Viet Nam: Beyond Fish and Ships

As published in Far Eastern Economic Review in September 2007 by Jago Penrose, Jonathan Pincus and Scott Cheshier

Fish and ships are at the core of what Viet Namese planners call their "maritime economy,” an idea set out in the government’s "Ocean Strategy to 2020” published earlier this year. Offshore oil and gas and beach-front tourism are additional ways that Viet Nam hopes to make the most of its 3,200 kilometers and marine resources. The government expects that by the year 2020, fish, ships, shipping, oil, tourism and related services will account for more than half of GDP as compared to 15% in 2005. Global demand for farmed fish and large ships is on the rise.

Nguyen Huu Thanh left his university post in 1986 to take a job with a state-owned seafood processing company. After 11 years and countless administrative hurdles, he obtained a loan to set up a private seafood company to export to the Japanese market. Turnover in 2000, the company’s first year of operations, was $5 million. By 2006 Viet Foods supplied nearly 40% of the sushi shrimp consumed in Japan, recorded revenues of $63 million, and employed 3,300 workers.

One thousand kilometers away in Hai Phong, the Nam Trieu shipyard, a member company of the Viet Nam Shipbuilding Industry Group (Vinashin), is putting the finishing touches on another 53,000 deadweight ton vessel produced under contract to Graig Shipping of the United Kingdom. Vinashin, a state-owned conglomerate, posted $718 million in revenues in 2006 and claims to have orders worth around $10 billion.

Fish and ships are at the core of what Viet Namese planners call their "maritime economy,” an idea set out in the government’s "Ocean Strategy to 2020” published earlier this year. Offshore oil and gas and beach-front tourism are additional ways that Viet Nam hopes to make the most of its 3,200 kilometers and marine resources. The government expects that by the year 2020, fish, ships, shipping, oil, tourism and related services will account for more than half of GDP as compared to 15% in 2005. Global demand for farmed fish and large ships is on the rise. Travel industry experts project that 50 million Chinese will travel overseas by 2010, and 100 million by 2020. Many of them will join Japanese, Korean and Taiwanese vacationers on Viet Nam’s new beach resorts and golf courses. The maritime economy also carries symbolic meaning. Having made a revolution in the rice fields of the Red River and Mekong deltas, Viet Nam is now looking to the sea, driving forward a process that began with enterprise reforms in 1989 and extended through a European Union market access in 1995 and the landmark Bilateral Trade Agreement with the United States in 2001. World Trade Organization membership in 2007 is the culmination of a process that the Viet Namese know as doi moi or "renovation,” but which in fact was a dramatic policy about shift. While China was breaking up its cooperative farms in 1978, Viet Nam launched an ill-fated collectivization drive in the Mekong Delta that brought the country to the brink of starvation. Yet by 1996, Viet Nam had disbanded its own collectives and ranked as the world’s second largest rice exporter. The country has also emerged as a leading exporter of coffee, seafood, pepper, cashew, rubber as well as garments and shoes.

Vent for Surplus
Viet Nam’s economic achievements during the doi moi reform period are impressive. Annual growth of domestic output has averaged 7% over a 20-year period, and export growth has exceeded 20% per year.

Merchandise exports of $40 billion in 2006 represented 65% of GDP—a ratio that has more than doubled over the past decade.

Exports have driven Vietnamese growth in a classic "vent for surplus” fashion, as external demand has created incentives to bring underutilized labor and land into production. Rice, coffee, fish, garments, footwear and furniture producers have created millions of jobs, many of which have gone to unskilled, female workers from Viet Nam’s populous rural areas.

But even the most enthusiastic observers recognize that the economy still relies heavily on low wages and natural resources to propel exports and growth. And low wages are not in themselves a viable development strategy for the long period. Despite all the talk about off-shoring, labor in fact accounts for a tiny share of total costs in manufacturing. On average, direct labor in developing country manufactured exports represents only 3% to 4% of total costs at the port and less than 1% of retail prices.

Other costs, such as electricity, transportation, telecommunications, security, administrative costs and corruption are of equal if not greater importance to investors. And some of these costs are high in Viet Nam relative to its competitors. According to A.T. Kearney, a management consulting firm, industrial electricity prices in Viet Nam are on a par with China and Thailand, and higher than Malaysia and Indonesia. But Viet Nam’s shipping costs per kilometer are highest among the five countries, as are telecommunications and prime office space.

Another problem with vent-for-surplus commodities like rice, fish, pepper, shirts and shoes is that they are characterized by low income elasticities of demand. In other words, as people get richer they do not tend to buy more rice and coffee with their additional income. At the moment, Viet Nam is extremely competitive in slow growth industries. One of the secrets of success of East Asian development has been a deliberate focus on income elastic goods like sophisticated electronics and automobiles, which capture a growing share of total spending in parts of the world like North America and Europe.

Political stability, geography, resource wealth, a rapidly growing domestic market and now WTO membership will all continue to make Viet Nam an attractive investment destination for some time to come. Net foreign direct investment in 2006 was $2.3 billion, a 20% increase over the previous year, and is expected to rise again this year.

But as the country grows richer, it will need to diversify away from import-intensive and bulk commodities and towards technology intensive industries with greater growth potential. Most of Viet Nam’s existing firms are small, although a few large foreign firms operate in shoes and garments. Technology is simple, margins are thin and production is heavily dependent on imported inputs. Successful industrializing countries must eventually move beyond vent-for-surplus growth to develop domestic firms that achieve sufficient scale and technological capacity to meet international price and quality standards, and to integrate these firms into the global supply chains that dominate manufacturing in the 21st century.

New Policy Priorities
Following WTO entry, Viet Nam has begun to attract investments into income elastic products. Companies like Intel, Foxconn, Compal and Nidec have announced new investments in electronic components assembly. The Saigon Hi-Tech Park has emerged as a technology hub bringing together foreign investors with domestic companies and research and training facilities. The goal is to replicate the Taiwanese and Chinese strategy of moving beyond assembly to link up foreign high-tech investors with domestic suppliers.

Implementation of this strategy will require decisive policy changes on a range of issues from macroeconomic management to legal system reform. But there are three areas which should become priorities for policy makers:

  • Higher education. Domestic and foreign businesses routinely list skill shortages as the single largest obstacle to growth and technological upgrading. Viet Nam is not lacking in raw talent, as shown by the country’s gold medal haul at the most recent Math Olympiad. Toyota claims that training times for Vietnamese workers are the second fastest in the world. Yet the country’s universities have failed to mold this talent into industry-ready skills or to produce economically-relevant research. Vietnamese universities record the lowest number of publications in scientific and technological journals in the region, and in 2002—the most recent year for which data are available—only two international patent applications were submitted by Vietnamese residents. Unlike China, scientific research institutes have only minimal links to business. The crisis in higher education and research is not simply a matter of money. Although China spends a lower share of national income on education than Viet Nam, some of its best universities are already approaching global quality standards. Universities in Viet Nam are the last bastion of central planning, delivering outdated, centrally controlled curricula through systems that have not changed much since the 1980s. No progress will be made until universities and research institutes are given the autonomy they need to compete on the basis of quality, reputation and relevance.
  • Infrastructure. Viet Nam emerged from decades of war and central planning with a massive infrastructure backlog. Roads, ports, airports, power stations, irrigation systems and water supply were all in need of reconstruction and development. Chronic delays and cost overruns in public sector projects have given rise to critical economic bottlenecks. After 20 years of reform, Viet Nam still does not have a deep water port that can handle large container ships, adding some 28% to the cost of shipments to the U.S. Power outages are common in the major cities and the roads are congested to the point of gridlock. Construction of the country’s first oil refinery, launched in 1995 at an estimated cost of $1.3 billion, is now expected to be completed in 2009 at a cost of $2.5 billion. In 2000 the government approved plans to construct 17 new national research laboratories by 2005. Only two were in operation in mid-2007. Meanwhile, the government has approved plans to build a $33 billion high-speed railway linking Ha Noi and Ho Chi Minh City, raising questions about public- sector priorities.
  • Capital markets. As Vietnamese entrepreneurs struggle to find long term financing, domestic investors are crowding into overheated land and equity markets. The main VNI Index nearly tripled in value in the seven months after August 2006, before falling back 20% in recent months. Stock valuations are detached from corporate performance, and the market is driven by insider deals and manipulation of information. The market for luxury houses and apartments has once again caught fire. The UNDP survey found that Viet Nam’s largest firms are speculating heavily in the real estate and stock markets in search of quick returns. The formation of asset bubbles alongside credit constraints for business is a sure sign that the capital markets are failing in their primary function of mobilizing domestic savings and channeling it toward new investments. While banks pay negative real interest rates to domestic savers, companies such as Vinashin rely increasingly on foreign credits to finance expansion plans. Unhedged dollar-denominated debt is not only risky for the companies concerned, but also creates a political constituency opposed to depreciation of the Viet Nam dong, which could ultimately penalize exporters.

Becoming Accountable
The common thread connecting these issues is public accountability. The Vietnamese system has proved adept at distributing economic and other benefits—land, shares, bank loans, professorships and so forth—to a wide enough swathe of the political elite to ensure stability and unity across regions and factions of the ruling Communist Party. But as political benefits are privatized, economic costs are socialized. The poor quality of domestic schools and universities forces middle class families to borrow beyond their means to educate their children privately or overseas. The delays and cost overruns that plague public-investment projects slow economic growth and divert funds from basic services like health and education. Soaring land prices force the urban poor into overcrowded housing and give rise to land disputes as officials snap up land cheaply and sell it on at profit.

Demands for greater public accountability are sure to intensify as society urbanizes and the economy diversifies and expands. But opposing forces, emanating from within the government and party apparatus and economic interests under or allied to sections of the party and state, can be counted on to defend the status quo. We can expect the leadership to approach reform cautiously and incrementally, taking care to steer a course that unleashes the dynamism of the economy without jeopardizing the nation’s hard won unity and political stability. The open question is whether such a course is still available to them, and whether the winds of the international economy will continue to blow as favorably as they do today.