China slowdown to have moderate impact on Vietnam

Beijing recently cut its growth target for this year to the 6-6.5 percent range, from ‘about 6.5 per cent’ set for last year. The official GDP growth of 6.6 percent in 2018 was already the slowest in 28 years.

China is Vietnam’s largest trading partner and largest source of imports and tourists, and was the second largest export market behind only the U.S. in 2018.

Vietnam has been exporting unprocessed agriculture and other primary products to China for decades. Recently there has been strong growth in exports of higher value agriculture products, including fruits, vegetables and other horticulture products and seafood. Vietnam also exports electronic and other manufactured products to China.

As Vietnam has become more integrated into regional production chains, imports and investment from Chinese enterprises have increased. Now besides consumer products, Vietnam also imports large volumes of components and parts for its manufacturing sector from China.

The recent rapid growth in Vietnam’s rapid manufacturing sector has been driven by growth in final processed and fabricated goods at the low value-added end of regional production networks. A Chinese slowdown could increase the availability of inputs and put downward pressure on prices of imports of components and parts for manufacturing.

On the other hand, some Chinese suppliers could struggle with their business. The net impacts on Vietnam are uncertain but will probably be relatively modest.

The current economic slowdown is also likely to have only a modest negative net impact on growth in Chinese demand for Vietnamese goods. Nevertheless, given sustained moderate growth in national consumption, growth in exports to China is likely to remain robust, especially as the scale of Vietnam’s manufacturing grows and its productivity and competitiveness increase.

But because it is such a major global economic power, China’s slowing growth will put downward pressure on economic growth in Vietnam’s key markets like the U.S., E.U. and ASEAN. This could dampen growth in global demand for Vietnamese exports.

Chinese investment in Vietnam has been well below other major sources, but its share has been increasing. It is not clear what the net impact of the slowdown will be on FDI flows from China to Vietnam. At least some Chinese investors will view Vietnam as an increasingly attractive option to diversify investment risks.

China’s slowdown in perspective

As China’s productivity and per capita income increase towards high-income country levels, some slowdown in economic growth becomes inevitable. This is because the opportunities to generate productivity and income growth by transferring existing technology from more advanced economies diminish.

China is entering a stage of economic development where it will become more dependent on its own innovations for productivity growth. There will be less opportunity for relatively rapid economic leapfrogging. Thus, China is unlikely to ever return to previous high levels of growth.

Other factors contributing to China’s slowdown include opaqueness in the banking system, growing levels of national and household debt, an aging population, economic inequality, over-capacity in some sectors, and the U.S. trade conflict. And compared with earlier slowdowns, the Chines government now has less policy space to stimulate growth through expansionary expenditure.

However, it is also important to recognize that despite its slowdown, China’s rate of growth remains relatively high. Most countries with upper middle incomes and above will be more than happy if their economic growth "slowed down" to 6.5 percent.

And China remains one of the world’s largest economies, accounting for nearly 20 percent of global trade. In some areas, such as the digital economy and electronics, China is emerging as a world leader in innovation. Its potential as an economic partner continues to grow.

Growing regional integration

Moreover, implementation of the Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP), also known as TPP-11, and the long-anticipated EU-Vietnam trade and investment agreements (EVFTA), should provide new opportunities for Vietnam to expand and diversify its economic relations.

Such diversification will help stimulate competition, technology transfer and productivity, and reduce Vietnam’s exposure to external economic shocks.

The expected agreement on the Regional Comprehensive Economic Partnership (RCEP) in 2019 will also help Vietnam further develop and diversify its economic linkages with China, especially in trade in services, integration of production networks and technology and investment flows.

Other bilateral initiatives, including streamlining of cross-border inspections and payments services will also stimulate economic cooperation between the two countries.

Implications for Vietnam

A slowdown in China’s rate of economic growth was inevitable given the country’s meteoric rise as a global economic power in recent decades. Internal factors, including increasing levels of indebtedness, have also contributed to this slowdown and limit the policy options available to the Chinese authorities to act to stimulate growth.

Nevertheless, the negative impacts on Vietnam’s economy may be relatively limited. China is expected to continue to grow at over 6 percent, and is likely to sustain moderate growth in coming years.

The prospects for Vietnam to continue increasing exports of higher value-added agriculture, manufactured goods and services to China remain strong. Vietnam would have more serious concerns if China’s growth quickly fell to OECD country growth rates.

Possibly the bigger challenge for Vietnam is to avoid becoming overly economically dependent on China (or any single economy). Vietnam’s exposure to global economic shocks can be reduced by facilitating a more diversified mix of import and export markets. Hopefully, recently agreed reforms under regional and economic cooperation agreements will help promote trade and investment diversification.

*Raymond Mallon is a part-time advisor for the Australia-Vietnam Economic Reform Program.