Fallout of energy crisis on textile exports

Fallout of Energy Crisis on Textile Exports

Distortions and inefficiencies in Pakistan's energy sector and their consequential impact on consumers and businesses are not new to debates concerning sustained economic growth of the country. The fallout of high energy tariffs and the circular debt crisis on the textile industry - Pakistan's single largest contributor to exports (60%), manufacturing sector employment (40%) and banking credit (40%) - needs immediate attention and addressal for sustainable growth in exports and employment. This call to action was recently made by the All Pakistan Textile Mills Association (APTMA) to the Standing Committee of National Assembly (NA) on Finance, Revenue and Economic Affairs in a recent event with sitting officials, leading industrialists, manufacturers and journalists in attendance. The extremely harmful impacts of the energy sector crisis, circular debt buildup and the high electricity tariffs on the economy and textile sector were deliberated upon in detail.

The power sector has been a significant constraint on growth in Pakistan in recent years. While on one hand, transmission and distribution (T&D) losses of up to 30% create inefficiencies and bottlenecks in the system, arrears mounting in circular debt to the magnitude of Rs.2.22 trillion imply a perennially burdened national exchequer. The vicious cycle of circular debt - whereby distribution utilities struggling to collect revenues and meet regulatory targets for transmission and distribution losses default on their payments to generators, and the government periodically bails out the sector once losses accumulate to intolerable levels - has severe implications for the Pakistani economy. This dynamic not only undermines incentives for utilities to improve their efficiency while discouraging investors from investing in new capacity to address supply shortages, but also comes at a high cost to the national exchequer and consumers and businesses to whom all inefficiencies are passed in the form of higher energy tariffs. The result is reduced security of supply, access and affordability for consumers and investors, regionally uncompetitive exports and a crippling economy with high cost inflation and balance of payment problems. Furthermore, the DISCOs resort to ineffective solutions such as revenue-based load-shedding only means that compliant customers and industries bear the brunt of heightened tariffs. Not only this may be constitutionally improper but could also be termed a collective punishment a la 'FCR'. The Sustainable Development Goal (SDG) of universal access to power has been completely forgotten in the revenue based load shedding, and DISCOs now take the easy way out of suspending power supply to areas with high loss and collection - a situation not understandable in a country with excess power capacity.

So, what are the direct implications of energy inefficiencies on the textile sector and textile-export led growth? The plight of textiles vis-à-vis the power sector is underlined by at least three factors. Firstly, the implementation of unreasonable energy tariffs, coupled with the abolishment of tax subsidies for zero-rated companies, has resulted in increased cost of business and reduced profitability for businesses. The textile industry of Pakistan is burdened with the highest energy tariffs in the region - electricity at 13.3 cents/kwh and gas at $6.5 / MMBTU - which is significantly higher than other regional players such as India and Bangladesh (comparable values at 7.2 cents/kwh and 7 cents/kwh, and $3.2/ MMBTU respectively).

The potential economic impact of regionally uncompetitive tariffs on the Small & Medium Enterprise (SME) sector, the driving force of the economy, is particularly devastating. Between the existing and the regionally competitive power tariffs of 13.3 cents/kwh (~Rs. 18.5/kwh) and 7.5 cents/kwh (~ Rs. 12/kwh), the annual differential in tariffs for SMEs works out to Rs. 23 billion. This represents 30% of the conversion cost and 10% of final cost of the value of production, with a total worth of Rs. 230 billion. Even by conservative estimates, this production is expected to feed intermediate products for exports valued at approximately $3.5 billion. By way of a simple cost-benefit analysis, the potential loss in exports worth $3.5 billion far outweighs the cost of decrease in tariff of Rs. 23 billion. Given the fierce competition in the international export market and Pakistan's dire need to sustain, if not expand, exports, the threat of higher electricity ring alarm bells. The SME sector is already grossly disadvantaged due to non-availability of subsidized credit, inaccessibility of import for re-export schemes and multiple duplicity of taxes, additional costs due to higher electricity tariff will price them out of the market.

Secondly, with the applicability of turnover tax on the textile sector and its multiplicity at every step of the supply chain, Pakistan's textile exports are losing international competitiveness. The tax also creates severe liquidity crunches for the industry. Thirdly, and relatedly, the absence of a long term, consistent and favorable textile policy implies that the business environment is unlikely to be viable for existing and new investors. Not surprisingly, the resultant impact of these factors combined is that textile companies in Pakistan have increasingly become regionally uncompetitive compared to counterparts in South Asia such as India and Bangladesh. It is worth noting that the current contribution of textiles to Pakistan's GDP is only 8.5% whereas the textile export contribution of India and Bangladesh in GDP stands at 20% and 15%, respectively.

Table 1: Cross-Country Comparison of Textile Exports (2009-2018)

Textile Exports

Country

Exports

 ($ Billion)

Growth

(%)

China

266.42

65

Bangladesh

40.96

201

India

37.12

69

Vietnam

36.68

252

Pakistan

13.57

41

Cambodia

13.10

434

 

The existing and potential economic losses accruing as a consequence of these factors are startling. Exports currently account for 8.79% of Pakistan's GDP whereas the exacting demand for a sustainable external account is for the ratio to nearly double to 15%. The textile industry, currently constituting 8.5% of Pakistan's total GDP at approximately $13 billion in exports has the capacity to double the latter to $26 billion, provided the afore-mentioned impediments to production and export are removed. On the positive side the country's textile manufactures recently reported revived export orders as the world gradually recovers from the COVID-crisis and surfaces back to normal. According to statistics, textile exports in quantity terms had increased by as much as 30% during the pandemic and, with favorable policies and prices in place, have the potential to reach $30 billion in 4 years. This loss in potential exports and GDP is too large for Pakistan to ignore. The question remains: if favorable policies and tariffs can render the textile industry so lucrative, what can explain the government's lack of action on this front? If the argument is that policymakers and decision makers are not fully aware of the benefits accruing to such decisions or, alternatively, are not aware of exactly what needs to be done to save the sector from doom, perhaps the industry is not doing enough in communicating and emphasizing these issues.

The asks by the industry are clear: regionally competitive electricity and gas tariffs at 7.5 cents/kwh and $6.5/ MMBTU respectively for 5 years through a clearly vision-ed long term textile sector policy (already approved in principle by the Prime Minister), and waiver from turnover tax (minimum tax liability) to manufacturers on exhibiting a 10% growth in textile exports. It is worth noting that the entire benefit of a tariff of 7.5 cents/kwh will accrue to the SME sector, because even at the revised tariff, larger industrial units with RLNG connections will constantly use gas and not grid power to generate power as the former would still cost them $6.5/MMBTU or roughly 7 cents/kwh at an efficiency of 35%. Alternatively, a very workable method of insulating SMEs from the adverse impact of high energy tariffs (while not contravening any World Bank and International Monetary Fund conditionalities for subsidies) would be to assign one of the new RLNG plants to the industry to ensure competitively priced energy through wheeling and relieving the government of the capacity payments to the extent of the power plant directly assigned. This can be expanded further by assigning one of the imported coal plants in Karachi to the industry to additionally relieve 200-300 MMBTU of domestic gas currently used in captive power plants.

While the response from the government so far has been one of promise and reassurance, we are confident that the Prime Minister and his team will surely prioritize sustained export-led growth for Pakistan and initiate a concerted effort to address concerns of the industry and implement the policies required for sustained export growth leading to a prosperous Pakistan.

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