Vietnam’s Saving Stays at 35% GDP, IMF Announces

Nhat Trung

Saving has remained at about 35 percent of GDP, which is high relative to peers, reflecting ineffective financial intermediation of high profits in the FDI sector into productive investment opportunities in the domestic economy.

Vietnam’s Saving Stays at 35% GDP, IMF Announces
Photo Credit: Independent
The current account position reflects a dual and segmented economy. A competitive FDI manufacturing sector generates a large trade surplus (15 percent of GDP), dominated by electronics multinationals and apparel producers engaged in processing and final assembly. 
Vietnam is becoming highly integrated into the global supply chain—both forward and backward linkages—while moving up the value chain, mainly in high-tech manufacturing. The domestic non-FDI sector (many SMEs, agriculture, tradable goods producers, including SOEs and domestic private firms) runs a trade deficit of 8.3 percent of GDP.
Productivity in this sector is low (20 percent of that of the FDI sector), and exports are dominated by agricultural commodities and oil. Slow SOE reform progress, barriers faced by SMEs to reach economies of scale and credit misallocation and weaknesses in financial intermediation impede the development of a productive and vibrant economy outside the FDI sector despite rapid growth.
Investment has declined during the last decade while saving has remained high. Gross capital formation has been below most countries in the region. Excluding the FDI sector, investment has fallen by 10 percentage points, to 25 percent of GDP. 
This partly reflects cutbacks in SOE capital formation in heavy industries and barriers to the development of private manufacturing firms and SMEs, as well as declining public investment. Saving has remained at about 35 percent of GDP, which is high relative to peers, reflecting ineffective financial intermediation of high profits in the FDI sector into productive investment opportunities in the domestic economy because of foreign ownership limits and weaknesses in the banking system.
The real effective exchange rate (REER) appreciated in 2018. The real effective exchange rate appreciated from the low levels of 2005 until 2016 by 4 percent on average every year. In 2017, the REER depreciated by 4.4 percent, as the Dong remained pegged to a weakening U.S. dollar. The trend reversed in 2018 and the REER appreciated by 3.5 percent through the year.
The financial account balance is expected to decline in 2018. FDI and FII inflows have been robust (US$15 and 3 billion) while private external disbursements continued to rise. In mid-2018, increased pressure on the Dong led to a temporary reversal of foreign equity flows and an increase in US dollar currency holdings by residents outside the formal financial sector.
Reserve coverage stands at 76 percent of the adequacy metric. In 2018, GIR increased by US$5.8 billion and reached US$55 billion. Since 2016, FX reserves have doubled in US$ terms and the ratio to GDP increased by 4½ percentage point to 22.9 percent.
Despite this large accumulation, the coverage remains at around 76 percent of the ARA metric, due to the rapid growth in Vietnam’s exports, foreign liabilities and money supply. At around 2.4 months of imports of goods and services, reserves remain well under the regional emerging market countries’ average of nine months.
Vietnam’s external position is assessed to be substantially stronger than warranted by fundamentals and desirable policies. The current account approach of the external balance assessment (EBA) suggests a CA norm of -4.6 percent of GDP, indicating an undervaluation of 8.4 percent. 
Policy gaps contributing to the CA gap relate to low public health expenditure and still high capital controls. This methodology could overstate the CA gap as EBA-lite does not account for the segmentation of the FDI sector from the rest of the economy, even though dualism is declining as links between the FDI sector and the rest of the economy grow. 
The equilibrium real exchange rate approach points to a substantial overvaluation, but the fit is poor, and staff’s judgment relies on the adjusted REER results of the CA regression.
In conclusion, there is evidence of substantial CA strength of some 6½ percent of GDP. This reflects the dualism still prevalent in Vietnam’s economy. CA strength should be addressed through structural, institutional, and financial sector reforms to raise private investment and protect public investment while raising its efficiency. 
The modernization of the monetary framework, with greater two-way exchange rate flexibility, would also help external adjustment by facilitating nominal appreciation and reducing the need to accumulate reserves.