Section I: Textile Production in India

This paper looks at the dynamics of textile production and export in India. It summarizes

available research as well as data from firm interviews, and discusses policy options for

the sector in an era of intense competition.

This section outlines the major structural features of production in the textile sector in

India.1 Garments and textile production constitutes the second largest source of

employment in India after agriculture. India’s garment exports have grown in the past

couple of decades but there is great scope for further expansion. India’s share of world

exports of clothing was 2.6 percent in 1994, up from 1.5 percent in 1980. However,

India's share of world clothing exports has not improved since 1994 and declined

marginally to 2.3 percent in 1997. The value of garment exports was $3.8 billion in

1997-98 with a growth rate of 0.6 percent. Tables 1-5 present the relevant data on textile

production in India.

The garment sector’s exports has grown substantially in the last five years. India’s share

of exports in 1994 was 2.6 percent, up from 1.5 percent in 1980. However, India's share

of exports has not improved since 1994 and has declined marginally to 2.3 percent in

1997. The value of garment exports was $3.75 billion in 1996-97 and $3.78 billion in

1997-98, registering a small growth rate of 0.6 percent.

India’s garments exports largely consist of cotton garments (about 70 percent of garment

exports). Synthetic garments make up the rest; this mix has not changed significantly in

the past decade. A few items dominate the list of exports. Women's outerwear is about 40

percent of the total, while men's shirts has about a 20 percent share. These two items

make up the majority of exports. The United States and the European Union are India's

dominant export markets, constituting around 70 percent of demand. For atleat the last

decade, India has fully utilized its quota levels. India has a greater than 50 percent share

for women’s outerwear in the American market and exports more than a billion-dollars

worth of women’s outerwear; more than half of it was to the United States. While
several countries compete in export markets, China and Hong Kong have emerged as

dominant players. Together, they are the top supplier in 8 of 17 categories of textile

exports. This dominance is probably a result of two factors- -a higher level of production

capability and a greater ability to compete in export markets. Section 3 returns to this

subject.

1 This section summarizes the work of T.Roy (1998) and other researchers, as well as

press reports.4

Quality and specialization drives prices for garment exports in the global market. Prices

received by Hong Kong are probably the highest, followed by China and Indonesia. Price

differences indicate specialization, design, and quality. India is somewhere in the middle

of the price spectrum, reflecting its position on the quality-design spectrum. Overall,

there has been an improvement in the quality of Indian garmet exports; prices have risen

over the past decade for almost all the products that India exports overseas. There is also

some product differentiation; India has emerged as a dominant supplier of some garments

(such as men’s casual shirts) but lags behind in others.

The following paragraphs describe some of the key characteristcis and constraints that

drive productivity levels in Indian manufacturing. The manufacturing sector in India is

largely recognized to be divided into two sectors- -registered and unregistered. The

registered sector is made up of firms registered under the Factories Act 1948 and includes

factories with electricity employing 10 or more workers, or those without electricity

employing 20 or more workers. Firms which do not fall into these categories make up

the unregistered sector.

The production structure of the Indian apparel industry is fairly segmented, leading to

significant differences in productivity levels. First, there are relatively unorganized

suppliers who sell to exporters. Then there are organized manufacturers with factory

operations who export their products overseas. But the majority of apparel production
occurs in very small firms with manually operated sewing machines. The unregistered

sector is by far the most significant production sector, contributing more than 90 per cent

of value added. Due to a recently abolished “reservation policy,” garment production

was largely reserved for small scale firms. This is partly the reason for the distribution of

firms described above.

There are some advantages to the small size of Indian firms. They have greater flexibility

and can cope with a wide range of production, including very small orders. But the

most flexible (and arguably the most productive) firms in the garment industry are the

powerloom factories. Powerlooms have the very significant advantage of short leadtime, which is
very important for manufacturers who are supplying to niche markets.

But in general, Indian firms have had a problem with the procurement of standardized

fabrics for the production of standardized garments. This is one of the weakest links in

the production chain. In particular, the procurement of heavy cotton fabrics as well as

fabrics in certain types of thread counts and widths has hampered production. Producers

have encountered obstacles in importing these fabrics, largely caused by quantitative

restrictions and high tariffs. Nominal tariff rates (well over 100 percent in the 1980s)

have been reduced somewhat are are at present about 50 per cent on cotton fabrics. The

situation is further complicated by the presence of special licenses, required for the

import of duty-free textile fabrics, components, and accessories for export production.

Also, the value of goods that can be imported duty free is determined either on the basis

of FOB value of exports of the exporter (the value-based license) or the physical quantity 5

of inputs required for a given output (the quantity-based license). Both systems have

hampered production. In particular, they have resulted in time delays, which can be

disastrous for an industry that is driven by fashion-based as well as seasonal trends.

Another problem in the production process is the lack of availability of good quality

trimmings such as lace, buttons, zip fasteners, thread interlinings and packaging

materials. This problem may be alleviated by the abolition of the reservation policy, as

these products were previously reserved only for small scale production. In the past,
exporters have been allowed to import trimmings by paying a duty of 40 percent and

obtaining a speical license. The license requirement was abolished in 1996 but obstacles

to the timely importation of trimmings remain. The availability of trimmings is crucial

to the success of exporters. Major exporters of garments are almost always significant

importers of trimmings and other specialty accessories.

There is a trend in the consumption of garments that must be taken into account with

regard to developing a production strategy. Within India, there has been a steady decline

in the consumption of cotton cloth between 1970 and 1991. Sample surveys show a

pattern of decline as well. Total consumption of cloth was more or less unchanged at 14-

15 metres per capita between 1970 and 1990, suggesting that cotton is being replaced by

manmade fabrics such as polyester and blends. But this trend has been reversed recently;

cotton and manmade fabric consumption has increased in the 1990s.

There are four types of textile firms in India- - handloom, powerloom, composite mills, and

processing houses. Composite mills are equipped to handle the entire production of textiles

from cotton spinning to design, weaving, and processing. Handlooms include those in

factories or households. Powerlooms can be described as weaving factories. They weave a

higher share of manmade cloth than of cotton. They have no “organizational homogeneity.”

Many powerloom manufacturers survive on low wages and obsolete looms, and are

unregistered as factories. But a fair number have plants with 100-200 looms, and clothfinishing
processes. Both the composite mill and powerloom sector have suffered under a

government policy of being prohibited to import powerlooms more than 10 years old. The

cost of looms under 10 years old, but operating on the same technology as slightly older

looms, is prohibitively high and prevents firms from upgrading to comply with international

standards of technology and quality. Some composite mills reported that until recently they

were using looms as old as 80 years!

The share of mills in cloth production is steadily declining. Mills consist mainly of

bankrupt and obsolete factories. They do produce and export a certain quantity of yarn,

though the main supply of yarn comes from specialized spinning mills of relatively recent
origin. Integrated mills make generic cloth, which have no demand either at home or

abroad, and they make them at far higher cost than powerlooms. Most composite mills

produce a certain amount of “greys” or unprocessed fabrics, although many now produce 6

more specialized products such as made-ups, industrial fabrics, and high-quality cotton

fabrics for both export and domestic consumption. The reason why the mills continue at

all is the dominance of the public sector-owned National Textile Corporation. Almost all

textile exports from mills are accounted for by 10-12 private composite mills, which

account for about 10 per cent of capacity but well over half of production. In general,

policies have been very discriminatory towards the composite mills, with taxes levied at

every segment of production, in addition to extremely high income taxes. The current

labour policy makes it infeasible for mills to move to areas with lower infrastructure costs

and has greatly increased the burden of paying utility costs as well as supporting an

excess of labor.

Interestingly enough, recent expansion in demand has been met largely by relatively

unorganized producers i.e. by powerlooms and knitting factories. Exports of knitted

garmets have grown recently. Powerlooms have increased their share of exports as well.

The standard argument explaining powerloom growth is that the wage-differential

between formal and informal sectors is advantageous to powerlooms. It is also alleged

that the informal sector routinely evades taxes, which gives them the edge in terms of

profitability. Neither of these hypotheses is confirmed by the available empirical

evidence. Rather it appears that powerlooms have a competitive edge, particularly with

respect to manmades, and are more productive than handlooms and mills. The evidence

indicates also that smaller-scale, labor-intensive firms are the most productive in the

textile sector. However, there are complicating factors which deserve further study.

Anti-composite-mill policies may have resulted in making powerlooms more

competitive. While they can be more flexible and produce at a much cheaper price, some

manufacturers argue that their quality is rarely up to international standards; hence the
majority of garment manufacturers import their man-made raw materials. In particular,

powerlooms have not been successful with respect to blended yarns, high-quality finishes

and rigorous standardization.7

It is worth noting that the textile machinery industry is in desperate need of investment.

The lack of availabilty of up-to-date machinery is another weak link in the production chain.

Access to the world markets has led to a collapse of demand for domestic machinery but

also to an increase in the demand for textile machinery.

The supply of textile machinery is dominated by about five firms. One in particular, the

Laxmi Group, is the dominant player. These firms make up about two-thirds of the

market for textile machinery sourced in the domestic market. All the key players have

foreign collaborators and are focused on the export market. However, there are another

100 or so firms that make machines and/or components. These firms are showing very

mixed results; some are actively moving away from textile machinery and diversifying

into other products. Finally, there are about 500 component manufacturers, who are

mainly small-scale producers of machine parts. While the largest firms have been

steadily successful, the smaller firms have largely been unable to cope with increased

competition. Imports of textile machinery and components have skyrocketed while

exports of components and machinery have fallen during the past decade. It is important

to note that some policy changes have been implemented which could turn this industry

around. Duties and licenses have been reduced or abolished on imports, and agerestrictions on
imports have been lifted. The market for secondhand machinery is

growing, and will probably need some policy intervention to enable a larger share of

imports. While some researchers argue that this may be counter to the process of

modernization, it is widely recognized that the overall liberalization of the machinery

market can only be helpful to increasing productivity in the garment industry in the long

run.

Small Scale Sector

Government policy has played a fundamental role in shaping the growth, structure and
technological evolution of the textile sector in India. There is a distinct trend towards

decentralized, small-scale manufacture in the unorganized or informal sector, accounting

for nearly four-fifths of the total cloth output. Most of the small scale firms in India are in

the spinning sector or in fabric weaving and processing and operate with handlooms or

powerloom. The handloom sector would typically consist of units with 2 to 6 manually

operated looms.2 Their production could be as low as 5 meters/day. They buy yarn and

sell grey fabric to local buyers. The decentralized sector accounts for the bulk of India’s

fabric production. There are also several small scale industries built around processing,

that is dyeing and finishing. However, units in the informal sector may or may not be

registered and reliable statistics of employment and output are generally not available.

Concessions given to the small-scale sector led to the proliferation of powerlooms. Some

of the negative consequences of this policy were dubious entrepreneurial practices such

as dispersion of manufacturing over several units in order to avail of the protections

reserved for the small-scale sector, and growing numbers of workers in this sector with

2 In 1998, the handloom sector accounted for 23% of total

volume production and the powerloom for 71%, with mills

accounting for 6%.8

wages far below those of the organized sector of the textile industry. At the same time,

low technology hand processing and standalone process houses have zero or negligible

excise duty resulting in poor quality and lower revenues for government.

The powerloom sector weavers typically use powered shuttle looms and some even

shuttle-less looms. They do not have as stringent labor regulations as the factories and

this gives them more flexibility. Most are located in industrial areas and benefit from

lower tariff. Most powerloom units operate on a small-scale basis, typically using three to

four looms per unit, which places them outside the ambit not only of the Industries

(Development and Regulation) Act (which applies to all units which employ fifty or more
workers and use power), but also Factory Act (which is applicable to all units which

employ ten or more workers and use power) and are therefore not subject to their

provisions. (There are essentially two forms of organization prevalent-the master-weaver

syatem and the owner-entrepreneur system. The former is a kind of a “putting out”

system with the master-weaver providing the raw-materials to the loom owners who in

turn are paid conversion charges according to the quantity of cloth produced. In the

second system, the owner-entrepreneur undertakes all the investment and consequently

bears the entire risk.) The looms may be operated by family or hired labor, or a

combination of both. In contrast with the organized mill sector, almost the entire

requirement of working capital and fixed capital of powerlooms is met from non-bank

sources.

While the organized and unorganized sectors compete with each other in the production

of cloth, the latter is almost wholly dependent on the former for the supply of the basic

raw material (yarn). Similarly, a substantial part of the processing of cloth produced in

the decentralized sector is done in the organized sector, emphasizing the intimate

linkages that exist between the two.

It is interesting to note that upgrading of facilities and technology by small and medium

enterprises in Japan (classified by government as enterprises with less than 300

employees and capital of less than Yen 100 million), and renovation of their operations to

control increased costs in labor and materials, following the oil crises, has given the

exports of these enterprises a competitiveness in international markets. In the Indian

context, rather than induction of costly technologies, what is required is more intensive

machinery utilization, renovation of existing equipment, introduction of work norms, and

rationalization of surplus labor.

While in most other countries, small industry (SSI) is defined by employment size, in

India it is defined in terms of capital employed in plant and machinery. Over the years the

SSI has enjoyed numerous tax and other benefits which have encouraged entrepreneurs to
remain in the “small” category. Instead of graduating from small to middle and large,

there is a vested interest in continuing to be classified as small. The definition of small

scale in India has prevented vertical growth of small enterprises into competitive-sized

units and resulted in horizontal proliferation and fragmentation of production capacities.

Therefore, small scale industry is more of a fiscal artifact than a marketing and

technological reality. Greater sub-contracting by large firms will stimulate the growth of 9

small enterprises. Since small industry is clustered in certain locations, area-specific

programs will have great utility. 10

Section II: India’s Export Potential

The value of world apparel exports was estimated to be $166 billion in 1996 (WTO,

1998). Until the end of the 1980s, the top four garment exporters were Hong Kong, Italy,

South Korea, and Taiwan. China emerged as a leading exporter in the second -half of the

1980's and today occupies the number one position in the world. Tables 6-8 present the

relevant data on exports.

According to Ramaswamy and Gereffi (1999), globalization of production means that a

garment could be designed in New York, with fabric made in South Korea, cut in Hong

Kong, and assembled in China for distribution in Europe or North America.3 The main

factors determining this pattern of production are the labor-intensiveness of apparel

production, the loss of comparative advantage of developed countries, the dramatic

decline in transport and communication costs, the search for production sites with lower

labor costs, and the shift in apparel exports to countries less restricted by quotas. It is

reported that about half of the total production capacity in the apparel industry has shifted

from developed countries to less developed countries over the past three decades. The

fundamental factor driving the location of production is the difference in wage-levels

between countries.

Textiles and garments make up the second fastest-growing product category of global

exports, second only to office and telecommunications equipment; both sectors are
central to the process of global integration (GATT, 1994). China has emerged as a major

player in the textile sector and now occupies the number one position in the world. In

1995, China and Hong Kong together had a share of 21.2 percent of the world; both

countries will continue to dominate the textile industry for a long time to come.

On the demand side, the United States and the EU together imported over 70 percent of

world's clothing imports in the 1990s. It is interesting to note that the composition of

their suppliers has changed substantially. The share of largest three suppliers to the

United States- -Taiwan, Hong Kong and South Korea- -declined from 59 percent in 1983

to 38 percent in 1990 to 18 percent in 1996. Mexico and some Central American

countries have increased their combined share from 6 percent in 1983 to more than 24

percent in 1996. According to US trade data, Mexico actually moved ahead of China to

occupy the top position in apparel exports to the US (USITC, 1998). The situation has

changed elsewhere as well. China and Turkey replaced Hong Kong and South Korea as

the largest suppliers to the European Union in the mid-1990s.

3 This section summarizes a paper by K.V. Ramaswamy and Gary Gereffi (1999) entitled “ India’s

Apparel Exports: The Challenge of Global Markets,” as well as press reports.11

The majority of trade in textiles and clothing is regulated by the Multi Fibre Arrangement

(MFA), which was established in 1974. Under the MFA, developed countries negotiate

bilateral agreements with their trading partners, in order to restrict the quantity of exports

from each partner. The intention is to protect domestic producers in the developed

countries from external competition. These annual quotas cannot be increased by more

than 6 percent every year. The MFA contains certain types of provisions in quota

administration like the 'swing provision' ( which enables a switching of quotas among

product categories), as well as carryover and carry-forward provisions. Most researchers

agree that the MFA has been highly discriminatory and that it has become more

restrictive over time.

The MFA is to be phased out under the Uruguay Round Agreement in four different

stages by the end of 2005. The ATC (Agreement on Textiles and Clothing) specifies the

phase-out program of activities, during which trade in textiles and clothing will be

gradually integrated into the WTO. At the start of each phase of integration, importing

countries must integrate a specified share of their textile and garment imports into the

new framework. This would be based on total trade volume in 1990, for the items listed

in the annex to the agreement, and provide for progressive relaxation of quotas for

products remaining under a quota system. While the most sensitive products will see a

full relaxation of quotas only towards the end of the ten year period (2005), the growth of

quotas by 6-7 percent a year for Indian production has helped tremendously.

American companies are increasingly relying on imports to remain competitive in

consumer markets. Americans now purchase more than 50 percent of their garments

from overseas producers. American retailers used apparel wholesale-importers to buy

imported garments in the past; most of them now have buyers in many parts of the world.

Branded manufacturers like Liz Claibore, the Gap, Banana Republic and Express rely

largely on local producers in exporting countries. Contracts between such companies and

local producers are made via local buyers or company offices in the exporting country.

According to Ramaswamy and Gereffi (1999), certain trends in retail behavior are worth

noting in terms of maintaining competitiveness in export markets. Retailers appear to

have increasing leverage over suppliers in terms of determining prices and product lines.

This also increases pressure on suppliers to adopt new technology such as electronic data

interchanges, that enable suppliers to fill orders rapidly, efficiently and flexibly.

Suppliers are penalized for incorrect orders and suffer harsh consequences if orders are

delayed. Third, retailers are offering greater variety of apparel products in order to

increase their market share. This drive on the part of retailers has led to greater demand

uncertainty. As a result the demand uncertainty previously associated with fashion

products has spread across product categories affecting basic products like men's shirts.
Retailers are therefore abandoning the practice of ordering large quantities in advance of

any given season. Instead, they prefer to order in small quantities and refill their orders as

the season goes on. This has led to shorter lead times for the suppliers and has forced

suppliers to develop capabilities to respond sudden changes in demand. This is 12

compounded by the increasing market share of a few, large retailers; there are only a

handful of dominant players in each of the major European countries.

Another trend worth noting is the rise of triangle manufacturing. This is a process

whereby buyers place their orders with manufacturers, who in turn source some or all of

the order from affiliated offshore factories in low-wage countries like China, Indonesia or

Bangladesh. The triangle is completed when the finished goods are shipped directly to

overseas buyers by the low-wage country, using its allocated quota. Triangle

manufacturing has become popular in some Asian countries which have faced very

restrictive quotas under the MFA. It will probably continue to dominate production

patterns for some time.

There are other important trends as well. In order to remain competitive in the textile

sector as wage levels rise, countries such as Hong Kong and South Korea have upgraded

the quality of their apparel and moved to higher value-added production. Like the

semiconductor and hardware industries, they are in the process of making the transition

from OEM to OBM (original brand name manufacturing) to produce goods for export

and sale under their own labels. Many producers in Hong Kong now sell under their own

label in Asia, North America and Europe. Combined with mainland China’s production

capacity, these firms are poised for even greater success in the global market.

Finally, it is worth noting the effects of US and EU tariff provisions with respect to

offshore assembly processing (OAP). The most significant effect of OAP is that the

market shares of textile and apparel exports have shifted favorably towards Mexico,

Canada and the Caribbean Basin countries. Under OAP Tariff Provision 9802, the US

exempts duties for American-made components returned to the US as clothing or other

products assembled outside the country. This has led to the rapid growth of production

sharing arrangements, whereby cloth manufactured and even cut in the US is sent abroad

to countries with lower wages for assembly and imported back to the US for sale in local

markets.

Apart from changes in the international arena, key policy changes in India will have a

significant effect on Indian exporters. In Nov 1999, the textile ministry announced that

there will only be two systems of allocation of garment export quotas—first come first

served basis (FCFS) and past performance quota (PPQ). Two other systems were

abolished as well, making is easier to do export deals. Also, in September 1999, textile

exports to the EU became easier as India has agreed to bind its textile tariffs via the

WTO. Finally, in November 2000, the “reservation policy” which favored small-scale

producers for a long period of time, was abolished all together. In a bold move, the

government decided to completely de-reserve the garments sector. The cap on foreign

investment has also been changed, from the current 24 percent to 100 percent. The idea

behind the new textile policy is to increase India’s export potential five-fold in the next 13

ten years from $11 billion today to $50 billion. Half of this target is to be met by garment

exports. This is perhaps the single most important step that the government has take

towards improving resource allocation, firm productivity and export growth in the long

term.