3._Manufactruing-Service_sector_competitiveness_Study_(non-Ag)_(1).pdf

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Grant Completion Report Integrated Rural Development and Nature Conservation (IRDNC) Improving Financial Governance in Caprivi Conservancies Grant July 1, 2012 – June 30, 2013

[Insert Date of report]

This publication was produced for review by the United States Agency for International Development. It was prepared by [Insert grantee] for Chemonics International for activities completed under Contract No. 674-C- 00-10-00030-00.

USAID/PAKISTAN NON-

AGRICULTURAL VALUE CHAIN

ASSESSMENT — DRAFT

ASIA AND THE MIDDLE EAST ECONOMIC GROWTH

BEST PRACTICES PROJECT

MAY 2013

This publication was produced for review by the United States Agency for International Development. It was prepared by Chemonics International Inc.

http://upload.wikimedia.org/wikipedia/commons/1/17/USAID-Identity.svg

USAID/PAKISTAN NON-

AGRICULTURAL VALUE

CHAIN ASSESSMENT —

DRAFT

ASIA AND THE MIDDLE EAST ECONOMIC GROWTH

BEST PRACTICES PROJECT

Contract No. GS-23F-0127P Task Order No. AID-OAA-12-00008

The authors’ views expressed in this publication do not necessarily reflect the views of the United States Agency for International Development or the United States government.

USAID/PAKISTAN NON-AGRICULTURAL VALUE CHAIN ASSESSMENT v

CONTENTS

Acronyms ......................................................................................................................... vii

Executive Summary

Section I. Introduction and Methodology

Section II. Overall Policy Issues Affecting Manufacturing Competitiveness

Section III. Value Chain Summaries

A. Garments Value Chain B. Leather Value Chain C. Marble Value Chain D. Herbs and Botanical Medicines Value Chain E. Surgical and Medical Instruments Value Chain F. Information Technology Value Chain

Section IV. Crosscutting Issues

Annexes Annex A. Scope of Work Annex B. Survey Guidelines Annex C. Mini-Survey Questionnaire Annex D. Pakistan’s Trade Prospects Annex E. PPPs and U.S. Investment Opportunities: Energy and Infrastructure Annex F. Workforce Development Strategy Annex G. Contact List

USAID/PAKISTAN NON-AGRICULTURAL VALUE CHAIN ASSESSMENT vii

ACRONYMS

3G Third Generation

ADB Asian Development Bank

AHAN Aik Hunar Aik Nagar

AMEG Asia and the Middle East Economic Growth Best Practices Project

APMIA All Pakistan Marble Industry Association

ASTM American Society for Testing and Materials

BDS business development services

BRIC Brazil, Russia, India, and China

CAD computer-aided design

CAMS consumer asset management system

CBI Center for Promotion of Imports from Developing Countries

CEO chief executive officer

CFCs Common Facility Centers

CFTC Karachi Common Facility Training Center

CFTCs Common Facility Training Centers

CMM Capability Maturity Model

CMMI Capability Maturity Model Integration

CNC computer numerical control

CPI Centre for Promotion of Imports from Developing Countries

DCA Development Credit Authority

DISCO power distribution company

DRAP Drug and Regulatory Authority of Pakistan

DSEC Dimensions Stone Evaluation Center

EOBI Employees Old-Age Benefits Institution

EPA Environmental Protection Agency

ERP Enterprise Resource Planning

EU European Union

FIAS International Finance Cooperation

GBI Global Business Intelligence

GDA Global Development Alliance

GDP gross domestic product viii USAID/PAKISTAN NON-AGRICULTURAL VALUE CHAIN ASSESSMENT

GMP good manufacturing practice

GTAP Global Trade Analysis Project

HS Harmonized System

ICT information and communication technology

IFC International Finance Corporation

ILO International Labor Organization

IP intellectual property

ISO International Organization for Standardization

IT information technology

KPK Khyber Pakthunkwah

KTDMC Karachi Tools, Dies and Molds Centre

LPDI Leather Product Development Institute and Development Program

LTE Long-Term Evolution (Fourth Generation)

M&G marble and granite

MEDA Mennonite Economic Development Associates

MFI microfinance institution

MIDC Metal Industry Development Center

MSME micro-/small/medium enterprise

MT metric ton

NADRA National Database and Registration Authority

NCNPR U.S. National Center for Natural Product Research

NIH National Institutes of Health

NILT National Institute of Leather Technology

OEM original equipment manufacturer

PASDEC Pakistan Stone Development Company

PBS Pakistan Bureau of Statistics

PCISR or PCSIR Pakistan Council of Scientific and Industrial Research

PEDRA Pakistan Electronic Media Regulatory Authority

PHITMEAM Pakistan Institute of Technology for Minerals and Advanced Engineering Materials

PHMA Pakistan Hosiery Manufacturers Association

PIFF Pakistan Infrastructure Financing Facility

PISDAC Pakistan Initiative for Strategic Development and Competitiveness

PITB Punjab Information Technology Board

USAID/PAKISTAN NON-AGRICULTURAL VALUE CHAIN ASSESSMENT ix

PITMAEM Pakistan Institute of Technology for Minerals and Advanced Engineering Materials

PKR Pakistan rupee

PLGMEA Pakistan Leather Garment’s Manufacturer and Exporter’s Association

PNAC Pakistan National Accreditation Council

PPP public-private partnership

PRGMEA Pakistan Readymade Garments, Manufacturers, and Exporters Association

PRGTTI Pakistan Readymade Garments Technical Training Institute

PSEB Pakistan Software Export Board

PSQCA Pakistan Standard and Quality Control Authority

PTPMA Pakistan Tibbi Pharmaceutical Manufacturers Association (

R&D research and development

RCA revealed comparative advantage

REACH Registration, Evaluation, Authorization, and Restriction of Chemicals

SECP Security and Exchange Commission of Pakistan

Sedex Supplier Ethical Data Exchange

SIMAP Surgical Instrument Manufacturers Association of Pakistan

SMART Self-Monitoring and Reporting Tool

SME small/medium enterprise

SMEDA Small and Medium Enterprises Development Authority

SMI surgical and medical instruments

SMTEL Sialkot Material Testing Laboratory

SWOG Marble and Granite Strategy Working Group

TAFTA

TDAP Trade Development Authority of Pakistan

TEVTA

TUSDEC Technology Up-gradation and Skills Development Company

UNCTAD/ITC United Nations Conference on Trade and Development / International Trade Centre

UNIDO United Nations Industrial Development Organization

WHO World Health Organization

WITS World Integrated Trade Solution

WRAP Worldwide Responsible Accredited Production

WTO World Trade Organization

USAID/PAKISTAN NON-AGRICULTURAL VALUE CHAIN ASSESSMENT 1

EXECUTIVE SUMMARY

A. INTRODUCTION AND BACKGROUND

Deterioration in the global economy in the past few years has created difficult external conditions for Pakistan to transform, strengthen, and diversify its economy through export-led strategies. In addition, external shocks, internal policy inaction, political disorder, and structural issues have placed Pakistan in a dire economic condition. The country’s per-worker manufacturing output has grown by a mere 1.5 percent each year during the past decade. Trade indicators reflect low outward orientation, concentration on low value-added activities (low sophistication), and an undiversified product mix. Pakistan’s export share of gross domestic product (GDP) has remained low and falling—from 13 to 11 percent in 2010, according to statistics from the State Bank of Pakistan. The Punjab and Sindh regions, which are the hub of Pakistan’s manufacturing industry, have borne the brunt of adverse developments, resulting in rising unemployment — especially among youth and women — and further complicated by systemic structural issues such as energy and infrastructure.

In light of these systemic constraints, USAID/Pakistan requested a value chain assessment of 10 to 20 non-agricultural sectors to provide strategic input for future programming efforts and to strengthen Pakistan’s economy. The objectives of the assessment are to summarize: (1) value chain specific systemic constraints; (2) trade and competitiveness potential; (3) time, cost and difficulty of improving the business enabling environment; (4) multiplier effects; and (5) impact on environment and gender. The 10-week study was funded through the USAID Asia and Middle East Economic Growth Best Practices (AMEG) project.

Nihal Pitigala was responsible for the overall design of the evaluation and management of the team. Dr. Pitigala was supported by Janice K. Stallard, a value chain expert from Banyan Global; Aijaz Ahmad, an infrastructure expert; Gustavo Marquez, a labor economist from JBS International; and Andrew Batchelor, Veenita Kaushik and Ambreen Gilani, economic researchers.

Before their arrival in Pakistan, the AMEG team developed a preliminary value chain selection process and presented it to USAID for input and finalization. Once in Pakistan, the team gathered qualitative and quantitative data, using information from a mini-survey (through Grant Thornton), key informant interviews, and focus group discussions. The team travelled initially to Islamabad for government level meetings but spent the majority of time in Lahore, Sialcot, and Karachi to meet with key business leaders, chambers of commerce, banks, business service providers, government officials, and other stakeholders.

B. METHODOLOGY AND SELECTION PROCESS

The value chain selection was completed based on agreed upon criteria including their potential for growth and competitiveness, impact, and contribution to other development objectives such as natural resource management, women’s

2 USAID/PAKISTAN NON-AGRICULTURAL VALUE CHAIN ASSESSMENT

empowerment, and food security. The following specific criteria and weighting were used to select an initial list of 16 value chains1:

• Revealed comparative advantage (RCA) index (weight of 25 percent)

• Employment potential (weight of 20 percent)

• Income potential (weight of 15 percent)

• Geographic location (weight of 10 percent)

• Scale-up and growth potential for small and medium enterprises (SMEs) (weight of 15 percent)

• Multiplier effects, forward and backward linkages (weight of 15 percent)

These criteria and associated weighting were applied to an initial set of 16 value chains which was further refined, through stakeholder interviews and discussions with USAID, into six final value chains: garments, marble, IT, surgical instruments, leather, and herbal medicines.

C. IMPLEMENTATION

Desk review. The value chain assessment was launched with a comprehensive desk review of secondary data and literature on the selected value chains. This desk review examined the many existing analyses of the economic potential of specific value chains done by donor projects such as USAID FIRMS, Entrepreneurs, PISDAC, the Competitiveness Support Fund, International Financial Institutions, multi-lateral and bi-lateral organizations, and Pakistani organizations such as the Small and Medium Enterprises Development Authority (SMEDA), the Technology Up-gradation and Skills Development Company (TUSDEC), EDB, NIP, PIDB, PSDF, TEVTA, PVTC, PCSIR, and Aik Hunar Aik Nagar (AHAN), as well as NGOs and sector development companies. The literature review’s findings help ground truth and guide the study’s assessment of systemic constraints and opportunities for USAID intervention.

SME survey. Grant Thornton was hired to undertake a comprehensive survey of the selected value chains. Grant Thornton’s team interviewed approximately 200 value chain actors in the selected six value chains including individual and stakeholder meetings based on a survey designed by the study team. A stratified random sampling2 was used for selection of 200 SMEs from the list generated through background research. Geographical areas covered included Karachi and Hyderabad in Sindh and Lahore, Gujranwala, Gujrat, Sialkot, and Faisalabad in Punjab. Data from this survey were used to supplement the findings from key informant interviews.

Fieldwork. The AMEG team carried out more than 100 in-depth interviews with key informants (SMEs, input providers, government representatives, research and testing centers, chambers of commerce, training institutes and universities, wholesalers and traders, and financial institutions), held multiple stakeholder workshops, and conducted onsite direct observation in the selected value chains. The team developed a survey instrument to guide the fieldwork and ensure that the multiple team members gathered uniform datasets and findings.

1 Several of these were suggested in the original AMEG scope of work; the indicators are described in detail in the inception report.

2 SMEs were stratified into sectors, and a probability proportionate to size technique will be employed for assigning weight to samples drawn from each sector.

USAID/PAKISTAN NON-AGRICULTURAL VALUE CHAIN ASSESSMENT 3

Key Survey Finding According to the survey, marketing is one of the weakest links in the garment and marble value chains.

D. KEY FINDINGS AND RECOMMENDATIONS

The survey team produced maps of each value chain — found in each value chain summary in the following section — depicting constraints and opportunities for intervention.

This executive summary highlights some of the key constraints identified for all six value chains. Recommendations marked with asterisks (*) could be fully or partially implemented through an AMEG pilot study or through follow-up research.

D1. BUSINESS ENABLING ENVIRONMENT AND POLICY ISSUES

AFFECTING MANUFACTURING COMPETITIVENESS

Findings. Overarching policy issues that are having an impact on the value chains and industrial growth include zoning laws that discourage commercial development of small enterprises through punitive taxation and obsolete rental laws; trade policy issues that favor domestic orientation (rather than exports) and large-scale enterprises (versus SMEs); and an inefficient duty drawback system for exporters.

At the value chain level, the imposition of duties on machinery and raw materials and weak mining laws are punitive for the textile and marble sectors. Pakistan’s policy environment is fraught with inconsistencies and a lack of coordination among the ministries supporting SMEs. For example, due to an ongoing disagreement between government institutions, the Export Development Fund has not been used equitably for product and export development. In some cases, as in leather, environmental policies are simply not followed; in other cases, such as herbal medicines, governing bodies have not yet formalized regulations to guide private sector manufacturing. In still other sectors, particularly information technology (IT), policy is outdated and insufficient to meet changing market requirements.

Recommendations. Interventions in policy and business enabling environment will require a long-term, phased approach to streamline and improve conditions:

• Simplify the tariff and trade regulatory regime, thus helping to reduce Pakistan’s anti-export bias.

• Eliminate all trade-related statutory regulatory orders, to facilitate swift simplification of the trade regime.

• Provide the government with assistance to promote trade and industrial policy reforms, including empirical analysis of the economic and employment impact of the reforms.

• Offer sector associations technical assistance to support their advocacy for reform, such as streamlining the duty drawback regime and reforming the regulatory framework on mining techniques (e.g., banning explosives).

• Reform zoning and building regulations to allow land use to respond to market demand.

4 USAID/PAKISTAN NON-AGRICULTURAL VALUE CHAIN ASSESSMENT

Key Survey Finding Ninety percent of SME survey respondents had never borrowed from a formal financial institution.

Key Survey Finding

Since 2005, TerraData has started its own training-of-trainers program at major universities to create a curriculum on data warehousing and storage. TerraData’s staff has developed a course on data warehousing, which includes hands-on lab work. TerraData continues to support the universities that have adopted the course.

D2. SUPPORT INSTITUTIONS

Findings. Pakistani SMEs face significant obstacles to obtaining the support they need to develop or improve marketing, technology, locally based and internationally recognized testing facilities, research and development (R&D), international accreditations, and financing, so that they can function in today’s global marketplace. For example the lack of local chemical testing facilities (that meet international requirements) for the herbal medicines value chain increases overall production costs and extends production time frames. The IT sector lacks funding for R&D that could catalyze indigenous development of Pakistan’s intellectual property.

Recommendations

• Hold a series of awareness and outreach meetings in major and secondary cities to introduce the funding opportunities available through USAID’s Development Innovations Ventures. These workshops could be organized in two-day sessions;

the first day to introduce the program, and the second to provide hands-on guidance to potential applicants.*

• Assess the viability a Development Credit Authority (DCA) guarantee program to offset the risk of lending to smaller businesses. This would include identifying and assessing commercial banks’ interest in securing DCAs to support lending in the six value chains.*

• Support R&D across all value chains through specific initiatives (described in each value chain summary) to catalyze private sector-oriented and industry-focused research.

• Expand Pakistani-owned testing capacity through a Global Development Alliance

(GDA).

• Promote international accreditations and expand marketing linkages through buying house/distribution partnerships — considered to be one of the most direct avenues for assisting smaller businesses to access new domestic and international market opportunities. Support local buying houses to expand technical assistance and advisory support to smaller businesses in the identified value chains.

D3. WORKFORCE DEVELOPMENT

Findings. A common complaint in every value chain was that training and academic programs were not oriented toward industry needs — curricula often do not include skills development in the areas firms. There are promising examples of industry-academic linkages occurring organically across the six value chains; one is summarized in the box at right. Similarly, students reported a lack of

USAID/PAKISTAN NON-AGRICULTURAL VALUE CHAIN ASSESSMENT 5

funding to attend technical training and university programs that would advance their career opportunities.

Recommendations

• Hold a conference that brings together the relevant stakeholders (such as the

Higher Education Council, industry leaders, universities, and provincial education departments) to discuss key industry developments in all six value chains. The conference could be a platform for sharing information across the industries and academic fields and addressing the gap in providing relevant, qualified professionals. A summary paper from this conference could further advance learning and knowledge sharing among academics, students, and sector stakeholders.*

• Assess the viability of student loan programs to address workforce gaps (many youths from working-class families lack access to financing that would help them attend technical training programs or enter universities). The assessment would review interest in introducing student loan programs among microfinance institutions (MFIs), MFI Banks, commercial banks or non-bank financial institutions.*

• Support the replication of private sector initiatives from firms such as TerraData, to improve industry-academic linkages.

D4. FIRM-LEVEL CONSTRAINTS

Findings. Some 80 percent of SMEs are family-owned. Most factory managers lack technical degrees and training in their fields, and only a handful have business diplomas. These factors have contributed to a series of interconnected organizational, managerial, and technological mismatches, such as:

• Limited knowledge of upgrading machinery and its benefits (i.e., improved productivity, quality and energy efficiency)

• Lack of understanding about the benefits of digitization (i.e., enabling management to make time-sensitive decisions on buying inputs, traceability, and accessing real-time profit/loss information)

• Lack of international certifications

• Lack of general understanding of the positive impact computers and social media can have on productivity and marketing

• Not hiring professional marketing and/or distribution firms that could better represent their interests with international buyers.

Recommendations

• Develop an executive-level certification course on financial and business training through an industry-led partnership with local training institutions and universities. This would take the form of a specialized series of sessions on the

6 USAID/PAKISTAN NON-AGRICULTURAL VALUE CHAIN ASSESSMENT

importance and financial impact of digitizing their financial and organizational functions, the financial benefits of modernizing equipment, human resource management, accessing formal financial services (e.g., loans and business advisory services), and marketing.*

• Promote the adoption of supply-side and demand-side standards. On the supply side, strengthen the Pakistan Standards and Quality Control Authority (PSQCA) to set mandatory standards for safety and compliance on key sectors that can uplift consumer welfare while aiding the industry move towards higher standards. On the demand side, USAID can support sector associations to build awareness of the importance of international standards and provide firm-level technical assistance.

• Fund feasibility studies to launch firms in new sectors, such as herbal extraction and herbal processing businesses, and support GDAs with interested private sector investors.

D5. BACKWARD AND FORWARD LINKAGES

Findings. In terms of backward linkages, the lack of consistent local supply and uniform quality of inputs cuts across most of the six value chains. For the marble sector, this stems from damage to 74 to 85 percent of marble during the mining process. For herbal medicines, this results from lack of cultivation and unsustainable collection process. For leather, the gap in local supply reflects an unorganized input supply market (no commercialize rising of cattle, 25 percent raw material losses at the slaughter and husbandry levels).

In terms of forward linkages, there are significant opportunities for deeper exploration of domestic market segments in the selected VCs. Specifically, in the domestic garments sector for branded market, an aspect that has not been addressed in previous value chain assessments. The domestic IT market is also mostly untapped. The commercial IT sector offers prospects of increased productivity across industries through social media and IT services (for example, using ERP systems to manage accounting and traceability for herbal medicine manufacturers). The social IT sector (health and education) offers prospects of reducing the costs of these services while increasing access (for example, ComSept is teaming with local hospitals to provide online diagnostics to rural communities through real-time video links).

Recommendations

• Support increased cultivation of herbs in farming communities throughout Sindh and Punjab, in partnership with major herbal manufacturers such as Herbion and Qarshi.

• Tap domestic IT market opportunities through support for R&D (through the Ministry of IT’s ICT R&D Center) and assistance to catalyze emerging business incubators developing products (such as a return-on-investment tool for social marketing).

• Reform zoning and building regulations to allow land use to respond to market demand.

USAID/PAKISTAN NON-AGRICULTURAL VALUE CHAIN ASSESSMENT 7

• Assist banks to develop down-market lending programs. In conjunction with the IFC, USAID can support this program’s expansion to build more aggressive lending and advisory services to SMEs

• To tackle waste issues at marble mines, USAID could facilitate a GDA to establish a model mining facility and support sector training on modern mining practices

D6. CROSSCUTTING ISSUES

E-payment findings and recommendation. Lack of a global e-payments platform is one of the most significant constraints to the expansion of the IT sector; this issue also has crosscutting implications for the productivity and competitiveness of Pakistan’s SME sector.

• Hold an international conference, coupled with a white paper on the economic impact of e-payment services in Pakistan.*

Energy findings and recommendations. Pakistan’s complex energy problems reflect the lack of a comprehensive and integrated energy strategy and insufficient fiscal support for energy generation and infrastructure. The National Planning Commission estimates the gap in power availability for 2012 to 2013 to be around 5,000 megawatts. This gap adversely affects businesses, especially SMEs, and is estimated to reduce GDP by 3 percent a year.

• Conduct a technical and financial feasibility study for setting up a captive power producing plant in strategic locations (such as in Sialcot) to support the surgical and leather sector clusters. The study would (1) determine current and forecasted power needs of the sector; (2) propose fuel options (such as coal, biomass, and solar power) for setting up the captive power producing plant, keeping affordability in mind; (3) test the viability and bankability of each option as well as interest from the local and U.S. private sector; and (4) inform key stakeholders.

• Support the government to establish a Pakistan Infrastructure Financing Facility (PIFF) to attract long-term investors and donors into the energy and infrastructure space. The PIFF would develop power and infrastructure business plans on the viability of lending to and investing in this sector.

Gender findings and recommendations. There is limited women’s involvement in all value chains, even when their skills could add great value (as in the garments and leather industries). Women’s employment in the six value chains ranged from 1 percent to 5 percent.

• Train women on mosaic production, leveraging the Marble and Granite Strategy

Working Group’s interest in supporting women in the marble sector to draft a plan to design and implement a technical assistance program to design specialized mosaic creations. The project should include methods of product exhibition, support to attend trade shows, and other marketing efforts.

8 USAID/PAKISTAN NON-AGRICULTURAL VALUE CHAIN ASSESSMENT

• Provide funding to expand P@SHA’s Career Expo to secondary cities and tailor outreach to female students. Funding is needed to develop specialized promotional materials to showcase possible employment opportunities for women in the IT sector and the expansion of the Career Expo to 10 secondary cities.

Environment findings and recommendations. Most respondents had limited understanding of the environmental regulations and national standards for their sectors. This will have a significant impact on the ability of the leather and garments sectors to expand into higher-end export markets.

• Develop a master’s training course with SGS Laboratory on environmental safety, occupational health, and modern environmental best practices. SGS could be hired to develop a master trainers program for universities, technical training centers, environmental NGOs, consulting firms, the government (federal and provincial levels of the Environmental Protection Agency), and possibly the future Cleaner Production Center, to create an environmental certification program for trainers.

Qarshi Industries is interested in collaborating on this initiative to support its expansion throughout the herbal sector.

USAID/PAKISTAN NON-AGRICULTURAL VALUE CHAIN ASSESSMENT 9

SECTION I

INTRODUCTION AND

METHODOLOGY

External shocks, internal policy inaction, political disorder, and structural issues have placed Pakistan in dire economic conditions. The country’s per-worker manufacturing output has grown by a mere 1.5 percent each year during the past decade. Trade indicators reflect low outward orientation, concentration on low value-added activities, and an undiversified product mix that is not aligned with the fastest-growing areas of global demand. The export share of GDP has remained low and is falling — from 13 percent to 11 percent in 2010 (SBP, 2012). Forty-five products account for more than 80 percent of Pakistan’s exports, and 10 of these products, mostly from the textiles and garment sector, represent more than half. As a result, the share of exports from textiles and garments has consistently exceeded 60 percent, food and leather products account for 17 percent, and engineering’s share is barely 2 percent. Meanwhile, global trade has seen 60 percent growth in engineering from rising exporters in East Asia and Latin America. The world’s textile shares have remained at a stagnant 6 percent, but with stronger competitors from South Asia and new ones from Southeast Asia and the Caribbean, competition is fierce in the commodities in which Pakistan’s traditionally specializes.

Deterioration in the global economy in the past few years has created difficult external conditions for Pakistan to transform, strengthen, and diversify its economy through export-led strategies. The hub of Pakistan’s manufacturing industry, the Punjab and Sindh regions, is taking the brunt of adverse developments, as demonstrated by rising unemployment, especially among youth and women. The situation is further complicated by systemic issues with energy and infrastructure.

There is an urgent need for Pakistan to revise its export-led growth strategy, diversifying its export portfolio (both markets and products), while exploring domestic sources of growth. Sustained economic growth will require an interrelated process of technology adaptation, productivity improvements, good investment decisions by firms, and appropriate deployment of resources by markets. For this dynamic to take effect in Pakistan, systemic constraints to doing business — including policy — must be addressed.

A. STUDY OBJECTIVES

This assessment comprises a thorough evaluation of six non-agricultural value chains for USAID/Pakistan, based on their current and potential economic importance. The assessment identifies issues hindering improvements in the competitiveness of each value chain, specifically, issues related to the business enabling environment, management, technology, workforce, financial, marketing, and infrastructure. The assessment analyzes the six selected value chains, identifies key constraints and opportunities, and presents a summary of findings and recommendations, identifying macroeconomic and microeconomic factors that are affecting Pakistan’s competitiveness.

10 USAID/PAKISTAN NON-AGRICULTURAL VALUE CHAIN ASSESSMENT

The broader business environment is central to a firm’s ability to perform in the market. To contextualize the technical analysis, this study also examines the economic, administrative, and regulatory environment in which firms operate. The result is a blend of detailed micro-analysis embedded in a broader macro-analysis.

B. METHODOLOGY

Value chain selection is the process of prioritizing industries or value chains based on criteria such as potential for growth and competitiveness, impact, and contribution to other development objectives; for example, natural resource management, women’s empowerment, and food security. The goal of the selection process is to minimize subjectivity. USAID’s value chain approach applies a combination of quantitative (competitiveness and impact) and qualitative indicators (crosscutting/enablers) to identify viable value chains.

USAID/Pakistan asked the AMEG team to use several indicators, proposed within this broader framework, in the selection of the Pakistan value chains.

Exhibit 1. Methodology

Competitiveness potential. In essence, trade competitiveness and potential exemplify the ability of Pakistani exporters to achieve and maintain a competitive edge through an optimal combination of efficiency, product differentiation, and access to new or niche markets. Conversely, trade competitiveness also conveys the comparative advantage of Pakistani industry, domestically and internationally, and the prospects of sustaining industry in the medium and long term.

Impact potential. Significant and sustainable increases in income and employment occur as a result of growth. Growth in industries with high rates of participation by micro-, small, and medium-sized enterprises (MSMEs) participation will have an impact on poverty — that is, reduce poverty — more than growth in industries with low employment and minimal MSME participation. Assessing potential impact at the firm and industry level is critical to understanding how to increase or optimize

USAID/PAKISTAN NON-AGRICULTURAL VALUE CHAIN ASSESSMENT 11

equitable growth. Another aspect of impact is the multiplier effect of growth in a particular industry. Determining how and where to invest marginal increases in revenue in the local and national economies is an important element of impact.

Crosscutting/enablers. Four key enablers have been identified. First, improving the business environment by lifting constraints and filling gaps in the regulatory and administrative support mechanisms is central to any comprehensive competitiveness strategy for a targeted value chain. Specifically, the study team will assess the time, cost, and level of difficulty involved in improving the business enabling environment for each value chain. If specific value chains face constraints in the business enabling environment that cannot be addressed with USAID assistance (i.e., for political or other reasons), the assessment team may decide to select alternative value chains.

Support institutions are crucial in sustaining growth in any industry by providing financial and technical assistance. Similarly, the concept of industry leadership is an important criterion — the willingness of one or more lead firms to invest time and resources (including non-economic resources such as political and social influence and intellectual contributions) to increasing value chain competitiveness in a way that enhances benefits to producers. The study team will also assess how a value chain’s growth may positively or negatively the environment.

B1. COMPETITIVENESS AND IMPACT CRITERIA

The AMEG project team used the following data types to screen possible value chains for further assessment:

Revealed comparative advantage index. As a proxy indicator to determine a value chain’s ‘trade competitiveness’. RCA shows whether a country has a comparative advantage in the manufacturing of a specific product. Please see Box 1.

Trade Competitiveness

The RCA index is a widely used measure to capture a nation’s comparative advantage;

RCA is calculated using trade statistics, to show whether a country has a comparative advantage in the manufacture of a product. The RCA index is defined as where IRCAij is the index of revealed comparative advantage of country i in commodity j;

Xij is country i’s export of commodity j; Xwj is world exports of commodity j; ΣXi is total exports of country i; and ΣXw is total world exports.

The RCA of country i for product j is measured by the product share in the country’s exports, relative to the share in world trade. For products in which the index is unity or greater, the country is deemed to have a comparative advantage; for products in which the index is less than unity, it may be determined that the country does not have a comparative advantage. The source for trade data is the COMTRADE database, available via World Bank’s World Integrated Trade Solution (WITS) database. The obvious disadvantage of using RCA is the lack of data on services. We propose to use broad aggregates using United Nations services data.

12 USAID/PAKISTAN NON-AGRICULTURAL VALUE CHAIN ASSESSMENT

The Pakistan Bureau of Statistics is the principle source of socioeconomic data in Pakistan. PBS provides manufacturing data at ISIC four-digit classification at provincial and national levels. The last survey was undertaken in 2011, although PBS has yet to publish this data. In all, PBS provides a frame of 138 sectors.

Employment potential. An intuitive proxy for employment potential is labor force participation. Labor force participation data is available through the Pakistan Bureau of Statistics (PBS), and is classified into provinces.

Income potential. Is referred to as nominal economic value generated for a specified period within a sector. It may be approximated through gross output/value-added data, published by the PBS.

Geographic location. Proximity to the main market is an important determinant of an industry’s success. Domestic industries clustered around Punjab and Sindh tend to situate favorably in national markets, but major industries in Pakistan are geared towards the international market. As such, the notion of clustering industries tends to be more important. Some industries tend to cluster and others tend to disperse across national boundaries. A reasonable proxy for clustering is the density of enterprises in Sindh and Punjab provinces, available at PBS.

Scaling up and growth potential for MSMEs. The existence of an undistorted environment or existence of support industries is conducive to the development of small and medium scale businesses. The existing industry clusters within small and medium scale industries for a given sector is a reasonable approximation that can capture both these issues and growth potential of small and medium-sized businesses.

The PBS database houses this information.

Multiplier effects, forward and backward linkages. An appropriate proxy that captures forward and backward linkages (and was adopted by the USAID/Pakistan FIRMS project in 2010) is “input-output” data. Input-output analysis is used to understand the economic structure of a country at the industry level. First developed by Wassily Leontief in 1936, an input-output matrix depicts the inter-industry relations of an economy. It shows how the output of one industry is an input to other industries. It considers the different economic sectors as a series of inputs of source materials (or services) and outputs as finished or semi-finished goods (or services). The Global Trade Analysis Project (GTAP) publishes country-wide input-output data, including for Pakistan, that will be used to measure U.S. dollar amounts of forward and backward linkages.

B2. WEIGHTING AND SCREENING

The first step in the selection process is weighting the agreed-upon criteria. Each criterion is assigned a weight according to its importance. Although each factor is important to consider, policy or programmatic considerations may suggest that some criteria are more important than others in prioritizing sectors. The AMEG team’s proposed weighting is presented in Exhibit 2 (next page).

USAID/PAKISTAN NON-AGRICULTURAL VALUE CHAIN ASSESSMENT 13

Exhibit 2. Weighting Quantitative Indicators

Criteria Weight Justification Data Sources/Proxy

Revealed Comparative Advantage (Competitiveness)

25% The ability of a country to export a product or service signifies its relative competitiveness. The ability to capture international market share signals the degree of comparative advantage that a country holds, based on its factors of production. This is captured by the RCA index. Given its central role in identifying competitiveness, the RCA index is assigned a relatively high weight.

Import and export data from United Nations

COMTRADE

Income (Impact)

15% GDP contribution is empirically important in the context of the potential scope for the impact of sector interventions, though is less important than competitiveness.

Sector level output data from Bureau of Statistics in Pakistan

Employment (Impact)

20% Employment generation for marginalized populations and poverty reduction are key objectives of the donor program.

Identifying sectors that can contribute the most to households, through the generation of low-skilled employment which is abundant in Pakistan, is therefore important. A medium-high weight is therefore assigned to reinforce the development dimension.

Employment data from Bureau of Statistics in Pakistan

Geographic (Impact)

10% A reasonable proxy for clustering is the density of enterprises in Sindh and Punjab provinces, available at PBS.

PBS

Domestic F&B linkages (Impact)

15% This helps us to quantify overall returns to the domestic economy (through linkages) and to identify strengths and weaknesses of a sector, new opportunities for upgrading, and potential threats — all this with a focus on vertical integration into national and global markets. While important, the required data is available only at an aggregated level.

Input-output data from GTAP global database from GTAP

Scaling Up MSMEs (Impact)

15% Existing industry clusters in small and medium-scale industry for a given sector is a reasonable approximation that can capture the subsidiary issues and MSME growth potential. PBS database provides.

Exhibit 3 shows the narrowed list of 23 ranked value chains, based on the quantitative screening in Exhibit 2. Unsurprisingly, the textile and garment sectors emerge as the economically strongest sectors for Pakistan. The textile value chain appears to dominate national value. Textile-related activities belonging to a number of four-digit national product classification are numerous; spinning (1711), finishing, fabrics (1712), and textile articles (aggregated as textiles) ranks at No. 1. Ranked second is apparel representing knitted (1721) and crocheted (1730) apparel. Leather, dimension stones, plastic products, building material, and ceramics also feature among the top

10. Overall, USAID’s preferred sectors (in bold) are among the top 20, but a few (such as fans, electric generators, and furniture) ranked much lower.

14 USAID/PAKISTAN NON-AGRICULTURAL VALUE CHAIN ASSESSMENT

Exhibit 3. Ranking of Sectors by Competitiveness and Impact Criteria

ISIC Value Chain Trade Income Employment Geo F/B Link MSME Weighted Score Rank

1713 Textiles 144 136 142 98 112 40 117.4 1 1730 Garments 138 127 138 93 107 30 111 2 1911 Leather 140 107 111 79 104 69 107.1 3 2696 Cutting and Shaping Stones 132 108 83 88 66 110 101 4 1920 Footwear 123 114 127 75 102 19 98.9 5 2520 Plastics Products (Plastic

Pipes) 87 129 116 97 73 88 98.15 6

2423 Pharmaceuticals 75 140 141 100 79 39 95.65 7 2694 Cement, Lime 118 148 132 64 68 6 95.6 8 2691 Ceramic-ware (Sanitary) 106 91 92 96 71 105 94.55 9 2411 Basic Chemicals 88 134 114 82 84 54 93.8 10 3311 Medical and Surgical 128 106 113 90 30 65 93.75 11 1722 Carpets and Rugs 142 101 68 19 110 67 92.7 12 3430 Auto Parts and Accessories 61 124 130 189 23 56 90.6 13 2899 Other Fabricated Met 81 122 112 92 56 76 89.95 14 2101 Pulp, Paper, and Paper 67 138 128 76 96 25 88.8 15 2102 Corrugated Paper 62 116 93 83 95 98 88.75 16 1912 Luggage, Handbags 124 85 72 62 103 58 88.5 17 2930 Domestic Appliances (Fans) 70 119 126 99 41 77 88.15 18 2424 Soap and Detergents 58 133 123 86 78 55 87.6 19 1723 Cordage, Rope, Twine 127 83 80 33 109 47 86.9 20 3110 Electric Motors 38 128 117 103 39 9 69.6 71 3610 Furniture 72 81 66 68 15 106 68.3 74 3691 Jewelry and Related 99 48 31 72 14 112 64.25 87 2022 Builders’ Carpentry 30 19 95 0 99 73 55.15 100 2813 Steam Generators 101 14 15 0 58 39.05 126

USAID/PAKISTAN NON-AGRICULTURAL VALUE CHAIN ASSESSMENT 15

The services sector lacks comprehensive and sufficiently detailed data to undertake the same degree of rigorous analysis; however, it warrants attention due to its relative importance in the economy, potential links to priority districts, and potential economic and socioeconomic spillover effects from IT, construction, and medical services. (Anecdotal evidence on the latter points to a growing and potentially large impact in high-priority districts.)

For the services sector, only three quantitative data sets are available: RCA (based on World Ranking of Comparative Advantage of Services, Fourie and Fintel, 2009);

export data for 2007 and 2009 from the State Bank of Pakistan; and the GTAP input-output data for services. Exhibit 4 provides a rudimentary ranking of the services sectors based on the above noted measures. The value chain in bold was recommended by USAID.

Exhibit 4. Ranking of Service Sectors

Rank Broad Sector RCA Sector Size RCA F/B

Linkage 1 Transportation services 7 8 4 3 2 Communications services 8 4 3 2 3 Insurance 6 3 7 1 4 Computer and information technology 5 5 6 5 5 Business services (BPO) 4 7 5 6 6 Financial services 2 2 8 8 7 Travel/Tourism 1 6 1 4 8 Construction 3 1 2 7

B3. CROSSCUTTING CRITERIA

This section summarizes each of the three enabling environment factors. These have been examined to identify issues that may preclude any of the top-ranked sectors from being considered for a full value chain analysis. The enabling environment factors were explored in greater detail during the value chain assessments.

Business enabling environment. Pakistan’s business enabling environment poses a number of significant challenges for the private sector. Pakistan ranks 96th overall in the World Bank’s 2012 Doing Business rankings and 124th in the World Economic Forum; barriers to doing business are generally high. By and large, these constraints affect all sectors and potential value chains in Pakistan. A number of sectors are also affected by sector-specific policies and regulations. Of those featured in the quantitative assessment above, the IT and energy sectors face regulatory regimes that can have an impact on the potential success of any value chain activities.

Recent efforts to deregulate and liberalize these two markets have removed substantial barriers to investment. For IT, the cost of telecommunications is a significant industry driver, liberalization of the broadband telecommunications market, which began in 2004 in Pakistan, has enabled the growth of the IT sector by removing a key constraint. In the energy sector, the government of Pakistan has made significant efforts to enable and incentivize independent power producers through guaranteed power purchase and fiscal incentives. The government is also considering

16 USAID/PAKISTAN NON-AGRICULTURAL VALUE CHAIN ASSESSMENT

an increase in feed-in tariffs to further incentivize the production of renewable energy.

Specific business enabling environment constraints will be studied further during the assessment, through identifying policies, laws, and regulatory changes needed to support increased growth and positive impact.

Environmental sustainability. Most of the top sectors, which fall under light manufacturing, pose few environmental risks that would preclude them from consideration for USAID support. Potential exceptions include leather (tanning), metal finishing (fans and surgical instruments), certain garment segments (such as denim), and some segments of the energy sector. Historically, leather tanning has been a significant source of water and air pollution in Pakistan. The metal finishing industries are, likewise, a significant source of pollution. Recent efforts in the tanning industry in Sialkot (for example, the Cleaner Production Center), have significantly reduced the level of pollution in the tanning sector. Given that these sectors are expected to grow with continued support from the government of Pakistan, USAID assistance to the value chain could play a positive role in reducing negative environmental impacts. In energy, for example, coal-fueled power generation and associated mining pose significant environmental risks. There is significant potential for solar and other renewable energy in Pakistan, however, so this should not be precluded from consideration. The leather sector has been eliminated due to the negative environmental impact this industry has during the manufacturing process.

Support institutions. The majority of major sectors in Pakistan have well-established business associations, and certain sectors receive direct assistance from the government through fiscal and other incentives. The field team will explore how these support institutions can further the growth of identified value chains through their activities. Examples of the types of institutions the AMEG team will interview include:

• Textiles. All Pakistan Textile Mills Association, Pakistan Cotton Ginners

Association, and Pakistan Carpet Manufacturers and Exporters Association

• Garments. Pakistan Cotton Fashion Apparel Manufacturers and Exporters Association and Pakistan Readymade Garments Manufacturers and Exporters Association

C. VALUE CHAIN ASSESSMENT

C1. REVIEW AND APPROVAL OF VALUE CHAINS

Based on the value chain selection process presented above, Exhibit 5 (next page) summarizes the top 11 value chains from the sector ranking, adding the value chains requested by USAID. These are presented in summary for further discussion with USAID. The study team proposed to narrow this list to a final 10 value chains for field investigation.

USAID/PAKISTAN NON-AGRICULTURAL VALUE CHAIN ASSESSMENT 17

Exhibit 5. Proposed Value Chains

Sector Ranking Textiles 1 Garments 2 Leather 3 Cutting and shaping stones 4 Footwear 5 Plastics/Plastic Pipes 6 Pharmaceuticals 7 Cement 8 Ceramic-ware (sanitary) 9 Chemicals 10 Information technology* ?

Medical and surgical instruments 11 Auto parts 13 Domestic appliances (fans) 18 Electric motors 71 Furniture 74 Jewelry 87 Building and carpentry 100 Steam generators 126

Source: Due to the lack of IT related data at the ISIC level, the IT sectors is imposed based on qualitative evaluation

These sectors were further refined during field work. Based on input from USAID, the AMEG team completed a comprehensive desk review of secondary data and literature on the selected value chains. This drew on the many existing analyses of the economic potential of specific value chains done with donor funding such as FIRMS, Entrepreneurs, PISDAC, the Competitiveness Support Fund, International Financial Institutions, multilateral and bilateral organizations, and Pakistani organizations such as SMEDA, TUSDEC, EDB, NIP, PIDB, PSDF, TEVTA, PVTC, PCSIR, AHAN, NGOs, and sector development companies. The literature review focused on identifying the opportunities and constraints in Pakistan regarding the following:

• Business enabling environment

• Labor force

•…