Vietnam: Infrastructure Criteria For Sustainable Infrastructure Development And Rapid Growth – How The CPTPP And EVFTA Can Contribute14/08/2019
According to the World Bank, Vietnam has one of the fastest growing economies in the world—7.1% GDP growth in 2018, and 6.7% at the mid-point of 2019. To put that in perspective, Vietnam's GDP is growing at almost twice the rate of the USA. As a developing market, that growth cannot be maintained without sustainable infrastructure. To meet that demand, Vietnam needs to increase its energy capacity alone by 6,000-7,000 MW annually and spend close to US $148 billion on it by 2030. Overall, it is projected that Vietnam will require US $605 billion in infrastructure spending by 2040. The Vietnamese government has expressed that foreign-direct investment (FDI) is the key to meeting this demand as it lacks the fiscal capacity to meet financing requirements for large infrastructure projects on its own. Demand for transportation assets will be high due to a rapidly growing middle class, increasing urbanization, and increased international trade. Rail, road, and seaports will be critical to that sustainment. The recent trade agreements of CPTPP (Comprehensive and Progressive Trans Pacific Partnership) and EVFTA/IPA (European-Union Vietnam Free Trade Agreement / Investment Protection Agreement) are two new vehicles that will help Vietnam achieve a sustainable infrastructure.
CPTPP and EVFTA/IPA Direct, and Indirect, Effects on Infrastructure
CPTPP officially came into force on 30 December 2018 between Vietnam (January 2019) and Australia, Canada, Japan, Mexico, Singapore, and New Zealand when those seven countries ratified the agreement. The most significant impact CPTPP (and EVFTA) has on Vietnam is the elimination of most tariffs on goods, national treatment of goods and services, and relaxed requirements of cross-border trade of services. Before CPTPP came into force, Japan entered into a Public-Private-Partnership (PPP) agreement with Vietnam to help build a light-rail and subway system in Ho Chi Minh City at an estimated US $740 million in 2007 dollars. That project has had its fiscal problems since beginning in 2012; most notably the delay from opening in 2017 to now possibly 2020 (still not determined). The regulatory environment when originally entered into was not the most efficient as the legal system mired-down the contractor in procedural issues and payments to them fell dramatically behind. If that PPP agreement had been negotiated under the CPTPP, costs would have been significantly less as tariffs on materials would have been eliminated or reduced, cross-border engineering services would have national treatment, and the [PPP] and investment protection chapters would have streamlined the project to make it more fiscally manageable. It is likely Ho Chi Minh City would have its first light-rail commuter line operational today if that project had been governed under CPTPP.
Indirectly, Vietnam's seaport infrastructure is benefitting from both CPTPP and the recently in-force EVFTA/IPA. While not a party to either of those agreements, South Korea [Korea] does have its own free trade agreement with Vietnam. Knowing that the enormous markets of both Oceania (not including USA) and Europe are now—in essence—dramatically opened for Vietnam, Korea is looking to invest heavily into the port system of Haiphong—Lach Huyen in northern Vietnam. By having Lach Huyen as a deep sea port, it will enable direct exports from northern Vietnam to [Canada] and European markets without transit through ports in Singapore and Hong Kong–significantly reducing costs associated with that. Japan initially entered into a PPP with Vietnam for the port in 2013, but since CPTPP coming into force, the project is receiving significant investment from other countries, with Korea eyeing-it extensively to support their economic triangle of Hanoi – Haiphong – Quang Ninh.
How, Specifically, CPTPP and EVFTA/IPA Can Enable Further Infrastructure Development
Since Vietnam's entry into the WTO in 2007, they have been struggling with practically adapting to the regulatory compliance issues that entailed. More and more, however, Vietnam has been operating in that new global paradigm and they are reaping the benefits. With their emergence as one of the most dominating economic forces in ASEAN comes critical infrastructure needs to support it. The one condition that must be met is the life-cycle sustainability of the project. That includes from the negotiation through development and operation until replacement. Major projects of this nature take time, skill, and experience; however, the regulatory environment supports and underpins the entire system. We have touched on how the recent agreements have had a broad effect (or could have had an effect) on foreign-direct investment into infrastructure, but how can specific provisions of the agreements immediately help attract FDI?
1. Investment Protection
The biggest hindrance to FDI in the past has been the level of investment protection and risk allocation. According to the CPTPP, investments are not only the traditional financial ones, but also an enterprise, intellectual property rights, and licences, authorisations, and permits, as well as other tangible or intangible, movable or immovable property, and related property rights, such as leases, mortgages, liens and pledges. This is a remarkable concession by Vietnam considering their land-use laws relating to real property. Under Article 9.4, foreign-investors are now treated on the same footing as domestic investors. In addition, CPTPP calls for application of international law standards which can provide a hesitant investor a degree of certainty that their investment is protected.
The EVFTA/IPA is very similar in construction to the CPTPP. Both sides have pledged national treatment and most favoured nation treatment to investors of the other side, as well as fair and satisfactory treatment, safe and full protection. Both sides will allow the free movement of capital and profit abroad, pledging not to expropriate or nationalize investors' assets without appropriate compensation. Furthermore, they pledge to compensate the losses of the other side's investors in the same way as domestic investors.
This is a dramatic shift for Vietnam and practical implementation of the recent agreements will take time and a learning-curve. However, once this major hurdle has been overcome and CPTPP and EVFTA/IPA become the new-norm, investors will be significantly more apt to engage in large, long term projects in Vietnam.
2. Tariff Elimination and Cross-Border Trade of Services
Right behind investment protection as a major incentive for investors is the dramatic elimination of tariffs and lessened restrictions on cross-border trade of services by and for Vietnam. The CPTPP's broad tariff cuts on roughly 90% of items upon entry into force, and nearly all others within 10 years, will have an immediate impact on the relative competition. US exporters will now be disadvantaged in Vietnam to competitors in Canada, Japan, Australia, and other CPTPP member countries. The lessening of restrictions for cross-border services also has an immediate impact with regards to infrastructure as now engineering and construction services no longer have to have to comply with the formerly cumbersome registration process, they can freely open branch offices, and they can enter into joint ventures with domestic entities (subject to certain ownership limits in specified industries).
The EVFTA/IPA mirrors the CPTPP in most respects, but now the entire economic engine of the EU has very limited barriers to entry into Vietnam. At entry into force, Vietnam commits to removing 48.5% of import tariffs on goods from the EU, or 64.5% of the EU's export turnover, and that figure will be increased to 91.8% seven years later. Outside of the tariff reductions and general lessening of restrictions on cross-border trade of services, probably one of the more significant aspects of EVFTA is the almost complete elimination of "local content" requirements for services. For EU member countries, now they no longer will have to show that a certain percentage of their business is owned, operated by, or utilizes Vietnamese nationals. This may appear a cursory issue, but it is one that has traditionally been an administrative roadblock to many EU investors in the past.
The EVFTA goes one-step further than CPTPP with regards to infrastructure in that it has specific chapters that address both "trade and sustainable development" and "...investment in renewable energy generation". In those chapters, the parties "affirm their commitment to pursue sustainable development, which consists of economic development, social development and environmental protection", as well as to promote, develop and increase the generation of energy from renewable and sustainable sources, particularly through facilitating trade and investment. This is a landmark agreement for Vietnam in that it is the first time they have—from an infrastructure perspective—committed to doing everything possible to eliminate barriers, both technical and non-technical, for sustainable development. Another hurdle has been overcome to attracting the EU's expertise and hardware in roads, rail, and renewable energy.
All of this provides a regulatory landscape for infrastructure investment to flourish at a greatly reduced cost and administrative burden to both the investor, and to Vietnam. The framework is in place, now Vietnam needs to tailor their laws and regulations to match and support both the CPTPP and EVFTA/IPA.
3. Dispute Resolution, PPP
An often overlooked but critical aspect from the investor's perspective has been the dispute resolution process before these trade agreements were in-force. Generally speaking, before CPTPP and EVFTA/IPA, most foreign investors only had the Vietnamese courts to address any dispute. This was a detriment to FDI as well as a significant additional expense.
Under the CPTPP, dispute settlement calls for both parties to resolve the matter between themselves first. If that fails, then the parties can choose alternative dispute resolution processes that are at a neutral venue with an impartial third panellist as chair; however, if the parties cannot decide on a neutral forum, the complaining Party may select the forum. Chapter 15 of the EVFTA provides the structure for dispute settlement and also calls for the parties to mutually reconcile before seeking any alternative dispute resolution mechanism. The procedures for an arbitration panel are essentially the same as the CPTPP except that under EVFTA, "If the Parties do not agree on the venue of the hearing, it shall be held in Brussels if the complaining Party is Viet Nam and in Ha Noi if the complaining Party is the Union". Chapter 3 of the EVIPA (dispute settlement) is a mirror of the EVFTA.
Why is this worth mentioning as one of the keys to successful infrastructure development? Most infrastructure projects are large-scale, cost-intensive, and long-term. Large, developed economies from the CPTPP and EU member nations have significant resources and experience that can benefit Vietnam in that respect; however, they want to protect their investment. The dispute settlement provisions of these new trade agreements are the vehicle that foreign investors have been waiting for—that added guarantee of prudent safety and protection for their millions upon millions of USD investment.
Most infrastructure investment has been through PPP agreements. PPP is the cornerstone for infrastructure development and has been utilized in the past in Vietnam with varying degrees of success. Those agreements were often legally cumbersome and were put together largely on faith that both the government and investor would live up to their end of the agreement. Unless otherwise specified in the contract (and sometimes even if it was) if a dispute arose the investor would have no recourse other than the Vietnamese courts. With the advent of CPTPP and EVFTA/IPA, now the regulatory environment has shifted towards favorable conditions for PPP to become a bedrock of Vietnam's development if they incorporate those dispute settlement provisions into their PPP laws. Vietnam has recently put forth a new draft law on PPP with input from the private sector, and it is on the legislative docket for 2020. We will have to wait and see what the final product becomes, but with international arbitration now the standard, investors are more likely to consider long-term projects.
Vietnam is on the cusp of something very special, on the verge of becoming a solidly middle-class nation and regional economic powerhouse for the next generation. They will need quality infrastructure to support that—in the neighborhood of US $605 billion by 2040. Vietnam has set itself up for success, broadly, by entering into two of the most aggressive trade agreements in recent times, the CPTPP and EVFTA/IPA. Many former hiccups to robust infrastructure development have been removed or addressed by those agreements, and Vietnam now needs to capitalize on that by tailoring their current regulations and laws to match. Regardless of the type of infrastructure (road, rail, seaport, energy, etc.), the criteria for investment remain the same—investment protection, risk allocation, elimination of technical and non-technical barriers to trade/investment, and a neutral dispute resolution process. The CPTPP and EVFTA/IPA address all those criteria, now Vietnam needs to embrace and internalize those agreements systemically to solidify the foundation propelling their explosive growth.