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The actual situation and prospect of attracting foreign direct investment from the European Union
16/1/2020 13:36' Send Print
Prime Minister Nguyen Xuan Phuc witnessing the signing ceremony of the EU - Vietnam Free Trade Agreement (EVFTA). Photo: VNA

After nearly 25 years of the establishment of the official diplomatic relation since the approvement of the Cooperation Framework Agreement (PCA) in 1995, the EU has risen to be a leading partner of Vietnam in regard to a number of domains. The data from the General Statistics Office of Vietnam shows that the EU had been cumulatively the fourth largest trading partner of Vietnam (preceded by China, the U.S and South Korea) (2) and the second larggest export market for Vietnamese goods (after the U.S) by the end of 2018. The EU, in return, becomes the fourth most important foreign investor in Vietnam (after ASEAN, South Korea and Japan). At the same time, Vietnam comes in second place out of the most important trading partners of the EU in ASEAN, just behind Singapore. The newly - signed EVFTA marks a milestone, uplifting the bilateral relation into upper level, both more deeply and comprehensively. Notably, Vietnam shows high expectation for adequate FDI flows from the EU beside other merits.

The actual situation of EU direct investment into Vietnam

By the end of April 2019, the EU had been cumulatively the fourth largest investor into Vietnam(3) with 2,244 operational projects worth a total registered capital of USD 24.67 billion, equal to 7.6% of the combined FDI capital in Vietnam. There has been a rapid expansion of FDI from the EU since Vietnam’s participation in the World Trade Organisation in 2007, reaching a record high of USD 2.6 billion of registered capital and USD 1.69 billion of disbursed capital in 2010. Nevertheless, the flows saw a drop in the wake of the global financial crisis. In recent years, they have rebounded, but nowhere close to the peak in 2010.

Despite the surge in investment capital, the proportion of EU flows of FDI to Vietnam to the EU outward flows of FDI and EU outward flows of FDI to ASEAN in general remains humble. According to the statistics by Eurostat and ASEANstats, in 2017, a sizeable proportion of EU flows of FDI was inward ones (over 61%); the outward flows of FDI destined for the United States and ASEAN stood at 29.35 % and 5.7 % respectively, equivalent to USD 175.2 billion in the 2010-2017 period. In comparison with other members of ASEAN block, Vietnam is far from being a primary investment partner of the EU with just 3% out of the total EU flows of outward FDI to ASEAN, after Singapore (85 %) and Malaysia (10%).

The data from the Foreign Investment Agency (FIA) under the Ministry of Investment and Planning shows that the EU flows of FDI to Vietnam were characterized by the following features: 27 out of 28 EU member states (excluding Croatia), the largest direct investors in Vietnam were Holland (329 projects, worth USD 9.5 billion), the UK (363 projects, USD 5.9 billion), France (543 projects, USD 3.6 billion), Luxembourg (47 projects, USD 2.4 billion), Germany (326 projects, USD 2 billion) and Belgium (70 projects, USD 1 billion). By the end of April 2019, the combined value of investment from the above-mentioned countries cumulatively had made up 89.96 % out of the EU total registered capital in Vietnam, while other EU members’ investment in Vietnam remained petty. This reflexed the huge untapped potential for traditional and new investors in Vietnam.

The average value of projects invested by the EU flows of FDI remained relatively modest (USD 11.02 million), lower than the average level (USD 12.4 million). Notably, the scopes of projects invested by the EU flows of FDI varied significantly. Some countries poured a great amount of money into large-scale projects like Luxembourg (USD 51.48 million), Holland (USD 29.02 million), Ciprus (USD 26.75 million), Belgium (USD 14.8 million), Slovakia (USD 14.15 million). The rest remaining projects stood at between USD 1-5 million or even less.

In the area of investment, EU has poured money into 18 out of 21 broadly – defined economic sectors with the focus on manufacturing sectors (accounting for 36.3 percent of the total registered capital), mainly petrol refinement with 11%, textiles 6.94%, electronics 6.4%, foodstuffs processing 5.6%, automobiles and other kinds of vehicle 5.2%, gas and electricity production and distribution 20.7%, real estates (11%), information and media (6.6%). Therefore, it is noticeable that the EU flows of FDI have played a crucial role in the process of positively shifting Vietnam’s economy. Also, FDI flows from the EU have covered a wider and more even range of investment compared to Japan’s and South Korea’s.

In destinations of investment, EU investors have done business in 54 cities and provinces nationwide, especially big cities with advanced infrasructure, seaports, airports like Ho Chi Minh city (15.1%), Ba Ria-Vung Tau (15%), Ha Noi (14.8%), Quang Ninh (9%), Dong Nai (8.3%), Binh Duong (6.9%). For that reason, the EU inflows of FDI have not aided in narrowing down the development gap between regions across the country.

In forms of investment, the majority of the EU-invested projects in Vietnam are wholly foreign-invested. Other types including BOT, BT, BTO make up a small portion. This has led to numerous limitations in the linkage between FDI sectors and geographical regions as well as universal influence of FDI-owned enterprises.

Overall, there has been a boost in FDI flows from EU into Vietnam, remarkably contributing to the economic growth of Vietnam by providing capital for development, facilitating export, bettering trade balance, triggering a positive shift of the economy, enabling domestic enterprises to promote their managing capacity and competitiveness in the market. Especially, EU investors have advantages of technologies, partly creating some brand-new sectors and technology-intensive products. The EU has a tendency to investment directly in high-tech industries and services (such as post, telecommunications, finance, offices for lease, retailing, among others). It is the participation of FDI-invested enterprises from the EU that has introduced cutting-edge techonologies in such sectors as petroleum, heavy industry, postal service among the others in Vietnam.

Nevertheless, the EU flows of FDI to Vietnam have stayed unstable and failed to correspond with investors’ potentials of capitals and technologies. There’s a lack of large-scale projects to which Vietnam gives priority such as hig-tech, input tech, green tech, renewable energy, hig-tech agriculture, finance and banking projects, among the others. Many EU-invested projects are still making use of cheap local labor force to perform assembling tasks, make products for domestic and foreign demand. Moreover, because FDI flows are confined to big cities with the total foreign ownership, they have shown poor linkage and little influence.

The prospect of attracting further EU flows of FDI to Vietnam

Flows of FDI from the EU to Vietnam are projected to witness a boom in the coming time. This promising achievement is mostly driven by the EVFTA which is described as the most comprehensive and in-depth agreement of Vietnam so far and the most inclusive and ambitious one that the EU has ever concluded with a developing country. The deal covers a variety of areas, ranging from the commitment to free trade facilitation to liberalization of trade, service and e-commerce, public procurement, competition, state-owned enterprises, intellectual property rights, transparency, dispute settlement, juridiction-institution. These pledges will serve as motivation for Vietnam to better its institutions and legal framework, promote its business environment and create more favourable and secure conditions for investors. All considered, EVFTA has impacts on the signatory to certain extent.

Firstly, the high degree of commitments to tariff reduction and trade facilitation under EVFTA is one of factors attracting FDI flows into Vietnam. Accordingly, the two parties commit to the almost full elimination of bilateral tariffs on commodities over a 7- year period and 10-year period from the EU and Vietnam(4) respectively. Theoretically, the commitments to lifting custom duties are designed to accelerate general FDI flows from non-FTA countries with the purpose of utilizing preferences given from and to FTA sides. Meanwhile, in case of inward FDI, FTA could raise vertical(5) FDI and lower horizontal(6) FDI. The macro-impacts caused by the trade barrier lift would, therefore, depend on the nature of the bilateral FDI investment. Given the EVFTA in particular, it will attract extra FDI flows from non-EU state members, raise vertical FDI and lower horizontal FDI capital from the EU to Vietnam. In fact, the majority of EU flows of FDI to Vietnam are vertical ones as EU investors expect to exploit natural resources and cheap labour force. As a result, EVFTA is predicted to accumulate FDI flows to Vietnam from both EU members and non-EU countries.

In the coming time, Vietnamese export goods benefiting from tax reduction include processed foodtuffs, beverages and cigarettes; textiles; pearl, precious metals; shoes, headgears; metal products; stone products; wooden product; leather products and textile materials. This is a good opportunity to attract FDI from non-EU countries, especially thosethat share similar comparative advantages with Vietnam and that wish to take advantage of the EU's preferential tariffs given to Vietnam.

In return, the EU products exported to Vietnam at the most tax reduction rate are shoes, headwear; stone products, plaster, cement, mica, glass; textiles; processed foodstuffs, beverages, tobacco; leather products; textile materials; paper and pulp. These industries offer huge potential for vertical FDI from EU countries, as well as non-EU members whose aim is to make full use of comparative advantages of both Vietnam and EU. Noticeably, some commodity groups enjoy significant tax cuts from both sides such as shoes, headwear products, textiles, leather products, and textile materials. These belong to a list of industries that Vietnam has a great comparative advantage. The tax cuts commitments will create favorable conditions to attract FDI flows into Vietnam in the sectors of textile and footwear production, especially international outsourcing as foreign enterprises can import primary goods from the EU then export final products to the EU at a low cost.

Secondly, EVFTA's commitments to openness in trade, services and investment are pretty deeper compared to WTO’s, creating opportunities for EU enterprises to do business in Vietnam.

The EU inflows of FDI may increase in the sub-sectors of services with Vietnam’s commitment in EVFTA, but without its commitment in WTO, such as autonomous chartering; fair and exhibition; postal services; delivery services; warranty and repair services of ships, inland watercraft, aircraft; container loading and unloading services, and freight transportation services.

FDI will also be on the rise in the service sectors of finance, logistics, computer, environment, higher education, distribution, telecommunications, and health that are committed to being open at a deeper level than the commitments in WTO, and these are the strengths of EU members. Vietnam makes commitments on market access and more favorable conditions, and lower foreign ownership limits for partners from EU countries than others within these sectors or specific sub-sectors.

In addition, commitments on investment liberalization in EVFTA can enhance FDI inflows in several manufacturing industries destined for EU investors including food and beverage, cane sugar production, fertilizer and nitrogen compound; tires; gloves and plastic products, pottery; bicycle; glass; building materials such as bricks, and cement; and assembling industries of marine engines, agricultural machinery, household appliances and among others.

Apart from commitments on the liberalization of trade in goods, services and investment, other commitments in the EVFTA serve as an important drive for Vietnam to continue improving its institutions and business environment, promoting impartial competitiveness and creating favorable conditions and confidence for foreign investors in general and EU ones in particular.

Challenges posed in attracting FDI from EU

On the one hand, the prospect of attracting FDI from the EU after the signing of EVFTA is very promising, potentially improving the quality of FDI inflows into Vietnam as the EU has advantages in source, advanced and clean technologies. FDI from the EU not only adds more investment capital but also helps Vietnam access and keep pace with new development trends, thereby fostering economic development without doing harm to the environmental and social targets as well. However, there remain several issues that should be taken into careful consideration with regard to FDI attraction from the EU.

Firstly, Vietnam has advantages over other major competitors in terms of trade and investment in the region thanks to the early conclusion of an FTA with the EU while others countries (except for Singapore) have not achieved such deals yet. Still, these might shortly come to an end because ASEAN and EU share a common vision of forming a region- to - region FTA. To this end, the EU will continue to negotiate bilateral FTAs with each ASEAN country in the near future. The advantage of lower import tax, the trade and investment facilitation mechanisms specifically given to Vietnam will no longer exist then. Therefore, Vietnam needs to take full advantage of the "golden time" to penetrate into the single market as well as FDI from EU countries.

Secondly, in case of high - quality FDI attraction, EVFTA does not necessarily translate into the agreement’s decisive role in investment activities. In order to improve the quality of FDI inflows, Vietnam needs to continue improving its business environment, enhancing the quality of its human resources and strengthening its technological capability. Despite recent improvements in the Doing Business indicators by the World Bank (WB), Vietnam's ranking in 2018 was still quite modest (68/190), compared to other competititors of FDI attraction such as Singapore and Malaysia(7). Besides, Vietnam’s positions need to be further solidified in other areas such as procedures related to starting a business (123rd), resolving insolvency (129th), trading across border (94th) and paying taxes (86th).

According to the report from the World Economic Forum(8), Vietnam’s low rankings in business sophistication (100th), local supplier quality (115th) and availability of latest technologies (112th) are the major barriers hindering it from occupying a higher position in the global value chain. As evaluated by the WEF in collaboration with Kearney, in terms of education, human resources, innovation and technology, Vietnam is not yet prepared for the Fourth Industrial Revolution. Vietnam rankings in technological and educational renovations are quite low, standing at 90/100 in technology and renovation, 92/100 in Technology Platform, 77/100 in renovational capability, and 70/100 in human resouces. In ASEAN, Vietnam stands behind Malaysia (ranked 23/100 in technology and renovation, 21/100 in human resources), Thailand (ranked 41/100 in technology and renovation, 53/100 in human resources), the Philippines (59/100 in technology and renovation, 66/100 in human resources). These are areas that Vietnam needs to continue improving its positions in order to attract capital of better quality in the future.

Thirdly, one of the issues concerning EU investors especially in the field of technology is the protection of intellectual property rights. Therefore, Vietnam needs to review its law on Intellectual Property Rights in accordance with deeper commitments in EVFTA and other new FTAs, as well as fully implement these commitments to lay the foundation for investor’s trust.

Fourthly, the local businesses’ understanding of EVFTA remains poor, although EVFTA attracts great interest and has profound impacts on local business community. This is also true for European businesses operating in Vietnam; up to 28% of businesses surveyed are still vague about the contents of EVFTA(9). The figures for Vietnamese enterprises may be even higher, which can deprive the businesses of good opportunities and make them ill-prepared for the challenges posed by EVFTA. Therefore, it is essensially important to sensitize businesses of, and carry out research on the impacts of EVFTA.

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(1) As shown in the data by the General Statistics Office
(2), (3) Based on the data from the Foreign Investment Agency under the Ministry of Investment and Planning
(4) More detail at http://www.trungtamwto.vn/download/18717/TTWTO%20Tom%20luoc%20EVFTA%20-%20final.pdf
(5) Vertical FDI takes place when the multinational fragments the production process internationally, locating each stage of production in the country where it can be done at the least cost
(6) Horizontal FDI occurs when the multinational undertakes the same production activities in multiple countries. We consider a model where the risk-neutral multinational must commit its investment prior to the realization of shocks. The multinational has monopoly power and confronts two types of risk
(7) World Bank: Doing Business 2018: Reforming to Create Jobs, Washington, DC. IBRD
(8) World Economic Forum: Kearney, A. T: Readiness
for the Future of Production Report 2018, Geneva, WEF
(9) Euro Cham (2018b): EVFTA Report 2018-The EU-Vietnam Free Trade Agreement: Perspectives from Vietnam

Source: Communist Review No. 924 (8-2019)

Nguyen Thi Minh PhuongUniversity of Economics and Business (UEB) under Vietnam National University, Hanoi (VNU)