (figure 1.7, panel d, and box 1.1).

Figure 1.7 Export Sophistication, Bangladesh and Comparators

Source: World Bank data.

Note: EXPY is a measure of the level of sophistication of the export basket of a given country (see Hausmann, Hwang, and Rodrik 2007). Panel b shows market shares and relative quality from the average in 1996–1998 to the average in 2006–08. Circles in panel b represent products defined at 6-digit HS codes. GDP = gross domestic product.

Box 1.1 Vietnam Has Increased Its Export Basket Sophistication and Market Diversification

Vietnam has consolidated its labor-intensive manufacturing exports while increasing the share of high-tech products. Vietnam’s traditional labor-intensive manufacturing exports, such as garments, footwear, and furniture, continue to sustain rapid growth. A noteworthy addition to the export basket has been the exports of high-tech and high-value products (for example, cell phones and parts, computers, electronics and accessories, automobile parts) that emerged as the largest and fastest-growing export items in 2012. Vietnam exported US$12.7 billion worth of cell phones and accessories in 2012, compared with US$3.7 billion of rice, US$6.1 billion of seafood, and US$7.3 billion of footwear. In 2013, exports of cell phones and accessories were expected to exceed US$18 billion, overtaking garments as the largest export item from Vietnam.

Vietnam’s top three markets represent less than 50 percent of export markets. Vietnam’s top three export markets in 2012 were Europe, the United States, and Japan, accounting for 46 percent of its exports, down from 49 percent in 2002. The modest decline in the share of exports going to advanced countries has been captured by its neighbors, namely China and Association of Southeast Asian Nations (ASEAN) countries. Given that South-South trade is increasing at 1.5 times the rate of growth of North-South trade, it is important for Vietnam to continue to diversify its export destinations and explore new markets in Africa, South Asia, and Latin