In 2016, the automotive industry of Pakistan appeared to be a promising sector to invest in. It was around this time that the government announced its Auto Policy 2016-2021 that entailed incentives for both new entrants in the sector and the existing businesses -- Original Equipment Manufacturers (OEMs). The ban on unregulated import of used vehicles helped them go ahead with investments into their future plans.

After decades of market dominance by Japanese OEM, several new entrants, including Hyundai, Kia Motors, Nissan, Renault, Volkswagon, Isuzu and Master decided to enter the Pakistani auto market with an approximate cumulative investment of around $ 1 billion. At the same time, the existing players also decided to increase their production capacity to increase their share in the auto market whose size was expected to swell to 500,000 units by 2022.

A comparative analysis of regional countries at that time showed that the number of cars per 1000 population was 18 in Pakistan. For Indonesia, this number was 68, Vietnam 23, Philippines 30, Thailand 206 and Malaysia 361. This indicated that there was a lot of potential for growth in Pakistan’s auto market where low production capacity had failed to meet the increasing demand for cars.

People had to buy cars by paying a premium or wait for months to get their orders delivered despite depositing payments in advance. The government hoped that the arrival of new entrants in the market would increase competition, enhance quality and supply of vehicles for customers and, at the same, bring new varieties in the market.

Today, the situation is alarming. Instead for enhancing their capacity, the existing OEMs are decreasing their production, reducing work shifts and laying off their staff due to a sudden fall in sales. The new entrants are also worried because they had based their investments on the projected demand for vehicles in the market, which has come down sharply over the last couple of months. Honda Atlas kept its plant closed for 12 days during July whereas Indus Motors Company brought down production of Toyota cars to five days a week.

The economic slowdown and inflationary pressures on the back of drastic devaluation of the rupee against dollar have adversely impacted purchasing power of the people. Car buyers are further burdened by the federal excise duty on cars. The rate of federal excise duty ranges from 2.5 percent to 7.5 percent, depending on the engine size. The cumulative effect on the prices of vehicles and the auto industry is quite high.

Iqbal Shah, the Toyota Eastern Motors CEO, worries that the sale of cars will drop by up to 70 per cent this year. "Our market is price-elastic. In this scenario, shrinking purchasing power coupled with higher prices due to increase in advance customs duty on all raw materials and imposition of 2.5 to 7.5 percent FED have attributed to reduction in sales." He urges the government to reconsider duties without delay because appreciation of dollar has already caused dent in the auto sector. "An impulsive duty regime will add to the misery," he asserts.

The existing OEMs believe that the imposition of new duties and the FED in the budget will be counter-productive and the government will end up collecting less revenue due to sharp decline in sales. For example, in their view, if 20,000 units were sold per month at an average price of Rs one million and combined applicable taxes of 33 per cent, the government was collecting Rs 6 billion. Now the government intends to increase taxes to around 40 per cent, which could result in sales dropping around 60 percent. This means the government will end up collecting Rs 4 billion monthly only.

The slowdown in auto sales does not only affect OEMs but also brings bad news for a large number people employed in the allied sectors. Termed mother of all industries and employing around 3 million labour directly and indirectly, slowdown in the auto sector will have a multiplier effect. More than 300 vendors will be impacted, people will lose jobs, technology transfer will halt and the government will lose one of its largest taxpayers.

Hussain Kuli Khan, the General Tyre CEO, points out that tyre sales have also dropped recently. He tells TNS that during the last six months farm- tyres sales were affected as sale of new tractors dropped. Now sales of car tyres are also down as car sales have decreased. "This is having a knockdown effect on all OEM vendors," he adds.

The situation for the new entrants is not good either. They entered the market after the announcement of auto policy 2016 – 2021 because Pakistani market was estimated to reach 0.3 million units mark by 2020 and 0.5 million by 2022. Now it is expected that sales of existing players will drop by at least 60 per cent.

In a shrinking market, it is expected that the demand for new entrants’ vehicles will not be close to what they had expected at the time of finalising their investment plans.

New entrants also face challenges, such as frequent policy shifts, rupee disparity and its massive devaluation, new taxes, import duties and high energy costs. In addition to these, high interest rates are increasing input costs, making it less feasible for the consumer to avail auto loans from financial institutions. They face a larger impact of rupee devaluation because they have to import auto parts. Local vendors are supplying auto parts to the existing vendors only and will have to increase their capacity to supply to the new entrants.

Makhdoom Sheikh, a local auto parts manufacturer, however, says though Pakistan has achieved an average of 60 percent deletion level, rupee devaluation does impact local vendors. "It is a myth that dollar appreciation only impacts imported parts, most of the components of raw material are imported even at the vendor level, for instance sheet metal and plastic raisins are the building blocks for locally produced parts and both are imported."

Rizwan Goraya, information secretary of the Jail Road Traders’ Association, Lahore, says car dealers are going through a bad patch and they are unable to cover their monthly expenses. "There are many cases of customers who had secured bank financing for cars but their payment plans were disturbed after sudden appreciation in prices." So, he says, they deferred their financing plans. On the other hand, banks stopped issuing purchase orders.

"Besides, some buyers are following a watch-and-see policy and have deferred their buying plans till the dollar stabilises and certain taxes are abolished," he adds.

Goraya complains that despite a steep fall in their sales and economic slowdown, the government has doubled professional tax on car dealers to Rs 20,000 from the previous Rs 10,000. "This should have been the other way round. The sale of second-hand vehicles parked at showrooms has also come down because their owners have increased the reserve prices," he adds.

In this context, the immediate relief the government can give to the industry is taking back the levy of additional duties in the budget 2019-20 and removal of the ACD and the FED. In the long run, the government can have a tight control on exchange rate and religiously follow the Auto Industry Development Programme 2016-21 to put this sector back on growth path. However, it is yet to be seen whether the government has fiscal space to withdraw these taxes in such testing times and has a solution to the currency value crisis.

The writer can be reached at shahzada.irfan@gmail.com