Citing the calculation of the group, the real forex rate between the dong and the greenback during the period of 2000-2003 declined but after that, it continuously increased (excepting a short-term fall in the first half of 2006) when the inflation started rising rapidly.

The real dong/US dollar exchange rate last September was 20% higher than that in January 2000 and 33% than in January 2004. The increasing tendency of the real dong/US dollar rate continued until the last three months of 2008 due to the appreciation of the US dollar against euro as well as most of the Asian currencies.

Between 2007 and 2008, Vietnam received a fairly large amount of foreign capital. Also, in order to reach a high growth rate, the government continuously boosted investment activities, leading to a widened budget deficit and trade gap.

Another reason for the ballooned trade deficit is that the dong became too strong than the currencies of the country's main commercial partners. When the dong is evaluated highly, the profit from export activities will decrease. Being an economy relying on exports, Vietnam could not keep the real dong/US dollar exchange rate high for a very long time especially in the context of the global economic crisis 2009, according to the analyst of Harvard University.

In addition, the research group assessed that currently Vietnam's trade gap is very high. The parallel between the increasing in governmental spending and stabilising of forex rate will widen the trade deficit while the government's stimulus package has not yet been promoted effectively. Moreover, domestic companies will have to suffer competition risks with cheap imported goods.

Based on above analysis, Harvard research group wrote that State Bank of Vietnam's December 25, 2008 decision of raising the interbank average forex rate by another 3% is in a right direction. Factually, the market also showed positive reactions. Right after that, Non-Deliverable Forward (NDF) of the dong decreased. However, immediately the market's forex rate reached the ceiling level, promising the following forex rate loosening phases in future.

The dong price reducing policy under control is very necessary, yet, the group outlined related risks that Vietnamese government needs to be cautious about.

The first risk is that many Vietnamese companies borrowed US dollar loans from domestic and foreign banks. If the primary earnings of the businesses are in the dong while they have to pay debts in US dollar, the movement in the US dollar/dong exchange rate will affect their financial situation strongly. When the US dollar/dong rate increases, their profits will decline even some of them cannot pay debts. Then, banks will have to suffer new bad debts. Therefore, Vietnamese government has proposed to step by step adjust the exchange rate and SBV needs to release clear messages for US dollar loan borrowers to have time to adjust financial balance.

Secondly, depreciation of the dong against US dollar will increase spending on imports. Meanwhile, if the local producers can supply goods to replace imported commodities at a cheaper price, both consumers and enterprises will shift to purchase domestically produced goods. However, many kinds of goods cannot be produced domestically, so as a result, the economy will "import" inflation from outside when the dong depreciates increasing the rate of inflation in the country.

Thirdly, the US dollar/dong exchange rate can increase rapidly if both domestic and foreign investors lose faith in the money supply management ability of the monetary policy administration agencies. Enterprises and people will then prefer to purchase foreign currencies or gold when the dong devalues. In order to ensure their assets, people will pay a higher price to keep US dollar, then no US dollar interest rate high enough can call them to return to the domestic currency.

With this, the government cannot cut interest rates and reduce the dong price against US dollar. The dong depositors need to enjoy a higher interest rate to compensate for the depreciation of the dong. Otherwise, the annual depreciation rate of the dong compared with US dollar must show the difference between US dollar and the dong deposit rates.

Thoi Bao Kinh Te Vietnam - February 16, 2009