This has incited fears that, unless exporters and others could be persuaded to sell dollars at the official exchange rate, the SBV could be left as the only legal supplier of foreign exchange, and would have to be prepared to use the country’s international reserves to back what is perceived to be an over-valued official exchange rate.

This is unfortunate as moves in the past month to broaden the exchange rate band and allow for some official depreciation of the dong were welcome, and still greater flexibility is needed in the management of the exchange rate in order to give greater effectiveness to monetary policy, without excessive reliance on capital controls which, over time, can become porous. At the same time, a much-needed reining in of the SOEs seems to be occurring and must be continued. As much of the capital inflow is underpinned by foreign direct investments into the industrial and tourism sectors, a sudden reversal of inflows (a la Thai style) is unlikely in spite of the downturn in the world economy. However, the seeming inability of the authorities to put together a coherent package of monetary and exchange rate policy at present undermines investor confidence, and could impact negatively on Vietnam’s growth prospects. Furthermore, Vietnam’s future in expanding its industrial base and participating successfully in the production networks of East Asia depends crucially on its government’s ability to restore macroeconomic stability, and to convince domestic and foreign investors that it has the institutions capable of managing future financial turbulence.

In the medium term, a positive outcome of the present period of instability could be a significant deepening of reforms in key macroeconomic institutions such as the State Bank of Vietnam, in terms of increased independence and capability in managing monetary policy and in the regulatory oversight of the financial system. The ultimate aim should be to develop a public perception that these key government policy and regulatory institutions are run by people with professional integrity. Legislative independence of the central bank and significant increase in its professional capability would be a good start.