Smithies: Economics of Vietnamization

(The folowing excerpts are taken from a report which Arthur Smithies. Ropes Professor of Political Economy and Master of Krikland House, submitted to the Institute for Defense Analyses earlier this year. A story discussing the report appeared in the October 8 issue of the Crimson.)

Economic Development in Vietnam: The Need for External Resources

I. Military Security and Economic Development

Economic prospects and possibilities in Vietnam depend critically on the military situation, on the degree of military security that is achieved under Vietnamization, as American forces withdraw.

At one extreme military security may be sufficient to permit the economy to operate under market forces and to be oriented toward the world economy with respect both to trade and the use of foreign capital.

The other extreme would involve full incorporation in the economy of North Vietnam. Its economic technique would be central planning and control; and it would presumably have to rely on the communist bloc for external resources. Also under this arrangement, there is little doubt that the south would be exploited by the North. It would play the role that the agricultural sector has played in Russia and other communist countries.

This report will proceed on the assumption that the first alternative, which is clearly preferable, is also feasible.

That degree of security, however, can only be achieved at very considerable cost. At present, Vietnam, with a population of less than 20 million has 1.2 million in the armed forces, with more than half of them in the regular army on a full-time basis. That makes the RVNAF the fourth largest army in the world, and far larger than that possessed by any other under-developed country in the free world, including India.

There seems no likelihood that negotiation with the North can result in rapid or early demobilization of this force. The best planning assumption seems to be military stalemate and withering away of the war, a process that can last for a decade or more (unless an international body undertakes to keep the peace in Indo-China by maintaining a military presence there).

I shall assume therefore that such economic development as can occur, must occur in the context of continued mobilization. A "post-war period" in the sense of full demobilization seems too remote to provide a realistic basis for planning. Clearly the need to maintain large military forces will have a profound bearing on the external resources required by Vietnam. Military equipment will be provided directly by the United States as military assistance. This is what has been done hitherto and what is still done in Korea and Taiwan. It is also the way North Vietnam is supplied by China and Russia. The cost that falls on the Vietnamese economy, and is financed through its budget is the pay and subsistence of the forces. This paper is concerned with the external assistances needed to enable the economy to sustain that burden, and to achieve some measure of economic development as well.

II. The Nature of the Economy and Economic Consequences of the War

Were it not for the effects of the war, there would be nothing very surprising about Vietnam's economy, apart from the extraordinary fertility of the Mekong Delta. Apart from that its resource endowments are moderate. It has abundant fish; and extensive forest resources. It has no minerals and no power sources (other than limited hydroelectric power). All that of course could be transformed if oil were discovered and produced.

Vietnam has acquired the handicaps and the advantages of the French colonial tradition. That tradition, with its emphasis on French cultural value and French centralized administrative methods may well produce a balance of handicaps over advantages.

The population is hardy and vigorous, particularly those that have come from the North. The Chinese influence and incessant wars over the centuries have produced hardier human stock than has Cambodia, Thailand and other countries that have been subject to Indian influence.

Were it not for the war, economic development in Vietnam could proceed in terms of the leisurely modernization of a country producing plenty of food for its population and earning foreign exchange through the exports of its rubber plantations.

The war has altered things dramatically, producing both impediments to and facilitations of development.

(3) One of the permanent legacies of the war will be the increase in the expectations of the Vietnamese people. That is the other side of the Honda phenomenon. The Honda is a handicap from the cost and saving side. But it may also be a strong force motivating the economy to exert itself. Economic development depends on rising expectations and on the ability and the willingness of the country to expend effort. Despite the fact that government policies have militated against national saving, the attitude of the individual, as one observes him in the country and the cities, is directed to industry rather than idleness.

Furthermore, the great possibilities opened up by the Green Revolution may have profound effects on human attitudes. Increasing agricultural productivity will make the expenditure of human effort worthwhile.

As a new generation grows up, the horrors of war will fade, as they have in Japan and Korea. But the profound changes in the economic life of the country, wrought by the war will remain.

The conclusion of this section is that the war has produced great distortions in the Vietnamese economy, chiefly reflected in its external trade. At the same time, at fantastic cost, it has fulfilled some of the necessary "preconditions" for development. A combination of sound domestic policies with a substantial infusion of external resources should have a better chance of success in Vietnam than it would in many other underdeveloped countries. On the other hand, the external gap is such that niggardliness in the provision of external resources can have more damaging effects in Vietnam than it would elsewhere.

III. Policies for Development.

In the opinion of virtually all analysts who have examined the matter recently, the future of Vietnam should lie in the world economy rather than in economic parochialism. This is true of almost all small underdeveloped countries. Their internal markets are too small to realize the benefits of division of labor. They must specialize to be efficient; and specialization is only possible if they trade beyond their own boundaries. But this argument implies that Vietnam cannot stick to its exports of primary commodities, like rubber, but must seek the benefits of the division of labor for its industries. This is the spectacular lesson that has been taught to the world by Korea, Taiwan, Singapore and Hong Kong--to say nothing of Japan. They can be successful exporters of manufactures, even though they will almost certainly encounter protective barriers against them.

In this context a successful development policy can consist as much in refraining from doing the wrong things as in doing the right ones. It must avoid the restrictions and licensing arrangements that have hampered development and have bred corruption in the past. It must resist domestic pressures to set up high cost import substitution industries. It must resist the pressure of labor to establish real wages that are so high that the country cannot take advantage of its plentiful labor supply....

Impediments

(1) Mobilization. It is estimated that the military budget of Vietnam amounts to about 30 per cent of its GNP. It is inconceivable that without foreign assistance the country would be able to bear that economic burden, let alone have any resources left over to devote to development. Even though some reduction of the size of the forces may be possible as time passes, other budgetary items must increase. Military wages have been held down in a misguided attempt to limit inflation. In the future they must increase in real terms. There will also be a depressingly large and increasing item for veterans' benefits in the budget. Consequently it would be imprudent to assume that the military burden will be appreciably relieved in the near future.

In addition to the sheer size of the military budget, the risks and uncertainties associated with continuing military operations must be taken into account. These factors will unquestionably affect the rates of return that investors, domestic or foreign will require; the total may consequently be limited or investors will be induced to temper their economic decisions heavily by considerations of security.

(2) Foreign Trade. One of the most notable effects of the war has been its effect on Vietnam's foreign trade. Exports of commodities have virtually disappeared and imports have nearly doubled during the last decade....

The import deficit need not be regarded as an impediment to development, provided some external source is prepared to finance it. It is too much to expect that the US or other countries will provide say $700 million a year in financing for the indefinite future. And if the potential deficit remains, while the sources of financing dry up, there can be no doubt that development will be retarded, and may degenerate into stagnation.

Reduction of the import surplus must therefore be regarded as an important component of development. It must not be thought that reduction is quick or easy matter. As one example Korea still only pays by exports for two-thirds of its imports--twenty years after the end of the Korean war. On the other hand, once Korea set its mind and political will to the problem, it achieved remarkable success, during the last five or six years.

(3) Real wages in the private sector. The shortages of labor caused by mobilization, combined with the increased demand for labor for military construction, together with the abundant import policy have resulted in a level of real wages that is high in relation to the country's productivity and stage of development. If the market system is allowed to operate, and exchange rates are relied on to achieve international balance, wages could find their appropriate level....

(4) Real wages in the public sector. In common with most countries faced with inflation. Vietnam has made the Civil Service and the armed forces bear much of the brunt of inflation by holding down wages....

(5) High Consumption and Low Saving...For lack of financial assets in which to invest, the public has had to buy consumers goods or services....

(6) Corruption. It is generally acknowledged that Vietnam is corrupt. But there is no evidence that it is more corrupt than its South-East Asian neighbors. If it is, the reason may be that the war and wartime policies provided many opportunities for corruption....

From an economic point of view corruption can be thought of largely as a symptom of ill conceived and restrictive policies that impede economic development. The corruption itself may be thought of as a lubricant of a system that would otherwise break down. It is far better, however, to create a system that requires no such lubricant. It is hard to think of any interference with the market system in Vietnam that cannot be regarded as an impediment to development.

Facilitations of Development. On the other side of the ledger the war has changed the traditional situation in ways that are distinctly favorable to development.

(1) Manpower (and womanpower). Both the million men who have served in the RVNAF and the 250,000 who have worked for the U.S. as civilians provide the base for an industrial labor force with modern skills and attitudes, provided reasonably good employment opportunities are provided for them, and they are not permitted to lapse into urban or rural unemployment.

Moreover, the expansion of the service industries as a result of the war may facilitate industrialization. Usually new-born industry has to draw on agriculture, and it is well known that the economic incentives needed to get people out of agriculture may be greater than their marginal product in industry. The transfer of labor from declining restaurants into industry may be much easier than the transfer from agriculture.

As part of the pacification program, the government has expanded both primary and secondary education to a remarkable extent during the past five years. Literacy rates are distinctly high for an underdeveloped country.

A further point of great importance is the increased participation of women in business. Men imbued with French cultural tradition often do not take readily to the rough ways of the market place. But Vietnamese women seem to have no such inhibitions and have shown remarkable skill in business. While their opportunities have largely occurred in importing and other trading, these skills can be transferred to industry, as the experience of other countries, such as Pakistan, has shown.

Taken by itself, the entrepreneurial situation in Vietnam seems distinctly promising, in relation to its past. But one must bear in mind that it will have to compete with Koreans and Taiwanese, who lack neither skill nor energy. However, Vietnam also has its Chinese community. One sometimes gets the impression that in every successful Vietnamese business venture an attractive Vietnamese woman dazzles the public while an efficient Chinese partner lurks in the background.

(2) Infrastructure. The war has provided Vietnam with paved high ways from end to end, with more airfields than it can possibly use, with spectacular harbors, with an elaborate communications system, with power plants, and with potable water in Saigon. In these areas, its future problems will be to maintain what it has rather than engage in new construction. Against these assets must be set the neglect of the water system in the Delta, the destruction of highway bridges, the damage caused by defoliation and the damage to timber by artillery fire. In addition the Vietnam railroad has been put out of commission. But that may turn out to be a benefit, provided it is permanently abandoned.

While it is impossible to make an accurate inventory of the changes in the infrastructure during the war, the impression is inescapable that the plusses greatly outweigh the minuses.

IV. External Resources. If Vietnam is to embark on a course of development, especially while it remains mobilized to any appreciable degree, foreign aid must continue at least for a decade or more. There are three cogent reasons why this is true. First, however well contrived its fiscal and monetary policies, it cannot save enough from its own resources to provide the capital needed for any significant degree of development. Secondly, even under the most favorable circumstances, exports plus private capital inflow cannot be expected to pay for even a minimum feasible level of imports for a good many years. This fact is fully supported by the experience of Korea and Taiwan. The arithmetic supporting these statements is included in the Appendix. It must be emphasized that the amounts needed will be of the order of $.5 billion a year during the next decade. At the outset virtually the whole amount will have to be supplied (as it now is) from public sources. If development succeeds and national security increases, private capital inflows can be expected to contribute an increasing share of the total...

V. The Role of International Organizations

One of the unfortunate aspects of Vietnam is the overwhelming importance of the United States involvement. "Free world assistance" military or civilian has not been sufficient even to provide a facade of international endeavor. And Russia did not make the mistake of being absent from the UN, as it did at the time of Korea. In terms of world esteem and political support, the U.S. has paid a high price for its solitary position. For the sake of Vietnam. South East Asia as a whole, to say nothing of the United States, it is of great importance that the security, prosperity, and the stability of the region become a matter of international concern. The following possibilities of international action should be considered.

Peacekeeping. If the war is to be ended by a genuine negotiation (compared, for instance with a camouflaged surrender), it is hard to see how such a conclusion can be secured without the support of an international force presumably under the U.N. The security provided by such a force would clearly facilitate the process of development by reducing the uncertainties that would surround investment in an insecure situation. The flow of foreign capital into the country would be increased as well as the repatriation of capital by nationals.

Military Resistance. There seems little likelihood that any country besides the United States will provide military assistance to Vietnam. As it has in Korea, the U.S. will presumably have to continue such aid on a bilateral basis. Of course the more international peacekeeping there can be, the less the need for Vietnamese mobilization, with its attendant costs, there will be.

General Economic Support. So far the U.S. has provided virtually all the general support that Vietnam has received. A main beneficiary of the operation has been Japan, which has supplied most of the imports purchased by Vietnam with free dollars (obtained from the U.S. in exchange for piasters). In the name of equity in economics and polities. Japan should carry a major share of the aid burden in the future.

There is no regularly constituted international agency that could channel general support to Vietnam. The most suitable multinational arrangement would be a consortium of the types that have consolidated aid to India and stabilization aid to Laos. The members should include the U.S., Japan, Australia, Thailand, New Zealand, Korea and the Phillippines. But the club should not be exclusive. Canada, for instance, should be eligible for membership. The U.S. has been included in the list for realistic reasons. If the consortium would operate on an adequate scale without the U.S. so much the better.

Development Assistance. The Asian Development Bank is an obvious candidate for administering development assistance, especially since it is Asian in its orientation, and Japan is a major partner. There is one difficulty, however. The Bank supposedly selects worthwhile development projects regardless of country. It will be necessary to concentrate a special effort on Japan, which contradicts the Bank's policy. It may be possible to arrange for the Bank to act as trustee or agent in administering funds provided by countries, like the U.S. or Japan, that have special responsibilities for Vietnam.

The World Bank will of course have a role to play, and has already begun to cooperate with the U.N. in the Mekong. There is some doubt about whether these international agencies will be willing to operate on the scale required. While strenuous efforts whould be made to channel development aid through them, bilateral loans from the U.S., and hopefully. Japan will probably continue to be important.

Monetary Policy. The I.M.F. has twice played an important role with respect to the Vietnamese exchange rate. While it has lent its sanction to necessary devaluations, it has not sponsored the idea of exchange flexibility, which is essential so long as inflation remains endemic in Vietnam. It must be admitted that the fund's influence, so far, has not been entirely beneficial.

Technical Assistance. The contributions that the World Health Organization can make to Vietnam are self-evident. Not so obviously the U.N. Special Fund can make useful contributions, such as conducting a geological survey.

Labor and Welfare. As pointed out above, real wages in Vietnam have risen in relation to those of its neighbors. It would be premature for international organizations to promote higher labor or welfare standards in the immediate future