WB Update: “Robust Recovery, Rising Risks”

 

Vietnam’s recovery from the global economic crisis has been rapid but uneven. The growth rates of key economic indicators, including real GDP, industrial production, investment and exports are expected to recover to near their pre‐crisis trend growth rates. But the current account deficit remains high and households and firms appear to continue to stockpile foreign currency and gold, putting persistent pressure on the local currency. There are concerns that the rapid expansion of domestic credit to stimulate the economy led to weakening of the balance sheet of some of the banks. The stock market, after staging a smart recovery in 2009, has slumped again and continues to underperform the broader economy. Vietnam’s sovereign bond spreads remain high at around 400 basis points and are higher than most regional comparators.

 

The real economy has bounced back quite rapidly. Real GDP is estimated to have grown by 5.3 percent in 2009 and is on track to achieve the 2010 target of 6.5 percent. Industrial production is expected to grow 12.5 percent in 2010 after its growth slumped to 7.6 percent in 2009. Exports have also recovered back to the 20 percent annual growth rate observed before the crisis. Growth of fixed capital formation and private consumption continue to be the dominant source of overall growth, with their cumulative contribution to real GDP growth increasing from 5.7 percentage points in 2009 to 6.9 percentage points in 2010.

 

Anecdotal evidence indicates that the ongoing relocation by manufacturing firms from higher wage countries in East Asia is beginning to benefit Vietnam, which with its relatively low wages and easy access to coast is well positioned to absorb such investments.

 

According to the World Bank, a calibrated phasing out of the stimulus package is underway. The part of the stimulus package directly financed through the budget has been withdrawn, with the overall fiscal deficit expected to decline from 8.9 percent of GDP in 2009 to 5.9 percent in 2010. Stronger revenues could help cut the deficit to as little as 5.5 percent. Some of the monetary stimulus has also been withdrawn, although attempts to raise the minimum capital for the banks continue to face strong opposition from the banking sector. In the first eight months of 2010, credit is estimated to have risen by 16 percent compared to 27 percent growth during the same period last year. It appears that credit growth for 2010 as a whole will be slower than the 25 percent targeted by the central bank.

 

Vietnam’s state-owned enterprises have played an important role in the country’s progress, but have also become a source of long-term vulnerabilities. Despite the government’s ambition to complete the transition to a market economy with a socialist orientation and to develop the private sector, Vietnam’s economy is still dominated by state-owned enterprises (SOEs). In 2007, Vietnam adopted a strategy to exploit ‘economies of scale in production and technology’ by transforming large SOEs to “Economic Groups (EGs)” and gave them first mover advantage in sectors with increasing returns to scale. While some of the EGs have served the cause of their existence (e.g., VNPT, EVN, Petro Vietnam, etc.), many have also contributed to magnify the economic instability. During the overheating in late 2007 and early 2008, the EGs invested heavily in the financial sector and real estate, exacerbating the asset price bubbles. In late-2009 and early-2010, some of them speculated against the Vietnamese Dong. Recently, it was revealed that Vinashin (an EG involved in shipbuilding) has used resources obtained through government guarantees to invest in its non-core activities, falsified financial reports, and is on the verge of default.

 

Ms Victoria Kwakwa, WB Country Director in Vietnam, said: Enterprises that can basically do whatever they want, are not answerable to a good governance structure and getting resources they want to finance whatever, those are the things that cause some of the risks

 

According to the WB, strengthening institutions and making them more accountable and transparent is emerging as a key theme. Improved governance of the EGs, along with a new law on public investment and a new framework for public private partnership – if they are approved by the Government and supported by the new Party Congress –will boost structural reforms in Vietnam and set the foundation for a strong and sustainable growth.

 

Output has recovered to above pre‐crisis levels throughout developing East Asia and, in some countries, is expanding at near pre‐crisis rates. Real GDP is likely to rise 8.9 percent in the region in 2010 (6.7 percent if China is excluded), up from 7.3 percent in 2009 and in line with the average growth rate during 2000‐2008. The private sector is once again becoming the engine of growth, confidence is returning, and trade flows have returned to pre‐crisis levels.

 

The large increase in inflows, driven by abundant global liquidity and low yields in advanced countries, and reflective of foreign investors’ confidence in East Asia’s growth prospects, has been mainly responsible for a substantial appreciation of exchange rates, despite sustained exchange market interventions by central banks. The surge in inflows, combined with ample domestic liquidity and rising confidence, has boosted asset valuations in some countries. Most monetary authorities have refrained thus far from introducing new capital controls.

 

Vikram Nehru, the World Bank's chief economist for Asia-Pacific, said: But should inflows remain strong, especially against a background of weak global growth, the authorities will be faced with the challenge of balancing the need for robust capital inflows - especially foreign direct investment - with ensuring competitiveness, financial sector stability, and low inflation.

 

With output gaps closing rapidly and private investment recovering strongly, the authorities in most East Asian countries are unwinding their stimulus measures. But this is being done cautiously, as more evidence is needed to ensure the recovery is firmly entrenched. Fiscal deficits are likely to remain above pre‐crisis levels at least through the end of 2011. Their gradual reduction over time allows the authorities to address infrastructure gaps made more urgent by the crisis and maintain social safety nets to protect the poor, and provides an appropriate defence against subdued prospects for advanced economies.

 

Now that the recovery is on a firmer footing, many countries are also turning their attention to addressing medium term growth challenges. China’s growth prospects over the coming decade continue to look bright, but rebalancing the economy by altering the pattern of growth and investment is becoming increasingly critical to ensure sustainability. Commodity exporters in East Asia like Mongolia, Timor Leste, Papua New Guinea, and Lao People’s Democratic Republic are expected to benefit from relatively high global commodity prices and robust external demand. The middle‐income countries of the region (China excluded) need to increase investment, raise skills, and encourage innovation if they are to eventually attain high‐income status.