CENTRAL INSTITUTE FOR ECONOMIC MANAGEMENT
CENTER FOR INFORMATION AND DOCUMENTATION
WORKING-PAPER
MONETARY AND FISCAL
POLICIES CONTROL UNDER
HIGH INFLATION IN VIETNAM
Hanoi, April 2008
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CIEM _ Center for Information and Documentation
CENTRAL INSTITUTE FOR ECONOMIC MANAGEMENT
CENTER FOR INFORMATION AND DOCUMENTATION
WORKING-PAPER
MONETARY AND FISCAL
POLICIES CONTROL UNDER
HIGH INFLATION IN VIETNAM
CENTER FOR INFORMATION AND DOCUMENTATION
Tel – Fax: 084-4-7338930
E-mail: tttl@ciem.org.vn
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TABLE OF CONTENT
I.
SOME CONCEPTION ON INFLATION
1. What is inflation
2. How to measure inflation
3. Negative effects of inflation
4. How to employ monetary and fiscal policies to deal with inflation
II.
CURRENT STATUS OF INFLATION IN THE WORLD AND
VIETNAM
1. Inflation in the world
2. Inflation in Vietnam
3. To dissecting causes of inflation in Vietnam
3.1.
Trade and payment balance deficit
3.2.
Management of foreign capital inflows
3.3.
Management of public investment
3.4.
Monetary supply growth
III.
THE IMPLEMENTATION OF MONETARY AND FISCAL
POLICIES UNDER HIGH INFLATION IN VIETNAM
1. The execution of monetary policy during the last time
2. The execution of fiscal policy during the last time
3. Some comments, remarks, and recommendations
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High inflation has returned after many years and becoming an enormous
concern to policy-makers in almost all countries in 2008. Two-digit inflation
in developing countries has been an existing constraint to macroeconomic
stability, potentially slowing down economic growth and eroding
achievements gained over the last years of poverty elimination work.
Inflation has also extraordinarily increased in Vietnam during recent months,
after a long time kept under control. In the first six months of 2008,
consumer price index (CPI) increased with a year-on-year rate of 26.8
percent which is a terrified number and among the top highest of the world
at current time. Since Vietnam’s transition to a market-oriented economy,
inflation has never attracted as much attention of national and international
analysts as it does now. The government has also taken many actions with a
view to curbing inflation. However, the story of inflation is continuing and
will certainly leave long-term impacts.
The paper focuses on inflationary issues of Vietnam under current situation
with three main parts. The first chapter reviews theoretic framework of
inflation, in which concentrating on monetary nature of inflation.
Inflationary situation of the world and Vietnam will be discussed in chapter
2 as an effort to figuring out rationales of inflation in the world generally
and Vietnam particularly. Chapter 3 focuses on monetary policy
management with at inflation curbing measures taken in Vietnam currently,
while providing relevant remarks and policy recommendations for the future
time.
I. Theories on inflation and money supply
1.1.
What is inflation
A definition which is most widely accepted assumes that inflation is
continuous price increase in the whole economy. To define whether there is
inflation, attention is often paid to general price increasing trend rather than
any sudden elasticity of common prices. Thus, short-term price increases of
some certain goods in the market do not mean inflation occurring.
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Economic theories dedicated that general price increases as aggregate supply
decreases or aggregate demand increase. Aggregate supply decrease may be
resulted from an adverse technology sock, labour supply decrease, or
increase in production factor prices. Aggregate demand increase may be
resulted from increases on governmental expenditure, tax cut, or increases in
monetary supply.
Inflation is often divided into three kinds: demand pull – inflation; cost push
– inflation; and monetary inflation.
Viewing from longer-term point, however, all kinds of inflation are
generally of monetary nature. Decrease in aggregate supply can derive from
adverse socks, such as labour supply decrease, and increases in production
factors. But aggregate supply decreases do not lead to continuous price
increase unless they are backed by the Central Bank through continuous
monetary increase. Familiarly, Aggregate demand increase may be due to
governmental expenditure increase, tax cut, or monetary supply increase.
Government’s expenditure increase and tax cut are limited; therefore they
are unable to cause continuous price increase unless the state budget deficit
is financed by continuous money issuance. In this case, only one factor that
is unlimited is monetary supply increase leading to continuous increase of
general price. Thus, although there are may factors leading to price
increases, economists usually figure out monetary supply as a major cause of
long-term inflation. No matter where and when inflation happens, its cause
is always monetary one.
1.2.
How to measure inflation
Inflation is often measured by economists through two common indicators,
namely: CPI (Consumer Price Index), and GDP Deflator – or GDP
adjustment, in another word. The former bases on a basket of consumption
goods and their prices at two different point of time. The latter is on a
foundation of total annual finished goods and services and their prices at two
different points of time, they are generally on a basis of fixed and current
price statistics. There are no significant differences among these two
measures. The approach of GDP Deflator will calculate inflation more
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accurately given the definition of inflation. However, CPI has its own
advantage that is it allows calculating inflation at any time, basing on the
basket of commodities while GDP deflator just allows calculating the annual
inflation after the year report on GDP is provided.
%M+%V=%P+%Y
Or
%P=%M-%Y-%V
Inflation is also classified basing on its levels: low or moderate inflation is
inflation with annual price increase rate of less than 10 percent. High
inflation (galloping inflation) is inflation with two- digit annual price
increase rate. Super inflation is inflation with three-digit annual price
increase or even higher. In contrary, the phenomenon of decreasing of price
or as price increase rate is negative is called deflation.
CPI is used by Vietnam to calculate inflation rate. The General Statistic
Office publishes inflation data after calculating consumption price index
(CPI) of a basket covering 494 primary commodities divided into 10
categories of goods and services. The shares, or the contribution ratio in
GDP (which is so called weighted numbers) captured by respective price
increases of goods and services categories are as follows: restaurants and
relevant services accounts for 42.85 percent (of which, grains – 9,86 percent,
and food – 25 percent); housing, electricity, water, fuels, and construction
materials: 9.99 percent; transportation and tele-communication: 9.04
percent; household appliances: 8.62 percent; garments, hats, and food wares:
7.21 percent. Contribution to GDP of each category is equivalent to the
change of that category’s price (compared to the base time, e.g. the previous
year or month) multiplied with respective weighted number. CPI is an
aggregating value of such components.
1.3. Negative effects of inflation
Economists have vey different viewpoints regarding the scale of inflation’
adverse impacts. Some even suppose that losses caused by inflation are
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moderate, and this is true as long as inflation rate is kept at a stable and
reasonable level. However, once inflation is at a considerable rate, its social
effects on the property redistribution among individual are definitely
significant, thus governments of all countries have to do their utmost to
prevent this kind of inflation.
If inflation is predictable, entities of the economy are able to response
proactively, though there are still certain losses to the society. Inflation is
similar to a tax imposed in money keepers, and the nominated interest rate is
a sum of actual interest rate and inflation rate, therefore, inflation makes
people less willing to keep money and the monetary demand decreases. This
leads to more regular bank withdraws. Economists have provided the term of
“shoe leather cost” to mention losses aroused due to more inconveniences
and time consumption that people have to suffer comparing to those in noninflation period. In addition, inflation will certainly result to price increases,
causing an additional expenditure of changing and reprinting product price
lists to enterprises. This phenomenon is so called “menu cost”.
Inflation makes relative prices change unexpectedly. For example, as long as
inflation occurs, some enterprises increase their product prices (and of
course menu cost aroused), while other enterprises want to keep the same
prices to avoid menu cost; therefore prices of the latter group will relatively
cheaper than those of the former group. Given the fact that a market
economy distributes resources on a basis of relative prices, thus inflation
lead to infectivity in microeconomic terms.
Inflation can deviate
II. The current inflation all over the world and in Vietnam
2.1. Inflation picture in the world
The year of 2008 comes with gloomy economic picture. World economic
giants such as USA and EU are dealing with surging inflation as well as
increasing unemployment, economic stagnation. The inflation in Member
countries of European Unions using Euro in June 2008 reached to 4%,
exceed its rate of 3.7% at peak in May 2008, doubles the target rate of 2%
that ECB planed to those countries. The United States of America also
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facing with the 3% increase of inflation this year, a twofold increase higher
than previous years.
After a decade of surprisingly blooming development, almost developing
and emerging countries are now shocked with surging inflation and facing
with the risk of slow growth. The ghost of galloping inflation are now
coming back after a long absent period since the fuel crisis in 1970,
becoming contagious fear all over the world.
In China, the current inflation rate is at 8.5%, being highest rate over the
recent 12 years, compared to 3% of last year. In Russia, it jumped from 8%
in 2007 to 14% in 2008. The rate in India is 7.8%, highest rate for the recent
4 years. And in Indonesia, it has increased by 12% in 6 june after the
Government had decided to increase 30% fuel’s price. In Latin American
countries, although inflation seemed to be moderated in comparison with
previous record figure, almost of rates have been doubled in comparison
with those in last year, specially inflation in Venezuela has reached to 29.3%
and 14.3% in Argentina. The inflation in almost oil export Guft countries
reached to two digit inflation. It is assumed that above statistics are not
fulfilled and the real inflation rate is much higher, that also means 2/3 world
population are now facing with two - digit inflation.
All analysis has clearly showed the reason of inflation
Food prices have been and are rising quickly. The rice price in the world
reached to the level of US$1200 per ton, doubled that of last year. Worries
of food crisis has raised during the beginning of 2008 when some countries
like India, The Philippines and others Africa countries were in the brink of
serious food shortage. If there were no prompt support actions from
Governments and international organizations, food crisis has come true.
In reality, food prices are still high. In China, for example, food price
jumped by 22% compared to the same time of last year while others slightly
increased by 1.8%. It is demonstrated that food stuff accounts for 30% to
40% proportion of goods’ basket that is considered as a base to calculate
figures of consumption price in developing countries, For example, this
rate is only 15% in G7 countries. with the important position that higher
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food prices have a much direct impact on the developing economies and
speed up inflation higher than in developing countries economies, where
food accounts for a smaller proportion of the goods’ basket.
The question is why inflation was soaring in surprising way and in so short
of time to various countries in the world? In fact, there are many analysis
demonstrated that soaring inflation in developing countries was rooted from
supplying shock. According to The Economist, from 2002 till now, emerging
countries occupy demand counted for 90% ( for oil and metal) and for 80%
for cereal demand all over the world. It is also proved that developing
countries has consumes a large amount of cereal for biology fuel. The short
supply surely lead to continuous bumper price.
The first reason for food and fuel price shocks is lied on supply. However
the underwater part of the iceberg showed that it is prolong loosen fiscal
policies for dramatically development kicked the shocks. This lead to
overheating development occurred for a long time in series of countries. The
loosen fiscal policy, especially in emerging economies lead to an significant
increase of monetary supply. Also reported in The Economist, the monetary
supply in emerging economies has an average of high increase by 20%
compared to same period of last year and was triplicated the developed
countries. Monetary supply increased will in turn push up the domestic
demands that fosters food prices in high level.
So, the main reason lies on monetary managing policy. Central banks in
emerging countries had inadequate independence as well as flexibility when
maintaining loosening fiscal policy on low interest rate for political target of
fast growth and employment. If countries Given a tight monetary policy,
food prices could have been decreased that also help to control the inflation.
In developing countries and emerging economies where apply inappropriate
monetary policies, the increase of inflation is a prominent response to
soaring prices of key products. It firstly came under the shape of surging
food and fuel prices and gradually expands to increase price of other
commondities. Due to fear of continuously rampant prices, there are upward
pressures to level up salary. This in turn has impact to swell the price and
contributes to a bigger inflation spiral.
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We could not unacknowledged the real detector of inflation that lies on the
instability of rich economies, in which biggest responsibility is counted for
America.
The world biggest economy, America, for instance, conceded that they were
sunk in economic depression. Economic depression was rooted from
hypothecation credit crisis since end of 2007 that took away payment
capacity of many banks, pushed banks into the brink of bankruptcy. Bear
Stearns, for example, would have announced of bankruptcy if the America
did not give a hand to support. This crisis were dragging along dozens of
banks inside and outside America that burdened billions of USD loss. The
crisis also spread to other business fields such as Insurance and manufacture
sector. Until now, the America has not recovered from this serious crisis. So
far in the beginning of July, the America has once again been shaken
violently when 2 biggest investment banks, Fannie Mae and Freddi Mac had
stuck with huge loans of 5000 trillion USD (which accounts for ½ of all
market). It was second times in a month the Government and FED urged for
urgent meeting to find the solution. The estimated bulk jumped to 1000
trillion USD.
It is obviously the America might suffer from a vicious economic crisis.
There were argument that this has been worst crisis over the recent 80 years
since the depression in 1929-1933. The America Government has applied
mass solutions to saves it economy since end of 2007. Despite high risk of
inflation, America Government is maintaining perversely a loosen fiscal
policy. The Federal Reserve has reduced interest rate several times since the
beginning of 2008, at 2% currently comparing to 5-6% last year. The
president Bush tried to persuade the Congress approve to reimburse 150
trillion USD of tax in an aim to pump money into circulation that in turn
would encourage consumption and economic growth. This move however
seems don’t have much positive effect to America economy. The stock
market had month-on-month stumble, the dollar depreciated to those key
money notes, inflation and unemployment reached to highest points in recent
years. It is expected that the growth of America can gain only 1%, lowest in
years. The recovery will only come end of 2009.
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Further analysis on land crisis in America also should be done. The reason
of the crisis is from the thought of “speculation” which were supported by
the banks with derivation fiscal tools . That is key reason.. Quick housing
price increase rapidly during a year is rarely happened in America. Although
the fact that soaring price over real cost within a year would create bubble,
lots of citizens could not believe that the price would crack down. Many
parties were involved, including monetary trader. Banks overstated housing
price for one reason, the higher price was, the higher demand for house and
the higher the service fee reached. Furthermore, American law was changed
under which allowed multi fields financial trading, banks were allowed to
do debit business (debit stock). The bank will issue a stock per housing loan
and sell to investors. This considers a risk extract policy. Once the house
price increase, it will immediately boost the stock value, encouraging
collateral housing loans. Consequently, when the bubble was busted,
investors failed to pay loans and being squeezed by banks as a result. Banks
in turn also being threatened to serious losses by inability to pay loans, land
price reduce, loosing stock value. Once banking system is broken, the
economic crisis will be inevitable. A similar story could be told of Vietnams
stock market and land market in which commercial banks play roles in
boosting demand and pushing assets prices.
Further studies to other commodities showed beside the above narrowed
supply, there is increasing participation of derivation tools in asset
speculation. Such tools as securities, future transaction, options transaction
becomes strong tools in hands of investors to rare commodities. And its
results are oil price reached its highest point ever recorded, gold and other
farm products and raw material also surprisingly increased. According to
Lehman Brothers, total entrusted assets amount in commodities index
markets from 75 billions USD in 2006 to 235 billion USD in mid-April
2008, triplicate that in 2006. The Financier George Soros in his speech to
policy makers in June 2006 affirmed that the current price bubble due to
speculation were “supper bubble”. The result when that supper bubble
busted, prices would be fallen to The “Vertical axis” causing unexpected
serious impacts on world economy.
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Therefore It can be said that derivation fiscal tools put the international
financial market into a insecure and unstable situation. America, even
though is considered the country which created firm law framework for the
stable development of financial market, got such big matters. Never
occurred a depreciation which caused by out of control financial market
under economy rules built up after the crisis in 1930. Previously, the
inflation mainly caused by over money printing serving war expenditure, or
soaring oil price without any actions of monetary policies, or the overheating
development. At present, the world economy is coping with new fiscal tools
that were made to increase banks and financial parties’ interest but without
control.
Obviously, the depreciation of America has negative effect on world
economy. The America economy which accounts for 25% of global GDP
and over 15% total import value in the world has strong impact to the world,
dragging various economies’ depreciation. Several OECD countries
announced to lower their growth criteria this year. American depreciation
also has effect on Euro area and other big economies such as China, India,
Brazil, etc,…
Nevertheless, the policies which continuous cut down interest rate and
maintain a weak dollar added troubles to developing and emerging
economies. These economies are coping with huge off shore capital inflows,
especially the dollar, to enjoy the interest discrepancies. Since 1970 the
capital inflows have been loosen and facilitated a lot. In order to cope with
numerous monetary inflows, state banks in developing countries are facing a
dilemmas. The escalading capital inflows will put strong pressure to
appreciate the domestic money. However instead of arising the price of the
domestic money, state banks prefer to bump more money (by printing more
money) in order to neutralize the capital and maintain the exchange rate,
stimulating their exports competitiveness. This action of state banks in one
side curbs domestic money appreciation but the other side boosts the
inflation spiral. Mean times, the policy of increasing interest rate encourages
more capital inflows. It therefore makes this policy be useless. Dramatically,
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the appreciation of domestic money will attract turbulent investments and
thus increase inflation. This is issue that China is facing with..
2.2 Inflation in Vietnam
Inflation in Vietnam has surprisingly increased since early 2008. Up to now,
the inflation in the first 6 months of 2008 is 18.44% compared to that in
December of 2007 and increased by 26.8% compared to same period last
year. The speed of inflation, though is now reducing in June, it is predicted
to be at 27.25% for all year of 2008 after three policies of growth and
inflation innovated recently by Vietnam General Department of Statistic.
The two digit inflation rate of Vietnam is evaluated highest since 1992 (refer
to Picture 1), highest rate in the region and also highest rate compared to
countries in the world.
Surging inflation is now becoming serious concern to the economy. It
threatens each individual life as well as economic activities. It has been such
a long time since the three digit inflation in 1986-1987, the ghost of
hyperinflation comes back and put heavy burden to Vietnamese. Vietnam
puzzled with some rumors that told the old story of a crisis Vietnam with
Figure 1. Inflation in Việt Nam
30
27.25
20
10
7.8
5.8 4.84.2
6.8
0
4
-0.4
7.8
7.3
4.3
7.1
6.9
8.4
8.2
8.4
12.68.5
7
6.6
-1.6
-10
1998
1999
2000
2001
2002
2003
2004
2005
2006
Inflation
7.8
4.2
-1.6
-0.4
4
4.3
7.8
8.4
6.6
12.6
27.25
Growth
5.8
4.8
6.8
6.9
7.1
7.3
7.8
8.4
8.2
8.5
7
Source: General Statistic Office, data for 2008 is estimated
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2007 2008f
collapse Dong and of that the Government would carry out money changing
as before.
In fact, inflation is not a ghost but a real worry of Vietnam economy.
Obviously, the growth will slow down this year. The net income of citizens
will reduce, especially farmers and workers. Inflation, in additional, are
threatening to remove achievements of Vietnam in poor elimination resulted
from dozens of years afforts.
If we turn back the hand of time to the end of 2007, at moment the inflation
started in Vietnam. The official number announced by The General
Department of Statistic was 12.6% in 2007, surprisingly high since 1992
disregarded the controversial new method of statistic. There were plentiful
of warnings on surging inflation stated on news papers as well as be
discussed in international and domestic workshops. However, the awareness
about inflation were not fully understood. For example, there were irrational
attitudes that put growth first but together with illogical statement “ must
keep the inflation rate lower than growth rate”.
The increase of inflation were shortly assigned to external reasons such as
surging fuel price and foodstuff price in all over the world. Reasons for
inflation in Vietnam were announced that the cost inflation were boosted due
to increase import value, or “import inflation”. There were also several
objective reasons such as disease in cattle, fowls and prolong damaging cold
causing farming losses. Some very firstly solutions of the Government
aimed at boosting supply such as exempt from tax, subsidies. These
solutions in contrast, caused budget deficit. Recently, the Government has to
increase the fuel price by 30% and conceded by the Financial Ministry that
the National Budget can not afford the subsidies of 60-70 trillion USD from
now on end of the year.
Not until the unrest surging inflation early 2008 and lots of hanging question
of why inflation in Vietnam is significantly higher than those of other
countries in the world. In the meantime, all policies aiming at supply do not
work, were inflation risk and reasons once again put into the discuss on the
round table and set priority to mitigating inflation . In regular meeting end of
March 2008, Government got the consensus: curbing inflation, stable the
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marco economy, ensuring living stands, stable growth, in which curbing
inflation were put first priority. On 30th March 2008, The president Nguyen
Tan Dung gave his important speech on 7 solutions to curb the inflation that
evaluated as feasible solution.
Inflation roots were deeply analysised. Besides the increase of fuel price,
food price, and material price, the weakness of managing competence of
Government, especially financial management, were frankly conceded. On
the regular meeting early 2008, the president Nguyen Tan Dung frankly took
responsibility on weakness of management that is still subjective and in
fiercer.
Paradoxically, Vietnam is an agriculture country that obtains significant
achievements: 2nd biggest rice exporter in the world, 1st exporter of various
farming products such as shrimp, coffee, rubbery, etc, …. In other words,
there is no concerns about food security in Vietnam. In the mean time,
foodstuff accounts for big proportion of CPI of commodities basket (food
accounts for 43% of total basket). Vietnam, according to rational idea,
should have stronger capacity in curbing inflation than others food and fuel
dependent countries. Why this contradiction happened?
2.3. Deeply analys of inflation roots in Vietnam
Inflation in Vietnam has deep root from instable of the economy. According
to Mr. Alan Greenspan, former president of FED pointed out several reasons
leading to economic difficulties: impact of bursting investment since 2007,
unbalance between domestic currency and foreign currency, ineffectiveness
in capital flows management, import surplus and negative impact from state
own economy. Details are as follows:
2.3.1. Trade deficit and balance of payment
Let have an overview on trade deficit. According to the report of World
Bank, the deficit of current account in 2007 was estimated to 15% GDP,
which worried by World bank (Picture 2). It were announced by GDS on 1 st
July 2008, import surplus in 6 first months was estimated 14.8 billion USD,
accounts for 49.8% the export turnover, much higher than overall of 2007.
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Import surplus is a chronic disease of Vietnam years on years. Import
surplus advocates agued that Vietnam is on process of modernization and
industrilization so it need a big import amount of machine. Furthermore,
export enterprises also need input material. In the contrast, recently, the
portion of import should be take into consideration which significant
increase of consumption goods, especially luxury goods. Importing car
separately touched the point of 1.306 billion USD in the first five months of
2008, jumped by 392,4% the same time of last year, the gold import of
enterprises ( not state bank) went up to 4 billion USD, making Vietnam the
world biggest gold importer, higher than China and India did. In the
meantime, import of other commodities also set up new peaks such as steel
and fertilizer were double last year. The paradox is that despite prices are on
high-sky trend, those imported commodities will be re-exported out of the
border, not to be used in manufacture.
It is common knowledge that too big and prolong import surplus (comparing
with export and GDP) will seriously sterilize balance of payments. Although
balance in Vietnam is still evaluated surplus thanks to foreign currency
Figure 2. Trade and Payment balances of Viet Nam in 2000-2008
storage, foreign Investments (both direct and indirect investments), foreign
money exchange. However, if import inflation is considered as one of
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reasons causing high inflation in Vietnam, over surplus import is threatening
the marco economy.
The underlying reason of trade deficit in Vietnam lied on exchange policy
management. For years, the dollar seriously depreciated versa almost key
currencies in the world. The year on year peg of the dong versa the dollar
resulted to appreciation of the dong versa the dollar, contributing to curb
export and to encourage import which in turn caused the continuous deficit
on temporary accounts, fluctuating from 1.7% to 4.9% GDP in 3 years.
According to Vu Quang Viet, statistic expert of United Nations predicted
that the dong appreciated 13% versa the dollars.
Consequently, the president of Vietnam has command to parties to curb
import surplus as an important solution to the macro stable economy and
constrain the inflation.
2.3.2. Management of Foreign capital inflows into Vietnam
Foreign investment has played a crucial role in to the economic growth in
Vietnam. These foreign currencies do not only contribute to the economic
growth but also compensate for the trade deficit and enhance the national
reserve.
Annually, offshore capital flows to Vietnam under several forms: Official
Development Assistance (ODA), foreign investment (Direct Foreign
Investment FDI and Foreign Indirect investment FII) and remittances. In
2007 separately, the total offshore inflows estimated to 14.6 billion USD
(approximately 25% of GDP (picture 2), in which foreign investment
accounted for 8.6 billion USD and remittance accounted for 5.0 billion USD,
excluding nearly 1.0 billion USD of ODA reimbursement. In 2008, despite
the macroeconomic uncertainty, capital continues flowing to Vietnam. The
current statistic showed that 4.9 billion USD were reimbursed, reach its peak
that highest ever recorded. The expectation investment to Vietnam will reach
to approximately 10 to 12 billion USD in 2008. The current process of
reimbursement however could not tell to be in harmony with such huge
pledged amount of 35 billion USD for all the year of 2008.
The overheating increase with huge offshore inflows, especially FII, had
negative impacts to the economy in general. In 2007, the FII to Vietnam
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reached to 56 billion USD, accounted for 50% the total inflows to Vietnam.
The fact that bigger inflows but for only small well absorb amount were
evaluated and analyzed by various experts. Remarkably, the majority of
inflows to Vietnam were into stock market and property market which
directly created the value added. However, this contributed to overheating
situation in the two markets and created a bubble. Counted till end of 2007,
property and stock prices doubles its value quickly. Those headlines hailed
to the bursting of bubble and had negative impacts to Vietnam economy
The slowdown inflows or even reverse (or flowing away) in condition of a
weak economy caused disorder of exchange rate and threatened the balance
of payments. Fortunately, Vietnam had commitment to WTO only on
liberalization temporary transaction and on capital transaction only in some
extends not full commitment, the controlling currency policy still in tight
position. Consequently, the matter of massive withdrawing hasn’t occurred
yet.
It is common knowledge that surging inflows will increase the pressure to
appreciate the domestic currency. In order to maintain the stable exchange
rate policy that benefits both export and import, Vietnam bumped money to
the market to purchase foreign currency, enhancing its foreign currency
reserves. In the first six months of 2007, The State bank of Vietnam bumped
112,000 billions VND into circulation to purchase 7 billion USD. The figure
had upward increasing money supply to circulation. However, the drainage
(or absorb) of dong was not properly carried out, boosting money supply that
resulted to increase inflation during this time
2.3.3 Public investing management
In theory, when the state expenditure exceeded over budget revenue, those
expenditure will push the monetary demand. The paradox is that these
expenditures were not effectively used and only contributed a small portion
to yield (that means don’t push the total supply increase correlatively). This
will inevitably lead to inflation.
If the economic wants to boost the growth, it needs investment to create
robust movement. All emerging economies maintained high investment rate.
For example Thailand’s rate reached to 30% of GDP. Vietnam has been
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attracting investment from Government, its citizens and off shore capitals in
order to obtain higher investment rate, reaching to 40% GDP aimed at high
growth rate. In fact the average growth of Vietnam in period of 2000-2007
obtained 8%, a peak high in the region, ranked only after China.
However, what needs to be further discussed is effectiveness of investment,
especially in state owned sector. State owned companies are considered key
factors and deserves lots of priorities by being assigning big public projects
which will bring credit with low interest. Sadly these projects contribute a
small portion to growth, export and to employment renewal. This was
demonstrated by some criteria as the total amount of these project accounted
for 43.9% of total investment but contributed only 41.1% to real industry
growth or obtained 10% of value added in the period from 2000-2006. More
critically, the employment reduced by -0.1% at present. Meantime, the other
two sectors- foreign investment and non state sector accounted for only
17.7% and 41.3% respectively but created 56% and 164% value added in the
period of 2000-2006, the renewal employment increased by an average of
22.4% and 25.7% respectively.
Because of ineffective investment from state owned sector, the Incremental
Capital Output Ratio (ICOR) of Vietnam stayed high. In the period of
2001-2006, the ICOR of Vietnam was at 4.4 which meant in order to create
1 dong of growth, 4.4 dong must be invested. We can make a comp ration
with other countries in the modernization of 1967-1980, the ICOR of Korea
was 3.0 and 2.7 of Taiwan.
Furthermore, state owned sector is controlling the domestic market, owning
precious resources such as land and credit with low price. Lastly, the quick
expanding of state owned corporation with little effectiveness due to
monopoly and government subsidies are distorting the economy,
establishing the beneficial groups that mobilize and build hedge around
investment from state commercial banks, regardless the invasion of
capitalism foreign companies into protected and deserving incentive sector.
2.
Money supply growth
The inflation in anywhere and any times is rooted from monetary issued. It
is affirmed by both international and domestic experts that the reason of
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dizzily inflation in Vietnam was excessively prolong increase of money
supply which resulted to surplus demand over supply. Although the data of
money supply is not available within official statistic date of Vietnam, it is
can be obtained in website of international organization that Vietnam is a
member such as ADB or IMF. The Table 2 showed that growth of money
supply of Vietnam in the period of 2001-2007. The data in picture 3 stated
that the growth pace of M2 (includes money in circulation and deposit in
bank) reach 25% year on year and reached to 33.6% in 2006. The most
obvious reason for the increase is the crease of investment to Vietnam that
pushed the State Bank purchase more money for reserves, peg the exchange
rate. Another reason rose by expert’s team in Harvard that it was Vietnam’s
decision in order to maintain the growth in a long period of time. However,
the disequilibrium between pace of money supply and GDP growth and
when the gap becomes bigger, the more pressure of inflation appears. The
fact that Vietnam obtained only 7-8% in this period while the year on year
investment accounts for 40% GDP demonstrated the above statement.
Experts in Harvard presented an similar story of Taiwan is that this country
is used to obtained a growth of 10% continuously in 18 years with much
more bigger investment, but only accounted for ¼ GDP.
In two years of 2005-2006, Vietnam GDP increase 17% in total while M2
increased by 73%. In contrast, GDP of China increased by 22% with 36%
M2 increase in this period. The Vietnam growth was under China but the
money supply doubles that of China. The CPI also proved the fact when
China’s CPI is 6.5% but it reaches 12.6% in Vietnam
Lying beside the above reasons, unstable macro economic with predicted
inflation contribute to a surging inflation. Within scenery of inappropriate
macro management t the end of 2007 and early 2008, there are obvious
opportunities for a roaring inflation in Vietnam. Although, it is difficult to
measure the contribution of predicted inflation but obviously it contributes a
significant proportion to oddly prices fever recently by speculation attitude
in key products such as rice, steel, cement, and fertilizer.
3. Fiscal policies implementation in surging inflation in Vietnam.
3.1. Fiscal policies management recently
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As you all know that inflation is on its high trend for years ago, especially
since 2007. It is predicted that Vietnam with two digit inflation in Vietnam
and economic instability might fall into crisis like Thailand did in 1997.
The inflation rose due to over expanding monetary policies for a long period
with an aim of achieving expected growth. Concretely, there was awareness
under evaluated inflation risk despite social warnings. The policies action
therefore were late, awarded and inconsistence.
Vietnam is facing surplus money supply for a long period. In 2007 the credit
growth within commercial banks systems reached to 54%, in which stock
loans and housing loans jumped to alarming level. In 2007, the stock market
and housing loans reached to 12000 billion and 130,000 billion respectively.
In May 2007, the state bank of Vietnam set a base credit rate for stock
market at 3% of total credit loans. This in fact was an administrative tool
aimed at cooling the overheating credit growth that underlying plentiful of
risks, but was not policy to monetary squeezing to curb inflation. This
unexpected policy made most of commercial banks embarrassed.
Further analysis showed that overheating credit growth in short time was
result of quick money supply growth. In 2007, commercial banks mobilized
had surplus capital mobilization. Surplus capital throws quickly into loans
skip out steps of observation and risk management, especially in stock
market and property market. The robust development of these two markets
in 2007 appealed almost international and domestic investors, even
manufacture invested in these two markets. All knows the process of
creating prices bubble (stock prices and property prices). The VN-index in
2nd quarter 2007 increased by 140% same period in 2005, property prices in
Hanoi and Hochiminh city doubled in last 6 months of 2007. Looking into
the forest, it was enterprises and banks that bumped liquidity to markets
without adequate control. There are no monetary policies to curb inflation
pressure from investments of corporations (Petrol Corporation or Electricity
Corporation for example) to banking, property, retails or entertainment,
etc…
All solutions carried out by government are considered behind the time and
undervalued risks. Tax reduces policy for example aimed at enhancing
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commodities supply and the same time look forward to high economic
growth. In 2007, Vietnam achieved a 10 year highest growth of 8.5% but it
in turn kicked up import and lead to an ever record surplus import.
Till end of 2007, inflation surprisingly increased to 12.6%, awakened the
fear of hyperinflation. Still little solutions were applied early 2008. The
crumble currency policies has not implemented until inflation of the first 2
months 2008 reach to 18% and the government set curbing inflation a high
priority.
From date of 1st February 2008, the State bank increase the base rate, recapital rate, discount interest rate after two stable year since December 2005.
Base interest rate increased from 8.25% to 8.75% per year, interest rate of
re-capital increased from 6.5% to 7.5% per year and discount interest rate
increased from 4.5% to 6% per year. However the volume of this policy was
inadequate, resulted inflation still on high trend in March and April.
Until this moment, the overheating credit growth was considered as deep
root of surging inflation. Opportunely, the State bank of Vietnam found the
solutions to drainage and adsorbs money from circulation to reserves. Policy
to increase required reserve from 10% to 11% was the very first solution and
promptly actions of state bank in February 2008. Implementing this
decision, the total required reserve from commercial banks to state bank
increased by 20,000 billion dong. On 15th February 2008, the State bank of
Vietnam determined to issue 20,300 billion dong of Treasury bill that
required with commercial banks. 41 commercial banks were required to
purchase bill in time and required amount. However, aborting solutions of
state banks were implemented simulative caused shock to commercial
banks, pushing liquidity of commercial banks into difficulty, especially
small bank. Liquidity shortage became seriously and even alarming,
bounding bank leader to interbank debt with sky-high interest rate, 30% per
year with over night debt.
Fortunately, within 1 week, the State Bank of Vietnam bumped over 33,000
billion dong through open market operation (where valued bills such as
Treasury bill, stock are sold) to relived commercial banks from liquidity
shortage. This movement however fought back the aborting solution above
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pushing the inflation higher in April and May. According to General
Department of Statistic, CPI in May increase by 15.96% comparing to
December 2007. Moreover, this movement made two bubble markets: stock
market and property market collapse, not cooling down. Consequently, the
stock market return back 400point of the year 2005 and property prices
stumbled by 50-60& within 3 months. The down turn in two markets piled
over difficulties to banking system and enterprises due to big freezing capital
in the two markets.
Never happened in the past there were gloomy expectation and belief toward
macro economy like that at present. Many rumors of economics crisis in
Vietnam occurred, damaging belief of investor. Those rumors lead to
massive withdrawing of investor leading to system collapse.
Finally, the State Bank of Vietnam determined to increase the base interest
from 12% to 14% on 11th June 2008. This movement was considered as
most appropriated, but a little late, regretfully. Thanks to this movement,
Commercial banks can mobilize up to 21% per year unbinding to
administrative policies previously. The capital mobilization moderate
increased, ensured payment capacity of banking system. The increase of
interest rate cools down credit growth. It take effectiveness immediately, the
inflation in June has slowed down, demonstrated by CPI slightly increase by
2.14%, much better than previous months. The appropriate combination
fiscal policies and monetary brings bright hope of curbing inflation till end
of 2008.
Recent movements of exchange rate have also troubles the financial policies
management. Similar to other countries in the region, increasing investment
inflows upwards pressure to appreciate the domestic currency, increasing
inflation. This situation occurred end of 2007 and early 2008 when the
exchange rate dropped very low, 1 usd for 15,200 VND which caused
surplus foreign currency. But shortly the situation reversed. In early April
the exchange rate of VND strongly increased to 16,120 (equally to 3%) in a
week. Demand of foreign currency was happened but little supply. Despite
intervene of State Bank by selling hundreds of USD but the tension
remained. Besides increasing demand for import, rational behavior of
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economic entities that shifted to USD together pushed the exchange rate
increase, creating foreign currency deficit. The ability of short term
investments and speculators tried to remit currency to their home countries
because of uncertainty in Vietnam also created above matter. The situation
of foreign exchange sometimes runs out of control.
Dramatically, once again State Bank performed it roles timely. On 10 th June
2008, the State bank of Vietnam announced 2% devaluation dong against
USD by announcing the exchange rate of 16,464 replacing the rate of
16,139. This rate was keep unchanged a long time despite the increase trend
of market. In the same time, the State Bank of Vietnam decided to public the
foreign exchange reserve of Vietnam is 20.6 billion USD. This never
happened before. The combination of all solutions cooled the dollar fever.
The exchange rate immediately adjusts from 19,000-20,000 VND per USD
to less than 17,000 VND per USD. The exchange rate is fluctuating
announced rate of interbank. The devaluation of dong also has double effect
to reduce import surplus, keeping the balance of payments in the right track
to end 2008.
3. Some comments on monetary policies with high inflation
situation in Vietnam
Unless inflation is prevented, there will be further unrests to social and
economic life of Vietnamese people. Thus, inflation fighting is the first
concern of policy makers.
Inflation showed some signs of increase in the last years, and reached
remarkably high levels in late 2007 and 2008, which is resulted from the
pursue of widen monetary policies aiming at desirable growth targets. This
leads to too high and rapid money supply increases, and eventually inflation.
The situation is even more serious given international inflation conditions
and Vietnam’s deeper international integration.
The perception and the consideration of inflation remained subjective until
the end of 2007, therefore failing to provide proper and timely measures to
cope with the situation. Some administrative measures of monetary policies
during this time even made the situation more serious.
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Just in March 2008, proper and effective policies were provided, although
there is still some certain time latency.
Although it is rather late, the option of tightening monetary policies and
interest rate increase as tools of inflation fighting is seen effective and
suitable. This has resulted to the slowdown of inflation rate in June.
Recent interventions of the State Bank, including direct and indirect
measures, with a view to effectuating tightening monetary policies, are
provided basically in the right manner, however, there remains some lack of
rationality in terms of time, dosage, and implementation schedule,
particularly during the end of 2007 and the beginning of 2008. This
demonstrates a fact that the State Bank of Vietnam has not been serious
enough in their analyses, assessments, and forecasts, especially with the
supervision of the whole system, as a major monetary policy management
authority.
So far, monetary tightening policies adopted by the State Bank, including
basic interest rate increase, and foreign exchange rate loosening, have been
effective. This means the adoption of market-oriented mechanism to
monetary policy management is definitely appropriate. Have the State
handled market signs in more sensitive and better ways, thereby making
prompter policy responses, the results would have been much more
impressive.
It is necessary to make policies further transparent in the time to come
because this will create considerable contribution to people and enterprises’
confidence enhancement.
Inflation fighting has been set as first priority with “whole package”
measures. This means monetary alone can not fully prevent inflation.
Moreover, inflation derived from fiscal policies too. Therefore, synchronous
implementation and close connection of fiscal (public spending) and
monetary policies aiming at common goals are crucial factors. In other
words, tightening monetary policies will not lead to results as wishes unless
public spending and investment are tightened, particularly to ineffective
investment projects.
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As a matter of fact, although domestic inflation may be curbed by the end of
this year it is still likely to suffer from adverse impacts of the world price
increase, which could be a significant constraint to inflation fighting policies
in Vietnam, and thus should be paid efficient attention to. Such conditions
require more precise, cautious, and flexible solution to prevent the economy
from falling to a worse situation.
There are some concerns that following inflation it could be regression
which is even more terrified than inflation. Such concerns are rather
reasonable given too high capital costs, with annual lending interest rate of
more than 20 percent, burdened by enterprises. Almost all businesses find
themselves hardly make profits with such interest rates. Furthermore, many
enterprises made notable investments into securities and real estate markets
while they are currently frozen. This fact will lead to bankruptcy of many
businesses by the end of 2008, and then difficulties faced by the banking
system due to bad debt increase. It is reckoned that this should be seen as an
opportunity to restructure business system, including banks also, towards
market-oriented regime.
The battle against inflation is always a touch and suffering one, requiring
painful commutation. However, these are expenses to restore
macroeconomic stability – a foundation factor for sustainable development.
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