Policy Analysis

Assignment 2

Policy Brief: The South African

Clothing and Textiles Sector

23 August 2010

Jonathan Bertscher | BRTJON005

Introduction

Despite its recent poor performance, the South African (SA) clothing and
textiles (C&T) industry remains strategically important. Its relatively large share
of manufacturing employment and labour intensity justify policy interventions
aimed at unlocking its significant potential.

The problems that plague the industry are rooted in an inability to compete
with foreign competitors. There are valuable opportunities that SA can realise
by exploiting its strengths. Policy measures are thus suggested that address
the problem of how to improve SA's competitiveness domestically and
internationally to unlock its comparative advantages. Priority areas are
identified in terms of the extent to which they limit competitiveness in these
areas.

The policy problem

South Africa's clothing and textiles industry is under severe threat, a fact
underscored by several worrying and persistent trends. Clothing exports to the
country's two largest clothing importers, the US and EU, fell by 89.7% and 63%
in US$ terms, respectively, between their 2003 all-time high and 2007. What
makes this figure particularly bleak is that world clothing imports increased by
19% between 2005 and 2007 alone. Clearly, SA has failed to take advantage of
the potential that this growth represents. The poor performance has been
accompanied by a decrease in formal clothing sector employment of 25.9%
between 2004 and 2007 (Morris & Einhorn 2008)

There is good reason to save the industry, despite its problems. According to
the Clothing and Textile Business Alliance (2005), in 2005 clothing contributed
a substantial 1.8% of overall employment in SA while, combined with textiles,
making up 13.4% of total manufacturing employment. Edwards and Morris
(2007) point out that the informal sector absorbs much of the formal sector
C&T industry unemployment. Despite this, the political and social ramifications
of business closures and formal sector unemployment – the “social costs as
well as a negative impact on productivity and quality...lower wages, insecure
employment and poor work conditions” (Clothing and Textile Business Alliance
2005, p.10)– are highly undesirable. The labour-intensive nature of clothing
manufacture, and its low skill requirements, have led it to be seen as a
stepping stone on the path to industrialisation. By leveraging its potential
comparative advantages, SA can exploit the opportunities that C&Ts represent
in this regard, both domestically and globally (Clothing and Textile Business
Alliance 2005). The Western Cape and KZN have thus identified clothing as a
vital strategic sector (Morris et al. 2004)

To contextualise the priority areas highlighted for intervention, I explain the

reasons for the industry's decline, which, in essence, can be summed up as
overwhelming foreign competition. This raises a natural, and important,
question: what are the underlying factors causing SA's C&T industry to be so
uncompetitive? The answer to this question is the focus of the latter policy
recommendations.

Reasons for the SA C&T industry decline: competition, globalisation

and the rise of Asia

Globalisation has exposed SA to fierce foreign competition that has eaten into
domestic and foreign markets. This can be attributed to (I) a flood of exports by
low income countries after the expiry of the MFA and (II) the emergence of
global, dispersed value chains.

(I) Exports by low income countries after the expiry of the MFA

The Multi Fibre agreement (MFA) expired at the end of 2004, marking the end
of developed country quotas on developing country clothing and textiles. Such
quotas had effectively protected SA's export market from cheaper, chiefly
Asian, alternatives, a fact evidenced by the latter's stellar performance after
2004. While SA's C&T exports were falling, China's rose 55.4% between 2005
and 2007 in US$ terms, seeing its share of world clothing exports rising from
9% in 1990 to 33% in 2007. China and Hong Kong together accounted for 41%
of world clothing exports in 2007, from 23% in 1990. Exports to the EU and US
increased 208% and 324% between 1999 and 2007, respectively ( Morris &
Barnes 2009). Other developing countries have followed this trend, albeit with
less vigour. India's exports increased 282% between 1990 and 2007, while it's
share of world clothing exports increased by 50% (from a low base of 2%).
Mexico's exports increased 777% over the same period.

The impact on SA manufacturers' share of the domestic market is arguably

more damaging since most sales of clothing and textiles in 2004 were
generated by domestic market demand (Clothing and Textile Business Alliance
2005). Measured in US$ terms, clothing imports sky-rocketed from a mere 4%
to 84% between 2001 and 2004. During the same time, textile imports rose
from 9% to 29% (ibid). Most of these were comprised of imports from China.

(II) Emergence of global, dispersed value chains

Gereffi and Memedovic (2003) define a value chain as “the range of activities
involved in the design, production and marketing of a product”. Globalisation
has given rise to value chains that are globally dispersed. For example, fabric
made in Italy using wool imported from Australia may be exported to China and
transformed into a sweater, which is marketed by a US agency. Some countries
may be able to create especially cheap wool while manufacturing relatively
expensive textiles; others might create relatively inexpensive fabrics of a given
quality while producing poor quality and expensive wool. Thus each country
might find it has a comparative advantage in one or several activities along the
value chain. Globalisation has permitted production to migrate to countries in
which its industry enjoys a comparative advantage. Likewise, buyers can
source goods and services from countries that give them the best deals (in
terms of a combination of factors that might include price, reliability and
quality).

Generally, the clothing and textiles sector belongs to a the “buyer-driven” set
of value chains, powered chiefly by wholesalers and retailers, who tend to
market and/or design the clothes that they sell but are “manufacturers without
factories” (Gereffi & Memedovic 2003) in that they outsource all manufacturing
activities. They control up-stream and down-steam processes and wield
significant power. They can thus enforce odious demands with respect to
standardisation, quality and price.
Global value chains have impacted SA's C&T industry on fronts domestic and
global. Domestic retailers have shifted procurement to foreign manufacturers,
who have continuously outperformed their SA counterparts (again, in terms of
a combination of variables that include, but are not limited to, price and
quality). This trend has been mimicked in all levels of the value chain. For
instance, local clothing manufacturers have shifted their demand in favour of
foreign textiles, at the expense of domestic producers. At the international
level, firms participating in any level of the value chain can source inputs from
optimal suppliers of any particular service or factor input. SA's C&T industry
has not found its place in this system. It has failed to exploit strengths that
would develop its potential comparative advantages to make a useful
contribution to the global value chain.

Issues underlying SA's inability to compete

The threats to SA's C&T industry essentially reflect a lack of competitiveness.

Globalisation and its resulting changes are not bad in and of themselves and
many countries have taken advantage of the new opportunities that it they
offer. The root cause of the problem then is actually SA's inability to compete in
a meaningful and sustainable way. Policy interventions must necessarily
remedy the factors that constrain SA's ability to compete. These factors
include:

1. Inefficiency, low productivity and uncompetitively high prices

2. Unreliable service and long lead times
3. Poor infrastructure, communication and logistics
4. Odious terms of trade. For example, the African Growth and
Opportunities Act (AGOA) requires a “triple conversion” for SA to
benefit from the preferential trade agreement.

Priority areas for Intervention

There are many complex and overlapping problems limiting SA's ability to
compete. But not all can be targeted simultaneously, some are more severely
limiting than others, and solving some will subsequently have positive or
negative spillover effects on others. Intervention priorities are thus identified.

Hausmann et al. (2005) suggest using the “most binding constraints” as a

criteria for prioritisation. The method's adaptation to the current context entails
identifying those areas that represent the most profound limitations to the SA
C&T industry and whose elimination will have the most significant positive
impacts. The binding constraints act to suppress SA's strength. An
identification of these strengths, and the opportunities that they present,
reveals its potential comparative advantages.

Identifying SA's strengths

According to the Clothing and Textiles Business Alliance (2005, p.16), SA's
potential competitive advantages lie, in general, in “the factors of skills, energy
costs, logistics and marketing”. High wage costs and labour inflexibility are a
feature of SA's economy, which does not lend itself to low-quality mass
production. Cape Town is especially strong in high quality garment manufacture
and innovation (ibid, p.14), owing to its creative talent, including product
development, design and marketing.

It is important to note that there are in effect two interrelated problems: one
relating to exports and the other to domestic market supply. SA's potential
advantages in each market differ. Table 1 includes the respective factors,
identified by the Clothing and Textiles Business Alliance (ibid)
Domestic market Export market
Fast lead and response times Close proximity to Europe, east coast
of US
and Middle East
High degree of flexibility Language and culture consistent with
Western and Middle Eastern markets
High quality Time zones compatible with Europe
and the Middle East
Strong customer support
Reliability
Table 1: South Africa's potential comparative advantages in clothing and textiles: export and
domestic markets

SA is well-positioned to target exports at growing C&T markets, such as the

middle east, whose demand is outstripping economic growth. China's main
export partners, the EU and US, house only 10% of the world population and
China does not have the capacity to supply the entire worlds' demand of
clothing and textiles ( Morris & Barnes 2009). Instead of attempting to compete
head-on with low-cost developing countries in a saturated market obsessed
with races to the bottom, SA's opportunities lie in carving out its own path,
supplying fewer, but superior, goods and services.

Aims of policy interventions:

The opportunities presented above suggest the following aims for policy
interventions:

1. Improve SA's competitiveness in clothing manufacture in export

and domestic markets, concentrating on:
a) high-quality garments
b) superior customer service, including flexibility, reliability, conformity
to required standards, and competitive lead times
c) a high degree of creativity with respect to design, marketing and
innovation
d) becoming a second-tier supplier for countries spreading risk
e) strong value chain alignment with firms engaged in upstream and
downstream activities

2. Improve SA's competitiveness in textile production, with special

focus on:
a) high-quality output
b) non-clothing textiles such as industrial and interior fabrics
c) strong value chain alignment with local manufacturers of clothing and
other related goods
The binding constraints that follow underlie SA's inability to achieve the above
aims.

The most severe constraints to competition

1. Skills gaps and shortages

2. Infrastructure, capital and logistics
3. Public inputs
4. Strong rand and trade distortions
5. Global value chain integration
6. Domestic value chain alignment
7. Relationships with upstream and downstream local firms
8. Self-discovery and innovation

Specific policy recommendations

Eliminating the above constraints and achieving the above-mentioned policy

aims require the following specific policy interventions:

1. Skills development

Managerial, technical and operational skills need to be developed. The current

CTFL-SETA programme ostensibly has this responsibility but has as yet proved
ineffective at developing the required skills base. In addition, it has failed to
identify and deal with skills scarcity at the operator level ( Morris & Reed 2009).

Two approaches are possible and I believe a combination of the two to be most
beneficial. First, SETA should be reformed in the following ways:
• It should communicate with the C&T sector through deliberation councils
so that it can identify the skills that firms require and ensure that
technical schools offer the relevant courses. At the moment the SETA is
“providing insufficient technical training assistance, choosing instead, to
marshal its resources around low-skills training” (ibid, p.21) which
demonstrates a clear misalignment of objectives.
 • A holistic approach to skills training should be adopted that includes
“advanced qualifications and elementary qualifications alike” (Ibid) and
offers training relevant to people at different stages in their career or the
business cycle or both. This would ensure that the right training is offered
to the right people at the right time.
Second, an institution should be set up to provide incentives to firms that
provide in-house training or send their staff on courses. This could be in the
form of subsidies, tax rebates or asset depreciation allowances. The latter
would have the added benefit of encouraging capital investment.

2. Increasing investment

A council should be established to encourage investment in capital and

technology. A percentage of tax revenue from the industry should be ring-
fenced for this purpose. It should:
• offer incentives in the form of depreciation allowances, subsidies and
low-interest loans for capital investments.
• host forums aimed at educating manufacturers about the latest
technologies and the capital that would allow them to provide the goods
that down-stream firms require.
• Identify missing public inputs that require government investment and
coordination. Mechanisms need to be in place that communicate
recommendations to the relevant public bodies and ensures that they are
investigated and followed through when necessary.

3. Short-term protection of domestic clothing and textiles with

tariffs fading gradually

Tariffs should gradually fall on clothing and textiles to bring down input costs
and help to sharpen local firms' competitiveness. WTO agreements are making
such tariffs untenable and there are significant welfare benefits to cheap
imports (Morris & Einhorn 2008).

This will make foreign imports relatively cheaper but SA should not attempt to
compete on price. Its advantage rests in higher-end, niche markets that are
less price elastic than cheaper apparel. Some firms will be unable to compete
and will inevitably fold. However, there will be some unemployment absorption
by the informal sector (Edwards & Morris 2007).

A fund should should be put in place to provide short-term unemployment

insurance for workers in the C&T sector and that will assist unskilled workers in
the industry in acquiring skills necessary for higher-end manufacture. This
should be financed by a percentage of tax revenues on retail, who are set to
benefit substantially from tariff reductions as retailers command the highest
mark-up in the C&T value-chain. The additional taxes acquired by virtue of
greater profits in the retail sector can thus subsidise those that lose further
down the value chain.

Short-term protection should be maintained as the industry adjusts to its new

position higher up the value chain and to slow down the inevitable
unemployment impact of cheap foreign imports. These unsustainable measures
should be decreased gradually over time.

4. Improving terms of trade and eliminating distortions

Terms of trade can be improved by maintaining a competitive exchange rate

and negotiating improved trade agreements. Trade distortions can be mitigated
by improving conditions at ports.

Maintaining a competitive exchange rate

The rand must depreciate in order for SA to become competitive in export

markets and to encourage local procurement of inputs to the supply chain by
making foreign imports relatively more expensive. The textile industry would
benefit from increased supply to local and domestic manufacturers while local
clothing manufacturers would gain an advantage in domestic retail markets. In
addition, it would be consistent with analysis by the SARB and the OECD that
the rand is too highly valued and that the local economy would benefit overall
from its devaluation.
Negotiating improved trade agreements

Preferential trade agreements should be negotiated with economic partners.

This provides an advantage in export markets. For example, AGOA currently
requires a three-stage conversion process before SA can benefit from
preferential access to the US market while other SSA countries require only a
single conversion. This puts SA at a great disadvantage compared to its
neighbours. Such agreements that harm SA's terms of trade should be
renegotiated.

Improving conditions at ports

Infrastructure, oversight and skills of officials need to be upgraded at ports to

eliminate the problems of under invoicing and illegal imports. This would
ensure that the gains brought about by the suggested policy interventions are
not eroded by unaccounted goods entering SA.

5. Improving value chain alignment and integration while exploiting

SA's strengths

The local value chain needs to be realigned domestically and integrated into
the global C&T value chain.

Domestic realignment

Councils need to be established that facilitate open and transparent

communication between retailers and manufacturers of clothing and textiles to
improve relationships between the levels of the value chain. Agreements
should be encouraged that commit retailers to orders from manufactures over
the long term, contingent on manufactures meeting specific, pre-specified
standards. Manufacturers an thus tailor their services to the needs of local
retailers and gain a substantial competitive advantage. This also helps to
encourage investment in capital as risks associated with such investments are
significantly reduced.
Beneficiation should be strengthened to form synergies between levels of the
value chain by coordinating related activities (Clothing and Textile Business
Alliance 2005). For example, textile producers could supply flexible, timely
input to the clothing sector which can in turn offer superior service to retailers.
This requires strengthening of communication between participants at all levels
of the value chain.

Integration into the global C&T value chain

Local manufacturers need to move higher up the global value chain to offer
goods and services with which they can compete. Relationships need to be
formed to create global networks of inter-related activities than can benefit
from each others' respective comparative advantages.

An important special case is greater regional value chain integration. SA has an

advantage in SSA textile manufacture. It is thus suited to export its materials to
neighbouring countries with lower wage costs for cut, make and trim (CMT)
transformations. The goods could then be reimported to SA and sold under a
domestic label. Optimising such relationships help to enhance SA's strengths
and compensate for its weaknesses.

Textile manufacturers should, in addition, move into non-clothing related

production, such as industrial materials and interior fabrics. They need to
integrate into the global value chains for goods that do not include apparel,
where there is potential for higher returns, and for manufacturers to leverage
their advantages.

Concluding remarks

There is significant potential for SA to exploit its strengths to realise its latent
comparative advantages in the C&T sector. Domestic and international
opportunities abound. This requires bold and purposeful policy intervention to
eliminate its constraints. Strengthening value chains, improving terms of trade,
gradually reducing C&T tariffs, increasing investment (including government
inputs) and developing skills are vital for the sustainable success of the SA C&T
industry and to save it from a painful decline.

References

Clothing and Textile Business Alliance, 2005. Submission to DTI regarding the
Customised Sector Programme,

Edwards, L. & Morris, M., 2007. Undressing the numbers: The employment
effect of import quotas on clothing and textiles. Journal of Development
Perspectives, 2(2), 121–140.

Gereffi, G. & Memedovic, O., 2003. The global apparel value chain: what
prospects for upgrading by developing countries, United Nations
Industrial Development Organization, Vienna.

Hausmann, R., Rodrik, D. & Velasco, A., 2005. Growth diagnostics. The
Washington Consensus reconsidered: towards a new global governance.

Hausmann, R., Rodrik, D. & Sabel, C.F., 2008. Policy Brief - Reconfiguring
Industrial Policy: A Framework with an Application to South Africa, Center
for International Development at Harvard.

Morris, M., Esselaar, J. & Barnes, J., 2004. An identification of strategic

interventions at the Provincial Government level to secure the growth
and development of the Western Cape Clothing and Textiles Industries.
Report to the Western Cape DEEDT (EXTRACTS).

Morris, M. & Barnes, J., 2009. Globalization, the Changed glocal Dynamics of
the Clothing and Textile Value Chains and the Impact on Sub-Saharan
Africa, Vienna: UNIDO.

Morris, M. & Einhorn, G., 2008. Globalisation, Welfare and Competitiveness: The
Impacts of Chinese Imports on the South African Clothing and Textile
Industry. Competition and Change, 12, 355-376.
Morris, M. & Reed, L., 2009. Skills Gaps and Shortages in the South African
Clothing and Textile Industry. In A. Kraak, ed. Pretoria: HSRC Press.