Vietnam will continue to emerge as a global manufacturing hub in the coming years, particularly in the electronics sector. Despite rising trade tensions with the US, structural factors including low wage costs, a large infrastructure pipeline and recently signed free-trade agreements should sustain investment in the manufacturing sector. Long-term challenges include managing growing demands for political representation and rising concerns over the environmental sustainability of the country’s growth model.
Manufacturing sector taking off
Vietnam’s manufacturing sector has boomed over the past decade to become a key part of the global manufacturing supply chain. Total annual foreign direct investment (FDI) inflows grew at an annual average rate of 12% over 2014–18 to reach $15.5bnand increased by a further 7.8% year-on-year (y-o-y) in the first five months of 2019.This has turned Vietnam the eighth-largest recipient of FDI in the emerging world, as classified by the UN.
Robust investment has driven a surge in manufacturing export capacity. According to UN data, manufacturing exports from the country grew at an average annual rate of 22.4% over the past ten years, effectively doubling every three years from $32bn in 2009 to $244bn in 2018. Textile production drove the early phase of this expansion and Vietnam is now the second-largest exporter of apparel and footwear globally after China.
Advanced manufacturing exports have become more important in the past five years. Electronics exports overtook textiles as Vietnam’s largest export in 2013 and subsequently grew almost four-fold to $117bn by 2018.
Foreign investments have been particularly visible in the electronics space. Samsung has invested a cumulative $17bn in Vietnam and the country accounts for one-third of the firm’s global output.A wave of investments by firms including Foxconn, Nintendo and Sharp has also been announced since 2018.
US-China trade tensions a boost for Vietnam
Following the decade-long surge in exports, the country’s manufacturing sector has more recently been one of the main beneficiaries of higher US tariffs on Chinese exports since 2018.
Reduced price competitiveness for Chinese exports in the US has allowed Vietnamese manufacturers of textiles, electronics and other goods to gain market share. US Customs data indicates that while US imports from China declined by 12.3% y-o-y over the first half of 2019, imports from Vietnam grew by almost one-third.This was comfortably the largest gain by any of the top 30 exporters to the US.
The data suggests an acceleration in Vietnamese export growth, even if export figures have been artificially inflated to some extent by the relabelling of Chinese goods as “Made In Vietnam” as a means of circumventing US tariffs.
Structural factors to keep growth on track
Vietnam will continue to develop as a global manufacturing hub in the coming years as a variety of factors entice more foreign firms to set up production facilities in the country.
In terms of “push” factors, China will continue to lose competitiveness in low-tech manufacturing sectors, such as textiles, furniture and toys. Chinese industrial policy, illustrated by the initiative “Made in China 2025,” explicitly targets development of high-tech sectors, including artificial intelligence, autonomous vehicles and industrial connectivity. As Chinese wages rise to facilitate this shift, the migration of lower-tech manufacturing to countries with cheaper labour, including Vietnam, Bangladesh and India, will continue.
In terms of “pull” factors, the operating environment for foreign manufacturing firms will continue to improve. Vietnam has one of the most ambitious power and logistics infrastructure investment pipelines in the region.
Moreover, the country has prioritised manufacturing export facilitation and now has more than 350 industrial and export processing zones. Notwithstanding rising trade tensions with the US, Vietnam’s access to foreign markets is also improving rapidly as a result of aggressive trade liberalisation.
Most significantly, Vietnam was a signatory of the global Comprehensive and Progressive Agreement for Trans-Pacific Partnership in January, completed a comprehensive EU-Vietnam free trade agreement in June and is participating in the Asia Pacific Regional Comprehensive Economic Partnership negotiations.
Long-term challenges remain
While the outlook for Vietnam’s manufacturing sector is bright, there are challenges that have the potential to slow investment growth.
First, US political pressure will at least temporarily slow export growth in the coming months. Following pressure from Washington, in June Vietnam’s Customs department announced plans to ramp up inspection of certificates of origin in order to reduce illegal re-routing of Chinese goods through the country.
Vietnam already had the fifth-largest goods trade surplus with the US behind only China, Mexico, Japan and Germany in 2017, prior to any potential re-routing of Chinese goods. This imbalance is gradually moving Vietnam onto the White House trade team’s radar for trade re-negotiation.
For instance, in July the US imposed tariffs on steel products made in Vietnam using materials from South Korea or Taiwan. In line with the negotiating stance adopted by the White House with regards to China and the EU, concessions – including commitments to ramp up purchases of US goods and services, and currency reform – could be demanded of Vietnam under threat of increased US tariffs.
With regards to the latter point, the US Treasury will be reviewing whether it classifies Vietnam a currency manipulator in October, having narrowly decided against doing so during the most recent semi-annual review in May.
Second, although one-party rule in Vietnam increases the chance of near-term policy continuity, it arguably raises the potential of political volatility in the longer term. It is possible that the Communist Party will face growing calls for democracy in the coming years, which could threaten the current pro-business trajectory of policy reform.
Third, there is likely to be greater pressure on the country to make its industrialisation policy more environmentally sustainable in the coming years. Pressure will come from both a local level and foreign firms increasingly concerned about reputational risk. Potential pressure points include dwindling overseas funding for Vietnam’s ambitious coal-powered power project pipeline, rising local protest against new industrial zones and alleged sourcing of wood for the country’s booming furniture export industry from illegal sources in Africa and South-east Asia.
Finally, foreign firms will require greater protection of intellectual property and clear guidelines on technological transfer if FDI growth rates in the electronics sector are going to be sustained. In reflection of these latter challenges, the government is currently drafting a new FDI Attraction Strategy for 2020-30 in partnership with the World Bank, which expressly focuses on technology transfer and environmental protection.
Georgina Hayden and John Davies are the founders of research and analysis firm, North Shore Analysis. John is an economist and has a special interest in emerging markets, global trade and heavy industry. Georgina is an energy consultant and has a special interest in the low carbon economy.
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