Will rising minimum wage affect the RMG sector?
MINIMUM wage for workers in Bangladesh garments industry is a hot button issue for both manufacturers and the Western retailers. At the recent Harvard University Conference on “Globalization and Sustainability of Bangladesh Garments Industry”, two issues dominated the discussions: wages and workers' safety. The participants, while supporting the cause of workers' rights to a decent wage for their labor, also voiced concern that the rise in the cost of production triggered by higher wage rate may put upward pressure on profit margins and jeopardize our competitive edge.
In light of these claims and counter-claims, a fair question to ask is: will raising the minimum wage affect the competitiveness of the garments industry of Bangladesh? To put the discussion in context, I will cite a recent observation in the Wall State Journal which raised the alarm, echoed by others, when the minimum wage was raised to Tk. 5,800 at the end of last year. The Journal cautioned that the higher minimum wage “puts Bangladesh into roughly the same league as other low-cost apparel exporters such as India, Sri Lanka and Cambodia. But factory owners here said the increase risks making the industry, a mainstay of the impoverished country's economy, less competitive” in a story published on December 4, 2013 under the banner “Pay Raise for Garment Workers Could Hurt Competitiveness, Bosses say.” My goal here is to reassure the industry bosses and the other stakeholders that there is no reason for concern, at least in the short run.
Has “Real Wage” Really Gone Up?
Let me begin with a quick aside on a related issue: What is the evidence on increase in real wages in the ready-made garments (RMG) sector in Bangladesh? It is important to note that while nominal wage is going up, the purchasing power of Taka has been going down with inflation. To use some numbers, we see that minimum wage in the garments industry increased from Tk. 930 in 1994 to Tk. 1662 in 2006 and then once again to Tk. 3,000 in 2010, but the increase happened in uneven steps, or spurts, whereas the price of consumer goods has increased steadily by 6.65% per annum since 1994. And, without even getting into the debate on how the higher wage, known as “nominal wage”, compares with real wage (nominal wage adjusted for inflation) and “living wage”, various studies have demonstrated that the increase in minimum wage in 2013 will represent a 5-10% increase in the total wage bill per worker. Therefore, it is a safe bet to say that the impact of an increase in minimum wage for RMG from the Tk. 3,000 level to the current Tk. 5,600 level will be spread out over the years and when all is said and done, the spillover cost is expected to be a minimum.
The above statement has been corroborated by data from other garments-exporting countries. A study conducted by the World Bank concludes that “Over the past decade, apparel manufacturing in most leading garment-exporting nations has delivered diminishing returns for its workers. Research conducted for this study on 15 of the world's leading apparel-exporting countries found that between 2001 and 2011, wages for garment workers in the majority of these countries fell in real terms.”
How Much Will Cost of Production Increase?
When labor cost increases, the higher cost affects the cost of production in the short run. No doubt that of the higher wage bill will be passed on to the buyers. But, studies across the globe show that the increase in price level is very small. On an average, a 10 percent increase in the wage rate is associated with a 1- 4 percent increase labor cost in labor-intensive industries. And, then in RMG, while the ratio of man to machine (MMR) is high, labor cost is but only a fraction of the total cost of production. Various estimates put the cost of labor as 3 to 5 percent of total cost. That is, a worker receives Tk. 20 of the shirt that fetches Tk. 200. If workers receive a 30% increase in wage, they take in Tk. 27 after the price increase, assuming no change in selling price. According to the British Trade Union Congress (TUC) whose used data provided by the workers' unions in Bangladesh, the TUC has calculated that “doubling the wages of a Dhaka textile worker would add just 2p (approximately Tk. 3) to the cost of a T-shirt bought in any store on the UK high street”, a very negligible amount, indeed.
Will Higher Price Affect Our Competitiveness?
There is an erroneous perception that higher price of our product will adversely affect our competitiveness. This conventional wisdom is based on two premises: our market advantage is based on price only and RMG industry is currently working at optimum capacity and efficiency (see Chart 1).
The phenomenal growth in Bangladesh's RMG exports has been based not only on lower prices, but also on quality, turnaround time, and reputation. A recent survey which asked the buyers to identify the most important factors in determining purchasing decisions came up with three: price, lead time, and quality. In a similar vein, according to a study done by a team led by Michael Porter of Harvard, competiveness hinges on labor cost, interest rates, exchange rates, and economies of scale. A study by McKinsey Consulting listed five “action fields” to strengthen our competitive edge—productivity, compliance, partnerships, supply chain management, and funding (See also Chart 2).
In light of the above, the most important factor in our competitive situation in the coming years will be the response of the RMG owners. How will they adjust to higher wage and upward pressure on cost of production? If I were a factory owner, I would search for ways to improve efficiency and increase productivity. A recent reported that overall equipment effectiveness (OEE) was calculated in the garment factory at 59%. The factor was successfully utilized to identify problems and achieve an improved OEE of 65% or to further improve it to 85%, a benchmark in Japan.
To enhance profit margins, we also need to look at diversification. According to Dr. A.H. Mansur, the rise in minimum wages “… is a major challenge that may force Bangladesh to look at higher-value products with bigger profit margins rather than the very basic clothing items in which it specializes now.” Studies find that both employers and workers respond to any increase in the minimum wage, and in multiple fronts—reduce hours, wages of highly paid workers and fringe benefits; raise prices, live with squeezed profits, or reorganize the work process in order to lower costs. Obviously all this can be a challenge, but, on the brighter side, the recent rise in minimum wages may even add more shine to “Brand Bangladesh”.
The writer is an Economist, lives and works in Boston, USA.
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