Designing a Comprehensive and Realistic Industrial Strategy

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Designing a Comprehensive and Realistic
Industrial Strategy

• Kenichi Ohno
• Project Leader on the Japanese side
• Vietnam Development Forum (GRIPS-NEU)
• February 25, 2004

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The Purpose

• To offer concrete realistic ideas for
  industrial strategy formulation
• Based on the past present research cooperation
  between Vietnam Japan
• --MPI-JICA (Ishikawa Project, 1995-2001)
• --NEU-JICA (2000-2003)
• --Vietnam Development Forum (GRIPS-NEU, 2004-2008)

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Japans Near-ConsensusView on Vietnam

• Vietnam has potential to industrialize and join
  East Asian dynamism
• Combining high-quality labor, FDI, and technical
  absorption is the key
• However, poor policy is preventing the
  realization of Vietnams full potential
• --FDI inflow and technical absorption are slower
  than potential
• --Domestic and foreign businesses are frustrated
  (including Japanese firms)

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Three Aspects ofVietnams Industrial Policy
Problem

• Unclear overall vision strategy
• Lack of good master plans for individual
  industries
• Lack of unity and coordination among different
  ministries and levels
• ?This paper mainly discusses the first problem
  (overall vision and strategy)

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Menu for Discussion

• Defining an industrial country
• Setting the fundamental course
• Industrial policy formulation
• How to import East Asian dynamism
• Overall industrial vision suggested contents
• Japans new ODA policy

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1. Defining an Industrial Country

• Industrialization by 2020 is the national goal,
  but what does it mean concretely?
• The goal should be realistic and achievable under
  good effort
• The goal should reduce policy uncertainty and
  promote strategic planning of enterprises

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Industrialization as a process

• Simon Kuznets (1973) defines Modern Economic
  Growth (industrialization) as follows
• Rapid growth of population and per capita output
• Rapid urbanization and changes in economic
  structure
• These changes are sustained for a long time

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Industrialization as a process

• Ryoshin Minami (1986) defines industrialization
  as follows
• Durabilitymanufacturing industries grow
  continuously and at high speed
• Contribution to overall growthmanufacturing
  industries are the largest contributing factor to
  GDP
• Structural changemanufacturing industries shift
  constantly from low-tech to high-tech

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Problems with Classic Definition

• It defines the process but not the end state
  (what is an industrial country?)
• It is derived from historical growth of Europe,
  US and Japan (not LDCs)
• It does not assume strong globalization pressure
• It is too general (not numerical or operational)

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For Vietnam we suggest the following

• Industrialization should be defined concretely in
  the context of East Asian dynamism and production
  networks
• External factors should be highlighted (FDI,
  China, competitiveness, trade liberalization,
  technical transfer, etc.)
• Relative income criterion, not absolute
• Thailand should be the reference country for 2020
  (do at least as Thailand does and even better)

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Concrete Criteria for Vietnam 2020

1. Relative incomejoin the middle group (China
   ASEAN4)
2. Export structureManufacturing is (75) or more
3. Selected leading statusVietnam becomes No.1 or
   No.2 exporter in the world for a few high-tech
   items, based on industrial agglomeration and high
   quality
4. Supporting industriessignificant amounts of
   parts and inputs are domestically produced (but
   not 100)
5. Supporting servicesdomestic skilled labor
   provides a large part of design, production
   management, marketing, etc. replacing foreigners

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Why Thailand?

• Similar population size (61 million)
• Income level of 2,000 (reasonable target for
  Vietnam 2020)
• High manufactured export ratio (76)
• Excels in a few productselectronics cars, with
  sizable supporting industries
• Problems with Thailand (VN should avoid)
• --Excess urbanization social problems
• --Urban-rural income gap does not narrow
• --Not-so-skilled labor slow technical absorption

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2. Setting the Fundamental Course
Vietnam should not debate the fundamental
strategy forever. It must decide what to do and
announce it clearly so businesses can operate in
a stable policy environment.

• Which sectors are promoted and prioritized SOEs,
  private sector, or FDI?
• What are the long-term policies for tariff
  reduction, localization and technical transfer?
• Which are the key industries and how will they be
  supported?

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Ongoing Debate

• State-led view (Some Vietnamese)
• State should guide and direct the market
  otherwise, growth will be too slow or imbalanced.
  Invest in upstream industries fast.
• FDI-led view (Japan team some Vietnamese)
• FDI is key for competitiveness policy should
  support investors and follow global market
  dynamics. Help local firms link with FDI
  networks.
• SME-led view
• Market-led view

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Comparison 1
State-led View FDI-led View
Who should lead? State should guide market growth is imbalanced or too slow without it Absorb critical mass of FDI with open low-cost business climate
Localiza-tion policy Use reward/penalty to speed up local supply of inputs Encourage natural demand-led localiza-tion (dont force it)
Upstream sector (materials inputs) State must invest upstream if FDI or private firms dont do it Dont invest unless globally competitive vertical integration shouldnt be aimed
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Comparison 2
State-led View FDI-led View
Import-subst. industries State must support and protect it if necessary job industrial concern Let market decide under tariff reduct-ion but help firms with realistic plans
Export industries (garment, electronics...) Little contribution to VNs economy due to low local value-added Very important encourage them with open low-cost FDI climate
Trade liberaliza-tion Inevitable, but national interest must be considered in the process Choose appropriate speed to encourage efficiency avoid social crisis
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Fundamental Direction(My Suggestion)

• Declare the following as key industrial strategy
• VN is irreversibly committed to integration and
  market orientation
• Government will play a key role in promoting
  industries and reducing various social costs
• FDI is the main pillar of growth up to 2020
  local firms are assisted to link up with FDI firms

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• SMEs are important as
• (i) domestic source of income jobs(ii)
  supporting industries(iii) global competitors
  (some)
• SOEs will be selectively reformed
• --Separation of winners losers
• --Gradual reform for social concern
• --Two-track approachLet SOEs decline relatively
  as private sector develops faster, instead of
  forced big-bang privatization

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TaiwansTwo-TrackApproach
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3. Industrial Policy Formulation
We propose the following shifts in emphasis

• From quantity to quality (international
  competitiveness)
• From product orientation to process orientation
• From picking individual industries to setting a
  broad direction

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From Quantity to Quality

• Current industrial plans are expressed in
  desired quantitiesoutput, exports, domestic
  supply ratios, investments, etc.
• Creation of global competitiveness should be the
  goal, not desired quantities
• Competitiveness include
• Cost, time, specialization, small lot
  production, choosing the appropriate production
  model for VN, marketing, after-purchase support,
  etc.

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How to Analyze Situation and Set Goals
STEP ONE Study recent global and regional trends
of that industry. STEP TWO Compare numerically
the competitiveness of Vietnam and the rival
country (China, Thailand, etc. depending on each
industry). This defines the gap that must be
narrowed. STEP THREE Design concrete measures to
raise VNs competitiveness to the level of the
rival country (and above). Set realistic goals
and time schedule. Mobilize all means which are
permitted by WTO and other international
commitments. MORE LATER
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From Product to Process

• The idea that computer DVD are high-tech while
  food garment are low-tech, is mistaken.
• For any product, high and low skills are combined
  at different stages. Products are not high-tech,
  but processes are.
• VN can perform only low-tech processes now. The
  real question is how to expand from low-tech to
  high-tech over time.

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Value-Added in Computer Production
Value
SoftwareProcessorMemoryLCD
Brand nameSales channelsSales manage- ment
High-tech
MonitorHDD Motherboard
Vietnam should start with assembly but gradually
improve capability
Low-tech
Design parts
Assembly
Marketing
Upstream
Downstream
Source Adopted from Yumiko Okamoto, Electronics
and Electrical Industries, in K. Ohno N.
Kawabata eds, Industrial Strategy of Vietnam,
Nihon Hyoronsha, 2003, p.101 (Vietnamese
translation in 2003, p.116)
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How to Improve Value

• Do low-tech processes well and be No.1 in
  quality, delivery, complexity, etc
• Ex. Mens white shirt ? Ladies fashion
• Learn from--and replace--foreigners
• Ex. Factory management, procurement
• Gradually move both upstream (design, inputs) and
  downstream (marketing)

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Industry Atextile
Industry Cmotorbike
Industry Belectronics
Upstream
Vietnam should first concentrate and improve on
skilled labor-intensive processes. From this
base, vertical expansion should be achieved
gradually (not forced).
Next step
Current size
Further step
Downstream
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From Picking Individual Industries to Broad
Guidance

• Needless to say, market government must be
  mixed properly in development
• Government should generally support certain
  production processes without pre-judging specific
  industries
• It is the market, not government, which decides
  the ultimate fate of each industry

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Ranking Individual Industries?
Many studies classify VNs industries according
to competitiveness (effective protection, RCA,
labor content, etc.) However...

• They rely on past data, not future potential
• Dynamic comparative advantage partly depends on
  policy (not predetermined)
• Competitiveness should be evaluated for
  processes, not for products

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Which Industries (Processes) Should Be Leading?
We propose to target the following processes (1)
Top priority skilled labor-intensive

• In the next few decades, VNs dynamic
  comparative advantage lies in skilled
  laborintensive manufacturing. VN should fully
  realize this potential by
• --Removing current barriers problems
• --Actively supporting such processes

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Already successful (promote further) Garment,
footwear, electronic assembly, handicraft, some
furniture, pottery, frozen seafood, etc. Also
support other skilled-labor intensive
processes Software, agro processing, kitchen
ware, household goods, toys, etc.
However, support should be given generally
without specifying which firm or product should
win --Information, marketing, management,
procurement--Technical transfer, training,
quality standards, RD--Tax tariff privileges,
public investment, ODA (TA)
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In addition, the following activities which
support the leading industries should also be
promoted (2) Hard supporting industries Parts and
intermediate materials for leading
industries However --100 domestic supply
should not be aimed --Natural promotion, not
forced (3) Soft supporting industries
(industrial services) Design capacity, global
marketing procurement, telecom, transportation,
power, water, housing, etc. --Initially assisted
by the state, later by enterprises themselves
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(4) Industries to fulfill growing domestic
demand Steel, chemicals, plastic, paper, cement,
and other material industries of
import-substitution type If they are all
imported, it would be a burden on the balance of
payments However--100 domestic supply should
not be aimed--Low cost and competitiveness must
be achieved under careful learning and gradual
trade liberalization
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4. How to ImportEast Asian Dynamism
In the globalization age, industrial strategy
formulation must also include the following three
issues

• Attracting a critical mass of FDI
• Building optimal regional linkage
• Breaking the glass ceiling (going beyond
  Thailand)

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Attracting a Critical Mass of FDI

• FDI is the key for VNs industrialization
• VNs FDI absorption is still too small to ignite
  a full industrial transformation
• Ex. Thailand Malaysia in late 1980s
• Main exports Rice, tin, rubber ? Electronics
• Manuf. export ratios 30-40 ? 70-80
• Agglomeration is necessary
• One Canon effect is not enough 50-100 FDI
  firms need to be attracted in each sector

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Agglomeration Initial concentration has an
accelerating effect
Silicon Valley
Fragmentation International division of labor in
parts production assembly
PB production block
SL service link
SL
PB
PB
SL
SL
PB
PB
SL
SL
PB
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How to Participate in Asian Dynamism Become a
link in the regional production network by
agglomerating a particular process in Vietnam
--New products are always emerging (esp.
electronics) --MNCs are constantly looking for
alternative location
Illustration
Vietnam
Parts
Assembly
Materials
Marketing
China
Taiwan
Parts
Hong Kong
RDDesign
Thailand
Software
Japan
India
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Japanese Firms Choosing FDI Host Countries
China Merits Size, cheap abundant labor,
engineering, material supply, etc Demerits
policy legal climate, lack ofIPR protection,
energy shortage,risk of concentration
ASEAN
?
Too costly Singapore Malaysia
Too unstable Philippines Indonesia
Myanmar
Thailand Reliable but less exciting
Vietnam Exciting but risky
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Building Optimal Regional Links

• While localization (agglomeration) is important,
  not everything should be localized
• Internalize processes in which VN has dynamic
  comparative advantage
• Outsource other things from the rest of Asia
• If this choice is made incorrectly, VN will lose
  competitiveness
• VN is ideally located to become a bridge between
  China ASEAN (all Japanese business men say so)

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Breaking the Glass Ceiling
Creativity
STAGE FOUR Full capability in innovation and
product design as global leader
Technical absorption
STAGE THREE Technology management mastered, can
produce high quality goods
Agglomeration
STAGE TWO Have supporting industries, but still
under foreign guidance
Japan, US, EU
STAGE ONE Simple manufacturing under foreign
guidance
Korea, Taiwan
Thailand, Malaysia
No ASEAN countries have broken through the
invisible barrier between Stage Two Three.
Vietnam
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Preparing to Go Beyond

• While VNs immediate goal is agglomeration (Stage
  2), it should also prepare for technical
  absorption (Stage 3)
• Vietnam can become the first country in ASEAN to
  break through the barrier if its high skilled
  labor is combined with --Good government
  policy --Good enterprise management

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5. Overall Industrial VisionSuggested Contents
Historically, Japanese economists designed
industrial strategies along the following lines
What is the current global situation?
Action plan A
What is ourposition in theworld economy?
What are thekey nationalgoals?
Action plan B
Action plan C
What is thedomesticsituation?
Action plan D
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ExamplePostwar Reconstruction Report

• Saburo Okita et al, Postwar Reconstruction of the
  Japanese Economy (MOFA, Sep.1946)
• PART I
• Chap 1 Basic Trends of the World Economy
• Chap 2 International Environment of the Japanese
  Economy
• Chap 3 Peculiarities of the Japanese Economy
• Chap 4 Conditions Newly Confronting the Japanese
  Economy

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• Part II
• Chap 1 Basic Problems of Economic Reconstruction
• Chap 2 Guaranteeing the Peoples Livelihood
• Chap 3 Restructuring the Economy
• Chap 4 Specific Problems of Economic
  Reconstruction
• --Living standards and exports and imports
• --Industrial structure in the future, which
  includes
• Textile, sundry goods, machinery, chemical,
  electricity, livestock, fishery, shipping,
  tourism
• --Future employment pattern
• --Future national income
• --Promotion of technology, etc.

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For Vietnam 2020

• Since VN faces far greater integration pressure
  than Japan in 1946, even more external
  considerations are necessary
• East Asian dynamism networks
• China, ASEAN rivals, WTO, FTAs, etc
• FDI dynamics
• Localization strategy
• Technical absorption
• How to join regional production network

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Industrial Vision for Vietnam(My Suggestion)

• Part I Analysis of the Current Situation
• Chap 1 Global Review
• Chap 2 Regional Review (China, ASEAN)
• Chap 3 Vietnams Current Position
• --Industrial achievements
• --Position in regional network global
  competition
• --Vietnam as an FDI host
• --Trade commitments
• --Comparison with China Thailand, etc

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• Part II Industrial Strategy Up To 2020
• Chap 4 Fundamental Strategy for
  Industrialization
• Chap 5 Industrial Goals for 2020
• Chap 6 Leading Industries and Supporting
  Industries
• Chap 7 Reform of Industrial Policy Formulation
• Chap 8 Linking Industrial Policy with Trade
  Policy
• Chap 9 FDI Attraction and Promoting Parts
  Suppliers
• Chap 10 Optimal Regional Linkage
• Chap 11 Technical Transfer and Improving
  Domestic Capability
• Chap 12 Interim Roadmap

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Japans New ODA Policy

• Japans ODA Charter was revised in 2003
• Japans Country Assistance Strategy for Vietnam
  was also revised in 2003 by myself and Mr.
  Mitsuru Kitano (Counselor, Japanese Embassy in
  Hanoi)
• Both were discussed intensively by the Council of
  Comprehensive ODA Strategy headed by Foreign
  Minister Kawaguchi(of which I am a member)

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New ODA Charter Key Points

• Dual Goals
• --Contribute to world peace prosperity
• --Pursue Japans national interest (security
  economic)
• Issues poverty, growth, global issues, peace
• Asia is the main area, but ODA should be given
  selectively in support of competitiveness
  regional integration
• Policy dialogue with recipient country
• Increased participation of stakeholders
• Decentralization more authority to embassy

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ODA Strategy for VN New Points

• Drafted by Embassy (not Tokyo)
• Support VN in (i) growth (ii) social problems
  (iii) institution building
• Enhanced sector studiesODA for all sectors but
  selectively within each sector
• Future ODA volume will depend on policy
  improvements, especially in trade FDI
• Policy dialogue with Vietnamese government and
  other stakeholders will be strengthened.

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Current Concern of Our Embassy

• With respect to MOI
• Power sector is important for Japans ODA
• Japan is deeply interested in the evolution of
  motorbike and automobile policies
• With respect to Japans ODA in general
• We are more interested in private sector growth
  (domestic FDI) than SOE reform
• Japans ODA is conditional on policy improvements
  (not to be taken for granted)
• We will integrate policy dialogue, TA loans in
  our ODA to Vietnam

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The End