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Chapter 4. Implications of the Removal of Quota on Textiles and Clothing Exports

Author(s):
Sumio Ishikawa, Sibel Beadle, Damien Eastman, Srobona Mitra, Alejandro Lopez Mejia, Wafa Abdelati, Koji Nakamura, Il Lee, Sònia Muñoz, Robert Hagemann, David Coe, and Nadia Rendak
Published Date:
February 2006
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Information about Asia and the Pacific Asia y el Pacífico
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Author(s)
Alejandro López-Mejía, Sumio Ishikawa and Sibel Yelten 

This chapter examines the implications of the removal in 2005 of quotas under the Agreement on Textiles and Clothing (ATC) on the economies of low-income Asian countries (LIAs).17 The garment sector, which took off after receiving preferential market access to the United States in 1996, has been a major contributor to growth in Cambodia since then. The analysis concludes that Cambodia is one of the most vulnerable LIAs to the removal of textile and clothing (T&C) quotas, since T&C exports make up almost 80 percent of its total exports, and because Cambodia is exporting almost exclusively to quota-protected markets such as the United States and the European Union (EU). Estimates presented in this chapter suggest that Cambodia’s GDP growth could be reduced by about 2 percentage points after the removal of the quota system. The ATC and other agreements that can have an impact on T&C trade in Asia are summarized in Section A. Section B provides reasons why Cambodia and other LIAs are vulnerable to the removal of the quota system, and Section C presents the estimates of the impact of the elimination of the quota system on LIAs.

A. The ATC and Other Agreements That Have an Impact on T&C Trade in Asia18

The ATC was introduced with the aim of phasing out the quota system under the 1974 Multifiber Agreement (MFA). The ATC, which became effective on January 1, 1995, is a 10-year nonextendable agreement that requires WTO members to gradually phase out T&C quotas in four stages. However, only about 20 percent of U.S. and EU quotas were removed up to 2004, with the remaining quotas removed at the beginning of 2005.

The ATC does not cover tariff issues related to T&C. Under the most-favored-nation (MFN) principle, a General Agreement on Tariffs and Trade (GATT) signatory is required to provide all members the same conditions of trade. Accordingly, MFN tariff rates are expected to be applied for trade among WTO members unless a country is entitled to preferential rates, such as under the Generalized System of Preferences (GSP) and the EU’s Everything But Arms program. These are programs under which a number of industrialized countries have recently granted comprehensive tariff- and quota-free access to least developed countries (LDCs).

GSP schemes constitute a departure from the traditional nondiscrimination principle of the GATT. In contrast with the MFN principle, under a GSP scheme each country has its own list of preferential tariffs for qualified products. A key problem associated with the GSP schemes is that they include rules of origin (RoO) requirements that many LDCs are unable to meet, making these countries ineligible for preferential tariffs.19 Furthermore, certain sectors and countries may be excluded from GSP programs if they are likely to have a negative impact on domestic industries. In the United States, T&C are considered a “sensitive” product such that no preferences are given to LDCs.

Although unlikely, the United States could use the WTO Agreement on Safeguards to impose new quotas on China, to Cambodia’s advantage. Under this agreement, the United States can impose quotas on China potentially up to 2013. However, imposing quotas on China using safeguard clauses is costly. As a consequence, the U.S. government has used this agreement sparingly. Since the removal of 20 percent of quotas in 2002, the United States introduced new quotas covering less than 3 percent of T&C imports from China, with a duration of one to three years. Expanding quotas beyond that time frame would require other compensating measures by the United States, for example, offering concessions to China in other sectors.

B. What Makes Cambodia Vulnerable to the Removal of Quotas?

Most LIAs, Cambodia in particular, are vulnerable to changes in T&C policies since the share of T&C in total exports is large. In 2002, this share was more than 75 percent in Cambodia and Bangladesh, about 55 percent in Nepal and Sri Lanka, and close to 30 percent in Lao P.D.R. and Mongolia. In Vietnam, however, T&C exports represented only 13 percent of total exports, although T&C exports increased rapidly following the bilateral trade agreement with the United States in early 2002 (Figure 4.1). During the period 1996–2002, Cambodia was the only country that experienced a dramatic increase in the share of T&C in total exports (Table 4.1).

Figure 4.1.Exports of Asian Countries, 2002

(In percent of total exports)

Source: World Bank, World Integrated Trade Solution.

Table 4.1.Exports of Asian Economies, 1996 and 2002(In millions of U.S. dollars, unless otherwise indicated)
1996120022
TotalTextiles and clothingOthersTotalTextiles and clothingOthers
Low-income countries
Bangladesh3,5392,6638755,6824,730952
Cambodia8011026991,7501,342408
Lao P.D.R.31791226350100250
Mongolia42427397404104300
Nepal364263101709392317
Sri Lanka3,1921,6141,5784,6832,5032,181
Vietnam7,2561,1506,10615,0291,97513,054
Other Asian economies
China151,04737,155113,892325,59561,661263,935
Hong Kong SAR27,43110,74016,69116,7869,3167,470
India33,4049,16724,23744,30610,87133,435
Indonesia49,7276,50443,22355,8867,80448,083
Korea, Rep.124,40416,941107,463159,91514,612145,303
Malaysia78,2803,68174,59987,9163,11284,803
Singapore124,6512,741121,910124,6792,386122,293
Taiwan Province of China115,64615,088100,558122,76512,288110,477
Thailand55,6285,63249,99665,0715,49259,579
(In percent of total exports)
Low-income countries
Bangladesh100.075.324.7100.083.316.7
Cambodia100.012.887.2100.076.723.3
Lao P.D.R.100.028.671.4100.028.671.4
Mongolia100.06.493.6100.025.874.2
Nepal100.072.427.6100.055.344.7
Sri Lanka100.050.649.4100.053.446.6
Vietnam100.015.884.2100.013.186.9
Other Asian economies
China100.024.675.4100.018.981.1
Hong Kong SAR100.039.260.8100.055.544.5
India100.027.472.6100.024.575.5
Indonesia100.013.186.9100.014.086.0
Korea, Rep.100.013.686.4100.09.190.9
Malaysia100.04.795.3100.03.596.5
Singapore100.02.297.8100.01.998.1
Taiwan Province of China100.013.087.0100.010.090.0
Thailand100.010.189.9100.08.491.6
Sources: World Bank, World Integrated Trade Solution; and IMF staff reports.

Data for Lao P.D.R. and Sri Lanka are for 1997 and 1994, respectively.

Data for Nepal are for 2000. Data for Bangladesh, Indonesia, Malaysia, Taiwan Province of China, Thailand, and Vietnam are for 2001.

Sources: World Bank, World Integrated Trade Solution; and IMF staff reports.

Data for Lao P.D.R. and Sri Lanka are for 1997 and 1994, respectively.

Data for Nepal are for 2000. Data for Bangladesh, Indonesia, Malaysia, Taiwan Province of China, Thailand, and Vietnam are for 2001.

Most LIAs are unable to compete with China in quota-free markets. In 2002, LIA exports to quota-free markets (such as Japan) were negligible, whereas those to quota markets (e.g., the European Union and the United States) represented more than 85 percent of total T&C exports in most cases (Figure 4.2 and Table 4.2). In contrast, China’s exports of T&C to Japan were higher than to the European Union and the United States combined, and those to the rest of the world represented almost 60 percent of total T&C exports. This trade pattern provides an indication of the degree to which the quota system restricts China from attaining greater market share.

Figure 4.2.Exports of Asian Countries, 2002

(In percent of total exports)

Source: World Bank, World Integrated Trade Solution.

Table 4.2.Textile, Clothing, and Textile Fiber Exports of Asian Economies, 1996 and 2002
Textiles and Clothing ExportsDestination of Textile and Clothing Exports (2002)2
1996120022ChinaJapanEUU.S.Other Asian3Others
(In percent of total exports)(In percent of total exports of textile and clothing)
Low-income countries
Bangladesh75.383.30.00.541.443.21.313.5
Cambodia12.876.70.427.071.11.5
Lao P.D.R.28.628.60.091.8
Mongolia6.425.83.62.63.888.00.51.6
Nepal72.455.30.02.138.347.86.75.1
Sri Lanka50.653.40.00.829.260.71.47.9
Vietnam15.813.11.129.930.82.425.1
Other Asian economies
China24.618.921.59.611.230.427.3
Hong Kong SAR39.255.525.90.520.542.43.57.3
India27.424.50.82.230.323.06.137.7
Indonesia13.114.01.66.124.528.511.328.1
Korea, Rep.13.69.115.06.09.021.315.333.4
Malaysia4.73.51.36.120.437.418.416.3
Singapore2.21.92.10.920.641.619.615.1
Taiwan Province of China13.010.01.82.95.718.342.428.8
Thailand10.18.41.26.619.141.58.723.1
Destination of Textile Fiber Exports (2002)2
ChinaJapanEUU.S.Other Asian3Others
(In percent of total exports of textile fibers)
Low-income countries
Bangladesh3.00.07.016.015.059.0
Cambodia
Lao P.D.R.
Mongolia45.07.034.02.08.04.0
Nepal0.033.025.06.00.036.0
Sri Lanka5.017.037.08.016.017.0
Vietnam
Other Asian economies
China11.834.22.242.88.9
Hong Kong SAR68.50.10.70.37.622.8
India1.96.016.39.514.551.7
Indonesia3.12.58.42.634.449.1
Korea, Rep.30.71.413.613.316.324.7
Malaysia29.67.90.53.639.618.8
Singapore1.00.00.10.469.728.8
Taiwan Province of China13.57.96.89.336.825.7
Thailand13.45.01.16.740.832.9
Sources: World Bank, World Integrated Trade Solution; and IMF staff reports.

Data for Lao P.D.R. and Sri Lanka are for 1997 and 1994, respectively.

Data for Nepal are for 2000. Data for Bangladesh, Indonesia, Malaysia, Taiwan Province of China, Thailand, and Vietnam are for 2001.

Includes Hong Kong SAR, India, Indonesia, Korea, Malaysia, Singapore, Taiwan Province of China, and Thailand.

Sources: World Bank, World Integrated Trade Solution; and IMF staff reports.

Data for Lao P.D.R. and Sri Lanka are for 1997 and 1994, respectively.

Data for Nepal are for 2000. Data for Bangladesh, Indonesia, Malaysia, Taiwan Province of China, Thailand, and Vietnam are for 2001.

Includes Hong Kong SAR, India, Indonesia, Korea, Malaysia, Singapore, Taiwan Province of China, and Thailand.

Intraregional T&C trade is insignificant for LIAs, but not for the newly industrialized and emerging economies in Asia (NIEAs). NIEAs (such as Hong Kong SAR) are large producers of textiles, which require capital and technology. By contrast, LIAs export mostly garments, and very limited amounts of raw materials such as fiber and wool. The significant size of some of the NIEAs’ exports to China suggests that the latter is dependent on imported inputs for its garment exports.

The removal of MFA quotas in 2005 will affect a significant part of total T&C exports from Asian countries. Indeed, at least 40 percent of total Chinese and Indian T&C exports to the United States (about $6 billion) are currently constrained by the MFA quotas. Accordingly, the potential loss of U.S. market share by LIAs is large since about 83 percent of their T&C exports ($6.5 billion) are products on which quotas restrict Chinese and Indian exports to the United States (Table 4.3).

Table 4.3.U.S. Textile and Apparel Imports from China, India, and Low-Income Asian Countries, 20031(In millions of U.S. dollars)
Total 2003 Est.Subtotal 2003 Est.
CategoryAB=SUM(C:W)A/BCDEFGHIJKL
U.S. total imports78,76153,679681,4569452,91436215,4484881,2273,6161,24711,181
China11,2793,84734731210579246545152173177182180
India3,3442,20566711903511346
Subtotal7,8176,50438742531,75342592594181,342
Bangladesh1,9611,669851121803362536884111
Cambodia1,2059037519452261223123197
Lao P.D.R.54992
Mongolia1821598715801154
Nepal1611308159246
Sri Lanka1,5421,1667614067254616198150
Vietnam2,4172,1528912479174812976144639
CategoryMNOPQRSTUVW
U.S. total imports2,0642,4502,8087287605441,2992,457817261609
China018512971351404444618
India389492258133761367643423
Subtotal364025494519644200171210790
Bangladesh21157271293532561103539
Cambodia2305363151714333
Lao P.D.R.2
Mongolia192623120
Nepal21122212
Sri Lanka115110465812492611211
Vietnam652107834611114116
Sources: U.S. Office of Textiles and Apparel; and IMF staff estimates.

Columns C to W include: C category 666 (other finished apparel); D category 636 (dresses); E categories 359/659 (other cotton and man-made fiber apparel); F category 845 (sweaters); G categories 347/348 and 647/648 (cotton trousers and slacks); H category 362 (quilts and bedspreads); I category 635 (coats women/girls); J categories 638/639 (knit blouses and shirts); K category 634 (other coats); L categories 338/339 (knit shirts and baby silk); M category 369 (other cotton, manufactured); N categories 341/641 (women/girls N category knit blouses and S and V woven shirts); O categories 340/640 S to V categories trousers and N-K shirts; P category 363 (S and V skirts); Q category 342 (flat goods); R category 669 (other man-made fiber manufactured); S categories 334/335 (women/girls cotton coats and other coats); T category 352 (cotton underwear); U category 351 (cotton pajamas); V category 438 (K- shirts/blouses); W category 345 (cotton sweaters).

Sources: U.S. Office of Textiles and Apparel; and IMF staff estimates.

Columns C to W include: C category 666 (other finished apparel); D category 636 (dresses); E categories 359/659 (other cotton and man-made fiber apparel); F category 845 (sweaters); G categories 347/348 and 647/648 (cotton trousers and slacks); H category 362 (quilts and bedspreads); I category 635 (coats women/girls); J categories 638/639 (knit blouses and shirts); K category 634 (other coats); L categories 338/339 (knit shirts and baby silk); M category 369 (other cotton, manufactured); N categories 341/641 (women/girls N category knit blouses and S and V woven shirts); O categories 340/640 S to V categories trousers and N-K shirts; P category 363 (S and V skirts); Q category 342 (flat goods); R category 669 (other man-made fiber manufactured); S categories 334/335 (women/girls cotton coats and other coats); T category 352 (cotton underwear); U category 351 (cotton pajamas); V category 438 (K- shirts/blouses); W category 345 (cotton sweaters).

The negative impact of the removal of MFA quotas on Cambodia may be counterbalanced somewhat by other changes in trade policy in developed countries. Currently, the European Union and Canada are considering relaxing their RoO requirements. For example, Cambodia may be able to export more items at zero tariff to Canada in the future. Second, the United States may grant Cambodia more favorable terms for T&C exports.

Cambodia does not export significant raw materials and, therefore, will not benefit from the expected increase in demand for raw materials in China. Countries such as Mongolia, whose raw material exports are equivalent to almost half of their T&C exports, will most likely benefit from increased demand from China.

C. The Estimated Impact of the Removal of MFA Quotas on Cambodia

The removal of the quota system in 2005 might reduce T&C prices in quota zones and lead to a reallocation of the exporting countries’ market share.20 Countries with the strongest competitive positions, whose output is currently constrained by quotas, will increase their market share while those countries currently reaping rents from the quota system will lose. The 2002 experience, when approximately 15 percent of restrictive quotas were eliminated (the so-called “third-phase quota integration”) gives some indication of the relative underlying competitive positions of these countries. In particular, China and India’s exports to the United States increased by about 81 percent and 10 percent, respectively, on the affected products while most LIAs suffered a decline in their exports (Table 4.4).

Table 4.4.Estimated Impact of the Removal of Quotas in 2005
Actual Impact on Textiles and Clothing Exports to the U.S. from Eliminating 15 Percent of Quotas in 20021Actual Impact on Textiles and Clothing Exports to the EU from Eliminating 15 Percent of Quotas in 2002Estimated Impact on Textiles and Clothing Exports to the U.S. from Removing Remaining Quotas in 20052 (1)Estimated Impact on Textiles and Clothing Exports to the EU from Removing Remaining Quotas in 20053 (2)Total Impact (1)+(2)Impact on External Current Account4Impact on GDP Growth4
(In value terms, percent change)(In millions of U.S. dollars)(In percent of GDP)(In percent)
Low-income countries
Bangladesh–29–21–475–415–890–1.2–0.6
Cambodia–26.8–196–25–221–3.9–2.1
Lao P.D.R.0–1–6–7–0.2–0.1
Mongolia–100–420–42–2.5–1.3
Nepal–17–16–10–26–0.3–0.2
Sri Lanka–34–7–367–50–417–1.6–0.9
Vietnam3,700–17130–104260.00.0
Other Asian countries
China81392,9992,2835,2820.30.1
India10–9272–1051670.00.0
Sources: World Bank, World Integrated Trade Solution; United States International Trade Commission; European Commission; and IMF staff estimates.

Change in textile and clothing imports in product lines to the U.S. for which quotas were eliminated on January 1, 2002. The large increase in Vietnam reflects a very small base and the benefit from the 2001 bilateral trade agreement with the U.S.

The quota removal in 2005 in the U.S. market is assumed to have the same impact among countries’ exports as the quota removal in 2002, except for Lao P.D.R., Mongolia, and Vietnam. For Lao P.D.R. and Mongolia, the 2005 impact is calculated as the average of the 2002 impact in Bangladesh, Cambodia, Nepal, and Sri Lanka. In Vietnam, as it is not a WTO member and hence still subject to quota, it assumes a quota increase of 15 percent.

The quota removal in 2005 in the EU market is assumed to have the same impact among countries’ exports as the quota removal in 2002. For Cambodia, Lao P.D.R., Mongolia, and Nepal, where the impact of the 2002 quota removal is not available, the 2005 impact is assumed to be the same as in Sri Lanka.

Assumes that the import content of exports is 65 percent for all countries.

Sources: World Bank, World Integrated Trade Solution; United States International Trade Commission; European Commission; and IMF staff estimates.

Change in textile and clothing imports in product lines to the U.S. for which quotas were eliminated on January 1, 2002. The large increase in Vietnam reflects a very small base and the benefit from the 2001 bilateral trade agreement with the U.S.

The quota removal in 2005 in the U.S. market is assumed to have the same impact among countries’ exports as the quota removal in 2002, except for Lao P.D.R., Mongolia, and Vietnam. For Lao P.D.R. and Mongolia, the 2005 impact is calculated as the average of the 2002 impact in Bangladesh, Cambodia, Nepal, and Sri Lanka. In Vietnam, as it is not a WTO member and hence still subject to quota, it assumes a quota increase of 15 percent.

The quota removal in 2005 in the EU market is assumed to have the same impact among countries’ exports as the quota removal in 2002. For Cambodia, Lao P.D.R., Mongolia, and Nepal, where the impact of the 2002 quota removal is not available, the 2005 impact is assumed to be the same as in Sri Lanka.

Assumes that the import content of exports is 65 percent for all countries.

The assessment presented in this chapter of the potential impact of the quota phaseout in 2005 on LIAs relies on the 2002 experience. The exercise analyzes separately the effects of the quota removal in the U.S. and EU markets. In both markets, it is assumed that the same relative shifts take place among countries’ exports that followed the “third quota integration.” To the extent that labor supply is fairly inelastic in the short run, it is not likely that China, for example, will be able to increase its exports of the affected items by the same magnitude as it did on the items when only 15 percent of its quota was phased out. Therefore, the relative shifts presented in Table 4.4 are upper bounds, rather than point estimates, at least in the short term.21

Box 4.1.Quota-Constrained World Equilibrium in the Textile and Clothing Market

In the absence of any quota, the unconstrained equilibrium occurs at price P*, and quantity Q*.

Without losing generality, assume that the United States has imposed a quota (zero ceiling) on all Chinese exports. Then China will export to the world excluding the U.S. at P1. Firms in other countries will also compete for the non-U.S. market. The world market share will be Q12–Q11 for China, and Q11 for the rest of the world. The rest of the world can still export to the (quantity-constrained) U.S. market. They will export Q2–Q11 to the United States at P2.

Once the quota in the U.S. market is eliminated, the market will return to its original unconstrained equilibrium. In this process, markets with quotas (U.S.) will see a decline in their prices while the previously unconstrained markets (rest of the world) will see an increase because firms will shift their exports to the United States.

One can argue that the reliance on the 2002 experience could result in overestimating the decline in LIA exports of quota-restricted items. This is because some producers may have already switched in 2002 from producing quota-restricted items to non-quota-restricted items to reduce the impact of the 2005 shock. To counterbalance this overestimation, non-quota-restricted items are assumed to grow by a generous 8 percent; part of this growth may come from a shift to production of non-quota items. Moreover, the two factors that limit this overestimation are: (1) producers may have started switching to other products well before 2002, and (2) in 2005 a significantly larger percentage of quotas will be removed, which makes production substitution more difficult.

The results of this exercise suggest that exports from China to the United States and the European Union could increase by up to $5.3 billion in 2005. In contrast, exports of LIAs (excluding Vietnam) to the United States and the European Union could decline by $2 billion. Vietnam is the only LIA country reviewed in this exercise that is expected to gain market share.

The external current account balance and GDP growth could be significantly affected in some LIAs. Cambodia and Mongolia could be more heavily affected by the removal of quotas, while the effects on Lao P.D.R. and Nepal may be negligible. Ignoring the secondary impact from lower income, the deterioration of the current account balance would range from 3 percent of GDP (Cambodia) to almost zero (Lao P.D.R. and Nepal). In addition, assuming the value added in T&C production is 35 percent on average for these countries, the decline in GDP growth would range from 2 percent (Cambodia) to almost zero (Lao P.D.R. and Nepal). The impact on Vietnam would be much more favorable should it succeed in joining the WTO.

D. Conclusion

Cambodia is among the most vulnerable countries in Asia to the removal of the quota system since almost 80 percent of its exports are in T&C. Moreover, Cambodia is currently exporting almost 100 percent of its T&C exports to the quota-protected markets of the United States and the European Union. Preliminary estimates suggest that Cambodia’s GDP growth could drop by about 2 percent after the removal of quotas.

China is expected to gain most from the quota removal. China’s T&C share in the combined U.S. and EU markets could increase from 8.5 percent in 2002 to 11.5 percent following the quota removal. In contrast, LIAs could see their share of T&C exports decline in these markets from 5 percent to 4 percent over the same period.

The negative impact on GDP could be significant for some LIAs. Cambodia and Mongolia appear to be the countries that could be more heavily affected by the removal of quotas, whereas the effects on Lao P.D.R. may be negligible.

Cambodia cannot rely on safeguards for relief from the negative impact of the quota removal. The negative impact on LIAs may be lessened somewhat if the United States uses the WTO Agreement on Safeguards to impose new quotas on China. It is difficult to predict whether future measures by the U.S. government to curb Chinese exports will protect exactly those categories that Cambodia produces, and the extent and impact of such measures.

FN15However, tests confirmed the absence of first-order correlation in the residuals and the existence of second-order correlation, and rejected the null hypothesis in the Sargan test for overidentifying restrictions.
FN16Similarly, although the coefficient for weather, proxied by the number of years with a large drop in crop yield, was large and significant, Cambodia’s share of bad weather is similar to that of other ASEAN countries and better than the average for all nonfuel-exporting LICs (Appendix Table A3.1).
FN17Bangladesh, Cambodia, Lao P.D.R., Mongolia, Nepal, Sri Lanka, and Vietnam.
FN18This section draws from Mekong Capital (2003).
FN19As a result of RoO requirements, 58 percent of Lao garment exports to the EU were tariff-free compared to 27 percent for Cambodia in 2001.
FN20However, prices in quota-free zones (such as Japan) would likely rise as the welfare loss from the quotas is eliminated and a new world equilibrium arises (see Box 4.1).
FN21The assessment on the EU market is complicated because of lack of detailed data and the GSP granted to some LIAs.

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