Determinants of economic growth in Vietnam

This study explores factors that determine the economic growth in Vietnam by using time-series model in 1988-2013. The study shows that there are strong and positive effects of domestic investment and foreign direct investment on Vietnamese economic growth as a channel of increasing the stock of capital. Exchange rate and Asian financial crises also determine the economic growth. However, human capital and trade in Vietnam are not yet the channels that increase Vietnam’s economic growth.

Hồng Thị Thu Tạp chí KHOA HỌC & CƠNG NGHỆ 124(10): 31 - 37 DETERMINANTS OF ECONOMIC GROWTH IN VIETNAM Hoang Thi Thu* College of Economics and Business Administration - TNU SUMMARY This study explores factors that determine the economic growth in Vietnam by using time-series model in 1988-2013 The study shows that there are strong and positive effects of domestic investment and foreign direct investment on Vietnamese economic growth as a channel of increasing the stock of capital Exchange rate and Asian financial crises also determine the economic growth However, human capital and trade in Vietnam are not yet the channels that increase Vietnam’s economic growth Keywords: determinant, economic growth, FDI, domestic investment, Vietnam INTRODUCTION* Recognized as a premier target for the economic development, economic growth and its determinants have attracted increasing attention in both theoretical and applied research Literature on economic growth showed that there are a several partial theories discussing the role of various factors in determining economic growth In neoclassical growth model, such as Solow’s growth model, investment and labor are emphasized as important determinants of economic growth The endogenous growth theory of Romer (1986, 1990) and Lucas (1988) added human capital and innovation as the new factors for explaining economic growth Besides, labor, human capital, domestic investment, openness and some non economic factors showed both insignificant and significant effects on economic growth in several empirical researches Since the launch of market-oriented economic reforms in 1986, Vietnam move towards trade liberalization Market orientation, openeconomy and competition for foreign direct investment with other regional and global markets were important policies to Vietnamese government restructuring the economy Economic growth increased dramatically in Vietnam over time In 2013, the GDP value was nearly seven times that of * Tel: 0989 910591 1986 Nearly three decades since 1986, the Vietnamese economy has grown at a rate of 7.5 percent annually So what are the major factors that determine high economic growth in Vietnam since its economic reform in 1986? What useful policy implications can the country apply to increase its economic growth in the long run? This study intends to address these specific questions The structure of the study is organized as follows Section presents the model, data and research methodology Section presents the findings and interpresentation The final section deals with conclusions and policy implications METHODOLOGY AND DATA Model specification The purpose of this research is to examine the determinants of economic growth in Vietnam over the 1988-2013 period Based on the theoretical models of the neoclassical and endogenous growth and some empirical analysis models such as Romer (1990) and Markiw-Romer-Weil (1992), the research has developed the model to identify the most important determinants of economic growth in Vietnam The econometric model is derived from a production function in which economic growth is the dependent variable Foreign direct investment, domestic capital, labor, human capital, trade, exchange rate and some dummy variables are independent 31 Hoàng Thị Thu Tạp chí KHOA HỌC & CƠNG NGHỆ variables The augmented production function will have the following form: Y = A Lβ1 Fβ2 Iβ3 Hβ4Tβ5Eβ6 (1) where Y represents output or gross domestic production (GDP), L is labor H denotes human capital as a skilled labor I is domestic investment F stands for foreign direct investment (FDI) T presents the country’s international trade A is an overall efficiency factor, capturing the control and policy variables that are not accounting for increase in factor inputs I, F, L, T, E and H and frequently included as determinants of growth in cross-host-area studies (see in Barro and Sala-i-Martin, 1995, chapter 12) Assuming the production function to be linear in logarithms, the research takes the natural logarithm, and then time derivatives of this production function Also, the use of 1st differences in econometric studies facilitates the results explanation, since the first differences of logarithms of initial variables represent the rate of change of these variables The determinants of economic growth in Vietnam are presented as folows: DLnGDPt =  + 1 DLnFDIt + 2 DLnDIt + 3 DLnHKt + β4 DLnTRADEt + β5 DlnLt + β6 DLnEXCHANGE +Rj + εt (2) The dependent variable GDP is the value of GDP at current price in the year t The independent variables are constructed by a set of annual factors capturing various aspects of endowments relevant to the determinants of economic growth L is the population density in the year t, present the labor factor in the model HK is the number of upper secondary school pupils per 10000 inhabitants, proxy human capital in the host country TRADE is the value of international trade (exports plus imports) over each year DI presents the value of domestic investment at current price and FDI is the total registered capital of FDI inflow Rj is dummy variable, taken into account to present the national effects on the economic growth In the model, D that 32 124(10): 31 - 37 presented in front of each variable denotes the first differences of these variables βi is the individual effect which assumed to be constant over time t while error εt is a stochastic disturbance Hypotheses The empirical growth literature has identified a number of variables that are typically correlated with economic growth Like many existing studies, this research expects the effect of each determinant on economic growth of Vietnam as follows: Through capital accumulation, domestic investment (DI) and foreign direct investment (FDI) bring financial resources to host countries Output growth can additionally result from a wider range of goods in FDI and domestic investment related production Moreover, FDI is considered an important source of technological change and human capital augmentation Therefore, FDI and DI are expected to have positive effects on economic growth in the nation Human capital (HK) is an important element of economic growth The greater the level of human capital development leading to expansion of its physical capital to match a high endowment of human capital, the faster a country grows Moreover, as a production input, a change in HK is correlated with the change in economic growth Well developed labor force, in terms of better education and health, is likely to be able to produce more production from a given resource base than less-skilled workers In this research, I hypothesize a positive relationship between economic growth and human capital in Vietnam Labor force is one of the important factors of economic growth Increasing labor force could gain in total factor productivity and economic growth However, if the labor force is growing, then a share of the economy’s investment is used to provide capital for new workers, rather than to raise capital per worker The research assumes that labor helps increasing economic growth in Vietnam Hoàng Thị Thu Tạp chí KHOA HỌC & CƠNG NGHỆ How does international trade affect economic growth? The literature shows that trade leads to higher specialization and, thus to gains in total factor productivity and economic growth by allowing countries to exploit their areas of comparative advantage Moreover, it expands potential markets, which allows domestic firms to take advantage of economies of scale, exposure to competition and the diffusion of technological innovations and improved managerial practices through stronger interactions with foreign firms and markets These could result in both higher overall efficiency and possibly a higher level of investment Based on the discussions, the study expects that international trade is the factor promoting economic growth The exchange rate does not traditionally occupy a central role in growth regressions because it only recently entered theoretical models of economic growth However, there has been a gradual recognition of the real exchange rate’s role in the growth process In fact, the disastrous effects of overvaluation on economic growth are widely documented in the undervaluation reduces growth In contrast, Rodrik (2008) states that the growth-driven channel are the tradable sector, which contributes to innovations and productivity increases For Vietnam, maintaining an undervalued currency could serve to subsidize its manufacturing industries, the driving force behind that country’s growth There are some national dummy variables (Rj) to describe how the effects of different designations on economic growth Rj takes the value of if the observation belongs to a particular timeline and if it does not belong to that catalog It is expected that Vietnam that has more economics relationship with other nations or international economic groups in the world, it will see greater effect on economic growth than the other nonopenness nation Data The empirical analysis was presented by time series model Annual data on all variables for 124(10): 31 - 37 the period from 1986 to 2013 were collected and calculated from various issues of the Statistical Yearbook of Vietnam, Vietnam General Statistics Office Since the data of FDI and international trade are in US dollars, they are converted into Vietnam Dong (VNDVietnamese currency) using yearly average USD/VND exchange rate obtained from the socio-economic data indicators in the Vietnam – 20 years of renovation and development, General Statistics Office, Vietnam EMPIRICAL FINDINGS Stylized fact on Vietnamese economic growth since its economic reform Vietnam has been in transition from a centrally planned to a market oriented economy since December 1986 From that time up to the present, Vietnam had seen amazing economic achievements in growth of gross domestic product (GDP), GDP per capita, foreign direct investment, and important trade and economic agreements signed with major partners The economic growth rate of Vietnam dramatically increased since 1986 (table 1) From 4.4 per cent of average GDP growth rate in 1986-1990, it went up to 8.18 per cent in 1991-1995, decreased its annual economic growth rate to 6.95 per cent in 2006-2010 and 5.64 per cent in the 2011-2013 period due to the global economic crises since 2008 Although the country decreased its annual growth rates in some recent years, the average annual growth rate of GDP in Vietnam still presents at high growth rate (about 6.61 per cent) This helped the country increase its national income per capita over time In 2013, the GDP per capita of Vietnam was US$1908, three times of that in 2005 and more than twenty times that of 1986 (GSO, 2013) This achievement and the stable development of the society showed that the chosen reforms of Vietnamese leaders were going in the right way, and the contents and implemented measures at the macro level were ensuring growth 33 Hoàng Thị Thu Tạp chí KHOA HỌC & CƠNG NGHỆ 124(10): 31 - 37 Table 1: Average annual growth rates of GDP in Vietnam Period 1986-1990 1991-1995 1996-2000 2001-2005 2006-2010 2011-2013 1986-2013 Annual GDP growth rate (%) 4.44 8.18 6.98 7.48 6.95 5.64 6.61 Of which Agriculture, forestry Industry Services and fishery 2.72 4.82 5.84 4.12 12.02 8.60 4.40 10.64 5.72 3.84 10.24 7.04 3.45 7.85 7.67 3.11 5.95 6.43 3.61 8.59 6.88 Source: Vietnam statistical Yearbook, various issues The reason behind the achievements was the fast development of all economic sectors, especially the industrial sector At the end of 1988, the regulation 217/HDBT gave the state-owned enterprises (SOEs) autonomy to business and stated that the government would no longer subsidies them The SOEs stopped receiving capital from the government budget for their activities and are now required to obtain bank loans and pay interest During the adaptation period, the industrial and construction sector grew at an average rate of 4.8 per cent during the period 1986-1990 However, after adaptation, the industrial sector expanded quickly, about 12.02 per cent in 1991-1995 and about 8.59 per cent during the 1986-2013 period Eventually it became the main source of economic growth (Table 1) The development was the result of increasing inflows of foreign capital in heavy industries of gas, electricity, cement, steel, paper and agriculture processing Some key products of Vietnam’s industries are crude oil, gas, aquaculture processing, paper, garment, coal, textiles, chemical, fertilizers, cement, iron and steel The service sector has been continuously increasing since 1988 and had a high growth rate (about 8.6 per cent) during the first half of the 1990s This was due to open economic policies of the government The rise was mainly from the improvement in administration, banking reform, trade liberalization and tourism Besides the increase in GDP growth rates, Vietnamese economic structure has also shifted in the direction of industrialization and 34 modernization Vietnam's economy transformed itself from being a primary sector dependent economy to a more industry and services sector oriented one (Table 2) During 1986-1990, agriculture, forestry and fishing factor accounted for 41 per cent of total GDP output, and it decreased to 22.29 per cent in 2001-2005 Industry and services sectors have higher shares of GDP - 39.44 per cent and 38.27 per cent respectively in the first five years of the 21 century Even though the share of the services sector decreased during 2001-2005, several sub-sectors such as banking and finance, communication, import trade, insurance and tourism grew faster than previously The change in the economic structure was in the right direction and suitable with the industrialization and modernization policy announced by the government With an objective to develop a socialistoriented market economy under the State’s management, the Vietnamese government kept the central leading role of the state sector while facilitating the development of other economic sectors As a result, the number of state owned enterprise declined, while the GDP’s shares of the state sector did not change much overtime The number of the foreign owned and non-state enterprises is growing However, the GDP’s share of the foreign investment sector increased, from 1.14 per cent in 1986-1990 period to 18.56 per cent in 2011-2013 and the proportion of the non-state sector in GDP decreased from 63.6 per cent in 1986-1990 to 48.95 per cent in 2011-2013 Hồng Thị Thu Tạp chí KHOA HỌC & CÔNG NGHỆ 124(10): 31 - 37 Table 2: Structure of GDP in Vietnam (%) Period Tota l Share of GDP by sector Agricultur e forestry and Industry Services fishery 41.15 25.36 33.49 Share of GDP by ownership Tota l 100 35.26 NonState 63.60 40.70 100 33.78 57.54 5.68 33.10 41.05 100 39.54 49.82 10.40 22.29 39.44 38.27 100 38.68 46.54 14.60 100 20.55 40.27 39.18 100 35.48 46.64 17.89 2011-2013 100 19.38 38.28 42.34 100 32.48 48.95 18.56 1986-2013 100 26.83 33.99 39.17 100 35.87 52.18 11.38 1986-1990 100 1991-1995 100 31.78 27.52 1996-2000 100 25.85 2001-2005 100 2006 -2010 State Foreign investment 1.14 Source: calculated from Vietnam statistical year book 2006 Table 3: Empirical results on economic growth Effect of FDI in Vietnam Dependent variable: Economic growth (GDP) Variable Intercept Foreign direct investment (FDI) Domestic investment (DI) Human capital (HK) Labor force (L) International Trade (TRADE) Exchange rate (USD_VND) (1) 0.0787 (2.3043)** 0.0811 (2.3913)** 0.3757 (6.0968)*** 0.0454 (0.3271) 0.3707 (0.1853) -0.0468 (-0.2466) 0.3588 (2.1694)** (2) 0.1441 (3.5623)*** 0.0847 (2.4762)** 0.3246 (3.8275)*** -0.0127 (-0.0784) -0.8968 (-0.5018) -0.0778 (-0.4061) 0.3581 (2.0551)** -0.0407 (-1.5052) (3) 0.1696 (2.5497)** 0.0836 (2.3415)** 0.3052 (3.1197)*** -0.0198 (-0.1179) -1.1931 (-0.6172) -0.0817 (-0.4194) 0.3449 (1.8270)* -0.0381 (-1.4142) -0.0206 (-0.4666) 0.8621 0.8162 1.8990 25 0.8663 0.8113 2.0180 25 0.8673 0.8009 2.0413 25 Asian financial crises (D1998) ASEAN US R-square Adj R-square DW statistics No of Obs (4) 0.1229 (1.3574) 0.0693 (1.8156)* 0.3539 (2.9745)*** 0.1777 (0.7393) -2.2068 (-1.0911) 0.0004 (0.0022) 0.4526 (2.4682)** -0.0821 (-2.1945)** -0.0166 (-0.3304) 0.0807 (1.4431) 0.8826 0.8122 2.2775 25 Note: (1) The coefficient of the variable is shown first, followed by the t statistic is in parentheses (2) *, **, and *** indicate significance levels of 10, and percent, respectively (3) All variables are in first differences of natural log form except dummy variables (4)Method of regression: Ordinary Least Squares with White heteroskedasticity-consistent standard errors & covariance 35 Hồng Thị Thu Tạp chí KHOA HỌC & CÔNG NGHỆ In short, after nearly thirty years of Doi Moi in 1986, Vietnam has recorded relatively high growth rates, which have increased from year to year The annual average GDP growth rate in the 2001-2006 period of about 7.5 per cent satisfied the planned targets The economic structure has gradually shifted along the lines of industrialization and modernization, closely tied to the market for better efficiency Although the economic growth is increasing in volume in Vietnam, the main determinant factors of economic growth is still in question This will be addressed in the following parts of the research Empirical results Table presents the estimation results of the main determinants of economic growth in Vietnam The results from the column (1) present effects of original determinant factors on economic growth It shows that foreign direct investment, domestic investment and exchange rate are positive and have significant relations with the country’s economic growth As a result, if the growth rate of domestic investment, foreign direct investment inflow and exchange rate goes up by per cent, on average, the economic growth rate increases by about 0.37 per cent, 0.08 per cent and 0.36 per cent, respectively This means that although both depend on the foreign financial development and the exchange rate, the economic growth rate of Vietnam is much more dependent on its domestic financial development The significant and positive coefficient of FDI suggests that FDI has a positive effect on Vietnamese economic growth This result is consistent with the proponent of the FDI-led growth hypothesis such as Romer (1990) and Markiw-Romer-Weil (1992) and Zhang (2001) From Table 3, the exchange rate presents the positive and significant effect on economic growth of Vietnam This means that the depreciation of Vietnamese currency have 36 124(10): 31 - 37 expansionary effects on economic growth The result could be explained that the devaluation of Vietnamese currency causes local goods to be cheaper abroad and this will enhance the cost competitiveness of Vietnamese exports which are a component gross domestic product, leading to an increase in exports and improve the country’s economic growth In order to assess whether human capital and labor force are major determinant factors of economic growth in Vietnam, the human capital variable (presented skilled labors) and labor force variable (presented less-skilled labor factor) are included in the model I assume that human capital and labor force have a positive relationship with economic growth in Vietnam However, the results show that the coefficients of HK and L not enter significantly and are negative; representing that those factors are not yet major determinant factors of economic growth in Vietnam The model also includes some dummy variables in the model I believed that Asian financial crises in 1997-1998 effects negatively on economic growth of Vietnam and the economic relationship of Vietnam with ASEAN and American since their signed trade agreements could help the economic growth in Vietnam The econometric results present that the coefficients of ASEAN and US are insignificant; representing that those factors are not greater effect on economic growth of Vietnam at the time of research The Asian financial crises factor has negative effect on economic growth in Vietnam This could explain the situation that due to the Asian financial crises in 1997-1998, the GDP growth rates of Vietnam declined to 5.8 per cent in 1998 and went down further to 4.8 per cent in 1999 CONCLUSIONS AND POLICY IMPLICATIONS Vietnam’s economic growth has increased dramatically since its renovation The study aims to examine the determinant factors of Hoàng Thị Thu Tạp chí KHOA HỌC & CƠNG NGHỆ economic growth in Vietnam by using time series model over the 1986-2013 period This study concludes that the foreign direct investment inflow, domestic investment and exchange rate are major and positive determinants of economic growth in Vietnam The financial crisis such as Asian financial crises is a dummy variable that effects negatively on economic growth in Vietnam This find that even though Vietnam is a crowded population and human capital and openness to trade, many factors such as labor, human capital and international trade, not exert independent determinants on Vietnamese economic growth From the conclusions of the study, for Vietnam to increase economic growth, the policy of depreciation to increase exports and employment in the economy might be the best policy for Vietnam Moreover, the policies that attract more foreign direct investment inflow into Vietnam and promote the domestic investment in the country are still need to apply 124(10): 31 - 37 to enhance its economic growth Policies that encourage both foreign direct and domestic investments in physical capital as well as human capital, labor training and flexible international trade development would boost both short and long term growth of Vietnamese economy REFERENCES Barro, R J and Sala-i-Martin, X., 1995 Economic growth McGraw-Hill, Cambridge, MA General Statistical Office (GSO), 1995-2013 Vietnamese Statistical Yearbook Statistical Publishing House, Hanoi GSO (2005) Vietnam – 20 years of renovation and development Statistical Publishing House, Hanoi Makiw, N.G., Romer, D and Weil, D.N (1992) A contribution to the empirics of economic growth The quarterly journal of economics 107, 407-37 Romer, D (1990) Endogenous technological change Journal of Political Economy 98, S71-102 Zhang, K H (2001) How does foreign direct investment affect economic growth in China? Economics of Transition / European Bank for Reconstruction and Development 9, 3, 679-693 TÓM TẮT NHỮNG YẾU TỐ QUYẾT ĐỊNH ĐẾN TĂNG TRƯỞNG KINH TẾ CỦA VIỆT NAM Hoàng Thị Thu* Trường Đại học Kinh tế Quản trị kinh doanh – ĐH Thái Nguyên Bài báo nghiên cứu nhân tố định đến tăng trưởng kinh tế Việt Nam việc sử dụng mơ hình chuỗi thời gian giai đoạn 1988-2013 Nghiên cứu đầu tư nước đầu tư trực tiếp nước nhân tố có tác động tích cực mạnh mẽ đến tăng trưởng kinh tế Việt Nam Ngài ra, tỷ giá hối đối khủng hoảng tài châu Á năm 1997 nhân tố tác động đến tăng trưởng kinh tế Việt Nam Tuy nhiên, nghiên cứu rằng, nguồn nhân lực ngoại thương chưa phải kênh giúp cho Việt Nam tăng trưởng kinh tế giai đoạn nghiên cứu Từ khóa: nhân tố định, tăng trưởng kinh tế, FDI, đầu tư nước, Việt Nam Ngày nhận bài:15/8/2014; Ngày phản biện:29/8/2014; Ngày duyệt đăng: 15/9/2014 Phản biện khoa học: TS Trần Nhuận Kiên – Trường Đại học Kinh tế & Quản trị kinh doanh - ĐHTN * Tel: 0989 910591 37 ... Although the economic growth is increasing in volume in Vietnam, the main determinant factors of economic growth is still in question This will be addressed in the following parts of the research... results of the main determinants of economic growth in Vietnam The results from the column (1) present effects of original determinant factors on economic growth It shows that foreign direct investment,... positive determinants of economic growth in Vietnam The financial crisis such as Asian financial crises is a dummy variable that effects negatively on economic growth in Vietnam This find that