Cool heads needed as the heat goes on

The economy’s dollarisation also has the potential to upset the apple cart

Macro economic stability, economic expansion and tamed inflation are three targets that Vietnam’s monetary policy must pursue at the same time to meet the National Assembly’s socio-economic targets set for 2010.

This is a tough mission as those targets could drag each other down. Normally, monetary policies aimed at bolstering the gross domestic product (GDP) easily lead to hiked inflation and pressure macro stability.

The situation is worsened by the country’s widening trade deficit. Thus, monetary policy in the second half of 2010 must be executed actively, flexibly and cautiously to fine tune the execution of many different measures.

The State Bank’s first-half monetary manoeuvring focused on stabilising and bringing down bank interest rates to gear up the economy. At the same time, it controlled bank credit quality and growth in tandem with deposit growth, step-by-step narrowing the maturity mismatch resisting for a long time in the local banking system.

Maturity mismatch is situation where a bank has substantial long-term assets but short-term liabilities, such as deposits which can be measured by the duration gap. USD-denominated credit growth was thoroughly controlled with foreign capital inflow growth taken into account to ensure liquidity, catering for forex demand of imported essential commodities and easing forex rate pressure.

On the other hand, to stabilise the forex market, expand forex supplies for commercial banks and restrict enterprises’ USD hoarding, the State Bank used indirect monetary instruments to prompt enterprises to sell forex to banks.

Specifically, the central bank trimmed the compulsory USD reserve ratio and cut USD corporate deposit rates while raising the nominal exchange rate by 3.36 per cent. At the same time, it directed credit institutions to actively buy forex from some state-owned economic groups and corporations.

The State Bank also sold forex at reasonable prices to assist imports of essential commodities and materials for production. The regulator also shut down gold trading floors, making significant contributions to stabilising the forex market.

Vietnam’s GDP growth in the first half of the year was 6.1-6.2 per cent, higher than the figure recorded in the first quarter. The consumer price index (CPI) was reined in at a low level and has been stabilised since April.

Disbursed foreign direct investment rised by 10 per cent on-year. Monetary market movements have also been stabilised with proper capital flows, adequate bank liquidity, stable forex rates and banks having enough forex to cater for enterprises’ needs. Those are favourable conditions for the execution of monetary policies in the last six months of the year.

Though the January-June execution of monetary policies had positive results, in the second half of the year the policies must be cautiously and actively implemented as lots of challenges are ahead.

One of the challenges is the global financial market and the world economy are bouncing back, but the recovery is still fragile. Especially, there are lots of uncertainties around key currencies like the USD, euro and yuan. The rise or fall of these currencies will have impacts on the Vietnamese dong. Thus, the State Bank must keep a close watch on movements of those currencies to react timely.

Under Resolution 23/NQ-CP, the government ordered the central bank to bring down banks’ lending interest rates to fuel economic expansion. This is a suitable measure as many elements are calling for or supporting a lower level of interest rates.

The global economy has just ridden out a recession and there appear signs of recovery. Enterprises demand for borrowings with low interest rates for recovery and development. Inflation has been on a downward trend since April. The first-half credit growth was lower year-on-year.

Slightly hiked global market interest rates and USD interest rates did not trigger a hike in domestic interest rates. Government bond interest rates tended to slide down over the recent auctions. Besides, upon the government’s request, the central bank expanded the money supply to reduce the interest rate level.

However, the only difficulty in pursuit of a lower interest rate level rests with commercial banks as they have to grapple with market share competition, ensuring capital sources and structural weaknesses of the banking system.

Some banks with small capital scale and market shares often resorted to practices that restricted competition or sparked off unhealthy competition.

Dollarisation of the economy also challenges the execution of monetary policies. This challenge is mounting amid uncertainties in international and domestic markets. To limit negative impacts of this phenomenon on the execution of monetary policies over the rest of the year, the central bank must always harmonise the relations between USD and VND interest rates and exchange rates to prevent sudden shifts of money flows.

Inflation was on a downward trend in the last three months and the CPI in June rised 8.69 per cent on-year. This trend is a favour to the execution of monetary policies. But, reining in inflation at 7 per cent for the whole 2010 remains a challenge given our pursuit of cutting down interest rates to bolster economic expansion. Thus, monetary policies must ensure money supply and credit quality are controlled.

However, the central bank is confronting some difficulties in controlling the economy’s money supply as it has no awareness of the state budget’s inflows and outflows. Thus, there needs to be coordination between the central bank and the Ministry of Finance (MoF).

The MoF should assist the State Bank in budget collection-spending plans or allows the central bank to use state treasury at the central bank as an instrument to regulate money in circulation.

We can say that the execution of monetary policies to assist the National Assembly’s 2010 socio-economic targets is more favourable as compared with 2009.

In the first half of the year, monetary policies were supportive to the socio-economic targets and monetary market is stabilising. But, domestic and international market uncertainties and the dollarisation of the national economy remain challenges.