>CHALLENGES FACING VIETNAM: Taking Vietnam’s economy to the next level

To continue on a strong GDP growth trajectory, the country should work to raise its labor productivity.


During the past quarter century, Vietnam has emerged as one of Asia’s great success
stories. In a nation once ravaged by war, the economy has posted annual per capita growth
of 5.3 percent since 1986—faster than any other Asian economy apart from China. Vietnam
has benefited from a program of internal restructuring, a transition from the agricultural
base toward manufacturing and services, and a demographic dividend powered by a
youthful population. The country has also prospered since joining the World Trade
Organization, in 2007, normalizing trade relations with the United States and ensuring
that the economy is consistently ranked as one of Asia’s most attractive destinations for
foreign investors.


The challenges facing Vietnam
In the near term, Vietnam must cope with a highly uncertain global environment. The
economy faces a state of heightened risk because of macroeconomic pressures, including inflation that has built up as a by-product of the government’s efforts to maintain robust
growth despite the global economic crisis. In early 2009, Vietnam’s global trade and
foreign direct investment declined dramatically, and while exports have recovered, the
future of these two sources of economic activity is quite uncertain. The slow recovery of
the United States and Europe, together with the nuclear disaster in Japan, has created
additional near-term uncertainty. In response to the global economic downturn, the
Vietnamese government relied on expansive macroeconomic policies that have led not
only to inflationary pressures but also to budget and trade deficits and unstable exchange
rates. Some signs suggest that the financial sector is under stress, and international creditratings agencies have lowered their ratings on Vietnam’s debt.


In the longer term, Vietnam has a larger challenge. Since the key drivers that powered
its robust growth in the past—a young, growing labor force and the transition from
agriculture to manufacturing and services—are beginning to run out of steam, Vietnam
now needs new sources of growth to replace them. The demographic tailwind responsible
for driving a third of Vietnam’s past growth is slackening. Some companies already
report labor shortages in major cities. By 2020, the share of the population aged 5 to 19 is
projected to drop to 22 percent, from 27 percent in 2010 and 34 percent in 1999. Although
Vietnam’s median age, 27.4 years, is still relatively young compared with that of countries
such as China (35.2), its population is also aging.



An agenda for sustaining growth
Six percent–plus annual growth in economy-wide productivity is a challenging but not unprecedented goal. The successes and failures of other countries that had to raise their productivity offer a road map for broadening the bases of its growth.


The priority for officials is to restore calm in the economy and ensure that Vietnam retains the trust and enthusiasm of national and international investors. Surging inflation, repeated currency devaluations, a deteriorating trade balance, and rising interest rates have undermined investor confidence. And Vietnam’s financial sector does appear to have a degree of fragility.


Three long-term systemic risks loom—a rising volume of nonperforming loans, squeezed liquidity, and a drying up of foreign-exchange reserves. Many of the issues Vietnam faces come down to limited governance and transparency. Today, for example, the financial-reporting standards and risk management techniques of Vietnamese banks are a long way from Basel II or Basel III standards. Laying out a clear road map for their adoption would help improve the sector’s long-term stability and viability and bolster confidence among investors.


To read full report: VIETNAM'S ECONOMY
RISH TRADER