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Cement industry toying with consumers

September 15, 2003

Cement has been used in construction for over 2,000 years, perhaps first by the Romans in their aqueducts and roadways. Many changes in the product and process have taken place during its long history. Today, cement is the major binding ingredient in concrete, which are the most common building and construction material in the world.

From its very beginnings the changing technology surrounding the cement industry has had far reaching effect on shaping the world. In today’s’ competitive market the cement industry faces many challenges as they try to produce the highest quality product with the greatest efficiency.

Design and maintainability of systems, environmental issues, energy consumption, implementation of power regeneration facilities, standardization, consolidation and planning of resources, inter-plant sharing of data, and the need to upgrade existing facilities in a cost effective manner.

Annual global production of concrete hovers around 5 billion cubic yards, a volume approximated by yearly cement production levels of about 1.25 billion tons. Providing a main input for construction, cement consumption is highly dependent on activities in the construction sector which are in turn dependent on governmental and private investment in infrastructure and buildings.

Cement Industry: There are 24 cement units in Pakistan with total installed capacity of 17.3 million tons.Its production is regionally quite dispersed with major clusters in the north-west and south.

The total production of cement is recorded at 11 million tons during 2002-03 as compared to 9.9 million tons for the year 2001-02, showing symptoms of big increase in time to come. Sharp increases in prices and relatively less demand had been responsible for sluggish growth in cement production for the last some years.

Thedecade of 1990s witnessed tremendous increase in the production capacity of the industry. But cement producers ignored the fact that the budgetary position of the government was bad and the size of the PSDP—the bulk consumer of cement—- was being continuously reduced. Now with the start of the reconstruction work in Afghanistan demand for cement has picked up and the industry’s prospect have brightened up.

Our cement industry fixes prices without any logic. Cement prices all over country are more or less the same which should not be. The location plays a major role in the economics of cement manufacturing.

It is determined by factors such as proximity to raw materials (limestone, coal), distance to market areas as well as availability of continuous power supply. The industry is evenly distributed all over the country and every unit has divergent production process and proximity advantages.

However, they all are working within the framework of certain price structure.

High frequency of power failures, shortage of coal, inadequate availability of wagons for rail transportation, limited availability of furnace oil were the irritants which the industry was confronted with.However, the industry is well placed today as compared to the past.

The build-up in the production capacity during the 1990s induced by huge profits in the industry caused a decline in capacity utilization from as high as 99 per cent in 1992-93 to as low as 57 per cent in 1999-2000. Following policy changes towards deregulation and liberalization since 2000 capacity utilization has improved to 60 per cent in 2001-02. It is likely to further improve as a result of increasing demand of cement amidst increasing economic activity and growing PSDP.

The recent reduction of CED to the tune of 25 per cent could not bring down prices,although the government was very optimistic about the reduction in prices.Thus it is unlikely that the cut in duty will bring about a boom in the construction sector.

Correlation: The inverse relationship between production and prices of cement is not significant. The data on price changes and corresponding increase in production of cement for the period 1980-81 to 2001-02 is examined for correlation between production and prices of cement. For the sake of analysis if we calculate the value of coefficient of correlation it came to -0.4748. There are various other strong determinants of increase in production like increase in population, urbanization, increase in development expenditure (PSDP), changing cultural practices like increasing usage of cement etc.

If we assume all other determinants constant, even than reduction of one percent in price of cement could generate proportionate increase of 0.47 per cent in cement production. According to an estimate the contribution of cement in cost of construction of a normal house is approximately 16 per cent excluding the cost of land. If the cost of land is included than the share of cement in total cost will not be more than 5 to 10 per cent. In this situation any reduction in price of cement will have marginal impact on boosting housing sector. This is simply a flawed assumption which could only deprive national exchequer of precious amount of at least Rs.3 billion as foregone revenue. Reduction of CED has hardly any bearing on demand for cement. In Pakistan, public sector is a major consumer of cement. The relation between production of cement versus fluctuations in PSDP and prices is shown below: Issues in Cement Industry

Excise duty: The cement industry has been demanding lowering of tax incidence on cement since long time. They claim that the tax incidence on cement is one of the highest in the region. This is true to some extent because levy on cement is on higher sides but in Pakistan there is no such thing as capital gain tax. It is the only tax which consumer has to pay before construction of house; however, he is exempted from taxes like capital gain tax as is the case in many countries.

Resultantly, the per capita consumption of the cement is one of the lowest in the world at 72 Kg in Pakistan as compared to 603 kg in Japan, 404 kg in US, 401 kg in Egypt, 291 kg in Thailand, 276 kg in Morocco, 182 kg in Bulgaria and 91 kg in India. There are other determining factors for per capita consumption.

Cement manufacturers time and again requested that if government reduces its levies, the benefit would be passed on to the consumers. In 1997, on the recommendation of a committee on construction formed by the then Prime Minister the levies were reduced from 53 to 45 per cent with an expectation from the cement manufacturers to pass on the benefit of Rs20 per bag to the consumers.

The promise was not fulfilled, rather in early 1998 the prices were arbitrarily increased by Rs.40 to Rs50 per bag. The same thing has now happened again. The government has decreased CED on cement but the producers have escalated the price.

Before the federal Budget 2003-04, the CED at the rate of Rs1000 per ton was levied on cement which means Rs50 per bag at current prices. The cement price had come down from Rs240 per bag in 2002 to Rs204 per bag in June 2003. A reduction of Rs10 per bag was anticipated to push the demand of the cement.

However, the price again stabilized in the vicinity of Rs240 per bag and the benefit of reduction of CED has not been passed to the consumers. The demand for cement has strong functional relationship with many other factors like availability of cheaper plots and construction material. The major consumer of cement or clinker in Pakistan is development outlay which has highly inelastic demand. The domestic consumer has many pre-requisites before demanding cement.

Switching: The tremendous increase in prices of furnace oil is another cause of higher cement prices during 1999 to 2002. Now many cement plants have shifted to coal-fired system which is cheaper. This will reduce cost of production and save foreign exchange and thus improve competitiveness.The government has also allowed duty free import of coal firing equipments to cement plants.

Export: Cement is a globally-traded commodity, manufactured at thousands of local plants. Because of its weight, cement supply via land transportation is expensive, and generally limited to an area within 300 km of any one plant site. The industry is consolidating globally, but large, international firms account for only 30 per cent of the worldwide market. In many developed countries, market growth is slow or nil, with cement used in bulk primarily for infrastructure construction. In developing markets, growth rates are more rapid. China is the fastest growing market today.

Pakistan’s annual demand for cement is 9.9 million tos as against the installed capacity of 17.0 million tons. Therefore, enough surplus capacity is available for export and the demand exists in surrounding countries. The reconstruction work in Afghanistan has augmented demand for cement in recent months. The government on its part should exempt export through road from federal and provincial levies. This will induce shipment through road to neighbouring countries like Afghanistan, Iran and China.

Reduction: The cement industry has demanded time and again reduction of customs duty from the existing 25—35 per cent to maximum 10 per cent on various consumables of cement industry like kraft papers, industrial air compressor, gear units etc. This incentive will contribute fractional reduction in cement prices but deprive government of one revenue source.

Conclusion: The government should strengthen its regulatory framework and regulatory body Monopoly Control Authority (MCA) to look into malpractices of cartel-forming as is the case with the All Pakistan Cement Manufacturers Association (APCMA). The government has to get costing data on cement industry from independent sources and strictly implement its anti-trust law.