Global recession and export demand

ANALYSIS
Global recession and export demand">Global recession and export demand

Tue, Jan 13th, 2009 3:46 pm BdST

Dhaka, Jan 13 (bdnews24.com)—Several well known economists have lent strong support to the view that the garment sector of the country will not be affected by the ongoing recession in the global economy since most of the export items are at the lower end of the price spectrum.

These items are supposedly protected by the so-called 'Walmart effect', which presumably suggests that a fall in income during recessions encourages people to switch to cheaper products such that the demand for them actually rises. The increase in recession-period sales of Walmart, which sells relatively cheap products, is sometimes advanced as evidence supporting this hypothesis.

There may be many reasons why the export/sales of a particular country (or company) may not be affected, or even positively affected, during a recession. However, if the hypothesis above is the underlying cause of such an outcome then we have reasons for concern.

The goods whose demand rises when income falls are known as 'inferior' goods in economics. People buy these goods only when they are forced to because of limited income. For example, a family consumes coarse rice when it is poor, but switches to more savoury varieties when its income increases.

If the international demand for and sales of garment items increase during the current business downturn because of the reason above, then these export items must be regarded as inferior goods.

Our export sector is in deep trouble if it is spewing out mostly inferior goods since the demand for these products will certainly decline when income rises. We do not yet know of any product whose demand increases with both an increase and a decrease in income (economics students may try drawing a demand curve for such a product!).

For any normal good, and garment exports are mostly normal goods, the demand will fall with a reduction in income. However, it is the global demand that falls with a global reduction in income, not necessarily the demand faced by any individual country (or company).

It is quite possible for some countries to profit from a recession if they can pick up the demand of other countries that suffer disproportionately. This would be the case if they can offer more attractive terms for their products than others.

If the garment manufacturers can achieve substantial productivity gains through either restructuring, renovation or technical advancement, the cost, and hence the unit price, of their product will decline. These strategies will enable them to offer better products at lower prices such that they may expand their market share at the expense of the laggards. The price could also decline if the sellers are forced to reduce their profit margins in order to retain or enhance their market share. The frequent complaints of garment exporters that they are selling at lower prices in the global market are suggestive of some such forces at play.

For the highly productive firms, recessions actually offer opportunities to expand their market shares at the expense of the less productive ones. If the garment exporters of Bangladesh can raise their productivity sufficiently, they can also increase their global sales and market shares by offering better quality products at more competitive prices. Many of them seem to have done so during the last several months.

However, there is a limit to the extent to which the substitution of the cheaper products for the more costly ones will outweigh the negative impact of the falling income. If the recession lasts long and it is sufficiently deep, the positive price substitution effect will be overwhelmed by the negative income effect. In this case exports will show a declining trend after a while.

Unfortunately, the current recession is showing every sign of being particularly virulent: it is likely to be deep and long-lasting. Most forecasting agencies are predicting a dismal 2009. All major OECD countries are bracing for negative or very low growth of their economies. Even the Chinese and the Indian economies have shaved 2-3 percentage points off their normally high growth rates. It will be a miracle if Bangladesh comes out unscathed from such an international economic turmoil.

In the event Bangladesh is caught up in the whirlpool of the global recession, it may not be able to match the last year's export growth. The export sector is the most dynamic sector of the economy. A substantial reduction in its growth will have a large impact on the economy's overall performance.

If the export growth rate were to fall significantly, it could easily shave off a percentage point from our modest growth rate. This does not augur well for the economy, particularly in respect of employment generation and poverty alleviation. Hopefully the domestic sectors will pick up to cushion the impact of the recession.

If the export growth rate does fall significantly, the government may have to take some measures to stimulate the economy. Fortunately the windfall gains due to the steep decline in international commodity prices will make the job of fiscal stimulus relatively easy.

The government will make large savings on account of lower international prices of some of the major subsidised goods such as fertilisers and fuel oil unless it further reduces the subsidised prices. It will also save on account of cheaper cereals. These savings can be diverted to new development projects in order to compensate for the loss of export demand. With a carefully crafted development spending strategy the country could avoid excessive sufferings during the current global recession and at the same time strengthen the base for a more prosperous economy in the future.

Professor M A Taslim is currently the CEO of Bangladesh Foreign Trade Institute