SAFTA - SAFTA and the Bangladesh Economy: Assessments of...

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Unformatted text preview: SAFTA and the Bangladesh Economy: Assessments of Potential Implications Selim Raihan* * Assistant Professor of Economics, at the University of Dhaka, Bangladesh;. E­mail: [email protected] This paper is w ritten under a resear ch grant from th e Common wealth Secretar ial, London to CUTS Interna tional, Jaipur. View s expressed in this paper are those of the author and not necessarily reflect those of their institutions and of the Commonwealth Secretaria t and CUTS Internati onal. i Table of Content Acronyms and Abbreviat ions ............................................................................................... iv 1. Introduction....................................................................................................................... 1 2. Bangladesh’s Trade with Neighbouring Countries: Patterns and Trend .............................. 1 3. SAFTA and the LDCs in South Asia: Implicat ions for Bangladesh.................................... 5 4. Potential Implicat ions of SAFTA on Bangladesh’s Economy: A Review of Qualitat ive and Quantitative Studies ............................................................. 9 4.1. Welfare Effects of SAFTA: So me Qualitat ive Assessments of Potential Implicat ions for Bangladesh ........................................................................ 9 4.2. Empirical Studies on Welfare Effects of SAFTA: Some Quantitative Assessments of Potential Implications for Bangladesh ............... 12 4.2.1. The Gravit y Models ........................................................................................... 12 4.2.2. Partial Equilibrium Models ................................................................................ 13 4.2.3. The CGE Models ............................................................................................... 14 4.2.4. SAFTA and the Expansio n of Bangladesh’s Exports into Indian Market: A Simulation Exercise using the Partial Equilibrium WITS/SMART Model ......... 17 4.2.5. Some Final Observat ions on the Partial Equilibrium and General Equilibrium Simulat ion Results ............................................................ 19 5. Feedback from the Policy Makers and Business People in Bangladesh ............................ 19 6. The Prospect of Mult ilateralism wit h Regio nalis m for Bangladesh .................................. 21 7. Challenges and policy options for making SAFTA an effect ive vehicle of rade­led growth for Bangladesh: The Call for a ‘SAFTA­Plus’ Agreement ..................... 22 8. Conclusio n ...................................................................................................................... 23 References .......................................................................................................................... 24 ii List of Tables Table 1: Share of Bangladesh’s Exports with Neighbouring Countries in her Total Exports .............................................................................................. 4 Table 2: Share of Bangladesh’s Imports with Neighbouring Countries in her Total Imports................................................................................ 4 Table 3: Exports rise for top 30 products (HS 6­digit) from Bangladesh to India (‘000 US$) under SAFTA .................................................... 18 Table 4: Non­tariff and Para­tariff Barr iers Faced by Bangladeshi Exporters in India ........ 20 List of Boxes Box 1: LDCs Have Longer Time­span for Tariff Reduction Compared to Non­LDCs ........................................................................................... 6 Box 2: Sensit ive Lists Amo ng the SAFTA Members ............................................................ 7 Box 3: Trade Creation and Trade Diversio n Effects of FTA ................................................. 9 Box 4: The GTAP Model ................................................................................................... 15 Box 5: Trade Creation and Trade Diversio n Effects of SAFTA Simulations ....................... 16 Box 6: Changes in Imports to Bangladesh fro m Different Countries under SAFTA1 (in US$mn) .................................................................... 17 List of Figures Figure 1: Country­wise Share (%) in Intra­SAARC Imports in 2003 .................................... 2 Figure 2: Country­wise Share (%) in Intra­SAARC Exports in 2003 .................................... 2 Figure 3: Bangladesh’s Trade with Neighbouring Countries (millio n US$) .......................... 3 iii Acronyms and Abbreviations ASEAN BIMSTEC Association of Southeast Asian Nations Bay of Bengal Initiative for Multi­Sectoral Technical and Economic Cooperation CGE CU DFQF EU GDP GTAP EU FTA LDCs NAFTA NTBs RMGs RoO RTA QRs SAARC SAFTA SAPTA S&DT TLP WTO Computable General Equilibrium Custom Union Duty Free Quota Free European Union Gross Domestic Product Global Trade Analysis Project European Union Free Trade Area Lease Developed Countries North American Free Trade Area Non­Tariff Barriers Readymade Garments Rules of Origin Regional Trade Agreement Quantitative Restrictions South Asian Association of Regional Cooperation South Asian Free Trade Area South Asian Preferential Trade Agreement Special and Differential Treatment Trade Liberalisation Programme World Trade Organisation iv 1. Introduction In recent years, there has been increased interest in regio nal econo mic integration in South Asia. Wit h the stalemate of the World Trade Organisation (WTO) negotiat ions, it is expected that the interest in regional trading arrangements will increase further. Regio nal integrat ion in South Asia got the mo mentum in 1995 when the South Asian Associat ion for Regio nal Cooperation (SAARC) Preferent ial Trading Arrangement (SAPTA) was signed. In early 2004, the SAARC member countries agreed to form a South Asian Free Trade Area (SAFTA), which has beco me a parallel init iat ive to the mult ilateral trade liberalisat ion commit ments of the south Asian countries. SAFTA has co me into force since July 01, 2006, with the aim o f boosting intraregional trade among the seven SAARC members. There have been so me strong arguments for the regional econo mic integrat ion in South Asia, as this integration is believed to generate significant intraregional trade and welfare gains for the South Asian countries. There are also aspirations amo ng the polic y makers and business communit y in Bangladesh about the posit ive impacts SAFTA might have on the Bangladesh economy. It is expected that the SAFTA mechanism, when fully implemented, will provide Bangladesh improved market access, help boost its exports to the region, and improve the country's intra­regional trade balance. SAFTA is expected to generate substant ial new trade – the so­called static gains. The dynamic gains could be even higher than the static gains due to the possible expansio n in the scale of operation by getting access to the markets of the relat ively larger member countries. However, crit ics have po inted out a number o f factors which could undermine the potentia l benefits fro m the SAFTA. For example, it is argued out that there are limited complementarit ies in the region. Therefore, even under the free trade mechanis m the expansio n of intra­regional trade would not be very substantial. Secondly, these countries trade very litt le amo ng themselves and major trading partners of the individual South Asia n countries are located in the West. Thirdly, it is alleged that SAFTA may lead to substant ial trade diversio n than trade creation for so me o f the member countries. And, finally, it ma y work as a stumbling bloc to mult ilateral trade liberalisat ion. These concerns have also bee n endorsed by so me studies while examining the potential impacts of SAFTA on the Bangladesh econo my. Against the backdrop of the aforement ioned arguments and counter­arguments the purpose of this paper is to examine the implicat ions of SAFTA for Bangladesh. The structure of the paper is as fo llow: Sect ion 2 provides an evo lut ion o f Bangladesh’s trade with it s neighbouring countries; Sect ion 3 depicts the current status of SAFTA wit h special reference to any favourable treatment given to least developed countries (LDCs); Sect ion 4 undertakes a review o f the studies on potential implicat ions of SAFTA; Sect ion 5 reviews the feedback fro m the key po licymakers and representatives of other stakeholders in Bangladesh on SAFTA; Sect ion 6 assesses the prospect of mult ilateralism wit h regio nalism for Bangladesh; Section 7 ident ifies the challenges and po licy options for making SAFTA an effective vehicle of trade­led growth for Bangladesh; and finally Section 8 presents the conclusion. 2. Bangladesh’s Trade with Neighbouring Countries: Patterns and Trend While examining Bangladesh’s trade with her neighbouring countries it should be kept in mind that the intra­regional trade among the South Asian countries is very low. Unt il 1951, total intra­regional trade in South Asia as a percentage of the region’s total trade was in the 1 double digits. However, as South Asia became progressively more closed relat ive to the world market and also the polit ical rivalry between India and Pakistan intensified over time, by 1967 intra­regional trade fell to just two percent of the region’s total trade. The share began to recover during the 1990s and by 2002 it rose to 4.4 percent (Baysan et al, 2006). Figure 1 suggests that even wit h a low intra­regional trade Bangladesh is the single largest importer in South Asia. In 2003, Bangladesh accounted for 36.4 percent of total intra­regiona l import. In contrast, Figure 2 indicates that in 2003, Bangladesh’s exports to the regio n accounted for only 2.3 percent of the total regio nal exports. Figure 1: Country­wise Share (% ) in Intra­SAARC Imports in 2003 Sr i L an k a 26.6% Ban g lad e s h 36.4% Pak is tan 7.1% Ne p al 14.5% M ald ive s 2.6% In d ia 12.8% Data Source: UN COMTRADE Figure 2: Country­wise Share (% ) in Intra­SAARC Exports in 2003 Sr i L an k a M ald ive s Ban glade s h 7.5% 0.3% Pak is t an 2.3% 7.3% Ne p al 5.4% In dia 77.2% Data Source: UN COMTRADE Bangladesh’s trade with her neighbouring countries is also highly unequally distributed. It appears fro m Figure 3 that Bangladesh trade very little wit h Bhutan, Nepal and Sr i Lanka. In South Asia, India is the major trading partner of Bangladesh fo llowed by Pakistan. But, the trade with India is largely o ne­sided, as the vo lume o f imports from India to Bangladesh is 2 considerably very large, whereas the vo lume o f exports from Bangladesh to India is very low. It, therefore, appears that Bangladesh has high bilateral trade deficit wit h India, which has been an issue for debate whether it is a matter of any concern (Raihan and Rahman, 2007).1 Bangladesh exports a miniscule (one percent) share of India’s imports, a negligible share (one percent) of its own exports, and a small range o f products (fertiliser and jute goods made up two­thirds of exports). Though ready­made­garments (RMG) is the major export item for Bangladesh, its exports to India are very much insignificant.2 Figure 3: Bangladesh’s Trade with Neighbouring Countries (million US$) Bangladesh’s trade with Bhutan 8 7 6 Bangladesh’s trade with India 1600 1400 1200 Export Import Export Import M illio n U S$ M illio n U S$ 5 4 3 2 1 0 1 9 9 5 1 9 9 6 1 9 9 7 1 9 9 8 1 9 9 9 2 0 0 0 2 0 0 1 2 0 0 2 2 0 0 3 2 0 0 4 1000 800 600 400 200 0 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 Y ear Year Bangladesh’s trade with Nepal 1 2 Bangladesh’s trade with Pakistan 250 Export 1 0 Import 200 Export Import 8 M illion US $ M illion US $ 1 9 9 5 1 9 9 6 1 9 9 7 1 9 9 8 1 9 9 9 2 0 0 0 2 0 0 1 2 0 0 2 2 0 0 3 2 0 0 4 150 6 100 4 2 50 0 0 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 Y ear Y ear Bangladesh’s trade with Sri Lanka 1 Bangladesh’s perennial large bilateral trade deficit with India might be a cause for concern but it has not led to any balance of pa yments problem for Bangladesh as consistent trade surpluses with such trading partners as US and EU compensate for these deficits. 2 It is alleged that, one of the major reasons behind very low exports of RMG products from Bangladesh to India is India’s relativel y high specific tariffs on Bangladesh’s RMG products (­­­­­­­­­­) 3 14 Export 12 10 Import Data Source: UNCOMTRADE M illio n U S$ 8 6 4 2 0 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 Y ear It is clearly evident from Table 1 that in terms o f exports, South Asia has not been a significant export destinat ion o f Bangladesh. In fact, over the last 10 years, there has not been any major change in this pattern. In 1995, Bangladesh’s exports to the South Asian regio n accounted for only 2.3 percent of her total exports, which by 2004 came down to only 2 percent. Table 2 also suggests that over time Bangladesh’s dependence on South Asia as a source of her imports declined. In 1995, Bangladesh’s imports from the South Asian region accounted for 15.5 percent of her total imports, which by 2004 declined to 12.6 percent. India has been one of the major sources of imports for Bangladesh, as India accounted for, on average, 12 percent of Bangladesh’s total annual imports in recent years. Table 1: Share of Bangladesh’s Exports with Neighbouring Countries in her Total Exports 1995 Bhutan India Nepal Pakistan Sri Lanka South Asia Total Rest of the World 0.00 0.79 0.03 1.03 0.41 2.26 97.74 1996 0.00 0.91 0.25 1.05 0.11 2.31 97.69 1997 0.00 0.59 0.13 0.85 0.12 1.69 98.31 1998 0.00 0.20 0.00 0.65 0.03 0.88 99.12 1999 0.00 0.31 0.00 0.79 0.07 1.17 98.83 2000 0.00 0.35 0.00 0.91 0.10 1.36 98.64 2001 0.00 0.43 0.02 0.56 0.06 1.07 98.93 2002 0.00 0.47 0.01 0.57 0.04 1.09 98.91 2003 0.03 0.64 0.01 0.56 0.09 1.33 98.67 2004 0.05 1.27 0.01 0.57 0.12 2.02 97.98 Source: Computed using the data from UN COMTRADE Table 2: Share of Bangladesh’s Imports with Neighbouring Countries in her Total Imports 1995 Bhutan India 0.13 1996 0.07 1997 0.08 1998 0.04 1999 0.03 12.37 0.07 1.24 0.12 13.83 86.17 2000 0.03 6.66 0.01 1.40 0.13 8.22 91.78 2001 0.03 10.88 0.00 1.28 0.12 12.31 87.69 2002 0.02 13.40 0.02 1.24 0.01 14.70 85.30 2003 0.01 14.16 0.02 1.22 0.09 15.51 84.49 2004 0.01 11.24 0.00 1.25 0.08 12.59 87.41 11.31 17.38 19.69 14.82 0.01 0.11 0.15 0.16 3.95 1.82 0.96 1.11 0.11 0.15 0.20 0.12 South Asia Total 15.52 19.52 21.08 16.24 Rest of the World 84.48 80.48 78.92 83.76 Source: Computed using the data from UN COMTRADE Nepal Pakistan Sri Lanka 4 One important aspect of Bangladesh’s trade with India is that Bangladesh’s informal border imports fro m India have always been thought to be very high. Though there has not been any comprehensive quant itative assessment on the informal border trade between India and Bangladesh, it is po inted out by a few studies that the informal and illegal trade between India and Bangladesh could be as high as three quarters of recorded trade (World Bank, 2006). However, such informal trade is most ly one way – fro m India to Bangladesh. Therefore, if such informal imports fro m India were taken into considerat ion, India’s share in Bangladesh’s total imports would rise considerably. The upshot of the aforement ioned analysis po ints us to the fact that, apart fro m the imports fro m India, South Asian countries have not been the major trading partners of Bangladesh. As far as export destinat ions are concerned, Bangladesh’s major trading partners are the EU and US. On the other hand, apart fro m India, other major import sources for Bangladesh are China, Singapore and Japan. Any evaluation o f the prospects of SAFTA should, therefore, take note of these facts. 3. SAFTA and the LDCs in South Asia: Implications for Bangladesh Four LDCs in South Asia, namely Bangladesh, Bhutan, the Maldives and Nepal have bee n provided so me special and different ial treatments (S&DTs) within the SAFTA Treaty Text. These special provisio ns may have important implicat ions for Bangladesh. This sect ion crit ically analyses these special provisio ns and the stakes Bangladesh might have in these provisio ns. The S&DTs in the SAFTA Treaty Text are contained in: (i) three sub­paragraphs in Article 3 (Object ives and Pr inciples); (ii) four paragraphs in Art icle 7 (Trade Liberalisat ion Programme); (iii) ent ire Article 11 (Special and Different ial Treat ment for the Least Developed Contracting States); and (iv) one paragraph in Art icle 16 (Safeguards Measures). A discussio n on these S&DTs for the LDCs and the related concerns include the fo llowings: (a) The Treat y Text allows lo nger t imeframes to reduce or eliminate tariffs o f the LDC members. Also, the Treaty asks for a rapid tariff reduction or eliminat ion by non­LDC partners on products originat ing fro m LDCs (see Box 1). This provisio n has been argued to be favourable to the LDC members. However, concerns have been raised on two grounds: first ly, the first stage of tariff reduction seems to be redundant for all the South Asian countries, as current ly in these member countries, because of unilateral tariff liberalisat ion, tariff rates on most of their products are less than 20 percent or so. Therefore, LDC members are unlikely to have any significant gain during the first two years o f the Tariff Reduct ion Programme. Secondly, there are also concerns about the second stage, as the 3­year gap between LDC and non­LDC members appears to be low. Also the presence o f negat ive lists by the non­LDC members restricts significant ly the potentials o f market access o f the products to the LDC members in the non­LDCs. 5 Box 1: LDCs Have Longer Time­span for Tariff Reduction Compared to Non­LDCs LDCs will take eight years thereafter, instead of six years by Sri Lanka and five years by others, to reach the free trade level of 0­5 percent duties. The non­LDCs will reduce their duties for the products of the LDCs within three years compared with five years for reducing duties on each other's products. Country Category LDC s First St age From existing tari ff to 30% over 2 year s From existing tari ff to 20% over 2 year s Second Stage From 30% or below to 0 ­5% over 8 year s From 20% or below to 0 ­5% over 5 year s Target ye ar for FTA 2016 (0­5% for items outside negative list) 2013 (0­5% for items outside negative list) Non­LDC s (b) The Treat y asks for special provisio ns when considering the applicat ion o f ant idumping and countervailing measures to LDCs. In order to protect domest ic industry from possible injury due to increased preferent ial import, the Treaty provides scope for partial or full withdrawal o f preference granted under SAFTA for a period of maximum three years. However, safeguard measures cannot be applied against the product of LDCs if the share of imports fro m an LDC of the product concerned in total imports of importing country is less than five percent. But, these provisions do not go far enough to ensure that the LDCs will be able to derive equitable benefit s fro m SAFTA. At the penult imate stage of the negotiat ions, the Trreaty got held up because Bangladesh wanted it to go further towards securing S&DT to the LDCs. At the final stage of the negotiat ions, a co mpromise was reached that only part ially meets the demands o f the LDCs. For example, instead of the LDCs’ demand that the non­ LDCs should refrain fro m imposing anti­dumping and countervailing measures against them during the period o f negotiat ion, the Treaty contains the vague formulat ion that special regard shall be paid to the situation of these countries while considering the application o f such measures. (c) The Treaty provides for greater flexibilit y for LDCs in the number o f products contained in their sensit ive lists (see Box 2). However, a major flaw o f the Treaty is that it does not subscribe categorically to phasing out the negat ive list or eliminat ing non­tariff barriers (NTBs), let alone prescribing time limit s for doing so. It only provides that the negat ive list shall be reviewed after every four years wit h a view to 3 reducing the number of items. It is also a matter of grave concern for Bangladesh with regard to the size of the negat ive list maintained especially by India, as the major export items o f Bangladesh’s interest (i.e. RMGs and chemicals) are included in India’s negat ive list, which inhibit the potentials of export expansio n of these products fro m Bangladesh to India. 3 There are also concerns about the size of the negative lists, as they appear to be too long. This will detract from the provision of Article XXIV of GATT which lays down that a free trade area should cover substantially all trade. 6 Box 2: Sensitive Lists Among the SAFTA Members The Treaty provides scope for maintaining of sensitive lists, which are not subject to tariff reduction programme. Although it maintains that sensitive list shall be different for LDCs and non­LDCs, only three countries namely Bangladesh, India and Nepal maintain different sensitive lists for LDCs and non­LDCs. Besides, the LDCs maintain longer sensitive lists than the non­LDCs. Total number of Sensitive List For Non­LDCs For LDCs 1,254 1,249 157 865 671 1,335 1,191 1,079 157 744 671 1,299 1,191 1,079 Coverage of Sensitive List as % of Total HS Lines For Non­LDCs For LDCs 24.0 23.9 3.0 16.6 12.8 25.6 22.8 20.7 3.0 14.2 12.8 24.9 22.8 20.7 Country Bangladesh Bhutan India Maldives Nepal Pakista n Sri Lanka (d) Wit h respect to the eliminat ion of quant itative restrictions (QRs) the Agreement allows greater flexibilit ies for the LDC members, as these countries are permitted to continue quant itative or other restrict ions provisio nally and without discriminat ion in crit ical circumstances on imports from other member countries. As far as the NTBs are concerned, the Treaty, however, calls for the eliminat ion of all QRs in the member countries in respect of products included in the Trade Liberalisat ion Programme. This means that QRs will go as soon as a 0­5 percent tariff level is reached. This is in line with the ASE AN Free Trade Area provisio ns. Moreover, this appears to facilitate greater market access o f Bangladesh’s export products in India and other member countries. However, since the Treaty does not prescribe, let alone set the dateline for, the eliminat ion o f other non­tariff and para­tariff restrict ions (which are reported to be 4 prominent in mo st of the member countries ), the prospect of effect ive market access for Bangladesh’s export products, even after the reduction of tariffs and so me QRs in 5 other member countries, appears to be doubtful. (e) The Treaty also includes provisio ns for direct measures taken by the non­LDC members to enhance sustainable exports from LDC members. Such measures include lo ng and medium­term contracts containing import and supply co mmit ments in respect of specific products, buy­back arrangements, state trading operations, and government and public procurement. There are provisio ns for technical assistance for LDCs at their request to assist them in expanding their trade with other member countries in taking advantage of the potential benefits of SAFTA. Areas o f Technica l Assistance as agreed upon include: (i) capacit y building (trade related); (ii) development and improvement of tax policy and instruments; (iii) customs procedures related measures; (iv) legis lative and polic y related measures, assistance for improvement of nat ional capacit y; and (v) studies on trade related physica l infrastructure development, improvement of banking sector, development of export 4 5 See World Bank (2004) for a discussion on such non­tariff and para­tariff barriers in South Asian countries. In the absence of a clear­cut time limit and the sequence for the phasing out of the negative list and non­tariff barriers other than QRs, it is doubtful whether the Agreement, when it comes under scrutiny in WTO, will be adjudged as being consistent with Article XXIV of GAT T which prescribes the inclusion of a time and a schedule for reaching the free trade stage. 7 financing. However, there has not been any progress yet with respect to the development of modalit ies for these assistances. (f) A mechanism has been established to compensate the revenue loss to be incurred by the LDCs due to reduction o f tariffs. The Co mpensation will be in cash and partial: maximum five percent of the customs duty co llected fro m SAARC import in 2005. Compensat ion will be available for four years only (for Maldives it will be available for six years). (g) SAFTA allows different ial rules of origin (RoO) for the LDC and non­LDC members. The RoO agreed under SAFTA are general in nature (i.e. one criterion for all products) barr ing 1991 products for which product specific rules are applied. SAFTA RoO requires that in order to enjo y the preference under SAFTA a product must undergo sufficient processing for changing the tariff heading fro m the non­originat ing inputs and for having value o f at least 40 percent value addit io n measures as percentage of fo b value. However, value addit ion requirements are lower for Sri Lanka and LDCs, which are 35 percent and 30 percent respect ively. Given the fact that value­addit io ns o f most of Bangladesh’s export products are very low, even a 30 percent value­addit ion requirement would act as a significant barrier for her export expansio n in South Asia. Therefore, the problem of RoO will need to be resolved, keeping an eye on the manufacturing/processing capabilit y o f the LDCs. The RoO under SAFTA should also be made consistent with those that are current ly in force in the various bilateral trade agreements wit hin the SAARC regio n, which happen to be more liberal than the prevailing SAFTA rules. In addit ion, SAFTA should init iate the “Cumulat ive Rules of Origin”, as in the case of India­Sri Lanka FTA, which has been 6 claimed to be benefic ial for Sr i Lanka. For the success o f SAFTA, a sharp reduction and gradual convergence o f the member countries’ external tariffs will be essent ial. Note that a free trade area (FTA) needs a strict system o f proof of origin mainly for prevent ing trade deflection. Since trade deflect ions can occur only when there are wide differences in the members’ external tariffs, due importance should be given both to reduce the abso lute levels o f the members’ external tariffs and to narrow down the inter­country differences in tariff rates. Wide differences in the members’ externa l tariffs will make the RoO difficult to implement. It appears fro m the aforement ioned analys is that there are so me special and differentia l provisio ns for the LDC members in t he SAFTA Agreement. Bangladesh and other LDCs are likely to secure some gains from these provisio ns. However, a crit ical examinat ion o f these provisio ns reveals that most of these provisions are rather ‘vague’ in nature and thus require substant ial clarificat ion and revis io n so that Bangladesh and other LDC members can effect ively take advantage of these provisio ns. 6 In the India­Sri Lanka FTA Agreement it is stated that in respect of a product, which complies with the origin requirements provided in rule 5(b) and is exported by any Contracting Party and which has used material, parts or products originating in the territory of the other Contracting Party, the value addition in the territory of the exporting Contracting Party shall be not less than 25 percent of the f.o.b. value of the product under export subject to the condition that the aggregate value addition in the territories of the Contracting Parties is not less than 35 percent of the f.o.b. value of the product under export. 8 4. Potential Implications of SAFTA on Bangladesh’s Economy: A Review of Qualitative and Quantitative Studies SAFTA has been able to generate significant interests among the po licy makers, business communit y and researchers in Bangladesh. There are debates on whether Bangladesh stands to gain or lose from SAFTA. Findings o f a number of qualitat ive and quantitative studies in this regard have been inconclusive, which have intensified this debate. The results of these studies have however been influenced by the differences in the methodologies used in these studies. 4.1. Welfare Effects of SAFTA: Some Qualitative Assessments of Potential Implications for Bangladesh The discourse on the qualitat ive assessment of SAFTA falls primarily on the theoretical analys is of regional trading arrangements (RTA). Trade theory and evidences suggest that 7 there are several forms of RTAs , which include: (i) Preferent ial Trade Area (PTA), where tariffs are lowered among the members but maintained against the outside world (i.e., SAPTA); (ii) FTA, where tariffs are removed amo ng members but maintained against the outside world (i.e. SAFTA, NAFTA); (iii) Customs Unio n. where all tariffs amo ngst the members are eliminated, while external tariffs are adjusted to a commo n level; (iv) Co mmo n Market, which a Customs Unio n plus free mo vement of factors of production among the member countries; and finally (v) Economic Unio n which is a Customs Unio n plus co mmon economic laws for the member countries (i.e. EU). In trade theory, welfare effects of any RTA are analysed using two concepts: trade creation and trade diversio n (see Box 3). The overall welfare effects of econo mic integration are ambiguous and require case­by­case judgment. The reason is that integration is both a po lic y of protection and a mo ve towards free trade. The effect of the protectionist element of integrat ion is called trade diversion, and the effect of the trade liberalisat ion element is called trade creation. The RTA’s overall effect on welfare for a member country is determined by comparing the trade­creation and trade­diversio n effects. If trade creat ion do minates, the format ion o f a RTA will enhance welfare. On the contrary, if trade diversio n effect is greater than the trade creation effect, the RTA will lead to a welfare loss for the country under consideration. 8 Box 3: Trade Creation and Trade Diversion Effects of FTA Country A (the home country) 50 Country B (the FTA member cou ntry) 40 Country C (rest of the world) 30 Supply pri ce · Case a : If A imposes a tariff of 100 percent on both B and C, only A’s own producers will be in the A’s domestic market. · Case b : If A imposes a tariff of 50 percent on both B and C, only C will be the supplying country in A’s market. · Case g : If A forms a FTA with B, but retains the 50 percent duty on C, B will be the supplying country in A. If a was the initial condition, moving to g will be considered as trade creation, welfare enhancing for A. If b was the initial condition, moving to g is an example of trade diversion with adverse consequences on welfare of A. 7 8 For a general survey of the theory of preferential trading arrangements see Panagariya (2000). Note that if member countries are the low­cost producers of the traded good, there will be no trade diversion effect and integration will unambiguousl y increase welfare. 9 The fundamental arguments for regionalism rest on the evidences which suggest RTAs to be predominant ly trade­creating (Rodriguez­Delgado, 2007). Krugman (1991) argued that most RTAs are likely to entail relatively low welfare losses result ing fro m trade diversion, since the countries invo lved are o ften geographical neighbours and hence already engage in a sizable amount of trade. It is also argued that through RTAs countries can ‘lock­in’ reform, which is often polit ically not feasible under multilateralism. Whalley (1996), for example, asserts that a desire for increased credibilit y o f domestic reforms was a central preoccupation behind the Mexican negotiat ing posit ion on NAFTA. Also, failure or stalemate of the mult ilateral trade talks means trade liberalisat ion can only take place through RTAs. It is highlighted that countries can build on the progress o f regionalis m and can ult imately mo ve toward a freer trade regime on the who le. There are, however, some crit ical arguments against format ion of any RTA. It is alleged that through RTA the spirit o f mult ilateralis m is undermined. It is argued that the world might be divided into a few protectionist blocs and protectionists might accept RTAs to oppose further mult ilateral liberalisat ion. Therefore, RTAs might work as stumbling block rather than building blocs for mult ilateralism. Also, the ‘spaghetti bowl’ effect can emerge because of many co mplicated simultaneous RTA negotiat ions.9 RTAs also discriminate against the non­ member countries, and even LDCs could seriously be discriminated against due to the RTAs among the developed and developing countries. NAFTA is a good example in t his regards, and it is argued that because o f NAFTA, LDC like Bangladesh has been discriminated against while Mexico has been favoured in the US market (Razzaque, 2005). Furthermore, RTAs distort resource allocat ion, favouring regio nal producers to the potential detriment of local consumers (Rodriguez­Delgado, 2007). Recent research on RTAs also emphasises the global consequences o f mult iple and overlapping RTAs in terms o f the transaction costs they impose (Feridhanuset yawan, 2005). It is further put forward that resources in trade ministries are limited. Therefore, too much invo lvement in RTA negotiat ions may distract attention fro m mult ilateral liberalisat ion. There are also concerns that through RTA (reducing tariffs for the member countries) the prices o f goods imported from the member countries in the do mest ic market may not fall as the member countries may see the home country’s market as a ‘capt ive market’ for their exporters. For example, it is often alleged by the crit ics o f SAFTA that through this regiona l trading arrangement, Indian exporters may find a ‘captive market’ for their exporters in Bangladesh (World Bank, 2006). As a result, even though Bangladesh reduces the tariffs for Indian products, the prices of those products may not fall in Bangladesh as the Indian exporters will have the ‘freedo m’ to raise prices up to the level at which the products fro m the rest of the world are sold in Bangladesh (with higher tariffs). In general, there are so me agreements among the econo mists about the pre­condit ions for ho me­country welfare expansio n fro m a RTA. For example, the ho me country could gain if there are: (i) high level o f the ho me country’s tariffs prior to the agreement; (ii) high tariff level o f the contemplated partner; (iii) high economic size of the partner; (iv) high share o f the partner in providing the home country’s imports; (v) low ratio of imports from the rest of the world to the ho me country’s aggregate econo mic act ivit y; (vi) relat ive prices in the partner’s econo my close to those of the rest of the world; and (vii) similarit ies in econo mic activit ies o f the partner with the rest of the world. 9 See Bhagawati and Panagariya (1996). 10 Baysan et al (2006) argue that the econo mic case for SAFTA is relat ively weak. The authors point out three important features of the South Asian econo mies that make an FTA amo ng them economically unattractive. First, the economies are relat ively small in relat ion to the world both in terms o f the GDP and trade flows. Though in terms of populat ion, the region is substant ial (one fift h of the world) the current per­capita inco mes are t iny so that the economic size of the region remains small: less than one twent ieth of the world in terms of the GDP. And if India is taken out of the picture, this proportion drops to 0.4 percent. Bayson et al (2006) further argue that the probabilit y that most efficient suppliers of the member countries are within the region is slim. Therefore, the probabilit y that the FTA is likely to be largely trade diverting is quite high. The second reason relates to the relat ively high levels o f protection amo ng the SAARC economies. If the country part icipat ing in a regio nal arrangement were itself open, it would not suffer fro m trade diversio n even if it were t iny. It is, however, evident that the level o f protection within the SAARC regio n remains high in all countries except, arguably, Sr i Lanka. The simple average o f the applied dut ies in non­agricultural goods ranges from 10.7 percent in Sr i Lanka to 25.4 percent in Bangladesh. In India, this tariff is approximately 20 percent. In agriculture, the level of protection is even higher and ranges fro m 19.6 percent in Pakistan to 40 percent in India. And Bangladesh, through the use o f several para­tariffs on top of the customs dut ies, has recent ly raised nominal protection levels for many import subst ituting industries to very high levels. According to Bayson et al (2006), the third and final reason that makes the econo mic case for SAFTA weak concerns the po lit ical econo my o f the select ion o f excluded sectors and RoO. When countries are allowed to choose sectors that can be excluded from tariff preferences in an FTA, domest ic lobbies make sure that the sectors in which they may not withstand compet it ion fro m the union partner are the ones that get excluded. In addit ion, the RoO can also be subject to abuse by t he bureaucrat administering them. In cases where imports fro m the partner may be threatening an inefficient domestic co mpet itor, bureaucratic discret ion may be emplo yed to block entry of the imports. Bayson et al’s first argument, however, may not be valid in so me cases while considering the trade between Bangladesh and India. As has been ment ioned in Sect ion II, India has been one of the major sources of imports for Bangladesh. Therefore, there is a possibilit y that for a good number of products India might be the most efficient import source for Bangladesh (for example, most agricultural products, sarees, other textile items, cotton, yarn, sugar, and pulses). The second argument on high tariffs in South Asia also needs to be carefully examined. Pursell has shown that tariffs in India are often redundant. In the World Bank study, it was also highlighted that in certain industries, the protection provide by India to its domestic producers was redundant as co mpet it ion amongst Indian producers was so intense that it helped them reduce prices in t he do mestic markets (even lower than world prices). The third argument, however, seems to be quite reasonable given the fact that the Sensit ive Lists of the Member countries in the SAFTA are quite long. In contrast to the arguments put forward by Bayson et al (2006) po licy makers and many business people in South Asia and especially in Bangladesh are rather optimist ic about SAFTA. They see SAFTA has significant potentials to expand trade among the member countries. It is also hoped that Bangladesh will be able to gain significant ly by having greater market access in other South Asian countries, and especially in India. Those who argue for 11 SAFTA state that despite the little vo lume through formal channel, substant ial trade is already taking place in South Asia wit h informal trade amount ing to a large proportion of formal trade. Taking into account the informal trade the ‘real’ intra­regional trade would be anywhere between 8­10 percent. Although studies have shown that there are limited complementarit ies in the SAARC region, it is argued that this was also the case in ASEAN during the mid­1970s, and that dormant complementarities in the region could be invigorated by intra­regional invest ment and FDI.10 They also argue the cost of non­cooperation to be quite high (RIS, 2004 and 1999; GEP, 1998; CUTS, 1996). The debate is, therefore, far fro m settled. Irrespective of the debate, there is a general belief that regional cooperation in South Asia should not be viewed only fro m the trade perspective, and that there are many gains fro m regionalis m in other areas. 4.2. Empirical Studies on Welfare Effects of SAFTA: Some Quantitative Assessments of Potential Implications for Bangladesh Empirical studies on the quant itative assessments on SAFTA (and on SAPT A as well) differ significant ly in terms o f the methodologies employed. In broad, three types o f techniques have been emplo yed to examine the potential implicat ions o f SAPTA/SAFTA (Baysan et al, 2006). These are: (i) gravit y model, (ii) partial equilibrium model; and (iii) co mputable general equilibrium model. 4.2.1. The Gravity Models The gravit y models basically try to explain bilateral trade flows wit h a set of explanatory 1 variables that try to predict the impact of the arrangement on bilateral trade flows 1 . Gravit y models, for the analysis o f any RTA, have been used widely to predict the impact of the agreements on the bilateral trade flows. The studies that emplo y the gravit y model include Srinivasan and Canonero (1995), Sengupta and Banik (1997), Hassan (2001), Coulibaly (2004), Hirantha (2004), Tumbarello (2006), Rahman (2003), Rahman et al (2006) and Rodriguez­Delgado (2007). The findings of these studies have been mixed. For example, studies by Sr inivasan and Canonero (1995), Sengupta and Banik (1997) predicted that the impact of a South Asian FTA on trade flows would be small for India but much larger on the smaller countries. Sengupta and Banik (1997) predicted a 30 percent increase in t he o fficia l intra­SAARC trade and as much as 60 percent if illegal trade became a part of official trade. Coulibaly (2004) found net export creation, and Tumbarello (2006) and Hirantha (2004) found net trade creation fro m SAPT A. On the other hand, Hassan (2001) found net trade diversio n effect from SAPTA, while Rahman (2003) found the dummy variable for South Asia to be insignificant, indicating that a regio nal integration is unlikely to generate significant trade expansio n in this region. Rahman et al (2006) used an augmented gravit y model to ident ify trade creation and trade diversio n effects originat ing fro m SAPT A. It was found that there was significant intra­bloc 10 Intra­regional trade in ASEAN was cl ose t o 6 per cent in the mid­1970s, but now has increased to around 23 per cent. ASEAN too was characterised by limited complementarities at the beginning but the situation changed with preferential trading, FDI and intra­regional investment (SACEPS, 2002a). 11 T ypically, the exercise involves estimating a bilateral trade­flow equation with bilateral trade (imports, exports or total trade at the aggregate or sector level) as the dependent variable and country characteristics such as the gross domestic products, population, land area, distance, the commonality of language or cultural ties and the existence of preferential trade arrangements as independent variables. Once estimated, the equation can then be used to predict the impact of a union between country pairs that did not have such a union during the sample period. 12 export creation in SAPT A; however, at the same time there was evidence o f net export diversio n in SAPTA. It was also appeared that Bangladesh, India and Pakistan were expected to gain fro m jo ining the RTA, while Nepal, Maldives and Sr i Lanka were negat ively affected. Rodríguez­Delgado (2007) evaluated the SAFTA within the glo bal structure of overlapping regional trade agreements using a modified gravity equat ion. It examined the effects of the Trade Liberalisation Programme (TLP) which started in 2006. The study predicted that SAFTA would have a minor effect on regional trade flows. The gravit y model simulat ion suggests that SAFTA TLP would influence regional trade flows mainly by increasing India’s exports, and imports fro m Bangladesh and Nepal. Of every US$100 o f new trade flows (exports + imports), less than US$20 would originate within the other four members (Bhutan, Maldives, Sr i Lanka, and Pakistan). For trade flows generated by SAFTA as a share o f individual country’s GDP, only the smallest countries obtain significant increases: Bhutan and Maldives experience increases in trade flows equivalent to two and one percent of GDP, respectively; and India, Bangladesh, Pakistan and Sri Lanka see trade flows increases o f less than 0.25 percent of GDP. It should, however, be po inted out that studies based on the gravit y model to estimate the welfare gains fro m regio nal trading arrangements (RTAs) are methodologically flawed. First ly, the left hand side of the gravit y equat ion is the bilateral trade, not the welfare. But, the concepts of ‘trade creation’ and ‘trade diversion’ direct ly relate to the welfare of the country in quest ion. Also, the impact of the RTA is captured by introducing the dummy variables in the equat ion which is a very weak methodology. Furthermore, gravit y models are partial equilibrium analysis; therefore, they fail to take into consideration the inter­sectoral and inter­regional linkage effects. Therefore, gravit y models can not actually est imate the welfare effects o f any RTA, and therefore not capable of estimat ing the trade creation and trade diversio n impacts of RTAs. Also the theoretical basis of the gravit y models has always been questioned. 4.2.2. Partial Equilibrium Models The major partial equilibrium studies on RTA in South Asia are by Govindan (1994), DeRosa and Govindan (1995), Pursell (2004) and World Bank (2006). The advantage with these models is that they are generally based on disaggregated data, and are also flexible enough which facilitates sector­specific study. However, the major problem wit h these models is that they ignore general­equilibrium interact ions, and thus can’t capture the inter­sectoral effects on the economy. A part ial equilibrium model for food sector, used by Govindan (1994), shows the effect of preferential liberalisat ion within the region on intraregional trade in food. The study finds that such preferent ial liberalisat ion would generate welfare gains through increased trade in food within the region. The analysis by DeRosa and Govindan (1995), however, shows that the welfare gains are much higher when the member countries also go for unilateral liberalisat ion on a non­discriminatory basis. A part ial equilibrium analys is on the cement industry by Pursell (2004) suggests that the preferential liberalisation o f cement industry between India and Bangladesh would lead to substant ial gains through increased competit ion wit hin the regional market. 13 Wit h a view to exploring the potentials o f India­Bangladesh bilateral FTA, World Bank (2006) provides a co mparat ive assessment between Bangladesh and India wit h respect to a few industries like cement, light bulbs, sugar, and RMGs. The part ial equilibrium simulat ion results suggest that in the case of cement, lights bulbs and sugar the likely effects of an FTA between Bangladesh and India seem to be an expansio n of Indian exports to Bangladesh, but no exports from Bangladesh to India. This is mainly because Indian export prices for these products are substantially lower than ex­factory before­tax prices o f the same or similar products in Bangladesh. The simulat ions for RMGs predicted increased Bangladeshi exports to India, but also increased RMG exports from India to Bangladesh. The study finds that a FTA will bring large welfare gain for consumers in Bangladesh provided there is adequate expansio n o f infrastructure and administrative capacit y at custom borders. The study however caut ions that the benefit s o f such a FTA to Bangladesh could be wiped out if it has the effect of keeping out cheaper third­country imports, i.e., from East Asia, and such trade diversio n costs can be huge. The study suggests that the only way to minimise the trade diversio n costs is through further unilateral liberalisat ion. One very interest ing implication emerges fro m the World Bank (2006) study that suggests India’s having comparat ive advantage in RMG over Bangladesh, but still India has been ver y reluctant in allowing Bangladesh to export RMG in its own market. In recent time, India, however, has allowed Bangladesh, under tariff­rate­quota, to export one millio n pieces o f RMG to its market without paying any dut ies. But, such a vo lume o f exports appears to be very small while considering Bangladesh’s total RMG exports to the world market. 4.2.3. The CGE Models The studies based on co mputable general equilibrium (CGE) models predict the effects of the trading arrangement on all variables including production, consumpt ion, trade flows in all sectors of the economy as also on welfare. The studies that apply the CGE model to SAFTA analys is are Pigato et al. (1997), Bandara and Yu (2003), and Raihan and Razzaque (2007). All these three studies emplo yed the Global Trade Analys is Project (GTAP) database and model, though they differ in details due to the evo lut ion o f the GTAP it self (see Box 4). Pigato et al (1997) find that SAFTA would produce benefits for member nat ions though unilateral trade liberalisat ion would yield larger gains. The study by Bandara and Yu (2003) finds that, in terms o f real inco me, SAFTA would lead to a 0.21 percent and 0.03 percent gains for India and Sr i Lanka respectively, while Bangladesh would lo se by 0.10 percent. However, the rest of South Asia (comprising Pakistan, Nepal, Bhutan and Maldives) would gain by 0.08. The authors also endorse the view that South Asian countries might gain much more fro m unilateral trade liberalisat ion and mult ilateral liberalisat ion than fro m SAFTA. 14 Box 4: The GTAP Model The GTAP Model – the global computable general equilibrium (CGE) modelling framework of the Global Trade Analysis Project (GTAP) (Hertel, 1997) – is the best possible wa y for the ex ante analysis of economic and trade consequences of comprehensive multilateral or bilateral trade agreements. The GTAP model is a comparative static, global computable general equilibrium model, and is based on neoclassical theories. Full documentation of the GTAP model and the database can be found in Hertel (1997) and also in Dimaranan and McDougall (2002). The GTAP model is a linearised model, and uses a common global database for the CGE analysis. The model assumes perfect competition in all markets, constant returns to scale in all production and trade activities, and profit and utility maximising behaviour of firms and households respectivel y. The version 6 of GTAP database covers 57 commodities, 87 regions/countries, and 5 factors of production. Raihan and Razzaque (2007) also use the glo bal general equilibrium model (GTAP model) in explaining the welfare effects of any regio nal trading arrangements. The main contribution o f their paper was to decompose the welfare effects of SAFTA (as calculated fro m the GTAP simulat ion results) into trade creation and trade diversio n effects for individual South Asia n 1 countries. 2 The authors ran two simulat ions for two scenarios: SAFTA1 and SAFTA2. Under SAFTA1 scenario, all member countries eliminate their intra­regional tariffs and keep their tariffs wit h the rest of the world unaffected. In the scenario SAFTA2, in addit io n to SAFTA1, Bangladesh eliminates her tariffs for the rest of the world by 50 percent. Box 5 provides the results o f this exercise. It appears that Bangladesh would incur a net welfare loss from the SAFTA1 scenario. Though, for Bangladesh there was a posit ive trade creation effect, the negat ive trade diversio n effect would be large enough to offset the posit ive gain. However, all other South Asian countries would gain fro m SAFTA1. The gain for India would be the largest as far as any individua l country is concerned. In contrast to SAFTA1 under SAFTA2, the negat ive trade diversio n effect of SAFTA1 for Bangladesh would be eliminated to a large extent, and the trade creation effect would be large enough to offset the trade diversio n effect. As a result, there would be a net welfare gain for Bangladesh. 12 It should, however, be noted that the original GTAP framework does not provide any estimates of trade creation and trade diversion aspects of the total welfare effects. In order to estimate these two effects the authors made some adjustments in the GTAP model. The GTAP model provides a net wel fare estimate of the SAFTA simulation which is a sum of the trade creation and trade diversion effects. With a view to isolating the trade creation effect from the total welfare effect a separate simulation was run where necessary adjustments in the GTAP closure were made so that the imports to all the South Asian countries from all over the world (except from the South Asian countries) were held fixed. The wel fare effects from this scenario were nothing but the trade creation effects for individual South Asian countries. This trade creation effect was then deducted from the total welfare effect in the original simulation to get the estimate of the trade diversion effect. 15 Box 5: Trade Creation and Trade Diversion Effects of SAFTA Simulations SAFTA1 Scenario SAFTA2 Scenario Rest of South ­17 6.3 Asia 9 7.1 4 25 .2 6 01 .5 Rest of South Asia 446.5 ­167.4 613.9 92.8 Sri Lank a ­1 9.1 1 16 .2 31 2.6 Sri Lanka ­20.6 113.4 325.9 India ­1 84 .1 ­20 4.5 ­4 6.7 35 9.3 India ­49.3 375.2 84.1 B ang ladesh 2 0.4 ­200 ­100 0 100 200 M illion US$ 300 400 500 600 700 Bangladesh ­300 ­200 ­56.8 140.9 ­100 0 100 200 M illio n US$ 300 400 500 600 700 ­300 Trade Creation Trade Diversion Total Trade Creation Trade Diversion Total SAFTA1 Scenario = Full Tariff removal by the member countries SAFTA2 Scenario = SAFTA1+ Bangladesh reduces her MFN tariff by 50% Source: Raihan and Razzaque (2007) Raihan and Razzaque (2007) also explore the possible reasons for the large trade diversio n effects for Bangladesh. Fro m the GTAP simulat ion results it appears that under SAFTA1, imports fro m China and other low cost sources (all over the world) would decline while that fro m India would increase significant ly, which indicates, as far as the imports into Bangladesh are concerned, a replacement of low lost cost import sources by a high cost source (see Box 6). However, two caveats should be kept in mind while qualifying these GTAP simulation results: first ly, the GTAP database does not allow enough dis­aggregat ion of co mmodit ies, and secondly, since the model is a co mparat ive static model, potential new trade (or more precisely the dynamic effects) cannot be captured. 16 Box 6: Changes in Imports to Bangladesh from Different Countries under SAFTA1 (in US$mn) The high negative trade diversion effect for Bangladesh under SAFTA1 is explained by the fact that imports from India (a relativel y high cost import source) increases substantially and imports from all over the world (relativel y low cost import source) also declines significantly Sri Lanka Rest of the World ­243.3 ­111.6 ­6.3 ­0.9 ­48.5 ­31.8 ­162.9 ­2.1 ­607.2 Rest of South Asia Ko rea Japan China India USA Agricult ural Products Textile We aring Apparels Leather Chemic als Machineries Other Manufact uring Service Total 426.3 279.9 13.8 5.0 133.0 114.4 517.1 ­0.1 1489.4 14.9 3.7 1.7 0.0 3.4 2.2 8.5 ­0.1 34.3 5.7 291.2 8.7 1.4 11.0 6.0 22.6 ­0.2 346.3 ­12.1 ­96.5 ­0.8 ­0.2 ­11.6 ­17.6 ­28.8 ­0.1 ­167.8 ­3.6 ­5.2 ­0.8 0.0 ­4.3 ­16.6 ­60.8 ­0.1 ­91.4 ­1.7 ­38.8 ­0.8 ­2.0 ­12.9 ­6.9 ­59.5 ­0.1 ­122.7 ­16.6 ­2.9 ­1.4 0.0 ­8.0 ­6.6 ­16.0 ­1.2 ­52.8 ­17.1 ­4.3 ­3.6 ­0.3 ­19.4 ­32.1 ­53.1 ­1.8 ­131.6 Source: Raihan and Razzaque (2007) It appears fro m the analys is o f the studies based on CGE models on SAFTA that most of these studies predict a welfare loss for Bangladesh, which is primarily driven by a large trade diversio n effect that dominates over the trade creation effect. The ins ights, which can be derived fro m these CGE models, have been very useful since these models take into account the inter­sectoral and inter­regional effects of any regional trading arrangement like SAFTA. However, the major disadvantage with the GTAP model is that the database, it has, is much aggregated in nature. Therefore, it is difficult to ident ify, at the disaggregated level, the products and the extent to which SAFTA would lead to expansio n of exports fro m Bangladesh to other South Asian countries in general and to India in part icular. In addit ion, being very aggregat ive in nature, these models, in general, are not capable o f capturing RoO aspects in the simulat ion exercises. 4.2.4. SAFTA and the Expansion of Bangladesh’s Exports into Indian Market: A Simulation Exercise using the Partial Equilibrium WITS/SMART Model From the Bangladesh perspective, one o f the majo r quest ions related to SAFTA is whether it would generate substant ial exports fro m Bangladesh to India. In this sub­section, we try to answer this quest ion. The limitation of the GTAP model in handling dis­aggregated data has already been ment ioned. In contrast, a partial equilibrium model, namely the WITS/SMART model, allows analys is at a much disaggregated product level, despite its weakness of ignoring sectoral and regional feedbacks when trade policy instruments are changed eit her in a given sector or all sectors in a given country. However, given its capacit y to allow analys is at high level of dis­ aggregation, the part ial equilibrium models become indispensable especially where there is interest in establishing sensit ive sectors either with regards to industrial or fiscal po licies. One special advantage of the WITS/SMART model is that it allows the analysis to be undertaken at the 6­digit level. 17 EU Using the WITS/SMART model we simulate the SAFTA scenario (remove all intra­regiona l tariff for all countries), and our interest is to see what happens to Bangladesh’s exports to India. This modelling exercise helps us ident ify the sectors in which Bangladesh’s exports are likely to expand in the Indian market under SAFTA. The simulat ion results are presented in Table 3. It appears that under SAFTA, Bangladesh’s exports to Indian market would rise by 1 an amount of US$78mn 3 . However, the top 30 products (at the 6 digit HS code), together, account for 83 percent of the increase in export earnings (US$64.9mn). If products included in the Indian sensit ive lists are excluded from tariff reduction, exports increase by US$64mn. Table 3: Exports rise for top 30 products (HS 6­digit) from Bangladesh to India (‘000 US$) under SAFTA HS Tariff 080290 150790 151620 220290 251710 252329 281410 310420 340111 392690 410419 410449 410719 520299 530310 530710 530720 531010 560710 630492 630510 720421 740400 740811 740819 790111 850680 850690 850710 850720 Description Other nuts fresh or dried Soy bean oil and fractions Vegetable fats and oils Mineral water Pebbles, gravel or crushed stones Cement Anhydrous ammonia Fertiliser (potassium chloride) Toilet soap Plastic articles Other tanned or crust hides and skins of bovine Tanned or crust hides and skins of bovine Leather further prepared after tanning or crusting Cotton waste Jute textile Yarn of Jute Multiple yarn of jute or other textile Unbleached woven fabrics of jute Jute ropes Other made up of textile (not knitted or crocheted of cotton) Jute bags Ferrous waste of Stainless steel Copper waste and scrap Copper wire Other Copper wire Unwrought zinc (containing by weight 99.99% zinc or more Other primary cells and primary batteries Parts of other primary cells and primary batteries Lead acid electrics Lead acid electrics Total for top 30 products Total for all products Total excluding the products in the Indian Sensitive list Increase in Exports 5012.20 1878.05 2539.79 908.30 504.48 463.48 17039.55 566.87 814.10 3880.31 576.55 930.40 555.76 1234.79 3314.02 2742.05 923.35 1500.70 2670.10 568.22 7506.17 1121.73 704.16 1296.94 1112.54 765.19 499.31 488.07 1306.81 1487.20 64911.11 78130.83 64006.38 Source: WITS/SMART simulation results Note: Products in the shaded rows are included in the Indian Sensitive List for LDCs 13 It should be noted here that originally the WITS/SMART model simulation results indicate an increase in exports from Bangladesh to India by only US$24mn. However, the GTAP simulation results for a similar scenario suggest an increase in such exports by US$78mn. In the current exercise we have considered the GTAP simulation result, and the increase in exports by US$78mn has been distributed among different sectors in the WITS/SMART model as per their shares in the rise in exports by US$24mn (the result of the original WITS/SMART model). 18 An analys is of Table 3 suggests that under SAFTA, Bangladesh may not be able to expand her exports to Indian market substantially. The presence of sensit ive lists will further acts as hindrance for export expansio n. The WITS/SMART simulat ion results also suggest that exports of ‘other made up of textiles’ (HS code 630492) from Bangladesh to India would increase only modest ly under SAFTA, though Bangladeshi exporters consider India to be a good market for Bangladesh’s RMG. A crit ical question thus arises whether the mode l simulat ion results are correct or the exporters in Bangladesh have so me wrong notions about their comparat ive advantage on RMG exports as far as the Indian market is concerned. 4.2.5. Some Final Observations on the Partial Equilibrium and General Equilibrium Simulation Results Despite their limitat ions both the partial equilibrium and general equilibrium models are useful in assessing the impacts of any RTA on the member countries. If carefully designed, simulat ion results fro m these models provide useful insights in analysing the static gains fro m such PTAs. However, since most of these models are static in nature, they are not capable of capturing the dynamic impacts of such trading arrangements. Also, when trade is restricted (whatever may be the reasons) – both partial equilibrium and general equilibrium models cannot capture the ‘new trade’. Because, if the init ial base o f trade in any product is very low (or even zero), there would not be any substantial increase (or no increase in the case o f zero base) in trade for that particular co mmodit y as far as these model simulat ion results are concerned. However, as evidences suggest, mutual tariff concessio ns can lead to trade in new items. In the case o f bilateral FTA between India and Sr i Lanka, Sr i Lanka benefited fro m exporting Vanashpati o il to India (which was almost nil before the FTA) by taking advantage of this preferent ial trading arrangement.. The aforement ioned arguments in no way, however, undermine the usefulness of the partial equilibrium and general equilibrium modelling exercises wit h respect to RTA analys is. The static gains/lo sses o f any RTA are rather obvio us co mpared to any dynamic gains/losses which are uncertain, and are also dependant on many other ‘uncertain’ factors. 5. Feedback from the Policy Makers and Business People in Bangladesh We shared the results o f the aforement ioned review and simulat ion exercises wit h a few ke y policymakers and representatives of other stakeholders to gather their percept ion on them.14 It appears that the policy makers and the business people are aware of these issues, and they, to some extent, agree with many o f the concerns raised by a number o f empirical studies o n SAFTA. However, they have different opinio ns too. Discussions with the policymakers and business people in Bangladesh suggest that the benefit that Bangladesh foresees through SAFTA is her substant ial market access in India. It has already been ment ioned that together with the trade through informal channel, India is by far the biggest source of imports for Bangladesh. However, despite growing huge and sustained trade deficits, India has not yet provided any meaningful trade concessio ns to Bangladesh. While some insignificant tariff concessio ns have been o ffered so far under SAPT A and SAFTA, non­tariff and para­tariff barr iers far outweigh the benefits o f tariff concessio ns. 14 The people interviewed include, among others, a high official in the Tariff Commission, Ministry of Commerce in Bangladesh and the President of a leading Chamber of Business and Industries in Bangladesh. 19 Discussions wit h the polic ymakers and business people also indicate that there are a number of products which have significant export potentials in the Indian market under SAFTA. These are plastic and melamine products, chemical products, toiletries, copper wire, betel nuts, raw jute, jute products and fert iliser. However, a number o f such products, i.e., plastic products, toiletries, betel nuts (included in other nuts: HS 080290) are included in the Indian SAFTA sensit ive list, which makes the expansio n of exports of these products in the Indian market almost impossible. Bangladeshi exporters also face a number of non­tariff and para­ tariff barr iers in the Indian market. A list of non­tariff and para­tariff barr iers faced by Bangladeshi exporters in Indian market is presented in Table 4. Table 4: Non­tariff and Para­tariff Barriers Faced by Bangladeshi Exporters in India NTBs Classification of Goods Description Customs authorities in India, in many cases, do not agree with the HS classification declared by exporters. There is a tendency of reclassifying the products in such a manner so that higher duties can be imposed. Indian customs authority often does not accept the value declared by Bangladeshi exporters. Arbitrary valuation by of goods makes the products uncompetitive. Often each consignment of food products is subjected to certificate from the Port Health Officer. Samples are sent to testing laboratories which are far from the customs stations. Such chemical tests are applicable to leather and leather goods, plastic, and melamine products. For leather goods, NOC from Wildlife Department is also required. All pre­packaged products are to carry such information as: name and address of the importers, generic common name of the product, net quantity in standard unit of weights and measures, month and year of packing, maximum retail sales price including all taxes, freight, transport charges, commission paya ble to dealers. Every jute bag carry, ‘bag made in ­’which must be machine stitched. Customs Valuation Testing Requirements Mandatory Requirement for Labelling and Marking Special Labelling for Jute Bags Mandatory Standards Requirement Since August 2003 mandatory marking form Bureau of Indian Standards (BIS) is required for import of 159 commodities. These products include, amongst others, cement, steel tubes, stoves, electrical and electronic items, steel products, leather products, helmets, gas cylinder, batteries, and mineral water. Foreign manufactures intending to export these products will have to set up an office in India, with the permission of the Reserve Bank of India. Sanitary and Phyto­sanitary All primary agricultural products are subject to bio­security and sanitary and Measures phyto­sanitary import permits. Determination of eligibility procedure suffers from lack of transparency. Technical Regulations (1) Import consignment containing textile and textile products shall have to accompany a pre­shipment certificate from a textile testing laboratory accredited to the National Accredited Agency of the country of origin. If such a certificate is not available consignment will be cleared only after testing the same from the notified agencies. (2) All pharmaceutical products must be registered by the Central Drugs Standard Control Organisation headed by the Drugs Controller of India. (3) For jute products a certificate is required from a national testing agency confirming that the content of non­halogenated hydrocarbon (jute batching oil) in the jute bags for packaging purposes shall not exceed three percent by weight. Quarantine Requirement All imports of plants, fruits, and seeds have to obtain an import permit at least one month in advance and all imports shall be subject to inspection by officer in charge of plant quarantine station. Jute and jute products are often subject to such requirement even though they are not living organisms. Tariff Value Import of C.I. sheet is subject to a tariff value of US$590/600, while the price of such product from Bangladesh is not above US$450. Countervailing Duty Countervailing duty at a rate of 16 percent is imposed on agro­products, toiletries and cosmetic items. Source: Based on the information compiled by the Ministry of Commerce. 20 The po licy makers and business people in Bangladesh are also concerned because it is not clear in t he Treat y whether other NTBs will be removed wit h QRs. The exist ing Treaty provisio n is for eliminat ion o f only QRs on products included in the trade liberalisat ion programme (TLP). The Treaty is, however, silent on the remo val o f para­tariffs and NTBs. Unless these barr iers to trade are removed simultaneously wit h the reduct ion of tariffs, it will be difficult to explo it the full gains fro m various phases o f tariff reduct ion, and the object ive of preferential tariffs will be defeated. A more serious concern is that in the SAFTA Treat y there is no format for phasing out the negat ive list over the years. The criteria for designing RoO are not clear either. It also appears that the Treaty is silent about how SAFTA will integrate the bilateral and mult ilateral trade arrangements that currently exist between so me SAARC countries and between SAARC countries with outside the region. There are concerns that if, for example, the pace o f tariff reduct ion is not accelerated, SAFTA may beco me irrelevant in light of other agreements. Also, with respect to RoO, there are discrepancies while co mparing the SAFTA treaty wit h the India­Sri Lanka bilateral FTA agreement and also wit h the BIMSTEC agreement. A number of suggestions have emerged fro m the discussio ns. To minimise its potentia l adverse effects and maximise its beneficial effects there should be: (i) minimisat ion of the sectoral/product exceptions, (ii) have ‘RoO’ that are very liberal, simple, transparent, and remain the same for all products; and (iii) have clear rules against tariff­rate quotas. There should also be regio nal cooperation in trade facilitat ion, harmo nisat ion o f standards and policies, and infrastructural developments. There could be a Regio nal Fund for the development of infrastructure, human resources, and improvement of export supply capacit y of LDCs. 6. The Prospect of Multilateralism with Regionalism for Bangladesh As has been ment ioned before, the regional market in South Asia has not yet been an important destinat ion for Bangladesh’s export products. More than 90 percent of Bangladesh’s export products are destined to the North American and EU markets. Therefore, Bangladesh has a vital interest in improving her market access to global markets. While the importance of the larger integrated market of the South Asian countries can hardly be ignored, Bangladesh is also putting serious efforts at the mult ilateral trade negotiat ions. Bangladesh’s has so me o ffensive interests at the WTO negotiat ions and these include gaining duty­free quota­free (DFQF) market access o f LDCs’ products in the developed as well as in the advanced developing countries, and temporary mo vement of her unskilled labour in the developed countries under GATS’s mode IV negotiat ions. Studies have indicated that Bangladesh is likely to gain significant ly if DFQF market access is ensured for her exports in the developed and advanced developing countries.15 Also, there are importance gains fro m the migration o f unskilled labour as the remittances sent by the migrants contribute much to the eradicat ion of poverty in Bangladesh (Raihan and Khondker, 2007; Annabi et al, 2006). 15 Raihan et al (2007) explored, using the GTAP model, different duty­free­quota­free (DFQF) market access scenarios for the products from Bangladesh (as well as from other LDCs) in the economies of developed and advanced developing countries. The simulation results suggested significant gains for Bangladesh in terms of welfare and export rise. The paper called for serious negotiating efforts from Bangladesh at the WTO in order to secure such DFQF market access. 21 Bangladesh should also try to expand its export outlets outside the region, such as the BIMSTC, D­8, and the IOR­ARC, of which Bangladesh is a member. Bangladesh may also seek to improve its trading relat ions wit h the ASE AN. Attempts may also be made to obtain an associat ion status with the ASEAN, which would open enormous opportunities for expanding export to ASEAN countries and also attracting FDI fro m that region. 7. Challenges and policy options for making SAFTA an effective vehicle of trade­led growth for Bangladesh: The Call for a ‘SAFTA­Plus’ Agreement The exist ing SAFTA Treaty is predominant ly centred on ‘trade in goods’. Though the strategies suggested in the foregoing sect ions would be expected to stimulate intra­regiona l trade in South Asia, it is presumed that Bangladesh cannot hope for too much gain fro m the exist ing Treaty to enhance its growth opportunities merely by pro moting exports to the regional market. Bangladesh's exports to the South Asian regio n are very small, and a doubling, trebling, or even a quadrupling of its intra­regional exports will not lead to any significant expansio n of its total exports. Therefore, in addit ion to the promotion of trade a number o f areas need to be addressed for making the regional econo mic cooperation in South Asia an effective vehicle for promoting econo mic growth in the Member countries in general and in Bangladesh in particular. For that purpose, SAFTA Treat y should go beyo nd the mere Agreement in ‘trade in goods’, and there is a need for so me kind o f ‘SAFTA­Plus’ agreement which will include regio nal co­operation mechanism in the areas o f invest ment, finance, services trade, trade facilitation and techno logy transfer.. The proposed ‘SAFTA­Plus’ agreement should call for creating an enabling environment to promote intra­regional invest ment. The creation of a SAARC Investment Area through an intra­SAARC invest ment agreement could create such an environment (SACEPS, 2002; RIS, 2002). As an example, the trade­investment nexus has co me into effective operation in India­ Sri Lanka bilateral FTA and the large trade deficits between these two countries have been compensated by t he capital account through significant invest ment flows (RIS, 2004). In the context of invest ment flows, horizontal and vertical integration of industries of South Asia beco mes important to face the glo bal co mpetit ive pressures. Even though a mult itude of literature is available on these crucial issues, the exist ing agreement has co mpletely overlooked these areas and so lely focused on trade facilitat ing measures in Article 8. The ‘SAFTA­Plus’ Agreement will also enhance Bangladesh's prospects for getting larger investment inflows fro m the more developed partner countries in the region. These investments, whether 100 percent ownership by regional investors or joint ventures, should help improve the country's export supply capabilit y and boost exports both to the region and to the outside world. It is obvious that without significant structural changes in her production pattern Bangladesh is unlikely to be able to derive the desired benefits fro m SAFTA. Top priorit y, therefore, should be given to augment ing Bangladesh’s export supply capabilit y. A major limitation of the exist ing Treaty is that it leaves out trade in services. A number o f empirical literatures have shown that the trade in services can generate substant ial gains as against the gains fro m trade in goods. Considering the sensit ivit y o f this issue, the GEP report (1998) did not recommend the liberalisat ion of trade in services. But it suggested regularisat ion of the informal labour movement on the basis o f regional norms and mechanis ms and evo lving rules and procedures to make things easier for the service 22 providers and consumers in the social sector, particularly healt h and educat ion. The ‘SAFTA­ Plus’ Agreement should assign much importance on promoting services trade in the region. 8. Conclusion This paper has examined the implications of SAFTA for the economy o f Bangladesh. In doing so it has reviewed Bangladesh’s bilateral trade with her neighbouring countries. The paper has also examined the S&DT provisio n for LDCs under SAFTA. The paper reviewed a number of studies which conducted qualitat ive and quant itative assessments of SAFTA and its implicat ions on the Bangladesh econo my. It appears that there are conflict ing arguments on the success of SAFTA as well as on whether Bangladesh would stand to gain fro m SAFTA. The debate appears to be far from conclusive. However, rigorous economic analys is suggests that Bangladesh may not be able to gain much within the exist ing ‘trade in goods’ based agreement. The possibilit y o f a large trade diversio n for Bangladesh under the full implementation of exist ing SAFTA Agreement, is high. However, it is also important to note that trade diversio n for Bangladesh and possibly for other LDCs under SAFTA is inevitable. 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This note was uploaded on 04/22/2011 for the course BBA MKT 425 taught by Professor Aakter during the Spring '11 term at BRAC University.

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