Local industry approach proposed for SEZs framework

KARACHI: Pakistani authorities need to adopt local industry approach and focus variable fiscal incentives in special economic zones (SEZs) framework to reverse deindustrialisation in the country, a private sector’s think-tank said on Monday.

“Without reversing the deindustrialisation, Pakistan risks becoming merely a transit conduit for Chinese goods, whereas CPEC is an opportunity to partner China in value addition by relocation of manufacturing to Pakistan,” Pakistan Business Council (PBC) said in a report comparing different SEZ and export processing zone models in the region.

PBC advised the government to adopt a hybrid export/import substitution/local industry approach, with varying fiscal incentives as the government envisaged nine SEZs under China-Pakistan Economic Corridor (CPEC) framework.

The council enlisted a score of causes of premature deindustrialisation. These include poorly-negotiated trade agreements, uncompetitive exchange rate, shortage and cost of energy, disproportionate burden of taxation on manufacturing, an uneven playing field versus the informal sector, misuse of the Afghan transit treaty, fragmentation of authority between the centre and the provinces, a fiscal policy that fails to encourage capital formation, poor infrastructure and costly industrial land.

“Special economic zones can be an important part of the strategy to industrialise the country,” said PBC that has 82 members, whose businesses cover nearly all sectors of the formal economy.

PBC said exports are the prime motive for SEZs globally. China and India set a minimum benchmark which varies between 50-100 percent of revenue. A route to exports and import substitution is to attract foreign investors with capital and knowhow. Most of the peer economies allow 100 percent foreign ownership.

The council recommended foreign investment through joint-ventures or sole ownership and a permission to 100 percent locally-owned entities in SEZs. Ownership should not be a qualification for establishing units in the SEZs. Neither should it be a criterion for determining other incentives, it said.

“The necessity in Pakistan is to drive both exports and import substitution,” it added. “Properly endowed SEZs would facilitate industrial investment, offering a viable alternative to the crowded industrial areas around big cities that also lack adequate infrastructure.”

PBC further said the most successful model adopted by China is to empower local administrations of SEZs to work within a national policy framework to simplify and offer “one-stop/single windows” for all approvals and government interfacing.

“China and Bangladesh both benefited from concentrating on the supply chains of specific sectors. Bangladesh focused on aspects of garments, such as buttons, zips, thread, cutting, sewing,” it added. “China chose high technology industries. Apparel is a sector that Pakistan could focus on, even if only in part of larger, multi-industry SEZs.”

PBC said Shenzen, the most successful SEZ in China, benefitted from proximity to ports. This facilitated the flow of raw materials in and finished goods out. “Dhabeji near Port Qasim provides a similar, ideal location for a SEZ.”
The council said all countries allow duty free import of machinery, some only at the inception of a project. The government was advised to allow the same incentive at the SEZs inception and for balancing, modernisation, replacement and expansion. It was recommended an income tax holiday of 10 years subject to 80 percent of the revenues being derived from exports much like income tax holidays ranging from 2-10 years offered by other countries.

For any year that exports amount to less than 80 percent, tax relief proportional to exports may be offered. For units creating a prescribed level of import substitution, specific relief may be agreed, which could vary with industry and products. The target relief would be in line with the import displacement and in that respect be at parity with exports in terms of impact on the external account. For units producing neither exports nor import substitution, the standard fiscal policy should apply. No minimum taxes should be levied during the tax holiday period and capital allowances and losses should be allowed to be carried forward for up to 2 years beyond the tax holiday period. Beyond the tax holiday period, a reduction in tax rate of 5 percent on the standard corporate tax rate be offered to those foreign controlled entities that reduce their interest to 51 percent. Raw materials should be allowed duty free into the SEZs. Sales in Pakistan should be levied import duty and sales tax on finished goods ‘exported’ from the SEZ to the domestic market, the PBC recommended.

The council further said expatriate management and work force should be allowed as a percentage of total headcount in these categories at 25 and 10 percent, respectively. Work permits should be issued for periods of two years at a time. The percentage of expatriate work force should be reduced to less than 5 percent after the initial two years. Repatriation of profit, investment and capital gains should be permitted.

Published in The News International