According to PBS, Pakistan’s textile group exports breached $15 billion for the first time in history during FY21, marking a promising victory for GOP’s export-oriented growth policy. The success of textile exports during the outgoing year is particularly noticeable as it not only came during a pandemic year but is also $2 billion higher than last 10-year average sectoral exports. But can the growth momentum be sustained?
First, the link between higher global cotton prices and value of textile exports is hard to miss. (For more, read, “Textile output: flat-lined”, published by BR Research on 16 July 2021). While export value has indeed marked gains, growth in export volume has been muted. Although it would be unfair to attribute all credit to unit prices, a 15 percent rise in raw material prices has fuelled higher export value to some degree.
But a more determined force may bear even greater responsibility for the sharp rise in exports during FY21. That is, the concessionary working capital lending to export-oriented textile units.
The central bank extends short term Export Finance Schemes to direct and indirect exporters for a maximum period of 180 days. After the most recent round of monetary loosening, EFS borrowing rate was reduced to a maximum of 3 percent, with the more credit-worthy borrowers enjoying borrowing rates as low as 2 percent (annualized). All value-add manufacturers in textile value chain are eligible to avail financing under EFS, provided they can show export performance equivalent to the loan amount (subject to per party lending limits of the sanctioning FIs).
Between June-19 and June-21, the sanctioned EFS amount to textile sector as per SBP’s disclosures increased by almost $1 billion, which would indicate that as much as half of the export value growth has come on the back of incremental rise in concessionary lending (June-20 outstanding has been purposefully ignored due to the pandemic led decline in exports). However, since EFS is a short-term working finance facility that is rolled-over every six months, the amount of incremental loan disbursed during FY21 may in fact be double the amount, possibly accounting for almost all of the export growth shown by the textile value add segment during the given period!
This is not necessarily worrisome, considering access to financing at competitive rates is the bed rock of successful export growth across many nations in the developing world. Moreover, as long as exporters demonstrate timely realization of export proceeds and commercial banks’ conduct requisite due-diligence of leverage levels of borrowing entities, there may be no need to raise alarm bells.
However, both SBP’s EFS schemes and lending rates have a limit. Considering that the upcoming Textile Policy aims to double textile exports by 2025, SBP will have to increase sanctioned limits by four times to support the growth momentum. Incremental exports of $15 billion will require additional $7.5 billion worth of EFS loans rolled over every six months. This would theoretically take EFS outstanding from $2.5 billion as at June-21 to $10 billion in next four years. Does the central bank have the appetite to finance the required ballooning of banks’ balance sheet?
Moreover, concessionary financing rates are theoretically linked to the policy rate. While a four-percentage point differential may appear acceptable under the current monetary environment where Kibor is at a multi-year low, sooner or later SBP may begin to reverse its policy of maintaining negative real rates. When (and not if) that happens, EFS lending rates will inadvertently move up as well. Will textile players be able to maintain regional competitiveness once the concessionary finance rates are no longer capped below three percent?
While capacity expansion and machinery modernization across textile value chain is certainly taking place, it may be high time the central bank runs a sensitivity analysis on the sustainability of textile export growth momentum. Both low cotton prices, and higher EFS lending rates are risks to the $25 billion textile exports thesis. A timely assessment may allow both the GOP and the textile sector to moderate their growth forecasts. Meanwhile, it may be worth to analyse whether textile value-adding firms are reinvesting their improved earnings, and whether working capital growth within the industry is being powered through internally generated cash or not.