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This chapter outlines the key findings of our research. Ourconclusions can be summarized in three key points:

• To increase international competitiveness and return to a pathof sustainable economic growth, Thailand needs to strengthenproductivity throughout its economy. Only broad-based gainsin productivity can allow Thailand to remain competitive inthe face of globalization.

• McKinsey’s research has shown that sectoral regulatory reformcan dramatically increase Thailand’s productivity. The goodnews is that addressing regulatory barriers is less costly andcan even have nearer-term impact than some alternative rem-edies such as fiscal stimulus spending or investments in educa-tion and infrastructure.

• To carry out the far-reaching regulatory changes needed, Thai-land should develop the institutional capability to guide anddirect reform. The current administration’s strong publicmandate creates a unique window of opportunity for takingthe necessary actions to boost productivity, but a dedicatedagency is needed to ensure that reforms are executed andsustained.

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Thailand boasts one of the strongest track records for long-termeconomic growth in the developing world. Successful develop-

Thai Productivity Report66666

ment efforts have led to three decades of sustained GDP growthaveraging more than 6% per annum. Moreover, the benefits ofthis growth have been shared widely across Thai society, elevat-ing living standards of the lower classes and creating one ofSoutheast Asia’s largest middle classes.

Events in the 1990s, however, have cast doubt on thesustainability of Thailand’s earlier growth models. GDP growthhas slowed substantially since the early 1990s. As in many Asiancountries, the regional financial crisis reversed several years ofdevelopment. The dramatic economic contraction in 1997 wasfollowed by a brief rebound–but modest GDP expansion in 2000and 2001 suggests that a return to robust growth is not imminent(Exhibit 1).

The two administrations that have governed Thailand since 1997have explored a variety of strategies for reviving economicgrowth. These efforts have included fiscal stimulus spending,technical support to SMEs, and trade liberalization, amongothers. However, none of these efforts has proven capable ofreturning the country to a path of sustainable economic develop-ment.

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McKinsey envisions a model for Thai economic growth based ondramatic increases in productivity. Indeed, we believe productiv-ity-led growth can bring tremendous benefits to the country andunleash the latent potential of all Thai workers in all sectors.

• Productivity is the basis of economic growth. As with manyASEAN countries, Thailand has historically competed largelyon factor input-based competitive advantage, particularlylabor cost and natural resources. New international competi-tion is now emerging–notably China (in goods) and India (inservices)–which makes factor input-based competitivenessharder to sustain. In any case, to return to attractive eco-nomic growth rates and sustain higher living standards, Thai-land needs to shift from labor cost advantages to productivityadvantages so as to remain competitive as wages rise (see Box1).

• To be effective, productivity gains must span the entireeconomy. Much of the recent academic literature on competi-

Box 1: Productivity–the source of sustainable growthBox 1: Productivity–the source of sustainable growthBox 1: Productivity–the source of sustainable growthBox 1: Productivity–the source of sustainable growthBox 1: Productivity–the source of sustainable growth

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tiveness and growth focuses on traded sectors of the economy.Export competitiveness is seen as proof of the vitality of aneconomy. But what about Japan? Japan has some of the mostcompetitive traded sectors in the world–auto, electronics,advanced materials, among others–and yet it has suffered adecade of malaise. The reason is simple: the non-tradedsectors of Japan’s economy–about 90% of the total–remainwoefully unproductive. The European Union, on the otherhand, has systematically attacked productivity challengesacross all sectors of the economy, and has reaped substantialeconomic benefits as a result.

• Public-private sector collaboration is essential. Around theworld, efforts to boost productivity tend to emphasize the roleof government. While government can take on an importantrole in such efforts, private companies must play a key part.For example, they must be prepared to accept increasedcompetion and to make the often painful operational changesneeded to improve productivity.

��&�� &�(��("��McKINSEY’S RESEARCHHAS SHOWN THAT SECTORAL REGULATORY REFORMCAN DRAMATICALLY INCREASE THAILAND’S PRODUCTIV-ITY

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In light of the centrality of productivity to economic growth,McKinsey & Company Thailand has undertaken the Thai Pro-ductivity Study. The objective of this study is to provide Thaipolicymakers with new insights on the key barriers to productiv-ity in seven important industries1. The study benchmarks Thailabor productivity2 levels in these industries against other emerg-

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ing and mature economies. It then identifies the root causes oflow productivity in each industry and outlines policy recommen-dations for dismantling these barriers and enhancing productiv-ity.

The report makes a new and exciting contribution to Thailand’sproductivity debate by utilizing a unique approach developed bythe McKinsey Global Institute (MGI3). This approach is a hybridof two distinct disciplines: economics and management. Both ofthese disciplines are concerned with productivity but neither ispositioned to understand it fully: economists have scant access tothe real-life problems facing business managers, while managersoften lack the time and incentive to look beyond their ownsituation to the larger issues of productivity in their industry.McKinsey’s productivity research remedies this situation bycombining the academic rigor and breadth of economics with thedeep industry knowledge and management understanding we usein our work with clients every day. The result is a unique per-spective on productivity. By implementing this approach in 14

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Box 2: Boosting productivity–what role for government?Box 2: Boosting productivity–what role for government?Box 2: Boosting productivity–what role for government?Box 2: Boosting productivity–what role for government?Box 2: Boosting productivity–what role for government?

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countries, McKinsey has developed a powerful global productiv-ity database. This database forms the basis of the benchmarkingconducted in this study. A full description of the study’s method-ology is found in the following chapter.

This report does not purport to be a comprehensive survey ofproductivity in the overall Thai economy. Rather, our objectivewas to elevate the importance of productivity in the economicpolicy dialogue and to provide preliminary insights on productiv-ity in several key industries that can help the government con-sider policy changes in these sectors (see Box 2). It is hoped thatpolicymakers will use our findings as the basis for a broaderresearch of productivity issues throughout the Thai economy.Such research could form the basis for a blueprint of economicreforms aimed at enhancing Thailand’s national productivity.

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Our research found that there are substantial opportunities forimproving productivity in Thailand. In the seven industries we

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surveyed, we found labor productivity to be 20-50% of US levels(with the exception of the cement industry, which is close to USproductivity levels). In agriculture, productivity is lower still–

about 10% of the USlevel4 (Exhibit 4).

As can be seen fromour industry cases,we found sector-specific regulations

to be by far the most significant barrier to increased productivityin Thailand. In almost every industry we surveyed, we identifiedmajor regulatory distortions, which, if eliminated, could dramati-cally increase performance and efficiency.

In the sections below, we outline the key findings–across indus-tries–from each stage of our research, starting with the opera-tional factors directly affecting company productivity, thenmoving on to the underlying industry dynamics, and finallyexploring the external factors that had contributed to the indus-try and operational causes of low productivity.

Operational factors affecting productivity. Our research in eachindustry began at the company level: by analyzing companyproductivity data and interviewing key executives, we were ableto identify the major operational-level barriers to productivity.We found two primary barriers: (a) capital misallocation, and (b)organizational and technological deficiencies.

Capital misallocation: Despite the external trappings of aneconomic ‘boom’, the early- and mid-1990s were a periodof serious capital misallocation in Thailand. Beginning in1991, growth in capital productivity dropped into thenegative single digits (positive growth was not to returnuntil 1999). Unproductive investments contributed to thedecline in economic growth rates that began in the mid-1990s. Flagging GDP growth and low returns on invested

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We found sector-specific regulations tobe by far the most significant barrier toincreased productivity in Thailand.

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capital in turn led to a collapse in investment, which exacer-bated the economic slowdown and contributed to theeconomic crisis in Thailand (Exhibit 5).

This top-down analysis of capital productivity is supportedby substantial industry-level evidence of inefficient alloca-tion of capital. In the fixed-line telecommunications sector,for example, some 30% of installed lines remainunsubscribed. In the beer and cement industries, capacityutilization levels are 52% and 69% respectively, far belowinternational benchmarks. In sum, low competitive inten-sity and easy access to capital through much of the 1990sled to unwise investments that even today have a negativeimpact on productivity.

Organizational and technological deficiencies: Organiza-tional and technological deficiencies are the second groupof operational causes of low productivity. In almost all ofthe companies we surveyed, we identified significant ineffi-ciencies, which, if corrected, could provide a tremendousboost to productivity. These deficiencies generally fell intothree categories: automation and processes, innovation, andperformance management (Exhibit 6).

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Automation and processes: Thai companies havebeen slow to cut costs and increase efficiency byautomating core processes (e.g. utilizing high-techmachinery or information technology, rather thanmanual processes) or streamlining those processes thatcannot be automated.

In every sector, our research identified many potentialoperational improvements that could increase auto-mation levels and optimize processes. We categorizedthese changes as ‘viable’–those that are NPV (netpresent value)-positive, meaning the cost of imple-menting the change would be lower than the resultinglabor cost savings–and ‘non-viable’–those that areNPV-negative, meaning that the cost of the changewould exceed the value of labor cost savings overtime.

An example from the poultry industry is illustrative.The process of evisceration (removing internal organsfrom a chicken carcass) has historically been per-formed manually because the cost of labor required to

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execute this function is low. In addition, manualevisceration preserves edible organs, which can in turnbe sold. Under these circumstances, automatingevisceration would be NPV-negative and therefore anon-viable improvement. As labor costs rise, how-ever, automated evisceration can become NPV-positiveand therefore viable. Indeed, our interviews revealedthat many chicken processors are currently re-evaluat-ing the financial implications of such automation.

Of the operational changes we identified, only ahandful proved to be non-viable. Many opportunities

exist for Thaicompanies toboost operationalproductivity in aneconomicallysound way. Thairetail banks, forexample, have

been slow to introduce and effectively promote auto-mated channels such as phone banking or Internetbanking to replace traditional branch-based transac-tions. Such modern channels are more cost-efficientthan counter transactions and often offer superiorcustomer service (such as 24-hour availability), yetthey remain underutilized in Thailand.

Another example is chicken processing: while theviability of automated evisceration remains uncertain,other operational improvements are viable at currentfactor costs. For example, automating the basic cutsprocess could be NPV-positive and could add up to35% to the industry’s overall productivity.

Innovation: Innovation increases productivity bycreating new, higher value-added products or bydevising better ways to produce and deliver existinggoods or services. Our research found that, with afew notable exceptions, Thai companies often fail tocapture the full productivity-enhancing benefits ofinnovation.

Innovation increases productivity bycreating new, higher value-addedproducts.


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The computer and electronics industry is a tellingexample. Although Thailand has become a majormanufacturing hub for a number of computer andelectronics products and components, most Thaicompanies focus on low value-added activities such asassembling basic PCs or computer peripherals. Fewhave increased value added by producing more sophis-ticated hardware, such as notebook computers orservers, or by moving into the design of sophisticatedelectronic parts. As long as Thai computer and elec-tronics companies remain constrained to low value-added activities, their potential productivity will belimited (Exhibit 7).

Organization/performance management5: The waycompanies organize their operations and manage theperformance of employees has a substantial impact onproductivity. Although a thorough survey of thesepractices is beyond the scope of this study, preliminaryresearch shows Thai companies to be weak in severalkey aspects of organization/performance management.Most notably, Thai managers often struggle with‘consequence management’–the consistent, objectiveapplication of rewards and penalties based on indi-vidual performance. This shortcoming is in line withan Asia-wide weakness identified in McKinsey’s recentregional survey of performance management practicesat leading Asian companies6 (Exhibit 8).

On a related note, a recent study by the Thai Instituteof Directors and McKinsey has shown corporategovernance practices in Thailand to be weak by inter-national and even regional standards. This is signifi-cant in the context of performance management, ascorporate governance practices serve to align theinterests of shareholders and managers within a com-

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pany. When effectively implemented, these practicesforce managers to be responsive to the concerns ofshareholders, who are primarily interested in the long-term profitability (and therefore productivity) of thecompany. Shareholder activism can often force man-agers to make tough decisions that may be painful inthe near term but contribute to the company’s long-term effectiveness and profitability.

Industry dynamics affecting productivity. In the next phase ofresearch, we explored the industry dynamics that led to the above

operational-levelgaps in productivity.We found that opera-tional inefficienciesmost commonlyresult from industrystructures in whichcompetition is lim-

ited. In such industries, companies are often not compelled tomake the sometimes-painful operational changes needed to boostproductivity.

Despite considerable deregulation in recent years, many Thaiindustries remain far from what could be called ‘fair competi-tion’. In most sectors, competitive pressure is mitigated by (1)limited foreign participation, (2) the existence of non-level play-ing fields, and (3) monopolistic or oligopolistic industry struc-tures.

Limited foreign participation: Foreign participation in asector increases competitive pressure while at the same timeproviding exposure to international best practices. Anexample is Thailand’s retail trade sector where liberalregulations and openness to FDI have led to substantialforeign participation and therefore to rapid modernization.Of all the countries McKinsey has studied, Thailand hasbeen among the fastest in increasing retail productivity byintroducing modern formats such as supermarkets/hypermarkets, convenience stores, and specialty stores.Domestic competition alone can have only limited impact

Operational inefficiencies mostcommonly result from industrystructures in which competition islimited.

�� 1919191919

on productivity because local players typically do not haveaccess to the latest best practices, cutting-edge capabilities,and leading technologies (see Box 3).

In many Thai industries, though, participation by foreignplayers remains limited. An interesting example is retailbanking where foreign banks have traditionally been lim-ited to a single branch. Since 1997, foreign banks havebeen allowed to take controlling stakes in four local banks(creating so-called ‘hybrid’ banks), yet these institutionsremain too small to have a major impact in increasingcompetition or diffusing best practices across the Thaibanking sector.

Non-level playing fields: In some industries, inconsistentenforcement of regulations can create advantages for someparties at the expense of others. The retail sector againprovides a telling example. As noted, a liberal regulatoryenvironment has enabled foreign retailers to establish andexpand operations in Thailand, dramatically acceleratingthe introduction of modern retail formats. Economic logicwould normally dictate that these efficient modern formats

Box 3: How much foreign ownership is optimal?Box 3: How much foreign ownership is optimal?Box 3: How much foreign ownership is optimal?Box 3: How much foreign ownership is optimal?Box 3: How much foreign ownership is optimal?

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should rapidly replace significantly less efficient traditionalformats such as counter stores and wet markets. While thetransition has been moving comparatively fast, traditionalformats still command a majority of Thai retail trade. Asinformal entities, counter stores and wet markets are ableto avoid taxes and skirt minimum wage requirements.Hence, these operators have an improved chance to remaincost competitive with modern retail formats despite thelatter’s much higher actual productivity (Exhibit 9).

Monopolistic or oligopolistic industry structures: In severalindustries, we found that competition was or could beinhibited by the presence of companies exhibiting monopo-listic or oligopolistic market behaviors. Such industrystructures can be the result of official regulations, as in thefixed-line telecommunications sector. In other cases, suchas the beer or cement industries, oligopolistic (or de factooligopolistic) positions are not sanctioned by official regula-tions. Rather, they are allowed to exist informally becauseof the nature of the industry or the absence of rigorous pro-competition policies.

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External factors. Following our industry-level research, we nextexplored the external factors that had created the industry behav-iors that lead to low productivity (Exhibit 10).

Sector-specific regulatory issues: Our research found thatsector-specific regulations are by far the greatest barrier tohigher productivity levels in Thailand (Exhibit 11). Thisfinding is consistent with McKinsey’s research in 13 othercountries around the world: in every country we surveyed,sector-specific regulatory distortions were found to be thegreatest inhibitor to productivity (Exhibit 12). The regula-tory barriers to productivity we identified in Thailand fellinto the following main categories.

Competition distortions: In a number of cases, regu-lations overtly favored certain players at the expenseof others, thus limiting the fairness and intensity ofcompetition. One example is the fixed-line telecom-munications industry, where the two dominant play-ers–TOT and CAT–serve as both operators and indus-try regulators at the same time. Not surprisingly,much regulation in the sector tends to favor these two

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incumbents. As another example, tax regulationsrequire large retailers (those with annual incomesexceeding 1.2 million Baht) to pay value-added tax(VAT) at an official rate of 7% while smaller retailersare required to pay only 1.5% VAT.

Entry barriers: In several industries, we found formalor informal barriers that prevented new players–inparticular, foreign players–from entering and increas-

ing competition. Insome cases, industrieshad been formallyopened to foreignplayers, but opera-tional restrictionslimited the ability ofnew entrants to

compete effectively. As noted, foreign banks havelong been allowed to operate in Thailand, but havehistorically been limited to a single branch. Thecreation of majority foreign-owned hybrid banks(which can operate multi-branch networks) has some-what reduced the barriers to foreign entry in retailbanking. However, as described above, because theacquired banks were comparatively small, the hybridbanks have been unable to exert significant competi-tive pressure on the industry.

Unequal enforcement of regulations: In some indus-tries, the formal regulations appear to create a rela-tively level playing field for all companies. However,unequal enforcement of regulations favors certainplayers, leading to an environment in which faircompetition is compromised. The previous retailexample is again relevant here: because counter storesand wet markets are not consistently upholding theminimum wage, they are at an advantage with respectto their labor cost vis-à-vis more productive modernformats such as hypermarkets. In essence, unequalenforcement of tax or labor regulations limits thecompetitive pressure that is needed to maximize

In several industries, we found formalor informal barriers that preventednew players from entering andincreasing competition.


productivity. Similarly, the ability of ‘informal ven-dors’ to sell counterfeit products enables these lessproductive players to thrive, at the expense of strongerprofessional companies, which are more rigorouslymonitored for counterfeits.

Distortions in related industries: In some cases,productivity in one sector can be constrained by issuesin another. The beer industry is illustrative: a largemanufacturer’s monopoly in one sector (liquor) hasallowed the company to rapidly build a dominantposition in another sector (beer) by bundling sales ofbeer to monopolized liquor sales, even though the

beer sector regula-tions themselvesappear to supportfree competition. Asecond example ischicken processingwhere high prices of

agricultural products (specifically corn and soybeans)inflate the price of chicken feed and weaken theperformance of the entire Thai poultry value chain.

Red tape: Bureaucratic ‘red tape’ was found to beanother significant factor delaying or blocking pro-ductivity improvements and innovation. For ex-ample, product/service innovation in the Thai bankingsector has been hindered or delayed due to unclearapproval regulations and slow approval processes bythe Bank of Thailand.

Other factors affecting productivity: We found severalother external factors affecting productivity, although theirimpact is limited in comparison to that of sector-specificregulations.

Government ownership: A significant share of assetsin many industries remains under government control.Shielded from shareholder pressure (and often benefit-ing from official subsidies), government controlled

In some cases, productivity in onesector can be constrained by issues inanother.

�� 2525252525

companies are consistently less productive than theirprivate sector counterparts. An example is the Thaitelecommunications sector, where considerable assetsare under government control. State-owned telecom-munications companies are markedly less productivethan their private sector counterparts: they accountfor 67% of total employment in the telecom sectorwhile only providing 36% of the total lines7.

Consumer behavior: The behavior of Thai consumersalso affects productivity. Thai consumers tend todemonstrate a strong sense of loyalty to ‘their’ exist-ing merchants, and are often reluctant to switch evenwhen a stronger value proposition is offered. Conse-quently, in many cases the threat of customer churndoes not compel Thai companies to continually inno-

vate and enhancetheir efficiency andproductivity.

Thai consumers alsotend to be slow inembracing new,

higher value-added products and services. Becausecompanies producing low value-added goods tend tobe less productive, this conservatism on the part ofThai consumers has a negative impact on productivityin a number of industries.

The retail banking sector provides the most tellingexample. Despite the entry of foreign banks, manyoffering services superior to domestic banks, there hasbeen only limited migration of customers away fromincumbent banks. Nearly 90% of Thai bankingcustomers describe themselves as ‘very loyal’ to theirexisting bank, according to an annual McKinseysurvey tracking the behavior of Thai and other Asianretail banking customers. This degree of loyalty limitsthe pressure on incumbents to enhance their produc-tivity.

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Conservatism on the part of Thaiconsumers has a negative impact onproductivity in a number of industries.


Macroeconomic factors: The macroeconomic volatil-ity of the last few years has also affected productivitylevels in Thailand. Most notably, the rapid and unex-pected economic contraction in 1997 resulted inconsiderable overcapacity in several industries. Inpre-crisis days, for example, cement producers hadbeen encouraged by the government to build capacityahead of demand in order to ensure self-sufficiency.When construction came to a virtual standstill in early1998, cement capacity utilization dropped to under60%. Similarly, in the telecommunications sector,fixed-line companies installed substantial line capacityin (speculative) property developments that, as aresult of the crisis, were never completed or openedonly after substantial delays. As a consequence, thefixed telecommunications lines operated by conces-sionaires have subscription rates as low as 58%.

Box 4: ‘Smart regulation’, not deregulationBox 4: ‘Smart regulation’, not deregulationBox 4: ‘Smart regulation’, not deregulationBox 4: ‘Smart regulation’, not deregulationBox 4: ‘Smart regulation’, not deregulation

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Judging from our experience in other countries, productivity-enhancing regulatory reforms, if carried out thoughtfully acrossall economic sectors (see Box 4), could potentially add some 2-4% to Thailand’s annual per capita GDP growth, effectivelydoubling current growth rates. The other encouraging insight isthat most of the needed policy reforms are ultimately ‘free’–theyrequire no fiscal stimulus packages or industry subsidies. More-over, these reforms can impact broad economic growth morequickly than the important but longer-term solutions of invest-ment in education and infrastructure.

��'��(�&��"��(��(��THAILAND SHOULDBUILD THE INSTITUTIONAL CAPABILITY TO CARRY OUTPRODUCTIVITY-ENHANCING REGULATORY REFORM

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Given the dramatic impact of regulatory issues on productivityand GDP growth, we recommend that the Thai Governmentinitiate a broad-based program of regulatory reform aimed atfacilitating the transition to a high-productivity economy. Thecurrent Thai Government faces a unique window of opportunityto conduct such an endeavor: it has been elected with an unparal-leled vote of confidence by the Thai people a year ago and there-fore possesses the popular mandate needed to undertake toughpolicy actions. In addition, the world economy has entered intoa severe downturn, which makes it easier to argue for fundamen-tal reforms that might otherwise be resisted as going against ‘thetraditional way of doing things’.

Implementing a broad-based regulatory reform program is nosmall task. It will require a detailed understanding of the com-plex cross-sectoral issues affecting productivity, supported by a


compelling fact base. Equally important is a solid process man-agement capability that can engage and take account of allaffected constituencies. Specifically, such a program must:

• Cover numerous industry sectors and clusters, and appropri-ately consider cross-sectoral linkages, constraints and opportu-nities;

• Coordinate across multiple branches of government, businessorganizations, and non-governmental bodies; and

• Overcome vested interests, deep-rooted traditions, and politi-cal and social roadblocks.

While the current Thai political leadership has the mandate andthe willingness to pursue far-reaching regulatory improvements, aunique set of executional capabilities will need to be developed.Regulatory policymaking on the level of industry sectors is cur-rently fragmented across a multitude of public sector institutions,including several ministries, such as the Ministries of Finance,Commerce, Industry, Transportation and Telecommunications, aswell as agencies, such as the Bank of Thailand, the Board of

Investment, andothers. Growingperceptions that theThai Government issending out inconsis-tent signals to pro-spective internationalinvestors are just one

of many negative consequences of such fragmentation.

While the NESDB does play an integrative role, it is predomi-nantly focused on macro-economic issues and may not be wellpositioned to coordinate micro-economic policies across diver-gent policymaking bodies. The Thai Productivity Institute8 isalso not oriented towards cross-agency, broad-based regulatoryreform. And the TDRI is a research institute that plays primarilyan advisory role. Finally, while the integrative industry work-shops organized by the current administration can help to surfaceissues and to brainstorm ideas, they are unlikely to produce adetailed, fact-based agenda for productivity enhancement, nor

Regulatory policymaking on the levelof industry sectors is currentlyfragmented across a multitude ofinstitutions.

4�� :��:��$.��>

�� 2929292929

can they ensure the coordinated and programmatic implementa-tion of such an agenda.

For example, the current policy debate concerning protection ofsmall, traditional Thai retailers from large scale (primarily for-eign) discounters seems to lack fact-based analysis of the eco-nomic benefits created by productive modern retailers. Ourresearch showed that the presence of modern retailers leads tolower prices and greater selection for consumers and, contrary topopular views, does not necessarily result in net job destruction9.The benefits can also extend far beyond the retail sector itself: wefound that a competitive retail sector is essential to fosteringproductivity growth in related ‘upstream’ industries such aswholesale, consumer goods manufacturing, basic materials andeven agriculture (see Box 5).

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To effectively pursue a broad-based regulatory reform program,the government should establish a dedicated institution thateffectively integrates regulatory improvements across sectors.

Box 5. Getting the facts right: retail trade’Box 5. Getting the facts right: retail trade’Box 5. Getting the facts right: retail trade’Box 5. Getting the facts right: retail trade’Box 5. Getting the facts right: retail trade’s true impact on thes true impact on thes true impact on thes true impact on thes true impact on theeconomyeconomyeconomyeconomyeconomy

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This institution should be able to define and drive the implemen-tation of such a reform agenda in a well-coordinated fashion. Itshould be part of the Prime Minister’s Office in order to com-mand clear political support, which will be required in order toovercome entrenched interests. It may well be integrated into theNESDB, or it could be established as a free-standing agency.

In its analytical role, this institution could potentially be modeledon the US Council of Competitiveness, an organization whosemission is “to drive US economic competitiveness and leadershipin world markets and to raise the standard of living for its citi-zens”. The Council has a full-time staff of about 16 and isfocused on benchmarking US productivity and innovation levelsagainst those of other countries, as well as publishing the influen-tial annual State of US Competitiveness report. While the Coun-cil has no executive powers–it acts purely as an advisory councilto the US President–its influence in policy matters is substantial.

Closer to home, other Asian countries have also made competi-tiveness and productivity a key part of their economic policyagenda. In 1997, Singapore’s Prime Minister, for example, estab-lished the Singapore Committee on Competitiveness (CSC),which is affiliated with the Economic Development Board (EDB).After a careful review of Singapore’s competitive position vis-à-vis a number of benchmark countries, a detailed implementationplan was agreed, which has shaped Singapore’s economic policyagenda for the last three years. Concrete results of the competi-tiveness review included a commitment to early liberalization ofthe telecommunications sector as well as an increased focus onbecoming a preferred location for global best-practice companies.The CSC has been instrumental in shaping and monitoringprogress in the city-state’s efforts to raise its competitive creden-tials.

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The agency will undoubtedly face a number of challenges indriving the implementation of policy reforms. Below we outlinethree of the most critical challenges we have observed around the

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world and present some preliminary steps for addressing thesechallenges.

Establishing a ‘shared language’: Executing a coherentregulatory reform program–one that is based on a consis-tent economic growth strategy for Thailand–will requiremore than just a new institutional set-up. It will alsorequire a clearly defined methodological framework–a‘shared language’ to which all stakeholders subscribe–inorder to engage and integrate a multitude of differentperspectives and interests. Reliable and widely acceptedinsights on microeconomic policy issues will be pivotal to

the success of theThai Government’sefforts to identifyand dismantle regula-tory barriers toproductivity.

This study has provided preliminary perspectives on the keyproductivity barriers in seven industries. It has also estab-lished a methodology that works and that has been success-fully applied around the world. We firmly believe that thismethodology can be utilized to assess productivity in thebroader Thai economy on an ongoing basis. In short, it canform the basis for the continuing stream of productivityresearch that will be needed to support an effective regula-tory reform program.

Addressing issues of worker displacement: A commonconcern surrounding productivity enhancements is thepotential negative impact on employment. Over the longterm, though, productivity improvements lead to lowerprices and increased consumption, higher levels of invest-ment, and therefore to overall job creation. In addition,productivity gains increase export competitiveness, creatingnew sources of economic growth and job creation. Aninteresting example is the Thai retail sector, in which pro-ductive modern formats–usually foreign owned–have madeconsiderable inroads. Although supermarkets,

Executing a coherent regulatoryreform program will require a ‘sharedlanguage’ to which all stakeholderssubscribe.


hypermarkets and other modern retail formats are oftenthought to destroy jobs within smaller competitors, ourresearch found that the picture changes if a more compre-hensive perspective is chosen.

Global retailers do indeed operate with comparatively feweremployees than the many smaller retail operations theyreplace. However, they also create new job opportunities inother industries such as consumer goods: companies likeTesco Lotus screen and ‘qualify’ Thai products that areoften exported into their global supply chain. Companystatements indicate that Tesco currently exports someUS$100 million worth of Thai products annually into itsglobal operations. When the jobs resulting from suchincreased exports are added to the other economic im-

pacts10, Tesco Lotus’impact in terms ofjob creation ordestruction becomesmore or less neutral.If one then considersa potential ‘multi-plier effect’ arising

from productivity gains across the retail and consumergoods sectors, the net impact on employment is likely toturn out to be positive.

In the short-term, though, some displacement of workerswill inevitably accompany productivity enhancement.Governments should respond by providing unemploymentbenefits that directly protect displaced workers during atransition period, and by encouraging training and job-search programs that help to redeploy displaced labor tomore productive industries–not by postponing this impor-tant transition, which is part and parcel to economicgrowth.

Overcoming entrenched interests: Around the world,entrenched interests threaten efforts to reform industries

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An important first step is to raisepublic awareness of the relationshipbetween fair competition, higherproductivity, and economic prosperity.

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and enhance productivity. Powerful incumbent companieswho benefit from entry barriers, non-level playing fields,and other restrictions on competition will aggressively resistany efforts to introduce greater competition in the sectorsin which they operate–often by calling for protection ofdomestic companies or pointing to their own strategicimportance as a major national employer.

There are no simple solutions for overcoming entrenchedinterests. However, an important first step is to raise publicawareness of the relationship between fair competition,higher productivity, and economic prosperity. Once thisrelationship is more broadly understood, public opinioncan be brought to bear against those players who seekcontinued protection at the expense of productivity gainsand consumer benefits.

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In almost every sector that our research covered, we observedoperational deficiencies that reduced the productivity of Thaicompanies. We found that these constraints result from industrystructures that restrict competition and limit exposure to bestpractices. These industry structures are in turn created by severalexternal factors, of which the most significant by far is sector-specific regulations. As such, government efforts to restore rapidGDP growth in Thailand should focus primarily on eliminatingregulatory barriers to productivity. To remove such barriers witha careful eye to their economic and social implications can bringtremendous benefits to the people of Thailand. If this chance isforegone, the country could, like Japan since the early 1990s,lapse into a prolonged period of stagnation.

Following this chapter is a description of the study methodologyas well as case studies analyzing productivity issues in the sevenindustries surveyed. Each case study also outlines policy recom-mendations for addressing the sector-specific barriers to higherproductivity.

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Methodology

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Methodology

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The purpose of this study is to help Thai policymakers define andprioritize reforms that can accelerate productivity-led economicgrowth. To do this, our research team has identified and ana-lyzed Thailand’s productivity gaps relative to internationalbenchmarks, based on a number of sector case studies. Theframework used has been developed by the McKinsey GlobalInstitute in collaboration with leading international economists,and has been successfully applied in 14 country studies to date.The methodology has consistently delivered a solid fact base anda clear logical foundation for deriving policy recommendationsand determining their economic impact. It is built on the follow-ing key elements:

• International productivity benchmarking. We compare realcompany and sectoral productivity performance with othercountries, leveraging our international database.

• Systematic root-cause analysis. The reasons for performancegaps are explained through a systematic analysis of key cau-salities–sector by sector–leveraging our checklists of opera-tional, industry and other relevant factors (including govern-ment policy levers) derived from experiences from other coun-try studies.

• Implications for the economy as a whole. Finally, it is impor-tant to identify patterns across sectors, and to explore theimpact of productivity-maximizing policy measures in differ-ent sectors on productivity and growth in the economy as awhole.

Our framework illustrates a relatively easy-to-understand, yetcompelling linkage between productivity performance on the


micro-level, policy reforms and other actions at the governmentlevel, and economic growth for the country as a whole.

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The approach used in this study is based on the methodologyapplied in previous McKinsey Global Institute (MGI) reports.We first benchmark the productivity performance of Thai indus-tries relative to the best performing economies in the world.Then we seek to understand the main barriers to productivityimprovements and productive investments that are necessary forgrowth within the sectors that have been selected for more in-depth analysis. By synthesizing these case studies, we drawconclusions on the actions needed to improve Thailand’s eco-nomic performance in the future.

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The core of the research project is seven detailed industry casestudies. In each we start by measuring the productivity gapbetween Thailand and the benchmark countries (in most cases

the US and 1-2regional compara-tors). We thenanalyze the sector tounderstand how Thaioperations differfrom internationalbenchmarks and thereasons for the

different choices Thai managers have made. By developing adeep microeconomic understanding of industry operations, weare able to draw conclusions on the relative importance of theexternal factors affecting managers’ decisions. In doing this, wefocus on the barriers that are preventing productivity growthwithin existing assets as well as the factors that are limitinginvestment in new productive capacity.

By understanding industry operations,we are able to draw conclusions onthe external factors affectingmanagers’ decisions.

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The sectors that have been selected for Thailand cover around10% of Thailand’s non-agricultural employment and almost20% of non-agricultural GDP (Exhibit 1). The cement and beer

cases represent manufacturing sectors that are predominantlyoriented towards serving domestic markets, while chicken pro-cessing and computers/electronics have developed into importantexport industries for Thailand. Telecommunications represents acritical infrastructure sector where substantial investment isrequired. Finally, we studied retail trade and retail banking,service sectors that are critical to any modern economy.

Each of the sector cases follows the same sequential analyticalprocess described above, starting with a measurement of the Thaiindustry’s current productivity level relative to world benchmarks(see Box 1). Then we generate and test hypotheses on the causalfactors that explain the observed gap.

Measuring productivity: Productivity reflects the efficiencywith which resources are used to create value in the market-place. It is measured by computing the ratio of output toinput. We first define each industry in a consistent mannerin Thailand and the comparison countries, making sure that

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Box 1: Interpreting global productivity benchmarksBox 1: Interpreting global productivity benchmarksBox 1: Interpreting global productivity benchmarksBox 1: Interpreting global productivity benchmarksBox 1: Interpreting global productivity benchmarks

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our industries include the same parts of an industry valuechain. We then determine the sector’s output using mea-sures of Purchasing Power Parity-adjusted value added orphysical output. The labor inputs are measured as numberof hours worked, and capital inputs as capital servicesderived from the existing stock of physical capital. Wemeasure labor productivity in all seven case studies. For theparticularly capital-intensive sectors, like retail trade, tele-communications and cement, we also examine and explaindifferences in capital productivity. Given the difficulty inobtaining reliable data on capital productivity at the micro-level (and because available data is often not comparableacross companies or between different countries), we haveused proxy data. For example, in the retail trade sector, wehave used space efficiency (measured as value added persquare meter) as a proxy for capital productivity.

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Given the lack of reliable statistical data in some sectors,we complemented official information with customizedsurveys and extensive interviews with company representa-tives and other sector experts. This methodology wasparticularly helpful in deriving bottom-up productivityestimates in sectors such as retail trade, retail banking,computers/electronics, and chicken processing, wheretraditional sources of information may be unreliable orincomplete.

Generating and testing causality hypotheses: To explainwhy levels of productivity in Thailand differ from thebenchmarks, we start by generating a set of hypotheses onthe possible causes.

We use a systematic framework to explain productivitydifferences across countries that captures the major possiblecausal factors. This causal framework has three hierarchi-cal layers of causality: differences observed at the opera-tional level, factors arising from industry dynamics, andexternal factors that explain why the choices of Thai com-panies differ from those in the comparison countries (Ex-hibit 2).

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The hypotheses are tested with further fact-based analysesand company or expert interviews that allow us to assessthe relative importance of the causal factors in explainingthe productivity difference in each sector.

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Having identified the causal factors for each industry, we com-pare the results across industries. The patterns that emerge allowus to draw conclusions about the causes of the aggregate produc-tivity gap between Thailand and the comparison countries, aswell as about the level to which productivity can rise when theexternal factors are addressed.

We also consider the potential job creation that would resultfrom productivity gains. For example, in examining the replace-ment of traditional retail formats by hypermarkets, we examinejob losses at traditional stores as well as job creation opportuni-ties resulting from the high productivity of hypermarkets.

Our work focuses on the factors that determine Thailand’s eco-nomic prospects in the medium and long term. We do not focuson the short-term macroeconomic factors that may affect eco-nomic performance at any given moment. In drawing policyimplications from our findings, it is also important to bear inmind that higher material living standards are only one of manypolicy goals that a government can have. We believe, however,that higher productivity and economic growth provide the re-sources required to address social challenges more effectively.

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Productivity reflects the efficiency with which resources are usedto create value in the marketplace. We measure productivity bycomputing the ratio of output produced in a year to inputs usedin that production over the same time period.

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Our study uses two basic ways of determining output: it can bemeasured as physical production or as value added.

For a given industry, the output produced differs from the tradi-tional notion of sales. Sales figures include the value of goodsand services purchased by the industry to produce the final goods

or services (e.g.chicken purchasedfrom farms to pro-duce processedchicken). In con-trast, the notion ofvalue added is de-fined as factory-gate

gross output less purchased materials, services, and energy. Theadvantage of using value added is that it accounts for differencesin vertical integration. Furthermore, it accommodates qualitydifferences between products, as higher quality goods normallyreceive a price premium that translates into higher value added.It also takes into account differences in the efficiency with whichinputs are used (e.g. energy).

In the case study for the Thai retail industry, for example, weused the value added measure of output for international com-parisons. However, complications arise from the fact that valueadded is not denominated in the same currency across countries.As a result, this approach requires a mechanism to convert valueadded into a common currency. The standard approach usesPurchasing Power Parity (PPP) exchange rates, a topic discussedseparately below.

In sectors that allow a direct physical comparison of outputs, wehave used the physical production (number of units produced,etc.) as a measure of output. This was the case for our analysisof telecommunications, retail banking, cement, and beer. Tomake our measures comparable to the benchmark countries, weneeded to adjust for the product variety and quality differencesacross countries. This approach also requires data to be takenfrom the same part of the value chain in every country; in some

Using value added accounts fordifferences in vertical integration andproduct quality.


countries an industry may simply assemble products while inothers it may produce them from raw materials. Physical mea-sures would tend to overestimate the productivity of the former,as fewer inputs would be required to produce the same amountof output. To overcome these problems, our adjusted physicaloutput measure accounts for differences in vertical integration,quality, and, in the case of cement, relative differences in energyconsumption.

In the chicken processing and computer/electronics sectors weused both the physical and the value added measures for outputin order to provide a richer basis for analyzing productivity gapsand their causalities. In the computer and electronics sector, forexample, this allowed us to clearly differentiate between produc-tivity gaps caused by efficiency differences in manufacturing thesame type of components (an ‘apples-to-apples’ comparison)versus gaps resulting from a different product mix produced byThai electronics makers vis-à-vis international competitors.

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To convert value added of different countries to a commoncurrency, we use PPP exchange rates rather than market exchangerates. PPP exchange rates can be thought of as reflecting theratio of the actual costs of purchasing the same basket of goodsand services in local currencies in two countries. The PPP ex-change rates are constructed ‘bottom up’ by comparing theactual market prices of comparable goods and services acrosscountries, and then aggregating the individual prices up to a

‘price’ for sector-specific baskets andfinally for total GDP.

The reason for notusing the marketexchange rate, exceptfor export-orientedsectors, is that it

reflects international transactions alone, while it may not prop-erly reflect the prices of non-tradable goods and services in theeconomy. Furthermore, comparisons made on the basis of mar-

The reason for not using the marketexchange rate, except for export-oriented sectors, is that it properlyreflects international transactionsalone.

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ket exchange rates would be affected by fluctuations in theexchange rate resulting from, say, international capital move-ments.

For our aggregate survey and some of our cases, we use PPPexchange rates reported by the United Nations and by TheEconomist Intelligence Unit. In principle, as long as the productsare in the same market, we only need the PPP for one productand can use the market relative prices to compute the PPPs forthe rest of the product range.

Finally, we adjusted our PPPs to exclude sales tax and othertaxes, and we accounted for different input prices in order toobtain a Double Deflated PPP, which is the PPP exchange rateultimately used in our value added comparisons. In addition, inthe case of retail trade, differences in gross margins resultingfrom factor cost differences were adjusted by assuming similarservice quality for the same retailers in other countries.

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Our inputs consist of labor and capital. Labor inputs are themore straightforward to measure: we seek to use the total an-nual number of hours worked in the industry by workers. Whenactual hours are not available, we estimate labor inputs by usingthe best available measure of full-time equivalent (FTE) employ-ees.

For the more capital-intensive sectors, such as telecommunica-tions, cement, beer, and retail trade, we also attempt to analyzeand explain differences in capital productivity, mostly by usingproxies due to difficulties in obtaining and comparing reliabledata on capital expenditures. For example, we have used spaceefficiency in the retail sector and capacity utilization in the ce-ment sector as proxies for capital productivity. In general, capi-tal usage has been treated as an important causal factor in ex-plaining different levels of labor productivity for our sector casestudies.


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Our framework for synthesizing the explanatory factors for theproductivity performance in each industry is summarized inExhibit 2. The various elements of the framework are furtherdescribed below. Illustrations of possible barriers to higherproductivity are also presented under some of the subheadings,both in order to clarify the potential relevance of each point andto introduce some of the barriers that are presented in the laterdiscussions.

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The factors affecting productivity arise first at the individualcompany level. These can be grouped into factors related tooperations, investment and technology, and product/format mix.These operational factors are in turn determined by elements of afirm’s external environment outside its control and beyond thedecisions made by its managers.

Operations:

• Excess labor: Excess labor refers to workers whocould be eliminated without any significant changesto the organization of functions and tasks. It alsoincludes the variable portion of workers still em-ployed despite a drop in output.

• Organization of functions and tasks (OFT): This is abroad category encompassing the way in which pro-duction processes and other key functions (productdevelopment, sales, marketing) are organized and run.It reflects managerial practices in most areas of thebusiness system as well as the structure of incentivesystems that employees and companies use.

• Design for manufacturing (DFM): DFM is the adop-tion of efficient building or product design by usingan optimal site/plant layout, and then using standard,interchangeable and cost competitive materials.

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• Capacity utilization: Represents the labor productiv-ity penalty associated with low capacity utilizationgiven the fixed portion of workers (i.e. management,machine operators, maintenance, etc.).

• Suppliers: Suppliers can contribute to industry pro-ductivity by providing efficient delivery processes, bycollaborating in product development, or by provid-ing products or services that facilitate production (e.g.materials suppliers in residential construction). Sup-pliers can also impede productivity by providinglower quality products and services or inconsistentdelivery of inputs.

• Marketing: Within product categories, countries maydiffer in the quality of products they produce. Pro-duction of higher value-added products or servicesusing similar levels of input is reflected in higherproductivity. Another source of productivity differ-ences within product categories is differences in prod-uct proliferation (e.g. variety of stock-keeping units orSKUs in retail). A wide range of product or servicelines can reflect a sub-optimal product mix thatreduces productivity. Finally, both in manufacturingsectors and in services, design can influence whichtechnology might be applied. Design changes mightsimplify the production process and improve produc-tivity.

•Labor skills and trainability: This factor captures anypossible labor productivity penalties due to lowerfrontline trainability potentially caused by lower levelsof education, different educational focus (disciplines/skills), low frontline worker motivation, etc.

Investment/technology:

• Lack of scale: Higher production scale generally leadsto increased productivity if fixed assets are a largeenough proportion of total costs. We use capital inthe sense of physical assets and their embodied tech-nologies (e.g. machines, plants, buildings, and hard-ware). We classify assets as being sub-scale when they


don’t reach the minimum efficient scale.

• Viable investments: Refers to investment in upgrad-ing assets as well as investment in green-field opera-tions that would be economical even given Thailand’srelatively low labor cost. For our calculations, weapply current wage levels and a weighted average costof capital (WACC) of 8%.

• Non-viable investments: Refers to investment inupgrading assets or in green-field operations thatwould not be economical given Thailand’s relativelylow labor cost.

• Product/format mix: Countries may differ in thecategories of products or services they demand orsupply, and a productivity penalty can arise if acountry’s output consists of a comparatively highshare of inherently less valuable product or servicecategories. For example, Thailand’s computer andelectronics sector is predominantly focused on lowvalue-added products and production processes, suchas assembling hard disk drives.

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The competitive pressure in an industry influences the pressureon management to adopt best practices and improve company

and industry perfor-mance. We examinethree basic types offactors: domesticcompetitive intensity,exposure to bestpractices, and non-level playing fields.

Domestic competitive intensity: Includes differences inindustry structures and the resulting competitive behaviorsof domestic players. Other factors being equal, morecompetitive industries will put more pressure on managersto adopt more productive processes. Industries with high

The competitive intensity in an industryinfluences the pressure on managementto improve performance.

�� 4949494949

competitive intensity typically experience frequent entryand exit of players as well as changes in prices and profit-ability, rewarding high performers and penalizing unpro-ductive players.

Exposure to best practices: Refers to competitive pressuresas well as opportunities for learning from international bestpractice companies either via imports or through foreigndirect investment.

Non-level playing field: In a fair market economy, the samelaws and rules (e.g. pricing, taxes, etc.) apply equally todifferent industry players. In contrast, a ‘non-level playing’field reflects distortions that result from differential treat-ment of industry players by parties outside the industry(e.g. the government). Within the same market, a non-levelplaying field may result in more productive firms not beingthe most profitable ones (see Box 2).

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Managers’ behavior is also affected by a variety of externalfactors (i.e. those beyond managers’ control). These externalfactors can affect managers indirectly by influencing the industry

(e.g. restrictions onnew entry) or directly(e.g. quotas oninstallation of fixedtelecommunicationslines).

Macroeconomic conditions: The general macroeconomicenvironment affects, for example, capacity utilization,managers’ planning horizons, investment decisions, andeveryday operational decisions.

It is more difficult to commit to investments, for example,in an unstable macroeconomic and political environmentwhere high inflation rates, uncertainty about exchangerates, or frequently changing fiscal policies create ambigu-ity. Such instability–along with other factors, such as large

Managers’ behavior is also affected bya variety of external factors (i.e. thosebeyond managers’ control).


public budget deficits–leads to higher capital costs (fordomestic investors) or higher country risk (for foreigninvestors). Higher discount rates will lead managers to

Box 2: Productivity and profitabilityBox 2: Productivity and profitabilityBox 2: Productivity and profitabilityBox 2: Productivity and profitabilityBox 2: Productivity and profitability

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delay investments or choose different production technolo-gies, resulting in labor and capital productivity differencesacross economies.

Capital markets: Distortions in the capital markets (e.g.administered interest rates) result in inefficient allocation ofresources that will distort the ability of the market mecha-nism to reward productive firms over their lower-perform-ing counterparts.

Government ownership: The extent to which managementis exposed to pressure from owners or shareholders caninfluence the rate at which productivity is improved. Suchpressure is consistently lower in state-owned enterprisesthan in private companies. In addition, companies undergovernment ownership often receive subsidies that allowthem to compete against more productive players.

Labor market:

•Stringent labor regulations: Labor regulations caninfluence the possibility of implementing productivityimprovements (e.g. layoff restrictions limit the abilityto reduce excess labor).

•Inadequate education: Managers and frontline work-ers in one country may have lower levels of educationor a different educational focus than those in othercountries. This may lead to more limited skills andlower trainability, resulting in lower productivity.

Product markets:

•Entry barriers: Regulations prohibiting or discourag-ing certain services, products, or players can reduce oreliminate high-productivity production. Examplesinclude restrictions focusing on the origin of players(e.g. trade barriers and FDI restrictions), or the typeor number of players (e.g. limited number of licensesfor mobile telephone operators).

•Competition distortions: Regulations can introducedistortions to competition by creating a non-level


playing field among different players. Examplesinclude direct tax breaks and/or subsidies for specificplayers, as well as regulations that protect or favorincumbent companies (e.g. state-owned telecommuni-cations operators). Similarly, regulations prohibitingor discouraging certain product or service offerings(including regulations on pricing) can result in distor-tions to competition.

•Lack of enforcement: Unequal enforcement of taxa-tion (e.g. tax evasion by small-scale vendors) as wellas other regulations (e.g. lack of enforcement forcounterfeits in retail) also create a non-level playingfield and distort competition among players.

•Standardization: Although companies and consumersalike can benefit from the use of standards, individualfirms often do not have sufficient incentive to takeaction to promote a standard. Government interven-tion is often required in order to establish key indus-try standards (e.g. quality standards for constructionmaterials), which can help to enhance productivity.

•Threat of red tape/‘harassment’: Excessive red tapeand ‘regulatory harassment’ increase complexity costsand limit the incentives for companies to optimizetheir operations. They often also prevent or delayproductivity-enhancing product/service or processinnovation.

Related industries: Conditions in supply or downstreamindustries can hamper productivity by reducing the com-petitive pressures on the industry players or by distortingcompetition. An underdeveloped upstream industry, forexample, can impose significant productivity costs on itscustomers by failing to offer products or services thatfacilitate production or by providing low quality outputsand/or inconsistent delivery.

Poor infrastructure: Includes differences in a country’sinfrastructure such as roads, rail links, telecommunications,etc. Infrastructure deficiencies can affect productivity interms of reduced demand (e.g. lack of distribution chan-

�� 5353535353

nels) and/or increased costs (e.g. procurement).

Other demand/supply factors: Thailand and its compari-son countries may differ in factors such as the structure ofconsumer demand as a result of varying climates, tastes, ortraditional consumption patterns. This can influence theproduct mix demanded in the marketplace, which in turncan affect the value of the total output and thus productiv-ity. Climate, geographical, and geological differences acrosscountries can also result in disparities in cost structures,which can be another cause of productivity penalties.

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SECTION II

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Retail Trade

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Retail Trade

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• Retail trade is an important sector in Thailand, accounting fora sizable share of GDP and employment. Beyond these directeconomic contributions, retail trade plays a critical role indetermining consumer prices and fostering productivitygrowth and innovation in ‘upstream’ industries such as con-sumer goods manufacturing and distribution.

• In recent years, liberal sectoral regulations and openness toforeign investment have enabled Thailand to rapidly introduceproductive modern retail formats such as hypermarkets,supermarkets, convenience stores, and specialty stores.

• Nonetheless, overall labor productivity in the sector remainslow–just 22% of the level of the US benchmark. This is be-cause most retail employment in Thailand remains tied totraditional formats such as counter stores, wet markets, andstreet vendors. These formats are only around 10% as pro-ductive as their modern counterparts.

• The migration of commercial activity from traditional tomodern formats has been slowed because regulatory differen-tiation and weak regulatory enforcement allow traditionalretailers to reduce their tax burden and skirt minimum wagerequirements, thereby creating an artificial cost advantageover moderns. In addition, the absence of specific legislationprotecting franchisees has discouraged independent counterstores from joining modern convenience store franchise sys-tems.

• To boost productivity in the retail sector, the governmentshould consider several actions. First and foremost, the currentliberal regulatory environment should be maintained despiterecent calls for protection of traditional formats and domesticplayers. Second, a level playing field should be ensured for all


retail players by providing consistent enforcement of equal taxand labor regulations. Finally, the transition process fromtraditional to modern retail formats should be facilitated, forexample by assisting the integration of traditional Thai retail-ers into modern franchise systems through the establishmentof a franchise law that clearly defines the rights of franchisees.

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Retail trade is an important sector for Thailand, representing asignificant share of national economic activity (Exhibit 1). Theretail sector accounts for approximately 8% of Thailand’s GDP1.

It is also a major employer: based on published statistics, em-ployment in the retail trade sector is estimated at roughly 4% oftotal employment in Thailand–equivalent to about 1.3 millionjobs. This figure, however, probably understates the actualnumber, given the sizable informal segment in which jobs cannotbe reliably accounted for. Also, the importance of retail trade

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extends far beyond the sector itself: the development of acountry’s retail sector has a tremendous impact on a number ofrelated ‘upstream’ industries (see Box 1).

Our research segmented retailers into two groups: modern for-mats and traditional formats. ‘Modern formats’ refer to large,technically advanced retailers: hypermarkets, supermarkets,

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Box 1: Retail trade’Box 1: Retail trade’Box 1: Retail trade’Box 1: Retail trade’Box 1: Retail trade’s impact on the broader economys impact on the broader economys impact on the broader economys impact on the broader economys impact on the broader economy

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department stores, convenience stores, and specialty chains.‘Traditional formats’ are small, independent (often owner-oper-ated) retailers: counter stores (often called ‘mom-and-popshops’), wet markets, and street vendors.

A liberal regulatory regime has encouraged an influx of invest-ment into modern retail formats in Thailand. As of 2000, mod-ern formats’ share of retail sales (excluding gas stations’ and autodealers’ sales) is estimated at 44% (Exhibit 2). Penetration ofthese formats has grown by an average of 3.3% per annum forthe past 12 years–one of the strongest sustained growth rates inthe countries we have studied (Exhibit 3). Growth ofhypermarkets has been particularly robust: hypermarkets nowaccount for roughly 40% of all modern retail sales in Thailand.

Since the onset of the Asian economic crisis, foreign ownership inthe sector has increased markedly. With many domestic retailersexperiencing financial difficulties, FDI restrictions were relaxedin 1998 allowing foreign players to own up to 100% of Thairetail interests. Foreign investment increased dramatically there-after, particularly in the hypermarket/supermarket formats (Ex-

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hibit 4). Seven of the top ten retailers in Thailand now havesignificant foreign ownership. The level of FDI is now aboveother countries whose retail sectors are at similar stages of devel-opment, such as China, Poland, and Brazil.

Recently, there have been increasing calls for the government toprotect small traditional retailers by tightening zoning laws incity centers and taking other measures to limit the further expan-sion of modern retail formats in Thailand. In response, manyhypermarket and supermarket chains have rushed to build newfacilities before the proposed regulations take effect.

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Our research measured the two key determinants of retail pro-ductivity: labor productivity and capital productivity (Exhibit 5).Labor productivity is defined as value-added per employee (orfull time equivalent). We adjusted value-added for consumerPurchasing Power Parity (PPP) to ensure comparability withbenchmark countries. In particular, differences in gross marginsresulting from factor cost differences were adjusted by assuming

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similar service quality for the same retailers in different countries.The estimated numbers of employees were calculated bottom-up,format by format.

To calculate capital productivity, we used space efficiency as aproxy2–measured as value-added per square meter. This wasdone because calculating the second determinant–capital inten-sity, or capital invested per square meter–was not practicable dueto the unreliability of existing data.

Despite the rapid introduction of modern formats, we havefound that overall productivity in the Thai retail sector remainslow–roughly 20% of the US level. Logically, only two factorscan account for this disparity: (1) retail formats in Thailand areless productive than the corresponding formats in the US (i.e. a‘format-to-format’ productivity gap exists), or (2) Thailand has agreater share of retail activity in less productive traditional for-mats (i.e. a ‘format-mix’ gap exists).

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Our research showed that the format-to-format productivity gapis relatively small: the productivity of modern Thai retailers isclose to US levels, in terms of both labor and capital productivity.Indeed, Thai specialty stores and supermarkets are on averageeven more productive than their US counterparts (Exhibit 6).

Rather, Thai retail productivity remains low because some 90%of employment in the sector is tied to traditional retail formats,which have productivity levels of roughly 10% of their moderncounterparts (Exhibit 7). Consequently, the key lever for boost-ing productivity is to further shift the format mix away fromtraditional towards modern formats, rather than emphasizingformat-to-format improvements (Exhibit 8).

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The large remaining share of traditional formats in Thai retailtrade can be explained by considering (1) current industry dy-namics, and (2) the external/regulatory factors driving theseindustry dynamics (Exhibit 9).

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Industry dynamics. At the industry level, two important factorsare slowing the migration from traditional to modern formats.

Existence of a ‘non-level playing field’: Inconsistent tax andwage regulations and enforcement create cost distortionsthat favor traditional players over moderns. Traditionalplayers are often able to avoid taxation and skirt minimumwage requirements. Such ‘informal’ cost advantages canadd up to a substantial share of net profits–roughly30%according to our model calculations-for these retailers.Consequently, they are able to remain competitive withmodern formats despite much lower levels of productivity(Exhibit 10).

As long as a non-level playing field persists in the retailsector, traditional players will not experience the competi-tive pressure that would normally compel them to increasetheir productivity or be replaced by more efficient formats.

Reluctance of counter stores to join modern franchisechains: By joining a modern franchise chain, independentstores can gain access to managerial best practices andsophisticated IT, accounting, and administrative systems.

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They can also secure cost savings from group purchasingarrangements. In Thailand, however, counter stores havebeen slow to join franchise systems. For example, of all 7-Eleven outlets in Thailand, only around 30% are owned byfranchisees, versus some 70% in the US and over 95% inJapan (Exhibit 11).

External/regulatory constraints to productivity. A set of exter-nal/regulatory factors have been driving the industry dynamicsdescribed above.

Inconsistent enforcement of minimum wage and tax regula-tions: As noted, weak enforcement of minimum wage andtax regulations provides smaller retailers in Thailand with‘informal’ tax and labor cost advantages over modernretailers.

Unequal tax rates: Even when smaller retailers do fulfilltheir tax obligations, they incur a lower rate of value addedtax (VAT) than larger operators: shops whose annual in-come is below 1.2 THB million pay 1.5% VAT on revenues,whereas companies whose annual income exceeds thisthreshold pay VAT at a rate of 7%.

Lack of franchise law to protect franchisees: As noted,independent counter stores or convenience stores in Thai-land have been comparatively slow to boost their efficiencyby joining modern franchise chains. This is caused to someextent by the lack of a franchise law in Thailand thatwould protect franchisees and clearly define their rights vis-à-vis the franchise-owner. Such a law would providegreater certainty for franchisees by, for example, prohibit-ing termination of a franchise relationship without goodcause or preventing a franchise-owner from introducingnew (company-owned) outlets in close proximity to exist-ing ones owned by franchisees.

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Although format-to-format issues are not the primary contribu-tor to low productivity in the Thai retail sector, some efficiency


gains can be realized by addressing gaps in this area as well. Ourresearch found three key format-to-format issues that preventedmodern Thai retailers from reaching their productive potential:

Limited use of part-time help and ‘multi-tasking’: In manycountries, use of part-time workers allows retailers to coverpeak hours while keeping their full-time workforce as leanas possible. In Thailand, though, part-time labor is notsystematically utilized, and there are no clear laws govern-ing part-time employment.

Thai retailers have also been slow to introduce ‘multi-tasking’–shifting employees to various departments of astore based on need. Consequently, the total number ofemployees needed to operate a retail facility in Thailand iscomparatively high.

Lack of outsourcing: Outsourcing of non-core businessactivities can allow retailers to boost efficiency by focusingon their primary competencies. In Thailand, though,

outsourcing has nottaken off becauseprofessional servicesindustries such aslogistics and storageare still underdevel-oped.

Fragmented procurement practices: Few large-scale suppli-ers of retail goods have emerged in Thailand, meaningretailers must procure their goods from multiple, subscalesuppliers. Consequently, they incur higher transaction costsand forego the cost savings that consolidated ordering witha limited number of core suppliers could offer.

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Unlike several of the other Thai industries we surveyed, the retailtrade sector does not require further deregulation in order toachieve its productive potential. Rather, the government shouldfocus on (1) maintaining the current liberal regulatory environ-

Outsourcing of non-core businessactivities can allow retailers to boostefficiency by focusing on their primarycompetencies.

�� 7171717171

ment, (2) ensuring a level playing field and fair competition, and(3) facilitating the transition to modern formats by, for example,introducing a franchise law.

Maintaining the current liberal regulatory environment:Thailand’s success in introducing modern retail formats is adirect result of liberal retail regulations. Recently, however,there have been calls for increased regulation of the retailsector in order to protect domestic and traditional retailers.Proposals have been tabled that would, among other things,regulate retailers’ operating hours, limit foreign participa-tion in the sector, and prevent any one player from control-ling more than 10% of market share.

It is critical that the government resist these demands.Although the traditional retail sector does indeed play animportant role in generating employment and encouragingentrepreneurship, the government should also consider theneeds of the Thai consumers (modern formats can sellproducts up to 20% cheaper than counter stores whileoffering greater selection) as well as the economy as awhole. Furthermore, while the migration to modern for-mats may temporarily displace workers in the retail sector,it should be understood that the broader impact of aneffective retail sector on employment will be attractive (seeBox 2). Rather than introducing regulations that defend

Box 2: Modern retail’Box 2: Modern retail’Box 2: Modern retail’Box 2: Modern retail’Box 2: Modern retail’s impact on employments impact on employments impact on employments impact on employments impact on employment

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unproductive traditional retailers, the government shouldhelp these companies to increase efficiency, for example byencouraging counter stores to integrate with modern fran-chise systems (see final recommendation).

Enforcing a level playing field for all retail players: Level-ing the retail playing field would increase competitivepressure on traditional retailers, compelling them to eitherenhance their productivity or be replaced by modern for-mats. The government should seek to level the fieldthrough equal treatment and consistent enforcement of taxand labor regulations for all retail players. However, en-forcing tax and labor laws amongst the myriad of small,independent counter stores is a significant challenge thatwill require careful planning. Preliminary steps couldinclude publicly announcing that enforcement will bepursued and formally requiring counter stores to keepreceipts for all register sales as well as payroll expenses.Even these minor steps would apply some additional com-

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petitive pressure to counters stores, encouraging them toseek ways to further boost efficiency.

Facilitating the transition to modern formats by, for ex-ample, introducing a franchise law: The absence of clearlydefined legal rights of franchisees discourages counter storesfrom integrating with franchise chains. The introduction ofa law defining the rights and obligations of both franchise-owners and franchisees could help to accelerate the growthof Thailand’s franchise system. There are ample interna-tional examples of franchise laws. The government shouldassign a team to study laws in countries whose retail sectorresembles Thailand’s. Based on this research, draft legisla-tion for Thailand could be rapidly introduced.

The above recommendations directly attack the ‘format mix’issue, which is the primary barrier to higher retail productivity.In addition, ‘format-to-format’ issues, such as the facilitation ofpart-time work, should be addressed in parallel.

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Thailand’s retail trade sector provides a compelling example ofhow liberal regulations can underwrite rapid, productivity-enhancing change. However, the current calls for increasedregulation in the sector threaten future productivity gains. Giventhe role of retail trade in determining consumer prices and influ-encing upstream industries like consumer goods manufacturing,it is vital that the government maintain its liberal posture in thislarge and important sector.

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Retail Banking

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Retail Banking

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• Despite some liberalization since 1997, the Thai bankinglandscape has experienced only limited structural change.Large domestic banks remain dominant, and consumers con-tinue to underutilize retail banking products.

• Thailand’s productivity in retail banking is about half of theUS level, with the largest productivity gap in loans. Opera-tional causes of low productivity include inefficient branchdesign, lack of marketing and risk management skills, andover-reliance on cash-based and branch-based transactions.

• These operational inefficiencies have persisted largely becauseregulatory barriers to foreign entry have historically reducedcompetitive pressure within the industry. Other regulatoryissues include government involvement in bank operations,delays in passing important financial sector legislation, and ahigh proportion of government ownership of banking assets.

• To help increase productivity in the Thai retail banking sector,three policy actions should be taken: (1) a clear financialsector master plan that includes a meaningful role for foreignbanks should be developed, (2) existing banking regulationsshould be clarified and streamlined, and (3) approval of newsupporting legislation such as the Credit Bureau Act and acomprehensive electronic commerce law1 should be acceler-ated.

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In response to the regional financial crisis that began in 1997, theThai government has introduced a number of liberalization

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measures aimed at reviving the banking sector. Foreign banks,for example, were permitted to own a majority stake in selectedlocal banks for a period of 10 years. Consequently, four so-called ‘hybrid’ banks have emerged in which foreign banks holdmore than 50% equity stakes: Bank of Asia, DBS Thai Danu,Standard Chartered Nakornthorn, and UOB Radanasin (Exhibit1). All four of these relatively small banks had been previously

taken over by the public sector-as they had become insolventduring the crisis-and were then sold off to foreign bidders. Thiscreation of hybrid banks represents the most visible increase inforeign participation in the Thai banking sector since the onset ofthe financial crisis. At the same time, large Thai banks havesecured substantial equity injections from international investorsthrough private placements, but none has taken in a foreignbanking partner as a strategic investor.

Beyond these changes in ownership, though, the Thai bankingsector has not experienced significant structural change since thecrisis. It continues to be dominated by large incumbents thatbenefit from strong consumer loyalty (Exhibit 2). Given themodest structural change in the industry, there has been limited

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sense of urgency among Thai banks to improve efficiency andproductivity. Foreign and ‘hybrid’ banks have, however, startedto successfully cherry-pick high-value customers, steadily increas-ing their market share in the more profitable customer segmentsand in products that allow more rapid market penetration (e.g.credit cards). Over time, this trend could put more and morepressure on Thai banks to further address productivity issues.

Thai consumers are still underutilizing key retail banking prod-ucts: payment transactions, deposits, and loans (Exhibit 3). Thenumber of deposits per capita in Thailand, for example, is lessthan half of the Korean level, and the number of payments is lessthan a quarter of the comparable Korean figure. The number ofloans per head is about the same level as in India, which has asubstantially lower GDP per capita.

Furthermore, Thai consumers tend to use mainly the basic (andtherefore less value added) banking products and services. Some80% of household savings in Thailand are in the form of low-yield bank deposits, compared to 64% in Korea and 20% in theUS where a significant share of savings is channeled into equityand bond markets (Exhibit 4).

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The following section presents our key findings on productivityin the retail banking sector. While improving productivity inretail operations may not currently sit atop the agenda of manyThai bankers–given the continued financial concerns they face–we have found that there is substantial room for efficiency im-provements in Thai retail banking if properly addressed.

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Our research benchmarked labor productivity of Thai retailbanks against banks in both emerging and developed economies.Seven out of Thailand’s 16 banks with retail operations partici-pated in our survey by providing us with information to calculateand interpret their productivity performance, including fourprivate banks and three public-sector banks.

We found the overall productivity of Thai banks to be about halfof the US level. Productivity turned out to be especially low inthe area of loans–the average number of loans processed per hourof labor by a typical Thai bank is only about 13% of that in theUS (Exhibit 5). The number of payment transactions processed

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per hour is about half of the US level2. In the area of deposits,the productivity difference is less pronounced, although this maybe the result of Thai banks carrying a larger share of inactiveaccounts (which would be included in our output measure).Thai public-sector banks consistently scored lower than Thaiprivate banks in terms of overall productivity.

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Our research identified five key operational factors that restrainproductivity in Thai retail banking:

Cash-based payments and branch-oriented channel mix:Thai banks still exhibit a high proportion of cash-basedtransactions, which account for almost 40% of all paymenttransactions (compared to only 3% in the US, Exhibit 6).Cash transactions tend to be more labor-intensive thanother forms of payments, in particular electronic paymentsystems (e.g. through ATMs or Internet banking). The

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slow up-take of electronic payments-other than the use ofATMs-can be partially attributed to pricing distortions inThai payment services. Recent research by the ThailandDevelopment and Research Institute (TDRI) revealed thatThai banks have been subsidizing off-line payment services(especially checks) by charging high fees for electronicpayments.

Also, most Thai banks have yet to develop fully functioningcall centers that could transfer branch traffic to a moreefficient phone-based system. Hence, transactions such asfunds transfers and account inquiries, which could easily behandled by call centers, continue to be serviced by banktellers in traditional branches.

Interestingly, Thai consumers are extremely reluctant to usenon-branch channels, compared to other Asian retail bank-ing customers (Exhibit 7). Less than 20% of Thai custom-

ers are willing to forego the branch as the main conduit fortheir banking operations, compared to more than 40% ofcustomers in other Asian countries. Also, the percentage ofcustomers open to new, lower-cost technologies like

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Internet banking is markedly lower in Thailand than in therest of Asia.

Inefficient branch design and organization: As noted, thebranch will continue to be the primary point of contact forThai retail banking customers in the foreseeable future.Nonetheless, most Thai banks are not yet capturing theefficiencies offered by modern forms of branch organizationand management (Exhibit 8). Branches tend to be over-

staffed, with the average number of employees per branchfar exceeding the staff levels in international best-practicebranches. With a few exceptions, the majority of Thaibanks continue to perform back-office functions withineach branch, rather than through centralized back-officecenters. Likewise, workflow and customer interfaces areoften complex and inefficient, with multiple windows usedfor passbook updates, check acceptances, etc. In addition,public sector banks and the large private banks continue tooperate a high proportion of low-margin rural branches inroughly the same branch format.

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Insufficient automation: Banks in Thailand are not yetreaping the full benefits of automating routine operations.In loan processing, for example, productivity is reduced bypaper-based processing, the lack of an efficient credit bu-reau (in the past), and limited use of sophisticated creditscoring systems. As a result, the average turnaround timefor a mortgage approval is on the order of 7-15 days,compared to 5-8 days on average in the US3 (Exhibit 9).

Limited marketing and risk management skills: Skill limita-tions continue to restrain the productivity of domesticincumbent banks. In the area of credit cards, for example,foreign banks have been able to capture significant marketshare due to skill advantages and aggressive promotion.By actively leveraging skills in sales and marketing, productinnovation, and risk management, foreign players havegrown their credit card share from 27% in 1997 to 40% in2000 (Exhibit 10). Active use of customer databases, forexample, has allowed foreign banks to focus marketing

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campaigns on the most attractive customer segments. Theapplication of sophisticated risk management in creditscoring, monitoring, and work-outs allows foreign banks toefficiently and effectively pre-select the lowest-risk customergroups and price accordingly. It can also help to maximizeloan loss recovery.

Sub-scale operations: Hybrid banks, in particular, aredisadvantaged by sub-scale operations, which significantlyaffect their productivity in payment transactions and depos-its. In fact, the labor productivity levels for the hybridbanks included in our research turned out to be signifi-cantly lower than those for larger Thai private and evenpublic banks. Operational improvements can partiallyaddress this structural disadvantage, for example, throughincreased automation or (regional) centralization of backoffice operations. However, the real solution to this struc-tural challenge lies in aggressive growth, which is provingdifficult given the entrenched customer relationships en-joyed by the large incumbent banks.

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The operational deficiencies described above are the result ofseveral industry and regulatory factors, especially constraints onforeign competition, ‘soft’ regulations, delays in passing support-ing banking legislation, excessive government ownership, andThai consumer behavior (Exhibit 11).

Constraints on foreign competition: Thai banks have longenjoyed a significant degree of protection from foreignentry. Even after the post-crisis liberalization, restrictionsremain in place: pure foreign banks, for example, can runonly one branch in the country. New full banking licenseshave not been issued, meaning that foreign banks can makestrategic investments (e.g. hold a controlling stake in aThai bank) only through acquisitions of existing banks. Sofar, the banks made available for foreign acquisition havebeen among the smallest and most troubled ones. In 2000,the four hybrid banks held a combined asset share of lessthan 6%. Their impact on competition has therefore beenlimited so far.

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However, in areas where international competitors-bothbanks and non-bank financial players such as GE Capital-have started to play a substantial role (e.g. in credit cardsor consumer finance) competitive intensity has clearlyincreased. In credit cards, for example, virtually all majorbanks now offer fee waivers in order to remain competitive-thus benefiting Thai consumers.

‘Soft regulations’: A number of unclear and discretionaryregulations reduce the flexibility of bank managers inThailand to take and implement business decisions quicklyand flexibly in response to market needs and opportunities(Exhibit 12). These so-called ‘soft regulations’ concern

areas such as branch openings and closures, as well asoperational issues such as the introduction of new bankingproducts, the pricing of e-banking services, and operatinghours. Introducing innovative products, for example,often requires a months-long approval process that slowsproduct innovation in the Thai banking sector. Branchopenings and closures have traditionally required approvalby the Bank of Thailand. And the regulatory language on

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the pricing of Internet services seems vague and difficult tointerpret.

Delays in passing supporting legislation: While some stepshave been taken to introduce key enabling legislation thatcan support efficiency improvements in retail banking,overall progress in this area has been slow. For example,an important step in streamlining loan approvals is theestablishment of a centralized database of credit histories ofborrowers. While two such institutions were set up re-cently-the Central Credit Information Service and the ThaiCredit Bureau-provisions in the Thai commercial bankinglaw require customer consent before information can bedisclosed to such centralized database providers. In addi-tion, access to the files of law enforcement agencies (e.g.court judgments, tax liens) also requires customer consent.Such practices contrast with the operations in other coun-tries where defaulted borrowers, after a specified period oftime, are automatically reported to the credit bureau.Other pending legislation that could facilitate productivityenhancements in banking includes the Deposit InsuranceBill and a comprehensive electronic commerce law.

Government ownership: Over 40% of domestic bank assetscontinue to be state-owned, representing 50% of totalbanking employment in Thailand. Typically, governmentownership reduces the flexibility of bank management tostreamline their operations and workforce, for example byinvesting in automation technologies. Furthermore, execu-tives of state-owned banks generally are less motivated toenhance productivity, as they tend to lack the financialincentives that encourage private-sector management toincrease efficiency and profits; also, they are generally wellaware that they could rely on the government’s support ifthey were to encounter financial difficulties. Finally, themission and role of state-owned banks tends to be unclearas they are often used to pursue government policies ratherthan seeking to maximize profits. Consequently, it isdifficult for their managers to focus on long-term rational-ization of their business operations.


Our benchmarks appear to confirm the negative impact ofgovernment ownership on productivity: in our study, Thaistate-owned banks have, on average, under-performedprivate-sector banks in terms of their labor productivity.

Thai consumer behavior: A final productivity barrier, whichmay prove particularly hard to overcome, is the ‘stickiness’of Thai consumers: their strong preference for cash-based,branch-centric transactions. To increase usage of lower costchannels, banks will need to be more proactive in educatingtheir customers regarding new products and service chan-nels and encourage behavioral changes that allow banks toserve customers more efficiently.

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What policy changes can be made to improve productivity in theThai retail banking sector? We identified three key areas forpolicy action:

Developing a financial sector master plan: We recommendthat a master plan be developed that provides a clear visionfor the Thai financial sector and actionable guidelines for

policy-makers goingforward. In additionto the plannedprivatizations ofstate-owned banks,this master planshould include a

vision of the desired ‘endgame’ for Thai banking, andshould address issues such as the role of foreign banks, thenumber and role of local players, and targets for efficiencyimprovements.

One important issue is the level of foreign competition inthe banking sector, which currently seems sub-optimal.Allowing a greater degree of foreign entry would helpintroduce international best practices into the domesticbanking sector to the benefit of Thai consumers and theeconomy as a whole. Our research in other countries has

We recommend that a master planbe developed that provides a clearvision for the Thai financial sector.

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shown that increased participation of foreign banks helpsto intensify competition and reduce inefficiencies in thedomestic banking sector. Increasing competition amonglocal banks alone will not achieve the same impact, sincethese banks typically have limited exposure to managerialbest practices and the latest technologies. Product, service,and marketing innovations initiated by foreign banks willalso contribute to further developing Thai consumer behav-ior by, for example, using sophisticated marketing tech-niques to migrate customers to lower-cost channels and/oreducate customers regarding higher value-added products.

Increased foreign participation in Thai banking does notnecessarily mean the take-over of domestic banks by inter-national competitors. Strategic alliances or joint venturesbetween local and foreign players are another way of lever-aging international know-how and increasing competitionin the domestic market-without losing control over domes-tic financial institutions to foreign companies. The creditcard and consumer finance joint venture between Bank ofAyudhya and GE Capital or the consumer finance collabo-ration between Thai Farmers Bank and Cetelem/BNPParibas are recent examples of such Thai-internationalpartnerships in the retail banking sector.

Finally, efficiency can also be enhanced through increasedscale in the Thai banking sector. Hence, options for indus-

try consolidationshould also be con-sidered in drawingup a forward-lookingmaster plan for theThai financial sector.Consolidation canrefer both to the

merger of entire banks or the combination of specific func-tions or services only (for example, establishing joint back-office processing facilities while keeping the banks’ cus-tomer-facing, front-office operations separate).

Ensuring clear and efficient regulations: Current regulationsrequire approval by the Bank of Thailand for a number of

Efficiency can also be enhancedthrough increased scale in the Thaibanking sector.


routine operational decisions, while often leaving too muchscope for interpretation and regulatory discretion. Werecommend a shift away from a conduct-driven regulatoryregime towards a performance-driven approach that re-duces the need for the regulator to get involved in themicro-management of routine banking activities. In addi-tion, the criteria and response time for administering regu-lations should be specified more clearly so as to avoiddelays and reduce managerial uncertainty on the part ofbanks.

Speeding up supporting legislation: Three areas where newlegislation is expected to lead to further advances in pro-ductivity include the establishment of a Credit Bureau Act,which would provide for automatic inclusion of defaultingcreditors in a centralized database, the Deposit InsuranceBill, which will protect retail depositors and allow regula-tors to move to a more output-oriented regulatory regime,and a comprehensive electronic commerce law, whichwould facilitate electronic banking and payment transac-tions.

While the above policy changes can help facilitate and promoteproductivity improvements, the actual efficiency gains will needto be implemented by the banks themselves. In our experience,some of the key levers that Thai banks can pull to systematicallyimprove productivity include the following:

Improving operational set-up: Typically, 15-20% of back-office expenses can be saved by centralizing certain back-office functions and optimizing branch layout andworkflows.

Rationalizing distribution networks: A careful value analy-sis of the branch network can allow banks to streamlinetheir distribution system. Strengthening alternative chan-nels such as phone banking and making customers migrateto such lower-cost channels will help to reduce both operat-ing costs and the customer attrition that will result from theclosure of sub-scale branches.

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Streamlining organizational design: By flattening organiza-tional hierarchies and simplifying structures, totalheadcount can typically be reduced significantly, oftenleading to a 20% reduction in cost. Competitivebenchmarking will help to determine best practices indifferent organizational areas.

Beyond these cost-oriented measures (which focus on bettermanagement of the input side of productivity), our experienceshows that there are also tremendous opportunities for Thaibanks to better leverage existing revenue opportunities (i.e.focusing on the output side of productivity). Potential revenue-enhancing efforts include the following:

Systematically stimulating sales efforts: Disciplined, well-structured programs to generate additional sales by combin-

ing (1) innovativesales approaches (e.g.direct sales, pre-approval of creditcards or consumerloans, etc.), and (2)optimized customer

information, with (3) improved sales tools and support(sales scripts and manuals, on-the-job training, optimizedtime allocation schemes), typically allow revenue increaseson the order of 20-30%, which can be rapidly tested on apilot basis and then systematically rolled out and institu-tionalized across the entire organization.

Enhancing marketing effectiveness: Many banks do notallocate their marketing spend systematically against keycustomer segments and critical customer decision points.Prioritizing and reallocating marketing efforts in the mosteffective way typically leads to significant sales growth.

Applying tactical CRM tools: Tactical Customer Relation-ship Management offers an opportunity to use existingcustomer information–often by aggregating data acrossunlinked databases–to quickly drive revenue and profitabil-ity enhancement (e.g. through targeted cross-selling initia-

Well-structured programs to generateadditional sales can allow revenueincreases on the order of 20-30%.


tives), often leading to substantial revenue increases in ashort period of time.

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We believe that a combination of policy changes and bank-ledimprovements can lead to a rapid and significant increase in theproductivity and efficiency of Thai banks. Such gains will becritical to enabling banks to better fulfill their important interme-diation function in the Thai economy.

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Telecommunications

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Telecommunications

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• Thailand’s telecommunications industry is comparatively smalland underdeveloped. Overall, fixed and mobile line penetra-tion rates are below those in countries at similar levels ofdevelopment (although substantial disparities exist betweenThai urban and upcountry areas).

• Productivity gaps are most pronounced in the fixed line seg-ment, which remains heavily regulated. In mobile, increasedforeign participation has allowed operators to make markedincreases in both penetration and productivity levels.

• At the operational level, low productivity is the result of (1)overstaffing, particularly within the state-owned incumbents,(2) poor operations management, which has forgone manyviable productivity improvements, and (3) ineffective market-ing, which has left many lines unsubscribed and led to slowadoption of value-added services.

• At the industry and regulatory level, the main causes of lowproductivity are (1) the high proportion of government owner-ship, and (2) unclear industry regulations that limit competi-tion among operators and create distortions in industry behav-ior. Regulatory ambiguity results largely from the fact that thegovernment has not established a clear set of policy objectivesfor the sector.

• To help boost productivity in the industry, the governmentshould (1) establish and communicate clear telecom policyobjectives, (2) develop a detailed roadmap for industry deregu-lation, and (3) ensure effective privatization of the state-owned incumbents.


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Thailand’s telecommunications industry is relatively small andunderdeveloped. Its share of GDP as of 1999 was only around1.5%, roughly half the level of several comparable Asian econo-mies (Exhibit 1). The telecommunications industry accounts for

only 0.13% of total employment in Thailand, one of the lowestlevels among Asian economies. Exhibit 2 provides an overviewof the major players in the industry.

Our research focused on fixed-line and wireless (mobile) telecom-munications, as these are the largest segments of the industry. Inthe fixed-line sector, the state-owned incumbent, TelephoneOrganization of Thailand (TOT), has roughly 2.8 million lines inoperation. In the early 1990s, in an effort to increase line pen-etration amidst budgetary constraints, TOT granted revenue-sharing concessions on a Build-Transfer-Operate (BTO) basis totwo private sector operators. Telecom Asia received a concessionto install 2.6 million phone lines in the greater Bangkok area,while Thai Telephone and Telecommunication Plc (TT&T) wasgranted a concession to install 1.5 million lines in the rest of the

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country. As of 2000, Telecom Asia had around 1.5 millionsubscribed lines, while TT&T had 1.2 million subscribed lines,giving each operator roughly 50% market share in its respectivearea of operation.

TOT currently acts as both the industry regulator as well as anoperator. A new regulator (the National TelecommunicationsCommission) is expected to be set up shortly to take over TOT’sregulatory role.

In the mobile sector, two providers currently dominate the mar-ket: Advanced Information Services (AIS) with some 54% marketshare1, and Total Access Communications (TAC) with roughly35% market share. AIS and TAC operate both analog (NMT900and AMP800) and digital (GSM900 and 1800) cellular servicesnationwide. A new operator, WCS Orange, is expected to rollout its digital 2.5G system using the GPRS network at 1800MHz by early 2002. As in the fixed line segment, Thai mobilecompanies operate under revenue-sharing concession schemesbased on a BTO agreement.

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As of 2000, line penetration in both the fixed and wireless sec-tors was substantially below benchmark countries at a compa-rable level of economic development (Exhibit 3). Fixed-linepenetration is only around 10-12% of total population, similarto the level in China (whose PPP-indexed GDP per capita is 30%lower than Thailand’s) and roughly half the level in Malaysia. Inthe wireless sector, penetration is even lower at around 5%,roughly one-third the level of Malaysia or Brazil.

Penetration growth has been slower than in other benchmarkcountries, especially in the area of fixed-line services (Exhibit 4).Growth in fixed-line has been hampered by a lack of new invest-ment after the 1997 financial crisis. Poor network planning hasalso played a role: the subscription rate for Telecom Asia’s in-stalled lines, for example, is only around 58%.

A different growth scenario is observed in wireless. While pre-2001 growth was slowed by the financial difficulties confrontingmost operators, the recent entry of foreign players through strate-gic investments in the major incumbent providers (SingaporeTelecom in AIS; Telenor in TAC; Orange in WCS) has been

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driving network development and rapidly expanding the mobilesubscriber base.

Beyond fixed line and wireless, the other Thai telecom segmentshave seen much slower development. Internet penetration sig-nificantly lags behind other countries: in Thailand only 2% ofhouseholds have Internet access, compared to 7% in Malaysiaand 26% in Singapore. The up-take of other new technologieshas also been slow: the process for awarding 3G mobile licenseshas not begun, and broadband subscribers in the country numberless than 1,000.

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Our research measured labor and capital productivity levels ofThai telecom operators against benchmark countries. The finaloutput measure we use is call minutes. Using this measure nor-malizes differences in economic wealth and fee structures be-tween countries. Labor productivity is thus defined as call min-utes per full-time employee and capital productivity as call min-utes per investment or dollar of capital service.

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Productivity levels in Thailand’s telecommunications sector are30-60% of US levels (depending on the specific data and assump-tions used), with labor productivity at around 35-50% andcapital productivity around 30-60% of comparable data avail-able for the US.

Compared with benchmark countries, Thailand has substantialgaps across all key productivity levers: (1) lines per employee; (2)network utilization; and (3) subscribed lines per unit of invest-ment (Exhibit 5). The number of lines per employee, is only at

64% of the US level2. As Exhibit 6 reveals, the gap is mainly inthe fixed-line segment: mobile operators are actually near USbenchmarks on this metric, although still lagging behind globalbest-practice companies in Europe.

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What explains this overall low level of productivity? We identi-fied three key operational reasons for the low productivity in theThai telecommunications industry:

Overstaffing: As reflected in the number of lines per em-ployee, Thai operators tend to be overstaffed compared toUS and European companies. Overstaffing is particularlypronounced in state-owned companies, which account for67% of total employment in the telecom sector but provideonly 36% of the lines (Exhibit 7). While TOT’s staff levelsare somewhat inflated by its obligation to perform somenetwork and maintenance services for other operators,there is still ample opportunity to redeploy staff to improveefficiency.

Poor operations management: Cost and time overruns, aswell as bureaucratic procurement practices, characterize thestate-owned enterprises (SOEs). Furthermore, private andpublic companies alike have been slow to pursue automa-tion and process improvements.

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Labor productivity could increase substantially if economi-cally viable investments in network fault management wereundertaken. As in other developing countries, the produc-tivity of maintenance personnel, who typically account fora large proportion of the total workforce, can be greatlyenhanced by investing in automation of network faultmanagement. Moreover, these investments can alsostrengthen the quality of service provided to customers,further increasing value added and productivity. AlthoughTOT has put in place a 24-hour problem reporting hotlinefor all networks, it should introduce further improvements,including:

• Automated initial test procedure to localize the fault.

• Automated scheduling system to dispatch maintenancepersonnel to fix the fault.

• Automated escalation procedure to notify senior manage-ment if a problem was not fixed in a reasonable amountof time.

• Automated final test procedure to verify that the fault hasindeed been fixed.

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Other examples of currently viable improvements includeupgrades of maintenance and repair toolkits, and the re-placement of aerial wires with underground cables.

Ineffective marketing in fixed line: Idle phone lines havenot been actively and effectively marketed by TOT topotential subscribers. In addition, the fixed-line companieshave been slow to introduce value-added services, a poten-tial revenue-enhancer for operators, and there has been anoverall lack of ‘telephone promotion’ (e.g., services such astoll-free numbers that encourage telephone utilization3).Finally, high prices for international and long-distance callsreduce the duration and frequency of use.

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The current dynamics of the telecommunications sector are notconducive to competition and productivity, particularly in fixed

line. Although fixed-line deregulationbegan over a decadeago, policy objectivesto guide the sector’sdevelopment haveapparently not beenclearly defined and

prioritized. The absence of clear policy objectives has contrib-uted to a slow-down in investment and penetration growth infixed line over the past five years.

In the mobile segment, competition has intensified recently,following years of dominance by the major incumbents. How-ever, sectoral regulations-particularly the concession terms-continue to limit the potential level of competition and produc-tivity.

The key industry and regulatory constraints to productivity canbe summarized as follows (Exhibit 8).

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Although deregulation began over adecade ago, policy objectives haveapparently not been clearly defined andprioritized.


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Government ownership: Thailand has been slow to em-brace the worldwide trend of privatizing state-ownedtelecommunications providers. While privatization of thesestate-owned entities has been under discussion for manyyears, both TOT and CAT remain part of the state sectorand have not even been corporatized.

The overstaffing and low productivity that characterize thestate-owned incumbents pull down overall productivity inthe Thai telecommunications industry. This trend is ob-served in virtually every economy around the world wherestate-owned telecom operators have not been privatized.

Lack of clear regulatory policies: TOT and CAT act bothas operators and regulators for the telecommunicationsindustry. The dual role creates potential for conflicts ofinterest (Exhibit 9). For example, new services proposed bythe concessionaires require TOT’s approval, as do changesto certain pricing policies. These regulations restrict com-petition and curtail the ability of the concessionaires toincrease their efficiency and productivity.

In addition, regulatory objectives are not clearly defined:the current regulations serve mainly to preserve monopolyprofits of state-owned entities by restricting entry into thefixed-line, Internet, and international call segments. Thispolicy artificially preserves high prices while keeping usage,penetration, and new investment low. For example, since1996 the fixed-line concessionaires have installed no newlines, having already reached the maximum number of linesallowed under their concession terms4 (Exhibit 10).

Poorly-designed concessions: There are a number of weak-nesses with the current design of Thailand’s telecommunica-tions concessions (Exhibit 11). For example, the BTOconcessions granted to TA and TT&T forced the conces-sionaires to complete the build-out of all lines within aspecified time period. This requirement resulted in specula-tive network planning (attempting to anticipate futuredemand), and a significant number of lines were installed in

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real estate developments that were never completed afterthe financial crisis. Consequently, both concessionairesnow have a high proportion of unsubscribed lines.

Another shortcoming of the current concession terms is therequirement to seek TOT’s approval before introducingnew products or modifying pricing policies. Such require-ments restrict concessionaires’ speed and flexibility inexecuting important business decisions.

In the mobile sector, the concessionaires have to share theirgross revenues with the two state-owned enterprises thatissued the concessions, TOT and CAT. This inflates vari-able costs, reducing the incentive to penetrate less profitablebut potentially viable ‘light’ user segments. It also reducesthe incentive for operators to rapidly rollout their network5.Finally, the concessionaires enjoy an effective duopoly forhandset distribution. This has kept handset prices com-paratively high, creating an entry barrier to many new usersand lowering overall penetration in the mobile segment.

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The telecommunications industry is expected to undergo rapidchange over the coming years. As Thailand has committed toabide by WTO rules on telecommunications services by the year2006, a substantial liberalization drive needs to be implemented.This will involve (1) clearly defining policy objectives for thesector, (2) setting up an independent regulatory agency, a frame-work, and a detailed roadmap to pursue these objectives, and (3)effectively privatizing state-owned enterprises in the sector (Ex-hibit 12).

Setting clear policy objectives: Any effective regulatoryregime must be built around clearly defined policy objec-tives. Policy-setting needs to take account of the concernsof various stakeholders such as consumers, operators,

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employees, and the government. Policies should be explicitabout the primary goals of regulation (e.g. achieving thelowest prices for consumers, increasing penetration toaccomplish near-universal service, encouraging the buildingof new infrastructure, and so forth). While policymakersmay support all these goals in principle, they will have tomake implicit or explicit tradeoffs that could affect the costand quality of service and the speed at which improvementsare made.

It is important to acknowledge that objectives may differfor the various telecommunications segments (e.g., fixedline, mobile, broadband, etc.), geographies (Bangkok andupcountry), or even components of the value chain (access/network provider, service provider). Further studies focus-ing on each of these segments are recommended to clearlyand specifically determine an appropriate set of policyobjectives for Thailand.

Setting the regulatory framework: Once the policy objec-tives are clearly defined, a roadmap for developing theregulatory framework should be established (Exhibit 13).

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This will involve defining the terms of reference for a newregulatory agency and regulatory reforms that will addresseach of the five key regulatory levers (Exhibit 14). Theregulator will play a key role in the deregulation process, asit will set the rules for issues such as speed of liberalization,future pricing structure, interconnection arrangements,concession terms, provisions on ensuring equal access andimplementation of the universal service obligation.

Effectively privatizing SOEs: The two major SOEs, TOTand CAT need to be first corporatized and then put on thepath towards privatization. In the privatization process, anumber of objectives need to be carefully weighed: one suchobjective could be to ensure widespread placement of thenewly issued shares amongst the population to promote anequity culture in Thailand. Another could be to ensure thata significant share of the company is bid out to a foreignstrategic investor who would transfer international exper-tise and know-how to the firm. Yet another objectivewould be to maximize total revenues earned by the govern-ment in the process or to ensure that employees get toparticipate in the share placement process. Of course, theseprivatization objectives should be fully aligned with theoverall telecom sector policy objectives.

The future role of the state-owned enterprises needs to becarefully reviewed prior to privatization. TOT currentlyowns most of the backbone of the telecommunications

infrastructure, andmay continue to doso even after liberal-ization. CAT’spotential future role,however, seemslimited given that its

current business position derives largely from its monopolystatus. International call traffic is the easiest segment toattack, and as this market segment will be deregulated,CAT’s operating revenues are likely to shrink dramatically.Policymakers may therefore wish to consider merging thetwo state-owned entities prior to privatization.

The future role of state-ownedenterprises needs to be carefullyreviewed before privatization.

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We recommend that the privatization process aim at creat-ing a level playing field amongst all operators, with thegovernment gradually minimizing its stake in order toreduce potential conflicts of interest.

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Like virtually every country worldwide, Thailand’s telecommuni-cations industry has developed under heavy regulation and with ahigh level of government ownership. Thailand has been com-paratively slow to deregulate telecommunications, and the persis-tence of cumbersome regulations and government ownership arecurrently the major impediment to higher productivity.

Ample international examples are now available of both success-ful and unsuccessful efforts to liberalize telecommunications. Bycarefully studying these examples, Thailand can develop a masterplan for deregulation that maximizes the industry’s productivity

Box 1. Benefits of telecom liberalizationBox 1. Benefits of telecom liberalizationBox 1. Benefits of telecom liberalizationBox 1. Benefits of telecom liberalizationBox 1. Benefits of telecom liberalization

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and benefits consumers and telecom operators alike (see Box 1).Given the need to comply with WTO regulations, as well as thestrategic importance of telecommunications to the broadereconomy, we believe that telecom regulatory reform should beamong the government’s highest policy priorities.

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• Large-scale production facilities, advanced technology, and theadoption of managerial best practices have allowed Thailand’scement industry to achieve relatively high labor productivity:around 70% of the US level. However, the industry could stillreach higher levels of performance.

• The primary factor constraining productivity in the Thaicement industry is the low level of capacity utilization: 70%versus 95% for the US benchmark. Excess capacity is thelegacy of speculative overbuilding during the 1990s propertyboom and the sharp decline in construction during the eco-nomic crisis. Industry consolidation has not occurred as aseries of industry-wide price increases have allowed cementproducers to remain viable despite low utilization. Failure toquickly resolve the TPI bankruptcy case has also postponedconsolidation.

• Another area where the industry could substantially enhanceperformance is the optimized usage of fuels in cement produc-tion. Coal, coke and oil still account for 98% of fuels used tomanufacture cement in Thailand, while the use of lower-costalternative fuels remains rare.

• At this point, the most effective way to further enhance pro-ductivity of the Thai cement industry will be to reduce excesscapacity. To do this, the government should (1) dismantlebarriers to industry consolidation, and (2) fully liberalize theimport of cement and cement products in order to furtherincrease competitive pressure in the industry. In addition, thegovernment should also seek to facilitate a more liquid marketfor low-cost, alternative fuels such as recycled oil or driedsludge.


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The cement sector accounts for 0.7% of Thailand’s GDP and0.04% of total employment. While the industry is an importanteconomic contributor, it is substantially smaller than Malaysia’scement industry, for example, which contributes 1.2% of GDPand 0.17% of employment (Exhibit 1). Eight cement plantsoperate in Thailand, employing roughly 11,000 full-time work-ers.

The Thai cement industry is structurally an oligopoly, with thethree largest players controlling 84% of total capacity. Furtherconsolidation may be imminent, as one of the major playersappears to be poised for a buy-out.

Thai cement producers are still feeling the fallout from the eco-nomic crisis, during which many infrastructure and propertyprojects were rescheduled or cancelled. The capacity utilizationof cement producers plummeted from 107% in 1996 to 57% in1998, before recovering slightly to 69% in 2000 (Exhibit 2).There is a considerable disparity in utilization levels across com-

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panies, with some players achieving utilization as high as 85%and others operating below 25% of capacity.

The slight recovery in utilization since 1998 has been drivenmainly by an increase in exports, as domestic consumptioncontinued to stagnate. Exports now account for 32% of capac-ity utilization versus 12% before the crisis (Exhibit 3). However,the prospects for further exports may be limited: other SoutheastAsian countries have excess capacity and are seeking exportopportunities as well (Exhibit 4). Aggregate excess clinker capac-ity in the region is now around 70 million tons, or approximately3.5 times Thailand’s cement consumption in 2000.

Domestic consumption of cement is currently dominated by thepublic sector. Civil projects now account for more than 70% ofconstruction in Thailand versus roughly 40% in pre-crisis years(Exhibit 5). The larger share of public sector projects reflects thedecline in private sector construction since the onset of the eco-nomic crisis. Private construction now stands at just 20% of1996 peak levels.

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Two performance measures were analyzed in the cement casestudy: labor productivity and energy efficiency. These representthe two largest cost components in cement production, contribut-ing roughly 10% and 60% of total cash cost respectively. Laborproductivity is defined as tons of cement per employee1. Energyefficiency is measured as energy cost in US dollars per ton ofcement produced.

Of all the Thai industries we surveyed in this study, the cementsector has achieved the highest level of labor productivity: 68%of the US and more than twice the level in Malaysia (Exhibit 6).Energy efficiency is also comparatively high: energy costs per unitof cement produced in Thailand are almost 25% lower thanthose in the US (Exhibit 7)2.

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The comparatively high level of productivity can be attributed toThailand’s relatively large-scale production facilities, as well assuccess in introducing advanced production technologies andadopting managerial best practices. In addition, while mostcement-producing countries employ both wet-process and dry-process plants, Thailand has only the more efficient dry-processfacilities. A combination of high productivity and low laborcosts has made Thailand’s ex-factory production costs for cementamong the lowest in the world: US$11-15 per ton versus anaverage of $22 for Asia as a whole and $28 for North America(Exhibit 8).

Despite these strengths, several barriers prevent Thailand fromachieving still higher levels of performance in cement production.

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A number of operational issues impede further performance gainsin Thailand’s cement industry.

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Low capacity utilization: The primary factor restrainingproductivity is the low level of capacity utilization (roughly70%) in the industry. We estimate that increasing utiliza-tion to 95% (the US benchmark level) would raiseThailand’s cement industry productivity from the current68% to 83% of US productivity.

Low utilization is the result of overbuilding of industrycapacity during the mid-1990s property boom. During thisperiod, the Thai government apparently encouraged localproducers to aggressively build up capacity to ensure na-tional self-sufficiency. Cement capacity continued to ex-pand until 1998 while consumption had already collapsedfollowing the economic crisis. Capacity has remained flatsince 1998 as no industry consolidation has occurred andno plants have been shut down or meaningfully downsized.

Thai cement producers have not felt financial pressure fullyreflecting the excess capacity situation, as successive pricehikes–following increases in the official price caps (seeexplanation below)–have helped to shore up cement rev-enues despite the drop in sales volumes (Exhibit 9).

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Organizational ‘slack’: Despite both low capacity utiliza-tion and opportunities for further organizational streamlin-ing, Thai cement companies have been slow to shed redun-dant workers. Between 1997 and 2000, total employmentin the industry declined only modestly, while capacityutilization dropped dramatically.

The significant number of redundant workers reduces thesector’s overall labor productivity. We estimate that im-provements in the organization of functions and tasks inThai cement companies could–by reducing excess labor–add another 9% to Thailand’s cement industry productivityvis-à-vis the US level. This would be in addition to the83% level that could be achieved through increased capac-ity utilization, as mentioned above.

Thus, Thailand’s cement industry could reach 92% of theUS labor productivity level–at current Thai factor costs–byoptimizing organization structures and processes andachieving close-to-full capacity utilization.

Limited automation of production processes: Additionalautomation of cement production processes can result in

substantial labor costsavings. AlthoughThai cement produc-ers have introduced anumber of the latesttechnologies, manyimportant processes

are still only partially automated. For example, mostcement packing is done manually–an area where labor costsavings of up to 80% could be achieved through automa-tion. Communications management between subsystems(e.g. kiln operations, energy control, etc.) is also still largelyconducted manually, rather than through integrated com-puter systems.

Implementing additional state-of-the-art automation tech-nologies across the Thai cement industry could potentiallyadd 26% to Thai labor productivity in the cement sector,

Additional automation of cementproduction processes could result insubstantial labor cost savings.


mainly through improvements in sourcing, process monitor-ing and packing. However, it is important to note suchfurther automation may not yet be economically viable forThai cement companies at current factor cost.

High fuel prices: The fuels used for cement production inThailand are comparatively high cost. Coal, coke3 and oilstill account for 98% of fuel used to manufacture cement inThailand, while the use of cheaper alternative fuels likerecycled oil and dried sludge remains rare. By contrast,alternative fuels account for 10% of the fuel mix inMalaysia’s cement industry and 26% in France (Exhibit10).

Alternative fuels remain underutilized in Thailand becauseinformal fuel vendor arrangements hinder the developmentof an efficient and liquid resale market. Furthermore, thecountry’s grey market has historically channeled alternativefuels like recycled oil into industries other than cement. Inaddition, plant employees and neighboring communitieshave often opposed the introduction of alternative fuels dueto (largely unfounded) concerns about harmful environ-mental effects.

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Thailand’s cement industry regulations are generally conducive toproductivity enhancement, as the current industry performanceseems to prove. However, there are a handful of industry andregulatory issues, which–in addition to the needed industryconsolidation that could help to more effectively deal with theexcess capacity problem–could eventually help drive the Thaicement industry towards even higher levels of performance:

Bag-bulk product mix: About 80% of cement in Thailandis still sold in bags, which require on average ten timesmore labor in packing than bulk cement (such as ready-mix). In more mature markets, the bag-bulk ratio is the

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inverse of Thailand’s. In these markets, most cement isdelivered in the form of ready-mixed concrete directly toconstruction sites. Until the ready-mix market developsfurther in Thailand, cement producers will continue to packand sell most of their output in bags (Exhibit 11).

Tariffs and non-tariff barriers to imports: In the past, theThai government used protection against imports to en-courage local producers to build capacity ahead of demandin order to ensure national self-sufficiency. Such barrierscreate an artificial cost advantage for domestic producers.

Pricing practices: The Thai government regulates cementprices, requiring producers to seek authorization beforeraising the price of domestically marketed cement. Sincethe crisis, the large producers have successfully petitionedthe government to raise official price caps several times,despite declining domestic demand. As a consequence, listprices for cement have risen by more than 40% from the1997 levels (Exhibit 12). The officially published ‘listprices’ of the major players have largely converged, suggest-ing a degree of price coordination within the industry. In

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practice, however, cement producers discount these prices inorder to effectively compete for contracts.

If all the above issues could be overcome, we estimate thatThailand’s cement industry could potentially even exceed theproductivity level of the US by roughly 20%. This high level ofproductivity could be possible due the above-mentioned scaleadvantage of Thai producers and their consistent use of moreefficient dry-process facilities (Exhibit 13).

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To help Thailand’s cement industry achieve its full performancepotential, the government should pursue the following policyinitiatives:

Dismantling barriers to effective industry consolidation:The well-publicized, multi-year delays in resolving the high-profile TPI bankruptcy case have contributed to the post-

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ponement of a potential consolidation of the Thai cementsector, which could help to more effectively deal with theissue of industry-wide excess capacity. While takeovernegotiations for the TPI cement subsidiary, the third largestThai cement producer, are now underway, the extended andongoing process delays have clearly shown the need formore effective legislation and resolution of such a bank-

ruptcy case. Inaddition to establish-ing the legal frame-work for more rap-idly processingbankruptcy cases, thegovernment also

needs to ensure that a potentially more concentrated indus-try will not engage in anti-competitive conduct with nega-tive implications for the Thai consumer.

Creating a free import-export market for cement and ce-ment products: As a mature sector that has had decades todevelop, the Thai cement industry does not require specialprotection. The government should fully liberalize cementimports in order to ensure a certain level of competitivepressure within the industry. This would entail the removalof tariffs and non-tariff barriers to cement trade. Withthese barriers dismantled, import parity price levels wouldserve as an ultimate ‘natural’ price cap for the industry4.

Promoting the use of low cost alternative fuels: The Minis-try of Industry, the Federation of Thai Industries, or anequivalent body should help create a more tradable andliquid market for industrial wastes and by-products thatcan be used as low-cost, environmentally friendly fuels incement production.

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Overall, the Thai cement industry has performed comparativelywell by international standards. Still, as outlined above, even in

Overall, the Thai cement industry hasperformed comparatively well byinternational standards.

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the cement sector the Thai government can take additionalmeasures to help further strengthen industry performance.

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• For the last ten years, the Thai beer industry has been undergo-ing a significant structural change that was set in motion bythe entry of Carlsberg in 1989. Competition has intensified,resulting in dramatic shifts in market shares and clearer seg-mentation between mass and premium brands

• Overall sector productivity currently stands at about one-thirdof the US benchmark, largely due to low capacity utilization.The rapid buildup of new capacity, along with aggressivemarketing-including market-distorting product bundlingpractices-by Carlsberg/Beer Thai, has dramatically reducedutilization levels among the major incumbents

• Despite the creation of overcapacity, the entry of Carlsberg/Beer Thai and the resulting competitive dynamics have beenbeneficial to Thai consumers, bringing lower prices and widerproduct variety. As less successful players will reduce capacityor exit the market over time, industry utilization will likelyincrease, enabling productivity to rise

• To help boost productivity, the Government should ensurecontinued competitive pressures in the industry by: (1) morerigorously monitoring and policing anti-competitive behavior,and (2) relaxing import tax and duties on beer

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Asia is an important market for the beer industry, accounting foraround half of all sales growth in emerging markets over the pastdecade (Exhibit 1). Growth in beer consumption has been espe-cially rapid in the Thai market, which has had historical growthrates of around 12% per annum (Exhibit 2). In response to


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growing demand, beer production in the Kingdom more thanquadrupled between 1990 and 2000.

Despite recent growth, per capita consumption of beer in Thai-land still lags significantly behind that of other countries: theaverage Thai consumer drinks 17 liters of beer per year, roughlythe same level as Chinese or Filipino consumers, but substantiallybelow levels in other international markets, including Asiancountries such as South Korea or Japan (Exhibit 3).

The Thai beer industry was born in 1931 when the BhiromBhakdi family opened the Boon Rawd Brewery, the first in thecountry. Its brand, Singha Beer, quickly edged out foreign com-petitors because of its low production cost and the high tariffs onimported brands. The company held a virtual monopoly untilthe mid-1960s when Thai Amarit Brewery (TAB) entered themarket. Even with the entry of TAB, though, Boon Rawd re-mained dominant.

For the last ten years, however, the Thai beer industry has beenundergoing a significant structural change that began with theentry of Carlsberg in 1989. Since then, competition has in-


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creased, resulting in dramatic shifts in market shares and clearersegmentation and positioning of mass brands vis-à-vis premiumbrands.

In 1989 Carlsberg was granted a joint-venture brewing licensewith the Charoen Group. The jointly owned Beer Thai startedproduction in 1993 with a combined capacity of 200 millionliters and introduced the low-priced Chang beer brand in thesame year. Chang quickly captured significant market share andwithin five years accounted for about half of the country’s totalbeer market. The former leader, Singha, which in 1995 had adominant 86% market share, lost more than half of its share tothe new entrant (Exhibit 4). By 1999, four players accounted forvirtually the entire national production capacity1 (Exhibit 5).Market share is even more concentrated than production capac-ity: Carlsberg/Beer Thai and Boon Rawd currently control over90% of total market share, while imports contribute a mere0.1% of the national beer supply.

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As a result of Carlsberg’s/Beer Thai’s entry into the market,consumer tastes have become more varied, with low-pricedbrands such as Chang and Boon Rawd’s Leo catering to masscustomer segments while several premium brands target moreaffluent consumers. Market segments are now clearly delineatedacross the different brands and price ranges (Exhibit 6).

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Labor productivity in the Thai beer industry (defined as litersproduced per employee) stands at around 32% of the US level(Exhibit 7). Low sector productivity is attributable mainly to

low capacity utilization. The industry previously ran at close tofull capacity in the 1980s and early 1990s, but is now operatingat less than 55% of installed capacity. The two key causes ofunderutilization can be summarized as follows:

Capacity displacements by aggressive new entry: With theentry of Carlsberg/Beer Thai and its attacker Chang brand

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into the Thai beer market in 1993, overall industry capacityutilization plummeted from levels of over 100% in the early1990s to a low of 43% in 1997 before recovering slightly.

Carlsberg’s joint-venture partner, the Charoen Group, holdsa virtual monopoly in the domestic whiskey market with an

estimated 95% market share of domestic production.Carlsberg/Beer Thai has been able to exploit this dominantposition in the liquor market by bundling sales of its beerbrand to liquor sales. Distributors seeking to buy liquorfrom the Charoen Group are forced to buy several cases ofChang beer at the same time (Exhibit 8). Distributors, inturn, force bundled sales on retailers. The resulting excesssupply of Chang compels distributors and retailers to offerprice discounts on the brand, allowing it to quickly buildmarket share (Exhibit 9).

Carlsberg’s/Beer Thai’s success in rapidly capturing marketshare–based on advantages gained through product bun-dling–has caused the incumbents’ capacity utilization tosuffer: the industry’s aggregate utilization now stands at

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52%, compared to Carlsberg/Beer Thai’s roughly 80%utilization (Exhibit 10).

Limited exports due to uncompetitive cost structure: Thaibeer producers have to use high-cost imported raw materi-als such as barley, malt, and hops, which are not readilyavailable in the domestic market. As a result, raw materialinputs account for 34% of total beer sales value in Thai-land, compared to only 10-15% in the US and Japan,

respectively (Exhibit 11). These high input costs reducecompetitiveness and export opportunities for Thai-madebeers. Hence, exports account for just 1.5% of total beerproduction in Thailand. Consequently, unlike in otherindustries such as cement2, Thai beer producers cannot relyon export sales to absorb their excess capacity.

By unseating a long-time incumbent, Carlsberg’s entry into thebeer market has increased competitive intensity in the industry ina way that has ultimately benefited consumers. The introductionof the attacker Chang brand has led to the creation of a new,

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lower price segment. As a result, average beer prices have de-clined, selection has increased, and new brands have emerged toserve different market segments.

Nonetheless, Carlsberg’s/Beer Thai’s use of a related industryadvantage (the de facto whiskey monopoly of the CharoenGroup) represents anti-competitive behavior that can ultimatelyprove harmful to industry players and consumers alike. Steps aretherefore needed to move the sector further in the direction oftrue fair competition.

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In order to support greater productivity among beer producers,the government should ensure a high level of competitive pres-sure within the industry. Increased competition will lead toindustry consolidation, which will eliminate much of the currentexcess capacity and will compel less-productive players to boosttheir efficiency or exit the market. Two key policy measuresshould be undertaken: (1) strengthen monitoring of anti-competi-tive behavior, and (2) relax import tax/duties on beer:

Strengthen monitoring of anti-competitive behavior: Anti-competitive practices such as sales bundling and uneco-nomic pricing should be systematically monitored in order

to prevent incum-bents from abusingtheir dominantposition. Currently,the most obvious

example of anti-competitive behavior is the CharoenGroup’s use of its de facto liquor monopoly to compelcustomers to purchase its Chang beer. Complaints againstthese practices have been filed with the Trade CompetitionBoard, but to date no concrete action has been forthcom-ing3. Stronger government policing of the beer sector is

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therefore needed in order to prevent anti-competitive be-havior.

A Trade Competition Law has been discussed to help policeanti-competitive behavior. While the current draft of thelaw has many favorable features, there is a risk, that themarket share threshold proposed under the law could serveto protect sub-scale and inefficient players at the expense ofstronger companies, and could prevent major players fromachieving the scale needed to maximize productivity. If theleading players would not be able to win substantial marketshares, then smaller, less productive players would not beconsolidated or forced to exit the market. Therefore, ratherthan introducing market share caps, the beer industryshould be kept ‘contestable’ (i.e. policy makers shouldensure that entry barriers are kept low). This would com-pel all players to improve productivity or exit the industry.Also, the risk of anti-competitive behavior can be reducedby encouraging the development of strong modern retailtrade and distribution systems, which can increase retailers’bargaining power in relation to beer manufacturers. TheBig C hypermarket chain is a good example: the companyrecently introduced its own beer brand, Champ, which ismanufactured using Thai Amarit Brewery’s productionfacilities.

Relax import tax and duties on beer: The Thai beer indus-try has had several decades to achieve scale and efficiencyand should not be viewed as an ‘infant industry’ that re-quires protective trade barriers. Yet, import tariffs continueto be levied at a high rate of 60-66% of CIF4 prices. Inaddition, foreign companies are not allowed to hold amajority stake in local breweries. Phasing out such tradebarriers over time would encourage domestic players tofurther improve their productivity. Improving productivitywould benefit manufacturers, consumers, and the economyas a whole.

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Beer represents a sector where the competitive dynamics condu-cive to high productivity have begun to take root in Thailand.Carlsberg’s/Beer Thai’s aggressive entry has compelled the majorincumbents to rethink branding and pricing strategies and toaddress operational performance issues. If regulations to policeanti-competitive behavior can now be put in place–and effec-tively enforced–Thailand’s beer industry can enjoy substantialproductivity gains in the future.

�� 133133133133133

Chicken Processing

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Chicken Processing

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• Chicken processing is an important export industry in whichThailand has enjoyed considerable growth over the past de-cade. While Thailand is reputed to be efficient in chickenprocessing, our research showed actual labor productivitylevels to be low compared with international best practices.Thailand’s poultry industry has remained competitive mainlydue to its low labor costs. However, inexpensive processedchicken exports from countries with even lower labor costsuch as China are creating new competition, and Thai produc-ers will need to further increase productivity and move intohigher value-added products in order to fend off this competi-tion.

• Four large poultry integrators in Thailand dominate all seg-ments of the industry value chain–from feed to processing–andare focused on export markets. Domestic sales have thus farbeen protected against competition from imports, allowinglocal players to keep domestic prices of chicken meat relativelyhigh. High meat prices have slowed the development ofdownstream businesses such as further processing.

• Physical and value-added productivity in the industry arecomparatively low: 31% and 21% respectively of the US levelwhen adjusted for product differences. Four key operationalfactors explain these productivity gaps: (1) use of smallchicken breeds yielding less meat per bird; (2) a high propor-tion of labor-intensive special or small cuts; (3) low levels ofautomation in processing plants; and (4) high live broiler costsresulting from high feedstock prices.

• Two industry and regulatory factors contribute to the opera-tional productivity gaps. First, the dominance of the largepoultry integrators and barriers to chicken meat imports limitcompetitive intensity within the industry, reducing the pressure


on companies to further boost efficiency. Second, the highprice of chicken feed inflates costs and squeezes marginsthroughout the poultry value chain.

• To achieve higher productivity in chicken processing, thegovernment should consider two policy changes. First, itshould ease import restrictions on chicken meat. Second, itshould seek to reduce the price of chicken feed, for example,by relaxing import restrictions on raw materials, encouragingresearch aimed at boosting agricultural yields, or facilitatingmore efficient trading of feed inputs.

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Poultry is Thailand’s largest and most important livestock indus-try. Chicken processing accounts for 35% of value-added in theoverall livestock industry, which itself accounts for roughly 1%of national GDP (Exhibit 1).

Industry growth has been driven by rising chicken consumptionboth in Thailand and worldwide. From 1970-1999, consump-tion of poultry in Thailand expanded at an average of 3.1% perannum, while worldwide consumption grew at a yearly average

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of 3.4%. Domestically and globally, growth in chicken con-sumption has outpaced other meat products such as beef andpork (Exhibit 2).

Domestic production of chicken meat in Thailand has expandedsteadily over the past decade, with yearly growth averaging over6% (as measured by volume). Production for domestic con-sumption has grown at a yearly average of 6.3%, slightly fasterthan export-directed production, which grew at an average of5.8% (Exhibit 3).

Such sustained growth has established Thailand as a world leaderin chicken processing: the country produced about one milliontons of chicken meat in 1999 and in 2000, exceeding the vol-umes in more developed countries like Spain or South Africa andbarely trailing economic giants like Japan and France (Exhibit 4).

In line with global trends, Thailand’s poultry industry has experi-enced consolidation and vertical integration and is now domi-nated by a handful of large players. The four largest companies–CP Group, Saha, Betagro, and Laemthong–account for 55% oftotal production (as measured by volume). Globally and inThailand, vertical integration brings a host of benefits to larger

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players. Their scale allows them to invest in breed geneticsresearch that increases the feed conversion ratio of live birds andreduces mortality rates. Several international players have alsobeen able to invest in building successful brands: for example,Purdue and Tyson are well-known processed poultry brandsamong American consumers. Finally, scale advantages and lowercosts enable large players to export within a relatively shortperiod of time after entering the poultry market. In Thailand,such advantages have proven particularly powerful in allowingthe large poultry companies to become dominant throughout thevalue chain, from feed production, where they account for 90%of activity, through to processing, where they control 70% (Ex-hibits 5 and 6).

The majority of chicken processed in Thailand’s licensed chickenslaughterhouses is exported, although an increasing share is soldthrough domestic supermarkets and hypermarkets. Chickenexporters have recently sought to move into ‘further processed’products1 in an effort to increase value added and compete withnew, low-cost producers from China. However, as will be dis-cussed, several barriers have slowed the move into further pro-cessing activities.

Japan is Thailand’s largest export market for chicken products,accounting for over half of poultry exports. Although the vol-ume of exports to Japan has remained constant, Thailand islosing market share as cheaper products from China are intro-duced. Thailand’s other major poultry market is the EuropeanUnion (EU), where exports grew by an average of 35% perannum from 1995-2000. However, in order to remain competi-tive in both of these markets, Thailand will need to increase itsshare of ‘further processed’ chicken products, which are lesssubject to commoditization in the marketplace (Exhibits 7 and8).

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Thailand’s domestic poultry market does not experience the samecompetitive intensity as the international market. Domesticchicken meat sales are protected against competition from im-ports, allowing local players to keep prices relatively high andcontrol the development of downstream businesses such as fur-ther processing and food processing.

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In this case study, we focus on productivity levels of the ‘process-ing’ stage of the poultry value chain and exclude other activitiessuch as breeding, farming, and further processing. We analyzephysical productivity (measured as tons of chickens processed perhour of labor) of Thai poultry companies compared to US pro-cessors. Because chicken products are not a commodity, we alsoanalyze value-added productivity (measured as value added perhour of labor) in order to account for product/quality differ-ences.

Our research team surveyed seven out of the total 19 modernchicken processors in Thailand. Our analysis included company-level research to pinpoint productivity barriers at the operational

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level. We also interviewed senior industry executives to test,confirm, and refine the findings of our research.

Although Thailand is reputed to be efficient in chicken process-ing, our research revealed substantial productivity gaps vis-à-visbenchmark countries. Physical productivity in Thailand is just31% of the US level, and value-added productivity is lower stillat 21% of US levels. Both of these figures adjust for productdifferences, i.e. special and small cuts provided by Thai proces-sors (Exhibit 9).

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Four operational issues underlie these productivity gaps (Exhibit10):

High proportion of special or small cuts: Due to labor-costand skill advantages, Thailand has been serving a specialniche, predominantly Japanese food companies that de-mand tailored products in specific shapes and sizes. Thesespecial cuts are labor-intensive to prepare and thereforereduce physical labor productivity. We estimate that theyreduce the overall productivity level of the Thai poultry

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industry by some 13%. Automating the respective pro-cesses is unlikely to be feasible given the high level ofcustomization and the delicacies required for special retailcuts.

Use of smaller chicken breeds: Thai chickens are generallysmaller in size than US breeds: on average, 1.6 kg per livebird versus 2.1 kg in the US. Recently, though, local pro-cessors have begun switching to a breed similar to thoseused in the US. This new breed yields 40% more meat perlive bird, and is expected to reduce the productivity gaparising from breed selection (Exhibit 11).

Low levels of automation: In Thai chicken plants manyprocesses continue to be performed manually. A mid-sizeThai plant has on average five times more employees than asimilar operation in the US (2,500 vs. 500 employees,respectively). Low labor costs have allowed Thai producersto remain cost competitive despite limited levels of automa-tion. Moreover, the desire to preserve internal chickenorgans, which in Thailand are saleable as by-products, addsroughly 300 employees to the workforce per plant.

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While some forms of automation may not be viable atcurrent factor costs, especially for smaller and medium-sized companies, our interviews revealed that rising laborcosts are now prompting many companies to consider moreinvestments in automation. For example, many companiesare exploring ways to automate the evisceration processbecause the additional income from organ by-products nolonger justifies the large number of additional staff re-quired. The move towards automation is, however, stilllimited to the larger producer-exporters (Exhibit 12).

Low margins especially due to high feedstock prices: Thaicompanies are currently earning low margins on sales ofprocessed poultry. One reason is the high domestic price ofchicken feed, which inflates costs and squeezes marginsthroughout the poultry value chain. In addition, prices ofThai chicken exports have been depressed in the majoroverseas markets. Even on special cut chicken parts, whichare significantly more labor intensive, Thailand is earningonly a slight premium over China and the US (Exhibit 13).

Despite these productivity gaps, low labor costs have allowedThai chicken exports to remain competitive compared to the USand several other major producers. The cost of broilers exported

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from Thailand is US$0.59/kg, only slightly higher than the UScost of US$0.54 (1999 figures). In effect, Thailand’s low laborcosts subsidize the inefficiencies in the industry (Exhibit 14). Asnoted, however, competing on labor costs is not a sustainableproposition. As labor costs in Thailand continue to rise and newlower-cost producers emerge, Thai chicken processors will needto more aggressively address productivity issues in order toremain internationally competitive.

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Two external factors contribute to the operational productivitybarriers described above: (1) barriers to competition and (2)protectionism of upstream industries.

Barriers to competition: Due to the limited competitivepressure in the domestic poultry industry, Thai companieshave been slow to address many productivity issues, such asthe need to increase automation and to move into highervalue-added products. Competition is limited by both thedominance of a small number of large poultry integratorsand barriers to chicken meat imports.

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Dominance of large integrators: As noted, four largeintegrators account for over half of all poultry pro-duction in Thailand. These integrators sell primarilyinto export markets, where they enjoy a competitiveadvantage due to Thailand’s low labor costs and itseffectiveness in producing premium and small cuts.These advantages have allowed the large integratorsto remain internationally competitive without needingto further boost productivity.

The scale achieved from years of export sales hasallowed these integrators to dominate domesticchicken production. They now hold significant mar-ket share in most stages in the poultry value chain (upto and including slaughter). This limits the level ofcompetition across the industry, reducing the pressureto enhance productivity. Although independentprocessors continue to operate, their presence has notsubstantially increased competition in the industry.Almost all independents purchase their chicks fromone of the integrators. Consequently, there is verylittle differentiation in the types and quality of prod-ucts these independents can offer. This situation

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could change dramatically if imports of chickenproducts were liberalized.

High domestic meat prices impeding the move intohigher value-added products: As noted, the high priceof chicken feed, combined with other inefficiencies,inflates the domestic price of chicken meat in Thai-land. At the same time, tariff and non-tariff barriersto chicken meat imports prevent cheaper foreignproducts from driving down domestic prices (Exhibit15). The high price of chicken meat in turn limits the

prospects for moving more aggressively into highervalue-added activities such as further processing2.

To date, only a handful of further processing plantshave been established in Thailand. However, themove into further processing is becoming increasinglyimportant as Chinese exports pose a rising threat toexisting Thai poultry exports. China enjoys a moreproductive upstream industry–largely due to the lower

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feed prices that result from a large domestic cornsupply–as well as lower labor costs. As noted, Chi-nese chicken exports have been gaining market sharein Japan, threatening Thailand’s principal overseasmarket. Assuming Chinese producers can overcomecertain quality and hygiene issues, they are also ex-pected to begin exporting extensively to EU countriesin the near future (Exhibit 16).

In further processing, though, Thai workers are highlyskilled vis-à-vis their labor cost (Exhibit 17). Thai-land is therefore able to enjoy a sustainable competi-tive advantage in these products, assuming barrierssuch as high chicken meat cost can be eliminated.

Protectionism and high prices in upstream activities: Thehigh price of chicken feed inputs–which sit at the very frontof the poultry value chain–reduces the potential margins ofvirtually all poultry processing activities. Feed prices arehigh because corn and soybean–the two principal inputs forchicken feed–are expensive in Thailand by internationalstandards. In 2000, for example, Thailand’s wholesaleprice for corn was about 75% higher than the respective USwholesale price (Exhibit 18). Thailand lacks a large domes-

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tic corn belt, and import tariffs on corn prevent cheaperimports from pushing down domestic prices. Under aWTO agreement, Thailand can import up to 53,000 tons ofcorn yearly at an import tariff of 20%. For the last fouryears, however, import volumes have substantially exceededthe quota, and all imports beyond the quota incur a tariffof 76%, as dictated by the WTO agreement.

Tariffs on soybeans are much lower (5%), and consequentlythe volume of imports is several times higher than cornimports. However, domestic soybean prices remain com-paratively high because a government quota system requiresall companies buying imported soybeans to also purchase acertain amount of domestic soybeans from local suppliers(at domestic prices). Consequently, soybean prices inThailand remain roughly 40% more expensive than prices

on the Chicago futures market. Exhibit 19 summarizes theprotectionist measures imposed on feed raw materialsimports in Thailand.

A final factor pushing up feed prices is the dominance ofthe large integrators, which account for 90% of feed pro-duction. These companies hold considerable influence over

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pricing and are able to keep domestic prices high. Mostindependent contract farmers have formal or informal tiesto one of the integrators, from whom they agree to buyfeed. Such ties further reduce the level of competition inthe feed market, making it unlikely that prices will declinein the near future.

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Several regulatory changes could help to further enhance theproductivity in Thailand’s chicken processing industry. Thesechanges would need to focus on both upstream and downstreambarriers to productivity.

The primary upstream objective should be to reduce the cost ofchicken feed. As noted, the high cost of feed inflates pricesthroughout the value chain, reducing poultry producers’ marginsand rendering many activities economically unviable. To addressthis situation, the following steps should be taken.

Removing import barriers and local protection on feed rawmaterials: Such liberalization will reduce the domesticprices of feed products and in turn drive down costs inalmost all poultry processing activities. Of the three rawmaterials, soybean imports may be the most difficult toliberalize. In addition to official tariffs, soybean importsare subject to several non-tariff barriers including the quotarequirement to buy a matching amount of domestic prod-uct for all imports.

Encouraging private investments in R&D efforts to im-prove agricultural yield of feed raw materials: Expandingthe domestic supply of feed inputs will naturally lead tolower prices. Further studies are recommended to under-stand agricultural productivity performance and identifyopportunities to increase yields of feed raw materials.

Establishing trading infrastructure: Improved trading infra-structure-such as on-line marketplaces, risk managementsystems, and logistics networks-can enhance the efficiencyof procurement and trade of feed raw materials. Such

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infrastructure can increase bargaining power of purchasersand reduce the transaction costs associated with purchasingfeed inputs.

Downstream objectives should focus on increasing the viabilityof further processing activities by reducing the cost of basicchicken meat.

Removing import barriers on chicken meat and parts: Asdiscussed, further processing–the highest value-added aspectof chicken processing–has not yet sufficiently taken off in

Thailand becauseimport barriers helpkeep the cost of basicchicken meat at arelatively high level.Reducing or elimi-nating these barrierswill allow cheaperchicken meat to be

imported, making further processing economically viableand encouraging investment in such activities.

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Thailand has enjoyed a long history of success in chicken process-ing–building a competitive export industry while supplying agrowing domestic market. However, Thailand’s competitivenessremains tied to relatively low labor costs, which are fast disap-pearing. To remain competitive, Thailand must eliminate thebarriers that currently prevent poultry companies from becomingmore productive and moving into higher value-added activitiessuch as further processing. If these barriers can be dismantled,Thai poultry processors can look forward to many years ofcontinued growth and successful development.

Downstream objectives should focuson increasing the viability of ‘furtherprocessing’ by reducing the cost ofbasic chicken meat.

�� 169169169169169

Computer and Electronics

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Computer and Electronics

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• The computer and electronics industry is an important sectorin the Thai economy–it has experienced rapid growth in recentyears and now accounts for 4% of GDP, 20% of foreign directinvestment and nearly 40% of exports.

• Physical productivity (measured as units per employee) isrelatively close to the levels of competitor countries whenmeasured on a product-to-product basis. However, overallvalue-added productivity remains low by international stan-dards: 8% of the US level and just 11% of Singapore’s value-added productivity.

• The primary reason for these gaps is the low value-addednature of computer and electronics manufacturing in Thai-land. Thai companies have been unable to move ‘up the valuechain’ into more sophisticated products (such as servers) andprocesses (such as research and product design). This hasplaced Thailand on an unsustainable ‘middle ground’ betweenlower-wage countries such as China and higher-skill economiessuch as Singapore and Taiwan.

• Policy recommendations include increasing investment in R&Dand training through public-private partnerships, furtherimproving incentives for FDI, and facilitating collaborativelinkages between industry, government, and academia. Stepsshould also be taken to foster growth of a domestic market forcomputer and electronic goods, which would accelerate thesector’s development. Finally, as a member of ASEAN, Thai-land should help promote regional high-tech clusters by elimi-nating tariffs, creating common technical standards, andpromoting efficient transport links.


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The computer and electronics industry1 accounts for roughly 4%of Thai GDP and about 1% of total employment (Exhibit 1).Yet these statistics understate the sector’s significance for the Thaieconomy: computer and electronics products have becomeThailand’s biggest export category, accounting for almost 40% oftotal exports in 2000 and contributing US$6.2 billion to thecountry’s trade balance (Exhibit 2).

The sector is also a major destination for foreign direct invest-ment into Thailand, representing 20% of FDI inflows in the year2000. Foreign companies have long been attracted by Thailand’sfactor cost advantages and have invested heavily in assemblyoperations in the country. Foreign electronics firms first startedentering Thailand in the 1970s, attracted by low labor costs.Since then, the industry has grown rapidly, expanding at roughly9% per annum over the last decade, outpacing GDP growth

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every year (Exhibit 3). The government has actively encouragedFDI in the sector by lowering import tariffs on production ma-chinery to 5% and on key components to as low as 1%. As aresult, 84% of companies in the computer and electronics sectorare either foreign owned or joint ventures between Thai andforeign companies.

Our research focused on the two most important sub-sectors ofthe computer and electronics industry in Thailand: computers/peripherals (e.g. hard disk drives, printers and monitors) andelectronics parts (e.g. semiconductors and printer circuit boards).These two sub-sectors account for 74% of total exports inThailand’s computer and electronics sector (Exhibit 4).

Within the computers/peripherals sub-sector, we focused on harddisk drives (HDD), which account for 63% of the sub-sector’sexports. Following Singapore, Thailand is the world’s second-largest HDD producer, accounting for almost 20% of totalglobal output (Exhibit 5). Three of the top-five hard disk driveproducers in the world (Seagate, IBM and Fujitsu) have manufac-turing facilities in Thailand. Yet Thai HDD companies have not

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been able to move into higher value-added activities, such asresearch or product development, which continue to be con-ducted offshore (Exhibit 6).

In the electronics parts sub-sector, our research focused on semi-conductors (specifically, integrated circuits or ICs), which ac-count for 50% of exports in the sub-sector. Thailand’s semicon-ductor industry has expanded rapidly over the last 5 years,achieving an average annual growth rate of 18% (Exhibit 7).

Yet, similar to the HDD sector, Thailand has not been able tobuild up skills and capabilities across the entire value chain, andremains focused on lower value-added activities such as assemblyand testing (Exhibit 8). While most assemblers in the country areforeign owned and operated, there have also been home-grownsuccess stories. Companies such as Hana Semiconductor and NSElectronics that specialize in sub-contracting for large electronicsfirms have successfully captured substantial share in the assemblymarket.

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In the computer and electronics sector, we analyzed Thailand’sproductivity level by calculating both value-added productivity atthe sector level and physical productivity for the selected prod-ucts (ICs in the electronic parts sub-sector and hard-disk driveproducts in the computer/peripherals sub-sector). For the physi-cal product-by-product comparisons, we chose as our benchmarkcountries Singapore (for hard disk drives) and Taiwan (for ICassembly), as the US has largely ceased to assemble the compo-nents Thailand specializes in.

With respect to the two selected products, Thailand’s perfor-mance in terms of physical productivity is relatively close to itsAsian competitors, especially in the case of ICs. In IC assembly,Thailand’s productivity is around 90% of that of Taiwan, whileproductivity in hard disk drive assembly is about 65% of thelevel of Singapore. Company interviews confirmed that laborproductivity in these two sub-sectors in Thailand is similar tothat of other Asian economies. This is largely because theseheavily traded sub-sectors are dominated by multinationals thatcan easily switch production from one country to another if

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significant disparities in productivity emerge.

However, an analysis of Thailand’s aggregate value-added pro-ductivity in the computer and electronics sector shows a moredisappointing picture. In fact, Thailand is estimated to be atonly around 8% of the US level, 11% of Singapore, and 30% ofTaiwan in terms of value-added productivity (Exhibit 9). Where

does this difference in relative productivity levels between physi-cal product-by-product comparisons and sector-wide value addedproductivity come from? The answer is Thailand’s low value-added product mix.

Low value-added product mix. Most of the value-added produc-tivity gap can be explained by the low value-added nature of thecomputer and electronics products produced in Thailand (Exhibit10). Thai process value and product value are both compara-tively low, consisting primarily of simple assembly operationsthat exploit the country’s labor cost advantage. UnlikeSingapore, Thailand has so far been unable to move ‘up the valuechain’ toward, for example, semiconductor manufacturing (waferfabrication) or high value-added design competencies.

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Two factors underlie the difficulty Thailand faces in moving upthe value chain:

Shortage of local skills and expertise: As internationaloutsourcing and contract manufacturing in the hi-techindustry have expanded, the skills required to operateworld-class manufacturing facilities are becoming increas-ingly sophisticated. Companies such as Flextronics inSingapore or Taiwan Semiconductor Manufacturing Com-pany have achieved leading global positions in contractmanufacturing. Thailand, however, currently lacks thetechnology, know-how, and human resources to become aleading-edge producer of high value-added electronicsproducts and services. Thailand faces a severe shortage ofsufficiently skilled engineers and workers in the high-techarea who can drive product and process development.Correspondingly, investment in innovation and research inThailand lag behind other countries: Thailand’s nationalR&D expenditure was a low US$3 per capita in 1998,compared to US$9 in Malaysia and US$250-350 in Taiwanand Singapore.

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Rising labor costs dampening new foreign investment:Computer and electronic parts are global industries inwhich a handful of ‘global champions’ dominate certainproducts or various parts of the industry value chain. R&Dand product design and development are generally kept athead offices in the US, Japan, or Taiwan, while labor-intensive functions are outsourced to countries with laboror logistical cost advantages. The rising wage and costdifferentials with countries like China are making Thailandless and less attractive as a manufacturing base for MNCs.Industry wages in China, for example, are less than 50% ofthose in Thailand, while the salary of a Chinese engineer issimilar to that of an assembly operator in Thailand.

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Thailand’s computer and electronics industry, which represents akey export sector for the Kingdom, is at a critical juncture:having lost its ‘natural’ competitive advantage of low labor coststo China, there is now a need to quickly move up the valuechain. While it will be a substantial challenge for Thailand toachieve this step-change, there are several key areas where policyaction can help:

Increasing R&D investments through public-private part-nerships: Government should contribute to developing keyelements of an R&D sector strategy that could help provideindustry players with the skills and insights needed tojointly move into higher-value added products and pro-cesses in the years ahead. Such a strategy would best beundertaken through public-private partnerships in order toensure relevance and effectiveness. A public-private ap-proach would also limit the cost borne by the public sector.

Improving and tailoring incentives for FDI: Thailand’scurrent FDI incentives lag behind those of other countries(Exhibits 11 and 12). For example, tax exemptions inSingapore and Malaysia extend for a period of 10 years,while Thailand offers only 3-8 year exemptions. Also,Thailand lags behind its competitors in tailoring incentives

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to investors’ specific requirements. In line with the need toincrease relevant R&D investments, Thailand should con-sider selectively introducing R&D grants for areas wherereal opportunities to develop a competitive edge are emerg-ing. Finally, intellectual property rights need to be betterdefined and protected in Thailand to attract high-caliberresearch facilities to locate in the country.

Creating better linkages among industry players: DespiteThailand’s long history in HDD production, linkages andcollaboration between the various players involved remainlimited (Exhibit 13). Upstream and downstream sectors

have been slow todevelop, and overallthere has been littleevidence of effectivecollaboration be-tween industry,government, andacademia. Hence,government efforts to

enhance knowledge development should also seek to estab-lish joint research facilities and vocational training pro-grams that share information and cooperate on improvingthe relevant operating environment and infrastructure inThailand (Exhibit 14). Concerted efforts can also be madeto encourage the development of relevant local supplyindustries to sustain and enhance growth in the down-stream sector.

Facilitating growth of the domestic market: A healthy andvibrant home market is important for growing any leading-edge industry: it is generally difficult to remain at the fore-front of product and process development without thedemands of a strong domestic market. Being at the fore-front of technology requires a ‘tech-savvy’ population thathas access to and appetite for the latest products and ser-vices at competitive prices. However, Thailand currently hasone of the lowest penetration rates for PCs and Internetcompared to other countries at similar per capita GDPlevels.

Being at the forefront of technologyrequires a ‘tech-savvy’ populationthat has access to and appetite forthe latest products at competitiveprices.

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This low penetration is at least partly due to import tariffson PCs and related parts2. Thus, import tariffs on keytechnology products should be removed to enable andencourage more Thais to become familiar with moderncomputer technology and to create a broader and deeperdomestic market for computer/electronics producers thatcurrently see Thailand primarily as an ‘export platform’.Also, in order to stimulate domestic demand for PCs andhigh-tech equipment, government could develop a morepro-active strategy for ‘networking’ the Thai economy-bringing more consumers, businesses, and public sectorentities on-line.

Promoting cluster development within ASEAN: ASEANconducts a substantial proportion of global electronicsassembly, accounting for 85% of the world’s HDD assem-bly, for example. As part of ASEAN, Thailand should helpensure that the region integrates more fully in order todefend and enhance this preeminent position. Deeper inte-gration could be promoted by further cutting tariffs, creat-ing common technical standards, and promoting efficienttransport links.

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The computer and electronics sector provides an encouragingexample of Thailand’s ability to become globally competitive in afast-growing high-tech industry. However, Thailand is nowincreasingly ‘squeezed’ between lower cost countries such asChina and more advanced economies such as Singapore andTaiwan. Unless Thailand rapidly improves its competitive posi-tion in areas such as R&D, technical training, public-privatecollaboration and investment incentives, its ability to achievefurther growth–or even sustain current levels–is likely to bethreatened.

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SECTION III

Documents

MGI_Prosperity_through_productivity_in_Thailand_report