Link in the chain

The development of support industries would be good for Vietnam's economy in a range of ways, but a number of constraints remain in place.

It took a little while for Mr Phan Dang Tuat, Director of the Institute for Industry Policy and Strategy under the Ministry of Industry and Trade, to find something positive to say in relation to support industries in Vietnam. His hesitation did not come as a surprise, as the expression "support industries" is consistently associated with words such as "backward" or "weak". In the eyes of foreign investors, especially Japanese, the underdevelopment of support industries is of one Vietnam's major constraints, partially offsetting some of the country's well-know advantages, such as its political and economic stability, and its cheap and hardworking labour force.

Mr Tuat looked back in time, trying to trace the history of support industries in Vietnam. His recollection pointed out some of the ironies of economic thinking. "The support industries of Vietnam were developed at the time when the country had a close relationship with the Soviet Bloc," he said. "In the allocation of economic activities within the Bloc, the mindset that emerged had similarities with the concept of support industries." In economic jargon, the objective was to achieve greater vertical integration, except that the expression "support industries" was not used back then. "Unfortunately, by the time the Soviet Bloc collapsed the economic development of Vietnam had not kept pace with that of other countries, so that we were not competitive enough," he added. As a result of this poor performance, the mindset changed.

The greatest irony may be the ongoing revival of the vertical integration concept with the current emphasis on large economic groups as drivers of growth. Operating under the holding company model, these groups have their internal suppliers organised as subsidiary companies. This kind of arrangement does not necessarily make them efficient. In fact, some of those internal suppliers would not have the capacity to compete with outsourcing. The underdevelopment of support industries and the difficulties faced by economic groups can therefore be seen as two sides of the same coin. In Mr Tuat's view, this is what has made Vietnamese support industries become "supplement industries."

Regardless of the reasons for their weakness, it is clear that support industries are just at the initial stages of development in Vietnam. This in turn limits the business opportunities faced by foreign investors, and especially by assemblers, because it is costly and time-consuming for them to find good local suppliers. "People have not realised the strategic importance of developing support industries," Mr Tuat reflected. In his view, these industries can substantially increase local value-added content. And they have the potential to make a major contribution to the restructuring of the economy in the direction of economic specialisation and greater efficiency, because they hold the key for Vietnam to join global value chains. Support industries could help reduce the trade deficit. By applying new technologies and training their workforce, they could also push the country up the value-added ladder.

For now, many experts claimed that instead of just looking at exports and imports to measure the openness of the country to the world economy, Vietnam should identify the appropriate level of its openness to the outside world based on the ability of companies in support industries to provide components and spare parts to multinational corporations. This would contribute to stable global integration in the long term.

According to data released by the general director of the Institute for Industry Policy and Strategy, 95 per cent of enterprises in Vietnam's manufacturing sector are support industries. Many are in the business of supplying spare parts for foreign-invested enterprises, in particular from Japan, one of Vietnam's most important economic partners. However, the capacity of local companies falls short of the potential demand, by a wide margin. Vietnam's support industries are said to be immature as a result of the small local market size.

Based on a 2009 survey by the Japan External Trade Organisation (JETRO), the local procurement ratio for Japanese companies in Vietnam is 24 per cent, or ninth among the eleven countries surveyed. The local procurement ratio is the share of spare parts and materials purchased domestically. There are around 1,200 Japanese companies operating in Vietnam and half of them are in manufacturing. Like other foreign-invested enterprises (FIEs) in Vietnam in the same sector, they need raw materials, parts and subcomponents to make or assemble final products.

However, Japanese companies complained that they could not always find top-quality materials or high-performing spare parts. More generally, the main problems reported in relation to support industries in Vietnam concerned service, quality, price and delivery. From the point of view of experts, the main constraints on the development of support industries in Vietnam are the relatively large scale of production needed to be efficient, and the lack of information.

In 2007, investors from Japan established a company called Ogino JP in Hanoi. The original legal investment capital was $4.5 million, a figure which has by now been increased to $20 million. This is a large sum by local standards.

Ogino JP produces metal automobile spare parts for a Japanese company based in Vietnam. According to one of its senior officers, it is very hard for Vietnamese companies in support industries to get to this stage, due to the large investment capital needed, the high technical standards to meet, the delivery schedules to comply with, and the requirements in terms of stable product quality and volume.

Despite the fact that in Vietnam it is much easier for Vietnamese enterprises than for domestic enterprises in Japan to approach large Japanese companies, they are still very hesitant in doing so. In the automobile industry there are quite a few partnerships between Japanese and Vietnamese companies. However, "Japanese companies trust their Japanese partners," according to the senior officer from Ogino. And they even use additional mechanisms to ensure this mutual trust. "For example, the company purchasing the spare parts contributes investment capital to the supplier of those spare parts," he explained. "It is also common to lend equipment to suppliers at no charge, to encourage the building of production chains, and to train human resources as the support industry becomes established."

Five years ago, a senior advisor at JETRO Hanoi remarked that "among ministries and other agencies of the Vietnamese Government, most officials are unfamiliar with the concept of support industries, although some have begun to recognise its importance." Over the last two years, support industries have been discussed at many workshops with high profile speakers explaining how to develop them. It is also placed on the working agenda of government offices. Development of support industries is said to help foreign businesses in Vietnam reduce production cost and raise the competitive edge of the country's exports, as well as increase the localisation rate in products.

In spite of the difficulties, Vietnam can become a base for support industries and this ambition should be supported by a national strategy. "We believe that the best starting point for Vietnam's economy to industrialise and modernise lies with support industries," said Mr Tuat. In his view, this strategy should be facilitated by a restructuring of economic activity, giving priority to sectors that have a clear comparative advantage or can contribute to innovation, and sectors that can find and fill the "white gap" in the demands of the world market. "If it is possible," he added. So now it is time for implementation, rather than just discussion.