UNIVERSITY OF ECONOMICS
HO
CHI MINH CITY
VIETNAM
INSTITUTE OF SOCIAL STUDIES
THE HAGUE
THE NETHERLANDS
=====oOo=====
VIETNAM-
NETHERLANDS
PROJECT FOR M.A.
IN
DEVELOPMENT ECONOMICS
AN ANALYSIS
OF
FOREIGN
DIRECT
INVESTMENT
IMPACT
ON
LABOR
PRODUCTIVITY AT
FIRM
LEVEL
IN VIETNAM
IN PARTIAL FULFILLMENT OF THE REQUIREMENTS FOR THE DEGREE OF
MASTER OF ART IN DEVELOPMENT ECONOMICS
.
BY
PHAM
KHAC

of
my knowledge, and any help received in preparing the
thesis and all sources used have been acknowledged in the thesis.
Signature
amKhacDuy
Date: November, 2009
ACKNOWLEDGEMENT
This research
is
impossibly completed without the valuable guidance, encouragement and
advice from numerous individuals including Vietnam-Netherlands program lecturers,
friends and my family members. I am really indebted and grateful to what they have done
for my thesis completion.
First
of
all, I would like to send
my
deepest gratitude to
my
supervisor, Dr. Le Thi Thanh
Loan who always gives valuable instructions, advice and comments during
my
completion
ofthe
thesis.
I am grateful for Professor,
Peter Calkins for his precious advice and comments from the
initial ideas
ofthe
theme for

do
know that I would be
so
grateful for those
who support
me
a lot in this thesis completion
if
I forget to mention their names.
ii
ABSTRACT
This research examines and analyses the impact
ofFDI
on labor productivity at firm level
in
Vietnam through applying cross-sectional data from VES-2008 which concentrate on
4,654
firms including FDI and domestically owned enterprises in 4 sub-industrial sectors;
food processing, hotels - restaurants, electronics - mechanics and textile - garment -
footwear. The regression model
is
estimated based on the Cobb-Douglas production
function and the labor productivity
is
modeled as dependent on the variables, namely
capital intensity, material input cost per labor, proportion
of
skilled labor and dummy
variables including types
of

skilled labor that does not appear to
affect on labor productivity in this research.
iii
TABLE OF CONTENTS
CHAPTER
1:
INTRODUCTION 1
1.1.
Problem statement I
1.2. Objectives
of
the research 2
1.
3.
Research questions 2
1.4. Research hypotheses 3
1.
5.
Organization
of
the research 3
CHAPTER II: LITERATURE REVIEW 5
2.1. Introduction 5
2.2. Concepts and definitions 5
2.2.1. Foreign direct investment (FDI) 5
2.2.2.
Productivity and labor productivity 6
2.3. Economic theories
, 8
2.3.1.

3.2. Overview
of
FDI inflows and periods
of
development from 1988 to 2008
18
3.2.1. FDI inflows in period
1988-
2008
18
3.2. Some characteristics
ofFDI
in Vietnam 20
3.3. The role
ofFDI
in national economy
25
3.4. The summary
ofFDI
sector's socio-economic affect on national economy 27
iv
CHAPTER
IV:
RESEARCH
METHODOLOGY
29
4.1. Introduction 29
4.2. Model specification 29
4.3. Description ofvariables
30

5.2.1. Descriptive statistics
of
sample 3 7
5.2.2. Descriptive statistics ofvariables
38
5.2.3. Correlation matrix
41
5.3. Model estimation and finding results .42
5.3.1. Multiple regression results and diagnostic tests .43
5.3.2. Interpretation
ofthe
fmding results 45
5.3.3. Analysis and discussion about the finding results .47
5.4. Conclusion 49
CHAPTER
VI: CONCLUSIONS AND
RECOMMENDATION
50
6.1. Conclusion 50
6.2. Recommendations 50
6.3. Limitations
of
the research 52
v
REFFERENCES
53
APPENDICES: 56
APPENDIX
1:
, , 56

gross domestic product at current prices by ownership period
1995-
2008 26
FIGURE 5.1: Correlation between proportion
of
skilled labor and labor productivity

.42
FIGURE 5.2: Distribution
of
labor productivity (Labproductivity) before transforming
into logarithm form 56
FIGURE 5.3: Distribution
oflabor
productivity in logarithm form 57
FIGURE 5.4: Distribution
of
Capital intensity in logarithm form 59
FIGURE 5.5: Distribution
of
material input cost per labor in logarithm form 59
FIGURE 5.6: Distribution
of
proportion
or
skilled labor in logarithm form 60
vi
LIST OF TABLES
TABLE 3.1: Foreign direct investment projects licensed from 1988 to 2008 by kind
of

running regression (Model5.2) .45
TABLE 5.9: Distribution
oflabor
productivity (Labproductivity) before transforming
into logarithm form 56
TABLE 5.10: Distribution
oflabor
productivity in logarithm form (Lnlabproductivity) 57
TABLE 5.11: Distribution
of
explanatory variables in logarithm form 58
TABLE 5.12: Descriptive statistics ofvariables in three types ofenterprises
61
TABLE 5.13: The result
of
regression with beta number (Model5.3) 62
vii
ASEAN
APEC
BLUE
BTA
FDI
FE
GDP
GECS
GO
GSO
IC
IMF
NGO

Non-Governmental
Organization
Newly Industrial Countries
Organization for Economic Co-operation and Development
Ordinary Least Square
Random Effects
Regression Specification Error Test
Seemingly Unrelated Regression
United States
United States Dollar
Value Added
Vietnam Enterprise Survey
Variance Inflation Factor
Vietnamese Dong
World Trade Organization
viii
CHAPTER I
INTRODUCTION
1.1. Problem Statement
Since the late 1980s, on the basis
of
Doi Moi or the government's socio-economic
reforms which started in 1986, Vietnam has initially transited from a centrally planned to
a market- oriented economy. Typically
for
this process, Vietnam has advocated economic
integration, in addition to its
five
"tions": urbanization, globalization, industrialization,
modernization and privatization to spearhead this process. Beginning with the

is
an indispensable capital source
to
developing
countries including Vietnam, especially Asia's Newly Industrializing Countries (NICs).
Through FDI flows, these countries can cover the saving-investment, foreign exchange
and fiscal gaps and hence promote socio-economic growth, Taylor (1993).
It
may seem natural to argue that FDI can convey great advantages to host countries.
That
is
why policymakers
of
developing countries including Vietnam always pay much
attention to effects from FDI flows to country's economic growth. However this study
does not focus on FDI
by
examining the effects
of
foreign direct investment on
Vietnam's socio-economic growth in a general respect, this research wants
to
test the
impact
of
FDI on the labor productivity at firm level in Vietnam as a whole and to
1
identify main significant determinants
of
the FDI impacts to examine whether they vary

1.2. Research objectives
The general objective
of
the research will investigate whether FDI increases the overall
labor productivity
in
Vietnam, as measured
by
term
of
value added per labor, focusing
on
enterprises
of
four sub-industries; food processing, hotels and restaurants, textile,
garment and footwear and electronics and mechanics including domestic and FDI firms
located over the country.
To meet this overall objective, the research will also target two specific objectives,
to
evaluate whether:
(i)
The impact
of
FDI has enhanced on labor productivity in Vietnam more than
domestically-owned firms including state owned firms and non-state owned
firms?
(ii) Make recommendations to policy-makers in Vietnam
as
to how to best channel
FDI

expected
to
confirm the sign
and statistical significance
of
following results:
1)
The determinants on the labor productivity in Vietnam has significantly positive
relation and depend on the terms
of
industry's capital intensity, proportion
of
labor skills and frrm's scale
of
material input purchases.
2)
The impact
of
FDI on the labor productivity significantly enhances
on
labor
productivity in Vietnam but differs significantly across regions and among four
sub-industries in the research.
3)
The determinants on the labor productivity m Vietnam vanes based on the
ownership structure
of
firms and amongst, FDI firms make the most productive
in
increasing labor productivity compared with

discussed mainly in chapter 3 which introduces a general view about FDI
characteristics, roles and inflows in national economy, FDI enterprises' activity as well
as
socio-economic effectiveness
of
these enterprises
in
Vietnam. Following, chapter
4:
Research methodology concentrates on model specification and the justification
of
variable selection
as
well as dig deeply econometric problems. The practical results
of
FDI impact on labor productivity at firm level in Vietnam are analyzed and presented
in
chapter
5:
Result analysis. Finally, chapter
6:
Conclusions
and
recommendations,
3
provides the summary
of
main fmdings and drawings on the past analysis to suggest
implications for policy.
4

of
FDI impact on labor productivity at firm level
is
generally figured out on the basis
of
economic theories and empirical studies.
2.2. Concepts and definitions
2.2.1. Foreign Direct Investment (FDI):
There are several ways to define FDI such
as
International Monetary Fund's FDI
definition or United Nations' FDI defmition. However one
of
the clear and popular
definitions comes from
Organization
for
Economic Co-operation and Development
(OECD). According to OECD (1996),
FDI
is
defined
as
follows:
"Foreign direct investment reflects
the
objective
of
obtaining a lasting interest by a
resident entity

subsequent capital transactions between them
and
among affiliated enterprises, both
incorporated and
unincorporated."
The OECD (1996) also recommends in its Benchmark definition that for the existence
of
a direct investment relationship the "full consolidated system" should
be
followed. In
other words, it means that when there
is
a cascade
of
participations, the percentage
of
the
parent company in any affiliated companies should be calculated assuming the
100%
of
the subsidiaries and the corresponding percentage
of
the associates. However, this
criterion does not correspond with the consolidation concept in the accounting statement.
Besides
OECD's FDI definition, Vietnam's GSO (2007) also explained Foreign Direct
Investment
as the bringing
of
capital into Vietnam

a useful measure because
it relates to the most important factor
of
production labor and
it
is
relatively easy to
measure, Ngoc (2008). In addition, Circular No. 06/2001/TT-BLDTBXH states that the
labor productivity to
be
determined by enterprises must
be
equal to the number
of
wage
unit prices they formulate for expertise in January 29,
2001
in guiding the calculation
of
the average labor productivity growth rate and the average wage increase rate in State
owned enterprises.
Although labor productivity can
be
measured
in
physical terms or
in
price terms
for
a

the public sector or
in
NGOs. Therefore, measured labor productivity can depend on many ways; the purpose
of
measurement or the availability
of
data about factors affecting performance.
In a survey
of
manufacturing growth and performance in Britain and other countries
of
IRS (2003), it was found that the factors affecting labor productivity or the performance
of
individual work roles are ofbroadly the same type
as
those that affect the performance
of
manufacturing firms
as
a whole. They include: (1) physical-organic, location, and
technological factors; (2) cultural belief-value and individual attitudinal, motivational and
behavioral factors; (3) international influences - for instance, levels
of
innovativeness
and efficiency on the part
of
the owners and managers
of
inward FDI companies; (4)
managerial-organizational and wider economic and political-legal environments; (5)

as
the public became more concerned with the importance
of
natural
resources (for example, the need to restore land to its original condition after strip mining
for
coal as well as cleaner air and water).
In this thesis, value added per labor
is
the term which
is
used to measure labor
productivity. Depending on each field
of
four sub-industries; Food processing, hotels and
restaurants, electronics and mechanics or textile, garment and footwear respectively,
GSO
(2007) set
up
suitable methods to calculate labor productivity that will
be
explained
in
details
in
later chapter: Research methodology.
7
2.3. Economic theories
2.3.1. Production theories
2.3.1.1.

aggregate production functions
is
central on much
of
today's work on growth,
technological change, productivity,
mid
labor. Empirical estimates
of
aggregate
production functions are a tool
of
analysis essential in macroeconomics and
microeconomics
as
well
as
important theoretical constructs, such as potential output,
technical change, or the demand for labor. The production function has the form as
follows:
(1)
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

Pindyck and Rubinfeld production theory
Pindyck and Rubinfeld (1997) stated that the relationship between the inputs to the
production process and the resulting output is described by a production function
indicating the output Q that a
firm produces for every specified combination
of
inputs.
They assumed that a production function consists
of
two inputs, labor
Land
capital K and
it can be described as
Q=F(K,L)
(2)
This equation that applies to a given technology relates the quantity
of
output to the
quantities
of
the two inputs capital K and labor L. For instance, the production function
might describe the crop that a farmer can obtain with a specific amount
of
machinery and
workers. Because production function describes the maximum output feasible for a given
set
of
inputs in a technically efficient manner, it allows for inputs to be combined in
varying proportions to produce maximum output in many ways through labor-intensive
or

well as decreasing returns at high output levels might be real.
2.3.2. Theoretical background
of
FDI impacts
9
2.3.2.1.
Channel effects
of
foreign direct investment
In general perspective, FDI may effect
on
host countries in a number ways. According to
Vahter
(2004), the important channel effects
of
FDI
on
growth happen via technology
transfer and spillover effects. Foreign direct investment is considered a prominent force
of
growth for most
of
developing economies. Because it brings new capital, technology
and know-how from parent firms to
host
firms. However, Blomstrom and Kokko (1998)
who explain that the spillovers from FDI to host countries may occur through three
channels: knowledge shifts with skilled labor, technology transfer, and effective resource
allocation due to competition.
Javorcik and Arnold

companies that are not able to catch up with the higher performance
of
other companies
within the sector may be crowded out
of
the market.
In
general, these effects are referred
to as
horizontal spillovers.
However, companies from sectors other than that
of
the foreign enterprise might be
affected by its presence as well
if
they are in direct business contact with
it.
This includes
companies that supply
or
provide services for foreign frrms, as well as companies that are
supplied by foreign frrms.
It
is
likely that foreign companies require higher standards
from their suppliers. In other words, it is also likely that higher standards are provided by
foreign companies to domestic companies as well, which might improve the domestic
10
companies' efficiency and performance. And these effects are referred to as vertical
spillovers.

study
overall effects
ofFDI
in his study.
In recent research about
The
Impact
of
Foreign Direct Investment on the Economic
Growth in Vietnam,
Anh et
al.
(2006), they stated that there
is
still one more concern with
the presence
of
FDI that has indirect effects on local labor productivity in Vietnam. FDI
may exert the competition pressure on domestic firms
so
that the later have to improve
business efficiency or they may promote the diffusion and transfer
of
technology

etc.
that are also called the
"spillover effects"
of
FDI. They also suggested that the

Where Y measures the productivity
of
domestic industries, FS measures the intensities
of
foreign presence in the industries, and X denotes the other factors that would have
significant impact
on
the productivity
of
domestic industries.
However when examining the effects
of
FDI
on
productivity, Blomstrom and Sjoholm
(1999) proposed a production function in which labor productivity
of
firm i in the
jth
industry is dependent
on
capital intensity, size
of
capital, skilled labor, scale
of
FDI
projects. And
if
Y stands for values added, K is (physical) capital assets; L and FDI
respectively denote labor and contribution by foreign partner in total capital assets

FDI
on
labor productivity
on
domestic firms where firm-level
performance is regressed based
on
a foreign-presence variable and a series
of
independent variables measuring the characteristics
of
firms. One
of
popular and general
models for this type
of
researches is normally suggested as follows:
LP= F(KL,FS,LQ,CU ,SIZE,OV)
(5)
Where
LP
is used measures firm performance, usually representing local labor
productivity; KL
is
the capital-labor ratio which measures capital intensity per labor in
firms;
FS
is a variable representing foreign presence, defmed as the ratio
of
foreign

Based on the above economic theories and the theoretical background from empirical
analyses, the suggested research model can be described in a function with dependent and
independent variables
as
follows:
Labproductivity;=f(Cap _intensity;,
MI_
scale;, Skill;, Dlocation, Fshare;, Dindustry;
)(
6)
Where: i denotes firm i and
• Lab productivity, the dependent variable measures labor productivity
of
the firms
in terms
of
values added per labor.
• Cap _intensity measures the capital intensity per labor
of
the firms.
• MI_scale denotes the size
of
material input purchases per labor
in
four sub-
industries including food processing, hotels and restaurants, electronics and
mechanics, textile, garment and footwear.
• Skill reflects the quality
of
labor in the firms as

• The last remaining dummy variable Dindustry captures the effect
of
each sub-
industry
of
food processing, hotels and restaurants, electronics and mechanics,
13
textile, garment and footwear on the overall productivity level
of
firm sector
in
cross sectional data.
2.4. Empirical studies
There are a great number
of
empirical studies estimating the impact
of
FDI on labor
productivity in many countries around the world. However the researches can be
separated into two groups; one which concludes that FDI enhances and improves the
productivity
of
domestic firms while the other argues that the impact
of
FDI is mixed,
unclear or even negative.
2.4.1. FDI impacts enhance labor productivity
in
host countries
According to Liu et

using various
econometric estimation techniques for panel data in Chinese electric industry t o get
appropriate statistical model.
In the current research
of
Ludo et al.(2008) about the impact
of
FDI on local labor
productivity in Cambodia's manufacturing sector where their analysis
ofFDI
impact was
examined on the basis
of
a number
of
control variables including capital intensity,
material and labor inputs, labor equality, size
of
establishment, and payments for
royalties, copyrights and patents. In addition, two proxies
for
the presence
of
foreign
owned enterprises were also used in their study because
it
was expected that such
presence could
be
reflected in terms

al.
(2006) undertook the tests on the
determinants
of
productivity in enterprises in three groups
of
industries: food processing,
textiles and garment, mechanics-electronics in Vietnam roughly
12
thousand enterprises
used in estimation that
is
in logarithm· form. The results show that capital intensity,
skilled labors, size
of
firms positively affects labor productivity
of
the firms including
domestic and FDI firms. However the results did not indicate the impact
of
FDI that
differs significantly based on forms
of
FDI as well as varies across the provinces around
the countries. Moreover the test did not show the spillovers
of
FDI to labor productivity.
Making the same findings as authors mentioned above, Vani
(2000) undertook the
research on the impact and incidence

significant and positive in catching up states.
However the labor productivity
is
growing only at the expense
of
employment. This tends
to ponder that liberalization will make rich states richer with the poor states lagging
behind or there can be convergence across states through the presence ofFDI.
15
2.4.2. The opposite results
of
FDI impacts on labor productivity
While the above studies conclude that the impact
of
FDI on the labor productivity
is
clear
and positive however,
in
the research about the effects
of
FDI on labor productivity
in
Estonia and Slovenia, Vahter (2004) found out the results
ofthe
negative impacts
ofFDI
in Estonia and positive impacts in Slovenia. Besides that
he
also suggested that different

firms are active
in
the same market.
As
a
result, the productivity
of
domestic firms may fall as they are moving towards lower
output levels along their average cost curves.
In addition, the ideas that FDI has positive impact on the productivity
in
manufacturing
whereas its effects on growth
of
agriculture and mining sectors are negative through the
conclusion
of
Alfaro (2003)
who
applied linear regression method to study the
relationship between FDI and labor productivity in various industries, based on the panel
data
of
47 countries from 1980
to
1999.
When examining the impact
of
FDI flows on economic growth and labor productivity in
Chile, one