Economic Analysis - Export Manufacturing To Lead Growth Outperformance - DEC 2017

BMI View: Following Vietnam ' s spectacular real GDP showing of 7.5% y-o-y in Q317, which brings cumulative growth to 6.4% y-o-y, we have upgraded our forecast to 6.5% for 2017, and 6.7% for 2018. We expect the export manufacturing and services sector to continue outperforming, but note that growth is unlikely to be sustained at the 7+% level over the coming quarters.

Vietnam's real GDP expanded by 7.5% y-o-y in Q317, marking a sharp increase from the revised 6.3% y-o-y figure posted in Q217, and taking cumulative GDP growth in the January-September period to 6.4% y-o-y. The reported Q3 YTD growth rate was higher than Bloomberg consensus of 6.1% and also above our implied forecast of 6.7% for H217. The Q317 growth print means that Vietnam is one of the fastest growing economies in the region outpacing China, India, and Myanmar. We believe that Vietnam will continue to enjoy robust growth over the coming quarters, underpinned by strong foreign direct investment inflows, rising export-oriented manufacturing, and a buoyant services sector supported by the fast-growing tourism industry and rising income levels. While the 7+% expansion rate will likely be difficult to sustain, we have upgraded our forecast for Vietnam's real GDP growth to come in at 6.5% in 2017, and 6.7% for 2018, up from 6.2% and 6.4% previously.

Growth Outperformance To Continue
Source: BMI , Bloomberg

Export Manufacturing Benefitting From Stability And Economic Liberalisation

Vietnam has gradually been transforming itself into a more open, more market-oriented economy and is beginning to enjoy the dividends of its steady integration into the global economy. According to official figures, the overall manufacturing sector grew by 12.8% y-o-y for the first nine months of 2017, while exports surged by 19.8% y-o-y, underpinned by the production of electronic products and components, smart phones, and computers which surged by 25.1% y-o-y, and metal production which increased by 21.4%.

The export-oriented manufacturing sector, in particular, has greatly benefited from years of political stability and policy continuity, welcoming policies such as attractive tax breaks provided by the government, increased economic liberalisation, and more recently greater delocalisation from China. Vietnam is also endowed with a cheap, youthful and abundant labour force, a long coastline which makes shipping of goods expedient, and is connected by land to mainland South East Asia and shares a border China, providing it easy access to a huge consumer base.

Economic Liberalisation Has Come A Long Way
Vietnam - Index Of Economic Freedom
BMI, Heritage Foundation

Vietnam's trade resilience and economic success are also attributed to efforts in diversifying its exports ranging from agricultural products to electronics and garment manufacturing, as well as in terms of export markets. Aside from the Vietnam-Korea free trade agreement (FTA) which came into force in December 2015, Vietnam has also been one the largest proponents of trade liberalisation around the world. Despite tensions with China in the South China Sea, it has urged the completion of negotiations this year over the ASEAN-led Regional Comprehensive Economic Partnership (RCEP), along with continuing its involvement in the Trans-Pacific Partnership (TPP) pact despite the US's withdrawal. Vietnam is also scheduled to eliminate all remaining import tariffs with its neighbours by 2018 under the ASEAN Free Trade Area (AFTA) pact and is finalising the ratification process for the EU-Vietnam FTA.

Additional Icing On The Cake

The country's attractiveness as a manufacturing hub appears to have received a further boost in recent quarters as the government under Prime Minister Nguyen Xuan Phuc quickened the pace of reforms, which included; an acceleration in the pace of privatisation of state-owned enterprises, efforts to pare back public debt and improve the tax regime, and a push to modernise the financial sector.

Equities Still On A Winning Streak
Vietnam - Ho Chi Minh Stock Index
Source: BMI, Bloomberg

Reinforcing our positive view on the economy, Vietnam's benchmark equity index Ho Chi Minh Stock Index (VN-Index) has further extended the strong uptrend which started in early-2016, and is now at a post-Global Financial Crisis high. Meanwhile, the Vietnamese Dong has also remained largely stable against the dollar over the last 12 months, while the foreign reserves have surged to an all-time high of USD38.8bn. This reflects strong investor confidence and a strengthening outlook for Vietnamese firms, which, combined with ongoing market-friendly reforms will likely bode well for investment and economic growth over the coming quarters.

Service Sector Another Bright Spot

Aside from manufactured goods exports, we also hold a constructive view on the services sector which will be supported by a booming tourism sector and strong domestic demand. In the first nine months, the services sector expanded by 7.3% y-o-y, of which the accommodation and catering segment grew 9.0% y-o-y, the retail and wholesale segment by 8.2%, and financial services by7.9%. We believe that domestic consumption will continue to rise as the middle class grows on the back of jobs created by foreign-investment into the manufacturing sector as well as the growing number of local businesses. Furthermore, growth in the service sector will also be propelled by a rapidly growing tourism sector which saw international tourist arrivals surge by 28.4% y-o-y in the January-September period to reach 9.5mn visitors. We expect recent government initiatives to boost the tourism sector which include a combination of aggressive marketing campaigns, visa-exemptions, and ease of custom procedures will continue to pay off.

7+% Growth Will Be Difficult To Sustain

While there are many things to like about the Vietnamese economy, we highlight that the 7+% growth rate is unlikely to be sustained for three reasons. Firstly, the recent growth spurt is partially supported by the central bank's easing in July and ongoing credit boom, with the government aiming for private sector credit growth to be in excess of 20% for 2017. We believe that such easy monetary policy is unsustainable and poses downside risks to macroeconomic stability. Secondly, Vietnam remains largely dependent on foreign capital and technology for growth. An FDI-led growth model is not only vulnerable to external shocks but unstable, particularly as global interest rates are set to increase over the coming years which is likely to drain global liquidity and lead to a reversal of capital flows in favour of developed countries. Finally, the contribution to productivity growth- a main driver of economic growth in the 1990s - has gradually declined over the last ten years. As the growth of the labour force slows, labour productivity gains will be insufficient to drive the economy to grow at such high levels.

GDP By Sector Breakdown
January-September 2016 (% chy y-o-y) January-September 2017 (% chg y-o-y) Contribution (Percentage Points)
Source: BMI, Vietnam Statistics
Agriculture, Forestry, Fisheries 0.6 2.8 0.4
Industrial And Construction 7.7 7.2 2.5
Services 6.7 7.3 2.8
Tax Minus Subsidy 6.5 6.3 0.7
Total 6.0 6.4 6.4