Low rates amid boom foster price pressures; a cautionary tale?
BY JAMES HOOKWAY
Vietnam's worsening inflation is threatening to morph into a fullblown crisis and provides a warning to other Asian countries trying to tamp soaring prices.
So far, economists say there is limited scope for Vietnam's troubles to infect other Asian economies. But Vietnam presents a worstcase scenario of what could happen if the region's central banks don't act swiftly to curb rising prices at a time when their economies-unlike those of the U.S. and Western Europe-are still showing robust growth.
After a building boom amid low interest rates and an export boom because of a weak local currency pegged to the dollar, Vietnam has suddenly and sharply reversed course. The stock market's main index is down 55% this year, and the prices ofgoods are rising sharply. The government said this week inflation in May topped 25% on an annual basis.
Morgan Stanley, in a report Wednesday, warned that loose lending had created a banking crisis. It forecast that Vietnam's currency, the dong, could weaken dramatically against the dollar in the comingyear.
On Thursday, Fitch Ratings lowered its outlook for Vietnam's sovereign debt to "negative" from "stable" The country's policy response to rising inflation "has been both too slow and too small," the agency said.
Many Asian central banks have made controlling inflation their primary policy objective in recent years. But relatively few are genuinely independent, making them subject to political pressure to maintaro economic growth.
Some, such as India and China, have opted to mop up excess liquidity in their financial systems by imposing new reserve requirements on their banks rather than raising interest rates to levels that might do more to stanch inflation. Others are waiting to see whether larger harvests will ease food bills, which are 40% or more of the consumerprice index in countries such as Indonesia and the Philippines.
Vietnam's experience shows the danger of waiting too long before taking decisive action to head off inflation. "What's happening here in Vietnam is the Asia of 10, 20 years ago," said Spencer White, a strategist and member of the board at Than Viet Securities in Ho Chi Minh City. "There's not much financial integration with the other Asian markets at this point, but it could damage the broader appetite for frontier markets."
A year ago, Vietnam was the darling of global investors. Internationalbanks such as HSBC Holdings PCL bought into local banks. Property developers from South Korea and Taiwan began work on huge developments to build thousands of square meters of office space in Hanoi and Ho Chi Minh City.
The country's biggest state-run enterprises began diversifying, hoping to become powerful conglomerates to compete with the foreign firms arriving in Vietnam following its accession to the World Trade Organization. Some of Vietnam's senior leaders questioned Prime Minister Nguyen Tan Dung's determination to build up these new businesses, often with cheap loans from state-run banks. A former prime minister, Vo Van Kiet, wrote a public letter to Mr. Dung last year saying these were precisely the same mistakes South Korea, Malaysia and others made in the run-up to the Asian financial crisis.
When oil and food prices began to rise in late 2007, the State Bank of Vietnamwas slow to rein in inflationary pressure. Some government economists say the central bank didn't want to cut off the low-cost loans. "Much of the central-bank policy was driven by the government's agenda of promoting as much economic growth as possible while at the same time making sure that staterun enterprises would play a bit part in the economy in the years to come," a Vietnamese economist said.
People familiar with the situation say that earlier this year, as h讼her prices sparked protests and strikes, Mr. Dung instructed centralbank governor Nguyen Van Giau to act more aggressively to contain inflation.
The central bank widened the range in which the dong could trade against the dollar. The idea was to free the local currency from a sliding U.S. currency and to enable Vietnam to better absorb higher oil costs. Instead, the move triggered panic among a population that for years used the dollar as a convenient alternative to the unwieldy Vietnamese currency, whose largest bank note is the rarely seen 500,000 dong bill-worth about $30.
Some local banks refused to exchange dollars, and local stock prices collapsed as banks held on to their dong and refused to lend money to buy shares. Mr. Dung in March lowered Vietnam's growth target for 2008 to 7% from 8.5% to help focus the drive against inflation.
Since then, a global spike in food prices and a poor rice harvest have made things worse. The central bank expects Vietnam's current-account deficit-the difference between a country's import and export of goods and services-to hit 7.5% of gross domestic product this year, from 5% in 2007. The currentaccount deficit in Thailand was 6.5% of GDP when it was forced to devalue the baht in 1997, triggering the Asian financial crisis.
Ordinary Vietnamese, meanwhile, have been draining bank accounts and buying gold instead. Some also started hoarding dollars as a hedge against inflation.
Apartment prices in Ho Chi Minh Cityhave fallen by half so far this year, local media reports say.
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