This article is produced by The Economist Intelligence Unit
The Vietnamese economy had already been growing above 6% per year for five years when companies began looking to the country as an alternative to China for manufacturing. The initial search for alternatives was prompted mainly by the rising labour costs in China. In dollar terms, wages in China were more than double those in Vietnam in 2016, a spread that is forecast to widen in 2020 and beyond.
The wage spread alone was enough to motivate multinationals to consider Vietnam as an alternative to China. Recent developments have created even more inducements. The one that has been getting the most attention is the on-again, off-again trade war between the US and China. Thus far, the Trump administration has limited tariff increases to intermediate goods, or inputs, with some exceptions. But the spectre of an escalation that could hit US imports of finished goods from China, and additional uncertainty surrounding the bilateral relationship, have led firms to accelerate existing plans to exit China.
At the same time, Vietnam has been pursuing, both on its own and as a member of the Association of Southeast Asian Nations (ASEAN), a series of free trade agreements (FTA) with countries in the region and elsewhere. To date, the most prominent of these agreements to be completed and go into effect is the Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP), an 11-nation FTA that was revived and renegotiated after the Trump administration pulled out. Vietnam also recently signed a bilateral FTA with the European Union, expected to take effect by 2020, and is one of the 16 countries negotiating the Regional Comprehensive Economic Partnership (RCEP), which includes the ten ASEAN members plus China, India, Japan, South Korea, Australia and New Zealand. That agreement is expected to be concluded within the next 12-18 months.
All of this might not matter were it not for the improving business environment in the country. In the latest EIU Business Environment Rankings Vietnam has improved access to financing and enacted policies more favourable to foreign investors, among other measures.
Vietnam has likewise improved its standing in the EIU Technological Readiness Rankings, a measure of how well prepared the world’s 82 largest economies are for technological change. Growing the digital economy has become a top priority for Vietnam’s government and to that end, it has increased the country’s innovation capacity by expanding R&D spending as a share of GDP and building better research infrastructure. Among other measures, it has also exempted imported machines from VAT so long as they cannot be produced locally and are for R&D, and it now allows firms to put aside 10% of their annual taxable income for R&D.
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