Export-led growth has been put forward as an efficient alternative to the inward-orientation strategies of development because it is believed to lead to higher total-factor-productivity growth and encourage foreign direct investment. The pressure of competing in the world markets may also lead to better product quality and force the domestic producers to reduce inefficiencies.
The foreign exchange liberalization, an important component of the export-led growth strategy, is likely to reduce the allocative inefficiencies of exchange control. In Pakistan, there has been an attempt to pursue an export-led growth strategy for the past decade, however with a little success. Pakistan’s export earnings have been stuck at around $8-9 billion since the mid-1990s — around 14 per cent of the GDP. Its share in the world trade has been stagnant at less than 0.2 per cent of the total world trade. Export growth rates have fluctuated from year to year, averaging only 3 per cent (in nominal dollar terms) during the past two and a half decades. One of the chronic problems with Pakistani exports has been the limited export base with heavy reliance on low value-added cotton and cotton-based textile products, which make up 60-70 per cent of the merchandize exports.
The impact of cotton is fairly sizable both for the export sector, as well as for the economy. It is estimated that for a shortfall of every one million bales in cotton production, Pakistan loses roughly half a per cent of the GDP growth. Other factors that have led to poor export performance include: the falling unit prices of a wide range of exports, including the commodity exports and low value cotton manufactured goods; the issues of gaining deeper access in the US and the European markets, which are the dominant export markets for Pakistani textiles; and a wide range of behind the border policies, particularly the heavy reliance on the trade-related taxes in the tax structure, high interest rates during the 1990s, a fairly intrusive regulatory environment for the businesses and exporters, and the problems of poor governance and political/sectarian violence that affected the larger export centres. It is quite clear that the Pakistan’s export competitiveness, which can be defined as its ability to achieve the sustained high rate of export growth, has been affected by these exogenous and endogenous factors resulting in the stagnating exports.
Pakistan, which used to have relatively high growth economy (average growth rates of around 6 per cent during the 1980s), also witnessed a steady decline in its GDP growth rates over the 1990s to 5 per cent during the first half of the 1990s and then to less than 4 per cent in the latter half of the 1990s. The reasons for the slow growth were political, economic, and financial shocks. But more importantly, a number of unresolved structural problems such as the low tax base, the inflexible public expenditures, and a heavy debt burden limited fiscal space for the public sector led investments. The private sector has been constrained by a difficult investment climate due to the excessive regulations and the government interventions, an uncertain economic policy environment and the pervasive governance problems. There has been an attempt in the past few years to turn around the economy and to bring about structural changes. A major focus of the structural reforms has been to make exports an engine of growth.
The debate between import substitution and export promotion as the strategies for fostering the industrialization and hence economic growth and development is long standing. Import substitution strategy can be couched in terms of the “infant industry argument”. In contrast, the export-led growth strategy entails a neutral strategy with no bias against the exports. The evidence in support of the export-led growth strategy reported by the World Bank in its World Development Reports of 1993 and 1987 is generally consistent with much of the debate on the matter. However, its major shortcoming is the failure to support the argument of export promotion empirically.
Despite their limitations, these findings are significant and serve to highlight a number of fundamental factors. First, there is no doubt that some of the more dynamic LDCs, particularly, the South East Asian Tigers, rely to a substantial degree on the world markets and have made substantial inroads in these markets by developing a comparative advantage in a wide array of manufactures. However, whether this is accomplished strictly by getting the prices right is open to debate.
In Korea, Taiwan and Singapore, the evolution of the production structure and the composition of exports were not left to the market, but was the result of deliberate government design. If such is the case the experience of these countries suggests not a neutral policy but the creation of price and resource allocation distortion favouring production for the export market at the expense of domestic consumption. We, in Pakistan, were doing exactly the opposite. Historically the export-led-growth strategy has been used as the only rhetoric and very little efforts were put in to make it more than just a slogan. The inherent anti-export bias in the system is still as high as 20 per cent. It is a conservative estimate based on only the quantifiable variables. There are many other things, which are not quantifiable that put exporting business on an unfavourable pitch. In other words in real terms this anti-export bias could well be much more than the estimated 20 per cent. It will be unfair to expect exports to lead the growth in the presence of such a high bias against the exports in the system. Exports cannot be engine of growth unless this bias, at least the quantifiable one, is reduced to less than 5 per cent.
It is commonly believed that the duty drawback and other such systems can insulate exporters from the effects of measures to protect domestic produce. Import tariff raise the price of imported goods above the world prices, and these price effects spill over into the overall cost structure of the economy. So even, if exporters can buy imported inputs at world prices (after negotiating the administrative hurdles, which are often not priceless) they still face a relatively high local cost structure than do the competitors in countries with low protection, whose local cost structure is closer to the world prices. This difference in local cost constitutes a hidden tax or burden on the exporters.
Anti-export bias is generally defined as the ratio of effective exchange rate on exports, (EERx). The EERx is nothing but the units of domestic currency that can be obtained for a dollar worth of exports, taking into account export duties and subsidies related to the exports. Similarly, the effective exchange rate on imports (EERm) are the units of domestic currency that would be paid for a dollar worth of imports, taking into account the tariffs. Using these definitions the ratio of EERm/EERx can be used as an index of import bias. In case of Pakistan, the given chart reveals an interesting pattern of anti-export bias. One rather obvious point that emerges from here is the substantial anti-export bias (as high as 20 per cent) despite the trade reforms and reduction in the duty rates.
It is quite clear that the export production in Pakistan is still not free of taxes and tariffs. And because of the protection provided to the domestic industry not only that domestic resources are encouraged to move into producing the import competing goods, but also the export production has become less profitable and fail to compete with the production actively for domestic consumption. When these products are not competitive and profitable in the domestic market it is very difficult for them to be competitive in the international market. Moreover, because of the inherent anti-export bias in the system, exports constitutes only a small part (less than 15 per cent) of the Gross Domestic Product of the country. It is unlikely that such a small component can become an engine and pull the remaining 85 per cent of the economy. In the countries like Korea, Singapore, Malaysia etc., from where we have borrowed this notion of export-led-growth, the share of exports in the GDP is very high and in some cases as high as 80 per cent.
Therefore, it is recommended that in order to enhance the exports and make them more competitive this anti-export bias have to be eliminated. Unless the export production becomes relatively more profitable activity compared to the production for domestic consumption (import-substitution), no policy instrument can help enhance the Pakistan’s export earnings. It is therefore, imperative to phase in a more effective system of no-duty no draw back. Similarly, a low uniform tariff rate would reduce the anti-export bias to inconsequential levels. At the very least Pakistan should make a simple three-band system the goal of its future tariff reform so as to significantly reduce the policy-induced bias against exporting.
It is recommended that the best outcome for exporting would be a simple three-band system (10, 20 and 30). In addition to that there should be absolutely no end-user exemptions or concessions and a high degree of homogeneity in the coding, similar goods dutied at the same rate, no distinction such as between the goods of a “type obtainable in Pakistan” and others.
Over the years the anti-export bias has come down with the tariffs being brought down from the prohibitive levels of as high as 65 per cent in 1994-95 to 45 per cent in 1996-97. However, during the past three years primarily with the donors’ (mainly the ADB) assistance and insistence lot of efforts were made to provide a free trade environment and a tax neutral fiscal system to exports in the country. These efforts include further rationalization of tariff regime with the maximum tariff rate being brought down to 25 per cent.
Restructuring and establishment of few very important institutions like the Input-Output Coefficient Organization (IOCO). This organization helps determine the actual share of various inputs (imported or otherwise) used in the production process of a certain product. In case the product is exported, these coefficients are useful in verifying the true value of the exporters’ claims for refunds and rebates with regard to the use of imported inputs. For the purpose of verification and estimation of the input-output coefficients, the CBR has hired the services of professionals at the market wages; these professionals are qualified industry specialists. Since the organization is run professionally during the past two years of its operations no dispute on the calculation of these coefficients has thus far been reported. The establishment of this organization has helped government save lot of money due to the rationalization and streamlining of the rebate and refund claims.
The other important initiative taken by the government during the last three years to reduce the inherent anti-export bias in the system was the restructuring of the Duty Suspension Audit Office (DSAO) that deals with the rules pertaining to the duty and tax remission to exporters (DTRE). This is a modified and improved version of the no-duty no-drawback (NDND) scheme. Although, this scheme has still to go a long way to be a success, however, the results have already stated showing up. It is hoped that once the refund/rebate rates are further rationalized the use of this scheme, which is optional, will increase and one of the long standing complaint of exporters that they face long delays in getting their refunds form the CBR will be solved for once.
In addition to these two organizations the Pakistan National Accreditation Council (PNAC) and the Pakistan Export Finance Guarantee Agency (PEFGA) were established. All these steps were taken to put in place the fundamentals of trade and commerce in the country. The point I am trying to make is that there is no doubt that lot has been done to improve the plight of exporters but still is more to be done to make exports competitive in the world markets, especially after December 31, 2004 in the quota free and completely open trade environment.