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Business trends

Cambodia garment exports at risk as EU wraps up tariff review

Suppliers to H&M and Levi's among those affected if duty-free access to Europe revoked

PHNOM PENH -- Business groups in Cambodia are warning that tens of thousands of jobs and billions of dollars worth of exports may be at risk as the European Union comes a step closer to deciding whether it will end preferential trade arrangement for the Southeast Asian country.

The EU on Monday concluded its six-month monitoring period of Cambodia, a step in its review of the country's eligibility for duty-free access to the European market under the Everything But Arms scheme.

EU officials now have three months to draft conclusions on whether the trade preferences should be withdrawn due to "severe deficiencies" in Cambodia's human rights record and a democratic backslide.

Duty-free access to the EU market is hugely important for Cambodia's apparel and footwear sector, which generated more than $8 billion last year -- more than two-thirds of the country's total exports, according to government figures.

Almost 40% of Cambodia's exports last year went to the EU, equal to $4.5 billion at today's exchange rates. Of these, about 75% was textiles and about 13% was footwear or hats. The U.S. was the next largest importer of Cambodian goods, accepting more than 20% of the country's exports.

The government has begun factoring in the loss of the EBA into its economic projections. Last week it released a revised projection for next year predicting GDP growth would slow from 7.1% to 6.5%, in part due to the EBA withdrawal. Growth in the garment and footwear sector -- which employs at least 750,000 workers -- would drop from 7.1% to 3.5% next year, according to the new government projections. Other important sectors, such as construction, tourism and agriculture, are predicted to remain stable or enjoy modest growth.

Despite the high economic stakes, the EU's review process has been met with by defiance on the part of longtime Cambodian Prime Minister Hun Sen, who has vowed he will "not bow down" to international pressure.

In an interview with local media this week, an official from Cambodia's Ministry of Commerce said the government had begun reforms to mitigate the potential consequences of the EBA being withdrawn, including reducing electricity prices and streamlining export procedures.

The impact, however, could be greater than the government is predicting.

Arnaud Darc, chairman of the European Chamber of Commerce in Cambodia (Eurocham), said the blow wrought by the EBA's annulment could have a domino effect and "destabilize" other segments of the economy.

An EBA withdrawal, he said, would send "the wrong signals" to investors and bring the risk of a sovereign credit downgrade. Moody's Investors Services last year warned the loss of the EBA could lead to a credit negative.

"The economy looks strong from its growth, but is still very weak from its diversity," Darc told the Nikkei Asian Review.

"Who will feel the impact of the withdrawal first hand? The people, the population is at risk here."

Figures from Cambodia's Ministry of Industry and Handicrafts, cited by local media last year, list 1,522 registered factories in Cambodia, with about two-thirds -- 1,031 -- producing garments. The Garment Manufacturers Association in Cambodia (GMAC) counts 485 exporting garment factories as members as well as 60 shoe factories and 55 bag factories.

While the majority of factories are foreign-owned by Asian investors, particularly Chinese, Taiwanese, and Singaporean operators, their viability rests on sourcing from international clothing brands and wholesalers.

Without the EBA, companies would face a 12% tariff to Cambodian-made apparel to the EU and between 8% and 17% for shoes, depending on the material. The government has estimated the tariffs would cost $676 million based on last year's export revenue.

The World Bank estimated the value of garment exports would decline by between $320 million and $380 million.

Large brands currently sourcing from Cambodia, including Adidas and VF Group, declined to comment, while others, including Gap, H&M, Levi's and Esprit, refused to be drawn on whether they would continue sourcing from Cambodia should it lose EU duty-free access.

Darc of Eurocham said the group has been in contact with major brands, employing 80,000 people directly or indirectly, that are already reconsidering their relationship with Cambodian factories.

"I think they will consider to relocate their production if the EU was to put the tariffs and it's not about the cost, it is about the reputation," he said, adding they would make a decision by November.

"So if one of them would leave, I think the others would seriously consider to follow."

GMAC has also warned of major job losses. In a statement released on Thursday, the association warned that 3 million families could ultimately be harmed by the potential EBA loss.

GMAC Secretary-general Ken Loo said the country had to focus on getting its "house in order" to remain competitive.

While the country has approved several wage increases for the garment sector in recent years, which has risen from $80 in 2013 to $182 this year, increased productivity remains hampered by poor infrastructure and relatively high electricity rates.

"There have been positive developments but we need more, we need more and quickly," Loo told Nikkei.

Amid concerns over continued EU duty-free access, some Cambodian exporters are looking to the U.S. market

Loo said there has been "increased interest" from companies looking to shift their supply chain to Cambodia to avoid tariffs levied by U.S. President Donald Trump against China, but he said this has yet to materialize into orders.

Recent figures from the National Bank of Cambodia, cited in local media, show a year-on-year rise in exports for the first half of 2019 to $6.8 billion, with the U.S. taking 28% of goods and the EU receiving 26.6%.

The increase to the American market has been spurred by a decision in 2016 to include travel goods in the U.S. Generalized System of Preferences (GSP) duty-free scheme, which does not include garments.

A recent report by Cambodia's Ministry of Economy and Finance noted 34 new factories opened in the first five months of this year, of which 32 produced travel goods. Ten garment factories closed in the same period.

The seemingly promising uptick, however, is precarious, warned Duncan Innes-Ker, the Asia regional director of the Economist Intelligence Unit.

Innes-Ker said the group expects the EU to maintain Cambodia's EBA status but foresees the U.S. potentially revoking the country's trade preferences as it shifts closer into Beijing's orbit.

China has poured billions in investment into Cambodia in recent years. The countries last month denied reports of a deal to station Chinese troops on Cambodia's coast. Beijing has promised to help should the EBA be withdrawn.

Analysts, however, are skeptical of how much China could cushion the impact. While China accounted for almost 35% of Cambodia's imports last year, it took just 7.9% of its exports.

Cambodia's strained relationships with its major markets is problematic, Innes-Ker said. Even should it retain its trade preferences, the conflict between its trade partners and policy would take its toll on competitiveness in its low-cost tier.

"What's interesting at the moment, particularly against the background of the trade war, is that it's getting very easy to see which countries are actually taking the task of stealing China's export manufacturing sector seriously and which are really hoping to just ride on the wave," he said.

"Countries like Vietnam that are going very hard to negotiate these very complicated trade deals that they're working very hard to put in place, the infrastructure necessary to support a sustained increase over many years in exports," he added, referring to Vietnam's free trade agreement with the EU, which is awaiting ratification.

"You look at somewhere like Cambodia and the fact that it has such tensions relations with its two dominant markets makes it obvious that this is not somewhere that has the potential to massively ramp up exports over the longer term."

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