Vietnam bets on huge devaluation to restore credibility
Leo Lewis, Times of London, 12 February 2011
Vietnam has moved to narrow a yawning 9 per cent gap between the official dollar-dong exchange rate and the black market rate set by the country's street currency converters and gold bullion shops. However, analysts fear that the country, intent on growth for growth's sake, has instead moved a step closer to economic crisis after the biggest one-off devaluation of its currency since 1993. The 8.5 per cent devaluation of the dong against the US dollar announced yesterday was the sixth and largest such move by the central bank in three years - a gamble, experts said, as it may increase inflation, which hit 12 per cent in January. They added that the move was unlikely to draw a line under devaluation and probably would be followed by another cut within nine months.
The dong's reference rate against a basket of currencies has been devalued by 20 per cent since June 2008 in a piecemeal process that has done little to enhance the reputation of the central bank. A halving of foreign exchange reserves over the same period has worsened the dong's plight. Tumbling exchange reserves and a recent flurry of downgrades to Vietnam's credit rating have also prompted a string of warnings from economists that the country needs an urgent overhaul of old communist central planning habits to avert calamity.
Vietnam also suffers from big fiscal and trade deficits, which currency devaluation may go some way to reducing if it improves the attractiveness of exports. Yet despite the action yesterday, analysts said that it represented only half the solution as Hanoi tries to restore credibility to its currency and persuade the world that it has the economy on a stable footing. An interest rate rise, possibly a 100 basis-point increase from the present 9 per cent, is forecast by some within the next few weeks.
A rate increase will be necessary if Vietnam wants to restore public confidence, Kevin Grice, of Capital Economics, said. "Because the Government has been pursuing growth for its own sake, the economy has been allowed to overheat. They have to restore faith in their financial management, and that means raising interest rates aggressively." The country's financial authorities remain locked in a fight against double-digit inflation, with many experts believing that the roaring pace of price increases is a reflection of Vietnam's imbalanced economy. It is argued that a productivity gap between the state and private sectors, and the high growth rate enjoyed by Vietnam in the past decade, mean that too much money is chasing too few goods.
The Government's move follows months of plunging confidence in the dong among ordinary Vietnamese. Dwindling faith in the currency has seen many cramming their pockets with gold or black market US dollars.
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