Lingering business risks for Cambodia, Vietnam

With China’s demographic dividends having gradually disappeared in recent years, production costs have definitely soared in the world’s second largest economy.

With China’s demographic dividends having gradually disappeared in recent years, production costs have definitely soared in the world’s second largest economy. Coupled with mounting environmental pressures in the country, many Chinese and foreign multinationals have opted to relocate their factories from China to Southeast Asia where labour costs are relatively lower than its neighbour up north. More importantly, the intensification of the US-China trade war has driven more of these companies to Asean in offsetting such major risks to their businesses.

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That said, it is simplistic to assume that the business environment in Southeast Asia is extremely excellent for foreign investors. This is especially important considering that recent reports on the trade war’s benefits to several Asean countries (as made by several consulting companies and think tanks) are short of covering the lingering risks of these economies. In fact, many foreign investors continued to encounter difficulties in their businesses with the perfect examples being the two beneficiaries of US-China trade war, Cambodia and Vietnam. In Cambodia, the business environment continues to be complicated despite the trade war’s opportunity for the nation. According to Ken Loo, secretary-general of the Garment Manufacturers Association in Cambodia (GMAC), 70 garment factories have been shut down in the country thus far and this doubled the number of factories which ended their operations last year. The reasons, of course, are multi-pronged.

First, continuing increase of labour costs in Cambodia. From 1997 to 2019, labour costs in Cambodia rose 4.5 times, from as low as $40 per month to as much as $182 per month. And if employee benefits and various subsidies are included, the costs are expected to surge to about $210 per month. Such labour costs certainly overshadow those from Bangladesh, Sri Lanka, India, Myanmar, Pakistan and Laos.

Second, the supply chain links are also far from being perfect in Cambodia. Currently, the infrastructure and supporting facilities of the country’s manufacturing industry are relatively weaker than that of China and this, in turn, lead to the increase of business costs for foreign investors.

Third, Cambodian workers have lower productivity if compared to that of China’s. According to industrial analysts, the productivity of Cambodian garment factories is only about 60 percent of China’s while it is also behind its two Asean counterparts (Vietnam and Indonesia) which recorded 80 percent of the Chinese productivity.

Fourth, there is also a prevalence of labour protests in Cambodia. In recent years, labour protests have become a new risk for foreign investors operating in the country unlike the past which the latter could have ‘safely’ dismissed such risk in their business operations.

Finally, it is still uncertain that Cambodia’s export prices’ advantage can remain at its current levels. This is especially important in light of the possibility that EU’s tax incentives to the country face the risk of being terminated in the near future.

As for Vietnam, it is touted as the country that benefitted the most from the US-China trade war as highlighted by Nomura Securities recently. According to the group, 52 percent of the goods have an import substitution effect as a result of the high tariffs imposed by both the US and China against each other. Among the economies studied in Nomura Securities, Vietnam is the biggest beneficiary from such trade war with possible increase of the country’s gross domestic product by as much as 7.9 percent.

However, this remains simplistic as Anbound’s research team believes that there are potential risks alongside such historic opportunity made possible by the US-China trade war.

First, like Cambodia, Vietnam also faces the risk of rising business costs. As an export-oriented economy, large number of concentrated exports certainly lower the prices of export commodities. But at the same time, it also denotes higher prices for imported goods as the country continues to import at a high rate as before. As such, imported inflation is an inevitable scenario for the Vietnamese economy.

What this leads to is the rise of wages as factory workers who feel the pinch of inflation, may mobilise themselves for more labour strikes or protests. And for the Vietnamese government, it may acquiesce to such demand from the workers as it remains to be the best means in controlling inflation that originated from its high imports. If all these scenarios do occur, Vietnam risks losing its most important advantage of being a low-cost haven for foreign investors.

Second. While Vietnam’s economic growth was as high as 7.08 percent in 2018 (far exceeding market expectations), one also has to recognise the risk of development bottleneck faced by the Southeast Asian economy. A particular manifestation is the mushrooming of high-rise buildings in the cities despite lacking supporting fundamentals for such real-estate boom. This is but an alarming indication that the wealth created by manufacturing sector is rapidly moving over to the real estate sector instead of being recycling in the former.

Furthermore, shocking figures of foreign investments as shown by Vietnam’s $10.8 billion FDIs in the first quarter of 2019 will also make the Vietnamese economy more vulnerable to foreign capitals. This, in turn, increases the volatility of Vietnam’s economy as foreign capitals enter and leave the market based on the investors’ market sentiments. With such high degree of external dependence, it is expected that any external-induced shock to the Vietnamese economy will be both rapid and impactful.

By all means, it is unquestionable that Cambodia and Vietnam will benefit from the US-China trade war in the short-term due to the global restructuring of the industrial supply chain and manufacturing transfers. But unlike China, their smaller economies (and thereby, reduced market sizes) bring along risks that are worthy for comprehensive and deeper assessment by foreign investors. Rising costs, development bottleneck, less competitive workforce, weaker links of supply chain and labour movements may be evident for both Cambodia and Vietnam in the coming years, with the end result being that these countries could face the same predicament as experienced by China in the past years. Last but not least, it should be noted that in a world which overproduction is rampant and uncontrollable, such relocation of foreign investments will lead to more (unconsumable) produced goods around the globe. If an economic crisis breaks out of such situation, smaller economies like Cambodia and Vietnam, will be hit even harder than China.

Anbound Malaysia is part of Anbound China, a leading independent think tank based in Beijing. The think tank is also a consultancy firm working with corporate players in China-ASEAN cooperation.

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