Academic journal article Journal of Southeast Asian Economies

The Role of Institutions in the Development of Vietnam

Academic journal article Journal of Southeast Asian Economies

The Role of Institutions in the Development of Vietnam

Article excerpt

I. Introduction

Vietnam, as one of the newest members of the ASEAN Free Trade Area (AFTA), is facing several challenges to its goal of accelerating the pace of economic development. Tariffs are to be reduced to a maximum of 5 per cent by 1 January 2006. The domestic banking sector, currently dominated by state-owned enterprises (SOEs), has yet to be deregulated. The rise in agricultural production emanating from the change from collectivized agriculture to individualized farming has delivered significant benefits, but production has already peaked, implying little potential for further growth. This article argues that if the pace of development is to be maintained, urgent reforms to the institutional environment are necessary.

The urgency for economic reforms is highlighted given a per capita gross domestic product (GDP) of US$390, and given that growth of output is falling (World Bank 2000). Foreign direct investments have fallen from a peak of approximately US$2 billion in 1996 and 1997 to around US$600 million in 1999 and 2000. Even if growth in output resurges to 7 per cent per annum -- the peak experienced in the rapidly growing Asian economies prior to the financial crisis of 1997 -- it would still take at least a generation (equal to three decades) for per capita income to reach the current levels in neighbouring Thailand.

Vietnam has made a major transition from a command economy to one where market forces have been allowed to determine resource allocation for production. The programme of comprehensive economic reforms that commenced in 1986 has delivered significant changes in the form of land reforms. These reforms have been credited with bringing about significant increases in agricultural production (Che, Kompas, and Vousden 1999). Vietnam has, consequently, moved from being highly dependent on rice imports to being one of the largest exporters of rice in the world. The reforms, however, have run their course, and there is need for further reforms if the rate of development is to be accelerated. Budgetary constraints imply that only a handful of interventions can be made at any one time; the challenge, therefore, is to choose the critical changes that will induce faster output growth and poverty alleviation. Getting the settings "right" has the potential to deliver large and ongoing benefits, but mistakes could have significant consequences for the welfare of current and future generations.

We argue that the prevailing institutional environment is the constraining factor to faster growth in investment and output. Institutions that protect property are in their infancy and in need of strengthening. The challenge for the nation's leaders is to use the available resources to induce development of institutions that are necessary for investment. We draw on the lessons offered by the emerging literature on New Institutional Economics (NIE) to make some specific recommendations for the second phase of economic reform.

The NIE literature is converging on the prerequisites for growth of output and the conditions necessary for this to translate into development. Some of these prerequisites for growth of income include but are not limited to the following: a stable domestic macroeconomic environment; an open trading regime; a non-distortionary taxation system; a healthy financial system; and the presence of institutions that guarantee property rights. The complete list of necessary, albeit not sufficient, conditions for growth, is as yet inconclusive. Reform has targetted all of the above except the very last; this omission appears to be acting as a constraint to continued growth in output. Recent experiences in Vietnam offer guidance on the very building blocks that have to be put in place if development is to continue in the medium to long term.

This article draws on two lessons from the recent developments in the literature on NIE. First, property rights that are essential for investment, need to be further strengthened. …

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