Impacts of foreign dirrect investment on labor productivity of manufacturing industry a case of vietnam

VIETNAM- NETHERLANDS PROGRAMME FOR M.A IN DEVELOPMENT ECONOMICS IMP ACTS OF FOREIGN DIRECT INVESTMENT ON LABOR PRODUCTIVITY OF MANUFACTURING INDUSTRY:... VIETNAM- NETHERLANDS PROGRAMME

VIETNAM- NETHERLANDS PROGRAMME FOR M.A IN DEVELOPMENT ECONOMICS

IMP ACTS OF FOREIGN DIRECT INVESTMENT

ON LABOR PRODUCTIVITY OF MANUFACTURING INDUSTRY:

VIETNAM- NETHERLANDS PROGRAMME FOR M.A IN DEVELOPMENT ECONOMICS

IMP ACTS OF FOREIGN DIRECT INVESTMENT

ON LABOR PRODUCTIVITY OF MANUFACTURING INDUSTRY:

A CASE OF VIETNAM

A thesis submitted in partial fulfilment of the requirements for the degree of

MASTER OF ARTS IN DEVELOPMENT ECONOMICS

By

VO KHOI NGUYEN

Academic Supervisor:

PhD NGUYEN VAN PHUONG

HO CHI MINH CITY, APRIL 2011

ii'

ACKNOWLEDGEMENT

With the valuable guidance and advices from Vietnam-Netherlands program lecturers and friends, I am really grateful to what they have done for my thesis completion First of all, I would like to illustrate my largest gratitude to my supervisor, PhD Nguyen Van Phuong who always gives useful and valuable advices and enthusiastic comments for my thesis

I am grateful for Professor, Peter Calkins for his precious advice and comments from the initial ideas of the thesis

I also express my special thanks to Professor, Nguyen Trong Hoai for his lectures in econometrics and PhD Cao Hao Thi, the lecturer of Vietnam-Netherlands project, for his kind help and instructions in data analysis by Eview software

And finally, I would like to show my special thanks to my friends in MDE class 15 for their supports during my research completion

TABLE OF CONTENTS

CHAPTER 1 INTRO D U CTI 0 N -1

1.1 Introduction - 1

1.2 Research objective and questions - 2

1.3 Research hypotheses - 2

1.4 Organization of the study -2

CHAPTER 2 LITERATURE REVIEW - 3

2 1 Theoretical background - 3

2.2 Economic theories - 4

2.2.1 Cobb-Douglas production function - 4

2.2.2 Theoretical framework ofFDI impact on labor productivity -5

2 3 Empirical studies - 6

2.3 1 Channel effects of foreign direct investment - 6

2.3 2 Impacts of FDI on labor productivity - 7

2.4 Summary - 8

CHAPTER 3 AN OVERVIEW OF FDI IN VIE TN AM -9

3 1 Introduction - 9

3 2 Overview of FDI inflows ( 1988-2009) - 9

3.2.1 FDI inflows in period 1988 - 2009 - 9

3.2.2 Some characteristics of foreign direct investment in Vietnam - 11

3 3 The role of FDI in national economy - 19

3.3.1 The role ofFDI in national economic growth - 20

3.3 2 The role of FDI in employment and human resources - 21

3 4 Overview of labor productivity in A SEAN - 21

•

3 5 Summary - 2 3

CHAPTER 4 RESEARCH METHODOLOGY - 24

4.1 Model specification - 24

4.2 Description of variables - 24

4.2.1 Dependent variable labor productivity (Labprod) - 24

4.2.2 Explanatory variables - 25

4.3 Data collection - 2 7 4 4 Estimation strategy - 2 8 4 5 Summary - 2 9 CHAPTER 5 RESULT ANALYSIS - 30

5 1 Introduction - 30

5 1.1 Descriptive statistics of variables - 30

5 1.2 Multiple regression result - 3 7 5 2 Analysis and discussion about the finding results - 41

5 3 Summary - 44

CHAPTER 6 CONCLUSIONS AND RECOMMENDATIONS - 45

6.1 Conclusions - 45

6 2 Recommendations - 4 5 6 3 Limitation - 4 7 Reference - 4 8 Appendices - 51

LIST OF TABLES

Table 3.1: FDI projects licensed from 1988 to 2010 by kind of economic activity 12

Table 3.2: Employed population by ownership from 2000-2009 21

Table 3.3: Average annual labor productivity growth by Industry(%) 22

Table 4.1: Definition summary of variables 27

Table 5.1: Statistical summary of sample 31

Table 5.2: Distribution of explanatory variables in logarithm form 34

Table 5.3: Correlation matrix spreadsheet without logarithmic form 35

Table 5.4: Correlation matrix spreadsheet using logarithmic form 35

Table 5.5: Regression result from Pooled Least Square 37

Table 5.6: Regression result from fixed effects model 38

Table 5 7: Regression result from random effects model 39

Table 5.8: Hausman test result 40

Table 5.9: Regressed result summary 41

Table 5.10: Distribution of explanatory variables without logarithm form 51

Table 5.11: Descriptive statistics of variables in three types of enterprises 58

• Table 5.12: Result from fixed effects model with PCSE 59

Table 5.13: Result from fixed effects model with Dummy variable Dfshare 60

LIST OF FIGURES

Figure 3.1: FDI inflows in period 1988- 2009 -10

Figure 3.2: Structure of investment at current prices by types of ownership from 1995-2008 -14

Figure 3.3: FDI inflows licensed by region -15

Figure 3.4: FDI inflows (million USD) by country ofregion -17

Figure 3 5: FD I inflows in manufacturing sector -18

Figure 3.6: Industrial output value in manufacturing sector by ownership -19

Figure 3.7: Structure ofGDP at current prices by ownership period 1995-2009 -20

Figure 3.8: Comparative Labor Productivity Performance -23

Figure 5.1: Distribution of labor productivity without logarithm form -32

Figure 5.2: Distribution of labor productivity in logarithm form -33

Figure 5.3: Correlation between Labprod and Fshare in logarithm form -36

Figure 5.4: Distribution of correlation between labor productivity Labprod and capital intensity Capint without logarithm form - 52

Figure 5.5: Distribution of correlation between labor productivity Labprod and capital intensity Capint in logarithm forms -53

Figure 5.6: Distribution of correlation between labor productivity Labprod and material input purchases Scale without logarithm formS -54

Figure 5.7: Distribution of correlation between labor productivity Labprod and material

input purchases Scale in logarithm forms -55

Figure 5.8: Distribution of correlation between labor productivity Labprod and proportion of skilled labor Skill without logarithm forms -56 Figure 5.9: Distribution of correlation between labor productivity Labprod and proportion of skilled labor Skill in logarithm forms -51

2007 During the economic transition from after 1986 to current years, many investigators stated that foreign direct investment (FDI) played a crucial role helping jumpstart to Vietnam's economy on its way to accelerating reform and socio-economic growth Such a large amount of FDI capital demonstrates that Vietnam's investment environment is attractive and many foreign investors are interested in the local market

It is consistent with the fact that FDI in Vietnam mainly concentrated on intensive and export-oriented manufacturing activities (accounting for 5,139 projects with total committed capital of65.7 billion USD in period 2000-2009)

labor-Therefore, this research is expected to answer whether FDI increases the overall labor productivity in manufacturing industry It helps policy makers and enterprise management deliver effective policies for improving and maximizing local labor productivity, enhancing export-oriented manufacturing industry and ensuring the sustainable development among regions

CHAPTER 1: INTRODUCTION

1.2 Research objective and questions

The general objective ofthe research will study whether FDI increases the overall labor productivity in Vietnam, as measured by value added per labor, focusing on three sub-industries; food processing; textile, garment and footwear and electronics and mechanics including state, private (non-state) and foreign firms located over the country Based on the research objective, the study will investigate the following questions:

a) Does FDI significantly impact on labor productivity in Vietnam?

b) Does the impact of FDI on labor productivity differ significantly across provinces, the ownership structure of firms?

c) The impacts ofFDI on labor productivity significantly differ across regions

1.4 Organization of the study

The research consists of six chapters First chapter discusses the Introduction The next chapter is the Literature review An overview of FDI in Vietnam is discussed in chapter

3 Research methodology in chapter 4 illustrates statistical model and data Chapter 5 describes the result analysis and discussion Finally, chapter 6 will be a concluding section

2

CHAPTER 2: LITERATURE REVIEW

CHAPTER2 LITERATURE REVIEW

2.1 Theoretical background

The key independent variable of this research is foreign direct investment (FDI) There are several ways to understand FDI such as International Monetary Fund's FDI definition or United Nations' FDI definition According to Organization for Economic Co-operation and Development OECD (1996), FDI is clearly defined as follows:

"Foreign direct investment reflects the objective of obtaining a lasting interest by a resident entity in one economy ("direct investor") in an entity resident in an economy other than that of the investor ("direct investment enterprise") The lasting interest implies the existence of a long-term relationship between the direct investor and the enterprise and a significant degree of influence on the management of the enterprise Direct investment involves both the initial transaction between the two entities and all subsequent capital transactions between them and among affiliated enterprises, both incorporated and unincorporated."

Besides OECD's FDI definition, GSO (2008) also explained FDI as the bringing of capital into the host country in the form of money or any assets by foreign investors for the purpose of carrying on investment activities in accordance with the provisions of the law on foreign investment in Vietnam

The dependent variable in this study is labor productivity According to OECD (2001), productivity is defined as a ratio of a volume measure of output to a volume measure of input use To measure labor productivity, it is commented that the three most commonly used ways of input are: hours worked; workforce jobs; and number of people in employment Output per worker corresponds to the "average product of

CHAPTER 2: LITERATURE REVIEW

labor" and seemed to be contrast with the marginal product of labor, which refers to the increase in output resulting from a corresponding marginal increase in labor input

2.2 Economic theories

2.2.1 Cobb-Douglas production function

According to Cobb-Douglas (1928), they use production function as the functional form to represent the relationship of an output to inputs They estimated an aggregate production function econometrically and the results presented to the economics profession It is known as "Cobb-Douglas production function" that is the most simultaneous form in theoretical and empirical analyses of growth and productivity The production function has the formulation as follows:

Where:

• Y denotes output, L: labor input, K: capital input

• A is a constant depending on the units in which inputs and outputs are measured

• a and ~ are the output elasticities of labor and capital, respectively These values are constants determined by available technology

Output elasticity measures the responsiveness of output to a change in levels of either labor or capital used in production, ceteris paribus For example if a = 0.1, a 1% increase in labor would lead to approximately a 0.1% increase in output The Cobb-

Douglas production function is usually expressed in logarithmic form: logY= log A +

a log L + fJ log K which is useful and easy when performing a regression analysis

4

- - - , - - - -

-CHAPTER 2: LITERATURE REVIEW

2.2.2 Theoretical framework of FDI impact on labor productivity

Based on Cobb-Douglas function, Liu et al (200 1) examine the overall impact of FDI

on the Chinese electronics industry Productivity function model (logarithmic form) is normally suggested as follows:

LP = F (CI, FS, LQ, FP) Where LP is used measures firm performance; CI is the capital-labor ratio; firm size FS; LQ labor quality or human capital, and foreign presence FP

Also investigating impacts from FDI, Blomstrom and Sjoholm (1999) examine the effects of FDI on productivity Y represents values added; K is (physical) capital assets; L and FDI respectively denote labor and contribution by foreign partner in total capital assets of firm i The productivity function (log-linear form) will follow:

The picture is more specific, as the recent work by Peter, Jeremy and Chengqi (2006),

to investigate the impact of FDI on the productivity of China's electronics industry Value added per worker LP in a sub-sector, is a function of foreign presence FP, the capital labor ratio KL; intangible assets per employee INT; labor quality LQ and fixed assets per worker FS The function model (logarithmic form) will be as below:

CHAPTER 2: LITERATURE REVIEW

2.3 Empirical studies

2.3.1 Channel effects of foreign direct investment

Relating to the impacts of foreign direct investment, Javorcik (2004) argues there are varieties of direct effects and indirect effects Under these effects, local companies must improve competitive capabilities to pursue their competitors in the same sector before elimination out of industry These effects are referred to as horizontal spillovers Foreign enterprises have higher productivity than domestic firms and indicate a strong direct effect from foreign investment to the productivity of individual firms (Mariam, 2003) This positive effect specifies the ways which a country receives the direct effects of foreign investment are better than potential spillover benefits of technology transfer

The picture is more specific about the differences of technological gap between local plants and its foreign competitors from empirical study conducted by Kokko, Tansini and Zejan (1996) They conclude that there are significant differences in the impact of FDI from two separately groups of small and high technology gaps, although there is

no sign of spillovers when testing on the entire sample In another research, Aitken and Harrison (1999) point out foreign share is positively correlated with productivity levels However, they also postulate that foreign equity participation has a negative relationship with the productivity of domestic firms in an industry

Although several statistical results confirm the positive effects of foreign direct investment, there are some negative findings For example, Miguel (2006) finds a large pool of FDI inflows could not make the innovative "green field" investments to obtain technological spillover effects in high priority sectors of the manufacturing industry Besides that, Peter, Jeremy and Chengqi (2007) also suggest that high inward FDI in

6

CHAPTER 2: LITERATURE REVIEW

Chinese domestic industry creates negligible productivity increase in low-technology industries due to negative spillovers to local firms

2.3.2 Impacts of FDI on labor productivity

More recently, empirical evidences confirm FDI seems to have beneficial effects on the economy of the host country, pointing out to improvements of labor productivity increase, and gains in competitive efficiency and process innovations

Making the investigation on the impact of FDI inflows, Blomstrom and Sjoholm (1999) argue labor productivity is positively related to capital intensity, skilled labor, capacity utilization and scale of operation And they suggest that foreign ownership takes an important role in term of the impacts on labor productivity in Indonesian manufacturing industry Moreover, they also indicate intra-industry spillovers from foreign direct investment exist However, they postulate that the productivity of foreign-owned enterprises is not dependent on ownership structure The same conclusion is that FDI has a positive impact on labor productivity, especially in the Chinese electronics industry conducted by Liu et al (200 1 ) They specify labor quality

is the most contribution in an increase of labor productivity It follows by firm size, and then foreign presence However, regarding to capital intensity, they conclude that it is insignificant and not an important factor of labor productivity in this industry

Furthermore, another empirical evidence confirmed FDI have beneficial effects on overall labor productivity in the Irish manufacturing sector increased by 158 % between 1991 and 1999 (Frances and Ali, 2005) Making the same investigation, Hsu and Chen (2000) complement that small and medium enterprises own FDI increase labor productivity in the industry However, they also imply negative correlation between labor productivity and large size firms

CHAPTER 2: LITERATURE REVIEW

In order to discern more accurately the impact of FDI on labor productivity, Lutz and Talavera (2004) report that the presence of FDI has a significantly positive influence

on labor productivity And labor productivity turns out to be relatively different across industries However, it argues no significant differences on labor productivity for investigated regions in the effects of FDI In other research, Gangti and Kong (2000) postulate the higher the investment in the larger cities, the higher the labor efficiency Especially, the labor efficiency through which labor-intensive industries receive more FDI inflows is higher Making the same investigation, Eric (2004) illustrates the linkages among labor productivity or wages, and foreign ownership shares in Thai manufacturing industry are relatively weak

Meanwhile, Duy (2009) uses cross sectional data at firm level and indicated results that FDI positively impacted on labor productivity in Vietnam And labor productivity is positively related to capital intensity, but relatively different across industries and regiOns

Based on results from Duy's study, this research will be aimed to analyze more deeply about FDI impacts on labor productivity of manufacturing sector in Vietnam with panel data sets Moreover, it will examine FDI factor as explanatory variable to test first hypothesis

2.4 Summary

In general, this chapter focuses on theoretical model and empirical studies to consolidate economic background concerning to the research Moreover, it will lead to withdraw the suggested model which established and presented in chapter 4

8

CHAPTER 3: AN OVERVIEW OF FDI IN VIETNAM

3.2 Overview of FDI inflows (1988-2009)

3.2.1 FDI inflows in period 1988- 2009

FDI inflows to Vietnam achieved significant results from the law on Foreign Investment approved in 1987, reaching 37 projects with total registered capital at 342 million USD From period 1988-1997, it impressed 2,341 projects, the total registered capital and implementation capital reached at 35,020 and 12,347 million USD respectively, especially coming at the peak with 10,164 and 2,714 million USD in

1996 However, due to the Asian Economic Crisis in year 1997, FDI inflows to Vietnam seriously declined Then FDI flows continued reducing rapidly at 2,566 million USD of total registered capital but resurged in 2000 After Vietnam's World Trade Organization integration in 2007, it robustly achieved 1,557 projects with more 7 times of total registered capital and 4 times of total implementation capital when compared with 1996 And FDI inflows suddenly dropped with total registered and implementation capital at 10,108 million USD in preliminary 2009 due to global financial crisis It showed a drop of81.2% compared to same period in 2008 Of which,

CHAPTER 3: AN OVERVIEW OF FDI IN VIETNAM

3.2.2 Some characteristics of foreign direct investment in Vietnam

3.2.2.1 FDI projects licensed from 1988 to 2010 by kind of economic activity

((*)Including supplementary capital to licensed projects in previous years)

As shown in table 3.1, statistical data illustrated Vietnam government's tendency is moving economy to focus main sectors which create effective productivity and increase competitive capability in region Especially, the highest ratio of FDI inflow sources mainly concentrated on the manufacturing sector with 7,166 projects and 85,191 million USD, corresponding to 58.79% of total projects and 38.88% of total registered capital This sector has taken the main role in increasing overall productivity Meanwhile, industry of electricity, gas and water supply has not achieved remarkable results from FDI inflows Generally for the whole year of 2009, the industrial output value was estimated at VND 696.6 trillion, grew by 7.6% as against

2008, of which, the state sector rose by 3.7%; the non-state sector by 9.9% and the FDI sector by 8.1% (petroleum and gas by 9 2%, others by 8% )

While electricity, gas and water supply have the lowest number of projects invested but stay in the second position of average capital size of 62.63 million USD per project The results in the large concentration of capital size in such areas also originate from government's attracting investment policies m improving and developing infrastructures on the way of international integration These impressive results have shown the manufacturing industries take an integral role in national economy and

contribute to the process of Industrialization and Modernization

I I

CHAPTER 3: AN OVERVIEW OF FDI IN VIETNAM

Table 3.1: FDI projects licensed from 1988 to 2010 by kind of economic activity

Percentage

Registered Percentage

No Kind of economic activity

projects total capital total

projects (miL USD) capital

9 Transport; storage and communications 426 3.49 7,255 3.31

11 Real estate, renting business activities 2,042 16.75 45,703 20.86

14 Recreational, cultural, sporting activities 129 1.06 1,796 0.82

15 Social and personal service activities 78 0.64 58 0.03

Source: Author's calculation based on the data ofGSO 2010

An average capital size per project has reduced continuously year by year down to 5.66 million USD after obtaining the peak in 1996 and then it bottomed at 3.71 million USD per project in 2002 In current years, the capital size per project has increased considerably and up to preliminary 2008 this average capital size per project has reached at 54.66 million USD per project dramatically, the highest point since 1988 This boom was obviously generated from the result of Vietnam's WTO joining in

2007 As illustrated from table 3.1, it is to figure out that the highest average capital scale is implemented mainly in mining and quarrying with 84 million USD per project

CHAPTER 3: AN OVERVIEW OF FDI IN VIETNAM

3.2.2.2 Structure of investment by ownership

Due to numerous reasons concerning to government's restriction regulations of setting

up 1 00% foreign owned enterprises, complicated policies for this kind of investment, till 1995, FDI enterprise's capital including both wholly foreign owned enterprises and joint ventures contribute around 30% of total social investment capital Although the proportion is unstable and changeable in decreasing tendency for many years later, state and none-state enterprises' ratio increased steadily by years As figure shown, industrial output value in the manufacturing sector by foreign firms is thriving gradually from 18.1% (15,084 billion VND) in year 1995, jumping to 42.0% (259,783 billion VND) in preliminary 2009 Particularly, foreign sector created outstanding results of output value with 17 times in year 2009 higher than that of year 1995 Meanwhile, industrial output value from non-state sector reduced slightly in period 1995-1999, and then increased in period 1999-2009, reaching 39.2% in 2009 Otherwise, state owned firms created industrial output value decreasingly from 52.1%

in 1995 dropping to 18.8% in 2009 In preliminary 2008, the capital contribution of FDI enterprises reached at 31% equivalent to 192,360 billion VND meanwhile none-state ones obtained 40% and 244,081 billion VND higher than state sector with just 29% and 174,435 billion VND respectively The exceeding ratio of non-state enterprises over state sector comes from different reasons however it is also the results ofFDI spillover affects after Vietnam's WTO accession

13

CHAPTER 3: AN OVERVIEW OF FDI IN VIETNAM

Duong, Dong N ai Meanwhile, Central Delta, such as Dung Quat industrial zone and other projects, received strong source from FDI, lifting comparative position However,

South East significantly resurged with 14,005.9 million USD, at the peak 61.7% of total and accomplished second place instead of Central Delta

The headquarters of firms located in big cities and provinces with better performance

of FDI inflows, including Hanoi, Ho Chi Minh cities and the surrounding provinces of key industrial centers with high infrastructure (such as Ba Ria Vung Tau, Binh Duong,

Dong Nai etc ) and attracted 32,424 million USD in total, accounting for around 51%

of total registered capital and 65.67% of FDI projects which were higher than the average level in Vietnam The result depicted high growth rate of FDI inflows in big

cities and provinces with better performance, especially Central Delta and South East,

creating competitive condition in attracting FDI flows within regions

• Mekong Ri\er Delta

Source: Author's calculation based on the data ofGS0-2010

Year

CHAPTER 3: AN OVERVIEW OF FDI IN VIETNAM

3.2.2.4 FDI inflows (million USD) by country of region

ANIEs group including South Korea, Hong Kong and Taiwan distributed a large pool ofFDI flows into Vietnam in period 1995-2007, normally achieving more 33% oftotal registered capital Meanwhile, ASEAN group remarked the most noticeable sign with 43.75% in 2008, and however dramatically dropped at 5.7% in 2009

In 2010, among 48 foreign countries that invested in Vietnam in 9 months of this year, Netherlands was a leading country with 2,220.2 million USD; following were South Korea with 1,840.1 million USD; the United States 1,792.2 million USD; Japan 1,457.6 million USD; Taiwan 1,029.6 million USD; Virgin Islands (UK) 672.5 million USD; West India (UK) 475.9 million USD During nine month period, the total value throughout agreements signed with sponsors was 2,209 million USD, of which 2,108 million USD were loans and non-refundable aids were 101 million USD As estimated,

1920 million USD of capital was reimbursed in 9 months, equal to 79% of the yearly estimate and up by 11% against the same period last year In general, FDI inflows from diversity of foreign countries created flexible and vivid scenario for economic growth

in Vietnam, promising potential breakthrough in region

16

CHAPTER 3: AN OVERVIEW OF FDI IN VIETNAM

Figure 3.4: FDI inflows (million USD) by country of region

• Japan o America • Europe o Asia • ANIEs • ASEAN o Othe

Source: Author's calculation based on the data ofGS0-2010 3.2.2.5 FDI inflows in manufacturing sector

As shown in diagram, Vietnam previously reached registered capital of 34,556 million USD in period 2000-2007, indicating a prosperous sign in economic structure Despite only 450 registered projects, FDI flows in this manufacturing industry achieved noticeable results from registered capital, reaching approximately 28,902 million USD

at peak in year 2008, after WTO integration Meanwhile, total registered projects still got a stable growth accounting to 600 projects in period 2002-2006, before reducing gradually to 245 projects and only attaining 2,250 million USD of registered capital in

2009, after global financial crisis The results also postulated the manufacturing sector plays an indispensable role in contribution to development of national economy,

fostering the process of Industrialization and Modernization

CHAPTER 3: AN OVERVIEW OF FDI IN VIETNAM

Figure 3.5: FDI inflows in manufacturing sector

c=::J Number of projects -e- Registered capital

Source: Author's calculation based on the data ofGS0-2010 3.2.2.6 Industrial output value in manufacturing sector by ownership

As figure 3.5 shown, industrial output value in the manufacturing sector by foreign firms is thriving gradually from 18.1% (15,084 billion VND) in year 1995, jumping to 42.0% (259,783 billion VND) in preliminary 2009 Particularly, foreign sector created outstanding results of output value with 17 times in year 2009 higher than that of year

1995 Meanwhile, industrial output value from non-state sector reduced slightly in period 1995-1999, and then increased in period 1999-2009, reaching 39.2% in 2009

Otherwise, state owned firms created industrial output value decreasingly from 52.1%

in 1995 dropping to 18.8% in 2009 The result expressed a striking display of foreign ownership contribution in industrial output value

18

CHAPTER 3: AN O VERVIEW OF FDI IN VIETNAM

conditions in business relation with international markets help Vietnam strengthen the

CHAPTER 3: AN OVERVIEW OF FDI IN VIETNAM

employees with higher income and ra1se the living standard of whole society In general, FDI sector has been playing an integral role in national economy

3.3.1 The role of FDI in national economic growth

A share of FDI sector in GDP has been increasing steadily with the overall average equivalent to 94,623 billion VND per year since 1995 In preliminary 2008, FDI sector accounted for 18.68% of GDP higher than that of approximately 12.38% in 1995

Meanwhile, the share of state sector and none-state sector in GDP decreased considerably with 40.18% and 53.52% respectively in 1995 compared with 34.35% for state sector and 46.97% for none-state in 2008, GSO (2008) This result showed the evidence ofFDI sector's important and vibrant role in Vietnam's economic growth

Figure 3 7: Structure of GDP at current prices by ownership period 1995- 2009

T ota l amo nt of FDi contribution to s tru cture of V ietnam 's G P in billion V O

P e rcenta e of FOI c ontribu tion to s t ucture of V ietnam ' s GOP

Source: Author's calculation based on the data ofGS0-2010

20

CHAPTER 3: AN OVERVIEW OF FDI IN VIETNAM

3.3.2 The role of FDI in employment and human resources

Foreign investment sector have been creating jobs for hundred thousands of employees each year The annually average number of employees who work for FDI enterprises is approximately 10,612 thousand in period 2000-2009, GSO (2010) As shown in table 3.2, the percent of population employed in FDI sector is increasing year by year in the period In 2000, this ratio is just 0.99% in total of labor force; however this number amazingly jumped up to nearly four times more than of that in 2009 The growth rate in employment is remarkable contribution ofFDI sector that gives a good chance to study the impact of FDI on economic growth in general and on the labor productivity in particular Besides, FDI enterprises also play an indirect factor in creating more jobs for other kinds of enterprises which have linkages with FDI sector through supplying raw materials, intermediate goods

Table 3.2: Employed population by ownership from 2000-2009

Thousand persons

By ownership 2000 2001 2002 2003 2004 2005 2006 2007 2008 Prel

2009 State 3,501 3,604 3,751 4,035 4,108 4,039 3,949 3,985 4,073 4,351 Non-state 33,735 34,511 35,167 35,763 36,526 37,355 38,057 38,628 39,168 39,590 Foreign sector 374 449 590 776 953 1,133 1,333 1,561 1,674 1,769 Percent of

CHAPTER 3: AN OVERVIEW OF FDI IN VIETNAM

inflows The survey demonstrated that an increase in average annual labor productivity growth by manufacturing industry was relatively significant, especially Vietnam with 7.1% and 2.5% in period 1971-1999 and 2000-2006 respectively Meanwhile, Singapore, Indonesia and Malaysia still keep stable labor productivity growth rate in long term, achieving respectively 3.5%, 4 7% and 6.3% in 2000-2006

Table 3.3: Average annual labor productivity growth by Industry (0/o)

to Singapore, Hong Kong and Taiwan

22

CHAPTER 3: AN OVERVIEW OF FDI IN VIETNAM

Figure 3.8: Comparative Labor Productivity Performance

Comparative Labor Productivity Performance

Selected Asian Economies

+Taiwan

+Malaysia

• Philippines

+China +I ndones1a

CHAPTER 4: RESEARCH METHODOLOGY

CHAPTER4 RESEARCH METHODOLOGY

4.1 Model specification

Based on the theoretical framework and empirical studies mentioned in the chapter 2, FDI impacts on labor productivity is normally represented by a logarithm version originated from Cobb-Douglas production function that consists of important standard factors concerning to capital, labor as well as certain different factors such as knowledge capital and form of ownership, the research model can be suggested in a function as follows:

Ln(Labprod;J = fJoit + f31it*ln(Capint;J + /32;/ln(Fshare;J + f33it*ln(Scale;J +

f34it *ln(Skill;J + f35it *Dindit + /36; 1 *Dloca;t + uit (1)

Where i is the individual dimension and t is the time dimension; f3 0 it: intercept; fJkit:

slope; parameters to be estimated; uit: error term In the equation ( 1 ), labor productivity

(Lab prod) is influenced by capital intensity ( Capint), types of ownership (Fshare ), the

size of net material input cost (Scale), skilled labor ratio of firms (Skill), location of

enterprises (Dloca) and use of three sub-industries (Dind) And the description and

measurement method of dependent variable and explanatory variables will be discussed further details in the next part, description of variables

4.2 Description of variables

4.2.1 Dependent variable labor productivity (Labprod)

This dependent variable measures labor productivity of the firms which is calculated

by dividing value added by the average number of labor in firms In the other hand, value added is equal to gross output (GO) of the year subtracting intermediate cost (IC)

in that year Meanwhile, IC is calculated by multiplying GO with IC ratio of each

24

CHAPTER 4: RESEARCH METHODOLOGY

industry This ratio is generated from General Enterprise's Cost Survey (GECS) that is undertaken annually by General Statistics Office (GSO) ofVietnam

Labor productivity= Value added/Average number of labor in firms

4.2.2 Explanatory variables

4.2.2.1 Capital intensity (Capint)

Capint variable indicates the capital intensity per each employee of a firm In this research, capital intensity is calculated by as average fixed visible capital per labor It

is measured as the visible capital assets created by firms in the investments at the end

of the year collected directly from GSO It is expected that labor productivity will increase with a rise in capital intensity

4.2.2.2 Types of ownership (Fshare)

Fshare denotes the foreign ownership structure of firms According to Blomstrom and

Sjoholm (1999), Fshare is measured as the share of an industry's total gross output

produced in establishments with foreign ownership This explanatory variable is used for examining the first hypothesis

However, in order to test the second hypothesis, we run another model with Fshare

preferred as dummy variable (Blomstrom and Sjoholm, 1999; Lutz and Talavera,

2004); (1) Fshare becomes DFsharel and equal to 1 if the firms are wholly foreign capital and joint ventures and equal to zero otherwise; (2) Fshare becomes Dfshare2

and is equal to 1 if the ownership is in the form of private firms and zero otherwise Those variables are used for examining the second hypothesis

CHAPTER 4: RESEARCH METHODOLOGY

4.2.2.3 Material input purchases (Scale)

Scale is denoted as the ratio of firm's production to average production in three industries (Blomstrom and Sjoholm, 1999; Lutz and Talavera, 2004) In this research, the variable is used to measure the economic scale with an assumption that firms which use large amount of material input purchases would lead to large scale in increasing the labor productivity However, in order to avoid the multi-co-linearity, bias as well as to make the value of this variable become net, in this research the size of material input cost subtracted other kinds of costs that are not related to material input cost such as service cost according to calculation from YES

sub-4.2.2.4 Labor quality (Skill)

According to some authors (for instance, Blomstrom and Sjoholm, 1999; Liu, 2001 and Peter, Jeremy and Chengqi, 2006), they defined labor quality as the ratio of managers and engineers to total workers or the ratio of white-collar workers to blue-collar workers In this research, labor quality Skill is measured by the proportion of labor finishing at least college or vocational training to total number of labor It is expected that firms with high rate of skilled labor would have a better performance

4.2.2.5 Firms' location (Dloca)

Dloca is dummy variable that denotes the firm's location and it is equal to unity if firms located in big cities and provinces with better performance of FDI inflows, including Hanoi, Hochiminh, Danang cities and the surrounding provinces such as Haiphong, Vungtau, Binhduong, Dongnai And equal to zero otherwise It is expected that firms locate in big cities and provinces will enhance labor productivity better than others

26