Vietnam’s impressive growth has made it a destination for foreign direct investment. To move beyond the low-labour-cost development model, Vietnam will need to invest in stabilising the investment environment and ensuring multinational corporations stay for the long term. 

Foreign direct investment (FDI) has played a crucial role in Vietnam’s economic development over the past few decades. According to the World Bank, recent FDI inflows into the country reached over US$16 billion in (2020) in nominal terms. Even when correcting for inflation, we can see this growth peaking, so far, in 2022. It seems that 2023 will be, once again, a record year.

In the first quarter of 2023, Vietnam’s FDI inflows reached US$10.13 billion, an 18.5 percent increase compared to the same period last year. The total newly registered capital in the first quarter of 2023 stands at US$5.45 billion. This has helped to sustain Vietnam’s impressive economic growth, which averaged 6.8 percent per year from 2016 to 2019, making it one of the fastest-growing economies in the region. In 2022, Vietnam ranked the third-largest destination for FDI inflows in Southeast Asia, after Singapore and Indonesia.

Nonetheless, if one looks at FDI as a share of the overall economic activity in terms of GDP, the picture is less impressive. Since the Global Financial Crisis in 2008, the FDI share of the GDP has been hovering around 5 percent. In other words, Vietnam’s ability to capture FDI has barely kept up with broader economic growth. On the bright side, this is substantially higher than what countries like Thailand, Indonesia or Malaysia are attracting. Now, as we enter the era of RCEP (Regional Comprehensive Economic Partnership), the largest trade zone ever created, Vietnam presents itself as an attractive destination for FDI which will allow countries like Japan, South Korea, China, and also Australia to easily set up manufacturing in the country.

Source: Authors

Still, challenges arise in 2023 that might negatively impact FDI inflow into the country.

The outcome of Russia’s war in Ukraine is still uncertain and with China and Turkey taking a more (if not active than) ambiguous side in the war is likely to create some difficulties. This is reflected in the Economic Policy Uncertainty Index with record highs over the past three years. To make matters worse, the US, one of Vietnam’s main trading partners and FDI investors, is expected to run into a recession in 2024. As a result, many exporting firms in Vietnam are experiencing decreases in international demand, which are causing firms to scale down their production.

Meanwhile, there is a trend of investors looking for opportunities closer to home, in an attempt to shorten supply chains –  a pandemic-originating, new phenomenon dubbed “nearshoring.” Some countries, such as South Korea and Japan (which are among the largest FDI sources for Vietnam) the US, and some countries in the EU, are trying to limit investment overseas, moving manufacturing closer to home. This adds to the challenges for Vietnam.

Finally, Vietnam’s FDI has a structural problem. Most agree that its low wages make Vietnam an attractive investment destination. But as the country grows – and FDI being one factor fueling that growth – salaries will tend to increase. To stay attractive for investments, wages need to be kept low.

With that being said, examples of high-earning jurisdictions with significant sources of FDI in Hong Kong, Singapore, and Ireland may provide answers for Vietnam’s emerging troubles. These localities solved the “FDI through cheap labour” conundrum by creating an attractive environment not dependent on wages. It is high time for Vietnam to rethink its FDI strategy as well; that is, if FDI should still be considered a key value in the future economic growth of the country.

There are five factors that could make Vietnam more attractive. The first is to reduce corruption. According to Transparency International’s Corruption Perception Index, Vietnam ranks 87th in the world in terms of corruption. While this is still better than half of the world, corruption is a strong deterrent to FDI. Countries like Singapore, Japan, and South Korea have demonstrated that foreign companies are not discouraged by high set up FDI costs, but by the uncertainty of how much the costs will be due to bureaucratic unpredictability. Vietnam needs to ensure transparency and accountability in its investment policies and practices.

A second includes the need to create more skilled labour. Vocational training, which is still underdeveloped in the form of public education, needs to be implemented as an attractive form of short training for young people. Furthermore, all public university students are asked to undergo a one-year mandatory communist indoctrination and military skills training program regardless of their university career. Hence, university studies are extended by one year, discouraging low-income families from sending their children on to higher education. While this one-year training program may have some value in terms of creating a national identity, shortening it is likely to increase skilled labor.

The environmental impact of FDI also needs to be considered. Multinational corporations are looking for quick fix set ups for production in countries that are more permissible in terms of environmental harm, whether that be through bribes or policy. A challenge, then, is that Vietnam and other countries in the region may attract “dirty FDI.” While helpful in the short-term, this FDI comes at a cost of generations to come and, ultimately, the planet. Vietnam, which has signed the 2050 zero-emission pledge, needs to urgently review its national energy plan, where coal is still the main source for energy. Setting clear demands for FDI and, if necessary, rejecting harmful projects will ensure the economy becomes greener.

Meanwhile, Vietnam strictly limits capital outflows from the country. While this made sense in past decades, where capital was scarce, the practice is now detrimental to the thriving and very open economy in terms of trade; one that also requires openness in terms of capital movements. A revision of this policy is necessary to build more confidence in investors.

Finally, Australia’s largest investor in Vietnam is an educational enterprise, the Royal Melbourne Institute of Technology. This serves as a great example of what Australia’s economic and social ties with Vietnam could be. Contributing only AU$3 million out of a total of US$5.5 billion in Vietnam’s FDI in 2023 so far, Australia ranks 22nd in terms of FDI after countries like Switzerland and Seychelles. Australia also lags behind in trade, trading only 2.33 percent of its exports to Vietnam as well as receiving only 1.4 percent of Vietnam’s total exports. The free trade agreement signed in 1990 did not boost trade much. Now, as we move into the era of the RCEP, and considering the geographic proximity of the two countries, trade relations with Vietnam can and should be revisited. Vietnam’s astounding recent growth merits a closer look.

In conclusion, Vietnam has scope to improve its FDI strategy, making it greener and stronger. While there are fears Vietnam may be caught in a wage inflation-FDI trap, several structural and policy changes could render these fears mute. For the time being, FDI will continue to be a key element of Vietnam’s remarkable growth story.

Dr Daniel Borer is a lecturer in economics it the College of Business and Law, RMIT University Vietnam.

Dr Van Ha Thi Cam is a lecturer in RMIT University’s Business School – RMIT Vietnam, Hanoi. 

This article is published under a Creative Commons License and may be republished with attribution.