Financing Living Wage in Bangladesh’s Garment Industry

The Wage Board on garments in Bangladesh nearly doubled minimum wages on July 29, 2010. The minimum wage at the entry level will be raised to Tk 3,000 a month (or about $43) from Tk 1,662.50 ($24). The new pay structure, proposed to be effective from November 1, maintains the existing seven grades with the highest pay fixed at Tk 9,300 ($140) per month. About 3.5 million Bangladeshis work in the garment industry, which accounts for 80 percent of the country’s exports. International companies like Wal-Mart, JC Penney, H&M, Zara, Tesco, Carrefour, Gap, Metro, Marks & Spencer, Kohl's, Levi Strauss and Tommy Hilfiger all import in bulk from Bangladesh.

Garment workers apparently are unhappy over their wages, even after the proposed increase. They protested by smashing vehicles and blocking traffic in various garment sites in Dhaka following the announcement of the wage increase. Why has the frequency of violence increased?

Some observers attribute it to rising prices of essentials; unpaid salaries; absence of responsible trade unions and good relations between workers and owners; misbehavior of mid-level officials; and deferred payments to workers. Some RMG entrepreneurs blame the administrative failures of the government; “conspiracy” from outside and lax implementation of law and order. There are also allegations that a vested group is behind the violence. Very often, the agitating workers are aided by mysterious outsiders. There is no denying that a fairly widespread undercurrent of discontent does exist amongst the workers.

The challenges facing the Bangladesh garment industry are formidable. The industry needs to get regular orders from international buyers in order to thrive. These buyers are primarily interested in price, lead time, and quality. The cost of labor is one of the key factors for Bangladesh’s success in garments. Workers and labor leaders say the raise is inadequate and does not match the high cost of living. The manufacturers complain they continue to be squeezed by a slump in world market prices because of a still fragile recovery from the global economic crisis. They also point to higher production costs due to energy crisis and poor infrastructure. One industry leader observed the wage increase would be especially hard on smaller factories. There is truth in all of these.

There are two questions that we need to understand.

First, the extent of the impact on the owners would depend on how much more companies like Wal-Mart and H & M are willing to pay to offset the rise in cost of production. Second, even if the buyers refuse to increase their price offers, the owners may have the capacity to take a hit on profits depending on the impact of the proposed increase on the wage bill.

Turning to the first question, the key information in assessing how much more they should be willing to pay is the percentage of the retail price of garment that is accounted for by labor costs. Although estimates vary by product and location of production, it is clear from published academic research, that labor costs typically constitute 1-3 percent for a garment produced in the developing world. Hence, large increases in labor costs do not require correspondingly large increases in retail price. For example, for a typical sportswear garment, doubling wages would increase retail price by roughly 1-3 percent; tripling wages would result in price increases of 2-6 percent. These estimates assume that all of the increased cost is passed along to the consumer. If some of the costs are absorbed by exporters, retail price increases would, of course, be commensurately smaller.

Here are a few more illustrations based on academic research on the relationship between apparel production costs and retail prices.

• For men’s casual shirt manufactured in Mexico and sold in U. S., direct labor accounts for 1.6 percent of the final retail price. Doubling the wages of all non-supervisory workers would result in an increase of roughly 1.6 percent.
• For men’s knit shirt manufactured in the Philippines and sold in the U.S., labor costs, including the salaries of floor supervisors but not higher management, represent 1.56 percent of the final retail price. Doubling wages would result in a retail price increase of 1.54 percent.
• For an embroidered logo sweatshirt manufactured in the Dominican Republic and sold in the U.S., the production costs accounted for by direct and supervisory labor represent 1.29 percent of the final retail price of the garment. Doubling wages would result in an increase of 1.27 percent.

Bear in mind that Mexico, the Philippines, and the Dominican Republic have relatively high labor costs. Prevailing wage rates in countries such as Bangladesh, Cambodia, China, Indonesia, India, and Pakistan are substantially lower. As a result, the required increase in retail prices due to labor cost increases in these countries would be somewhat lower for products produced in the same countries. Surely, buyers can afford to bear at least a part of the required increase.

Turning now to the second question, the key information is the increase in average wage for the industry as a whole taking into account the distribution of the garment work force by grades. Based on conversation with one insider, we assume that grades 1-5 each account for 10 percent, grade 6 accounts for 15 percent, grade 7 accounts for 30 percent and the remaining 5 percent are apprentices. This gives a weighted average wage of about Tk 2409 per month before the increase and Tk 4290 per month after the increase, representing 78.1 percent growth in average nominal wage and 33 percent growth in average real wage.

Note that the extent of the average real wage increase exceeds the 19.8 percent growth in real GDP per capita since the last wage adjustment in 2006. Thus, the proposed increase puts the average garment worker ahead of the typical Bangladeshi in terms of income growth. This is even more so for grade 7 entrants where real minimum wage is proposed to increase by nearly 46.5 percent.

Given the 3.5 million workers in the industry, the increase in average nominal wage from Tk 2409 per month to Tk 4290 per month would lead to a maximum increase in the annual wage bill of the industry by about Tk 79 billion(equivalent to about $1.1 billion). This is the maximum possible increase because the initial average wage of Tk 2409 per month is based on the assumption that workers were paid the minimum wage in each grade, which generally may not be true. This maximum possible increase constitutes 9.2 percent of total FY10 garment exports. Data on average profit margin in the garment industry as a whole is not available. Guesstimates are that it is unlikely to be more than 8 to 10 percent of the value of exports. In the absence of any price increase from the buyers, the contemplated wage increase is therefore likely to hit profits significantly in Bangladesh’s garment industry.

RMG exports have nearly doubled in last five years—from $6.4 billion in FY05 to $12.5 billion in FY10. Surely, this could not have taken place without accompanying rise in profit. The industry should therefore be able to bear the increase in the wage bill from accumulated retained earnings if current profit falls short. Export price adjustment will eventually come, alleviating the pressure.

The main actors need to join forces to build a competitive RMG sector in Bangladesh. It is crucial for the different stakeholders (including buyers) of the sector to hold dialogues amongst themselves in order to identify issues that constrain the industry and reach agreement on what each stakeholder can do to protect their own interests without killing the goose that lays the golden eggs.