(Part 3)
Both the Philippines and Vietnam will become upper middle-income countries in the next two years. The $64 question is which of the two will fall into the so-called middle-income trap.
In development literature, the “middle-income trap” is a term employed to describe a situation in which a country that has achieved a certain level of income (say upper-middle which today is roughly close to $5,000 per capita) fails to progress to high-income (about $16,000 per capita) and remains stuck at that level for a prolonged period. This phenomenon happens when a country grows rapidly after escaping poverty, but growth decelerates before it can become a high-income economy. The economy loses competitive advantage in labor-intensive industries, but fails to develop innovation, achieve productivity increase, and the value-added sectors that are predominant in high-income economies.
Leading causes for economies to fall into this trap are loss of cost advantage, weak innovation, poor institutions, inequality and social exclusion, and underdeveloped capital markets.
The loss of cost advantage in most cases is the steep rise in wages, making labor-intensive exports less competitive. This problem is usually aggravated by a misplaced population control program that leads very early to the ageing of the population before the country becomes rich. The example usually cited is Thailand, the first country to grow old before becoming rich. To a certain extent China is also already suffering from this syndrome as its population ages rapidly because of the one-child program that it implemented strictly (and sometimes brutally) in the last century. China’s leaders today are frantically trying to increase the birth rate but to no avail.
Malaysia is an example of a possible candidate for falling into the middle-income trap because of a slow shift to high tech and innovation, despite having a strong manufacturing base. Then there is Brazil, a typical South American economy that reached upper middle-income status decades ago but got stuck there because of great disparity in income, weak infrastructure, and overdependence on commodity exports. South Africa is a good example of an economy that got stuck at the middle-income level because of racial discrimination, poor quality of education, and inadequate infrastructure. Mexico suffers from low productivity, weak rule of law, and an over-reliance on the US market.
In contrast, countries that escaped the “middle-income trap” during our generation are South Korea, Taiwan, Singapore, and Ireland. South Korea reached high-income status by investing heavily in quality education, the upgrading of export, and R&D in technology. Taiwan became high-income through technological innovation and a strong industrial policy. Singapore excelled in good governance, converted itself into a financial hub, and focused on human resource development. Ireland integrated itself into the European Union, attracted large volumes of FDIs, and developed a pool of highly skilled technical and knowledge-based workers.
Whether or not Vietnam could fall into the middle-income trap has recently been raised with the publication of an article in the Financial Times (June 13) entitled “Does Vietnam have an Economic Plan B?” It may follow in the footsteps of Mexico that became overly dependent on the US market. As the FT article observes, “Vietnam’s recent economic success — with GDP growth at 7% in 2024 — has been driven primarily by exports to the US and surging investments from companies fleeing China…. As a result, the south-east Asian country is one of the world’s most trade-dependent countries, with the US accounting for nearly a third of its total exports… Now it’s ‘China plus one’ success has backfired as the US president takes issue with trading partners who have large surpluses with the US. Vietnam has the third largest, after China and Mexico.”
There are now calls for Vietnam not only to diversify its trade partnerships, but also to build its domestic market as an engine of growth (like the Philippines has done) and to make it more resilient to external shocks.
In this regard, the Philippines appears to have an advantage during times of global crises, such as those that occurred during the East Asian financial crisis in 1997 to 2000, the Great Recession from 2008 to 2012, and the COVID-19 pandemic. The stronger reliance that the Philippine economy has on its domestic market and its very low export to GDP ratio of less than 30% (compared to close to 100% of Vietnam) shields it from slowdowns in the global economy (which we shall surely experience during this current year).
It is clear that US President Donald Trump’s actions have served as a wake-up call for how vulnerable Vietnam is to external shocks. There is a great possibility that the export-led growth model will soon run its course and throw a monkey wrench in Vietnam’s plan to become a developed country 20 years from today. Already, the World Bank downgraded its growth forecast for Vietnam this year, from 6.8% to 5.8%.
Meanwhile, there is a high probability that the Philippines will grow faster in GDP in the next two to three years.
Even if the Trump Government imposes a similar 20% tariff on exports of both economies, the adverse effect on the Philippines will be less because of our very low export to GDP ratio. It is also providential that some 20% of our GDP comes from exports of services, not goods. The foreign remittances from our OFWs and the earnings of our BPO-IT sector total close to $80 billion which are equivalent to the total agribusiness exports of Vietnam.
It is too late for the Philippines to replicate the success story of Vietnam in the export of manufactured goods. We missed the boat when, early in our development efforts, we followed the inward-looking, protectionist, and import-substitution route to industrialization. If at all, we can still have a strong manufacturing sector based on our huge domestic market. We can still build a significant industrial sector based on steel manufacturing, cement and other construction materials, food manufacturing, chemicals, and even ship building.
We should have no illusions, however, that we can still be a major exporter of manufactured goods. Our competitive advantage will be in the service sector, such as the export of manpower (especially in health, hospitality, and construction workers to the Middle East). As we continue to improve our infrastructure, we can build a strong tourism sector which is labor-intensive. Our greatest lesson from Vietnam, as described in the first two articles of this series, is in agribusiness.
The question of which of the two countries will fall into the middle-income trap will be decided by demographics. Will Vietnam grow old before becoming rich as in the case of Thailand? As the FT article reports, there are ongoing reforms in Vietnam that are meant to address demographic issues as the country’s working age is projected to shrink. In fact, the Government recently lifted its long-standing two-child policy. This move, however, is futile as has been the experiences of all East Asian countries that have tried to reverse their decline in fertility rate, starting with Singapore in the last century and the extreme cases of Japan, South Korea, Taiwan, and even China.
A quick comparison of the demographic profiles of the Philippines and Vietnam shows that the Philippines is in a better position to avoid rapid population decline. As of 2025, the total population of the Philippines is 118.4 million while that that of Vietnam is 100.2 million. The median ages are 25.7 and 33.5 of the Philippines and Vietnam, respectively. The Philippine population is still growing at 1.3% annually compared to 0.8% of Vietnam. Some international data still show the Philippine fertility rate at 2.5 children per fertile woman and that of Vietnam at 1.9 in 2025. The Philippine Statistics Authority, however, reports the fertility rate of the Philippines as equal to that of Vietnam at 1.9.
Given the predominantly Christian culture of the Philippines and its constitutional ban against abortion, it is highly likely that the Philippines will continue to enjoy a demographic dividend for many more decades to come. As long as the Philippines can succeed in following the footsteps of Vietnam in attaining higher agricultural growth, the Philippines has a greater chance of avoiding the middle-income trap and reaching high-income status by 2045.
(Read parts 1 and 2 of this series at https://tinyurl.com/2xwz9pjw and https://tinyurl.com/25yzzdfy.)
Bernardo M. Villegas has a Ph.D. in Economics from Harvard, is professor emeritus at the University of Asia and the Pacific, and a visiting professor at the IESE Business School in Barcelona, Spain. He was a member of the 1986 Constitutional Commission.
bernardo.villegas@uap.asia
