The European Union (EU) as a destination market plays a very important role for Bangladesh. There are at least two reasons for this. The first one pertains to the abundance of labour in Bangladesh. Due to this abundance, Bangladesh has a competitive edge in the production of labour-intensive products. This is not just a mere accident that labour-intensive product like ready-made garments (RMG) has been by far the largest export of Bangladesh for decades.
EU countries cannot afford to produce the labour-intensive commodities due to their high wages, which compels them to depend on other countries for products like RMG. Bangladesh is one of their natural choices for it.
The second reason pertains to a policy, known as Generalised System of Preferences (GSP), instituted by developed countries to help the developing countries. Bangladesh benefits from the most favourable regime available under the EU's Generalised Scheme of Preferences (GSP), namely the Everything But Arms (EBA) arrangement.
EBA grants the 48 Least Developed Countries - including Bangladesh - duty-free quota, free access to the EU for exports of all products, except arms and ammunition. Among the 48 countries that benefit from EBA, Bangladesh has the strongest manufacturing base to produce readymade garments.
The second reason, in one hand, gives Bangladesh additional competitive edge vis-à-vis its main competitors in the EU apparel markets. On the one hand, it makes EU the most favourable destination market to Bangladesh vis-à-vis the other main destination market - the USA, which does not at the moment provide any preferential access under GSP to Bangladesh but allows this to many other countries. [Even before the USA suspended GSP for Bangladesh in 2013, garment export from Bangladesh to the USA did not enjoy GSP
facilities.]
With the introduction of euro and its adoption as the main currency by many EU member countries, it has been used as a 'vehicle currency'- the currency used to pay trade-related transactions - by Bangladesh. About three-fourths of Bangladesh's total exports to the EU go to eurozone - the countries that use euro as their currency.
It emerged from conversations with a number of RMG exporters of Bangladesh that many of them trade by using euro as the vehicle currency instead of US dollar. Therefore, the movement of euro-taka exchange rate will have implications for Bangladesh's trade with the EU, particularly with
eurozone.
The arithmetic in this regard is very simple. Let us assume that initially value of euro is 100 in terms of taka. Say the price of an export item is set at three euro. By exporting one unit of this item, a Bangladeshi exporter will get Tk 300.
In other words, it will be profitable for any Bangladeshi to produce and export this item as long as the cost of production is less than Tk Tk 300, and vice versa. Now assume that euro-taka exchange rate decreases to Tk 90.
If the importers of this item are not kind enough to increase the agreed price, the Bangladeshi exporter will get 270 taka against per unit export. In other words, now the Bangladeshi exporters whose per unit cost of production is not less than Tk 270, cannot
profitably export this item to eurozone.
On the first day of the current fiscal year, July 01, 2014, the euro-taka exchange rate was 106.2. On January 26, 2015, the same exchange rate plummeted to 87.4 (Source: Bangladesh Bank), registering a drop by about 18 per cent.
Such a drop in euro-taka exchange rate is likely to seriously affect Bangladesh's competitiveness in eurozone countries. All else remaining unchanged, exporters, who agreed to a price in July 2014 with a profit margin less than 18 per cent, are now doomed to incur loss.
In the current situation, the effect of fall in euro-taka exchange rate on exports will be even more biting. The country has been experiencing continuous blockade for almost a month now. The supply chain has already been seriously affected. In many cases, normal production has been affected as well. In one word, the cost of production and export has increased as a result of the ongoing political violence and unrest.
This will jeopardise Bangladesh's competitiveness in all destination market. In the backdrop of falling euro-taka exchange rate, the effect will be more pronounced in case of eurozone markets.
In case of imports, the situation will be the opposite. The imports from eurozone countries will be cheaper in Bangladesh with the decrease of euro-taka exchange rate.
However, eurozone is not a significant import source for Bangladesh. No eurozone country appears in the list of top 15 import source of Bangladesh. In the list of top 20 import source of Bangladesh, only Germany is included in the 16th position which accounts for only 1.6 per cent of Bangladesh's total import in FY14 (table 1).
The main source countries of Bangladesh are non-EU and non-Euro. It implies the benefit of falling euro-taka exchange rate through import channel will be insignificant. As a result, Bangladesh will be a net loser.
The fall in the value of Euro is an external phenomenon which Bangladeshi exporters cannot influence. Although Bangladesh Bank can, to a limited extent, influence the euro-taka exchange rate through purchase and sale of Euro as it does in case of US dollar.
But such a policy will have some other negative implications and therefore it will be prudent not doing it.
The falling euro-taka exchange rate points to two imperatives for the Bangladeshi exporters. First, they should actively think of hedging against exchange rate risk.
It is true that the financial market of Bangladesh is not currently offering any hedging instruments. But it is not clear whether this is a demand or supply side problem. Given the volatility of exchange rate of main vehicle currency, the exporters should actively think of using future contracts and/or options to minimise the negative effects of exchange rate volatility.
Second, not putting all eggs in one basket is a well-known conventional wisdom, which has been overlooked by Bangladeshi exporters. Our export concentration in terms of destination market is very high.
One way to shield the exports of Bangladesh from the economic volatility of the main destination markets like the EU and the USA is to diversify into other markets.
Two of the three largest economies of the world are located in Asia. India and China together account for about 45 per cent of world's population pointing to a huge potential as destination markets for Bangladesh.
These two countries are growing fast with a concomitant change in their economic structure. There are growing evidences that these countries can become destination markets, instead of competitors, of Bangladesh.
Abul Basher, PhD is Researcher at the Bangladesh Institute of Development Studies (BIDS), former economist, World Bank, and former faculty, Willamette University, USA. [email protected]
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