Shovon Islam, owner and MD of Sparrow Industries
Dr. Forrest Cookson, Economist
This article is a discussion between Shovon Islam the owner of Sparrow Industries and Forrest Cookson. The discussion covered some of the essential issues facing the ready-made garment sector. The health and development of the sector are the key to the future of the Bangladesh economy over the next decade. Economic growth is the central objective of Bangladesh. Achievement of common aspirations of a higher living standard, a more equal distribution of income and wealth, better infrastructure, improved health and education all depend on achieving a strong growth of the economy. The growth of the economy in FY24 was very low, well below 4%. Declining exports and imports, little investment, lower government consumption expenditures all lead to GDP growth of 0-1% at best. Return to growth of the economy is dependent on export growth. Over the next decade the only way that export growth of 7-9% can be achieved is through expansion of the garment sector. Diversification of exports has been an aspiration for decades, but no progress has been made. While there are good prospects for diversification it will take many years before these can become significant; growth over the next decade depends on the RMG sector.
We began discussing the tax and subsidy position. There is a 1% tax on the earnings in the garment sector when the funds are received in Bangladesh. There is a subsidy of 0.3% received by the exporting company based on the shipment documents. The administration of these two are different. The 1% tax is simple, Bangladesh Bank takes it off the payments from the foreign buyers. The management of the subsidy is difficult. Shovon explained that it takes a long time to obtain this subsidy and there is a large amount of documentation needed. It is much simpler to combine the two and collect a tax of 0.7% on the received payments. About 10% of the costs of the garment are local on which the VAT is paid. Finally, the corporate tax must be paid 15% for regular factory and 12% for green factory.
The second topic is the old issue of the large number of Sri Lankan and Indian technicians working in the industry. The Sri Lankans came when the garment industry collapsed with the civil war. Shovon observes that the garment industry is rebuilding in Sri Lanka and many working here are returning. Conditions are favorable in Sri Lanka with excellent port facilities, well-educated labor force, and law and order. I asked him why these persons cannot be replaced by Bangladeshi technicians. He was clear that skilled technicians in Bangladesh are rare. First, the basic education system is poor, and the foundation of reading and arithmetic are not present. Technical schools and universities do not produce persons interested in doing this kind of work. It is doubtful if much progress can be made quickly.
I asked about the much discussed question of shifting production from China to Bangladesh. First there is the issue of the Chinese Economic Zone on the left side of the Kharnapuli River. This we believe is not yet complete although its construction has been going on for years. I assume that there are issues of electricity and gas, a considerable demand for a major Economic Zone. As Chinese exports have decreased over the past seven years, much of the production has shifted to the domestic market, demand increases with rising income. One must differentiate between the Chinese reducing garment exports as they shift production to domestic markets and shifting part of their export production to other countries. The previous Government had lined up a substantial volume of Chinese capacity that was prepared to shift to Bangladesh. Shovon indicated that about 30% of this capacity has pulled back due to the revolution in Bangladesh and the rest is waiting to see how conditions develop. One should be aware that the United States is of course aware of Chinese industry shifting to other locations to avoid the potential rise in tariffs that Trump has threatened.
Shovon explained that a large volume of woven garments made in Bangladesh were denim, a cotton-based fabric. The cutting tolerances for denim garments are quite high compared to higher value garments. A large part of Bangladesh woven exports is made from denim; orders are large so production runs are long. Bangladesh is very efficient in producing these garments. Another part of the woven production is of higher quality and is difficult to make in a timely manner. Before sewing there is considerable preproduction work and great care must be taken with the cutting as the shape of the garment must be exact; the washing must be carefully managed as shrinkage differs for each roll of cloth. Time is short as fabric has to be shipped to Bangladesh, clear customs which takes excessive time; after the arrival of the cloth, preproduction actions take place, the garment is then sewn, washed shipped to Chittagong and exported. Large container ships do not come to Bangladesh due to the shallow Bay of Bengal. Thus, goods are transshipped through Colombo or Singapore. The transport and customs take too much time squeezing the time available for production work. This is the fundamental reason why most of the woven garments produced are of the simpler type. The Chinese garments shifting to Bangladesh were more complex. The future of the shift of Chinese production to Bangladesh is uncertain. In fact, there was quite a lot of FDI lined up sourced from China and Japan. With the overthrow of the Hasina government these investors have stepped back to wait to see what happens. There are clear issues of law and order, political stability, energy availability, and an orderly labor force that have emerged with the Interim Government. Establishment of law and order will take time, but this is clearly a precondition for FDI. Political stability comes with an election; everyone knows that there will be an election and until that is completed no one knows if the country will settle down. The same is true of the electricity supply where gas will be either imported [LNG] or new discoveries will be made to enable increased domestic production. If gas fields are discovered, it will take some time to develop and begin production. Construction of a large degasification facility will take several years to construct. While the Interim
Government is doing an excellent job of untangling the power sector issues, there are problems everywhere and this is likely to cause Chinese business to defer final decisions to invest. There are potential conflicts with the Adami project, uncertainty as to the starting date of the nuclear power plant, and the construction of needed transmission systems. Finally, there have been regular labor disturbances with the arrival of the Interim Government. The workers believe that wages are too low and are beginning to assert their demands. Many factories have trouble paying wages. All these factors will slow down investors in the textile and RMG sectors. The conclusion is that increased capacity of production for the EU or the United State is likely
We took up the development of man-made fibers. Shovon explained that the before Covid about 80% of the woven garments used cotton fabric and 20% man-made fibers; that has shifted to 55/45 so garments made from manmade fibers are almost half. However, there are no factories being constructed to manufacture such fibers and the industry must import all the fabric used. Attracting an investor or two is important as this is an area where demand is growing.
The sector suffers from poor electricity supply. This is an area of tremendous importance if exports are going to increase. The electricity supply faces so many difficulties that one is not optimistic. Further the government seems to be headed for an increase in the price but it is not clear if the quality and quantity will increase. Similarly, gas pressure is often too low. Water supply is plentiful but rules from the EU insist that 75% of the water used must be recycled.
A very serious problem is the large amount of non-performing loans held by RMG factories. The current drive to recover loans will put great pressure on the owners. If the banks put more pressure on the owners to repay the loans, then the returns, already low will drive many factories into negative return to equity. This will discourage investment to achieve higher productivity and higher capacity. Shovon believes many, perhaps most, are earning low returns. Most factories are built with little owners’ equity, rather using all bank loans. The owners take money out of the business allowing the loans to go into default. This worked do long as the banks and the central bank allowed the buildup of bad loans. Shovon thought that the stock market is too weak and poorly run to be a source of funding for the RMG sector.
We discussed the condition of compensation of the workers. He was surprised by the newspaper stories of worker protests at the increment award of 4% bringing the total increment in January to 9%. He said at his factories everyone was cheering when the news came out. We discussed the basic misconception of many. The wages that are quoted by the Wage Board starting at Taka 12,500 per month are for workers who are just beginning. and does not include overtime. The overtime rate is twice the basic wage. Shovon’s average worker is taking home Taka 30,000 per month. The amount of overtime depends on the volume of orders. The problem is not the number of orders but the concentration of production on low-cost products where the competition is fierce. Owners want to produce as much as possible even if they are making very little. If there is enough overtime, then the salary of the worker is just fine. In the past there was widespread loan default. The owners took that.
Shovon and I would agree that the only hope for a strong growth of exports is to shift to higher quality products with shorter production runs and of greater complexity. These are the type of products the Chinese are exporting but at a declining rate. One obtains the Chinese reduction in exports by raising the quality of the product. Owners must be prepared to invest in new machinery and equipment to raise productivity. In that way the owners can earn a higher return and repay their loans.
The Government has important work to do. First, it should try to improve the industrial engineering departments at the universities and at the technical colleges, with greater focus of the course work on the RMG sector. Everyone should do an internship in a garment factory. In this way replacements for the Indians and Sri Lankans can be developed.
Second the electricity should be improved. Elsewhere Cookson has suggested a special distribution system for the garment factories. The Power Development Board should work out a system for ensuring there is power. This cannot wait but is a matter of immediate need.
Third Chittagong Port can run better. The Dhaka-Chittagong Highway is crowded but there are no good solutions that would have an impact starting in two years. A preshipment inspection system for all imports for the RMG sector would ease the Customs problems. Turning over management of the air cargo system would be a big improvement,
