BREAKTHROUGH SOLUTIONS FOR ESTABLISHING TYPES OF FREE ECONOMIC ZONES IN VIETNAM. Doctor of Science Vo Dai Luoc Asia Pacific Economic Center

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1 BREAKTHROUGH SOLUTIONS FOR ESTABLISHING TYPES OF FREE ECONOMIC ZONES IN VIETNAM Doctor of Science Vo Dai Luoc Asia Pacific Economic Center Viet Nam has escaped from the status of underdeveloped country and moved to the group of middle income countries. The issue for Vietnam in the coming time is how to create a breakthrough to transform into a developed country. World practices have shown that the secret for this breakthrough lies in regulations. To enable a breakthrough in regulations, there requires a breakthrough in the thoughts on development at the decisionmakers level; and even when decision makers level has thoughts on development at the level of era s ones, it is not an easy task to realize the thoughts. Studies on the world have shown that this breakthrough solution in Vietnam is to set up types of free economic zone. Economic zones existing so far in Vietnam have the following characters: - They have not been the areas that gather typical comparative and competitive advantages of the country and international companies. - Preferential treatment policies are used as the main tools to attract investors. - The administrative and economic regulations are almost similar to the common ones of the whole nation with few advantages. - They have not really been growth poles leading the country s development. - They have not been able to link with economic regions and have low spill-over effects. - They have not been the places to test new regulations. Therefore, an urgent requirement for our country is to adjust the current existing economic zones and establish new generation of free economic zones at the international level, especially when Vietnam has intensively and extensively integrated into the world economy. 1

2 I. CRITERIA AND THE ESTABLISHMENT OF FREE ECONOMIC ZONES IN VIETNAM. The major idea of establishing types of free economic zones is to attract foreign investment, modern technologies and ideas for developing high-quality human resource, inter alia; therefore, these zones should have following criteria: The first criterion is a geographical position. No free economic zone locating in disadvantaged areas is successful. This economic- geographical advantage is demonstrated firstly in the existence of an international sea port near international marine line. The reason is so far more than 80% of international trade is transported through the marine lines, thus, the further the distance from international sea ports and marine lines they are, the fewer comparative advantages they have. This explains why almost all free economic zones are close to international marine line and sea ports. This economic- geographical advantage also lie in the adjacency to developed economic, service and cultural centers, since this is the foundation for the development of these zones. This is a criterion when special economic zones in China are considered to be established. The province of Guang Dong in China has good geographical advantage, and that is why China has established 3 special economic zones among the country s total of 5 zones. However, Hong Kong and Singapore are already developed ones without basing on this advantage but on developed centers in Euro and America that are far from them. So, can countries without sea set up free economic zones? The reality has shown that there are some free economic zones established in areas without sea, providing that the development of these zones is based on services, high technology, and some other conditions. Las Vegas that specializes in developing gamble activities and high tech Park in Zhong Quan commune of China are some examples of this type. The second criterion is modern economic and administrative regulations. No matter how adequately a country implements its commitments to World Trade Organization (WTO), more advantages and modernity can not be created in the aspects of regulation compared to others, especially for countries at the transition process like Vietnam. This is because the inertia in the way of thinking and habit as well as the resistance of interest groups, inter alia, has reduced the effectiveness of these regulations. However, these countries can create modern administrative and economic regulations that are more advantageous in some areas in the way that State interventions are reduced to the minimum 2

3 level; market impacts are manipulated, i.e. letting all types of prices to be determined by the market; and all enterprises are granted with full rights to do business; the State only takes charge of fields that are not covered by the market, takes the role of necessary regulation, and develops a healthy apparatus, as well as a neat, light and electronized administration system, inter alia. These regulations are hard to be implemented in the whole nation but they are feasible for some certain areas. The third criterion is a modern infrastructure. For less developed countries during the transition period, the infrastructure is generally backward and the requirement on investment capital for modernizing infrastructure is great; therefore, it is necessary to concentrate on the investment in modernizing infrastructure in economic advantageous areas to create the momentum for the whole country s development. The areas with these advantages are not many and mainly located in coastal regions. The development history of many countries has proven that point. China, Japan and Korea, among many other ones, and even European countries are good evidences. The selection of location to receive priorities for developing infrastructure and creating locomotive and motivation for the growth seems to be a rule already. For Vietnam, it is difficult to modernize infrastructure in the whole nation but it is possible to concentrate on the infrastructure modernization in some areas very soon in the coming time; and the more adjacent to sea port and airport, the less the transportation cost is. Fourthly, high quality human resource is a decisive factor to a firm and a country s competitiveness internationally. In the current world, the competition for having high quality human resource is very severe. Thus, countries can provide good land with attractiveness can draw this type of human resource. Less developed countries like Vietnam are not only lacking high quality human resource but also less attractive to external human resource. They even do not have policies to attract this type of human resource. Hence, these countries shall have to create good lands in the sense that economic zones with economic, cultural and social infrastructure that can be good enough to make international attraction are really important to be created. Perhaps, it takes years later for Vietnam to keep up with Euro and North America, however, Vietnam can focus its efforts to make some of its modern coastal cities, in coming years, to be of attraction to talents like other international ones. Fifthly, these free economic zones shall have to be in a complex development planning of a region or a growth roadmap so that they can make full use of developmental 3

4 advantages of the surroundings and of the whole region, and they can exert their spill-over impacts. Chinese special economic zones are attached to economic growth areas along the sea line and reaching inland following big rivers. With the 5 aforementioned criteria, these economic zones in less developed countries will become modern developed ones at the same level as other developed areas of the world in year-time in terms of conditions for doing bussiness and for living. This is a practical lesson of the world economy development that Vietnam can follow. Vietnam has fallen behind many countries in this regard, therefore, Vietnam needs to facilitate its speed of establishing and developing these types of free economic zones. Types of free economic zones in Vietnam 1. Export processing zone is a zone specializing in processing for export with zero tarrif. Vietnam has set up some zones of this type in Ho Chi Minh City and Hai Phong. Together with the increasingly intensive globalization process, countries protective barriers are being reduced, therefore, the advantages of these zones are decreasing accordingly. Nowadays, countries do not set up new export processing zone but to transfer them into new generation of free economic zones. 2. Free ports are ports that freely import and export goods without tarrif, and they may have stocks to store goods for further processing or for packing, etc. With the current trend of free trade, the role of free ports are decreasing but still important due to the fact that they are being modernized to correspond with the modern developmental tendency and are still appropriate according to exception provisions of WTO. Vietnam does not have this type of ports. 3. Open economic zone is a type of economic zone with siumilar model to industrial zones but differ in the extent of openess and the higher preferential treatment. Fields of doing bussinesses in open economic zone are more various, not only in industrial production but also free trade area (non-tarrif) and economic services as well. A serious limitation of open economic zone is that though being a open economic area, there is no independent administrative regime and they are under the direct management of provincial or municipal level, therefore, it is not appropriate to apply the common administrative regulations to open economic zones. The zones administrative and economic regulation needs to be special, advantageous and appropriate. The shortcomings of administrative and 4

5 economic regulations have reduced the effectiveness of the zone s performance. Open economic zones in Vietnam is facing this situation. 4. Special economic zones or free trade zones in China and some other countries (herein after referred to as special economic zones). These zones s outstanding feature is the existence of a special institution to attract foreign investors with high preferential treatment in terms of taxes, bussiness rights, among others (currently, these types of preferrential treatment are reducing in China, not because of WTO regulations but because of the fact that these zones have developed much more than other regions in the nation). The zones administrative and economic regulations are liberalized with higher international standard and more advantages than the one for the whole nation and regions; their location has many advantages. However, the most important feature of special economic zone is the existence of an administratvie apparatus and regulations with high enough autonomy to propose, ratify and implement more advanced administrative and economic regulations than the common framework promulgated by the National Assembly for the whole nation. Due to some historical reasons, the administrative and economic regulations of Hongkong special economic zone are not only advanced but also much different compared to the common one of China. Chinese special economic zones have independent apparatus and regulations with the right to decide advanced regulations. Korea also granted (in July 2006) free economic zones with a automomous regulation equivalent to that of Hong Kong. Korea sets the targets of creating the best bussiness and living environement with an English working language. So far, Vietnam has not established this type of special economic zone. 5. Open cities This is a type of openess that exist only in China with 14 open cities that create the core of open area in the coastal area of China. Open cities have following features: - All cities have international sea port and developed industrial premises, technical and economic exploitation and development zones (industrial zones); some cities even have special economic zones with general trading or trading in some fields. - These open cities enjoy preferential treatment in terms of tariff, other types of taxes, and fields of doing bussines. The preferential treatment level is lower than that of special economic zones but higher than that of the whole nation. 5

6 - The cities are more decentralized in their administrative and economic autonomy. - They receive priorities in infrastructure investment. - Some open cities have managed special economic zones and no special economic zone in China does not belong to one of these open cities the cities are, in general, the ones with most economic geographical advantages. China has allowed these cities to enjoy some taxation favor and advances in administrative and economic regulations in terms of investing in infrastructure. Although the favor is lower than that for special economic zones but higher than the nation s level in order to attract foreign investment on a large scale uninterruptly from the North to the South. They can mutually assist each other in the sense that open cities in the North focus on attracting more modern and higher technology while open cities in the South focus on traditional industies with more export orientation in the initial stage of openess, which is the basis for aiming at modernity. Open cities with open and clear mechanisms can manage diversified free economic zones. On the contrary, those without open and clear mechanisms will face insufficiency in managing these zones. Vietnam does not have such open cities as China. 6. Free trade area (or non-tariff, preferential tariff area). These areas can be in sea ports or border gates. China has established 13 preferential tariff areas along the sea and tens of others in border areas. These areas often locate in region with international sea ports or big border gate in the mainland. These areas are mainly for international trade: temporarily admitting and reexporting, importing for processing and re-exporting, resembling for re-exporting; warehouse, banking activities to lend for international payment and other services. Import and export tariff is zero and there are almost no customs procedures for exporting and importing. Also in these areas, international traders are allowed to do business, trade, transit, import, export, form commercial agents, banks and insurance companies, inter alia to serve export import services. 7. International urban areas: special economic areas of China are under transition to international urban areas. Dubai has set up tens of various international urban areas. More foreigners work and live in these urban areas than the local ones. The laws applied are 6

7 international laws. United Kingdom (UK) laws are applied to the financial urban area of Dubai. In Vietnam, regulation has been made on the establishment of some zones such as Chu Lai open economic zone which is called non-tariff area, however, this zone has not really operated so far. In reviewing seven aforementioned types of free economic zones, we can see that Vietnam can apply the following types: - International urban area; - Special economic zone or free economic zone; - Open city; - Free trade zone (or non-tariff area); - Open economic zone; - Free port. Free trade and open economic zones of Vietnam have been approved and some legal regulations have been developed. However, international urban areas, special economic zone and open city have been not established so far in Vietnam though being promulgated by the Party s Resolutions. The issue of establishing special economic zones in Vietnam The establishment of special economic zones in Vietnam has to deal with three important tasks which are to develop regulations on special economic zones, to identify the places, and to appeal and look for investors. Among these, the development of regulations on special economic zones should be drafted and approved shortly since the identification of places and looking for investors will depend on the regulations; openness and clarity. II. THE DEVELOPMENT OF REGULATIONS Vietnam can refer to three regulation models on special economic zones of Hong Kong, China and some other countries. 7

8 1. Regulations of Hong Kong special economic zone A feature of Hong Kong special administrative zone is that the issues related to politics, external relations and national defense were decided by the Government of United Kingdom in the past and by Central Government of People s Republic of China for the present. The decisions on administrative and economic regulations are almost authorized to Hong Kong authority, which indicates a very high autonomy in administrative and economic issues of Hong Kong. This is reflected in the following aspects: a) Positive policies with no intervention, the highest authority level of Hong Kong are Administration Department and Legislation Department, and the top leader is Hong Kong governor general who represented for the UK Queen in the past and for Chinese Government for the present. The basic guiding thought of administrative and economic policies of Hong Kong is the positive policies with no intervention, which means Hong Kong authority makes no intervention or some positive interventions with clear intention for the market to self regulates, develop and self-adjust. The State only intervenes at the minimum level if needed, to ensure the stability and healthiness. The free economic policies are the fundamental, with the guidelines of: freedom to import and export, to buy and sell foreign currencies and gold, to do business with market price and competition, etc. The main activities of Hong Kong authority over the past few years include providing some public services for factories and residents, supervising and speeding up financial market, developing education and health, etc. Recently, Hong Kong authority has been increasing expenses for public service, however, total investment capital of Hong Kong authority only accounts for 20-30% of the total social investment capital. b) Policies on taxes Direct taxes: are taxes on profits, salary, and income (are ineffective since October 1983) taxes on assets and heritages, etc. Direct taxes of Hong Kong are assessed to be low, efficient and not overlapping. Indirect taxes include: Tax on housing and land, consumption, special rights, commission and entertainment, etc, among which three most important ones are tax on housing and land, imported mechanical substances (including 6 types: drinks that is contained with rice derivatives, alcohol, cigarette, some petroleum products) and commission. 8

9 Total revenue of Hong Kong authority in general accounts for about 20% of GDP, which is the lowest level among countries in the world. This is the fundamental feature of the small scale of Hong Kong authority. Hong Kong private sector takes charge not only of all business area, but also almost all infrastructures. c) Toward foreign investment Conditions for foreign investment in Hong Kong are very favorable. Hong Kong authority allows foreign investors to have almost all freedom in such areas as selecting investment portfolio, transferring capital and profits, importing and exporting, the ownership and doing business, recruiting and dismissing employees, etc. The mechanisms are very convenient for investors: low corporate income taxation at 17-18%, no tax on capital, on shared income and income from overseas, no application of accumulative tax, tax exemption for importing and exporting except for some special products, etc. Modern infrastructure: modern communication and transportations, advanced monetary system, good urban management, etc. d) Transition trade is of special importance Hong Kong regulates transition products are those that undergo no self-processing after going into Hong Kong and being then transferred to other area outside Hong Kong. Self-processing is the process to make changes in the real appearance, characteristics and modernity of the products. Such works as making products thinner and sparse, packing, drying, assembling, diversifying and making simple decoration, etc. do not belong to the self-processing step. All goods that are transited through Hong Kong need to report to customs but they do not have to pay tax. The feature of special administrative zones of Hong Kong is to have high autonomy with more advanced liberalization than current mainland of China and even than that of UK. The state has small scale with few interventions to market operation and social civil. Taxation level is the lowest of the world therefore it has high attraction. The protective barriers are zero indicating high trade liberalization. It has good politics and security thanks to the previous support of UK and current assistance of China, etc. 2. Regulations of Chinese special economic zones 9

10 Regulations of Chinese special economic zones are a derivative from the model of Hong Kong regulations that are reflected in the model s general thoughts: small government, big society, little approval, many services, high effectiveness and legislation, streamline, consistence and effectiveness, etc. Chinese Government allows special economic zones to have advanced regulations compared to the one applied to the whole nation, toward the model of outward and proceeding to the level of one country inside one country to attract capital, technique, modern business administration of foreigners, etc. Chinese Government only regulates a broad regulatory framework and these zones have high autonomy in both legislation and execution within that framework. These thoughts are reflected in the following solutions: a) Decrease administrative agencies at municipal level. In general, there are about 65 administrative agencies at municipal level in China. However, in special economic zones, administrative agencies at the zone level (that is equivalent to municipal level) have been reduced to only 4 units. An example is in Shen Zhen, these four are Economic Development Department, Commercial Development Department, Department of Transportation and Department of Agriculture. To reduce administrative agencies means a reduction in the management lead contact, in the number of agencies that are responsible for providing and granting, which means a reduction of State authority into business activities. With respect to the function, authority of special economic zones has a reduced function to directly do business, increase the function of developing basic infrastructure, urban environment with renovated thoughts of planning goes first; land is the core; the field of land and housing are integrated; housing issues must be in line with the land issues; regulating at macro level with no management at micro level. b) There is a separation between the authority and factories. Shen Zhen establishes 3 levels for managing State assets: At the first level is Management Committee of State Assets at municipal level. This agency that makes guiding decisions and responsible for managing state assets at macro level. At the second level is Trading Company of State assets at municipal level. This level has the function of doing business with state capital in cities. 10

11 The third level is diversified state enterprises. In fact there are only 2 levels of management which are macro level at cities and micro level at enterprises in terms of capital and other fields. This is a solution for municipal authority to avoid doing business and managing at micro level. c) Removing the mechanism of state officials to replace with the mechanism of public servant officers where recruitment is made based on severe and public competition; the promotion is based on merit, dismissal is decided upon the inabilities to complete the assignments. And the treatment is appropriate. d) Taxation regulations - Exempt import and export tax for all goods imported to the special economic zones and exported to the outside. - Corporate income tax, personal income tax, and value added tax, among many others, are preferentially treated with much lower level than that of inland and of Hong Kong. - Customs procedures are simple and in line with international practices ) Policies on land - Although the mechanism of people s ownership of land under State management is maintained, the State allows all individual and organizations can rent land for up to 70 years. When the due time comes, they are given priority to continue renting and can fully use the land with such types of using as conversion, transferring, re-hiring, using as a collateral, using for capital contribution, and for inheritance, etc. - Rent price is about 30-50% of that in the inland. - Land is considered to be the major capital for building infrastructure for special economic zone. 3. Administrative and economic regulations of free economic zones in other countries 11

12 Recently, free economic zones have been developed (since 2000) in Korea, India, United Arab Emirates and some ASEAN countries, etc. These are new generation of free trade zones. These regulations have following features: - Preferential treatment levels are reduced due to WTO regulation but there exits the preferential treatment under exception provision according to WTO. - Autonomous level in terms of administration and economics is respected like the model of Hong Kong with higher extent of international integration. - A modern management apparatus, fully implementing e- Government, modern public service mechanism and removing corruption and beaucracy. - Having a modern regime on human resource, respecting talents, and providing treatment at international thresholds, therefore these zones can attract talents in and outside the country who use English as a working language. 4. Regulation framework of Vietnamese special economic zones On the basis of above assessment of administrative and economic of special economic zones of China and some other countries, and in comparison with current regulations of Vietnamese open economic zones, the following comments can be provided: Firstly, management level of Vietnamese open economic zones is not an administrative level but an economic management agency specializing on only open economic zones and under provincial administrative level. This means there may have some differences in them way of managing economics compared with that of the provinces they are directly under; but in terms of administrative management, there is few or even no differences. The inconsistency of economic regulations for open economic zones with those of provincial level is a big limitation for the operation of open economic zones. There requires administrative apparatus and regulations that are appropriate with not the local conditions of the province but with the international practices. Management apparatus and regimes of Vietnamese provinces/cities are currently not meeting requirements of international practices. Secondly, economic regulations of open economic zones of Vietnam are currently equivalent to that of economic zones at border gate with not much advanced to that of the inland and far from that of autonomous regulations of free economic zones in the region. 12

13 Thirdly, preferential treatment in terms of tax, land hiring price, and rights to do business, especially the ownership of real estate is not comparable to that of other free economic zones in the region. Fourthly, policies to attract private sector investment in and outside country to invest on infrastructure in open economic zones not clear, detailed and attractive enough. Fifthly, conditions for doing business and living, especially services are too much behind that of free economic zones in the regions. So how should regulations of Vietnamese special economic zones be? Firstly, these regulations should have more advantages than the current ones applied in the whole nation and even in the region in terms of freedom to do business, living conditions, effectiveness and modernity, with an aim to form higher competitive advantages. This is a crucial point to the success of these zones. Secondly, to ensure the consistencies in the administrative and economic regulations in special economic zones, as well as to make sure their abilities to make mutual assistance to each other, it is necessary to establish an administrative level with high autonomy and authority to legislate, execute and do judiciary within the National Assembly s legal framework, The reality of over the past 10 years in China has shown that although the autonomous rights of Macau and Hong Kong are very high, Chinese Government has been fully controlling these areas. Of course during the first stage of establishment, these special zones can be under a province or city, but the province or city should have the mechanism of an open city or province. Thirdly, these zones should comply with WTO regulations, i.e. cut down preferential treatment but still maintain necessary special treatment types that are not against WTO regulations. Fourthly, it is necessary to have special regulations to attract capital of private sector in and outside the country for the establishment and modernization of infrastructure of special economic zone as well as to appeal high quality human resource. Fully implementing the e- government and using English as a working language. Fifthly, regulations on monetary issues, real estate, and customs must be modernized, and open for free flow of cash, capital and goods. 13

14 Sixthly, regulations of these zones shall make sure the zones positive impacts can spill over to the whole economy, firstly to areas that are under the impacts of the zones. Meanwhile, it is necessary to limit negative impacts of these special zones. Seventhly, regulations of these special zones shall ensure the stable and sustainable development, limit negative impacts of the region and the world s political and economic shocks, and effectively prevent and fight against opposite and destructive activities of enemy forces. The above points can be seen to be fundamental viewpoints for drafting legal regulations for special economic zones in Vietnam. Regulations for open cities and free ports will be formed on the basis of above viewpoints but at lower level than that for special economic zones. Regulations for open economic zones, non-tariff areas will be finalized relying on improving existing regulations toward a more transparent and opener manner. II. THE ISSUE OF SELECTING LOCATIONS AND CALL ON INVESTMENT The studies for establishing special economic zones in Vietnam that was submitted to Standing Committee of the Government dated February 9, 1998 (drafted by Vietnam Industrial Zones Management Board) suggested 5 requirements and 18 criteria to select the location with such aspects as their geography economics, scale, roles and relations with the whole nation. These requirements and criteria can be appropriate. However, in our opinion, since the objective of special economic zone is to attract foreign investment and develop the economics towards the outward, therefore the criterion of most importance is the interest and selection of foreign investors. Over the past 20 years since the issuance of Law on Foreign Investment in our country, foreign investors have entered Vietnam with thousands of project and total amount of tens of billions of USD. That where they have been investing and which fields they would like to make further investment is the issues that need to be consider. There may be some locations foreign investors have not had interest but Vietnamese Government would like to establish special economic zones in these locations; therefore, in these cases, it is necessary to make reference to and respect foreign investors ideas. 14

15 So far, the following locations have been paid attention to by foreign investors: First: Ho Ch Minh Binh Duong - Dong Nai Ba Ria Vung Tau. Second: Ha Noi Bac Ninh Hai D ng Hung Yen Hai Phong- Quang Ninh. Third: Binh Dinh Phu Yên Khanh Hoa Four: Thua Thien Hue - Da Nang to link with Laos and Thailand. Some open cities that can be selected are Quang Ninh, Hai Phong, Hue, Da Nang, Phu Yen, Khanh Hoa, Ba Ria Vung Tau, Ho Chi Minh. Free ports: All ports that can receive ships of 10,000 tons and above can be considered to enjoy regulations of free ports, but firstly pilot can be made in some provinces of Hai Phong, Da Nang and Ho Chi Minh City. The prerequisite for transfering into free ports is to have international strategic investors involving in joint venture. With the above development orientation, overall master plan for development of Vietnam will change towards: - Moving to the sea, ports and to open-development lines. - Marine transportation will be the major one; therefore, it is necessary to build up modern ports with several big ports and a number of small ones, to apply multi-means transportation technologies in combination with the road, railway, and river lines. Developing high way roads to inter-linked ports, transportation ship team and shipbuilding technology. This development direction will reduce cost of transportation and traffic accidents. - Development lines will follow the East-West direction, linking Vietnam Laos Thailand, Vietnam Cambodia Thailand, and Vietnam China. - Some open economic zones can be established in border gates to open development lines to neighbor countries. Conclusion - Some special economic zones are locations to attract foreign economic corporations from Japan, America, Euro, etc. They gain benefits when linking with Vietnam and the 15

16 benefits are closely attached to the borders along the sea of Vietnam. They themselves will protect peace and stability in the border so that they can do business. - Special economic zones are the most important windows for Vietnam to look out over the world, attract the world into Vietnam, master quickly information on the world in all aspects, and quickly accommodate to the world this is important condition to develop and protect the nation. - The strategy to protect the sea of Vietnam needs to adjust appropriately with the establishment of special economic zones. 16

17 Reference 1. John M. LiTwack. Balanced and unbalanced development: new special economic zones with the role of a catalyst for the transition, Journal of comparative Economics, 26, 1-25, March, KaranMc Kengnay, Assessment of special economic zones of China, a Research Project of National University of Military, Washington, Korean Ministry of Economics, Korean Free Economic Zones the future of North East Asia, September Institute of World Economics, Free trade and Export processing area, Hanoi, Free economic zones in the world and experiences for establishing Vietnamese industrial zones, Conference summary records, Ministry of Construction, 1993, 17