structure embodies a policy bias in favor of domestic industries, particularly<sup>thosedominated</sup> by SOEs. Most low tariff rates are on items predominantly used<sup>bySOEsasinputs inthe</sup> production of intermediate goods or final goods for the domestic<sup>market.Also,although</sup> Vietnam has taken steps to meet its AFTA commitments on tariff reductions,<sup>ithas been able</sup> to differ their impacts by declaring goods that are already at zero or low<sup>ratesandimportantly</sup> to maintain a number of key products in the General Exception List (GEL)<sup>thereby excluding</sup> them from any tariff reduction schemes." Third, although in principle all firmns can buy foreign exchange from banks, in practice, only large firms, mostly<sup>SOEsareable tosecure</sup> foreign exchange from state-owned commercial banks (SOCBs).

**However, the policy bias in favor of domestic-market oriented industries**<sup>**andSOEin**</sup> **particular could have considerable welfare costs, in particular**<sup>**becauseof itsimpacton**</sup> **investment decisions.,** It leads to inefficient allocations of resources<sup>by all typesof investors</sup> (public, foreign invested and private) in all sectors of the economy by creating<sup>a biasin favor</sup> of the manufacturing sector (and a corresponding bias<sup>against agriculture)and,withinthe</sup> manufacturing sector, in favor of some industries like motor vehicles<sup>andmotorbikes,</sup> wearing apparels and plastic products (Table 3).12 A large share of public'<sup>3</sup> and foreign investments<sup>14</sup> are directed toward sectors with relatively high levels<sup>ofprotection.</sup> In addition, the policy emphasis to build up joint ventures between foreign<sup>investorsandstate</sup> firmns (instead of private firns) so that physical capital levels of output<sup>grow rapidly doesnot</sup> encourage the emergence of a market-oriented economy.

**Table 3: Effective Rates of Protection by Sectors, 2002**

||EffectiveRate|ofProtectdon(ERP)1/|
|---|---|---|
|Sector|1997|2002|
|agriculture|7.7|7.4|
|ining|6.1|16.4|
|Manufacturing|121.5|960|
|Average(Simple)|595|54.1|
|Me.no:|||
|radables|722|58.5|
|1/QR inclusiveestimates.<br>Sourc:Atbukorala(2002)|||

**"** Items in the GEL include among others alcoholic beverages, vehicles with<sup>fewer than15seats andmotorbikes</sup> with capacity less than 250cc and kits. Vietnam<sup>has yettoannounce -ascheduletoreduce tariffson products</sup> included in the GEL.

**12** The Effective Rate of Protection (ERP) (defined as the percentage change<sup>in producers'value-added,asa result</sup> of taxes on trade, over the level of value-added that would have<sup>prevailedintheabsenceofthosetaxes)is</sup> estimated at 7 percent for agriculture compared to 96 percent for manufacturing.<sup>It is particularly highfor motor</sup> vehicles and motorbikes (559 percent), sugar (366 percent),<sup>tea (241percent),wearingapparel(181percent)and</sup> plastic products (163 percent). However, the market<sup>issegmentedbetweendomestic-orientedproductionand</sup> export competing production. -ERPs for export-competing<sup>productionaredrasticallydifferent:motorvehiclesand</sup> motorbikes (-501 percent), sugar (-28 percent), wearing apparel<sup>(-31percent)andplasticproducts(-43percent)</sup> which helps explain booming exports in these sectors (For more<sup>details,see Athukorala,2002).</sup>

13 For example, under the Public Investment Program (2001-05),<sup>the publicsectorwillcontinuetoinvestin</sup> construction materials (11 percent of total investment in industry)<sup>andfoodprocessing(11percent)whichboth</sup> benefit from high levels of protection.

14 McCarty (1998) observes that among the five highest sectors fecipients<sup>of FDI(inthetraded-goodssector)</sup> cement, fuels, vehicles, electrical machinery, and beverages,<sup>allthesectorsexceptfuels areproducingimport-</sup> substituting goods (reported in Fukase and Martn, 1999,<sup>p.14).</sup> 6