Vertical Clustering


Economic News

22 Jul 2010
Text size +-
Against a background of discussion regarding the creation of an integrated policy strategy for the textile sector, producers called upon the government to increase access to credit in August, in order to revive the once significant sector.

Through the Association of Textile Producers, industry insiders asked for new policies encouraging local banks to provide credit to textile manufacturers.

The government earlier already committed to subsidise part of the interest on loans to the sector, but producers claim banks are still reluctant out of fear of non-performing loans.

"As the existing policy is not effective, we want the government to issue a new policy that would encourage local banks to provide loans to our members," the executive director of the association, Ernovian G. Ismy, told local press.

After almost two years in office, the government has succeeded in achieving some degree of macro-economic stability in Indonesia by implementing strict monetary and fiscal policies.

Budgetary pressure was soothed by a cut in fuel subsidies at the end of 2005. Even though the resulting higher fuel prices pushed inflation up to 18%. A strict interest rate policy by the central bank is expected to correct the situation and analysts predict that inflation should be in the single digits again at the end of the year.

Unemployment poses another challenge. The current official figures stand at 12m unemployed people, while it is estimated that another 30 million are underemployed.

In order to create enough jobs to improve these numbers and absorb new entrants in the labour market, many business executives have called for a comprehensive policy framework to revitalise the labour intensive but ailing textile sector.

In the decade leading up to the financial crisis in the late 1990s, the textile sector was one of the main drivers of economic growth, and represented as much as 40% of Indonesia's non-oil exports. The industry has been dramatically reduced and now is overshadowed by other sectors. Textile companies were among the worst hit by the crisis and have a relatively high amount of non-performing loans.

Recently, several textile producers told OBG that they prefer a strategy aimed at vertical integration in the textile value chain. They believe that this is necessary to overcome the challenges that the sector is currently facing.

First, part of the sector is still trying to overcome the ending of the Multi Fibre Agreement, which administered the world trade in textiles until 2005. This system imposed quotas on the amount Indonesia, and other developing countries such as China and India, could export to developed countries.

It is estimated almost 20% of the sector was dependent on this system.

Also, the slow implementation of improving the country's infrastructure is proving a major impediment to competition for textile manufacturers, significantly increasing production and distribution costs.

Another major problem is illegal imports, mainly from China, that are putting enormous pressure on margins.

Ravi Shankar, the president director of PT Polysindo, concurred and told OBG that "one of the biggest problems is illegal imports. Retailers find such easily available fashionable products at very low prices, catered to them in whatever quantities they want from Hong Kong and China, lowering prices and constraining margins across the business".

Productivity all over Indonesia is relatively low, especially when compared to China. Rigid labour laws restrict activity and while the government is in consultation with the unions on liberalising manpower regulations, there is no clear prospect that this will happen soon.

Most recently the situation worsened. The prices of raw materials, power and fuel increased significantly.

According to Shankar, for polyester products the price of raw materials has gone up 100% since November 2005. Due to sufficient demand, the market has absorbed these increases, but margins have suffered.

Meanwhile, increased power rates for industrial use and fuel price hikes have especially hit the fabrics sector. "They are unable to compete because most of them depend on diesel oil, which went up 200%. Furthermore, most of the equipment they use has become obsolete, and there is no money to modernise."

It is estimated that these factors have caused a 15-35% increase in production costs, depending on which way producers generate their power. Many have started to invest into coal power generation, while gas power generation is also enjoying increasing attention.

In order to increase margins and return profitability to the textile industry, many in the sector believe value addition should be brought into the country by a clustering of the chain.

"If you import raw materials and export yarn, then your main costs are power and manpower, so you're competing with everybody in the world" Shankar told OBG. "Whereas if you cluster it with the weaving industry, or with the knitting industry and you then produce garments using skills readily available in Indonesia, then the value addition gives you a much wider competitive platform in order to compete" he continued.

While analysts expect that consolidation in the market will do part of this clustering, they also observe that incentives from the government such as improved access to credit to modernise and streamline production facilities, possibly linked to conditions for value addition, are needed.

Lee Wan Ju, the CEO of T&T apparel group and president director of PT Pan Brothers, concurs, "Unfortunately textile (upstream and midstream) and garment (downstream) producers are not working together. For this, we need government involvement, to identify the problem and to provide solutions."

Covid-19 Economic Impact Assessments

Stay updated on how some of the world’s most promising markets are being affected by the Covid-19 pandemic, and what actions governments and private businesses are taking to mitigate challenges and ensure their long-term growth story continues.

Register now and also receive a complimentary 2-month licence to the OBG Research Terminal.

Register Here×

Product successfully added to shopping cart

Read Next:

In Indonesia

How will China’s economic slowdown affect emerging markets?

With China’s economy slowing on the back of a strict Covid-19 containment strategy, there are concerns about the effects this might have on several emerging markets.


Colombia establece las bases para su incorporación en la OCDE

En virtud de una década de sólido desempeño económico y las claras intenciones de la Organización para la Cooperación y el Desarrollo Económico (OCDE) de aumentar el número de economías...