Challenges after LDC graduation: Are we ready?

As a testimony to its impressive socio-economic progress, Bangladesh is set to graduate from the group of least developed countries (LDCs). Bangladesh is almost certain to satisfy graduation criteria again in the second consecutive United Nations triennial review, to be held in February 2021, leading to its official graduation—after a three-year transition period—in 2024.

This important achievement however will bring in certain challenges like loss of trade preferences in more than 75% of Bangladesh's exports. Our exporters could see average tariffs on their exports rising from zero to 17% in Canada, 16% in China, 8.7% in Japan, and 8.6% in India (along with various items being put back on the negative list, for which India does not provide any preferences). 

Post-graduation market access provisions in the EU are not settled yet, but under the existing terms, Bangladesh will not qualify for the GSP+ (GSP plus) scheme that allows non-LDC countries duty-free market access in the EU. This would result in the average tariff rate facing Bangladesh's garment exports in the EU rise from zero to about 10%.

What would be the impact of rising tariffs on Bangladesh's 75% of exports? According to one recent estimate by the World Trade Organization (WTO), such tariff hikes could cause Bangladesh's export to decline by a staggering 14%. While there are people upbeat about our export competitiveness, they should realise—perhaps from the recent episode of the U.S.-China trade war—that tariffs do hurt exports from a country on which those are imposed.  

Bangladesh's clothing exports have flourished to those countries only where trade preference exists. In 2000, Bangladesh had almost an identical garment market share of 3.3% in Canada, the EU, and the United States. Over the next two decades, our market share in Canada and the EU—that provided generous duty-free market access—would rise to 13% (in each market), in contrast to just about 6% in the US, which never allowed zero-duty imports from Bangladesh. Since 2011, Bangladesh's export market share in the US has remained virtually stagnant. On the other hand, taking advantage of duty-free access, Bangladesh's market share in Australia and Japan has risen from virtually nothing to close to 9% and 4%, respectively. 

LDC graduation will also curtail our policy space. For instance, while WTO members are generally prohibited from providing export subsidies, Bangladesh as an LDC in recent years have spent around $550 million on export incentives. 

One can question the merits of export incentives, but the fact is we will lose the policy option of considering such export support measures not only for the RMG sector but also for all other exports. Whether we like the idea of export incentives or not, withdrawing those measures would also imply loss of export competitiveness.

Another major benefit which Bangladesh enjoys as an LDC is the right to manufacture any medicines regardless of their patent protection. This privilege, according to the WTO's TRIPS provisions, should be applicable for LDCs until 2033, but graduation would bring an abrupt end to this benefit immediately.

I don't think LDC graduation will have any major impact on foreign aid inflows into the country. Donors hardly consider LDC status in offering financial assistance. Recipient countries' historical relationship with donors, such country-specific situations as natural disasters, civil wars, refugee crisis, and donor countries' geo-political interests, etc. are more dominant reasons for allocating foreign aid. 

It is true that foreign borrowing costs have risen and conditionalities have become more stringent even before LDC graduation. This is because of Bangladesh's transition from low-income to lower-middle income country, as per World Bank classification of global economies. 

Dependence on foreign aid has fallen in Bangladesh from more than 8% of GDP in the mid-1980s to just above 1% in recent past years. On the other hand, our absorptive capacity of foreign aid remains much lower than availability—as reflected in surging foreign aid in the pipeline now totalling more than $50 billion.

Graduation from the LDC category is not expected to have major consequences for UN assistance. Although some UN technical and financial resources are devoted to LDCs, this is generally based on individual country needs except for UNDP and UNICEF that provides a part of their overall aid to LDCs. 

There are some other sources of assistance which could be inaccessible for Bangladesh after LDC graduation—in some cases with a transition period—like Technology Bank for LDCs, the Least Development Country Fund (LDCF) for supporting climate change-related projects, the Enhanced Integrated Framework (EIF) for trade-related capacity building. But there should be no immediate impact as the assistance received from these schemes is quite small. 

Preparing for graduation: What is to be done?

If export shocks can be avoided, the impact of graduation will be minimal. Therefore, the most critical component of any graduation strategy should aim for retaining or prolonging the current level of market access. Many observers often suggest that preferential market access is not needed after graduation. They are wrong! Almost all countries in the world proactively seek for trade preferences following the globally established rules and practices to enhance their competitiveness.

Free trade agreements (FTAs) are now being strongly advocated for in seeking new market access and their importance in building future trade development strategies must not be undermined. However, it must be kept in mind that FTA outcomes can be ambiguous in nature. That is, given a country's initial conditions (e.g., existing trade policy regimes, comparative advantage vis-à-vis potential FTA partners, etc.), FTAs can have adverse welfare consequences as well. 

A well-established case in the academic literature is that when a country has a huge dependence on tariff revenue—for instance, Bangladesh with almost one-third of its government revenue being sourced from imports—FTAs can lead to massive welfare consequences. 

Furthermore, it is also true that for a variety of reasons, other trade partners might not have any appetite for considering FTAs with Bangladesh. When perceived gains—either economic and/or geo-political—are small, many developed countries will not like to spend their senior officials' and legislators' valuable time on lengthy negotiations.

Therefore, Bangladesh must opt for different options for different partners. Prolonging the current market access in the EU will be a topmost priority. The EU can be requested for extending LDC transition period further in the aftermath of the disruptions caused by Covid-19, which threatens to derail the progress towards achieving the sustainable development goals. 

Bangladesh should approach Australia, Canada, Japan and the UK to commit to at least an additional 3-year transition period following the example of the EU. These five countries should be requested to consider gradual phasing out of preferences (rather than raising the full tariff amount at once) after the expiry of the extended transition period.

The current duty-free market access in China and India are very important considering future export development prospects and thus Bangladesh must provide special attention to retain the existing benefits. After Samoa's LDC graduation, China extended preferences to it. Similarly, under SAFTA article 12, the Maldives have continued with the same LDC preferences to access India's market. Using these precedents, Bangladesh can ask for the continuation of similar unilateral preferences of both China and India.  

Striking FTAs with India and China may be appealing to many. It is, however, worth noting that given these two countries' enormous supply-side capacities, potential trade diversion effects (translated into adverse welfare consequences) could be extremely high. 

WTO rules allow preferential trading arrangements (PTAs) involving developing countries only, while any trade deal with developed countries must be an FTA. The key difference is that countries in a PTA can be selective about the products in which they want to exchange preferences while the coverage of trade items in an FTA should be "substantially all trade", which is usually interpreted to mean an average of 90% of all items currently traded between the two countries. I do think that if Bangladesh can negotiate well, PTAs could be an immensely powerful route for exploring export opportunities in developing countries.  

As continuing with export subsidies (cash assistance) will not be possible, devising WTO-consistent export incentive mechanisms will be critical. Contrary to popular beliefs, transforming cash assistance programmes into equivalent export incentives schemes is not an easy task. In this context, learning from other countries' WTO-consistent support measures is important.

Any loss of export competitiveness due to forgone duty-free access can be offset (either partially or to the full extent) by cost-saving measures. I tend to think that Bangladesh can easily materialise a 10%-cost saving, which can help recoup a significant part of lost competitiveness. The real exchange rate for taka is hugely overvalued and dealing with it is just one source of gaining back some competitive strength. Our cost of doing business is excessively high, which needs urgent attention. Efficiency gains through improved customs procedures, inland transportation system, reduced administrative complexities/corrupt practices will also come as very handy. 

It is now time to develop and implement a comprehensive approach to improve Bangladesh's export competitiveness through a transformed trade and investment policy regime backed by analytical reasoning and empirical evidence. 

Dr M A Razzaque. Illustration: TBS

The author is Chairman, Research and Policy Integration for Development (RAPID)