Wednesday, May 8, 2013

Exports and cost of production in Nepal and India

Here is an interesting article about how the rising cost of production and the resulting loss of overseas markets are shifting carpet production from low-end to high-end lately.

Excerpts from the article:

Hurt by rise in production cost of carpets and tough competition in the market, Nepali carpet producers and exporters have shifted focus on high-end carpets on which competition is relatively low.
Nepali exporters are facing tough time retaining their market in overseas countries due to flooding of cheaper low-quality carpets there.
“We are gradually losing our markets for normal carpets. To stay in the business and beat our competitors, we are gradually switching to production and export of high-quality carpet,” Anup Bahadur Malla, president of Nepal Carpet Exporters´ Association, told Republica.
Lengthy economic slowdown in European countries and high competition in US has dragged down the demand for Nepali carpets as customers there prefer cheaper carpets supplied by other countries.
“That is why we are putting focus on high-end carpets on which we have comparative advantage,” said Malla. He further added that share of high-end carpets on total carpet exports has increased to around 50 percent from less than 20 percent recorded a couple of years ago.
Nepali entrepreneurs are producing and exporting 100-knot carpets which are made from a mixture of natural fiber and wool.

Cost of production

Excerpt related to the cost of production in Nepal and India.

Cost of production of 60-knot carpet hovers around $80 per square meter. Production cost of the same variety hovers around $45 per square meter in India, according to the exporters.

It is not that Nepal’s production (export sophistication) is shifting up the value chain due to product innovation and high productivity. The incongruous shift in production to high-end carpets is due to the compulsion arising from the inability to compete in even low-end production— an odd phenomenon given that Nepal still has one of the lowest per capita GDP in Asia and is largely an agriculture-based economy [but high consumption is fueled by increasing remittance inflows, which fund burgeoning imports]. Traditionally, with this sort of income level, comparative advantage should be on the production of low value added goods and services due to cheap labor costs, and as innovation kicks in and income rises, production shifts to high value added goods and services. It is essentially a structural transformation from low value added production, low productivity sectors (usually comparative advantage based) to high value added, high productivity sectors (both comparative as well as competitive advantage based). Also, increasingly high productivity in agriculture sector usually provides a foundation for high growth in industrial sector.

Unfortunately, this is not happening. Due to low growth and the dearth of job opportunities, thanks to protracted political uncertainty and half-hearted policy initiatives on this front, a large number of youths are going abroad for jobs, consequently creating a shortage of workers in almost all sectors. As an upshot of this, share of remittances backed, consumption driven services sector is growing at a rapid pace (about 50% of GDP) while industry sector is squeezing (about 15% of GDP, which is almost equal to the share of retail and wholesale trade).

Some might argue that its like in India where services sector is also huge and growing relative to agriculture and industry. However, in Nepal’s case, the rising share of services sector in GDP is not coming from high value added production (ITC, BOPs, innovation, etc.), but from low value added production, which too is dependent on remittances for growth (exogenous factor). Hence, the whole process is not ‘organic’ but kind of distorted (and without much multiplier effect).

A course correction is needed, which will require boosting productive capacity of the economy (supply-side stuff driven by both public and private investments) and the proper management of increasing remittance inflows so that more of it is spent on capital formation and less on consumption (currently stands at 2.4% and 78.9%, respectively).

Anyway, going back to the faltering exports, below are some of the reasons, mostly arising from rise in production costs (more here):
  • Political instability and strikes, and its impact on production costs
  • Lack of electricity (also see this, this and this)
  • Poor industrial relations, plus highest minimum wage in South Asia but low productivity
  • Lack of innovation and R&D by private sector, and reliance on concessions for survival
  • Policy inconsistency and policy implementation paralysis
  • High inflation, which increases nominal cost of production
  • High cost of inputs (arising from globally high prices and lately the depreciation of Nepali rupee against third currencies)
With this background, the solutions to break this cycle are no-brainer!

1 comment:

  1. Here is a news article about the shift from manufacturing to trading activities due to energy, labor and strike problems.

    "Perennial labour problems, strikes and increased load-shedding have forced industrialists in the Sunsari-Morang Industrial corridor to shift to trading from manufacturing. Fewer risks and higher profits in trading is the major reason why industrialists have been giving up manufacturing for the last couple of years."