Governing emerging development challenges: A South Asian perspective

IMG_46412Despite the divergence in economic and political trajectories, South Asian countries share commonalities with respect to the urge for governing emerging development challenges in the wake of the new world and regional dynamics. As far as future economic and social developments are concerned, for most of the South Asian countries, there are four major confronting areas, which are related to inclusive development, global and regional trade integration, financing development programmes, and politics of development.

With respect to inclusive development, the debate over quantity vs. quality of economic growth is prominent in most of the South Asian countries. While South Asia is now the fastest growing region in the world, with India and Bangladesh registering high and stable growth rates followed by Sri Lanka and Pakistan recording modest growth rates and other countries experiencing unstable growth rates, the panacea over the ‘number’ of growth rate overshadows the importance of the ‘quality’ of economic growth. Despite high economic growth rates, the region hosts more than one-fourth of the world’s extreme poor and inequality within the countries is on the rise. Furthermore, there are genuine concerns of ‘jobless growth’ as the pace of employment generation, in most of the South Asian countries, lags behind the pace of economic growth. Moreover, staggeringly high informal employment ratio, low degree of ‘decent job’, poor working conditions, and low female participation characterize the labour market of this region. The growth, employment and poverty challenges of the South Asian countries are primarily aggravated by the nature of development strategies these countries have been following over the past decades. These countries have not been successful in rapid industrialization, and few manufacturing and services sectors have been the major drivers of growth with narrow implications for employment generation, poverty alleviation and inequality reduction. Most of these countries face the challenge of ‘premature deindustrialization’. Also, the lack of preparedness in the context of the 4th industrial revolution can lead to a large-scale job loss. Given the aforementioned longstanding development challenges, the 2030 Development Agenda has created additional pressure on the development task-lists of these countries. However, it can be argued that this 2030 Development Agenda has also created new opportunities for the South Asian countries to get their development trajectories ‘right’.

The challenges related to integration with global and regional trade remain critical for the South Asian countries. As far as integration with the global trade and value chain is concerned, there are now emerging pressures, in the wake of growing scepticism in the globalization and trade integration process, as reflected by Britain’s BREXIT, escalated protectionism in the United States, and trade war between the United States and China. Furthermore, as China is going through a major economic rebalancing, the impact of this rebalancing goes beyond China’s national borders due to China’s integration with other Asian countries through manufacturing, trade and investment links. There are enhanced opportunities for Asian developing countries to take advantage from China’s economic transformation, as changes in China’s supply and demand will have spillover effects on other economies in the region and industries might shift concentration to other countries in the region. However, there are concerns whether South Asian countries have sufficient skills and capacity to take advantage of transferring or emerging industries or develop new businesses to meet the growing demand. While South Asian countries encounter the uphill tasks of diversifying their export baskets and moving into high value-added product space, these countries also have been less successful in extracting the benefits of regional integration and regional value chains. One of the major factors behind the weak regional integration in South Asia is the hostile political relation between India and Pakistan, for which many regional integration initiatives remain hostages.

Financing development goals has been a critical challenge for most of the South Asian countries. Given the changing global scenario, for financing development goals, South Asian countries will have to rely more on domestic sources, and this is, no doubt, an uphill task. The tax-GDP ratio remains low for most of these countries with heavy reliance on indirect taxes and import duties. The patterns of public expenditures on social sectors in this region suggest that, the averages of the shares of public expenditure on education, health and social protection in GDP in South Asia are only around 2.5%, little over 1%, and less than 2% respectively which should be increased to more than 5%, 4% and 10% respectively to meet a large number of development goals. In addition to the social expenditure, the countries need to spend substantially on developing their physical infrastructure, which most of these countries are seriously lagging behind. It is obvious that with the low tax-GDP ratio it is difficult to finance the aforementioned large development goals. However, the question is how to mobilize the required amount of resources domestically when these countries suffer from weak institutions and inadequate tax-infrastructure. It is also important to note that a mere generation of resources would not ensure implementation of the development goals if institutional and governance-related aspects are not addressed properly. Finally, there remains a big challenge in getting the priorities in spending ‘right’. One example of the wrong priority is the high spending on military affairs in some of these countries, especially in India and Pakistan, while these countries incur a very low level of spending on social sectors.

In order to govern the new challenges, the South Asian countries require the ‘correct’ politics of development. The past development trajectories of these countries are largely characterized by ‘crony capitalism’ with a high degree of rent-seeking activities, suppressing the elements of ‘developmental states’. Weak functioning of economic and political institutions and the dominance of informal institutions are prevalent in these countries. In the coming days, to implement the development goals, efforts need to be something extraordinary, and strong political commitments are needed to make a significant departure from past practices.

[Based on the presentation made by the author at the 4th SANEM Annual Economists’ Conference on “Governing New Challenges: Inclusive Development, Trade, and Finance’, held in Dhaka on 16-17 February 2019]

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Tapping on the trade-investment nexus for improving bilateral economic cooperation between Bangladesh and India

Selim Raihan and Farazi Binti Ferdous

Bangladesh and India have long bonds in culture and history. Despite such bonds and neighborly proximity, economic cooperation between the two countries has remained far below potential. A number of studies have shown that bilateral trade and investment offer immense opportunities for accelerating growth and reducing poverty in Bangladesh and India. These studies suggest that India could become a major player for accelerating the growth of intra-industry trade and uplifting foreign direct investment (FDI) inflow to Bangladesh. Also, for India, Bangladesh could become an additional source of trade as well as a critical destination for investment thus addressing many concerns relating to the economic isolation of its backward Eastern and North-Eastern states. Furthermore, better connectivity between Bangladesh and India through multi-modal transport and transit facilities will further enhance the strength of the economic relations between these two countries.

Although it experiences annual volatility, the overall trade between Bangladesh and India has increased over time, and the balance of trade remained heavily in favor of India. Total exports from Bangladesh to India increased from US$ 50.2 million in 2001-02 to US$ 527.2 million in 2014-15 (which was only 0.1% of India’s total import). The share of Bangladesh’s exports to India in the country’s overall export increased from 0.3% to around 1.5% during the same period. On the other hand, India’s exports to Bangladesh increased from about US$ 1019 million in 2001-02 to US$ 5.8 billion in 2014-15 (around 2% of India’s total export). At present, India is the second largest import source for Bangladesh. In 2014-15, the share of Bangladesh’s import from India was around 16% of the country’s total import from the world.

Looking at the product details we find that in recent years Bangladesh’s exports to India (Figure 1) have been dominated by readymade garments (RMG) (HS code 6) and jute products (HS code 5). Bangladesh also exports products like textile articles, edible fruit and nuts, salt, fish, inorganic chemicals, mineral fuels and raw hides and skins. In contrast, large parts of Bangladesh’s import from India have been raw materials and capital machineries (HS codes 5 and 8) (Figure 2) which are used in Bangladesh’s export oriented and domestic industries. At the product details, Bangladesh’s import from India for last decade were chiefly cotton, vehicles and parts and accessories, machinery, cereals, man-made staple fibres, iron and steel, electrical machinery, organic chemicals, tanning or dyeing extracts and plastics.

Fig1_v3n5

Fig2_v3n5

Fig3_v3n5

Though exports from Bangladesh were supposed to increase significantly as the Indian government offered Bangladesh duty-free benefit for all products except 25 alcoholic and beverage items since November 2012, exports did not increase much after 2012. A number of challenges can be made responsible for such weak export response which are related to Bangladesh’s limited export capacity, lack of diversification of export baskets, and various non-tariff measures (NTMs) and procedural obstacles (POs) due to inadequate infrastructure and lack of support facilities both at home and in the Indian market.

It is noteworthy that readymade garments (RMG) has become the major item in Bangladesh’s export to India on account of duty-free market access granted by India. In 2009-10, the share of RMG was more than 28% in total export of Bangladesh to India, which rose to 34.3% by 2014-15. However, studies have shown that there are many products in which Bangladesh has large export capacities, but actual exports to India are either very low or zero. For example, Figure 3 shows that though for products in the HS categories of 02, 16, 24, 41, 46, 64, 65 and 67, Bangladesh has either the full or significantly partial export capacities to meet India’s import demand, actual exports to India are zero. Similar observation also holds for Indian exports to Bangladesh. Therefore, there is enormous scope for raising bilateral trade between the two countries. There is a need to explore carefully, how different NTMs and POs and lack of trade facilitation affect such prospects. Necessary measures should be taken to improve the scenario. In order to address the trade infrastructural problems at the border, lately, there are some initiatives by the Government of India to set up Integrated Check Posts (ICPs) at major entry points on the land borders between Bangladesh and India. Two such ICPs have been launched recently, and they are expected to boost bilateral trade.

Bangladesh and India have to tap on the trade-investment nexus for improving their bilateral economic cooperation. The horizontal and vertical integration of Indian and Bangladeshi industries could help to improve scale economies, especially for Bangladesh, and help Indian firms gain from the use of cheap labor in Bangladesh. However, in terms of sources of FDI inflow in Bangladesh, the US, the UK, and South Korea top the list of countries, and FDI from India is still very low.

Lately, there have been a number of initiatives between Bangladesh and Indian governments to improve the investment situation. The Bangladesh Power Development Board and the Indian National Thermal Power Corporation have signed a memorandum of understanding in 2010 to set up two coal-fired power plants, each of which will have a capacity of 1,320MW, with partnership shared equally between them. Furthermore, recently, Bangladesh has offered India to establish two Special Economic Zones (SEZ) for Indian companies. Launching of these SEZs is expected to substantially increase Indian FDI into Bangladesh.

In 2015, Prime Ministers of India and Bangladesh contracted international gateway of internet service in Agartala and supply of 100MW power to Bangladesh from Tripura. India is already supplying 500 MW of power to Bangladesh, and supply of another 500 MW was also announced during Indian Prime Minister’s visit to Bangladesh in 2015. On the other hand, the bandwidth connection came as Bharat Sanchar Nigam Limited (BSNL) and Bangladesh Submarine Cable Company Limited (BSCCL) signed an agreement for leasing of international bandwidth for Internet at Akhaura. As a result, Agartala has become third station connected to submarine cable for Internet bandwidth after Chennai and Mumbai. The internet bandwidth export to India from Bangladesh will enable reliable and fast Internet connectivity for the people of Tripura as well as other parts of India’s northeastern region.

It is expected that the latest shipping arrangement between Bangladesh and India would make faster movement of goods between these two countries. Currently, such shipments are routed via Colombo or Singapore. Also, it takes around 20 days for a shipment by land. However, the direct shipping is expected to reduce the time to around 7 days, as there is no longer a need for transshipment at Colombo. The service will play a vital role in decongesting the border points and bringing down the cost and transit time involved. This improved arrangement of connectivity would bring better efficiency and thus provide the best competitive freight rates to the advantage of the industries.

The aforementioned analyses point to the fact that there are heightened political commitments among the governments of both Bangladesh and India to improve bilateral economic cooperation through different initiatives. Such initiatives need to be materialized at the earliest. As for Bangladesh, to make the most out of such initiatives, there are a number of challenges though. The country needs to significantly improve the business environment for attracting FDI, as the latest World Bank’s ranking of the ease of doing business shows that Bangladesh’s position dropped two steps to 174 out of 189 countries due to stalled regulatory reforms.

Finally, besides abovementioned economic issues, still there are some bilateral issues between Bangladesh and India, which need to be resolved for enriching mutual trust and confidence for greater economic cooperation. For example, border killing is an issue that strains India-Bangladesh relations as the victims are often ordinary people of Bangladesh living in border areas. This needs to stop, for which a political decision at the highest level is necessary. Also, the water-sharing issue between India and Bangladesh is yet to be solved properly, which undermines a lot of the developmental prospects. However, it can be hoped that these issues will be solved with the heightened commitment among political elites of the two countries for a deeper economic cooperation.

Sub-regional cooperation can be the answer to the deadlock of regional integration in South Asia

Though there is a strong demand for a deeper regional integration in South Asia, the progress has been rather slow. Actual implementation of agreements often does not match the declared ambitions, and in this context, lack of political will and leadership, institutional weaknesses and capacity and resource constraints have been argued to be the major impeding factors. The political rivalry between India and Pakistan has often constrained the SAARC to be a functional regional forum. The recent cancellation of the SAARC summit is such an example.

In order to take forward the regional integration process in South Asia a good and effective initiative is the Bangladesh, Bhutan, India, Nepal (BBIN) initiative, which is a sub-regional coordinative architecture of countries in South Asia. BBIN operates through Joint Working Groups (JWG) comprising official representation from each member state to formulate, implement and review quadrilateral agreements. Areas of cooperation include water resources management, connectivity of power grids, multi-modal transport, freight and trade infrastructure. Focused on the subcontinent’s north east, it endeavored to cooperate on trade, investment, communication, tourism, energy and natural resources development. Its objectives have been expanded over years to incorporate substantial land and port connectivity.

The economic needs and drivers for a deeper integration in the BBIN sub-region are more prominent compared to these countries’ integration with the rest of South Asia. Especially, a deeper integration among the BBIN countries is very important to place BBIN as the gateway for further integration with China and Southeast Asian countries. The political economy drivers also seem to be more favorable. In the context of some structural factors, especially the political rivalry between India and Pakistan which has confined the progress of SAARC, and landlockedness of Nepal and Bhutan, the BBIN sub-regional initiative has seen a great interest from the political elites from these four countries. The extra-regional drivers for BBIN are also favorable as there are growing interests from the international organizations like the Asian Development Bank (ADB) and the World Bank for improvement in connectivity and infrastructural development in this sub-region.

As far as intra-BBIN trade is concerned, there are substantial potentials for the rise in intra-regional trade. However, despite that India has already provided almost full duty-free-quota-free of its market access to exports from South Asian LDCs, Bangladesh, Nepal and Bhutan are facing escalated challenges to at least secure and then to increase their exports to the Indian market. These challenges are related to their limited export capacities, lack of diversification of their export baskets, and various non-tariff measures (NTMs) and procedural obstacles (POs) due to inadequate infrastructure and lack of support facilities both at home and in the Indian market. However, streamlining of NTMs and removal of associated POs are very important as such actions are likely to intensify further market integration in the BBIN sub-region through development of regional value chains. These will also encourage larger intra and extra regional investments in the BBIN sub-region which can be instrumental for growth integration among these countries. To make these happen there is a need for policy integration among the BBIN countries.

Domestic capacities of the exporters in Bangladesh, Bhutan and Nepal need to be improved to meet different international standard requirements. Unless and until these exporters develop their capacities, they will not be able to diversify exports and become competitive in the regional and international markets. A number of supply side factors at home can actually undermine the exporters’ competitiveness and constrain economic and export diversification. These factors are directly associated with the domestic production and investment environment. Most prominent of these factors are access to finance, weak physical infrastructure, inefficient ports and high transport costs, shortage of skilled workers, technological bottlenecks, lack of entrepreneurship and management skills, lack of information, and high costs of doing business.

There are some signs of heightened ‘new’ commitment among political elites of the BBIN countries. The recent speedy resolution of land boundary agreement (LBA) between Bangladesh and India, the positive reception of the India-Bangladesh Maritime Arbitration Award announced in July 2014, establishment of border haats along the border between India and Bangladesh, and the BBIN Motor Vehicle Agreement are signs of such ‘new’ political commitments.

However, the aforementioned ‘new’ commitments have not yet been translated much to resolve the issues related to NTMs and POs discussed above. There is a need to put renewed emphasis on this. There are some recent initiatives by the Government of India to solve the trade infrastructural problems at the border by setting up of Integrated Check Posts (ICPs) at major entry points on the land borders between Bangladesh and India. Two such ICPs have been put in place recently. Such ICPs need to be established at the borders between India and Nepal and India and Bhutan.

There is also a need for cooperation among different institutions in the BBIN countries to deal with NTMs and removal of POs. Cooperation is needed in a number of areas for harmonization of TBT and SPS measures, Mutual Recognition Agreements (MRAs) among respective organizations of these countries, and for introduction of increased automation of their customs clearance procedure.

Why do some countries trade more than others?

Theoretically, trade liberalization results in productivity gains through increased competition, efficiency, innovation and acquisition of new technology. In particular, the changing relative prices induced by trade liberalization cause a re-allocation of resources from less efficient to more efficient uses. Trade liberalization is also thought to expand the set of economic opportunities by enlarging the market size and increasing knowledge spillover effects. Empirical research on international trade also shows that, in general, larger trade-orientation and freer trade, with supporting policies and institutions, can lead to higher welfare for a country than otherwise.

However, a major question remains some way unclear – why do some countries trade more than others? More specifically, does country size matter? How does differences in per capita income affect trade-orientation among countries? Does human capital make any difference? How does tariff liberalization promote trade-orientation? Moreover, does foreign direct investment (FDI) affect trade performance? Furthermore, does geographical location have a bearing, i.e., being an island country or a landlocked country? Also, does membership of the GATT/WTO raise trade-orientation? Finally, does institution matter in trade-orientation?

In order to answer these questions, fixed effect panel regressions using a database covering the period between 1981 and 2014 for 128 countries were conducted. We have defined country’s trade to GDP ratio as the country’s trade-orientation. We want to explain why some countries have higher trade-GDP ratio than others. The explanatory variables are the size of population (to represent country size), per capita real GDP, an index of human capital, domestic average applied tariff rate, and FDI to GDP ratio. Data for all these variables, except human capital, are taken from the World Bank’s WDI, and the data of the human capital is taken from the PWT-8.1. All variables are expressed in natural logarithm. The regression results show that all explanatory variables are statistically significant.

The negative coefficient estimate of the size of population reveals that larger countries tend to be less trade-oriented than their counterparts, as 1% rise in the size of the population is associated with 0.2% fall in the trade-GDP ratio. The reason is that countries with a large population find a ready domestic market and can substitute imports by producing for the internal market. The positive coefficient of the per capita GDP shows that a rise in the real GDP per capita by 10% is associated with a rise in the trade-GDP ratio by 2.2%. The reason behind such an association could be related to domestic producers, with the rise in per capita GDP, becoming more efficient in competing and integrating with their foreign counterparts in the world market. As expected, domestic tariff liberalization is positively associated with higher trade-GDP ratio, as a cut in tariff rate by 10% is associated with a rise in trade-GDP ratio by 0.7%.

The positive coefficient of the FDI-GDP ratio suggests that greater FDI orientation is positively associated with greater trade orientation, and a rise in the FDI-GDP ratio by 10% is positively associated with a rise in the trade-GDP ratio by 0.3%. FDI is assumed to have a positive impact on the export-orientation of any economy, as much of FDI is directed towards the export-oriented sectors. The success stories of East and South East Asian countries have suggested that FDI is a powerful tool of export promotion because multinational companies, through which most FDI is undertaken, have established-contacts and up-to-date information about foreign markets. FDI may also lead to increasing imports in the recipient country as foreign owners tend to have a higher propensity to obtain their inputs from abroad than do their domestically owned counterparts.

Finally, in the case of human capital variable, a rise in the index of human capital by 10% is associated with a rise in the trade-GDP ratio by 9%. This is not surprising! A higher level of human capital is likely to have a positive impact on the perception of the people, as well as on the policy making of the government, in integrating their economy with the world market.

The findings of the LSDV models show that landlocked countries and island countries are 194% and 284% respectively more trade oriented than their counterparts. Both for island and landlocked countries, international trade plays a crucial role in their economic lives as most of these countries are dependent, to an unusual degree, on imported goods and services, including foodstuffs, fuel, equipment and industrial material as well as a wide range of manufactured products. However, interestingly, being a member of the GATT/WTO doesn’t make any difference in terms of trade-orientation.

We have also explored the association between trade-orientation and different institutional variables. The data of these institutional variables are derived from the ICRG database. The fixed effect regression results suggest that countries with better bureaucracy quality, larger democratic accountability, and sounder investment profile are associated with higher trade-orientation. These results are also consistent with findings from studies on the determinants of trade flows which argue distortions or costs placed on firms under inefficient institutions and poor governance can negatively affect trade flows.

Bangladesh’s trade-GDP ratio was only 19.2% in 1981, which increased to 44.5% by 2014. Despite the fact that Bangladesh has been able to raise its trade-GDP ratio by more than two-fold during this period, in 2014, out of the 166 countries, Bangladesh ranked 150th in terms of higher trade-GDP ratio. This suggests, greater trade-orientation in Bangladesh would require further cut in tariff rates, larger FDI-orientation, investment in human capital and improvement in institutional quality.

Published at the Thinking Aloud on 1 June 2016

Published at The Daily Star on 13 June 2016

Unearthing Bangladesh’s Comparative Advantages

Selim Raihan and Md. Jillur Rahman

The analysis of comparative advantage is important from the policy perspective. Trade policies of a country should be tuned to promote export items where the country has comparative advantage.  The Revealed Comparative Advantage (RCA) analysis, suggested by Bela Balassa in 1965, is an ex post analysis of comparative advantage and has been used in many studies. RCA index is used to calculate the relative advantage, disadvantage and trade potential of a certain product in a country.

The RCA index is measured as the ratio of a product’s share in the country’s total export relative to its share in the world’s total export. The formula for the RCA is equal to (Xij/Xit)/(Xwj/Xwt) where, Xij and Xwj are country i’s export and world export of product j respectively, while Xit and Xwt are country i’s total export and world total export respectively. If RCA is greater than unity, the country is said to have comparative advantage in that product; and if RCA is less than unity, the country has comparative disadvantage in that product. The RCA index is popular because of its simplicity, availability of data and for cross-country comparisons. The index is consistent with country’s factor endowment and productivity.

In this article, we are interested to know in which products Bangladesh has comparative advantage, and the dynamic changes of its comparative advantage. We have calculated RCA at 6-digit level of the harmonized system (HS) of classification for the periods between 2001 and 2013. RCA indices for Bangladesh are calculated using the data of export volumes of Bangladesh and the world from the Trade Map database.

Before going into the RCA analysis, let’s first explore how many products Bangladesh exports. At the 6-digit HS code level, there are approximately 5300 products. Figure 1 shows that in 2001, Bangladesh exported 896 products, which, by 2013, increased to a number of 2038. In 2012, Bangladesh exported 2126 products which was the highest among the years under consideration. This suggests that, not only in terms of volume but also in terms of number of products, Bangladesh’s export capacity increased by more than double during 2001 and 2013. On a year-to-year basis, some new products were added to the export basket and some were ceased to be exported. However, there were 375 common products which Bangladesh exported all the years under consideration.

Fig1-RCA

Figure 2 presents the numbers of products at 6-digit HS code where Bangladesh had comparative advantage during 2001 and 2013. In 2001, the number of products with RCA>1 was 316, which, with some year-to-year fluctuations, increased to 382 by 2013. The highest number of RCA>1 was observed in 2007 consisting 483 products. Figure 2 also suggests that the percentage share of RCA>1 products in total number of products declined over time: from 35% in 2001 to 19% in 2013. However, as a percentage of total exports, throughout those years, Bangladesh enjoyed comparative advantage in more than 97% of its total export. Furthermore, over those years, comparative advantage had been consistent for 130 products at the 6-digit level among which 115 products were from readymade garment industries. All these suggest that although Bangladesh was able to expand its export basket during 2001 and 2013, the number of products it had comparative advantage didn’t increase proportionately, which indicates escalated concentration of RCA in certain products.

Fig2-RCA

The escalated concentration of RCA in certain products during the period under consideration is manifested by the fact that Bangladesh’s RCAs had been concentrated around the products in the HS codes 03 (fish and shrimp), 41 (raw hides and skins and leather), 52 (cotton yarn), 53 (raw jute), 61 (knitted readymade garments), 62 (woven readymade garments) and 63 (home textile and jute hessian bags). However, a close look at Figure 3 suggests that Bangladesh’s comparative advantage has been highly concentrated around the readymade garments sector. In 2013, number of products with RCA>1 under the HS codes 61, 62 and 63 accounted for 57% of the total number of products with RCA>1. In 2007, such number was 43%. It should also be mentioned here that, readymade garments account for more than 80% of total export earnings of Bangladesh in recent years.

Fig3-RCA

Although RCA had been concentrated around the readymade garments sector, the average value of RCA declined. The maximum value of RCA in the readymade garments was 495 in 2001, which declined to 184 by 2013. Bangladesh had also been losing the very high comparative advantage it had in garments exports. Figure 4 suggests that, in 2001, Bangladesh enjoyed very high RCA (RCA>100) in 18 garments products, which declined to only 3 in 2013. In contrast, the number of products with RCA less than or equal to 30 increased over time: from 142 in 2001 to 181 in 2013.

Fig4-RCA

Similar analysis, with respect to the leather and leather goods, suggests that there had not been much variations in the number of products having RCA in this sector. And, as in readymade garments sector, Bangladesh had been losing very high comparative advantage it had in this sector. In contrast, Bangladesh had been enjoying consistently very high comparative advantage in jute and jute products, where, in all of 6 products, RCA ranged between 53 and 1068.

The aforementioned analysis shows that during the period under consideration, Bangladesh’s comparative advantage had been concentrated around low-skilled labor intensive readymade garments exports. However, in recent years, compared to early 2000s, there had been some products where Bangladesh gained comparative advantage. These include edible fruits, animal and vegetable fats and oil, preparations of cereals, flour, starch or milk and pastry cooks’ products, preparation of vegetable, fruits, nuts, residues from food industries, rubber and rubber products, copper and copper products, and furniture. However, Bangladesh lost comparative advantage in fertilizers, printing industry’s products, articles of iron and steel, and miscellaneous manufactured articles.

Finally, we are interested to know how tariff rates, both at home and partner country, affect Bangladesh’s revealed comparative advantage at the sectoral level. For this exercise, we have constructed a panel data at 6-digit HS code level for the period between 2001 and 2013. The dependent variable is the RCA which is a binary variable, where it takes a value of 1 if RCA is greater than unity and zero otherwise. The first explanatory variable is the domestic tariff rate at 6-digit HS code level, which is the effectively applied tariff rate and its data is taken from the WITS database. The second explanatory variable is the partner country’s tariff rate, which is calculated as the weighted average of simple tariff rates imposed by top export destination partners of Bangladesh namely USA, EU, Canada and India. Data of partner countries’ tariff rates are taken from the WITS and OECD-WTO database. The fixed effect panel logit regression results suggest that domestic tariff rate is negatively associated with RCA and the coefficient is statistically significant. This suggests that a cut in domestic tariff raises the likelihood of RCA greater than unity among the sectors. In contrast, the coefficient of the partner countries’ weighted tariff rate is not statistically significant. The reason behind the non-association between the RCA and partner countries’ tariff rate could be because of the fact that the large part of Bangladesh’s export to its major partner countries are under different preferences schemes; for example, Bangladesh’s exports enjoy the duty free and quota free market access in the EU market.

Published at the Thinking Aloud on 1 June 2016

Does export orientation lead to higher productivity? Firm-level evidence from Bangladesh

Selim Raihan, Nafiz Ifteakhar and Mir Tanzim Nur Angkur

For long, empirical studies on the role of exports in promoting growth in general, and productivity in particular, used data at the country or industry level to test whether exports promote productivity growth or vice versa. However, a series of empirical studies since early 1990s started using firm level data to look at differences between exporters and non-exporters in various dimensions of firm performance, including productivity.

Two alternative but not mutually exclusive hypotheses can be mentioned why exporting firms can be expected to be more productive than non-exporting firms. The first one relates to the fact that firms which are considered to be more productive than others are likely to participate in export markets – the so called ‘self-selection’ of the more productive firms into export markets. The second one relates to the notion of ‘learning by exporting’ hypothesis which suggests that after entering the export market, firms are able to acquire new knowledge and adopt new expertise which eventually leads to higher level of productivity. Though there is sizeable evidence that exporters perform better than non-exporters, the issue of the direction of the causality between exports and productivity is still debated. While in the contexts of more advanced countries most studies find evidence that the export premium is due to a self-selection process, a number of recent studies on less developed countries tend to endorse the learning effect.

Against this backdrop, this paper explores how export orientation affects firm-level productivity by looking at the range of determinants of productivity of manufacturing firms in Bangladesh. Review of empirical studies suggest that there could be several factors, i.e. firm size, firm age, share of firm’s output in the industry, export orientation measured as percentage of total firm’s output that is exported, which may affect firm’s productivity. Our measure of firm’s productivity is the total factor productivity (TFP) which is derived using the Cobb-Douglas production function framework. Specifically, we have regressed log of output (calculated as total sales of firms) on log of capital (measured as netbook value of fixed assets of the firms) and log of labor (measured as total number of employees) to get the output elasticity of capital and labor which are then used to estimate the total factor productivity (TFP).  To get unbiased estimates of those elasticities in the presence of industry fixed effects, we have included industry dummies in the above regression. We have used the dataset of “The World Bank, Enterprise Survey-Bangladesh” for 2007 and 2013 and have only considered firms belonging to the manufacturing sector. Table 1 shows the industry descriptions along with the distribution of firms for both 2007 and 2013. We have estimated TFPs of firms separately for 2007 and 2013 by following the same procedure described above.

Tab1_export

In order to explore the effect of export orientation on the productivity of firms we have run cross-section regressions for 2007 and 2013. For both years we used the same model and Table 2 shows the estimated results. The dependent variable of our model is total factor productivity. The main explanatory variable is the export orientation while the set of control variables include firm size, firm age, firms’ output share and internet connection. In the regression models, export orientation of the firm is represented by a dummy variable, where the dummy variable takes the value of 1 if the firm exports 25% or more of its total output.

Tab2_export

For firm size, we have also taken three dummies- large, medium and small based on the number of employees. For capturing the effect of technology on productivity, we have taken internet connection dummy. Internet connection dummy will take the value of 1 if the firm communicates by e-mail.

The cross section regression result of 2007 suggests that firm age has positive and significant effect on productivity, while the result of 2013 indicates no such relationship. For 2007, it is estimated that an increase in firm age by one year would lead to a rise in productivity by 1%. For both years, firm size has an effect on productivity. In particular, both medium and small sized firms tend to be less productive than large firms. The firm’s output share is found to have a positive and significant effect on productivity for both 2007 and 2013 respectively. For 2007, one percentage point increase in firm’s output share would lead to a rise in firm’s productivity by 31%, while for 2013 such productivity rise would be by 12%. Now considering the effect of internet connection on productivity, firms with internet connections are found to be more productive than firms with no internet connection for both 2007 and 2013.

Our variable of interest is the export orientation which is found to have a positive and significant effect on productivity for 2007 and 2013. For 2007, we have found that on average productivity of a firm that exported 25% or more of its output was 156% higher than a firm that exported less than 25% of its total output. Such productivity difference was however reduced in 2013, as productivity of a firm that exported 25% or more of its output was 112% higher than a firm that exported less than 25% of its total output.

From the aforementioned analysis, it can be said that larger firms are more productive as compared to small and medium sized firms. Larger firms, due to economies of scale, are able to reap some benefits which help them to utilize resources more efficiently. Firms which started earlier in an industry also tend to be more productive than firms which entered in the industry later. This is due to the fact that already established firms have advantages over new firms in case of production, marketing, etc.

Also output share of the firm belonging to an industry (measured by the proportion of sales of firms in total industry sales) may influence the firm’s productivity. Firms with higher output share can positively affect productivity, as dominant firms hold the necessary resources and technical skill and expertise as compared to firms with low output share. It is also found that firms which have access to internet connections can benefit from lower communication cost and can also communicate with its clients and suppliers timely and thus leads to higher productivity.

Finally, the regression results confirmed that the exporting firms in Bangladesh are more productive than their counterparts. There could be several reasons for this. The learning process may work through technical supports from external buyers, and/or through the exposure to competition in the international markets, which can result in knowledge, technology, and efficiency gain from exporting.

Published at the Thinking Aloud on 1 May 2016

Published at The Financial Express on 4 May, 2016

Political economy of regional integration: Where do we stand in South Asia?

The aspiration for deeper regional integration is high on the political agenda of most of the leaders in South Asia. Since the early 1980s South Asian Association for Regional Cooperation (SAARC) has been working as an economic and geopolitical organization for South Asian countries with the aim of deeper regional integration and cooperation in areas of economic, trade and other common regional issues. Until now, there have been some achievements. Still, frustration prevails, as actual implementation of agreements often does not match the declared ambitions. The resulting implementation gap is most commonly attributed to the lack of political will and leadership, institutional weaknesses and capacity and resources constraints.

The dominant literature has looked primarily at the narrow economic factors influencing regional integration. However, to have a better and systematic assessment of the factors driving and constraining regional integration, it is important to explore the political economy dimensions. While policy makers and stakeholders are often aware of such political economy dimensions, they are generally discussed only informally or in ad hoc manner. A systematic discussion of the political economy factors around the regional integration agenda can generate a broader awareness among stakeholders that may ultimately lead to more realistic and effective regional policy design and processes.

From a political economy perspective, there could be three interconnected drivers for a deeper regional integration. These are economic drivers, political economy drivers and extra-regional drivers.

PE of regional integration

The economic drivers include four integration processes: market integration, investment integration, growth integration and policy integration. ‘Market integration’ emphasizes on the integration in trade in goods and services through the removal of tariff and non-tariff restrictions. ‘Growth integration’ is the integration of economic growth processes of the respective countries in a way that growth in one country benefits growth processes in other member countries. The ‘investment integration’ calls for promotion of regional investment and trade nexus. Finally, the ‘policy integration’ is the harmonization of economic and trade policies of the countries for a deeper regional integration.

However, the aforementioned four integration processes need favorable political economy (PE) drivers. The political-economy perspective considers how various players influence the national and regional decision-making context, and what impact their actions (or lack of action) have on the integration agenda. The first PE driver is the ‘primary institution’ which are the official institutions at the regional level and in respective countries entrusted to carry out the agenda of regional integration. In South Asia, the SAARC Secretariat and relevant ministries in the member countries are such institutions. The second PE driver is the ‘secondary institution’ which are private sectors, private sector associations, civil society organizations and media. Primary and secondary institutions are a combination of market and non-market actors that govern economic and political environments in the region. The third PE driver is the ‘regional public good’ which includes regional infrastructure and the status of regional trade facilitation. In South Asia, status of such ‘regional public good’ is very weak. ‘Structural factor’ is the fourth PE driver which includes historical processes and geographic factors that shape the types of political, economic and socio-cultural institutions. In South Asia, landlockedness of Nepal, Bhutan and Afghanistan, political rivalry between India and Pakistan, and huge differences in the sizes of the countries where India accounts for around 80% of the regional GDP, trade among the South Asian countries primarily through land borders are such structural factors. The final PE driver is the role of the ‘political elite’. Strong and visionary leaderships are needed from the political elites to eliminate any ‘trust deficit’, which can emerge as a result of a variety of the ‘structural factors’ mentioned above. In South Asia, such ‘trust deficit’ is often highlighted as one of the major barriers for a deeper regional integration. Also, there are concerns with regard to hesitant and inconsistent leaderships from the political elites of these countries, especially from India, in taking the regional integration agenda to a higher level.

Finally, the extra-regional drivers include a wide range of global economic and political factors that can have influence over the region. In South Asia, countries are at different levels and with different patterns of integration with the extra-regional drivers.

There are now convincing evidences that a deeper regional integration is needed for generating and sustaining economic growth and reducing poverty in South Asia. Intra-regional trade in South Asia has been low, but there are signs of huge potentials. For a deeper market integration in goods, full implementation of SAFTA is needed with emphasis on further liberalization of intra-SAARC tariffs, reduction in the sensitive list, and establishing effective mechanisms to deal with the NTMs/NTBs.

Intra-regional services trade and intra-regional investment are also low in South Asia. Regional and sub-regional efforts have to be promoted for different trade and transport facilitation measures, for cooperation in energy generation and transmission, and for linking energy cooperation and trade and transport facilitation to investment and growth processes of these countries. Promotion of intra-regional investments and attracting extra-regional FDIs in goods and services sectors in general, and energy and infrastructural sectors in particular will be very crucial for South Asia to integrate further. There is a continued need for a greater integration in trade, macro, financial and industrial policies in the region.

A deeper regional integration in South Asia requires clear and visible leadership from the political elites in this region, especially from India, in taking the agenda forward. The political elites have to be convinced and act accordingly to reduce the ‘trust deficit’. Regional institutions, like SAARC Secretariat, have to be institutionally reformed and reoriented with much stronger engagements from the respective ministries and relevant organizations of the member countries. Business associations, civil society organizations and media have to pursue the regional integration agenda in South Asia more pro-actively than ever.

Published at the Thinking Aloud on 1 April 2016

Published at The Daily Star on 12 April 2016