Revisiting exports and foreign direct investment in vietna

doi: 10.1111/j.1748-3131.2011.01187.x Asian Economic Policy Review (2011) 6, 112–131 Revisiting Exports and Foreign Direct Investment in Vietnam Vo Tri THANH† and Nguyen Anh DUONG Central Institute for Economic Management Since 1986, Vietnam has undertaken various reform measures in the trade and foreign investment area This paper finds significant contributions of world trade, and competitiveness and liberalization effects to Vietnam’s export growth over the period 1997–2008 Vietnam’s exports became more competitive and better complemented the import demand of Vietnam’s trade partners In addition, dynamic comparative advantage became evident in many products, but significant room remains for improving export competitiveness Foreign direct investment (FDI) inflows also increased and helped stimulate Vietnam’s exports FDI inflows have increased in both the short- and long-term, yet are only of a limited magnitude This necessitates more effective measures to enhance the linkages between FDI and domestic enterprises aepr_1187 112 131 Key words: CMS decomposition, export competitiveness, FDI policy reform, spillover impact, trade liberalization JEL codes: F14, F15, F21 Introduction The Doi Moi (Renovation) in 1986 started a period of more fundamental changes in Vietnam, particularly in resource allocation, trade restrictions, and macroeconomic management The Sixth Party Congress in 1986 officially rejected the rationale and legitimacy of the central planning model, and declared Vietnam’s move toward a somewhat mixed market economy, with an emphasis on broadening opportunities and choices for everyone Thus, the Doi Moi started Vietnam’s transformation from a centrally planned economy into a market one with a socialist orientation In such a process, together with establishing and strengthening market institutions and promoting private sector development, Vietnam has embarked on proactive international economic integration Specifically, the country has enhanced economic cooperation with all countries and territories, particularly the major economies Trade in general and exports in particular have been expanded, while foreign investment tended to increase and helped fill the domestic savings–investment gap and the technology gap of an economy at a low development level The paces of export and foreign investment expansion and, accordingly, economic growth, were generally fast in times of deepening economic integration †Correspondence: Vo Tri Thanh, Central Institute for Economic Management, 68 Phan Dinh Phung Street, Ba Dinh District, Ha Noi 10000, Vietnam Email: votrithanh@mpi.gov.vn; votrithanh98@ yahoo.com © 2011 The Authors 112 Asian Economic Policy Review © 2011 Japan Center for Economic Research Vo Tri Thanh and Nguyen Anh Duong Revisiting Exports and FDI in Vietnam This paper attempts to revisit the roles of exports and foreign direct investment (FDI) in Vietnam’s new development context In doing so, the paper starts by reviewing the reforms in trade and foreign investment policies The analysis of Vietnam’s export competitiveness follows using both trade indicators and trade decompositions The paper then investigates the importance of FDI in light of the spillover effect on Vietnam’s enterprises On that basis, the paper draws some conclusions and identifies measures through which the contributions of FDI and exports to Vietnam’s economy can be improved The remainder of the paper is structured as follows Section reviews the reforms Vietnam has made in the trade and foreign investment area over the period 1986–2009 Section discusses Vietnam’s export performance over the past decades, as well as Vietnam’s export competitiveness using different trade indicators and a decomposition via the constant-market-share (CMS) approach Section then analyzes the link between FDI and exports Section 5, finally, summarizes the key findings in the previous sections and recommends key policy measures to enhance the roles of FDI and exports in Vietnam Vietnam’s Reforms in Trade and Foreign Investment, 1986–2009 Despite the ideological change toward Vietnam’s economic model in 1986, bold and effective reform measures only began a couple of years later During 1988 and in early 1989, Vietnam adopted a radical and comprehensive reform package Key measures were undertaken toward domestic reform, seeking to enhance competition and the freedom of choice for all economic units and measures The state-owned enterprises (SOEs) were permitted to have autonomy in production and business activities, independent accounting, and to use revenues to finance expenditures, with no loss of compensation from the State In late 1987, Vietnam abolished controls on domestic trade and enhanced the autonomy of SOEs Since 1989, structural reforms – such as SOE reform, banking reform, and the promotion of private sector development – have also been implemented Until 1996, economic reform focused mainly on agricultural reform, price reform, exchange rate reform (a drastic devaluation of the Vietnamese dong and the unification of exchange rates), budget reform, SOE reform, and private sector development The wide range of areas that underwent reform and the numerous measures undertaken in each area showcased the comprehensiveness of Vietnam’s reform in this period Despite slowing down in 1997–1999 due to impacts of the Asian economic-financial crisis, economic policy reforms got back on track since 2000, with an acceleration of SOE reform and private sector development The legal framework for the market economy has been improved further The Enterprise Law in 2000 enforces the freedom to business, while the later version in 2005 regulates enterprises of all ownership forms in Vietnam Similarly, the Investment Law, which came into effect in July 2006, marked a major step to improving the investment environment, aiming at creating a more level playing field for all The regulations on production factor markets have been gradually improved The Labor Code also went through various amendments thereby enhancing the flexibility of the labor market, promoting production, and improving the people’s lives Similarly, the © 2011 The Authors Asian Economic Policy Review © 2011 Japan Center for Economic Research 113 Revisiting Exports and FDI in Vietnam Vo Tri Thanh and Nguyen Anh Duong Land Law has been revised several times The legal framework for various components of the capital markets, including the securities and bond markets, has also been established and enforced In another aspect, Vietnam attempted to facilitate trade expansion and attract FDI by laying the legal foundations for such activities Entry to foreign trade, previously restricted to SOEs, has been gradually relaxed for the private sector since 1989 In 1998, all enterprises were allowed to trade most goods registered in business licence without export/ import licenses and, since 2001, this right has become available for all legal entities (including enterprises with foreign capital) Nontariff barriers (NTBs) were a key component of Vietnam’s trade policy until the early 1990s and were gradually and significantly replaced by tariffs Vietnam gradually phased out quantitative restrictions on imports, while relaxing foreign exchange control.1 Currently, NTBs are mainly comprised of tariff quotas on a limited range of agricultural products Since 1992, the tariff system has been continually revised and elaborated Tariff rates were originally set for broad products under the 6-digit Harmonized System (HS) classification, and became further particularized to the 8-digit level in 1999 and to 10-digit level in 2006 The number of tariff lines also went up from 2806 in 1992, to 3223 in 1998, 6221 in 1999, 10,648 in 2003, and 11,124 in 2007 The tariff system, however, becomes increasingly complicated as Vietnam engages more deeply into economic integration The simple average tariff rate, on a most-favored-nation’s (MFN’s) basis, initially rose from around 7.5% in 1992 to almost 16.1% in 1999, 18.5% in 2003, before falling to 14.2% in 2007 Imports from other trading partners such as member countries of the Association of South East Asian Nations (ASEAN), China, Korea, and Japan were treated with different tariff rates under different free trade agreements (FTAs) To facilitate FDI inflows, Vietnam promulgated the Law on Foreign Investment in as early as 1987 The Law subsequently underwent four revisions in 1990, 1992, 1996, and 2000 Such revisions were mainly sought to increase the rights of foreign investors, to make the investment environment more favorable, and to narrow the policy gap between foreign and domestic investors The improvements were comprehensive, ranging from registration procedures, the decentralization of investment licensing, land access, trade policy, foreign exchange control, and tax policies These improvements were induced by such factors as the performance of the FDI sector, changes in the awareness of and views toward the FDI sector, competitive pressures in attracting FDI, and international commitments regarding foreign investment The Investment Law in 2005 went even further by establishing a more level investment environment for all investors, while simplifying the registration procedures for foreign investment To further promote trade and FDI, Vietnam also undertook a proactive open-door policy and international economic integration In 1995, Vietnam joined ASEAN and signed the Framework Agreement on cooperation with the European Union (EU) The process was rather slow in the 1997–1999 period due to the Asian monetary-financial crisis The years since 2000 up to now have seen strong investment and trade liberalization as well as deeper integration into the world economy Integration was the most rapid in this period Vietnam signed a bilateral trade agreement (BTA) with the USA in 2000 which © 2011 The Authors 114 Asian Economic Policy Review © 2011 Japan Center for Economic Research Vo Tri Thanh and Nguyen Anh Duong Revisiting Exports and FDI in Vietnam came into effect in 2001 The country also became a member of the World Trade Organization (WTO) as well as a signatory to various FTAs under the ASEAN umbrella, such as those with China, Korea, Japan, Australia and New Zealand, and India Overall, Vietnam has made significant attempts to reform her trade and FDI policies, and to enhance the roles of these factors as drivers of economic growth Such reforms were not separate; instead, they took place in concert with domestic reforms The domestic structural and institutional reforms improved the efficiency and capacity of enterprises, and required trade and FDI reforms to broaden the opportunities for such enterprises Conversely, the trade and FDI reforms together with economic integration, particularly after Vietnam’s accession to the WTO in 2007, reveal further weaknesses of the economy that necessitate bolder domestic reforms That is, analysing trade and FDI policy reforms requires the consideration of their interactions with domestic reforms Looking into actual export and FDI performance and their linkages, the purpose of the following sections can complement such an analysis Analysis of Vietnam’s Exports 3.1 Vietnam’s export performance Together with the domestic reforms and economic integration, Vietnam’s exports grew almost continuously Average export growth reached almost 18.2% p.a in the period 1995–2009, albeit with significant variations in different sub-periods Export growth fell from over 33% in 1996 to nearly 2% in 1998 due to the Asian monetary – financial crisis, and then recovered quickly to 25% in 2000 Again, export growth dropped to below 4% in 2001, after which it accelerated to over 31% in 2004, partly due to the Vietnam – US BTA Over the years 2005–2007, exports grew at a rather stable rate of around 22% per annum Although export growth later went up to 29% in 2008, it dropped sharply to a negative level in 2009 due to the impact of the global financial crisis and economic recession Notably, WTO accession brought about no significant improvement in Vietnam’s export growth (Central Institute for Economic Management [CIEM], 2010) Total export turnover of primary commodities went up continuously from around USD3.7 billion in 1995 to over USD5.0 billion in 1998, and over USD19.2 billion in 2006 After Vietnam’s WTO accession, exports of primary commodities rose further to approximately USD21.7 billion and around USD27.7 billion in 2007 and 2008, respectively Nevertheless, the share of primary commodities in Vietnam’s exports went down almost continuously, from over 67% in 1995 to over 44% in 2008 Key export products in this category are rubber, coffee, crude oil, and coal Meanwhile, exports of processed and purified products exhibited increases in both absolute and relative terms The total turnover of processed and purified products went up from below USD1.7 billion in 1995 to over USD4.3 billion in 1998, and around USD20.6 billion in 2006 Exports of processed or purified products also grew faster after the WTO accession, to reach USD26.9 billion in 2007 and over USD34.6 billion in 2008 The share of this category in Vietnam’s exports rose accordingly from nearly 33% in 1995 to over © 2011 The Authors Asian Economic Policy Review © 2011 Japan Center for Economic Research 115 Revisiting Exports and FDI in Vietnam Vo Tri Thanh and Nguyen Anh Duong 55% in 2008 That is, export growth in Vietnam has been accompanied by a shift in the export structure toward a larger share of products with higher processing content ASEAN, APEC, and the EU are the key groups of trade partners for Vietnam Exports to ASEAN rose from below USD1 billion in 1995 to around USD8.6 billion in 2009 As a group, APEC imported a lot from Vietnam, and such imports rose even faster (from around USD4.0 billion in 1995 to over USD44.2 billion in 2008) than ASEAN’s imports The EU also saw their role in Vietnam’s exports improve, as Vietnam’s exports to the EU went up from below USD0.7 billion in 1995 to almost USD9.4 billion in 2009 By country and territory, the USA, Japan, and China are the three largest markets for Vietnam’s exports in recent years However, the rankings of these countries have changed, reflecting some diversion of Vietnam’s exports In 1995, Japan was the largest importer for Vietnam’s products; yet in 2009, the USA became the largest export market for Vietnam 3.2 Analysis of Vietnam’s trade and export indicators Methodology To deepen our understanding of Vietnam’s exports, this subsection follows the CMS analysis developed by Leamer and Stern (1970) Accordingly, export differences between any two points in time are decomposed into four components: (i) the general change in world exports; (ii) the initial commodity composition of the exporting country; (iii) the initial market distribution of exports; and (iv) an unexplained residual – the competitiveness effect indicating the differences between actual export increase and the hypothetical increase if the exporting country had maintained export shares of each commodity group to each country A couple of trade indicators can be employed to complement the analysis First, the revealed comparative advantage (RCA) index is calculated for each category of Vietnam’s export products, using the following formula: RCAj = (xj/Xt)/(xwj/Xwt) where xij and xwj are the respective values of Vietnam’s exports of product j and world exports of product j at time t; Xit and Xwt are Vietnam’s total exports and world total exports, respectively (both at time t) The index implies export potential in particular products, with a value greater than unity implying a revealed comparative advantage and a value of less than unity implying a revealed comparative disadvantage Second, we compute the trade complementarity (TC) index, showcasing the prospects for exports between Vietnam and her trade partners by matching the structure of Vietnam’s exports with those of her partners’ imports The formula is n TCk = 100 − ∑ i =1 mik − xi , where mik is the share of good i in country k’s imports and xi is the share of good i in Vietnam’s exports A value of zero indicates that none of Vietnam’s exports is imported by the other and a value of 100 indicates Vietnam’s export structure and country k’s import structure exactly match This Section uses relevant trade data from the COMTRADE database The adopted product classification is the Standard International Trade Classification (SITC) at the © 2011 The Authors 116 Asian Economic Policy Review © 2011 Japan Center for Economic Research Vo Tri Thanh and Nguyen Anh Duong Revisiting Exports and FDI in Vietnam 2-digit level The key trade partners of interest are ASEAN, China, South Korea, Japan, the USA, Australia, and New Zealand The period under consideration is from 1997 to 2008 For more accurate results, import flows of all other partners are selected as the proxy for Vietnam’s exports.2 Analytical results Table shows the results of the CMS decomposition of Vietnam’s exports over the period 1997–2008 Throughout this period, Vietnam’s exports increased by over USD56.2 billion According to the CMS decomposition, this increase is explained largely by the world trade effect and the unexplained residual Growth in world trade accounts for almost USD16.8 billion, or nearly 30% of the increase in Vietnam’s exports Simultaneously, the unexplained residual explains around USD37.3 billion, or over 66%, of the increase in Vietnam’s exports The decomposed changes in exports due to product composition and market distribution are negligible, accounting for only around 4% of the export increase in 1997–2008 Theoretically, the unexplained residual reflects the excess of the actual export increase over the hypothetical level if the exporting country had maintained the export shares of each commodity group to each existing partner For a transition economy like Vietnam, however, the unexplained residual also includes the impacts of trade liberalization Together with trade and FDI policy reforms and efforts toward economic integration, Vietnam has gradually gained access to new markets and/or for new products As an example, the Vietnam–USA BTA significantly enhanced the access of Vietnam’s exports to the US market since 2001, leading to the rise of Vietnam’s merchandise exports to the USA from USD1.07 billion in 2001 to USD5.02 billion in 2004 Such access provides new sources of export growth for Vietnam, even if traditional export products fail to better penetrate traditional markets In addition, the liberalization effect helps restore Vietnam’s previously constrained trade and exports to the “norm.” Separating the impact of trade liberalization from the unexplained residual is, however, impossible as it cannot identify “new access” to new markets and/or for new products Thus, as a caveat, the unexplained residual should not be interpreted as solely due to improvements in competitiveness.3 More interesting insights can be drawn from the CMS decomposition results in different subperiods (Table 1) In all subperiods, the export increase was mainly driven by world trade growth and improved competitiveness and liberalization, and the signs of these impacts were all positive The increase in exports explained by competitiveness improvements and liberalization rose from USD3.9 billion in 1997– 2000 to USD6.5 billion in 2001–2004, over USD8.6 billion in 2004–2007, before decreasing to USD6.4 billion in 2007–2008 Meanwhile, the product composition effect was negative in three subperiods: 1997–2000, 2001–2004, and 2004–2007, while being positive in 2007–2008 Conversely, the market distribution effect was only negative in 1997–2000 The relative magnitude of the decomposed impacts also changed Between 1997 and 2000, the share of the world trade effect in the export increase was 32% The figure then © 2011 The Authors Asian Economic Policy Review © 2011 Japan Center for Economic Research 117 Revisiting Exports and FDI in Vietnam 118 Table CMS decomposition results for Vietnam, 1997–2008 2004–2007 2007–2008 1997–2008 Value (million USD) % Value (million USD) % Value (million USD) % Value (million USD) % Value (million USD) % 4861 1575 -464 -166 3916 100.00 32.40 -9.54 -3.42 80.56 13,801 7,381 -1272 1,201 6,491 100.00 53.48 -9.22 8.70 47.03 22,374 13,693 -319 364 8,636 100.00 61.20 -1.43 1.63 38.60 14,868 7,202 695 619 6,353 100.00 48.44 4.67 4.16 42.73 56,265 16,798 -194 2,361 37,300 100.00 29.85 -0.34 4.20 66.29 Vo Tri Thanh and Nguyen Anh Duong 2001–2004 Source: Authors’ calculation from COMTRADE database © 2011 The Authors Asian Economic Policy Review © 2011 Japan Center for Economic Research Change in Vietnam’s export World trade effect Product composition effect Market distribution effect Unexplained residual 1997–2000 Vo Tri Thanh and Nguyen Anh Duong Revisiting Exports and FDI in Vietnam rose to 53% in 2001–2004, and 61% in 2004–2007 Consequently, the world trade effect dominated the competitiveness and liberalization effect Due to the global financial crisis, world trade grew more slowly, and only accounted for 48% of Vietnam’s export increase in 2007–2008 That is, together with trade liberalization and economic integration, Vietnam’s exports have become increasing aligned with world trade The contribution of the competitiveness and liberalization effects to the export increase fell from 81% in 1997–2000 to 47% in 2001–2004 and 39% in 2004–2007, before rising to 43% in 2007–2008 Such a general fall seems understandable since the availability of access to new markets gets smaller along with Vietnam’s expansion of trade relations and deepening of economic integration with more partners This argument is further strengthened by the better alignment of Vietnam’s exports with world trade, leading to the greater role of the latter From this perspective, such a decrease in the contribution of the competitiveness and liberalization effects is less than alarming Instead, it merely reflects the convergence of the residual to the competitiveness effect, with a smaller impact of the liberalization effect The aggregate impact on export increases due to product composition and market distribution also exhibited an interesting pattern In the years 1997–2000, both effects had negative signs, and altogether accounted for almost 13% of the export increase In the subperiods 2001–2004 and 2004–2007, both effects almost canceled each other out Between 2007 and 2008, meanwhile, the impacts of product composition and market distribution are positive and contribute nearly 9% to the export increase This presents a favorable shift in Vietnam’s export structure, as the sources of Vietnam’s export growth became more diversified, which makes the country’s exports less vulnerable to unfavorable developments specific to any single partner or product Interesting insights can also be drawn from the comparison of Vietnam’s decomposed export growth with that of China (Table 2) for the same period 1997–2008 The export increase of China in this period was of a dramatically larger magnitude The unexplained residual, that is, the “competitiveness effect,” made up the largest share (76%) of China’s export increase, which dominates that of the world trade effect (37%) Similar to Vietnam’s case, competitiveness improvements initially (i.e in 1997– 2000) contributed more to China’s export increase, but since 2004 they have been dominated by the world trade effect Unlike Vietnam, China is a big player in world exports; therefore, her alignment with world trade seems to be slower than that of Vietnam The importance of competitiveness improvements in China’s export growth has generally decreased over time The share of the unexplained residual in the export increase rose slightly from 66% in 1997–2000 to 67% in 2001–2004, before falling to 55% in 2004–2007 and 40% in 2007–2008 Meanwhile, the share of the world trade effect increased sharply from 41% in 1997–2000, to 59% in 2004–2007 and to 112% in 2007– 2008 The difference in the export structure of China compared to that of the world caused consecutive decreases in China’s exports Moreover, such decreases got larger over time, even in relative terms, from 4% in 1997–2000 to 12% in 2004–2007 and 54% in 2007–2008 © 2011 The Authors Asian Economic Policy Review © 2011 Japan Center for Economic Research 119 Revisiting Exports and FDI in Vietnam 120 Table CMS decomposition results for China, 1997–2008 2004–2007 2007–2008 1997–2008 Value (billion USD) % Value (billion USD) % Value (billion USD) % Value (billion USD) % Value (billion USD) % 120.90 49.57 -4.16 -4.90 80.39 100.00 41.00 -3.44 -4.05 66.49 413.10 215.19 -52.97 -25.93 276.81 100.00 52.09 -12.82 -6.28 67.01 683.09 404.50 -83.73 -10.34 372.66 100.00 59.22 -12.26 -1.51 54.55 193.20 215.93 -104.78 4.55 77.51 100.00 111.76 -54.23 2.35 40.12 1421.26 528.73 -129.63 -55.08 1077.23 100.00 37.20 -9.12 -3.88 75.79 Vo Tri Thanh and Nguyen Anh Duong 2001–2004 Source: Authors’ calculation from COMTRADE database CMS, constant market share © 2011 The Authors Asian Economic Policy Review © 2011 Japan Center for Economic Research Change in China’s exports World trade effect Product composition effect Market distribution effect Unexplained residual 1997–2000 Vo Tri Thanh and Nguyen Anh Duong Revisiting Exports and FDI in Vietnam Table RCA indices of some export products of Vietnam, 1997–2008 1997 Fish, crustaceans, molluscs, and aquatic invertebrates, and preparations thereof Coffee, tea, cocoa, spices, and manufactures thereof Crude rubber (including synthetic and reclaimed) Leather, leather manufactures, n.e.s., and dressed furskins Furniture, and parts thereof; bedding, mattresses, mattress supports, cushions and similar stuffed furnishings Articles of apparel and clothing accessories Footwear 2004 2007 2008 8.593 10.218 10.105 9.994 11.651 3.622 0.301 2.666 7.662 4.569 0.640 4.880 10.599 5.244 1.196 6.538 9.154 3.814 2.049 6.504 4.328 16.840 5.532 22.104 6.335 19.326 6.539 19.307 Source: Authors’ calculations from COMTRADE database n.e.s., not easily separable; RCA, revealed comparative advantage Such trade indicators as RCAs and TCs further reflect the pattern of Vietnam’s export competitiveness across different product categories and over time Table lists the calculated RCA index for some SITC product categories in the period 1997–2008 Vietnam had comparative advantages mainly in primary, labor- or resource-intensive products Footwear has the largest comparative advantage Other sectors with significant comparative advantages, especially in recent years, include fish, crustaceans, mollusk; coffee, tea, cocoa, spices; articles of apparels and clothing accessories Yet some sectors – including even footwear and rubber – experienced a decline in their comparative advantages Some others – particularly coffee, tea, cocoa, spices, and manufactures thereof; furniture, and parts thereof; bedding, mattresses, mattress supports, cushions, and similar stuffed furnishings; and leather, leather manufactures, and dressed furskins – became significantly more competitive The products with RCA >1 account for the majority of Vietnam’s exports, although their share decreased continuously from over 84% in 1997 to just above 74% in 2008 (Table 4) This reflects the shift in export structure away from labor- and resourceintensive products – those that generate only low value added Even for many products with no comparative advantage (i.e RCA RCA2008 < and RCA2008 > RCA1997 RCA2008 < and RCA2008 < RCA1997 1997 2000 2001 2004 2005 2006 2007 2008 84.10 8.44 7.46 84.04 10.00 5.96 81.29 11.70 7.01 80.81 13.60 5.59 80.73 13.99 5.29 78.48 16.78 4.75 76.02 19.24 4.74 74.33 21.20 4.47 Source: Authors’ calculations from COMTRADE database Unit: Percent RCA, revealed comparative advantage Table TC indices of Vietnam’s exports to some trade partners, 2004–2008 With ASEAN With China With Korea With Japan With Australia–New Zealand With the USA 2004 2005 2006 2007 2008 36.507 29.642 43.659 51.260 37.341 44.125 39.507 30.891 46.464 54.103 39.637 46.458 42.342 34.178 47.939 56.639 43.588 49.385 44.170 35.589 46.562 55.599 45.557 51.783 46.824 41.536 47.407 56.683 49.472 53.220 Source: MUTRAP (2010) and authors’ calculations from COMTRADE database ASEAN, Association of Southeast Asian Nations; TC, the trade complementarity being largest in the case of Japan With all trading partners, the degree of complementarity has been improved almost continuously The pace of improvement was the fastest in the case of China, while being rather slow with Korea Thus, although there persists worrying signs of Vietnam’s capability to penetrate China’s market, Vietnam has made progress in supplying products relevant to China’s import demand With respect to the TC index, the rankings of Vietnam’s East Asian trade partners have been preserved throughout the period 2004–2008, implying little diversion of Vietnam’s exports away from one East Asian partner to another Meanwhile, the TC index of Vietnam’s exports to US imports increased rapidly, and exceeded that of Korea in 2006 As of 2008, the TC index for the USA was only smaller than the TC index for Japan Thus, the expansion in Vietnam’s exports to the USA embodies both trade creation effects due to the impact of the Vietnam–USA BTA and trade diversion effects away from Vietnam’s traditional trade partners Overall, Vietnam has made enormous achievements in terms of exports Export growth has been almost continuous and reached a high average level over the years 1995–2009 Despite the concentration in labor- and/or resource-intensive products, the export structure has shifted toward higher shares of products with higher processing contents Vietnam’s export products also had better penetration of high-income markets © 2011 The Authors 122 Asian Economic Policy Review © 2011 Japan Center for Economic Research Vo Tri Thanh and Nguyen Anh Duong Revisiting Exports and FDI in Vietnam such as the USA, Japan, and Korea Together with Vietnam’s deeper economic integration, world trade growth better induces the expansion of Vietnam’s export More importantly, such exports achieved better competitiveness and complemented more closely to the import demand of Vietnam’s partners Dynamic comparative advantage is evident, as many products were revealed to have a higher comparative advantage, despite their RCA being smaller than unity FDI 4.1 Overview of FDI into Vietnam The period 1988–2009 witnessed different phases of FDI inflows into Vietnam (Figure 1) From 1988 to 1996, FDI to Vietnam increased continuously and rapidly, with newly registered capital reaching a peak of nearly USD8.9 billion in 1996 The number of projects also rose from 37 in 1988 to 415 in 1995, before falling to 372 in 1996 This resulted partly from foreign investors’ expectations of a newly opened economy with a large consumer market, as well as from attempts to penetrate a market in the presence of massive import controls Implemented capital went up in absolute terms but accounted for a decreasing share of registered capital A key reason for this was that this period marked the start of FDI inflows to Vietnam, and foreign investors just wanted to register investment capital, without there being actual disbursements The years 1997–1999 saw a sharp fall in FDI inflows to Vietnam, mainly as a result of the Asian financial crisis and the less attractive investment environment in Vietnam4 relative to other countries in the region Newly registered capital decreased on average by 34% per annum Implemented capital went down more slowly, by 3.5% per annum on average due to the increase in implemented capital in 1997 From 2000 to 2003, FDI inflows into Vietnam were quite stagnant Total registered capital fluctuated in the range of USD2.8 billion–USD3.2 billion New FDI projects went up continuously in number from 391 to 791 Notably, in this period, implemented capital Figure FDI inflows to Vietnam, 1988–2009 Source: General Statistics Office (GSO, 2010) © 2011 The Authors Asian Economic Policy Review © 2011 Japan Center for Economic Research 123 Revisiting Exports and FDI in Vietnam Vo Tri Thanh and Nguyen Anh Duong of FDI projects in Vietnam increased slightly from over USD2.4 billion to over USD2.6 billion Since 2004, FDI inflows into Vietnam began to increase rapidly This could be attributed to the improved investment environment, and the Government’s permission for foreign investors to invest in some previously Government-monopolized industries, for example, electric supply, insurance, banking, and communications (Anh, 2005) In particular, WTO accession in 2007 enhanced Vietnam’s growth prospects, leading to faster surge in FDI inflows The number of new projects rose from 811 in 2004 to 987 in 2006, and over 1500 in 2007 and 2008 Total registered capital increased even more quickly, from over USD4.5 billion in 2004 to above USD12 billion in 2006, before peaking at USD71.7 billion in 2008 Similarly, implemented capital jumped to USD4.1 billion in 2006, and USD11.5 billion in 2008, from about USD2.8 billion in 2004 More importantly, many large FDI projects were present in 2008, amounting to billions of USD in registered capital, which were rare in previous years Due to the negative impact of the global financial crisis, the pace of new FDI registration and the implementation of several FDI projects, particularly large ones, has become significantly slower In 2009, the number of projects was over 1200, while registered capital fell more sharply to over USD23.1 billion Implemented capital decreased more slowly, to USD10 billion in 2009 as compared to USD11.5 billion in 2008 Consequently, the share of FDI in total investment went down to only 25.7% The biggest source of FDI into Vietnam over the period 1988–2009 was South Korea, with total registered capital of almost USD26.9 billion Taiwan, Malaysia, Japan, Singapore, and the USA followed as major providers of FDI to Vietnam, with total registered capital of almost USD22.6 billion, USD17.2 billion, USD17.1 billion, USD16.3 billion, and USD15.4 billion, respectively, in the same period However, registered capital only considers direct registration by foreign enterprises, without caring about the actual origin of their capital Taking this problem into account, the rankings would be dramatically different For example, in the period 1988–June 2006, US-related registered FDI is found to be twice as large as the US-reported figure (STAR Project, Central Institute for Economic Management, and Foreign Investment Agency, 2007) By sector, the majority of FDI projects and registered capital came to industryconstruction, while FDI into agriculture, forestry, and fisheries was rather limited The industry-construction sector accounted for 65% of FDI projects, and 57% of registered capital Meanwhile, agriculture, forestry, and fisheries only attracted 6% of FDI projects and 2% of registered capital The services sector made up 29% of the projects, and 41% of the total registered capital However, the ratio of implemented FDI over registered FDI tended to fall from 63% in 2004 to 34% in 2006, and 16% in 2008 This was partly because some FDI projects were just registered to “book a place” in Vietnam In fact, the ratio between chartered capital and registered capital was only 25.6% in 2008 and much lower than that in the previous years (Thanh & Duong, 2009) Other reasons for the slower FDI implementation include the “bottlenecks” in Vietnam’s economy concerning inadequacy in institutions, infrastructure, and human resources © 2011 The Authors 124 Asian Economic Policy Review © 2011 Japan Center for Economic Research Vo Tri Thanh and Nguyen Anh Duong Revisiting Exports and FDI in Vietnam 4.2 Linkage between FDI and export growth in Vietnam To investigate the link between FDI and export growth in Vietnam, this paper follows the approach of Sharma (2000) Specifically, this paper employs a system of simultaneous equations for the export demand and export supply functions as follows: X d = f ( REER, RelPrice , GDP , other1, ε d ) , (1) X s = g ( RelPrice , FDI , other 2, ε s ) , (2) where: Xd and Xs are the demand and supply of exports, REER is the real effective exchange rate; RelPrice is the price of a unit of exports in terms of domestic products, that is, RelPrice = Price of export product ; Price of domestic product GDP is the gross domestic product of Vietnam’s major trading partners; other1 and other2 are vectors of other explanatory variables (including lags of different variables) for export demand and export supply, respectively; FDI is a measure of FDI inflows to Vietnam; and ed and es are the white noise errors in the functions of export demand and export supply, respectively In this empirical investigation, annual data series are collected for Vietnam over the period 1995–2009 Exports (denoted as EX), implemented capital of FDI (FDI), domestic consumption (DCONS),5 the export price (PEX1), and the consumer price index (CPI) are available from Vietnam’s GSO Another variable of interest is imports of machinery and materials (in million USD, denoted as IM_1), also available from the GSO The GDP of Vietnam’s trading partners is proxied by the indicator of world GDP (WGDP), which can be collected from the International Monetary Fund’s International Financial Statistic database Finally, the real effective exchange rate (REER) is calculated using the exchange rate and consumer price index (CPI) data of 19 trading partners6 of Vietnam (from the International Financial Statistics database) as well as their shares in Vietnam’s trade calculated from Direction of Trade database Due to the unavailability of the producer price index, this paper uses CPI as the price index in the calculation of REER Equations (1) and (2) are then estimated as a system of seemingly unrelated regressions For a more meaningful interpretation of the results, all the variables are in log form The specifications of the equations are also modified to control for serial correlation in the error terms Table presents the estimation results for Vietnam’s export demand equation An increase in the real exchange rate – the product of REER and the relative price of export product in terms of domestic products (i.e PEX1/CPI) – caused a decrease in the demand for Vietnam’s export, although the impact is statistically insignificant Meanwhile, higher world GDP is found to induce larger exports for Vietnam More importantly, the elasticity of Vietnam’s exports to world GDP is rather high, at almost 4.5 That is, an increase in world GDP by 1% leads to a 4.5% increase in Vietnam’s exports The impact of world economic growth is, thus, both statistically and economically significant © 2011 The Authors Asian Economic Policy Review © 2011 Japan Center for Economic Research 125 Revisiting Exports and FDI in Vietnam Vo Tri Thanh and Nguyen Anh Duong Table Estimation results for the export demand equation Constant Log(REER) Log(PEX1/CPI) Log(WGDP) Trend Adjusted R2: 0.9939 Coefficient Std error t-statistic -10.72160 -0.111403 -0.007105 4.478457 0.028197 4.187764 -2.560220 0.111015 -1.003494 0.215031 -0.033042 0.921166 4.861727 0.036205 0.778805 Durbin-Watson statistic: 1.7852 Prob 0.0187 0.3276 0.9740 0.0001 0.4452 Source: Authors’ calculations PEX1/CPI, export price/consumer price index; REER, real effective exchange rate; WGDP, world GDP Table Estimation result of export supply equation Constant Log(PEX1/CPI) Log(FDI) Log(EX(-1)) Adjusted R2: 0.9902 Coefficient Std error t-statistic 0.487933 1.133320 0.141922 0.855949 0.245336 1.988838 0.215856 5.250343 0.055801 2.543364 0.042367 20.20341 Durbin-Watson statistic: 2.2863 Prob 0.0606 0.0000 0.0194 0.0000 Source: Authors’ calculations EX, export; FDI, foreign direct investment; PEX1/CPI, export price/consumer price index The estimated export supply equation is presented in Table An increase in the price of export products relative to domestic ones induces a greater export supply for Vietnam Importantly, FDI has a positive impact on exports In the short-term, a 1% increase in implemented FDI increases exports by almost 0.14% In the long-term, the impact is of an even greater magnitude Specifically, a permanent increase in implemented capital of FDI raises export supply by 0.99%.7 The larger impact in the long-term relative to the short term may reflect some spillover effects of FDI on the exports of other domestic enterprises In addition, these short- and long-term impacts are statistically significant Several explanations can be put forward for the positive impact of FDI on Vietnam’s exports in the period 1995–2009 First, foreign firms establish their production presence in Vietnam to exploit the preferential treatment in the FTAs to which the country is a signatory This impact is, however, far below its potential As an example, the ratio of firms using form D for Common Effective Preferential Tariffs for the ASEAN Free Trade Area preferential treatment in exports to ASEAN was below 20% in 2009 The second impact is more important Together with a greater presence, enterprises with foreign investment (EIFs) have enhanced their linkage and/or competition with domestic firms Accordingly, © 2011 The Authors 126 Asian Economic Policy Review © 2011 Japan Center for Economic Research Vo Tri Thanh and Nguyen Anh Duong Revisiting Exports and FDI in Vietnam Table Estimation result of export supply equation for domestic enterprises Constant Log(PEX1/CPI) Log(FDI) Log(EX(-1)) Adjusted R2: 0.99042 Coefficient Standarad error 1.499114 0.483511 0.253066 0.587834 0.147770 10.14492 0.130063 3.717527 0.033562 7.540228 0.025487 23.06400 Durbin-Watson statistic: 2.5976 t-statistic Prob 0.0000 0.0014 0.0000 0.0000 Source: Authors’ calculations EX, export; FDI, foreign direct investment; PEX1/CPI, export price/consumer price index domestic firms could or had to acquire more advanced technology, including better production know-how, and management skills to improve their competitiveness Also, as argued in Anh (2005), the movement of labor previously working for EIFs to domestic firms has been beneficial to domestic firms, particularly in exports The positive impact of FDI on Vietnam’s exports is not inconsistent with the findings by Anh et al (2008) that FDI has positive backward technological spillovers for the manufacturing sector and positive horizontal spillovers for the service sector To further understand the impact of FDI, the paper repeats the above empirical investigation for the exports of domestic enterprises The estimated export supply equation is presented in Table In the short term, a 1% increase in implemented FDI helps raise the exports of domestic firms by 0.25% This short-term impact is even larger than that for Vietnam’s total exports One explanation of this is that various EIFs in Vietnam mainly supply goods and services to the domestic market and FDI is just a means for foreign enterprises to get over the import barriers in Vietnam In the longer term, the elasticity of domestic enterprises’ exports to implemented capital of FDI is 0.61, or roughly 2.5 times larger than the short-term impact Accordingly, FDI has produced statistically significant positive spillover effects on domestic enterprises, particularly for exports However, the impacts of FDI on Vietnam’s exports as well as the exports of domestic firms are relatively less impressive in terms of their economic significance The respective export increases associated with a 1% increase in FDI are only 0.14% and 0.25% in the short term, and 0.99% and 0.61% even in the long term On the one hand, the limited impacts of FDI on exports could be partly due to the focus of foreign investors on penetrating domestic markets, rather than to produce for export On the other hand, even the spillover impacts of FDI on domestic enterprises are limited Technology transfer from EFIs fail to live up to Vietnam’s expectations, as evidenced by Anh (2005) and more recently by the CIEM (2010) Also, the levels of linkages and knowledge sharing between foreign firms and local suppliers remain small (Giroud, 2007, cited in Hoang, 2009) Among the key reasons for this is the inadequacy of labor skills in Vietnam This analysis has several shortcomings First, although FDI is found to produce significant and positive impacts on the export supply of domestic enterprises, how close © 2011 The Authors Asian Economic Policy Review © 2011 Japan Center for Economic Research 127 Revisiting Exports and FDI in Vietnam Vo Tri Thanh and Nguyen Anh Duong those impacts are to their potential remains unresolved Specifically, whether such an increase in exports is embodied by significantly larger value added remains ambiguous Second, the empirical investigation relies on data over a short time period with only 15 observations This leads to a possible lack of degree of freedoms, thereby undermining the statistical tests of the impact Third, there is a mismatch in terms of coverage between the indicators of world GDP and REER computed from data for only 19 of Vietnam’s trading partners Finally, the composition of world GDP is different from that of the set of partner countries in the REER calculations This problem is, however, less serious than it appears since the selected trade partners of Vietnam already include the major economies in the world Conclusions As elaborated by Thanh (2009), any achievement or issue for Vietnam in the past process of socioeconomic reform and development has been driven by the combination of three key factors, namely: (i) market-oriented reforms, including private sector development; (ii) the opening up of the economy (mostly in terms of trade and FDI) and integrating the economy into the regional and world economy; and (iii) strengthening macroeconomic and social stability International economic integration is thus a critical policy substance but fails to suffice for viable and sustainable economic development That is, Vietnam’s socioeconomic outcomes depend not only on economic integration (more specifically, the promotion of exports and FDI inflows) but also on how the process interacts (and is compatible) with domestic reforms Together with drastic attempts in trade and FDI policy reforms, Vietnam has performed rather well in terms of exports Export growth has been almost continuous, and reached a high average level over the period 1995–2009 Nonetheless, export growth and the associated contribution to economic growth were only high in periods with Vietnam’s rapid economic integration This further confirms the vital role of proactive international economic integration for Vietnam The export structure also exhibited positive shifts, with an increasing share of processed products, although the share of labor- and resourceintensive products still remains high Moreover, Vietnam’s exports varied more closely in line with world trade, and world trade growth is found to significantly induce expansion of exports Vietnam’s export products enjoyed better penetration of high-income markets such as the USA, Japan, and Korea due not only to better market access but also to better competitiveness and higher complementarity of those products to the import demand of Vietnam’s trading partners Dynamic comparative advantage became increasingly evident in several products In addition, FDI inflows help stimulate Vietnam’s exports More importantly, this impact is evident in both the short and long term, with the long-term impact being larger That is, the benefits of FDI to exports prevail long after such inflows take place in Vietnam This indicates some capacity of Vietnam’s enterprises to take advantage of the linkages with EFIs Furthermore, evidence is found for the positive spillover effects of implemented © 2011 The Authors 128 Asian Economic Policy Review © 2011 Japan Center for Economic Research Vo Tri Thanh and Nguyen Anh Duong Revisiting Exports and FDI in Vietnam FDI on the exports of domestic enterprises This confirms that the impacts of FDI have conformed to a certain extent with Vietnam’s expectations in promoting such flows Nevertheless, whether such impacts have been below potential and whether the additional value added from increasing exports is adequate remain uncertain Also, the positive impacts of FDI on Vietnam’s exports are only of small magnitude This is not inconsistent with the findings in various studies of limited spillover impacts of FDI to Vietnam’s enterprises via technology transfer and business linkages Thus, the positive impacts of FDI on exports are only good to the extent that they work in the right direction More effective measures to enhance the linkages between FDI and domestic enterprises are necessary Several implications can be drawn from the analysis in this paper First, the effective implementation of integration commitments in combination with the WTO- and integration-induced market reforms are critical to enhancing confidence in Vietnam’s development potential and economic reforms (CIEM, 2010) In turn, this promotes larger FDI inflows, the development of the business environment, better access to foreign markets, and more effective exploitation of the domestic market Again, institutional reforms contributed significantly to deeper and more effective integration into the regional and world economy reform More importantly, such reforms save Vietnam from the so-called integration failure In fact, the interactions between Doi Moi – especially the renovation of economic institutions – and the implementation of WTO commitments have become more relevant to Vietnam’s development needs This evidences the realization of Vietnam’s viewpoint toward proactive economic integration via actual measures resting on enhanced social consensus Second, international economic integration, in general, and trade and investment liberalization, in particular, are by themselves beneficial They fail nonetheless to suffice for sustainable socioeconomic development in Vietnam In the process, therefore, Vietnam should further reduce transaction costs and services link costs for trade (and exports), either on a unilateral or a multilateral basis Eventually, it is the domestic reforms that contribute most to enhancing export competitiveness and socioeconomic development Trade and investment liberalization just add pressures to and are inclusive in such reforms Third, there remains enormous potential for Vietnam to improve her export competitiveness Vietnam should further exploit the “existing” static comparative advantages via the promotion of traditional exports Simultaneously, the country should deepen efforts to diversify export products and markets Measures should also be undertaken to promote nonprice competitiveness via the improvement of competitiveness and more effective attraction of FDI inflows Only by policies in these directions can Vietnam gradually integrate herself into the value chains and product networks at the regional (East Asian) and global level Finally, Vietnam should go even beyond export and FDI promotion to attain further dynamic comparative advantage Given her current export-led growth paradigm, this is the single most important way for the country to get over the “middle-income trap” and “trade liberalization trap” that policymakers and researchers are so concerned about (see © 2011 The Authors Asian Economic Policy Review © 2011 Japan Center for Economic Research 129 Revisiting Exports and FDI in Vietnam Vo Tri Thanh and Nguyen Anh Duong e.g Ohno, 2009; Nam, 2010; Tho et al., 2010) As such, Vietnam should change its approach to attracting FDI More specifically, such capital inflows must be accompanied by the flows of managerial skills and technology transfers That is, enhancing the link between FDI and exports should not stop merely at attracting FDI into export-oriented sectors Instead, it should go further to strengthening the linkages between FDI and domestic enterprises, to improve capacity of the domestic enterprises to effectively exploit export opportunities from Vietnam’s economic integration Notes The foreign exchange surrender rate was gradually reduced from 50% in 1999 to 0% in 2003 for all economic entities Export data from the General Statistics Office (GSO) take no account of re-export and re-import figures The authors are grateful to Professor Ohno for his comments on this This was due to the removal of some preferential treatment of foreign investment in the revised Law on Foreign Investment in 1996 This is the sum of private consumption and government consumption These countries are Australia, Belgium, China, France, Germany, Hong Kong, Indonesia, Italy, Japan, Korea, Laos, Malaysia, the Netherlands, the Philippines, Singapore, Switzerland, Thailand, the United Kingdom, and the USA As of 2009, these countries accounted for 85% of Vietnam’s total trade b This long-term impact is equal to , where b3 and b4 are estimated coefficients on log(FDI) − b4 and log(EX(–1)), respectively, in the export supply equation References Anh N.N., Thang N., Trung L.D., Ngoc P.Q., Chuc N.D & Nhat N.D (2008) Foreign direct investment in Vietnam: Is there any evidence of technological spillover effects Working Paper Series No 2008/18, Development and Policies Research Center, Vietnam Anh N.T.T (2005) Impact of FDI on Economic Growth in Vietnam Hanoi: Science and Techniques Publishing House (in both Vietnamese and English) Central Institute for Economic Management (CIEM) (2010) Assessing impacts of international economic integration on Vietnam’s economy after years of WTO accession Report to the Government of Vietnam (In Vietnamese) General Statistics Office (2010) General statistics office website Online Accessed 11 September 2010 Available 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In: Kornai J & Yingyi Q (eds), Market and Socialism in the Light of the Experiences of China and Vietnam IEA Conference Forum No 146, Palgrave Macmillan Thanh V.T & Duong N.A (2009) Assessing socio-economic developments in Vietnam in 1998– 2008 Paper prepared for the Asian Development Bank Tho T.V., Ebashi M., Kinoshita T et al (2010) Strategy and policies for strengthening Vietnam’s international industrial competitiveness in the context of an emerging Chinese economy Institute for Vietnam Study, Waseda University, Tokyo, June © 2011 The Authors Asian Economic Policy Review © 2011 Japan Center for Economic Research 131 ... Thanh and Nguyen Anh Duong Revisiting Exports and FDI in Vietnam This paper attempts to revisit the roles of exports and foreign direct investment (FDI) in Vietnam’s new development context In doing... Vo Tri Thanh and Nguyen Anh Duong Revisiting Exports and FDI in Vietnam 4.2 Linkage between FDI and export growth in Vietnam To investigate the link between FDI and export growth in Vietnam, this... 5, finally, summarizes the key findings in the previous sections and recommends key policy measures to enhance the roles of FDI and exports in Vietnam Vietnam’s Reforms in Trade and Foreign Investment,