For Vietnam, and other East Asian economies, inflation is not a real issue in 2009. Instead, East Asian economies will have to pay more attention to the inflationary issue in 2010, and the governments of South Korea, China, and Indonesia will likely apply tightened monetary policies in the first or second quarter of 2010.

Vietnam shares similarities with these other East Asian countries; however, our macroeconomic situation in the past year was less stable than other East Asian economies. These past instabilities, relating to inflation, the financial system, the balance of payments, and the exchange rate, may place Vietnam in a more vulnerable position than other countries. So far, the inflation rate over the first seven months of 2009 has been rather low, at 3.2 to 3.3 per cent. However, the rate on a monthly basis is higher than that of the previous year. In addition, credit growth is also high, at 16 to 17 per cent during the first half of 2009. All these issues have raised fears over the possibility of inflation.

However, we should not overestimate this possibility. The Government wants to avoid economic recession on the one hand and avoid inflation on the other, so it will have to wield monetary policies flexibly.

Monetary policies can take anywhere from three months to two years to have their intended effect. In Vietnam, I think, it will be take around six months to one year. However, in the midst of this current economic downturn, businesses are struggling and people may be more cautious, so the effects could take longer to manifest.

With regard to the relationship between money supply and inflation, there are two points to emphasise. Firstly, such a huge increase to the money supply in the second quarter, which is meant specifically to boost production, may not have exactly the intended results. There is no doubt that the money will be fully disbursed, and it is likely that part of the money will be used for investment in sectors other than those that expressly create real goods and services. If production does not increase commensurate with the increase in the money supply, then we should expect inflation.

Secondly, in recent years urban dwellers have increased their income thanks to transactions in the real estate and stock markets. This is a self-perpetuating trend and will increase consumption demand. The discrepancy between the increased demand and the relatively unchanged supply will obviously result in inflation.

In light of the recent increase to the money supply, if the Government wants to keep the inflation rate at 7 to 8 per cent this year, the credit growth rate should be limited to 30 per cent. However, the credit growth rate during the first six months of 2009 was already 17 per cent. This partially explains why banks are offering higher deposit interest rates. Because interest rates are subsidized under the Government’s stimulus package, banks can raise interest rates to nearly the State Bank of Vietnam’s ceiling for interest rates while still remaining profitable. There is also pressure on the USD-VND exchange rate. If interest rates are too low, banks will be unable to mobilize capital. Furthermore, the expectation of high inflation will be a self-fulfilling prophecy, resulting in increased interest rates.

In other words, the interest rate adjustments are quite normal given the circumstances; it does not mean a liquidity crisis. Nonetheless, the Government must walk a narrow line, making sure to boost economic activity without aggravating the inflation rate. Additionally, policymakers should identify an exit strategy so that the Government can loosen its grip on the economy once recovery is more certain. This exit strategy might come in the form of adjustments to the exchange rate, the interest rate, the monetary supply, the speed of the stimulus packages’ disbursement, Government bonds, or the removal of the ceiling interest rate.

In terms of the exchange rate, there is clearly downward pressure on the Vietnam dong because the expectation of inflation in Vietnam is higher than in other countries. The trade deficit has decreased considerably since 2007, but it remains high; it will likely account for 6 to 7 per cent of the country’s GDP this year.

Meanwhile, capital inflows of foreign direct investment and remittances are not sufficient to cover this deficit. According to some international organizations, the balance of payments could drop by VND 1 to 2 billion. In addition, due to the initial economic recovery, production in the short term will increase.

Yet these do not fully explain the current shortage of US dollars that businesses are facing. Vietnam’s foreign currency reserve is USD20 billion, but in the world economy, the US dollar is depreciating.

Why then is there a shortage of US dollars? First of all, Vietnam’s foreign exchange market is fragmented, consisting of black markets as well as official markets. Businesses and individuals prefer to keep their own capital in US dollars, deforming the market and creating a dollar shortage. To combat this shortage, a number of measures should be adopted. First and foremost, market confidence must be regained. If not, the market will become even more fragmented, as people will hoard dollars.

Secondly, commitments regarding the exchange rate must be made before any adjustments are made. This will help businesses anticipate exchange rate fluctuations and better prepare their business plans, which are particularly important as Vietnamese businesses do not have the tools to manage risks caused by exchange rate fluctuation. Furthermore, exchange rate policies should be managed more flexibly, and the Government’s interventions should be imposed at the correct time. Finally, market discipline must be ensured.

Lastly, China’s stimulus package will have an effect on Vietnam’s economy. China’s government has unveiled its stimulus package decisively and resolutely. Its commitment to its policies has provided confidence throughout the whole market. Under China’s stimulus package, the beneficiaries are clearly identified, and supervision is quite strict. Moreover, there is close coordination between central and local authorities, and possible risks, such as corruption, are accounted for.

China also was in a better position to undertake its stimulus package. China has a huge population and, therefore, greater domestic demand. Although its exports have plummeted, domestic demand is strong enough to bolster a high growth rate. Moreover, the macroeconomy has been much more stable than Vietnam’s. Their budget prior to the stimulus packages was balanced, which has helped keep inflation and budget deficits in check.

China, which some economists say will surpass Japan this year as the largest economy in Asia and the 2nd largest in the world, is inextricable from the fate of SE Asia. Chinese imports are on the decline, but imports from ASEAN countries, mainly from Indonesia, Malaysia, Philippines, Singapore, and Thailand, are rising. Vietnam could take part in the profit, too. Demand for finished products in China is increasing creating good opportunities for the whole region; however, Vietnam will have to improve the quality of its finished goods. Its quality lags behind that of other regional countries like Thailand.

1. Indonesia’s inflation outlook
2. Vietnam and the recovery in Asia
3. Vietnam: a switch from growth to stability

There is still a great deal of uncertainty about how the world will come through the current financial and economic crisis. All countries formulated strategies to cushion the effects of the crisis and implemented national and cooperative measures to stabilize their financial systems. And we are grasping for a paradigm for the world economy that will sustain growth and development after the crisis.

The world economy has changed radically since the turn of the century. It was shaken by a series of major ‘virtual’ crises – the dot com crisis, the energy and food crises and non-traditional security issues like terrorism and SARS – that created an undercurrent of uncertainty, teetering on instability, before the present crisis hit . Economic and financial risks also increased due to global macro-imbalances, which are in turn associated with the process of deepening globalization and integration, and the emergence of a number of big new developing players such as China, India, and Brazil.

These developments in the global economy and financial markets have two main implications.

First, they have shaken faith in the old development paradigm. Re-thinking the development paradigm is now an urgent task. At a national, regional and global level there is need for a new consensus on where market failure, state failure, and the failures of international integration have got the world into its present mess.

There are in fact failures of all types responsible for the current situation and these is need for balance in laying the blame on the market, the state and international architecture. A new development paradigm must resolve not only traditional issues between the government, the market and individuals and the interaction between nominal economy and real economy. There must also be an overhaul of arrangements between national economies and polities, and regional and global institutions, to make them cover the gaps in national and international governance and to help existing arrangements work better.

Second, however elaborate the new development paradigm may eventually be, it cannot retreat from deepening economic integration at global and regional levels. What’s required goes well beyond traditional trade and investment liberalization. It involves reconsideration of how institutions at a national level, and the way in which they interact with national institutions through trade and capital markets and the flow of people and ideas across regions and across the globe. It needs to be made to function effectively without the risk of the system failure that we are currently experiencing. Comprehensive cooperation is essential to robust trade and investment openness.

The G20 has taken a step forward by incorporating the representatives of developed economies as well as of key developing economies in framing the beginnings of a new paradigm for development. It is moving to address the risk of global macroeconomic imbalance through the reform of global and regional institutions. There is a role for these new institutions and reform of the IMF and other global institutions. But they will need to be rooted in broader and more inclusive arrangements, and connected to existing structures like regional and global institutions that need to be engaged. The United Nations also needs to consolidate and enlarge its role.

These are long term tasks that won’t be solved in one or two ad hoc meetings, but are ongoing challenges that can only be met if a whole new infrastructure and set of capacities are developed to deal with the task.

1. Asian Development Bank and the invention of a new Asian growth paradigm
2. Reviving the world economy – G20 and beyond: the view from India
3. Vietnam – the next BRIC?

Economic reforms, international economic integration and Vietnam’s accession to the WTO by the end of 2006 all resulted in a boom of investment, trade and financial and banking activities in Vietnam.

Just one year later, the focus has moved from high expectations about Vietnam’s development to pessimistic assessments of Vietnam’s macroeconomic instability.

The period from March to July 2008, in particular, saw a worsening of the macroeconomic situation, the extent of which is a topic of much debate.

There are two main camps. The first believes that Vietnam was in currency or financial crisis, even before the globe went under. The symptoms included lack of liquidity in the banking system, a sharp depreciation of VND in the early part of May and June 2008, and expectations of further VND depreciation in face of high inflation and unstable balance of payments. Some even suggested that the crisis facing Vietnam is quite similar to the case of Thailand in the Asian crisis in 1997-98.

The second reckons that Vietnam is not yet in crisis, but nevertheless faces very serious macroeconomic problems.

All agree that Vietnam’s macroeconomic situation has deteriorated, largely due to high inflation, a fragile financial system, and an emerging balance of payments deficit, although there are different assessments of the risks magnitudes and problems.

Vietnam’s potential for medium and long term growth, despite ‘bottlenecks’ such as low institutional quality, poor infrastructure and weak human resources is real.

Stabilising Vietnam’s economy will be a difficult, multi-faceted task, and it’s hard the get the perfect policy strategy. In the short term, there is a trade-off between growth and stability targets, and macroeconomic policy aimed at stabilizing the economy is likely to have unwanted side-effects.

An important question is how can we minimize the social cost of stabilization, given a lower rate of economic growth? Getting the choice right, in terms of its scope, is critical. There also needs to be effective and timely policy implementation,. The processes of policy review and co-ordination across the policy agencies and institutions needs to be strengthened.

Since August 2008 the macroeconomy has revealed some positive signs (monthly inflation has tended to decline, the trade deficit has narrowed, the balance of payments has improved, and liquidity problem has been eased). However, macroeconomic instability is still rather severe with high yearly inflation, a huge trade deficit and low public confidence. The social issues (unemployment, business difficulty) and the NPLs of the banking system became more serious. Obviously, Vietnam needs to continue to fix the instability problems, while having more flexible macro policy responses. This is particularly the case as the global economy goes into recession and commodity price decline.

The positives of instability in Vietnam ought not be ignored. This is the opportunity to deepen reform of the State Bank of Vietnam, financial supervision and safeguards, and policy review institutions. Firms are gaining experience competing in an increasingly open market and now face the task of internal restructuring and long-term goal setting.

Vo Tri Thanh is speaking at the Vietnam Update at the Australian National University, 6-7 of November.

1. Vietnam sails through the crisis but needs reform to sustain the growth
2. Vietnam: dangers and opportunities
3. Vietnam: back from the brink?