Problems

According to Nguyen Dai Lai, Deputy Director of the Banking Development Strategy Department under the State Bank of Vietnam, the total money supply (M2), which includes total cash in circulation and bank deposits, increased by 92% from 2005-2007 (23.34% in 2005, 33.59% in 2006 and 35% in 2007). In this period, GDP increased by 24.84% (8% in 2005, 8.4% in 2006 and 8.44% in 2007).

Also according to Mr Lai, the M2 growth rate over the last thee years, which was 3.7 times higher than the GDP growth rate during the same period, proves to be too high if considering that the figure is 2.5 times that of other regional countries.

In principle, when the national economy grows, the M2 supply needs to commensurately increase. However, in Vietnam in 2007, the GDP growth rate was just 1/3 of the total money supply growth rate, and that was the main reason behind high inflation.

Banking experts say a main reason behind the sharp increase of money supply was that the State Bank of Vietnam pumped a lot of VND into circulation to buy dollars. In the first six months of the year, the central bank spent VND112tril to purchase $7bil.

After that, the central bank, fearing high inflation, decided to slow down their purchasing dollars from commercial banks, the result of which was superfluous dollars and a serious shortage of VND.

The oversupply of dollars has led to the devaluation of the currency. In the latest report about Vietnam’s financial market, released on January 8, HSBC forecast that the VND/US$ exchange rate would reduce by 1% in 2008 after it reduced by 0.3% in 2007.

Clearly, the devaluation of the greenback is something the State Bank of Vietnam does not want to see, because this does not encourage exports.

Solutions

Mr Lai has suggested a new solution, which he believes will help solve the current problems.

He said that the Government should allow big and prestigious corporations to issue bonds in foreign currencies to attract foreign currencies adrift in the market and consume the excessive foreign currencies at commercial banks (currently, only the Government has the right to issue bonds in foreign currencies).

If so, the central bank will be able to withdraw dollars from circulation, while not putting more VND into circulation, thus helping stabilize the VND/US$ exchange rate and increasing foreign currency reserves.

Commenting on the suggestion, Governor of the State Bank Nguyen Van Giau said that the solution had before been applied in China, but added that it will need more research before it is applied in Vietnam.

Prakriti Sofat, an HSBC expert on Asian economics, also said that if the solution can be implemented, this would be an effective tool for the central bank to manage the monetary policy.

Mrs Sofar, while agreeing that this could be a suitable solution, said that he sees problems with technical issues which decide how much foreign currency the central bank can attract.

For example, experts will have to discuss suitable interest rates for the bonds. If the central bank offers attractive interest rates, it will have to think about how to use foreign currencies most effectively.

Tai Hui, Head of the South East Asia Economies Analysis Division under Standard Chartered Bank, said the central bank needs a flexible management scheme that allows the central bank to pump dollars back into the market when necessary.

Meanwhile, Mrs. Sofat said the central bank needs to apply other measures concurrent with this to help control inflation. For example, it can require a higher compulsory ratio for bank deposits.

Source: DTCK