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Manufacturing

Topic # 3. Manufacturing. Agriculture. The share of agriculture in GDP was 60% in 1947. Today, it contributes 22% and 78% contribution comes from industry and services Production of wheat was 4.0 million tons in 1947. Today we are producing over 23-24 million tons - almost 6 times more

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Manufacturing

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  1. Topic # 3 Manufacturing

  2. Agriculture • The share of agriculture in GDP was 60% in 1947. Today, it contributes 22% and 78% contribution comes from industry and services • Production of wheat was 4.0 million tons in 1947. Today we are producing over 23-24 million tons - almost 6 times more • Production of cotton was approximately 1.0 million bales in 1947. Today we are producing close to 13.0 -14.0 million bales • Production of sugarcane was 10 million tons in 1947. Today we are producing over 55-60 million tons

  3. Industry • The areas comprised Pakistan presented a dismal picture at the time of independence. There was little manufacturing industry in Pakistan. • Out of 14,569 industrial establishments in British India in 1947, only 1406 units (less than 10%) were located in the areas that comprised Pakistan. • At the time of independence, Pakistan had a narrow industrial base with 34 units of textile, sugar mills and some cement factory • In 1947 there were 177,000 spindles in Pakistan. Today we have 9.3 million spindles. There were 4800 looms in 1947; today we have approximately 3.0 million power looms

  4. Pakistan used to produce 35,000 tons of sugar and today we are producing more than 3.5-4.0 million tons of sugar • At the time of independence Pakistan was producing 270,000 tons of cement. Today we are now producing over 28 million tons of cement • Pakistan inherited very weak infrastructure at the time of independence. Pakistan inherited 22,000 km road and today we have a road network of 258,350km

  5. Development Strategy Followed

  6. Overview of the Industrial Strategy • For about 30 years after the WW-II, development policies in many developing countries were strongly influenced by the belief that the key to economic development was creation of a strong manufacturing sector. • The best way to create/develop manufacturing sector was to protect domestic industry from international competition. This strategy became popular as infant industry argument.

  7. The Infant Industry Argument • New manufacturing industries in developing countries cannot initially compete with well-established manufacturing in developed countries. • The allow industries in developing countries to gain strength, the government should temporarily support new industries to meet international competition. • Tariffs or import quotas were used as temporary measures to get industrialization started. • US, Germany and Japan have used tariffs/quota to strengthen their industrial base in 19t Century and until the 1970s (Japan)

  8. Problems with Infant Industry Argument • It is not always good to try to move today into the industries that will have a comparative advantage in the future. Suppose that a country that is currently labour-abundant is in the process of accumulating capital: when it accumulates enough capital, it will have a comparative advantage in capital intensive industries. That does not mean it should try to develop these industries immediately. • Protecting manufacturing does no good unless the protection itself helps make industry competitive.

  9. Import Substitution Industrialization • Although development economists doubted the efficacy of this strategy, many developing countries including Pakistan pursued this strategy by providing special support to their industries. • The support provided to manufacturing industries in a variety of ways that include: • Subsidies to manufacturing production • Subsidies for the export of manufactured exports • The main philosophy of this strategy has been to develop industries oriented toward the domestic market by using trade restrictions such as tariff, quotas etc. • This strategy of encouraging domestic industry by limiting imports of manufactured goods and is known as the strategy of import substitution industrialization.

  10. Why Import Substitution Strategy? • Skeptical about the possibility of exporting manufactured goods (elasticity pessimism) • Political bias towards producing every thing within the country • It benefited powerful, established interest groups • Blamed the prevailing international economic environment, that is, hegemony of developed economies in manufactured exports.

  11. Why Import Substitution Began to Lose Favour? • Developing countries failed to catch up with developed countries by pursuing this strategy • Infact developing countries lagged further behind. India was poorer relative to the US in 1980 than it had been in 1950. • A period of protection failed to create a competitive manufacturing sector. • Poor countries lacked skilled labour, entrepreneurs and managerial competence. Such improvement can not be brought by pursuing a protectionist policy. • Protection policies of many developing countries badly distorted incentive structures.

  12. Many developing countries used excessively complex methods to promote their infant industries • Discriminating against Exports • Import quotas • Exchange controls • Overvalued Exchange Rate • Multiple exchange rate • High tariff barriers • Domestic content rules • Quantitative Restrictions

  13. Effective Protection Rates • Mexico (1960) 26% • Philippines (1965) 61% • Brazil (1966) 113% • Chile (1961) 182% • Pakistan (1963) 271% • These high rates of protection allowed industries to exist even when their cost of production was three or four times the price of the imports they replaced

  14. Export Promotion (EP) Strategy • Trade and Industrial Policy do not Discriminate between Production for Domestic Market and World Market • Links Domestic Economy to the World Economy • EP Strategy Relates to Average Incentives • EP Strategy can co-exist with IS Strategy in some Sectors • EP Strategy does not Imply the Absence of Government Intervention • EP Strategy relates to Trade Incentives

  15. Industrial Strategy Pursued

  16. Overview of the Development Strategy • Development Strategy can broadly be Classified into: • Import Substitution/Inward Oriented • Export Promotion/Outward Oriented • Import Substation is Associated with: • Protecting Infant Industries • Discrimination Against Exports • Overvalued Exchange Rate • Multiple Exchange Rate • Import Control • High Tariffs • Quantitative Restrictions • Production for Domestic Market Under the Protection of Tariff wall and Non-Tariff Barriers

  17. Export Promotion (EP) Strategy • Trade and Industrial Policy do not Discriminate between Production for Domestic Market and World Market • Links Domestic Economy to the World Economy • EP Strategy Relates to Average Incentives • EP Strategy can co-exist with IS Strategy in some Sectors • EP Strategy does not Imply the Absence of Government Intervention • EP Strategy relates to Trade Incentives

  18. Why IS Strategy Pursued in the Developing Countries • Production and Exports Oriented towards Primary Commodities • Non-Existent of Production Capacity to Produce Manufactured Goods • Export Pessimism (Price Elasticity of Demand for Primary Commodities were low) • Terms of trade Deteriorating Against Primary Commodities • These Factors were so Convincing that the Article XVIII of GATT allowed Developing Countries to Protect their Industries through High Tariff wall and Quantitative Restrictions • Such Exception Legitimized IS Strategy, Postponed much Needed Trade & Payment Reform

  19. Pitfalls of IS Strategy • IS strategy did help produce strong economic growth in many developing countries • Ability to Sustain High Economic Growth Weakened over time • The ideal situation would have been to not to prolong IS Strategy, and Efforts should have been to remove anti-export bias fairly quickly

  20. Pitfalls of IS Strategy • Major shortcomings of IS Strategy Include: • Enhanced Dependence on Foreign Exchange/Aid • Foreign Exchange Shortages Emerged • Overvalued Exchange Rate • Capital-intensive Bias Promoted • Raised ICOR • Higher Saving Ratios Required to maintain growth • Encouraged Smuggling and fake invoicing • Created Artificial Scarcity and Encouraged Black Markets for Imported Goods • Negative Real Interest Rates

  21. Benefits of EP Strategy • Promote Efficient use of Resources • It involves incentives Rather than Control • Encourages Production for World Market and Achieve Greater Economies of Scale • Promotes the Culture of Competition in domestic Industries • Encouraged Adoption of New Technology: Transfer of Technology Takes Place • It Provides Self-Correcting Mechanism to Align Macroeconomic Variables (Exchange Rate Alignment) • This Strategy raised Saving Ratios • Superiority of the EP Strategy over IS Strategy was no longer an issue

  22. 1950s • IS Strategy Pursued Vigorously • Highly Protected Environment for Industrialization • Quantitative Restrictions on Imports and other NTBs have been the principal policy instruments • Overvalued Exchange Rate • Heavy Reliance on Export Taxes and Imports Duties for Revenue • Most Extreme form of Protection lasted for 7 years (1952-1959)

  23. 1960s • Government began to promote exports by reducing anti-export bias • Introduction of Export-Bonus Scheme which was in effect a multiple exchange rate system favouring manufactured exports • Preferential Access to Foreign Exchange for Industries with Export Potential • Import Liberalization for export-oriented Industries • Automatic Renewal of Import License for Industrial raw materials based on their export performance • Import of raw materials and spares for export-oriented industries were placed on the free list

  24. 1970s • Three most significant measures of trade liberalization to reduce anti-export bias were taken • devaluation • elimination of export-bonus scheme • end of restrictive licensing in 1972 • six separate import lists were reduced to only two lists–a free list and a tied list

  25. 1980s • Level of Protection reduced significantly–41% of domestic industrial value added was protected by import bonus and another 22% by various forms of import restrictions. Reduced to 29% and 3.7% respectively by 1986 • Government switched from Positive to Negative list system • Number of Tariff slabs reduced from 17 to 10 • Uniform 12.5 % Sales Tax • Maximum Tariff Rate was reduced from 225% to 125% (All in June 1987) • Despite these measures Pakistan’s average tariff rate was still high in relation to other developing countries • About 50% of all tariff categories and 84% of consumer goods carry custom duties in excess of 75% • Shift from Fixed to Managed Float Exchange Rate Regime • Opening Rice and Cotton Export to Private Sector

  26. 1990s • Almost all NTB, replaced with tariffs • Maximum tariff rate reduced to 45% in 1997-98 from 125% in 1987 • Merging of Para tariffs with statutory rates • No. of Slabs reduced from 10 to 5 (10%,15%,25%,35% and 45%)

  27. Beyond 1997/98 • Major Departure from IS Strategy to a strong trade liberalization program • Key objectives have been: • enhancing domestic competition • boosting trade integration • export diversification • gradual alignment of domestic prices with international prices • Improvement in Trade Policy Regime through further tariff cuts and rationalization • through removal import quotas • through import surcharges and the Regulatory Duties • Top Down Reduction in Custom Duties • MTR reduced to 25% in 2002/03 and it remains at this rate in 2008/09

  28. Beyond 1997/98 • No. of slabs further reduced to 4 (5,10,20 and 25%) • Extremely High Duty Rates on import of automobile (75-150%) in 2003/04 Reduced to 50-75% in 2005-06 • By any standard, Pakistani trade liberalization since 1997/98 has been significant • Average tariff rate declined from 47.1% in 1997/98 to 14.4% in 2005-06 and further to 11% in 2007-08

  29. THANK YOU

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