All garment exports from Bangladesh will get 1 percent cash subsidy from the government with retrospective effect from July 1, 2019. The coverage of the cash incentive was expanded to only include terry towel and specialized textiles. What is the rationale for picking garments when the avowed policy agenda is export diversification beyond garments and when non-garment exports have also declined?
Let's go back to the basics on the economics of subsidies. Public economics provides justifications for subsidies on grounds of equity and efficiency. For instance, subsidizing fertilizer can be seen as supporting farmers. Subsidies can increase economic efficiency when markets do not operate efficiently or even fail to exist. Seen in that light, a subsidy may address either insufficient returns or excessive risk. In both cases, governments attempt to design the subsidy so that it delivers the minimum uplift needed to induce investment without conferring excess profits to investors.
Here we are dealing with a much more specific question—export subsidy to garments. This is a well-established industry that is currently facing a downturn due to some external headwinds and longstanding domestic bottlenecks that have started to bite as the international competitors are beginning to catch up. The economic argument in this case is about protecting existing exports without having anything that will incentivize firms to become more productive. By limiting it to garments, we have also closed eyes to the policy agenda of greater export diversification which is more likely to be associated with growth and building resilience to global headwinds.
When the government decides to subsidize a specific activity to support, such as exporting, it still has to gauge the appropriate products as well as the instrument and monitor results. Why cash subsidy is the most appropriate instrument and not exchange rate adjustment? Why just garments and not all exports? Why is the cash subsidy linked to the shipment value of exports and not to investments in clean technology, safer factories or increasing worker productivity?
Crucially, governments, civil society, and all else with a stake in export-oriented development need to know what success would look like. Now, in this case do we know what success must look like other than hoping that because of this subsidy garment export growth will turn around and be back to their business as usual. How is that going to happen when, according to the garment owners themselves, the sector has already lost its competitiveness to Vietnam and India in the major markets?
One could of course argue that economics is about giving people what they want. If society agrees that garment exports should be subsidized, that can be justification enough. Does our society agree and, if so, how have the policy makers reached that conclusion? The question is not just whether garment exports should be subsidized but also how best can they be subsidized to yield what results and why not all exports. Last I checked, the garment dollars have the same purchasing power as the frozen food, leather or light engineering or any other export dollars. What then justifies singling garments out for additional cash subsidy?
The Bangladesh Bank circular issued on January 7 details the documentations and the process which the eligible exporters must go through to claim the subsidy. It is a classic example of how policymakers can unnecessarily make life complicated for themselves and their clients while actually trying to help them. It appears that we have no concerns about the costs associated with distributing a subsidy. Identifying the recipients of subsidies, checking the veracity of information provided in the application forms, delivering them the subsidy through banks and then reimbursing the banks from the central government account is not a journey on a straight road.
Even the garment owners do not appear to be too pleased because they think the execution of the promise has come too late. They still want currency adjustment to get the ultimate leg up in the global market. That indeed would have done the trick for all exporters, thus helping not just export diversification but also broader economic diversification through efficient import substitution. The usual answer that currency adjustment could be inflationary, and therefore cash subsidy is better, assumes there are no economic costs of subsidies. Nothing could be further from the truth. Even if taxes are levied in a non-distorting manner, which is never the case, subsidies have opportunity costs. These opportunity costs are particularly high in a country where the tax-GDP ratio is one of the lowest in the world and where access to debt finance is limited.
The author is an economist.