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February 19, 2024

By Shahid Sattar | Muhammad Mubasal

The global textiles and apparel trade is witnessing a significant transformation, shifting emphatically towards man-made fibers (MMF), which now constitute approximately 63% of global textiles and apparel trade, earning them the title “fiber of the future”.

However, Pakistan’s textile sector stands at a crucial crossroads, predominantly tethered to cotton-based exports that account for almost 67% of its total textile and apparel exports while MMF based exports account for a mere 12%, thus sidelining itself from the burgeoning MMF market. This reliance on cotton not only highlights a missed opportunity in an evolving industry but also underscores the necessity for Pakistan to diversify and enhance its textile exports towards MMF to overcome economic challenges and enhance its competitiveness in the global textiles landscape.

Despite being among the top 25 textile and apparel exporters, Pakistan has one of the least diversified export baskets. To gauge the idea, around 1% of the product space accounts for around 65% of the exports consisting of denim and non-denim fabrics and apparel, knitwear, socks, home textiles and towels.

Moreover, Pakistan’s textile and apparel exports are highly concentrated in cotton-based products whose share in global trade has shrunk from 40% to 33% between 2007 to 2021while MMF-based textiles and apparels’ share grew from 30% to 35% during the same period. Since 2007, Bangladesh, India, China, and Vietnam have experienced an increase in the share of MMF-based exports, however, Pakistan has not seen an increase in their exports. Also, the share of cotton-based exports has declined for the other countries. For Pakistan, it effectively means that it’s competing for a larger piece of a shrinking pie.

There are two main factors behind the lack of growth in MMF-based exports. First, the industry lacks the production capacity necessary to manufacture MMF-based products. Second, and more importantly, investment in MMF-based manufacturing capacity has been disincentivized by economic distortions, especially in the realm of trade policy.

PSF is the basic raw material required for the MMF production, and purified terephthalic acid (PTA) is the main input for the manufacturing of PSF. As it stands, there is a 5% import duty on PTA and resultantly a cascading import duty of 7% on PSF with an additional anti-dumping duty of 12% on PSF.

The duties on imports were raised from 4% and 6% to 5% and 7%, respectively, in June 2016. However, Pakistan’s sole PTA manufacturing facility, using outdated technology is already outcompeted by newer, more efficient facilities in China and India. The plant survived on cheap gas ($4/MMBtu) for conversion from paraxylene to PTA and subsidized by high duties on imported PTA/PSF at the expense of the export sector. Following recent gas pricing reforms, the plant’s operational viability has vanished, leading to the argument that the 5% duty on PTA is unnecessary and should be eliminated along with a reduction in PSF import duty to 2%.

Figure 1 Import and anti-dumping duties on PSF have created opportunities for rent-seeking in the domestic market leading to an anti-export bias.

Moreover, in the PSF domain there are only 3 major manufacturers that enjoy a protected monopoly due to the imposition of 7% import duties and up to 12% anti-dumping duties on imports of cheaper and higher quality PSF. Effectively, this has created opportunities for rent-seeking in the domestic PSF market that Pakistani PSF manufacturers have capitalized on by keeping domestic PSF prices significantly above international prices (Figure 1). Higher PSF prices are further enabled by import LCs faced by the spinning industry.

This rent-seeking behavior is further enabled by the National Tariff Commission (NTC) of Pakistan. Adam Smith’s famous law of invisible hand which states that people who intend only to seek their own benefit are led by an invisible hand to serve a public interest which was not part of their intention. Conversely, Milton Friedman’s concept of ‘reverse invisible hand’ suggests that people who intend to serve only the public interest are led by an invisible hand to serve private interests, which was not part of their intention.

This has been the case with anti-dumping and import duties on Polyester Staple Fiber (PSF). National Tariff Commission actions, intended to protect the domestic market and support the broader public interest, have unintentionally favored a small group of domestic manufacturers. This has come at the expense of a larger group of exporters, highlighting the unintended negative consequences of protectionist trade policies.

In case A.D.C.No.33/2015/NTC/PSF dated February 02, 2016, according to Para 33.3, the three domestic producers account for 97.48% of the total domestic production of PSF. While in the case A.D.C No. 59/2021/NTC/PSF dated February 03,2022, according to Para 9.2, the same producers account for 100% of the domestic production. It clearly indicates that the three producers have a monopoly over the domestic PSF market.

Also, in case ADC No 33, para 12.2.1.1, it is clearly stated that the products being used by the domestic industry are not being produced locally and hence in 2015, varieties of colored PSF and regenerated PSF were exempted from the investigation. In 2021, the commission determined that the domestic and imported product are ‘like products’ due to similarities in their physical, chemical and end use cases.

However, in the case ADC No 59, according to Para12.2, the commission terminated the change circumstances review and conducted only the sunset review, concluded that anti-dumping duties must be imposed on exporters of PSF from China. If the domestic producers had started producing the products required by domestic consumers, then it should have conducted a change circumstance review. Due to the above reasons, it necessitates a change circumstance review to determine the import and dumping duties.

Furthermore, as detailed in para 35 of ADC No.33 and para 50 of ADC No. 59 under ‘Price Effects’ and their respective sub-sections titled price undercutting, price suppression and price depression, there is a noticeable similarity in the price-effect patterns in both instances. This similarity strongly indicates that domestic PSF producers, when faced with competition from international counterparts, resort to masking their lack of competitiveness and inefficiencies by seeking refuge in import and anti-dumping duties. It appears that the commission consistently aids them in this approach.

Additionally, within para 18.2 of ADC No 33 and para 22.2 of ADC No 59, titled ‘Confidentiality’, crucial information and data pertaining to the applicants, including their production costs, sales figures, and pricing details etc., were classified as confidential. Disclosing this information could have facilitated a more transparent process and outcome. The lack of access to this data suggests that any decision benefiting the applicants might imply collusion on the part of the NTC.

Moreover, it raises questions as to why these three entities are regarded similarly to public enterprises, using their lack of international competitiveness as grounds for protectionist policies. Typically, in economics, a non-competitive private entity would be shut down. However, public enterprises are treated differently, often receiving support through expansion, or protectionist policies, thanks to their access to extensive financial and political resources, which perhaps is not the case or domain for the Lotte PTA plant.

This situation exemplifies the issue of concentrated benefits and dispersed costs. By levying import and anti-dumping duties, a small group of manufacturers reaps the benefits, while the burden of these costs is spread across a wide array of exporters. The domestic manufacturers are aware that the removal of or reduction in these duties would primarily disadvantage them, prompting their advocacy for continued protectionism through such duties.

The imposition of high duties on PSF significantly undermines Pakistan’s textile exports by making the production of MMF economically unfeasible. This situation is discouraging for domestic textile and apparel firms considering investments in MMF production. The disparity is stark when comparing the cost of PSF in Pakistan to international rates; for instance, textile exporters in China can acquire PSF at 91 cents (Rs 255) per kg, whereas in Pakistan, the price soars to around Rs 362 per kg, marking a 40% increase. Given the elevated costs of both PSF and PTA, manufacturing MMF is neither viable in the domestic market nor competitive internationally.

This leads to an understanding that the primary contributors to the unusually high PSF prices in Pakistan are the extensive import duties on PTA and PSF, coupled with additional anti-dumping duties on PSF. Moreover, the situation is exacerbated by the ability of local manufacturers to maintain inflated prices, a consequence of the import Letter of Credit (LC) restrictions confronting the spinning industry. These factors collectively stifle the growth of the MMF sector, highlighting the urgent need for policy revision to alleviate the burdens on the textile export market.

The need to reevaluate import and anti-dumping duties becomes critical, especially now that nearly half of Pakistan’s PSF-based spindles are shut down. As the industry aims for an export resurgence amid rising demand in major Western markets, the domestic supply of both cotton and PSF is insufficient to operate these machines. This shortage is compounded by local PSF manufacturers operating at reduced capacities due to the diminished demand for PSF, a result of Pakistan’s PSF prices being significantly higher than those of its regional rivals. Lowering the import and anti-dumping duties on PSF would facilitate enhanced production levels across the supply chain, leading to increased exports and job creation.

“Lastly, enhancing the exports of MMF is pivotal for bolstering Pakistan’s textile exports, a crucial step for the country to emerge from its ongoing economic difficulties. Increasing MMF exports would diversify and strengthen Pakistan’s export portfolio, making it more competitive globally and instrumental in its economic recovery.”


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January 24, 2024

By Shahid Sattar | Asim Riaz

Pakistan’s generation capacity, encompassing northern hydel, southern nuclear, and coal sources, requires strategic solar plant installations at the DISCOs’ 132kV level. This should be facilitated by allowing power-wheeling through B2B contracts at a Use of System/Wheeling Charge of 1 US cent/kWh that allows for competitive end-user prices.

These installations are intended to serve local loads, reducing daytime transformer load and transmission losses on both the 500/220kV and 220/132kV networks. To prevent evacuation constraints, it is essential to distribute solar power evenly across the nation.

Seasonal grid instability challenges in Pakistan–I

Such equitable deployment can reduce transmission investment by aligning with lower integration costs, optimize the grid, and limit curtailments in oversized solar PV plants. Furthermore, Pakistani industries need to invest in solar PV installations to comply with international regulations on carbon emissions like the EU’s Carbon Border Adjustment Mechanism (CBAM), which is vital for maintaining competitiveness in global markets.

  1. Inadequate Reactive Power Support and Voltage instability

In very long transmission lines, increased capacitance amplifies voltage, leading to network instability. This instability, particularly the Ferranti effect in long, lightly loaded lines, occurs when line capacitance surpasses inductive reactance, especially in grids with distant generation and load centers.

Electric tripping in these networks can trigger cascading failures, causing voltage or frequency fluctuations. Such stress may result in chain reaction of failures from an initial fault, further destabilizing the system and potentially causing brownouts and blackouts.

The bulk network’s insufficient number of reactors fails to maintain network voltages within acceptable limits, causing significant over-voltage issues in winter. To address this, the system operator frequently has to deactivate numerous lines, thereby reducing transmission capacity reserves essential for handling contingencies,.

Given the network’s complex operational conditions, there is a need for dynamic reactive power support such as Static Var Compensators (SVCs), STATCOMs and Synchronous Condensers at various points, which is presently lacking.

  1. Inadequate Grid Monitoring and Technology available for the System Operator

The system operator faces significant challenges in grid monitoring due to outdated data acquisition systems and inadequate investment in grid infrastructure modernization. This results in a lack of real-time grid information, with over 60% of the network not being monitored in real-time and relying on outdated communication methods like fax and phone.

The incomplete implementation of the SCADA system at the National Transmission and Despatch Company (NTDC) covers only about 20% of the Grid further impacts operational control and grid management. This, along with outdated operational procedures, poses challenges in handling increased load capacity and ensuring grid stability. The situation highlights the critical need for timely upgrades and modernization of Pakistan’s grid infrastructure to enhance grid management and decision-making capabilities.

  1. Policy and Market Dynamics

The rapid expansion of installed capacity in Pakistan’s power sector is largely attributable to the Government’s investor-friendly initiatives for Independent Power Producers (IPPs). These initiatives offer sovereign guarantees for power purchase agreements, ensuring high and guaranteed returns.

This approach significantly lowered investment risks, leading to a surge in investments in power generation and a swift increase in generation capacity. However, this growth in capacity quickly surpassed both the actual electricity demand and the development of the Transmission & Distribution (T&D) network, resulting in both excess capacity on the supply-side as well as unmet demand.

This situation highlights the challenges in balancing aggressive capacity expansion with demand dynamics and emphasizes the need for more demand-driven approaches in power-sector planning and development.

The energy and power sector’s sensitivity to pricing dynamics highlights the need for policies that are not only market-based, transparent, and stable, but can also adapt to evolving market conditions, technological advancements and grid modernization.

Such policies should encourage investments in infrastructure modernization and renewable energy sources, thus promoting environmental sustainability and energy security. Moreover, regulatory frameworks must be agile, effectively accommodating the rapid changes in energy consumption patterns and the growing demand for electricity. Generation focused policies with fixed returns that monopolize profit and socialize risk, should instead have been market based.

Emphasizing energy efficiency and demand-side management is crucial for mitigating technical and operational challenges in the energy sector. It is important to note that during winter months in Pakistan, gas consumption in residential sectors, particularly among middle- and high-income households, increases significantly.

These households experience an increase of over 400% and 700%, respectively, for water and space heating requirements. To address this, a shift in space heating from gas to electricity using heat pumps—devices that transfer heat from cooler spaces to warmer spaces—is required.

In Pakistan, where domestic power demand constitutes over half of the total and shows high sensitivity to weather variations, effective Demand Side Management (DSM) is imperative. Key DSM strategies include the implementation of Advanced Metering Infrastructure for improved monitoring, Demand Response Techniques to adjust usage during peak times, and a focus on efficiency and conservation through passive solar designs and enhanced insulation.

  1. Economic Dispatch vs Grid Reliability

The first priority of the System Operator, i.e., National Power Control Center (NPCC), is ensuring system reliability and safety to maintain voltage and frequency limits and prevent overloading. This is crucial to avoid brownouts and blackouts. Subsequently, considerations such as fuel constraints, hydro resources, and policies are taken into account, followed by economic dispatch according to merit order.

The challenge arises from the uneven geographical distribution of cost-effective and reliable power generation resources across the network necessitates Security-constrained Economic Dispatch. However, these issues often result in extensive debates between the System Operator and the National Electric Power Regulatory Authority (NEPRA) during hearings on economic dispatch.

Frequently, plants are dispatched out of merit order to support local voltage and grid reliability, while more economical resources are curtailed to maintain operational reserves. Under significant pressure to implement economic dispatch, the System Operator is often compelled to make compromises on grid reliability to minimize financial losses.

  1. HR Capacity Constraint of the System Operator
  • The System Operator’s workforce issues extend beyond high turnover and slow hiring. It also struggles with inadequate training programs, leading to a skills gap in critical areas like system security and advanced technology.

Additionally, budgetary constraints limit the ability to offer competitive salaries, further complicating recruitment and retention efforts. The lack of a robust succession planning and staff development strategy exacerbates these challenges, risking long-term operational efficiency and system reliability.

Conclusion

The combination of these factors – seasonal variability in power generation, maintenance challenges, industrial grid connectivity issues, a capacity trap, power system management complexities, infrastructure investment gaps, policy and market dynamics, along with geographical and technical constraints – collectively increase the likelihood of blackout winters in Pakistan.

To effectively prevent brownouts and blackouts requires a comprehensive approach that encompasses regular maintenance and upgrading of power infrastructure, including plants and transmission lines. Enhancing grid management with advanced monitoring systems, diversifying energy sources with a blend of renewable and traditional options, and implementing dynamic load management are keys.

Additionally, strengthening the training of system operators, investing in modernizing grid infrastructure, updating policy frameworks, and developing emergency response plans are essential. These efforts, combined with improved grid monitoring and balancing economic dispatch with grid reliability, will contribute significantly to the reliability and stability of the power sector.


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January 15, 2024

By Shahid Sattar | Asim Riaz

Brownouts and blackouts are critical issues affecting the stability and reliability of power supply systems in Pakistan. A brownout is a partial, temporary reduction in power availability, often indicated by a voltage drop in the system.

This phenomenon usually occurs when the power system is under stress, possibly due to high demand or infrastructural limitations.

In contrast, a blackout is a more severe condition, characterized by a complete loss of power in a specific area, typically caused by overloads, system failures, or significant malfunctions in the power grid.

Both brownouts and blackouts can have a profound impact on the entire economy, including businesses and healthcare, thus emphasizing the need for a robust and reliable power infrastructure.

In this article, we investigate the challenges of Pakistan’s power sector, focusing particularly on the risk of blackout winters. We examine the effects of seasonal changes in power generation, such as the decline in hydroelectric power and gas supply limitations in winter.

We explore the phenomena of brownouts and blackouts, their causes, and their broader implications for power infrastructure. We delve into operational challenges, such as maintenance outages and the management of frequency reserves, as well as issues related to industrial demands and grid connections.

 

Our focus extends to the capacity trap in generation, complexities in power system management, investment deficits, policy dynamics, and technical constraints. Ultimately, the need for holistic solutions to enhance grid reliability and prevent blackout winters encompasses all aspects of power sector vulnerabilities.

Seasonal variations and generation capacity trap

Pakistan’s power generation, dominated by baseload capacities like nuclear, coal, and CCGTs, faces significant challenges in meeting the country’s fluctuating demand. Reliance on imported fuels (i.e., coal and LNG) coupled with financial constraints faced by the economy adds considerably to the power system’s vulnerability and leads to high capacity payments due to suboptimal utilization.

Hydroelectric power, a major component of Pakistan’s energy mix, is heavily influenced by seasonal variations that can be attributed to the country’s dependence on water flows for agriculture and the inherent nature of hydrological cycles that are vulnerable to weather extremes and shifting patterns.

As a result, hydroelectric generation drops significantly during winter months, causing a sizable reduction in overall power generation capacity. For instance, during FY22, Pakistan’s hydroelectric generation peaked at 7,561MW in August while the minimum output was recorded at 697 MW in January, compared to the total installed hydroelectric capacity of 9,477 MW.

Similarly, reduced gas supply during the winter also impacts generation from Gas Power Plants due to load profiling of Residential Piped Natural Gas Consumers, further limiting power production.

With an industrial base load of around 8 GW at present, large seasonal and intra-day variations in grid electricity make surplus capacity very expensive. On August 21st, 2023, for instance, the National Transmission and Dispatch Company (NTDC) supplied 25.5 GW of electricity at midnight, with approximately 17.5 GW catering to the seasonal demand for ventilation and air conditioning, i.e., cooling loads. Notably, the installed capacity of 22 GW in FY14 was sufficient to meet industrial demand of 7-8 GW.

The subsequent escalation in electricity demand and prices can therefore be attributed to higher consumption in non-productive sectors, particularly for cooling and ventilation.

It is important to note that hydropower plants are modeled based on their characteristic monthly minimum and maximum available capacities, along with their average monthly generation.

With more than a dozen new hydropower projects being installed, there is a clear indication that the future of energy in Pakistan hinges on adapting to seasonal patterns and integrating various forms of renewable energy to ensure a stable and reliable supply of electricity.

Moreover, operational constraints require nuclear and RLNG plants to run at a minimum capacity of 70%, and coal plants at 50%, leading to inefficiencies during low-demand period.

Consequently, the current generation mix, despite its diversity, struggles to match the variable demand and seasonal hydropower availability, resulting in underutilization of large fossil fuel plants due to financial and grid optimization limitations.

Operational challenges: frequency management and grid stability

Investment in transmission and distribution infrastructure, focused on short-term fixes rather than long-term solutions such as grid optimization and flexible generation, has not kept pace with the expansion of generation capacity, leading to overburdened systems and supply bottlenecks.

This, coupled with insufficient funding exacerbated by mounting circular debt, has caused serious transmission issues and network bottlenecks, with many sections operating above capacity. Additionally, managing frequency reserves, crucial for stability, especially during reduced generation, is challenging due to insufficient operating reserves, limiting backup power during demand spikes or generation drops.

The system has a reduced number of operational generating units, which leads to low inertia. Inertia is important for maintaining grid stability and the ability to recover from disturbances.

A lack of sufficient operating units makes the system more vulnerable to outages. Additionally, maintaining large spinning reserves to align with the biggest thermal generation units introduces additional operational and financial complexities.

Under severe outage events, all power plants must provide adequate frequency support. This support becomes crucial for the low-inertia system under very low load demands, such as during winter months.

Allegedly, power plants, especially IPPs, do not provide sufficient frequency support, leading to the system’s inability to restore its frequency and resulting in blackouts.

Furthermore, fog and smog can cause short circuits in transmission and distribution networks due to their moisture-laden conductive particles, leading to network tripping, brownouts, and operational disruptions that affect power supply stability and reliability.

The reduced visibility associated with these conditions further complicates network monitoring and maintenance.

The integration of High Voltage Direct Current (HVDC) systems into the network has improved south-to-center power flow, reduced bottlenecks, and enhanced transmission reliability. However, it has also introduced additional complexity, especially during HVDC line outages. The System Operator continually faces challenges in balancing AC and DC power flows under various operating conditions to ensure grid security.

Grid resilience through industrial solar integration

A significant portion of Large Scale Manufacturing (LSM) sectors, such as fertilizers, cement, sugar, and textiles, are not connected to the national grid, leading to an underutilization of available power generation capacity. Industries remain disconnected from the grid due to reliability and quality concerns, exacerbating the demand-supply mismatch.

In the last two years, Pakistan has witnessed the closure of numerous textile industries, looms, mills, and ice factories, with nearly half of its paper mills disappearing from the industrial landscape. This decline can largely be attributed to exorbitant electricity tariffs, which are two to three times higher than those in regional countries, placing a significant burden on these businesses.

Only those businesses with higher profit margins and efficient machinery are likely to endure.

Frequent electricity supply interruptions, equipment breakdowns, and voltage instability starkly contravene the regulatory standards set forth by power regulator NEPRA in the Distribution Code, compelling industries to seek self-generated power solutions to ensure operational continuity and stability. Industries in Pakistan are confronted with the necessity of maintaining Captive Power Plants (CPPs).

This necessity is driven not only by economic considerations but also by the unique energy challenges and infrastructure limitations faced by industries in Pakistan.

The power system often experiences electricity shortages, grid instability, and frequent power outages, which can significantly disrupt industrial operations.

To mitigate these challenges and ensure a continuous power supply, many industries in Pakistan have had to invest in Captive Power Plants (CPPs), which provide a reliable backup source of electricity, helping industries maintain production levels and avoid costly downtime. However, the financial burden of establishing and maintaining CPPs is a challenge not commonly encountered by industries in countries with more stable electrical grids.


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January 1, 2024

By Shahid Sattar | Amna Urooj

In the evolving Textile Value Chain (TVC) of Pakistan, the key to sustained exports lies in the traceability of the supply chain. Beyond being a cornerstone of the country’s economy, the TVC stands as its largest and one of the oldest manufacturing industries, contributing approximately 60% to the nation’s total exports and playing a crucial role in international trade.

Directly engaging nearly 40% of the manufacturing labour force — approximately 3 million people — and indirectly impacting 9 million more, the industry impressively contributes 8.5% to the GDP.

As the TVC navigates the complexities of integrating traceability into its operations, it faces a transformative journey that aligns with global trends, where traceability is not only a regulatory imperative but a strategic tool for optimizing business operations and ensuring accountability in far-reaching supply chains.

This way or the other, Pakistan needs to expand its market to sustain its export, and for this traceability through integrated factories is an inescapable component.

While textiles have long been a major player in Pakistan’s economy, approximately 80% of firms still operate in a non-integrated structure. Nevertheless, the industry successfully exports 70% of its total output.

In the integrated sectors, each participant contributes to the value addition of textile goods. The paradox of a long-standing economic powerhouse with predominantly non-integrated factories highlights both the resilience and challenges encountered by the Textile Value Chain (TVC) in Pakistan.

According to the records of the Textile Commissioner’s Organization, the textile sector comprises 408 units, including 40 composite and 368 spinning units. Together, these units house 13.414 million spindles and 140,000 rotors, with 9.5 million spindles and 112,600 rotors currently operational. The reported capacity utilization rates for spindles and rotors during July to March in fiscal year 2023 are 69.33 percent and 71 percent, respectively.

Pakistan is the fifth largest producer, third largest consumer and 4th largest exporter of cotton yarn in the world; however, the average size of spinning mills in Pakistan is comparatively smaller than the global standard, rendering them less competitive, particularly with small spinning units lacking modern technology and producing yarn counts below global market demands.

Integrated textile factories offer several advantages that contribute to their operational efficiency and product quality. Firstly, they achieve cost efficiency through economies of scale. They control the entire production process from raw materials to finished products, thereby reducing overall costs, especially through the avoidance of turnover tax at each stage.

Secondly, integration provides better control over the supply chain, ensuring efficient and streamlined operations. This leads to consistent quality throughout the production process, as integration allows for rigorous quality control measures. Additionally, the interconnected nature of integrated factories facilitates easier traceability, promoting accountability for each stage of production.

However, it’s important to acknowledge the disadvantages of integrated facilities as well. Firstly, establishing and maintaining such factories can be capital-intensive. Secondly, there’s a risk concentration issue, as a failure or disruption at one stage can significantly impact the entire production process. Lastly, integrated factories may have limited flexibility in adapting to market changes or technological advancements due to their comprehensive and interconnected nature.

In the context of multistage turnover tax, which is levied on the complete value of a product during each transition in the production and distribution process, non-integrated factories face increased gross taxes compared to their integrated counterparts.

This discrepancy arises from the unique tax structure in non-integrated industries, imposing a 1.5% turnover tax at each production stage. Consequently, as a product advances through multiple factories, cumulative taxation occurs. For example, if processed in four factories, the total turnover tax would be 6% (1.5% + 1.5% + 1.5% + 1.5%). The cumulative effect of turnover taxes, being non-recoverable in nature, leads to an increased cost for the final product. This dynamic renders the non-integrated sector less competitive, ultimately diminishing profits.

Moreover, sales tax collection mechanisms vary between integrated and non-integrated factories. Integrated factories often benefit from a sales tax advantage due to comprehensive reporting throughout the entire production process, while non-integrated units suffer in a reduced transparency, resulting in a diminished refund of sales tax at the final export stage (documented by the World Bank).

According to IMF reports, the inclusion of certain cost elements into the product price, facilitated by the sales tax capture refund on exported goods from non-integrated factories, renders the final product less competitive. This complexity in the tax landscape underscores the intricate dynamics influencing the competitiveness and operational efficiency of both integrated and non-integrated industrial entities.

The imposition of duties on raw materials exacerbates challenges for Small and Medium-sized Enterprises (SMEs), particularly as they struggle to avail duty-free benefits in the export duty structure. While large, well-integrated firms can take advantage of duty exemption schemes for exporters, smaller enterprises face difficulties utilizing these tools due to the complexity of application processes.

Consequently, SMEs find it challenging to compete, as these duties significantly inflate production costs throughout the manufacturing process, creating a barrier to competitiveness. Duty-related challenges not only limit the potential for innovation but also obstruct SMEs from aligning with the dominant global trends, such as that of MMF, which holds a 70% share in global trade. This hampers their ability to offer cost-effective products and contributes to the existing textile trade imbalance in Pakistan.

Access to credit presents another notable distinction. Financial institutions naturally consider SMEs as riskier due to their smaller size, limited track record, and insufficient collateral. Consequently, SMEs face difficulties in obtaining loans or credit on favourable terms, often lacking the necessary collateral to meet the criteria set by traditional lenders. Integrated factories, on the other hand, enjoy potentially easier access to credit, thanks to their more comprehensive and stable business model.

“For example, SMEs could not benefit from the Long-Term Financing Facility (LTFF), designed for export-oriented projects with specified annual export values. This exclusion highlights potential challenges for non-integrated units to access certain financial incentives, paralleling the situation observed with the Export Refinance Scheme (EFS), where specific commodities, including raw cotton and various yarn types, are placed on the negative list, thereby restricting eligibility.”

Flexibility is a key aspect worth noting, particularly in integrated textile industries, where importing for re-export can enhance efficiency and ensure a steady supply of raw materials. It’s an important consideration, albeit one that may heighten dependence on foreign suppliers. In contrast, non-integrated industries, might prioritize domestic sourcing for better control. However, when these non-integrated industries engage in importing for re-export, they could encounter coordination challenges.

Lastly, traceability in the Pakistani textile industry varies. Integrated factories benefit from easier traceability due to the centralized nature of their production process, while non-integrated factories may find traceability more challenging due to the involvement of multiple entities in different stages of production.

On the other hand, non-integrated textile factories offer several advantages, most notably specialization. By focusing on specific stages of the production process, these factories can achieve a high level of expertise and efficiency in their chosen areas which also results in them being less energy intensive.

This focused approach allows for targeted resource allocation, contributing to a more sustainable and energy-efficient manufacturing model. The model also allows for increased flexibility, enabling quick adaptation to market demands and technological advancements. Additionally, the distribution of risks across different stages mitigates the impact of failures, enhancing the overall resilience of non-integrated factories.

The discourse on integrated vs non-integrated textile units is also important in terms of sustainable practices. The impact of processes like picking, transportation, and ginning on cotton quality is particularly relevant here. Integrated units, have the potential to implement more coordinated and sustainable practices across picking, transportation, and ginning.

This comprehensive approach allows for better control over the entire supply chain, leading to improved cotton quality and reduced environmental impact. In contrast, non-integrated units face challenges in maintaining consistent and sustainable practices throughout the entire cotton processing cycle.

Addressing sustainability concerns in picking, transportation, and ginning becomes imperative for both integrated and non-integrated units in Pakistan, emphasizing the industry’s need to adopt eco-friendly methods and ethical sourcing practices to ensure the production of high-quality and environmentally responsible textiles.

Non-integrated textile factories face severe challenges. Coordination and communication hurdles between different entities involved in the production process can lead to inefficiencies. The dependency on external suppliers introduces risks related to variations in material quality and delivery timelines.

In addition, higher transaction costs may accrue due to the need to manage relationships with multiple suppliers and entities. Pakistan’s standalone spinning units are increasingly becoming incompatible with the competitors. Globally, textile industry enterprises are moving towards full or partial integration, emphasizing a shift to value-added processes as a vital survival strategy.

To remain competitive and relevant in the evolving textile sector, Pakistan should align itself with this trend. The imperative for standalone spinning units to integrate and diversify their offerings, including high fashion garments and other value-added products, is highlighted by the significant difference in export potential between integrated and non-integrated units. Integration is not just a necessity but a crucial imperative for survival in the competitive landscape.

Pakistan’s textile sector, with 408 units and challenges in small spinning units, leans towards non-integration, emphasizing the need for addressing issues like outdated technology and credit access. In contrast, Bangladesh’s textile industry, represented by the Bangladesh Textile Mills Association (BTMA) overseeing 510 yarn manufacturing mills and 901 fabric manufacturing mills, demonstrates a higher level of integration, fostering collaboration across different stages.

Meanwhile, India’s textile landscape, marked by over 3400 mills and an extensive capacity, indicates a substantial degree of integration.

In conclusion, the imperative for an integrated track and trace system within Pakistan’s textile value chain (TVC) is underscored by its pivotal role in shaping the future of this critical industry. The current landscape, characterized by a significant yet limited number of integrated textile factories, emphasizes the necessity of integrating non-integrated facilities, particularly Small and Medium-sized Enterprises (SMEs). This strategic shift is paramount to fully unlocking the potential offered by the GSP+ status and expanding into untapped markets, such as the European sector for Man-Made Fibers (MMF).

A positive initiative by the Government of Pakistan is the establishment of the National Compliance Center, aimed at enhancing labour compliance, social responsibility, and environmental standards. In collaboration with the Ministry of Commerce, this initiative is the first of its kind in Pakistan and has garnered support from political leaders, industry representatives, and international development partners, including the ILO (International Labour Organization).

The center adopts a cluster approach, addressing various industry concerns such as traceability, sustainability, and quality assurance. This development signals a pivotal step in restructuring business practices, compelling SMEs to comply with the NCC for improved traceability and adherence to labour and environmental standards.

While this step addresses the issues of labour compliance, social responsibility, and environmental standards to some extent, it doesn’t explicitly tackle the factor of profitability between integrated and non-integrated industries for the further expansion of Pakistan’s export base. However, more comprehensive measures and strategic policies are required to bridge this gap and foster sustained growth in the export sector.


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December 26, 2023

By Shahid Sattar | Muhammad Mubasal

Energy is pivotal for growth, yet Pakistan’s situation is grim. Despite possessing abundant resources, its energy landscape is plagued by inefficiencies and distorted consumption pattern. This complex issue is multifaceted that intertwines to shape the current energy paradox.

The energy to GDP conversion rate serves as a key metric to gauge an economy’s energy efficiency and measure how effectively a country uses energy to generate output and income. A higher rate in this regard means the country is more efficient at converting energy into economic output.

To put things into perspective, Bangladesh’s conversion rate of $6.13 million/ktoe is twice that of Pakistan’s, which stood at $3.3 million/ktoe. This significant difference underscores Bangladesh’s superior energy efficiency and effective allocation of resources, setting a regional benchmark.

Interestingly, a key factor in Bangladesh’s higher efficiency is the declining energy demand within its industrial sector. This trend indicates greater energy efficiency in industrial processes, contributing to the country’s overall energy performance.

 

A further analysis reveals that the largest share of Bangladesh’s gas consumption, about 40%, is by its power sector, followed by industry (19%) and captive power (18%), with domestic consumption trailing at 13%.

The pattern shifts for electricity, where the domestic sector emerges as the primary consumer, accounting for 52%, followed by commercial 25% and industrial use 13%.The gas, being a more affordable energy source, is allocated to industries, while the more expensive energy sources are directed towards households. This approach achieves a balance and results in a higher conversion rate compared to regional counterparts.

Meanwhile, India, although not leading in the conversion rates, has demonstrated noteworthy progress in its energy efficiency.

The country’s GDP per unit of energy used increased from $2.30 million/ktoe in 2010 to $2.94 million/ktoe in 2022. This improvement can be partly attributed to India’s service sector-led economic growth, which is inherently less energy-intensive than industrial sectors.

However, a large portion of India’s energy—approximately 41%—is consumed by its industry, compared to 26% for domestic use. Despite India’s effective resource allocation, its transport sector, marked by high inefficiency, is a major contributor to the country’s overall low energy efficiency, consuming a substantial share of its energy resources.

Pakistan, for its part, has seen improvement in its energy conversion rate, increasing from $2.8 million/ktoe to $3.3 million/ktoe in 2022. This increase suggests a growing economic value from its energy use, driven by sectors such as manufacturing, agriculture, and services.

However, Pakistan’s energy consumption pattern poses a unique challenge. A large portion of its electricity, around 46%, is consumed by its non-productive domestic sector, while the industry accounts for 28%. When it comes to natural gas, the domestic sector again has a higher consumption rate at 20%, compared to the industrial sector’s 18%. Pakistan has the most inefficient allocation of resources among the countries.

For instance, gas, a more affordable energy source, is predominantly supplied to households, which contribute the least to the GDP.

In contrast, industries receive more costly energy forms and incur higher expenses due to subsidies provided to households for energy cost reduction. Moreover, the policy of providing energy to households at very low prices strains the industries through a higher tariff which, as a consequence, includes cross-subsidy, adversely affecting their competitiveness in the global market. Despite having a lower industrial energy consumption than India, Pakistan’s industry exhibits greater efficiency.

Further compounding the issue is Pakistan’s heavy reliance on fossil fuels, which account for 64% of its total energy, hydropower contributes 27%, and the remaining 9% comes from other renewables and nuclear power. This reliance on fossil fuels not only makes energy less affordable but also exposes the country to vulnerabilities in energy supply disruptions.

Bangladesh faces a similar dilemma. Due to its high reliance on fossil fuels to generate electricity, it is also facing the issue of energy affordability. The country’s energy portfolio is composed of 99% fossil fuels, with dominant contribution of natural gas at 67%. However, its energy affordability problem is being partially compensated by its gains in energy efficiency.

In stark contrast, India’s approach to energy significantly differs, with a strong focus on renewable sources, setting it apart from the fossil fuel reliance prevalent in Pakistan and Bangladesh. By investing in renewable energies like solar and wind, India has achieved more cost-effective energy solutions and competitive market prices, thus carving a unique niche for itself in the regional energy sector.

The analysis of energy efficiency and energy consumption’s impact on economic growth brings to light the importance of formulating energy policies that are specifically designed to suit the unique circumstances of each country.

For Pakistan, improvement in the industrial sector’s energy efficiency reveals a competitive response to global market pressures, in stark contrast to the domestic sector’s apathy towards energy conservation.

A consequence of ineffective and below-cost energy pricing strategies leading to severe misallocation of resources. It’s imperative to acknowledge the substantial role of energy prices in diminishing energy intensity via efficiency improvements.

Ration-alizing energy prices is crucial to incentivizing energy conservation and efficient use through, for instance, adoption of more efficient appliances. As energy prices are rationalized, any increase in prices should be counterbalanced by improved energy efficiency. Hence, it is urgent and essential to aggressively implement pricing policies that will curb the excessive energy demand of the domestic sector.

Gas appliances and any inefficient products in the market are a direct threat to energy conservation and their use must be regulated, including through benchmarking of energy efficiency.

The government must enforce minimum energy performance standard (MEPS) and stringent labeling regulations. No appliance should be allowed to enter the market if it does not meet minimum efficiency standards.

This is particularly crucial considering that a significant portion of domestic electricity in Pakistan, over 67%, is consumed by fans and lighting that do not meet modern energy efficiency standards.

This is not just a recommendation but a critical necessity. Such legislation will steer consumers decisively towards energy-efficient products, drastically cutting down the domestic sector’s energy consumption.

In line with these efforts, in 2023, the government took a decisive step by banning the manufacturing and sale of old, high electricity-consuming bulbs and traditional fans as part of its broader energy-saving initiative. These actions are targeted at achieving significant energy savings, potentially up to 9300MW.

Adhering to the new MEPS, newly manufactured fans are now designed to consume only 60W of electricity, which is half of what traditional fans used, while the energy consumption of light bulbs has been capped at 12W.

The shift towards energy-efficient appliances must be urgently mandated, particularly replacing gas geysers with solar alternatives.This measure alone can save up to 500 MMcfd of gas, thereby providing much needed relief to the balance of payments by reducing the import bill by over $1 billion per annum.

Additionally, upgrading gas burners is critical for further domestic energy savings, offering a potential gas conservation of 200 MMcfd at a one-time cost of Rs 2 billion. The proven success of solar water heating systems, like those in Nathiagali conserving 500 tons of fuelwood annually, illustrates the urgent need for a nationwide adoption.

Moreover, key actions like implementing mandatory annual vehicle efficiency testing and effective national load management can significantly optimize energy consumption patterns.

“For the long term, one of the pivotal steps towards achieving this is the immediate implementation of the Pakistan Building Code. This would ensure energy-efficient practices in construction, leading to long-term energy savings. Moreover, Pakistan’s energy policy, which aims for a higher proportion of renewable energy in its power mix — with a target of 30% from wind and solar by 2030 — and the planned expansion of less carbon-intensive energy sources, also signifies a move towards greater energy efficiency.”

Furthermore, industries and companies can play a crucial role in energy conservation. Implementing an Energy Management System (EMS) allows companies to monitor energy consumption data in real-time and identify opportunities for energy savings.

Another effective approach is the use of Building Automation System (BAS), which optimizes heating, cooling, ventilation, lighting, and other systems in offices and industries. It uses advanced technologies like AI and machine learning to identify energy consumption patterns and implement energy-efficient measures. For instance, the Ministry of Energy and Mineral Resources in Indonesia saved 318,700 KWH in 2019 by implementing BAS in their buildings.

In light of these recommendation, Pakistan’s journey towards resolving its energy paradox requires a multifaceted approach. Given its limited resources, the affordability of energy emerges as a looming challenge. Pakistan’s path to economic stability and growth is intricately linked to enhancing its energy efficiency.

The country must urgently address the misallocation of energy resources, incentivize efficient energy use, and adopt innovative technologies and practices across all sectors. By prioritizing energy efficiency, not only can Pakistan meet its economic goals it will also contribute to global environmental sustainability.


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December 18, 2023

By Shahid Sattar | Amna Urooj

In the expansive arena of economic governance, Ludwig von Mises’ profound assertion resonates: “If one rejects laissez-faire on account of man’s fallibility and moral weakness, one must, for the same reason, also reject every kind of government action.” Amidst this philosophical backdrop, Pakistan grapples with a complex array of economic challenges, demanding a sophisticated and nuanced approach to trade policies.

A disconcerting array of economic indicators paints a grim picture. Over the past five years, the budget deficit has ballooned from 5.8% to a concerning 7.7% of the GDP. The tax-to-GDP ratio has witnessed a precipitous drop from 11.4% to 9.2%, accompanied by a sharp decline in development spending from 4.1% to 2.3%. Public debt, a looming specter, now constitutes a formidable 74.3% of the GDP.

Stark income inequality persists, with the top 10% commandeering 44% of the national income, while the bottom 50% languishes with a mere 16%, resulting in a glaring per capita income ratio of 14:1. In official records, the unemployment rate has risen significantly, climbing from 6.9% in 2018-19 to a concerning 9.5% in 2022-23, affecting more than 7 million workers. Unofficial figures, however, paint a grimmer picture, indicating that the actual unemployment rate may surpass 20%.

Poverty, estimated at 34% in 2018-19, is projected to reach a staggering 46% by 2022-23, affecting over 20 million idle youth. This crisis is further exacerbated by a real wages slump of over 20% in the last two years. The tax burden, distributed unevenly across sectors, contributes to an overall tax incidence of under 10% of the GDP, with a UNDP report suggesting elite capture causing a loss of over 2.5% of the GDP.

 

The industrial contribution to the economy is currently very low, and it has experienced a decline in recent years, with strong indications pointing towards widespread deindustrialization across the economy.

The contraction of industrial production during the 2022-23 economic crisis, intensified by economic volatility, escalating energy costs, inflation, and exchange rate depreciation, has precipitated the permanent closure of numerous firms. This impact is particularly pronounced in the textile and apparel sector, evident in a significant year-on-year decline in power consumption for firms on both LESCO and MEPCO networks. These challenges accentuate the pressing need for Pakistan to embrace an export-centric culture, a pivotal shift considering the country’s gross external financing requirements, which are poised to exceed $25 billion annually for the next five years.

Protectionism, as a set of policies aimed at shielding domestic industries from foreign competition through tools like tariffs, quotas, subsidies and non-tariff barriers, is a focal point of discussion. However, the pervasive call for import substitution as a solution to the ongoing economic crisis reveals a fundamental misunderstanding. The crux lies in the basic premise of international trade, founded on the principle of comparative advantage. In a simplified two-goods-two-economy scenario, each economy optimally produces and exports what it excels at, extending this principle to the diverse goods and economies in the real world.

Economies, as a rule, should export what they excel in producing and import what they lack comparative advantage in. The current discourse in Pakistan, advocating for benefits to “import substitution” industries to reduce imports and enhance the Balance of Payments (BoP), is flawed. Import substitution is inherently unproductive and internationally uncompetitive. Granting benefits and protection to these industries perpetuates inefficient production, leading to elevated prices for domestic consumers and wasteful resource utilization.

The genuine solution lies in fostering export-led growth, where all industries oriented towards exports, bolstering foreign earnings to offset the impact of imports and maximizing economic advantages.

In this strategy, the focus should narrow down to a few key sectors where the economy boasts a comparative advantage. Simultaneously, efforts should concentrate on creating localized backward and forward linkages within these sectors. This approach stands in stark contrast to the impractical notion of attempting to localize the production of an exhaustive range of goods under the umbrella of “import substitution.”

In 2022, Pakistan’s trade policies exhibited a subtle yet complex stance on tariffs, with an exceptionally high applied tariff rate of 98.6% (see table below). According to the WTO’s World Tariff Profile 2023, this rate underscores the challenges and potential adverse consequences of protectionist measures. Such a high applied tariff rate can act as a significant trade barrier, leading to increased costs for imported goods. This, in turn, may have detrimental effects on consumers, businesses, and the overall efficiency of the economy. The focus on applied rates in this analysis aims to shed light on the immediate and tangible impacts of protectionist trade policies. Particularly, the agricultural sector faces comparatively higher tariffs with a simple average applied rate of 10.3%, while non-agricultural products face a rate of 13.1%. Trade-weighted averages for agricultural (8.7%) and non-agricultural (6.4%) goods further highlight variations within different product categories.

Examining specific product groups, the tariff analysis unveils limited duty-free imports and a prevalence of applied tariffs falling within the 15% to 25% range, particularly for non-agricultural products. Distinct variations emerge among product categories, with higher average duty rates for non-electrical and electrical machinery, in contrast to lower rates for petroleum and chemicals. Major trading partners for both agricultural and non-agricultural products include the European Union, China, the United Kingdom, and the United States.

The analysis of Most Favored Nation (MFN) applied duties in Pakistan, India, and Bangladesh sheds light on the implications of protectionist measures on the Pakistani economy. While Pakistan generally maintains lower average duties, indicative of a relatively open trade policy, the impact of protectionism extends beyond duty rates to encompass non-tariff barriers and subsidies. Striking a balance is crucial; lower duties in sectors where Pakistan has a comparative advantage, such as cotton, suggest the potential benefits of an open trade approach. However, protectionist measures, if not carefully calibrated, could lead to inefficiencies, reduced competitiveness, and missed opportunities in global markets. The key lies in fostering an environment conducive to export-led growth, protecting domestic industries judiciously, and ensuring overall economic efficiency for sustained growth.

 

Debates are useless without factual concepts, and to begin with, Pakistan’s economy has not been performing well. Foreign exchange reserves started at $4.5 billion at the beginning of the current financial year, and the national currency, the rupee, depreciated by over 81% in the last two years. External debt stands at nearly $128 billion, constituting almost 43% of the GDP. Cumulative external financing requirements, net of likely rollovers, are projected to exceed $55 billion from 2023-24 to 2025-26.

The World Bank, in its 2023 feature story titled “Protectionism Is Failing to Achieve Its Goals and Threatens the Future of Critical Industries”, expresses heightened concerns regarding the repercussions of protectionism on global trade. Despite escalating trade tensions and geopolitical challenges, global trade showcases remarkable resilience, an observation that gains significance as protectionist measures become more prevalent, prompting discussions about deglobalization. This evolving landscape unveils three distinct paradoxes in global trade, each with implications that resonate with Pakistan’s economic context:

I. China’s increased centrality amid the US-China trade war

II. The growing significance of global value chains:

Contrary to expectations, disruptions such as the US-China trade war and the COVID-19 pandemic have failed to weaken global value chains. Instead, these chains have increased in significance, challenging predictions and underlining their enduring importance in global trade. For Pakistan, actively participating in global value chains, especially in sectors like textiles, becomes even more crucial as the paradox emphasizes the continued integration and relevance of these chains in the face of protectionist headwinds.

III. Firms persist in global connections despite challenges

These paradoxes underscore the dynamic nature of global trade in the context of protectionism and highlight potential strategies for Pakistan to navigate these challenges. Increased international openness and cooperation would better achieve the goals currently pursued through protectionist measures.

The World Bank also emphasizes the need for a new consensus on global rules to address international tensions and benefit all countries. The problem is not excessive globalization but excessively narrow regulation, advocating for a global set of rules covering various aspects beyond trade.

 

Recognizing the failure of protectionism and import substitution approaches, the emphasis on export-led growth becomes imperative. The need to increase foreign exchange earnings is highlighted as an alternative to falling deeper into the debt trap. Fostering an open and competitive international trade environment is essential for stabilising industries, encouraging growth, and creating opportunities for market diversification. Free trade, by fostering global economic cooperation, can mitigate the impact of economic downturns on individual countries by providing opportunities for market diversification, access to resources, and the possibility of stabilizing industries through increased exports and market competitiveness.

Trade liberalization in developing countries, like Pakistan, sparks debate. Advocates argue it boosts efficiency, expands markets, and fosters competition, contributing to economic growth. Theoretical models support this, but critics highlight uneven benefits and the role of domestic policies. Empirical evidence from scholars like Kruger, Taylor, Robinson, Barro and Martin, Romer, Chamberlin, Dollar and Karray, Vallumea, and Ahmad suggests trade openness enhances efficiency, productivity, and technological progress, emphasizing the importance of human capital and supportive policies. Overall, the literature underscores the need for extensive trade liberalization for effective economic growth in developing nations.

Case Study 1: Tariffs on polyester staple fiber in the textile industry

Pakistan’s textile industry, historically a significant contributor to the economy, has faced challenges, witnessing a decline in contribution and employment trends. The economic crisis in 2022-23, marked by high volatility, rising energy costs, and exchange rate depreciation, led to the closure of several textile firms, with a substantial decrease in power consumption across the sector.

Export-led growth is crucial for Pakistan, evident from the failure of protectionism and import substitution strategies.

The imposition of tariffs and protectionist measures on polyester staple fiber (PSF) in Pakistan has adversely affected the textile industry, impeding its global competitiveness. Despite the increasing global demand for synthetic fibers, particularly polyester, Pakistan’s textile industry has been slow to shift from conventional cotton, limiting its share in the expanding market for synthetic textiles. Garment exports still favor cotton at an 80:20 ratio, with only a quarter of spinning machines utilizing man-made fibers.

Moreover, the concentration of global polyester staple fiber production in countries like China, India, and Southeast Asia, which dominate synthetic textile exports, highlights Pakistan’s limited participation in the MMF (man-made fiber) apparel market. Protectionist policies and the absence of a fully integrated chemical industry for synthetic polymers hinder Pakistan’s progress in this sector. Adequate raw material availability could have boosted the country’s share in the global synthetic textiles market, but domestic policies influenced by protectionist measures have impeded tapping into this potential.

To boost Pakistan’s textile industry, the 12% customs duty on Polyester Filament Yarn (PFY) should also be eliminated, ensuring no import duty on this crucial raw material. Aligning withholding tax (WHT) and abolishing the 3% value addition tax (VAT) at the import stage for PFY is vital. The current policy, with total import duties reaching 20%, including antidumping duty, hampers PFY industry growth and raises costs for end-users. Additional Regulatory Duty exacerbates challenges, underscoring concerns about protectionist measures impacting the textile sector. Creating a competitive and open market is essential for the industry’s success.

On the other hand, to enhance its global competitiveness, Pakistani manufacturers must build industry capacity for producing textile articles based on man-made fibers, recognizing the growing demand in the global market for synthetic or man-made fibers (MMF) over traditional cotton articles. While the input is duty-free for qualifying firms under certain schemes, a significant 80% fail to meet the criteria. However, these non-qualifying firms, despite lacking duty exemptions, play a crucial role as technology capacity incubators, especially in the absence of Polyester Staple Fibre (PSF), fostering cultural development. Unfortunately, Pakistan has struggled to fully leverage benefits from initiatives like GSP+ due to an economy heavily reliant on textiles and a lack of awareness and interest among traders, impeding the country’s ability to exploit the full advantages of such programs. It is also to be noted that Pakistan misses out on around 70-80% of the export lines to Europe where the MMF is heavily concentrated, indicating a lack of full utilization of GSP+ benefits.

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Case Study 2: Protectionism in agriculture

Protectionist policies in Pakistan’s agriculture sector, intended to bolster local farmers and ensure food security, have faced limitations in achieving their goals. Contrary to expectations, the academic text indicates that the gains from agricultural trade liberalization surpass those from protectionism. Many studies, such as the one conducted by Ahmad, Khan, and Mustafa (2022), suggest that protectionist measures have not significantly benefited Pakistani farmers, with richer rural households reaping more substantial rewards under trade liberalization. Concerns about income distribution among vulnerable populations, particularly poor rural households, have arisen, challenging the assumption that protectionism leads to improved food security.

Moreover, the implications of protectionism extend to international trade relationships. While protectionist measures aim to shield domestic agriculture, many studies such as the one conducted by Ahmad, Khan, and Mustafa (2022), point out that exposing the sector to foreign competition through liberalization may result in concerns about market access and potential losses for less-developed countries. The broader economic impact is underscored by the conflict among empirical studies regarding gains from agricultural trade. Despite marginal economic growth, protectionist policies in Pakistan have not effectively addressed income inequalityas they often benefit select industries and contribute to higher prices, disproportionately impacting lower-income individuals and hindering overall economic growth and job creation, emphasizing the need for a distinct approach that considers welfare, income distribution, and global trade dynamics when evaluating the efficacy of trade policies in the agriculture sector.

Insights from both case studies affirm the documented inefficiencies stemming from protectionism, particularly in sectors such as agriculture, automobiles, polyester staple fiber, and glass.

The textile industry, the cornerstone of Pakistan’s economy, faces decline amid economic challenges, highlighting the imperative shift towards an export-centric approach. While Case Study 1 extols the benefits of free trade for sectors like textiles, Case Study 2 underscores the limitations of protectionist policies in agriculture, revealing that trade liberalization offers more significant gains than protectionism, especially for poorer rural households.

“The broader implications on income distribution and international trade relationships emphasize the need for subtle yet effective approaches that consider welfare, income equality, and global trade dynamics in evaluating the efficacy of trade policies in these critical sectors.”


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December 13, 2023

By Khalid Mustafa

ISLAMABAD: The country’s power sector has lost billions of rupees in revenue as high electricity tariffs have cut the consumption of export-oriented industries by up to 49 percent in some areas, an industry group said on Tuesday.

The All Pakistan Textile Mills Association (APTMA) said in a letter to the energy minister that the power consumption of textile and apparel firms had declined by 49 percent on the Lahore Electric Supply Company (LESCO) network and 36 percent on the Multan Electric Power Company (MEPCO) network in October 2023, compared to the same month last year.

The consumption has fallen after the government increased the power tariff to 14 cents per unit for export industries – the highest in the region – and made them uncompetitive in the global market, APTMA said.

The power sector revenue from these industrial units was over Rs1.1 billion less on the LESCO network alone in October 2023, the letter said, adding that the actual losses were likely to be much higher.

“This has nullified the argument that any substantial increase in power tariffs will increase the power sector’s revenue collection and reduce capacity payments for all consumers. If the status quo is maintained, industrial production and electricity consumption will continue to decrease, which will further worsen the economic situation.”

The letter suggested to Energy Minister Mohammad Ali that the only way to avert this crisis is to provide the export sector with power tariffs that exclude cross-subsidies, stranded costs, and other economic inefficiencies.

APTMA argued that following the withdrawal of regionally competitive energy tariffs and power tariff rebasing earlier this year, power tariffs for export-oriented industrial consumers increased from 9 cents per unit to 14 cents per unit, which is almost twice the average prevalent for export sectors in regional economies.

The letter mentioned that high tariffs have caused export firms to be priced out of international markets and lose export orders to competitors with significantly lower power tariffs in regional economies.

APTMA’s analysis suggests that above a threshold of 12.5 cents per unit, export-oriented firms are increasingly forced towards closure and the export sector is crowded out in due course. At the same time, domestic industries also face weak demand as rampant inflation has eroded consumers’ purchasing power and this has in turn lowered manufacturing activities and therefore industrial power consumption across the board.

“Declining consumption of electricity, increasing capacity charges, and decreasing revenue are causing power tariffs to increase continuously, as also evidenced by the Quarterly Tariff Adjustment for the first quarter of ongoing FY24, which will cause consumption to decline even further.”

APTMA also argued that in addition to direct implications on power sector revenue, there are also significant implications for the entire economy. “Exports went down 15 percent in November 2023 compared to the same period last year. If the energy prices remain regionally uncompetitive, any recovery to pre-crisis levels of exports can be ruled out.”

“The country’s economy will continue to face balance of payments and exchange rate pressures, which will further add to debt servicing costs and other fiscal challenges, fuel inflation, and rule out a decrease in interest rates for the foreseeable future and continue to weigh down on industrial and economic growth.”

The letter also pinpointed that as the slowdown in industrial activity worsens, direct and indirect employment in upstream and downstream sectors will be reduced even further, affecting millions of livelihoods.


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December 13, 2023

By Mushtaq Ghumman

ISLAMABAD: Electricity consumption of the textile sector in the jurisdictions of Lahore Electric Supply Company (Lesco) and Multan Electric Power Company (Mepco) has declined massively due to higher tariffs and the withdrawal of concessional tariffs.

In a letter to Minister for Power, Muhammad Ali, All Pakistan Textile Mills Association (Aptma), has stated that following the withdrawal of regionally competitive energy tariffs and power tariff rebasing earlier this year, power tariff for export-oriented industrial consumers increased from cents 9/kWh to almost twice the average prevalent for export sectors in regional economies.

According to the textile sector, it has repeatedly indicated throughout the year that high tariffs have caused firms to be priced out of international markets and lose export orders to competing firms in regional economies with significantly lower power tariffs.

APTMA assails ‘unprecedented’ gas tariff hike

“Our analysis suggests that above a threshold of 12.5 cents/kWh, export-oriented firms are increasingly forced towards closure and the export sector is crowded out in due course,” said, Shahid Sattar, Executive Director Aptma in his letter.

He said that at the same time domestic industries also face weak demand as rampant inflation has eroded consumers’ purchasing power and this has, in turn, lowered manufacturing activities and therefore industrial power consumption across the board.

In October 2023, for instance, power consumption of APTMA member firms declined by 49 percent on the Lesco network and 36 percent on the Mepco network, year-on-year.

The negative impact of higher power tariffs on volumetric consumption has more than offset any revenue gains from the price effect such that the absolute impact of higher power tariffs on power sector revenues has been negative.

Just on the Lesco network, power sector revenue from Aptma member firms was over Rs 1.1 billion less in October 2023, compared to the same month last year. Actual losses are likely to be much higher because had the power tariff remained at cents 9 per unit, power consumption would have increased as overall economic conditions showed an improvement starting FY24.

Moreover, this is not a one-off phenomenon as power consumption of textiles and apparel firms has been on a downward trajectory since the withdrawal of RCET earlier this year and is expected to decline even further in the coming weeks and months.

As it stands, declining consumption, increasing capacity charges, and declining revenue are causing power tariffs to increase continuously, as also evidenced by the Quarterly Tariff Adjustment for FY24Q1, which will cause consumption to decline even further.

These short-sighted policies have given rise to a vicious and never-ending cycle of decreasing consumption and increasing power tariffs that the country is forever stuck in. The increase in power tariffs is having the opposite impact from what was intended and a fast-track policy review on this issue is urgently required.

In addition to direct implications on power sector revenue, there are also significant implications for the entire economy. Exports for November 2023 were down 15% compared to the same period last year. If energy prices remain regionally uncompetitive, any recovery to pre-crisis levels of exports can be ruled out.

As such the economy will continue to face balance of payments and exchange rate pressures, which will further add to debt servicing costs and other fiscal challenges, fuel inflation and rule out a decrease in interest rates for the foreseeable future, and continue to weigh down on industrial and economic growth.

As the slowdown in industrial activity worsens, direct and indirect employment in upstream and downstream sectors will reduce even further, affecting the livelihoods of millions of households.

In turn, these effects will again increase various power sector costs such as capacity charges and fuel prices, further decrease power consumption, and necessarily increase power tariffs for all consumers based on how the current process is designed.

“The only way to avert this crisis is by providing the export sector with power tariffs that exclude cross-subsidies, stranded costs, and other economic inefficiencies.

This will allow the industry to become competitive again, resume manufacturing activities, significantly increase industrial power consumption, and provide gainful employment opportunities for millions across the country,“ said Shahid Sattar.

The increase in volumetric consumption will greatly offset any price effect from removing the cross-subsidy, resulting in a net increase in power sector revenue.


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November 27, 2023

By Shahid Sattar | Absar Ali

On Tuesday 28th November, power regulator Nepra will hold a public hearing on the Discos’ petitions to determine a ‘Use of System Charge’ for power wheeling under B2B contracts. A seemingly routine matter, this determination will, however, define Pakistan’s economic trajectory for years to come.

For context, the National Electricity Policy allows for a Competitive Trading Bilateral Contract Market (CTBCM) where bulk power consumers can directly purchase electricity from competitive power producers and use the government’s transmission and distribution system to transport it from the point of generation to the point of usage. The Use of System Charge (UoSC) is the “price” such consumers must pay to use the transmission and distribution system.

The export sector has long advocated for this to overcome prohibitive power tariffs that render manufactured exports internationally uncompetitive and are a barrier to not just export growth but also foreign and domestic investment in export-oriented activities.

Pakistan’s power sector is characterized by a single-buyer model where the government purchases electricity from different power producers and distributes it to final consumers at self-determined prices.

The grave issue with these prices is that in addition to the actual cost of generation and service, they include various economic inefficiencies like inter- and intra-DISCO cross-subsidies that make power tariffs for industrial consumers in Pakistan almost twice the average tariff for competing firms in the region (Figure 1).

To achieve regionally competitive energy costs ideally requires a separate power tariff category for exporters based on the actual cost of service, excluding all forms of taxation and other distortions. B2B power contracts with a UoSCat 1-1.5 cents/kWh to cover the transmission and distribution costs incurred by Discos can also achieve the same objective without any subsidies from the government.

If allowed, this would rid the export sector of prohibitive distortions in power tariffs and significantly boost export competitiveness.

Estimates suggest that annual exports could increase by up to $9 billion annually by facilitating closed production units to reopen and operationalizing additional capacity already installed under export financing schemes but sitting idle due to high energy costs. It will also create a favorable business environment to stimulate fresh investment in further expansion and upgradation of production capacity to add another $20 billion to annual exports.

In this regard, Nepra has solicited petitions from the DISCOs for the determination of the UoSC. What the DISCOs have proposed, however, can be described as preposterous at best(Table 1).

Table 1. DISCOs’ proposed UoSC for hybrid consumption.

============================================================================================
                            LESCO     FESCO     GEPCO     HESCO     IESCO     MEPCO    PESCO
============================================================================================
                                    Industrial B3 Consumers
============================================================================================
Energy Cost                 0.00                                    0.28      0.71      1.20
Capacity Cost               8.73      8.75      10.12     13.65     5.87      6.21     11.70
Transmission Charges        0.70      0.71      0.81      1.10      0.47      0.50      0.90
Distribution Charges        1.13      1.37      2.93      4.22      1.37      1.26      2.20
Total Applicable Costs      10.56     10.83     13.87     18.97     7.99      8.67     16.00
Impact of Losses            1.27      0.92                2.68      0.32      0.83      2.70
Total Cost of Service       11.83     11.75     13.87     21.65     8.31      9.50     18.70
Cross Subsidy               5.58      6.74      6.93      10.37     7.06      15.56     5.20
Proposed UoSCRs./kWh        17.41     18.49     20.80     32.02     15.37     25.07    23.90
Proposed UoSC cent/kWh      6.11      6.49      7.30      11.24     5.39      8.79      8.39
============================================================================================
                                    Industrial B4 Consumers
============================================================================================
Energy Cost                 0.00                                    0.07      0.09      1.23
Capacity Cost               8.58      8.53      10.12     16.93     6.14      7.00     12.62
Transmission Charges        0.69      0.69      0.81      1.36      0.56      0.56      1.02
Distribution Charges        0.88      0.66      2.93      2.70      2.03      0.79      1.93
Total Applicable Costs      10.15     9.88      13.87     20.99     8.80      8.44     16.81
Impact of Losses            0.26      0.16                0.62      0.08      0.11      0.40
Total Cost of Service       10.41     10.04     13.87     21.61     8.88      8.55     17.21
Cross Subsidy               7.40      9.50      7.35      10.34     7.25      16.58     6.81
Proposed UoSCRs./kWh        17.81     19.54     21.21     31.95     16.13     25.13    24.01
Proposed UoSC cent/kWh      6.25      6.86      7.44      11.21     5.66      8.82      8.43
============================================================================================
Rs. 285 = $1 assumed for conversion to US cents. 
Source: DISCOs’ petitions for determination of UoSC as published on NEPRA website
============================================================================================

Taking B3 industrial consumers as an example, the DISCOs propose a UoSC ranging from 5 cents/kWh to 11 cents/kWh. Not only is this around as much and in some cases higher than the average cost of generation and service at 9 cents/kWh in Pakistan, but also much higher than what firms in competing economies are paying for power generation, transmission, and distribution (see Figure 1).

What is even more appalling is that no basis or justification behind the application of cross-subsidies—mathematical or otherwise—has been provided, except by LESCO, which specifies that:

“Undoubtedly, the consumer price should reflect the real cost of the generation, transmission, distribution, and supply of electric power to allow the fullest recovery of the legitimate cost for the provision of the electricity. However, where the same is not possible for any reason whatsoever then the cost for the provision of electricity is recovered in a manner that the consumers who can pay the high cost pays for the high prices which supports the other consumers.

The eligible BPCs are the consumers of 1 MW or more of the power. Generally, such BPCs are the industries who actually pass on the costs.” (LESCO petition for UoSC determination, as available on the NEPRA website) Several points require emphasis:

First, this statement concedes that cross-subsidies paid for by industrial consumers are undefined and untargeted. It acknowledges that consumer prices should reflect the real cost of generation, transmission, and distribution, but when this is not possible “for any reason whatsoever” the cost is recovered through cross-subsidies.

This implies that the cross-subsidy is not necessarily directed towards lifeline or protected consumers as it has been made to believe. Rather, it is effectively a subsidy to the DISCO when and where it fails to conduct its most basic task of recovering the amount for which it has sold electricity for “any reason whatsoever”.

Second, the cross-subsidy is paid on the principle of “who can pay the high cost pays for the high prices which support the other consumers”. Apart from the obvious issue that DISCOs have no expertise or jurisdiction in deciding who can or cannot pay for the high costs, the indiscriminate application of cross-subsidies across all industrial consumers is in contradiction to this objective.

Third, the assumption that generally consumers who can pay the high costs are “industries who actually pass on the costs” is problematic in every conceivable manner.

Broadly, industries can be categorized into non-traded and traded sectors.

Non-traded sectors are those that cater to the domestic market. Firms in these sectors pass on the impact of power sector inefficiencies and the government’s own welfare obligations to domestic consumers at the cost of consumer welfare. Because the cross-subsidy is applied indiscriminately to all industries across the country, it is paid for by all consumers of any goods manufactured in Pakistan.

Effectively, this is an extremely inefficient and unequal form of taxation, much like sales tax, that is paid for in the same manner by rich consumers and poor consumers, those buying essential commodities or non-essential commodities, no matter what.

In the case of traded sectors, it is even more problematic. Unlike non-traded firms that receive heavy protection through import duties and other restrictions and, therefore, have the ability to pass on the impact of higher energy costs to consumers, export-oriented firms must compete in international markets where competition is fierce and on price.

These firms cannot pass on the impact of higher energy prices because consumers can simply substitute their products with those of competing firms in regional economies with lower energy costs and lower prices. For traded sectors like textiles and apparel, on which the entire economy depends to generate foreign exchange earnings — the shortage of which is the fundamental issue behind every economic crisis Pakistan has faced — cross-subsidies in power tariffs take the form of a tax that cannot be exported.

But this logic seems to be completely lost on our policymakers. It was reported in a newspaper on November 21st that the power division has shown a reluctance to propose to operationalize the CTBCM model because it would mean an end to the cross-subsidies that the power sector is extracting from exporters. Furthermore, the NTDC is seeking wheeling charges at Rs 27/kWh, which is actively “meant to fail the CTBCM model.”

So, to answer those who ask why exports have not increased despite substantial investment in the textile and apparel industry, it is because they are being held hostage by a power sector unable to sustain itself and bent on passing on its own inefficiencies to the rest of the economy. But at what cost?

As power tariffs have increased following the withdrawal of the Regionally Competitive Energy Tariffs regime, textile and apparel production has been reduced by over 50 percent and exports have plummeted. Repeated warnings that deindustrialization is imminent went unheeded to the point that in October 2023, monthly power consumption of textiles and apparel firms on the LESCO network stood at only 114GWh compared to 224GWh in October 2022—a decline of 49%. If the status quo is maintained only to balance the books in the short term, this trend will continue to the point where there will be no export sector left to extract cross-subsidies from.

It must be reiterated that the trajectory of our economy over the coming years hinges on this UoSC determination. Over the next 5 years, Pakistan’s gross external financing requirements—i.e., the difference between all expected inflows and outflows of foreign exchange—are projected at an average of $27 billion annually.

This is the number by which we must increase our annual exports if we are to service our debt and finance our imports without completely drowning in a debt trap in which we are already knee-deep.

“Allowing B2B contracts at a rate of 1-1.5 cents/kWh will provide the export sector with the necessary business environment to work towards this number. It will also facilitate exports in the long run by allowing industry to directly procure electricity from clean sources and achieve net zero emissions that are required to continue exporting to key Western markets beyond 2030.”

Exports cannot be held hostage by policy inaction. Disallowing B2B contracts with wheeling at 1-1.5 cents/kWh will be tantamount to committing economic suicide.


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November 20, 2023

By Shahid Sattar | Syed Absar Ali

The fundamental problem of our economy is that balance of payments crises and a perpetual risk of default have become the status quo.

This is because we import too much and export too little for the economy to be stable. Since FY04, our imports and exports have diverged so much that in FY22—during the run-up to the economic crisis—we imported 2.25 times what we exported, compared to 1.6 times in FY13 and 1.2 times in FY04 (Figure 1).

 

Instead of focusing on increasing exports and balancing our trade, we have relied on foreign remittances and external financing to fill the gap. Both increase the vulnerability of the economy to external shocks, and external financing comes with its own additional costs in the form of debt servicing and an implicit tradeoff on sovereignty when an economy inches closer to delinquency as Pakistan has.

Our policies continue to suppress exports while protecting unproductive domestically oriented industries to substitute imports—a strategy that has terribly failed in Pakistan and many other countries around the world.

Furthermore, uninformed rhetoric from various quarters of protected non-traded sectors and even some media outlets has not helped. For instance, a recent article in Business Recorder incorrectly claimed that “one of the members of the current interim setup who represents a specific sector tried to outsmart the system by using general non-export industries to cross-subsidize the export sector.” Even in other newspapers, claims regarding the export sector being provided with subsidies are frequent and have dangerously misguided the discourse on economic recovery and reforms. First, the authors of such misinformed propositions need to check their definitions of what a subsidy is. Second, they must present at least some evidence of where these subsidies are because our analysis indicates that there are none.

Power tariffs for exporters include a cross subsidy of around 5 cents/kWh to nonproductive sectors, making them almost twice the regional average. Similarly, gas prices following the recent reform have been increased to well above what prevails in the region, especially amongst competing economies (Figure 2).

 

Under the new pricing structure, the cost of captive power generation for export sectors has increased to as much as 15 cents/kWh for SNGPL and around 12 cents/kWh for SSGC consumers, which is around the same as getting electricity from the grid so that there is no real benefit in captive power generation. A statement from the IMF (International Monetary Fund) confirms that this was indeed the government’s purpose behind setting gas prices at these levels.

Ironically, captive power generation is—in the first place—incentivized by prohibitively high power tariffs that force productive sectors to pay for the government’s own social obligations and inefficiencies through cross subsidies, transmission and distribution losses, and stranded costs, etc.

The obvious balancing act was to remove the cross subsidy from power tariffs and equalize end-use prices for captive and grid electricity to shift industry away from captive generation. Instead, the government has included these unwarranted costs in gas prices to further undermine export competitiveness.

In the case of electricity—as acknowledged by the Power Division and power regulator NEPRA—a component of the cost of generation for power used by residential and agricultural consumers is extracted from industrial and commercial consumers, and this cross subsidy is clearly seen if one compares the power tariffs across different categories to the cost of generation and service (Figure 3).

 

But in the case of gas, it is a fuel delivered to consumers to convert and use as they prefer—i.e., as electricity in the case of industrial captive, and heat in the case of industrial process or household cooking and heating. Of the country’s total consumption, around 75 percent is indigenous gas, the cost of which, as per Ogra, is Rs 1,350/MMBtu, and 25 percent is imported LNG at approximately $13.50/MMBtu based on October 2023 rates. Accordingly, the weighted average cost of gas is around Rs 1,990/MMBtu.

Revised gas prices for export captive are Rs 3,145/MMBtu from March to November and Rs 3,830/MMBtu from December to March for SNGPL, and Rs 2,800/MMBtu throughout the year for SSGC consumers. Because prices for exporters are well above the cost, there is no subsidy to the export sector and, if anything, the export sector is again being made to subsidize the government’s debt and consumption in other sectors of the economy.

However, since we do not have enough indigenous gas to meet the entire country’s demand, the question of gas pricing is really one of resource allocation. By the law of price and demand, sectors that are subject to lower prices will consume more gas. So, do we want to allocate more gas towards productive uses, that will add value, earn foreign exchange, mobilize government revenue, stabilize the external sector, provide jobs, and create opportunities for productive investment that create future returns and benefit generations to come, or do we want to continue to burn away our precious resources in nonproductive activities?

The answer, based on prevailing policies, seems to be the latter. The energy sector provides vulnerable segments with cheap and underpriced electricity and gas but does so by systematically dismantling productive sectors that provide jobs to the same people, enabling them to purchase the same energy, efficient appliances and much more without any subsidies.

But this logic seems to completely escape the naysayers. Our policies continue to suppress exports while protecting unproductive non-traded sectors to substitute imports—a strategy that has terribly failed in Pakistan and many countries around the world.

The country’s international image and economic potential have deteriorated so severely that even strong and long-standing bilateral partners like Saudi Arabia and China have become wary of putting their money in Pakistan. For all our efforts to bring in foreign investment, nothing is materializing and how can it in a country where even domestic investors are increasingly parking their money in the safest and least productive of assets?

Pakistan’s gross external financing requirements, including current account deficits and amortization of debt, are, on average, projected at around $27 billion annually over the next 5 years. Prospects for receiving foreign investment remain bleak, and foreign investment in non-export sectors that do not generate returns in foreign currency is a liability in any case.

This is where we stand now: The foreign exchange shortage continues to persist, and exports for FY24 are likely to remain well below the FY22 peak of $32 billion. Following a brief appreciation, the exchange rate is depreciating again, which, coupled with the increase in gas prices, could very well reverse the downward trajectory of inflation, and result in a prolonged period of high interest rates. All of this will continue to cripple real economic growth and diminish the chances of recovery.

To come out of this vicious cycle of crisis after crisis and achieve sustained economic growth, a fundamental strategy of fostering competition and increasing exports must be adopted at all policy levels, across all sectors of the economy. Exports are competitive only if export sector input costs are at par with competing economies. Any form of taxation, either direct like sales tax or indirect like cross-subsidies, cannot be exported. The choice is simple: Export or perish.


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