EXPORT COMPETITIVENESS AND THE MARKET FOR TEXTILES: a summary of recent evidence

Transcription

1 EXPORT COMPETITIVENESS AND THE MARKET FOR TEXTILES: a summary of recent evidence Vijaya Ramachandran Harvard Institute for International Development January

2 Section I: Textile Production in India This section outlines the major structural features of production in the textile sector in India. It is based on the work of T. Roy and other researchers. 1.1 The garment sector s exports has more than doubled in the last five years. India s share of world exports of clothing in 1994 was 2.6 percent, up from 1.5 percent in However, India's share of world clothing exports has not improved since 1994 and has declined marginally to 2.3 percent in The value of garment exports was $3753 million in and $3776 million in with a growth rate of 0.6 percent. 1.2 India s garments exports are dominated by garments with cotton as the fibre base. Cotton fibre garments constitute 71 percent of total garment exports. Synthetic fibre garments had a share of 28 percent in An analysis of item-wise composition of garment exports reveals that it is concentrated in a few items. Women's outerwear had a share of 40.8 percent in 1991 but it declined to 38 percent in Men's shirts had a share of 17.8 percent in These two items contribute to more than 50 percent of Indian export of garments. Since 1983, the US and the EU have been India's principal markets. The combined share of these two markets is 71 percent, the share of restricted countries is 76 percent and the non-quota countries share the remaining 24 per cent. In recent years India has fully utilised the imposed quota levels. In the US market, India has a greater than 50 percent share for women s outerwear. In 1993, India exported more than a billion-dollars worth of women s outerwear; more than half of it was to the US. Women's outerwear (non-knit) has a share of 38 percent and Men's outerwear (shirt non-knit) has a share of 29 percent in EU imports of apparel from India. 1.3 India and several other comparator countries are leading suppliers to US in the 17 product categories. A striking feature is the wide diversity in specialisation by country. No single country dominates across product categories. However, China and Hong Kong together are the number one suppliers in 8 of the 17 categories. This indicates their higher level of production capability to supply a variety of products to penetrate global markets. Section 3 returns to this subject. 2

3 1.4 Producers in developing countries face volume restrictions on their exports. They can enlarge the value of their sales by moving up the market segments into higher quality lines in their product categories, say, from cotton to blends. The classic case has been that of Hong Kong whose sales realisation has risen while quantity sold has declined. The base of competitiveness need not be only low cost/ high volume but one based on quality, design and service. 1.5 Product quality can be conceived as absence of defects and the degree to which a garment conforms to specifications. Production cost, quality and design content together cause variations in unit values. 1.6 The prices (unit values in $US per dozen) received by Hong Kong, for cotton apparel, are at the top of the distribution followed by China and Indonesia. High prices received by Hong Kong indicate specialisation, high design content and high quality of fabrics used. Chinese prices reflect the networking with Hong Kong traders who provide the marketing expertise. The unit value of Bangladesh and Pakistan appears to be in the same ballpark and are the lowest for all products for all years. India is in the middle. Consistent with the views of industry observers, Indian apparel products do show an improvement in unit values for their main products except in cotton women's shirts. In 1996, excluding cotton women's shirts, Indian prices are above average. They were below the average in Unit values of different countries for the same product also throw light on the market segments of each supplier country. India is large supplier of casual shirts and not formal/business shirts. This shows up in the large difference in unit prices between India and Hong Kong in the Shirts market. 1.7 Large differences in consumption patterns have separated domestic and export markets for apparel. The consumption of traditional tailor-made garments i.e., consumption of piece lengths later converted into garments by the neighbourhood tailor, predominate the domestic market. The domestic market is price sensitive and insensitive to quality variations. In recent years, the demand for modern casual-wear readymade garments appears to be increasing. Industry reports indicate a rapidly emerging market for branded quality sensitive apparel, namely jeans/trousers, printed shirts and T-shirts and the entry of several large established companies into readymade garment manufacturing. However, export-oriented apparel 3

4 production is largely divorced from the domestic market oriented production and the signs of change are very recent. 1.8 The manufacturing sector in India can be divided into two segments based on the criterion of employment namely, registered and unregistered. The registered sector consists of factories registered under the Factories Act 1948 and covers those factories employing 10 or more workers, if using power, and those employing 20 or more workers, if not using power. All other factories constitute the unregistered sector and are outside the purview of industrial and labour legislation. 1.9 The government policy for the purpose of promotion of small-scale industries uses the capital criterion to define a small-scale factory. Under this policy all industrial units with an investment in plant and machinery of Rs. 6 million (this limit was raised to Rs. 30 million in 1997) are designated as small-scale units and are eligible for a variety of promotional measures like preferential credit, investment subsidy etc. In addition, the government has declared more than 800 products for exclusive production in the small-scale sector. Under this policy of small-scale reservation only small-scale units can undertake production of reserved products. Large factories cannot enter those products unless they commit themselves to meet certain export obligations Production structure of the Indian apparel industry segmented in to two distinct categories: The unorganised sweat shop supplier, who sells to the local merchant exporters The organised factory-based manufacturer-exporter The bulk of the apparel production takes place in small units with manually operated sewing machines. The unregistered sector contributes more than 90 per cent of the value added of the garment sector, namely textile products. The share of factories with more than 200 workers, in this product group is just 25 per cent within the segment-registered manufacturing. Large units are found only in the export processing zones or found as 100 per cent EOU's (Export Oriented Units). This is a consequence of the reservation policy described above Garment production in India is reserved for small-scale units. Large firms can produce, under license, the reserved items provided they 4

5 undertake to export 75 percent (reduced to 50 percent in 1997) of their production from the third year of their production. Half of their export should go to non-quota areas. Given the cyclical nature of demand in export markets and the uncertain domestic demand for readymade garments large firms have been reluctant to invest in garment industry The small-scale nature of Indian production has resulted in greater flexibility. It can handle a wide range of orders, even as low as 500 pieces. Small-scale producer demand for specific fabrics for specific purpose is largely met by the powerloom sector. Powerlooms have the advantage of shorter lead-time in the delivery of fabrics, which is critical for apparel manufacturers supplying largely to fashion oriented niche markets. However, as the industry attempted to produce standardised garments based on standardised cloth, it faced severe problems of quality. The procurement of certain types of heavy cotton fabrics, fabrics in required counts and wide widths has been difficult. Apparel producers have difficulty importing these fabrics due to quantitative restrictions and high tariffs. The nominal tariff rate on synthetic and cotton fabrics was as high as 156 per cent and 129 per cent in In the 1990s, the tariff rates have been progressively reduced and at present the nominal tariff rate is 50 per cent on cotton and synthetic fabrics. In January 1995, import of most fabrics and textile products was allowed under the OGL (Open General License). The system of duty-free import of textile fabrics, components, and accessories for export production requires special import licenses. The value of goods that can be imported duty free is determined either on the basis of FOB value of exports of the exporter (the value-based license) or the physical quantity of inputs required for per unit of output (the quantitybased license). In the latter case detailed input-output norms have been specified for obtaining duty exemptions for the imported items. Licensing always causes time delays, a crucial factor for an industry specialising in fashion and seasonal garments 1.13 A constraint often emphasized is the availability of good quality trimmings and embellishments such as laces, buttons, zip fasteners, thread interlinings and packaging materials. All these products are reserved for small-scale industry. Products of small-scale industry lack international quality which has forced large exporters to integrate vertically. Since 1993, exporters have been allowed, after obtaining a license, to import all trimmings by paying a duty of 40 percent (raised to 75 percent in 1994 but reduced to 40 percent). The license requirement for the import of these 5

6 items was abolished in April It is important to realize that trims and accessories add value to the final product. Leading exporting countries of garments are also large importers of trims and accessories The reservation of clothing products and accessories for the smallscale sector has closed the entry for both large domestic firms and foreign direct investment into the apparel sector. This has severely restricted the flow of new investment and technology upgrading. Garment industries in China, Malaysia, Sri Lanka and Mauritius have achieved rapid progress due to foreign investment According to researchers, the restructuring of the textile industry is an example of delayed exposure. On the one hand, the industry is indeed regaining the leading sector role in India, thanks to comparative advantages based on cotton, labor, and accumulated knowledge in making cloth. In this process, the large home market and exports have played compatible and mutually reinforcing roles. But, on the other hand, the reforms have exposed, or threaten to expose, areas of bankruptcy that developed due to years of relative isolation. Consistent with a fairly general pattern in Indian industry in recent times, the areas of competitive success tend to occur in relatively labor-intensive consumption goods, and those of competitive decay tend to occur in capital goods. The seemingly contradictory experiences of endproducts such as fabrics, and inputs such as textile machinery, together make the picture of the transition complete All standard series on per capita consumption show almost continuous decline in cotton cloth consumption in metres from about 1970 to Prerevised availability of cotton cloth for home consumption series show that it fell from metres in to about 10.5 metres in , when it was stagnant for a few years, and then came down to 9 metres in Revised series begins from and show that the fall was unabated between and The Textile Committee's sample survey on consumer purchase shows a similar pattern. Total consumption, on the other hand, was more or less unchanged at around metres between 1970 and The rise, though a small one, happened in manmades, substituting cotton The fall in cotton in home consumption has been reversed or arrested in the post-reform period. Except one year, all the others have seen annual 6

7 growth. This has happened not only because of reversed fibre-substitution, but also because total consumption has increased. Both cotton and manmade have increased in usage. Another significant change in the last ten years has been the growth of exports. Export-share in final demand for cloth increased from about 12 per cent in to 30 in It is fair to assume that this share was close to zero in Officially, there are four types of producers: mill, handloom, powerloom, and hosiery. `Mills' are the composite cotton spinning-weaving mills and spinning mills. `Handlooms' are handlooms, whether in factory or household. `Hosiery' stands for factories making knitted goods. `Powerlooms' are a residual, and like all residuals, a rather mixed-up category. Powerlooms can be defined as weaving factories. They weave a higher share of manmade cloth than of cotton because in cotton they have to share the space with integrated mills and handlooms. They, however, have no organizational homogeneity. There is an impression in India that powerlooms are workshops thriving on sweat-labor and obsolete looms. Many indeed survive on low wages and obsolete looms, and are unregistered as factories. But, a fair number are plants with looms, and with more or less integrated cloth-finishing processes. One example is decisive. The large vertically integrated manmade textile producer and India's largest company, Reliance, has a 93 m metres captive weaving plant. Since Reliance is not a `mill' by official definition, nor a handloom, nor a hosiery, its output must be classed with powerloom output. The problem of heterogeneity within powerlooms, however, is more serious in manmade than in cotton. Even in manmades, a major part of the output comes from the informal sector There is a steadily declining share of mills in cloth production. There is no difference in this respect between pre- and post-reform periods. As far as cloth goes, mills consist mainly of bankrupt and obsolete integrated factories. They do produce and export a certain quantity of yarn, though the main supply of yarn comes from specialized spinning mills of relatively recent origin. But, in cloth, the integrated mills make generic goods of types which have no demand either at home or abroad, and they make them at far higher cost than powerlooms. The reason why the mills continue at all is the dominance of the public sector National Textile Corporation among the mills. 7

8 1.20 Though the share is declining, the absolute quantity of cotton exported by mills has grown significantly, from about 1.1 b metres in to 1.45 b in Bankrupt and obsolete plants cannot supply such quantity, nor grow at such rates. So where is this coming from? In fact, this export did not come from bankrupt and obsolete plants, but from very well-equipped and profitable ones. Almost all of textile exports of mills arise in private composite mills, which account for about 10 per cent of capacity but well over half of production, and almost all of cloth exports. The main lesson of the coexistence of good and bankrupt mills is that, bankruptcy is not macroeconomic, but managerial. The gap between the efficient and the badly-managed has become starker as reforms enabled closer integration of textiles with the world market The recent expansion in demand has been met largely by unorganized producers, i.e. by powerlooms as well as knitting factories. Knitting, in fact, has seen very significant export growth recently. We can conclude that, it is not just textiles, but the informal sector in textiles, that has led industrial growth after the reforms. Powerlooms have increased their share in exports dramatically. Since powerlooms are the exclusive suppliers of manmades, the rising share of manmades in recent times has further helped them The standard argument explaining powerloom growth is wagedifferential between formal and informal sectors. It is also alleged that the informal sector routinely evades taxes, whereas the formal sector obediently pays taxes. These arguments for the success of powerlooms, which may be clubbed under the term `the distortion thesis' on why powerlooms exist, are unconvincing for the following reasons: (1) the experience of successful mills shows that the formal sector can by-pass wage-differential or tax-evasion if they are properly managed (2) Many mills have been badly run, and a badly-run mill does not need high wages to sink. They also suffer high overhead, delayed modernization, low cash-flow, exodus of managers, and lack of retail base (3) powerlooms and mills do not compete in manmades, (4) powerlooms are not homogeneous producers; many of them are simply wellmanaged formal sector producers and wage-share in costs vary widely within powerlooms, (5) the importance of wage-share in costs is usually exaggerated and based on outdated technological norms, (6) we do not know the extent of tax- 8

9 evasion by powerlooms and how critical it is to their survival; what is well-known is that there is some tax evasion in the formal sector (7) empirical studies which compare average costs of mills and powerlooms, and conclude that wagedifferential is critical, typically use wrong methods to arrive at that conclusion according to researchers. What is certain is that weaving offers little economies of scale or integration. The integrated mill is a concept that made sense in a particular historical context. By 1950s that context had disappeared. Integration and scaleeconomy still make sense in certain types of cloth, where for example blended yarn or good finishing or extreme standardization is required, and in these areas the ordinary powerloom cannot do as well. The modernizing mills operate in these areas Powerlooms have gained at the cost of the mills. Have they also gained at the cost of handlooms? Careful field-based studies show that the size of the handloom industry is grossly inflated in official data. In capacity, the actual extent is possibly as low as a third of reported capacity. There is no reason to think that in cloth production the situation is different. Further, such studies also suggest that the rapid fall in handlooms is possibly a postreform phenomenon. The hypothesis consistent with both decline of handlooms and growth of powerlooms is that, the post-reform period has seen extensive conversion of handlooms into powerlooms, or simple exit of handlooms where conversion was not possible. This is a hypothesis, but a highly plausible one. Detailed Census 1991 General Economic Tables may shed some light on how far off the mark official estimates of handlooms are. The decline, however, has probably accelerated after the census Globally, cotton consumption is increasing at the expense of manmade, even in countries where manmades are naturally preferred due to climatic reasons. This trend keeps an upward pressure on cotton prices, and favors long-term export-prospects from countries with abundant cotton. Thus, producers and exporters of cotton goods in India have benefited from this trend. On the other hand, consumers in developing countries who mind relative price more than fibre-quality, may switch to manmades as a result of the same trend. Employment share of textiles is rising in factory employment. The employment share of textiles in total industrial employment is ambiguous, being a mix of decline in mills and handlooms, the latter of unknown 9

10 magnitude, and a fairly steady share of all others. It is certain that smallscale factories have increased employment share rapidly. Consistent with entry of labor-intensive producers in more recent times, the share of textiles in value-added has fallen marginally. These trends confirm that the labor-intensive and small-scale producers have been the main beneficiaries of reforms Why has this happened? Has it been due to relative costs of production between large and small, or due to policy? Garment-making is a line of activity `reserved' for the small-scale sector in India. But, structural factors, such as low economies of scale, also favor the small-scale. Worldwide, garment manufacture has a small-scale bias, though fabric-making is a more mixed case. Policy and structural factors work in the same direction in the garment sector. In addition, wage-share in value-added has continued to fall. These trends are consistent with the dominance of labor-intensive, and lower-wage firms in the recent growth. This, in fact, is true of spinning as well, a sector dominated by relatively large-scale firms In contrast with the image of quick adaptation and rapid growth, is the textile machinery industry. The textile machinery industry which until the 1980s, was proudly introduced in association-statements as one of the largest and globally competitive textile machinery industries in the world - is now beset with crisis and contradictions. These arise partly out of structural factors, that is, the nature of the transition in textile production. And partly from policy. Access to the world market has led, simultaneously, to a collapse of demand for domestic machinery, and a large growth of demand for machinery overall. There has, however, been a yet third tendency, improvement in the capability of domestic machinery manufacturers. They represent a small group, but one with expanding market-share Machinery production can be roughly divided into three types of firms: (1) the four or five market-leaders (mainly the Laxmi group companies) who command something like two-third the market for complete machines sourced at home, nearly all have collaborations with global market-leaders to supply the Indian market, and joint ventures with them to target exports; (2) about 100 other corporate firms who make complete machines and main components. They include some old and large firms whose fortunes fell with that of the composite mills in the 1980s. Some are bankrupt. Some are intermittently profitable and trying to 10

11 actively diversify within and out of textile machinery. This group also includes smaller companies, usually more specialised makers of complete machines; and (3) roughly 500 component manufacturers who, barring a few large-scale firms like Kunal Engineering engaged in spindles, are mainly small-scale ones located in Bombay, Ahmedabad, Amritsar, Ludhiana, and Coimbatore The market-leaders have been consistently profitable, and the value of their production has risen faster than the net production of the industry (production minus export). To take an example, Laxmi Machines net sales doubled between 1991 and 1995, when industry's net production rose by per cent. By implication, the share of the smaller and weaker corporate firms has fallen. Similarly, the aggregate production of the components sector, or the small-scale, has fallen almost steadily even in nominal terms. These two cases of relative and absolute decline appear starker when we further observe that (a) net import of machinery (import minus parts for machinery manufacture) has gone up so rapidly that the import-share in final demand has risen from 20 per cent in 1991 to 50 in 1994; and (b) export of machinery and parts, which used to be a market where India had a moderate though declining presence in the 1980s, has been stagnant or declining in nominal terms in the 1990s. Real investment has at least doubled in just four years. Second, there has been a shift of preference from the large number of domestic firms towards firms which have adjusted their output qualitatively, and towards imports. Both shifts have been aided by policy, but not entirely determined by policy The policy-package has had four relevant components: (a) reduction in customs duty. Until two years ago the duty-structure allegedly contained disincentive for import of components for machinery manufacture at home, which was later rectified; (b) The EPCG scheme. Sourcing such machines at home used to be treated as `deemed exports' of machinery, but not any more. In any case, that option saves no time, because the supplier typically needs to get components from abroad; (c) automatic approval for up to 51 per cent foreign equity participation, which has enabled several important joint ventures; and (d) removal of age-restrictions on secondhand machinery import. This has coincided with a spate of scrapping in Europe to induce large import of such machines. Press-reports and industry-statements allege that this is bad for the modernization process in the textile industry, because the machinery are not up-to-date. The truth is, nobody knows for sure. That claim has nowhere been substantiated by data on vintage, composition, and 11

12 the benefits received by actual users. Presumably, such data do not even exist. Even the total value of secondhand machinery import cannot be separately ascertained from trade statistics The gap between the best-practice and the generic in cotton textile production has become starker after liberalization enabled closer integration with the world market. A very similar process is under way in machinery production, reflected in excess capacity in generic, and excess demand in better-quality machines, the most important of which is probably weaving equipments. In these circumstances, macroeconomic policy-shifts at the behest of the domestic machinery producers is undesirable in principle because it will discriminate against some user-segment. On the other hand, intervention needs to be debated, given the signs of mounting depression in parts the industry. In political terms, demand for intervention is likely to crystallize around secondhand machinery. What we need for an informed debate on this question are data on: (a) scale, (b) vintage of imports, (c) usage of imports and vintage in the user-sector, (d) whether import induces new entry or upgrading, and (e) on this basis, whether it speeds up modernization, or slows it down. 12

13 Section II: Apparel Exports This section summarizes a paper by K.V. Ramaswamy and Gary Gereffi entitled India s Apparel Exports: The Challenge of Global Markets, and various press reports. 2.1 In the apparel industry, globalization of production activities meant that a garment could be designed in New York, produced by using the fabric made in South Korea, cut in Hong Kong, and assembled in China, for eventual distribution in UK or US. Frontiers of nation-states no longer determine the business strategies of producer firms or the purchasing strategies of large distribution networks. The main factors which have contributed to the globalisation of world apparel industry are the labour intensive nature of apparel production technology, the loss of comparative cost advantage of developed countries, dramatic decline in transport and communication costs, the search for production sites with lower labour costs and the shift in apparel exports from more restricted to less restricted among the developing countries due to the discriminatory nature of the restrictions imposed by the Multi Fibre Agreement (MFA). It is reported that roughly half of the total production capacity in the apparel industry has shifted from developed countries to less developed countries over the past three decades. The fundamental factor which explains relocation in the global apparel industry and the emergence of new producing countries is the international differences in hourly wage costs in the clothing industry. 2.2 World clothing exports increased faster than total trade in manufactured exports between 1983 and It is also the second fastest growing product category next only to office and telecom equipment, perhaps the prime mover of global integration (GATT, 1994). Particularly, the second half of the 1980's is a period of rapid growth in world exports of clothing. World exports of clothing increased at the rate of 17 percent between 1985 and 90. This is higher than the world trade in manufactures of 15.5 percent during the same period. The value of world apparel exports is estimated to be $166 billion in 1996 (WTO, 1998). Until the end of the 1980's the top four garment exporters were Hong Kong, Italy, South Korea and Taiwan. China emerged as a leading exporter in the second -half of the 1980's and today occupies the number one position in the world. In 1995, 13

14 China and Hong Kong together have a share of 21.2 percent of the world markets and pose formidable challenge to other developing countries. The United States and the EU together imported more than 70 percent of world's clothing imports in The US and the EU in 1996 imported clothing worth $43.3 billion and $80.9 billion respectively in 1996 (WTO, 1998)1. Both of these markets have experienced structural changes in the composition of their major supplier countries. The share of big three suppliers in the US imports, namely, Taiwan, Hong Kong and South Korea has first declined from 59 percent in 1983 to 38 percent in 1990 and to 18 percent in The biggest gainers are Mexico and the Central American countries, which raised their combined share from 6 percent in 1983 to more than 24 percent in It is reported that in 1997 Mexico ($5.9 billion) moved ahead of China ($4.5 billion) as the largest supplier of apparel imports (USITC, 1998). In the European Union, China and Turkey replaced Hong Kong and South Korea as the largest suppliers in The bulk of world trade in textiles and clothing is regulated by the Multi Fibre Arrangement (MFA), which came into force in This was in response to the rapid growth of textile exports, both cotton as well as man-made fibre, from the developing to the developed country markets during the period 1962 to Under the MFA the developed countries negotiate bilateral agreements with individual trading partners, in order to restrict the quantity of exports of specific product categories by their trading partners. The intention of MFA is to protect domestic producers in the developed countries form market disruption. The annual quotas were not to be lower than trade in a specified 12-month period and they must be enlarged by not less than 6 percent every year. It is important to note that the MFA provided for certain flexibility provisions in quota administration like the 'swing provision' ( switching of quotas among product categories), carry over of preceding year's quota and carry forward the following year's quota. Most studies agree that the MFA has been highly discriminatory and the restrictions became more comprehensive and severe over time. 2.4 The MFA is to be phased out under the Uruguay Round agreement in four different stages by the end of the year The ATC (Agreement on Textiles and Clothing) specifies phase-out program, during which international trade in textiles and clothing will be gradually integrated into the GATT/WTO framework between 1995 and At the start of each phase of integration, importing countries must integrate a specified 1 The figure for EU includes intra-union imports 14

15 minimum portion of their textile and garment imports. This would be based on total trade volume in 1990,for the items listed in the annex to the agreement and provide for a progressive increase in quota growth rates for products remaining under a quota. 2.5 The US has published a list of products that it intends to integrate in each of the three stages. However, the objective is to defer the most sensitive products until the end of the ten-year period. Consequently, the most import intensive items like shirts and women s outerwear, in which India has an advantage, will not have their quotas removed until However, the permitted quotas will be relatively more generous for developing countries like India with a permitted growth of 6%-7 % per year. Imports from the dominant supplier countries like Hong Kong, China, South Korea, have restricted quota growth rates of 0%-2% per year. The US most favoured nation (MFN) tariff rates on apparel has the higher tariff rate relative to all other MFN products in In 1994, approximately 44 percent of all apparel sold in the US were made outside the U.S. This figure excludes imported fabric and yarn that went into apparel that was produced domestically within the U.S. The three principal firms sourcing US apparel imports are: retailers, branded marketers and branded apparel manufacturers. They have developed extensive global sourcing capabilities. Their characteristics as buyers are summarised in the Table-5 below. The American retail sector is under continuing transformation. Due to the acquisition and merger movement, there has been a consolidation of buying power among retailers. The trend in the value of their sales and market shares for three selected years is shown in Table-6. In 1996, top 10 companies accounted for more than 70 percent of the retail sales. It was only 46.2 percent in US retailers have increasingly turned to imports in order to satisfy consumers' demand for better value. In 1975, only 12 percent of the apparel sold by the US retailers was imported. By 1984, retailers had doubled their use of imported garments. In 1993, retailers accounted for 50 percent of the total value of imports of top 100 US apparel importers. Initially, American retailers were using apparel wholesale-importers to source their imports. Now most of them have their own buying offices in many parts of the world. They have started to promote Mexican goods through their North American networks. 15

16 2.8 The other segment consists of the branded marketers like Liz Claiborne ($4 billion) and apparel manufacturers like VF Corporation ($5 billion company). In 1996, these companies account for 30 percent of the total wholesale volume and 44 percent of the top 100 US apparel importers. They can outsource by building factories abroad (FDI) or by establishing agents in the foreign country, who locally own factories, or by getting the designed apparel made by locally owned factories. The first option does not seem to be growing in importance. This is indicated by the fact that the US investment abroad in apparel industry is just over one billion dollars in 1994 and $1.3 billion in The growth in the size of retailers and their consolidation over time has several consequences. First, the retailers have greater leverage over manufacturer/suppliers in terms of setting prices and dictating product lines. Second, it increases pressure on apparel suppliers to adopt order fulfilment practices and information systems like electronic data interchange, that enable suppliers to fill retailers orders rapidly, efficiently and flexibly. Lean retailers penalise suppliers if the shipments do not accurately reflect the retailer order. The buyers are expecting more services in terms of minimum performance standards. Third, retailers are offering greater variety of apparel products in order to increase their market share. This drive on the part of retailers (and their manufacturersuppliers) to increase market shares through increasing product variety has led to higher demand uncertainty. As a result the demand uncertainty previously associated with fashion products has spread across product categories affecting basic products like men's shirts. Consequently, retailers are giving up the practice of ordering large quantities well in advance of the selling season. They prefer to order in smaller initial quantities and replenish as season advances. This has led to shorter lead times for the suppliers and it is forcing apparel suppliers to develop capabilities to respond to this change. In brief the trend is towards a shift of market power from manufacturers to retailers A similar shift in power from manufacturers to distributors and retailers appear to be under way in the European Union as well. For example, in Germany, the EU's largest national market, the top five clothing retailers have a market share of 28 percent. In the United Kingdom the top two clothing retailers (Marks&Spencer and the Burton group) control 25 percent of the UK market. The Japanese also predict that there will be fewer clothing retailers in the year 2000 than in the 1980s. 16

17 This will continue to provide the retailers and designers unprecedented scope to reshape international supply networks 2.11 One of the important adjustment mechanisms for maturing export industries in East Asia has been the process of 'triangle manufacturing'. The essence of triangle manufacturing is that US (or other overseas) buyers place their orders with the NIC manufacturers, from whom they have sourced in the past (example, Korean or Taiwan apparel firms), who in turn shift some or all of the requested production to affiliated offshore factories in low wage countries (e.g., China, Indonesia or Bangladesh). The triangle is completed when the finished goods are shipped directly to overseas buyers, by the low wage country using the allocated U.S. quota. The two primary reasons behind foreign direct investment in textiles and clothing industry of South East Asian countries of Indonesia, Malaysia and Thailand were, rising labour costs and the quota restrictions on the big three suppliers, namely, Hong Kong, South Korea and Taiwan The key asset possessed by the East Asian NICs is their close relationship with foreign clients, which is based on the trust developed through numerous successful transactions. Another way to counter loss of competitiveness in mature products is to move from simple to more sophisticated items within an export niche. One important reason for the continued apparel export growth of Hong Kong, Taiwan and South Korea even in the face of rising labour costs, is that they have upgraded the quality of their apparel products and moved to higher-value-added segments (see below for some evidence). Further they are in the process of making the transition from OEM to OBM (original brand name manufacturing), whereby manufacturers make goods for export and sale under their own label. The strategy is to carry out forward integration into retailing. Most of the leading Hong Kong apparel manufacturers now have their own brand names and retail chains for the clothing they make. There are Hong Kong owned retail stores throughout East Asia, North America and Europe. With the restoration of Hong Kong to mainland China in July 1997, a combination of Hong Kong's marketing expertise and China s production capacity is likely to give People's Republic of China (PRC) an enormous clout in the world clothing markets An important factor reinforcing and accelerating the re-organisation of apparel commodity chains are the US and EU tariff provisions relating to 'offshore assembly processing' (OAP). The effect of OAP provision, 17

18 combined with the enactment of NAFTA (North American Free Trade Area) in 1994, is that the market shares in US textile and apparel market have shifted in favour of Mexico, Canada and the Caribbean Basin initiative countries (CBI). Under NAFTA apparel and other textile articles assembled in Mexico from fabric both made and cut in the United States can enter duty free. Under the OAP tariff provisions (9802), the US provides duty exemption for US-made components, returned to the US, as parts of articles assembled abroad. Duty is assessed on the value added and not on the value of the US parts sent offshore for assembly. This has led to the rapid growth of what is known as production sharing arrangements. Under this arrangement parts made in the US (or cloth cut to shape in the US) are sent abroad to countries with low labour cost for assembly and imported back to the US. Apparel is especially suited to production sharing because of relatively high US duty rates, the value of US components and the high import volume Three-fourths of the US imports from Mexico were under the special tariff provision 9802 and are free of duties and quotas. Consequently, Mexico emerged as the largest supplier by value ($5.9 billion in 1997) of total US imports of MFA products. More than 85 percent of Mexican MFA exports consists of apparel. This suggests the potential dramatic impact the improved market access can have on developing country exports. In this case the growth in US apparel imports from Mexico seems to have come at the expense of other Asian countries. Mexico is the number one supplier of Cotton men and women's trousers, which is part of the category basic and standardized garments The OAP is known as 'outward processing trade' in Europe. EU Community tariff schedules contain provisions, similar to those of the US and allow European countries components to be exported for further processing or assembly. Upon re-import, products would be partially or totally exempted from duties. The principle imports of the EU under OPT is apparel and other textile products, which accounted for 43 percent of the total OPT trade in Germany accounted for over two-thirds of the EU's OPT. Textile and apparel companies in Germany ship fabric mostly to Central Europe, where it is cut and sewn into garments. There is potential and considerable scope for East and Central European countries to increase their exports via OPT to establish market niches. Their labour costs are lower and more importantly the trade with these countries would be liberalised well before

19 Section III: China and India--very recent changes Several changes worth noting have occurred in the past twelve months. This section summarizes those changes in India and in one of India strongest competitors China. 3.1 In Nov 1999, the textile ministry announced that there will only be two systems of allocation of garment export quotas first come first served basis (FCFS) and past performance quota (PPQ). Two other systems are abolished, making is easier to do export deals. The new policy will be phased out along with the MFA phase out in In September 1999, textile exports with the EU also became easier as India agreed to bind its textile tariffs via the WTO. Textile exports to the EU resumed and are expected to increase substantially. 3.2 However, there is a general fear that market share will be lost in the post-mfa world. Attempts are being made to modernize the industry through a Technology Upgradation Fund, but this is said to favor small firms. To export at 5 percent of world trade, India will have to increase its exports to $25 billion annually (trade is at 2 percent of world totals now). It needs to infuse money (Rs. 10,000 crore, acc. to some reports) into the textile sector to upgrade weaving and processing. 3.3 There are some concerns about India s export future in general. The failure of the Seattle talks looms large. Lack of clear-cut policies on agricultural exports, a narrow basket of tradeable goods, and the inability to tap new markets remain problematic. The US, UK, Germany and Japan remain the largest export markets. So far, not much progress has been made in exploring new markets in Latin America or elsewhere. 3.4 China is emerging as a very powerful competitor, ready to compete in the post-mfa world. The Chinese government has picked the textile industry to make breakthroughs in reversing the losses of state-owned enterprises. It has achieved some of its goals a year ahead of schedule. From January to November 1999, the industry as a whole turned out net profits of 116m yuan, according to press reports. The value-added of Chinese industry in total reached 3,485 billion yuan, up 8.8 percent over the previous year. Chinese exports are expected to grow by 6 percent in the coming year to 195 billion US dollars. 19

20 3.5 Government investment remains a major force in China. the Chinese government has issued 160 billion yuan worth of treasury bonds to finance infrastructure construction and technological upgrading. Total investment in 1999 was 2,200 bn yuan, up 7.8 percent from China s entry into the WTO will also help to raise textile exports. Although the Chinese government downplays this, analysts believe that WTO entry will lead to a massive boost for the sector s exports (over 60 percent between now and 2005). China is the world s biggest producer and exporter of both textiles and garments, with overseas shipments from the two sectors totally 43.2 billion dollars in 1997 (almost a quarter of the country s total exports). 3.7 The WTO entry would increase jobs by 5.4 million by 2005, and textile production would increase by 23 percent while garment production would go up by a whopping 74 percent. However, there is not total agreement on this. Some experts believe that China will face competitive pressures that could dampen these numbers quite significantly. 3.8 Still, China should not be taken lightly. Zhejiang, the third largest textile giant in China, produces 35 percent of the country s garment exports and increased its revenues by 8.5 percent in One ministry official says that textile exports will increase by 50 million dollars annually between now and The EU is also lifting some of its quotas on Chinese textiles. 3.9 On Dec 23, 1999, the Exim Bank of China signed a major loan agreement with a leading textile firm to finance a large cotton factory in Mexico. The US $78 million deal will let the China WorldBest Group Co Ltd activate a giant 100,000 spindle cotton textile plant in Mexico. The loan will be used to buy garment-making equipment, some of the cotton and other production facilities before production starts in Mexico at the end of next year. This is very welcome to Chinese facilities which are stretched to capacity. The Mexico plant will be the largest ever to be operated by a Chinese company overseas The China Daily reported on Dec 24, 1999 that Shanghai will get investments worth more than 5 billion yuan (US $600 million) that will be dispersed over 57 new projects. This money will be used for the manufacture of high-grade apparel fabrics to bolster industry-wide 20

21 restructuring. The Shanghai Textile Holding Group Corporation plans to increase textile exports to Europe and Africa instead of focusing on Southeast Asia. However, the head of the corporation was also worried about increased competition from Southeast Asia in the post-mfa environment. 21

22 Section IV: Policy Implications 4.1 India has initiated economic policy reforms in order to improve efficiency and achieve international competitiveness. Apparel is India's leading export product that has achieved rapid growth in the late 1980's and the first half of the 1990s. However, India's share of world apparel exports has not risen since The immediate cause is apparently the slow down in the import growth of India's major markets, namely, the US and the EU. A more significant observation is that the apparel industry has remained outside the industrial reform of the 1990s. An important and difficult task is that of restructuring the Indian apparel industry to meet the competitive challenge in the post Uruguay Round world. 4.2 The process of globalisation involves slicing up of the value chain and forces countries to be niche players in the global market. Specialization in the global apparel market is not by fabric base alone but by product. The strategy is to ensure that firms enter the most attractive export niches in which they have relative advantage. In the world apparel market, the main leverage is exercised by retailers and branded marketers at the marketing and retailing end of the chain. They outsource to meet their customer demand and depend on package suppliers, who could procure fabric, cut, and make, trim and pack the final product. They scout the world looking for low cost suppliers and locations. Even branded manufacturers are turning more to outsourcing and tend to focus on design and marketing. The consolidation of market power in the buyers, product diversity and the higher demand uncertainty in product markets puts pressure on the apparel supplier countries to adopt information systems to fill their orders efficiently. Special tariff provisions, namely, offshore assembly processing (OAP) and outward processing trade (OPT) have speeded up the globalisation of apparel trade. Trade favors the countries in close proximity to the US (Mexico) and the EU (Eastern Europe). But regional trade arrangements like NAFTA and the OAP provisions have led to the rapid growth of non-asian suppliers to the US apparel market. The rapid growth markets are the segment, basic and standardized garments. 4.3 India is at present a niche player in the low value segment of cotton fabric based, seasonal and fashion garments. This reflects India's 22

23 comparative advantage in cotton cloth and the flexibility advantage in meeting small orders. However, it's future export growth potential depends on two factors: 1) Its ability to move up the value chain in cotton garments and 2) diversification of its product portfolio to include basic and standard garments, and synthetic fibre based garments. Given the objective of quality, establishing new market niches and moving up the value chain, the strategy should attempt a restructuring of the production base. This requires new investment and access to imported inputs. The policy regime should remove two impediments to investment, namely, product reservation and foreign investment restrictions. This would facilitate entry of large domestic and foreign firms into apparel products and accessories. This analysis suggests two major policy initiatives. First, the removal of textile products (woven and knitted) and clothing accessories from the list of items reserved for small-scale industries. Second, the inclusion of apparel industry in the list of industries for which automatic approval by the Reserve Bank of India (RBI) for foreign direct investment up to 51 percent equity is permitted. The current rules require prior approval by the Secretariat for Industrial Approvals (SIA) in the Government of India. 4.4 Access to imported inputs, fabric, trims and accessories, appear to be easier with their removal from the restricted list. The current fall in international prices of manmade fabric should help the industry to change its fibre base to blend of cotton with synthetics. The reforms would enable the garment industry to develop capability to face the challenge of competition in the global market. 4.5 The post-reform textile industry has been characterized by six basic features: (1) cotton as the leading sector in exports, textile production, and overall income growth; (2) stable preference for cotton in home consumption, fed by new goods, fed in turn, by new competence of domestic producers acquired in the course of exporting; (3) informal sector as the leader in textile export and production; (4) improved capability in formal, and seemingly, the informal sector via access to world market for inputs and machinery; (5) uneven adaptation due to the presence in both formal and informal sectors of firms that are too rigid or too constrained to adapt. As a result, segments of excess capacity and excess demand co-exist in all major sectors of the 23