WITHOUT RELIEF, NEPAL'S AILING GARMENT INDUSTRY

UNCLAS SECTION 01 OF 02 KATHMANDU 002278

SIPDIS

SA FOR DON CAMP; SA/INS

E.O. 12958: N/A
TAGS: ETRD KTEX NP
SUBJECT: WITHOUT RELIEF, NEPAL'S AILING GARMENT INDUSTRY
COULD AGGRAVATE DESTABILIZING PRESSURE ON THE GOVERNMENT

REF: A. KATHMANDU 1741

B. IIR 6 867 0004 04

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SUMMARY
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1. (U) The Maoist insurgency has had a devastating effect on
Nepal's economy, including upon its fledgling manufacturing
sector. Despite its own substantial problems, Nepal
continues to be a firm ally of the U.S. in the fight against
global terrorism, supporting our policy in Iraq and
continuing to contribute, despite its own pressing needs, to
UN Peacekeeping Operations worldwide. Compounding Nepal's
economic woes, revenues from garment exports (which account
for 52 percent of the total market share) have declined by 22
percent in 2002. The impending quota elimination under the
Multi-fiber Arrangement (MFA) will likely be the death knell
for this critical part of Nepal's private sector. Granting
preferential treatment for Nepal's garment exports, while
clearly no panacea for this troubled sector, would send a
strong message of USG support at a time when such help is
clearly needed.

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ECONOMIC COSTS OF THE INSURGENCY
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2. (U) The seven-year Maoist insurgency in Nepal has imposed
a heavy toll on the already impoverished Nepalese economy.
The loss to Gross Domestic Product (GDP) over the past seven
years surpasses USD 830 million. According to the Government
of Nepal's (GON) National Planning Commission's report from
July 2003, the cost to reconstruct public and private
infrastructure destroyed by the Maoists will cost around USD
54 million.


3. (U) The private sector is faced regularly with hurdles
like extortion demands, threats to security, abduction of
personnel and the destruction of infrastructure. The U.S.
has provided a wide range of support during this period of
historic crisis. However, Nepal's garment industry, its top
foreign exchange earner (with exports totaling over 52
percent of Nepal's foreign exchange earnings),is in perilous
straits. The Maoist insurgency, coupled with greater market
liberalization and the end to the quota regime, threatens to
devastate the industry to the point of collapse.

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PROBLEMS WITHIN THE NEPALESE GARMENT SECTOR
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4. (U) Overwhelmingly dependent on the U.S. market for its
garment exports (comprising between 80 to 90 percent of
Nepal,s total garment exports but less than 0.1 percent of
U.S. total garment imports),the industry is unlikely to be
able to compete once quotas are eliminated in December 2004
under the Multi-fiber Arrangement (MFA). Although any
extension of duty-free or quota preferential treatment would
have little long-term economic impact, it would symbolize
strong U.S. support for Nepal's beleaguered government and
its private sector. Legislative relief on exports also
would provide another source of U.S. economic support to a
Government that will be devoting a substantial portion of its
budget to the fight against Maoist terrorism over the next
two strategically critical years.


5. (U) Nepal,s garment industry has little economic market
advantage in comparison to its regional neighbors. Faced
with constraints like an outdated manufacturing processes,
inadequate and expensive transportation system, and lengthy
delivery time, Nepali garment exporters will not be able to
compete with countries like India, Bangladesh, Pakistan and
China once the quota system is eliminated. The production
costs of Nepali garments are on average 25 percent more
expensive than those of other exporters in the region. The
bottom-line is that when the garment trade is liberalized as
a result of the MFA in 2004, the result will be disastrous to
Nepal's garment industry and will have an overall negative
impact on the Nepalese economy and government revenues.


6. (U) In 2002, the garment industry reported that revenues
declined by more than 20 percent. The Garment Association of
Nepal indicated that exports of ready-made garments to the
United States declined by 60 percent in October 2003 alone,
dropping to a total value of USD 3.81 million (in comparison
to export value in October 2002 of USD 9.56 million).
Garment manufacturers attribute recent losses in the industry
to preferential treatment accorded to sub-Saharan African and
Caribbean Basin countries. In an effort to receive similar
preferential treatment in the U.S., garment manufacturers and
GON officials have traveled to the U.S. on two separate
occasions (in January and July 2003) to lobby the U.S.
Congress for similar treatment.


7. (U) Once the garment quotas disappear, non-competitive
Nepali exports are likely to be swallowed up by the volume of
their giant, more competitive neighbors. The impact on the
Nepalese economy and Government will be very costly. Garment
exports account for over 50 percent of export revenues, and
the Garment Association of Nepal (GAN) claims to employ
50,000 low-wage, low-skilled workers, half of whom are women.
(Since most of the garment industry's labor force is
employed on a contract and temporary basis, employment
figures are difficult to confirm.)


8. (U) Despite this impending blow to the industry, the
Government of Nepal (GON) and garment manufacturers appear to
be doing little to prepare for the impact. Mr. Prachanda Man
Shrestha, Joint Secretary, WTO Cell, Ministry of Industry,
Commerce and Supplies, told us that there has been no
official analysis of what the loss in revenue will be after
the quota regime is abolished. According to Shrestha, GON
has no firm plans for diversifying or substituting Nepal,s
garment industry.


9. (U) In addition, Nepalese garment manufacturers have
failed diversify its product range to take full advantage of
its current U.S. quota allotment. It consistently has
exported in only three of the nine quota categories provided.
For example, from January to October 2003, only two quota
categories used more than 50 percent of its allotment, and in
five of the nine categories Nepal has used less than 10
percent of its allotment. Nepal is unable to meet the 50
percent value added requirement to take full advantage of its
duty and quota free access to Europe. Nepal imports most of
the finished cloth and other materials, including labor, from
India, leaving the low-skill sewing component as the only
value added in Nepal.

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EFFECT OF US PREFERENTIAL TREATMENT
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10. (U) The GON, garment manufacturers and the Nepal-USA
Chamber of Commerce have expended considerable resources and
prestige on preferential treatment for the Nepalese garment
industry. Economically, any extension of preferential quota
or duty free treatment would have little long-term impact.
However, the garment industry representatives respond that
any preferential treatment, even if only for the short-term,
would provide great benefit to the industry and the overall
economy. Textile quotas must be abolished in December 2004
as a result of the MFA; and when Nepal meets its WTO
commitments by September 2005 any duty-free status will be
nullified. Nepal's economic prospects appear bleak due to
global market liberalization in its top foreign exchange
earner, poor infrastructure, and higher costs of production
due to unskilled labor and geographic conditions. The only
real solution to Nepal's fledgling garment industry, and to
Nepalese economy as a whole, would be greater diversification
and improved efficiency.

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COMMENT
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11. (SBU) Nepal, despite its own serious internal problems,
continues to contribute generously to UN Peacekeeping
Operations and to strongly support U.S. policy in general
(reftels). Although clearly not a panacea, any preferential
treatment accorded to Nepal by the USG would serve as a
strong political symbol of support for the Nepalese private
sector, which is under siege from Maoist extortions and
destruction of infrastructure. Preferential treatment would
also spare the GON from another severe economic blow during
the critical coming months, when it is trying to contain the
insurgency and drive the Maoists back to the negotiating
table. Given the modest volume of exports (only 0.1 percent
of total U.S. garment imports),extension of limited
preferential treatment will have negligible impact on U.S.
domestic industry. END COMMENT
MALINOWSKI