The university's Vietnam centre for Economic and Policy Research released its annual economic report, titled "Economy at the Crossroads," on Tuesday.

Nguyen Duc Thanh, head of the research team, said this year's report looked at two scenarios for the economy.

If the government is consistent with its tightened policy stance throughout this year and public investment is slashed, inflation will stand at 15.5 percent at the end of the year. A lower inflation rate is also possible if prices of materials fall sharply in the final months. The economy, in this scenario, will expand by around 6.2 percent.

However, if the government decides to loosen its grip on the policies under pressure of business community a move already seen in the third quarter last year, inflation could hit a record high of 18.2 percent, Thanh said. In this case, even if growth is a little bit higher, at 6.5 percent, economic instability will lessen the value of that growth.

The government revised both its economic growth forecast and inflation target earlier this month. minister of Planning and Investment Vo Hong Phuc said on May 3 that gross domestic product may expand 6.5 percent this year, down from a December estimate of 7 to 7.5 percent. Inflation may be 11.75 percent by end of the year, far higher than the previously announced target of 7 percent.

Vietnam's economic growth, driven by strong exports and a buoyant domestic market, will reach 6.2 percent this year, the UN Economic and Social Commission said in a report on May 5. But it warned that high inflation would be a key challenge for Vietnam this year.

"Soaring inflation, combined with high interest rates, will unfavourably affect economic growth and the stability of financial, banking and asset markets," Thanh said.

For the long term, economists at the Vietnam centre for Economic and Policy Research have proposed a shift away from the state sector. It's necessary to stop thinking that state-owned enterprises will be pillars of the economy because it does not go along with the development of a market economy, they said.

As state companies still control a major portion of key production sectors, the government first needs to create new policies to support private companies and create a market for them to operate in, they said.

Speaking at the launch of the report, Le Xuan Nghia, deputy head of the National Financial Supervisory Committee, said interest rates are now at their peak.

The problem is while small companies find it hard to get loans, there is a risk of more capital flowing into the state sector, Nghia said. Some state companies use loans with a disregard for interest rates and they even get their payment deadlines extended, he noted.

Meanwhile, smaller firms are struggling with high borrowing costs. "A business owner told me that sacking workers and smuggling are his only options now," Nghia said.

Thanh Nien - May 24, 2011

The key to curbing inflation

In the backdrop of the current lingering high inflation, the Saigon Times hosts an e-mail roundtable meeting of young economists who discuss some possible measures to address the issue.

Some participants contend that the administrative measures affecting the foreign exchange will have short-term effects. Dr Pham The Anh from the National Economics University, remarks, "Simply put, it is the switch of speculations from the foreign exchange and gold markets to the domestic currency market as the dong interest rate proves very enticing. The switch is unfolding not only on the exchange and gold markets but also on the realty market."

Short- and long-term effects

Anh predicts that in the long run, if fundamental issues of Vietnam's economy such as the economic restructuring so as to be less dependant upon imported materials, higher value of exports, public spending cuts and money supply growth are not adequately addressed, the dong interest rate will go down and trade and budget deficits remain high, speculations will then switch sides again.

Dr Le Hong Giang from Tactical Global Management (Australia) agrees that administrative measures have achieved psychological effect and influenced the foreign exchange balance in the short term. They have therefore exerted positive effects on the foreign exchange rate. However, the fundamental factors which have weakened the dong are still out there: high inflation, widened trade deficit and slow capital inflow. Dr Giang says, "So, it's too early to conclude that the intervention is successful. The fever has been reduced but it can't be said that the patient has fully recovered."

However, from a different point of view, Dr Le Anh Tuan from Dragon Capital emphasizes short-term effects rather than long-term ones. He argues, "Without the measures, inflation would have been some 4-5 percent, not 3.3 percent as it was." Tuan contends that the high inflation may stem from the government's massive overdoses (raising fuel/power/coal prices) when tackling long-term issues, and thus causing short-term shocks.

Adopting the same view, Dr Nguyen Tu Anh from the Central Institute for Economic Management maintains that recent steps taken by the government are appropriate. "What has happened on the foreign exchange market shows that it has responded rather positively to the government policy. The high inflation may stem from the one-off policy measure." Anh says if inflation in May falls, that will be a good sign for the current policies. Otherwise, those policies would have failed to address market problems.


Dr Le Hong Giang says the greenback has drastically depreciated against other strong currencies. It has adversely affected the US dollar-dong demand-supply and the exchange rate. "If the greenback makes a U-turn to appreciate after the US quantitative easing ends in June as anticipated by many, the dong will be under the depreciation pressure once again." Giang therefore cautions that policymakers should pay heed to the real exchange rate between the dong and a basket of currencies of Vietnam's major trading partners, not to a single currency.

Sharing the same view, Dr Nguyen Quoc Hung from the Economic Development Institute (Japan) poses the question as to what will become of the inflow of remittances which amounted to over $8 billion in 2010 as the policies taken discourage people from retaining US dollars. Another possibility, Hung says, is this inflow will be swapped for dong to enjoy high interest rates in one or two quarters, or as well be decelerated for a while to await what will happen next to the exchange rate. Hung says during recent meetings, the US Federal Reserve has raised inflation expectations and may possibly put an end to the near-zero interest rate policy in the future. Possibly propelled by the economic pickup in Japan and Europe, the global capital cost will become more expensive in the future.

Dr Le Anh Tuan acknowledges that although the government has kept sending signals to the market that it will continue the tightened monetary policy to harness inflation, it should as well regulate market liquidity in a more flexible way. "Otherwise, the monetary policy will do 'more harm than good' to the economy as a whole." Tuan argues that it is necessary for the State Bank to pump dong to buy foreign currencies.

The role of the State Bank

Easing the worry that the State Bank of Vietnam's purchase of US dollars by selling dong to stabilise the exchange rate may build up inflationary pressure, Dr Pham The Anh contends that the central bank has adequate tools at its disposal to improve foreign reserves without mounting pressure on the dong supply and inflation. "The issue is whether it wants to use these tools or not." Anh says when buying foreign currencies, the State Bank of Vietnam can as well withdraw the dong stock through refinancing/rediscount channels and at the same time limit the money supply through these same windows. In particular, when commercial banks' liquidity in dong improves due to the State Bank's purchases of foreign currencies and sales of the domestic currency, a higher compulsory reserve ratio will be much more effective in drawing back the dong supply, he argues.

In 2007, after Vietnam's accession to the World Trade Organisation, foreign direct and portfolio investment flowed strongly into Vietnam. But the State Bank failed to use tools to neutralise the money supply, thus spurred a hyper-inflation rate of 28 percent in 2008.

Dr Le Hong Giang suggests other measures. For instance, he says, the State Bank can issue their own bonds, or force commercial banks to buy the bonds as they did in 2008, or pay interest rates high enough to persuade commercial banks to retain the bonds. "The interest rate pressure is actually not high as Vietnam's inflation is remarkable." He contends that the State Bank can as well raise the compulsory reserve ratio to withdraw the dong without paying interest. However, the banking industry will be vexed by such a policy which has been so far avoided by the State Bank.

To cut the story short, the current policies should embrace both short- and long-term factors. Dr Le Anh Tuan maintains that as the tactical measures tailored for both the foreign exchange and gold markets have proved to be effective, long-term elements must be now taken into account when there is no room for the monetary policy to address the inflationary problem. "The key to long-term solutions is nothing other than investment efficiency, and the fiscal policy must target this factor. This relates to the economic model and economic orientation pursued by the State," Tuan concludes.

The Saigon Times - May 24, 2011