Reflections on Ho Chi Minh City – Part II

Yesterday, I mentioned that a Vietnamese businessman claimed “Phnom Penh was like Ho Chi Minh City twenty to thirty years ago.” If I take the liberty to rephrase the sentence, then in twenty years, Phnom Penh should be at least as prosperous as Vietnam today. With reference to my previous post, there will likely be visible signs of increased purchasing power, enhanced standard of living and better governance.

However, these assumptions have been severely challenged by the global economic crisis. While Cambodia enjoyed double-digit growth since 2004, thanks to growth in the garment, construction and tourism sectors, forecasts for 2009 and 2010 appear rather pessimistic. The slump of global demand and investment confidence serve as a reality check for Cambodia, shedding light on some long-sidelined issues: over-reliance on few economic sectors, a single export market and foreign direct investment.

Take the garment sector as an example. Although the sector has grown at an annual rate of above 10% and now contributes to 16% of the country’s GDP, Cambodia’s garment factories are more vulnerable and less competitive than their Vietnamese counterparts. More specifically, close to 70% of garment exports go to the U.S. alone; North America (including Canada) and Europe together receive around 90% of all garment exports. This lack of market diversification closely attaches Cambodia’s garment sector growth to the economic conditions of the U.S. In light of the economic slump since 2008, as American consumers tighten their consumption demand, export figures also plummeted. In fact, in early August this year, the Ministry of Commerce brought down their forecast in the decline of garment export orders to 30% instead of 10% as suggested in January.

To add to the slowdown of American and European economies, Cambodian factories tend to focus on a small number of low value-added product lines, such as $10 jeans for GAP, Wal-mart and Target. According to a recent country competitiveness study from UNDP, out of Cambodia’s top five garment exports to the U.S., four are associated with decline in unit price, despite increase in market share. Further, Cambodian factories have become more specialized in a narrow array of products, as the top ten apparel exports have increased its export share from 83% to 88.8% from 2000 to 2004. This trend contrasted with the Vietnamese garment industry, where exports have become remarkably more diverse during the same period. This comparison indicates that Cambodia has only learned to undercut rivals by dishing out more low-valued products at an even lower cost. The sector has neither upgraded in its skill level nor moved to higher-priced, higher-end products. Coming on the heels of last year’s food and fuel price crisis, the economic crisis has further depressed the consumption demand of middle-and-low-income households in the U.S., the target buyers of Cambodian apparels. As a result, garment exports have inevitably declined drastically since mid-2008, stripping more than 51,000 people from their garment sector jobs.

In addition to the lack of market and product diversification, Cambodia’s garment sector is also vulnerable to economic shocks in Asia due to its dependence on foreign direct investment. In 2007, statistics from the Garment Manufacturers’ Association in Cambodia (GMAC) especially indicate that factories owned by Hong Kong, Taiwanese and Chinese investors account for 24.4%, 30.6% and 7.3% of total sector employment. Cambodian-owned factories only operated 8.6% of all garment firms and hired 3.4% of the total garment workforce. Unfortunately, in this economic crisis, Asian NIEs, consisting of Hong Kong, Taiwan, Korea and Singapore, have been more adversely affected than larger economies such as China and India. These small open economies are most exposed to volatile financial markets and most sensitive to plummeting demand. Falling orders from U.S. and European buyers and the credit crunch thus forced many investors to pull out capital from Cambodia, leading to more than 20 export factory closures this year. Most probably, many more subcontracting factories have also closed down. In sum, industry analysts estimate at least 70 closures since June 2008.

The combined slowdown of export demand and foreign direct investment will not only impact the garment sector alone but overall economic performance. At the present stage of development, Cambodia’s garment sector is the single most viable export sector in the country. In fact, in 2006, garment exports as percentage of total exports was 86.4%. The next biggest export categories, namely footwear and automobile parts, only accounted for 5.5% and 1.2% of total exports. To support this fast-growing sector, the country’s network of more than 200 factories forms the largest formal sector employer in the country. Currently, more than 300,000 low-skilled jobs have been created, mostly for young women from the provinces. Earning less than $100 each month, workers tend to send most of their wages back to the poor rural homes to support the livelihood of their extended family. The stagnation of the garment sector, therefore, would have grave implications for government receipts, export performance, household income and remittances. The economic crisis’ impact will likely trickle down to Cambodian society and pose indirect impacts on health, nutrition and education as well.

In order for Cambodia to achieve more sustainable growth, the country has to diversify. Instead of specializing in low value textile exports, the industry should move towards higher-end products for “five-star” customers. To reduce reliance on garment export receipts, the country should start developing other labour-intensive manufacturing sectors, such as toy-making and electronics. Some capital-intensive industries, such as automobile and motorcycle manufacturing, can also be considered, for Japanese and Korean companies have already demonstrated keen interest in developing a production network in ASEAN countries, such as Thailand and Vietnam. Such diversification will serve to spread risk and generate more profitable business opportunities for Cambodia.

Appropriate policy coordination from the government and the civil society would be crucial for these potential developments. For instance, movement to the electronics sector and high-end clothing would require more skilled workers. In effect, the government has to allocate more resources for vocational training programmes. At present, government ministries still lack the administrative and technical capacity to manage vocational training centres. Very often, the dearth of qualified trainers renders donor-supported facilities dysfunctional after the project period. Surely, these issues cut deep into existing problems with Cambodia’s education system, the quality of instruction and curriculum development.

Let me end this analysis with an anecdote. On my way to Ho Chi Minh City, I received an SMS message from a friend asking me to buy a haversack from the Ben Thanh Market. “My current [backpack] is spoilt,” she said. “Please get a nice brand but blue or black colour la… The quality [in Vietnam] is better than Cambodia.” Indeed, although shopping in Cambodia can be a bit cheaper, most people still perceive Cambodian brands as of lower quality. In fact, if the product (say, a shirt, a handbag or a DVD player) is a “brand-name” one, it must have some defects or be a fake. When will Cambodia rid this image and acquire the capacity to produce higher-end and more quality-assured products?

Resources:

World Bank East Asia & Pacific Update: Battling the Forces of Global Recession, April 2009

Trade Competitiveness Map

UNCOMTRADE

UNDP Cambodia Country Competitiveness Study, July 2009