Analysis Of Challenges In The Implementation Of Decentralization In Fdi Management In Vietnam And Policy Implications.pdf

Vietnam has only applied decentralization to administrative decentralization or de-concentration but foreign direct investment FDI management is highly decentralized at the provincial le

ANALYSIS OF CHALLENGES IN THE IMPLEMENTATION OF

DECENTRALIZATION IN FDI MANAGEMENT IN VIETNAM AND POLICY

IMPLICATIONS

Student group: No 9 Class: KTEE406.1 Instructor: Vu Hoang Nam — (PhD)

Hanoi, December 2023

Name

Nguyen Tu Anh

Nguyen Van Anh

Le Dieu Linh

Tu Thi Thu Huyen

Dang Minh Nguyet

ABSTRACT Over the past few decades, in an attempt to establish effective governance and advance democracy, an increasing number of emerging Asian nations have experimented with decentralization to varied degrees Vietnam has only applied decentralization to administrative decentralization or de-concentration but foreign direct investment (FDI) management is highly decentralized at the provincial level and has proven to be troublesome There are numerous detrimental effects associated with ineffective decentralization in foreign direct investment (FDI) management This study aims to investigate the root causes of the inefficient decentralization in foreign direct investment (FDI) management in Vietnam and focuses on the difficulties the local government has faced since the decentralization system was put into practice, illustrated with actual ineffective decentralized foreign direct investment (FDI) projects in the country

Keywords: decentralization, foreign direct investment management, Vietnam

Foreign Direct Investment (FDI) has been considered an important source of private external finance, which accelerates growth and economic transformation in emerging countries, including Vietnam Ever since Vietnam joined the World Trade Organization in 2007, FDI has increased sharply and therefore, serves as a catalyst for the country's modernization, facilitating technology transfer, job creation, and infrastructure improvement

Therefore, the effective management and regulation of FDI have emerged as critical concerns for Vietnam's sustained economic growth The conventional centralized approach to FDI management has encountered challenges in accommodating the diverse needs and priorities across different regions of Vietnam Consequently, the concept of decentralization in FDI management has garnered attention as a potential solution to address these challenges It has proved to be the driving force behind Vietnam’s remarkable increases in FDI inflows offsetting initial fears over local governments’ potential shortcomings in dealing with a mounting FDI- related workload

However, the decentralization of FDI management has not been implemented smoothly The decentralization drive initially spurred a competitive race among provinces to attract FDI, resulting in the approval of numerous low-quality projects, some carrying high environmental risks Therefore, this paper intends to explore the reasons behind the ineffective decentralization

of FDI management in Vietnam, thereby providing some policy implications for effective decentralized FDI management for the sustainable development of the country

In order to serve the purpose mentioned above, we intend to observe and analyze the difficulties

of regulating and managing FDI projects at the local level within the decentralized governance framework The exploration delves into both domestic and foreign research to provide a better understanding of the challenges and potential solutions associated with decentralized FDI management in Vietnam The following questions have been raised: What are the key challenges encountered in the integration of FDI management within Vietnam's decentralized governance structure? How can the identified obstacles be effectively addressed to optimize decentralized FDI management in Vietnam and ensure sustainable economic development?

This research has the main sections as follows:

Literature review

Policy of decentralization in FDI management in Vietnam Difficulties in Implementing Decentralization in FDI Management Case Studies & Suggested Solutions

1 An overview of FDI

In the development process, in addition to internal resources, countries rely on external resources, which consist of private capital flows (FDI), foreign portfolio investments, and other financial flows, such as official development assistance (ODA) and international remittances Among these external resources, FDI has remained a key source of finance and one of the least volatile flows to developing economies (UNCTAD, 2018, p 12)

In developing countries, FDI has been considered an important source of private external finance, which accelerates growth and economic transformation This type of investment not only contributes to the resources available and capital formation but it also results in the transfer

of technology, skills, innovative capacity, and organizational and managerial practices, and provides access to international marketing networks (OECD, 2002, p 5)

2 FDI in Vietnam

Similar to other developing countries, FDI is vital for the Vietnamese economy (Anwar & Nguyen, 2010) Since economic reform in 1986, the country has started to attract more FDI FDI into Vietnam grew from 40,000 USD in 1986 to more than 16 billion USD in 2019 (The World Bank, 2021) The benefits of FDI include the transfer of technological know-how, skilled management, and increasing tax revenues for the government (Anwar & Nguyen, 2010) Furthermore, the United States-Vietnam Bilateral Trade Agreement in 2001 also boosted inward FDI in Vietnam The agreement gave the most favored nation trade status to Vietnam as well as lower US tariffs on Vietnamese goods from 40% to 4% (Buthe & Milner, 2008) Moreover, the agreement also required Vietnam to liberalize and deregulate the market As a result, foreign investors can monitor and report the Vietnamese government Consequently, the agreement has caused rapid growth of inward FDI in Vietnam (Buthe & Milner, 2008)

3 Decentralization Definition & Types

Decentralization is the transfer of decision-making authority and resources from the central government to sub-national government entities (Schneider, 2003) In the last few decades, worldwide, most countries in the world have implemented decentralization (Manor, 1999) This

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widespread decentralization has increased the roles of local governments in the governance process Decentralization is classified into four types First, political decentralization is the devolution of powers and authority to the local unit of government, power-sharing institutions, and institutionalization of procedures that allow freedom of association and participation of civil society organizations, both in public decision-making processes and in selecting political representatives Second, fiscal decentralization is a mechanism for fiscal cooperation in 25 sharing public revenues among all levels of government; for budgetary delegation in public revenue raising and expenditure allocation, and for fiscal autonomy for the state, regional, or local governments Third, administrative decentralization is the distribution of authority, responsibility, and financial resources from the central government to the local governments, semi-autonomous public authorities, corporations, area-wide, regional, or functional authorities Fourth, economic decentralization is a transfer of responsibility of functions such as liberalization, deregulation, privatization of state enterprises, and public-private partnership from the public to private parties (Cheema and Rondinelli, 2007)

4, Overview of decentralization in Vietnam

The decentralization of economic management in Vietnam started with Doi moi (economic innovation) in 1986 and accelerated in the late 1990s (Vu, 2012) Since then, the scope of decentralization has continuously expanded Indeed, Vietnam’s decentralization of policy- making ranked quite high - 25th out of 134 countries - in the World Economic Forum’s Country Competitiveness Index 2009,

Although decentralization has been studied in Vietnam for some time, the theory of decentralization, and particularly the role of the state in the economy has not been studied thoroughly (Vu, Le, and Vo, 2007) Consequently, for a very long time, decentralization in Vietnam has been pursued narrowly as a process of administrative decentralization, leading to uncoordinated and incomplete decentralization For instance, in many fields decentralization of decision-making responsibility has been implemented without corresponding decentralization of responsibility for fiscal and personnel matters This situation has had a negative impact on the decentralization process in Vietnam

5 Decentralization in FDI management in Vietnam

In Vietnam, there have been a large number of papers discussing fiscal and administrative decentralization but only a few papers concerning the decentralization in FDI management Even though decentralization in Vietnam has been limited to de-concentration (or administrative decentralization), foreign direct investment (FDI) management is vigorously decentralized at the provincial level (Au, 2020)

The effort to decentralize FDI management in Vietnam started in the 1990s, in line with the increased flow of FDI into the country during the post-renovation period (Au, 2020) In particular, after the normalization of diplomatic relations with the United States of America and

an embargo was removed in 1995, the number of foreign projects invested in Vietnam increased rapidly, burdening the central Government with managing all the projects During that time, the Government of Vietnam acknowledged that decentralization was necessary to avoid overloading

in the central agencies Provinces that received large amounts of FDI tried to convince the central Government to decentralize the licensing of FDI projects

In order to effectively and efficiently switch from a central-planning regime to a more free market-oriented model, Vietnam decided to delegate some functions, rights and responsibilities - which were previously reserved for the Central Government - to the lower-level stakeholders, including local governments and State-owned enterprises (Vo and Nguyen, 2012) Such a hand over was aimed at equipping lower-level agencies and entities with more flexibility to promptly respond to market developments and trends

6 Important Milestones in the Decentralization of FDI Management in Vietnam

- 1997: The Prime Minister issues a decision on the decentralization of the issuance of investment licenses to People's Committees on a pilot basis for 16 provinces and centrally managed cities (Decision No 386/TTg dated 7/6/1997 and Decision No 41/1998/QD-

TT g dated 20/2/1998)

- 1998: After more than one year of implementation, on 1/12/1998 the Prime Minister issues Decision No 233/1998/QD-TTg authorizing all provincial People's Committees to issue investment licenses and amend investment licenses for foreign-invested projects

- 2000: The Law on Foreign Investment is amended Article 55 of the amended Law on Foreign Investment and Article 115 of Decree 24/2000/ND-CP dated 31/7/2000 provide

detailed implementation guidelines for the Law on Foreign Investment, expanding the authority of provincial People’s Committees by granting them sole responsibility for the state management of foreign investment

- 2006: The Unified Investment Law comes into effect, promoting even further FDI decentralization

Although the decentralization of FDI administration has accelerated over the last two decades, there are still some constraints particularly with respect to project scale-which continue to limit the ability of provincial governments to attract foreign investment (Vo and Nguyen, 2012)

This essay employs a qualitative method In particular, we select the case study technique to analyze the challenges in the implementation of decentralization in FDI management in Vietnam

It is used because it helps us grasp the phenomena in depth, even when the phenomenon's borders and circumstances are unclear (Yin, 1981) For national cases, we select Formosa (Ha Tinh) and Samsung (Bac Ninh) since they are common examples of ineffective FDI management

in Vietnam (Au, 2020; Kim, 2018) For international cases, we select Indonesia and China as examples, because they have some similar geographical and political traits with Vietnam, and are significant recipients of FDI globally (UNCTAD, 2023; Lindblad, 2015; Mehmood et al., 2021)

We investigate interactions between factors at various levels of government, as well as relationships between local governments and MNCs The data was collected from national and international newspapers and journals on inflow FDI and major investment problems

RESULTS

1 Policy of decentralization in FDI management in Vietnam

1.1 FDI Development in Vietnam

As of the end of 2022, after more than 30 years since the Foreign Investment Law was passed by the National Assembly in 1987, the trend of Foreign Direct Investment (FDD inflow into Vietnam has shown an upward trajectory This trend increasingly solidifies its crucial role in achieving the economic development objectives in Vietnam To gain an overview of the FDI attraction process since the enactment of the Foreign Investment Law in Vietnam in 1987, this study breaks down the process into smaller sections as follows:

Vietnam's strategic embrace of FDI began in 1987, marked by the issuance of investment licenses and reinforced by the enactment of the Law on Foreign Investment in 1987 This pivotal step formalized the country's intent to attract foreign capital Within a decade, FDI inflows increased significantly, marking Vietnam as an emerging destination for foreign investments FDI in Vietnam has experienced a euphoric period from 1988 until 1995 with very rapid growth

in commitments and big projects

The establishment of the State Committee for Cooperation and Investment in 1989 represented a substantive move by the government to facilitate and regulate FDI inflows By the early 1990s, Vietnam had adopted several policies aimed at liberalizing the economy to attract foreign investments, leading to a surge in FDI commitments Between 1990 and 2000, FDI inflows into Vietnam rose remarkably For instance, FDI commitments surged from around $1 billion in 1995

to over $2.5 billion in 2000, demonstrating a substantial increase in foreign investor confidence

in Vietnam's market potential

This surge in FDI led to discussions about decentralization to balance administrative burdens and promote an investor-friendly climate Decentralization efforts gradually evolved From 1996 to

2005, varying degrees of autonomy were granted to provinces based on specific limitations Notably, certain strategic sectors retained centralized oversight to safeguard national interests while promoting decentralized management in other areas

By 2010, FDI inflows into Vietnam had reached over $19 billion, underscoring the country's attractiveness to foreign investors The evolution of FDI policies and management strategies contributed significantly to Vietnam's economic growth Vietnam has become a more and more desirable location for FDI According to The FDI Report 2016 published by FDI Intelligence, Vietnam was ranked as the world's fifth major attractor of FDI by number of projects, after China, India, Singapore, and Australia, and ranked in the fourth position when considering the total investment capital, after China, India, and Indonesia

The trajectory of FDI development in Vietnam highlights a deliberate strategy to attract foreign investments, evolve policies, and institute decentralized management practices The substantial increase in FDI inflows and their impact on various sectors underscore Vietnam's successful integration into the global economy

1.2 Policy of Decentralization in FDI Management in Vietnam

In an effort to attract capital inflows, governments in developing nations, including Vietnam, have changed their policies during the past few decades to make them more welcoming to international investment By easing restrictions on market entrance and foreign ownership, they have liberalized national policies to provide a supportive regulatory environment for FDI and given foreign investors preferential treatment

Vietnam's pivot towards attracting FDI began with the Law on Foreign Investment in 1987, marking a “turning point” for Vietnam in attracting FDI inflows Subsequently, the Ministry of Foreign Trade facilitated FDI licenses between 1988 and 1989 The establishment of the State Committee for Cooperation and Investment in May 1989 centralized FDI management The surge in FDI post-normalization of relations with the US in 1995 overwhelmed central agencies managing projects This prompted the initiation of decentralization efforts to relieve administrative burdens with the rapidly increasing number of foreign projects During that time, the Government of Vietnam acknowledged that decentralization was necessary to avoid overloading in the central agencies The merger of the State Committee for Cooperation and Investment and the State Committee for Planning in 1995 also laid the groundwork for the implementation of decentralization efforts in FDI management Between 1996 and 2005, policy reforms were implemented, granting varying levels of autonomy to provinces in appraising and

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licensing FDI projects During this period, Vietnam's FDI inflows showed a substantial increase For instance, in 1996, the total FDI inflow was approximately $2.4 billion By 2005, this number had surged significantly, reaching around $6.2 billion Notably, however, despite the decentralization push, certain critical sectors like petroleum, insurance, banking, and auditing retained centralized oversight during this phase, highlighting a strategic balance between regional autonomy and centralized control in managing FDI

The pivotal shift came with the enactment of the Investment Law in 2005, almost entirely decentralizing FDI management to provincial levels This policy granted substantial autonomy to provincial governments in licensing FDI projects Projects of national importance required approval from the Prime Minister in collaboration with relevant ministries This marked a milestone in creating a legal framework befitting investment and business activities, offering non-discriminatory incentives and promotion policies This brought about the second FDI wave with the total registered capital of $6.839 billion, of which $3.3 billion was disbursed Vietnam's strategic shift towards decentralization in FDI management aimed to accommodate escalating FDI inflows and empower local authorities

2 Difficulties in Implementing Decentralization in FDI Management

The policy of decentralization in licensing and managing foreign investment activities since 2006 has helped attract foreign direct investment (FDI) to increase sharply from hundreds of millions

to tens of billions of USD/year However, after many years of implementation, this policy has reflected several shortcomings

2.1 Competition to attract FDI among localities

The relationship between provinces has been competitive rather than cooperative Many localities in Vietnam are under pressure to reach high growth rates, so they have a large demand for capital Therefore, local authorities are likely to rush licensing projects without carrying out a full assessment of their investment quality and social, economic, and environmental impacts In particular, state management agencies thoroughly take advantage of decentralized management authority, especially by introducing overly high investment incentives or the “investment incentive fence-breaking” which go beyond the incentive framework set by the central

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