Dung’s Dong Devaluation Dilemma
The devaluation of the Vietnamese dong by 5% on November 25 comes as little surprise for anyone having observed Hanoi’s woes in trying to combine a fixed exchange-rate regime with strongly pro-growth fiscal and monetary policy in recent years. Previous devaluations (in December 2008 and March 2009 most recently) have done little more than to shuffle the problem of a widening trade deficit down the road by a few months, while boosting inflation and eroding what little remains of public confidence in the beleaguered currency.
Exchange Rate, VND/US$
With Vietnam’s exchange-rate policy appearing like a one-trick pony, the questions begs to be asked; what will be different this time? The fact that the announcement of the devaluation was coupled with a mere percentage point increase in the benchmark base interest rate to 8.00% in spite of widespread anticipation of accelerating inflation in 2010 indicates that Hanoi still has economic growth as its overarching policy objective. As in China, the political leadership fears that a slowdown in economic growth would stoke public dissent with one-party rule and potentially provoke another Tiananmen Square-style incident. For the Communist Party of Vietnam (CPV) the issue is arguably more pressing than for its counterpart in Beijing as its next National Congress, the 11th since 1935, is scheduled for January 2011.
Government policy and key appointments for 2011-2016 will be decided upon at the National Congress and the top leadership around Prime Minister Nguyen Tan Dung are thus likely to be averse to taking any decision that might impair their chances for another five years at the rudder. However, the alternative of continuing current economic policy is not an appealing option either as a widening of the trade deficit is highly likely to resume a couple of months down the road from a devaluation, while higher import prices will add to already present inflationary pressures, giving ground for accusations that the CPV has completely lost control of the economy ahead of the National Congress.
Risk Watchdog thus expects Prime Minister Dung, who has been the main advocate of a continuation of economic reform, to take a decision to bite the bullet and order a tightening of fiscal and monetary policy going into 2010 in order to curb the trade deficit and stem inflation. Indeed, by taking the decision now instead of six or twelve months down the road, Dung can hope that some progress will have been made on bringing the trade deficit and inflation back into line by January 2011, while a continued commitment to economic reform will put a cushion under investor sentiment towards Vietnam and economic growth (my colleagues at Business Monitor are forecasting a double-dip scenario with 4.4% real GDP growth in 2010 after having recovered from 3.1% y-o-y growth to record an overall 5.1% expansion in 2009).
It would be a bold path to embark upon, and a tall order for Dung and his supporters to convince the more orthodox members of the Politburo, but as the season of miracles approaches, I don’t view a shift of economic policy in Vietnam towards more balanced growth as unreasonable. So yes, I believe in miracles (as long as they are based on sound macroeconomic and political theory).
November 27th, 2009 at 12:44 pm
Looks like it’s a case of “Oops! I did it again” for the Vietnamese authorities.
I’ve been watching this country for a long time, and the only certainity is that when they say they won’t devalue the currency, they typically will a few weeks or months later. This means an uncomfortable level of currency risk for foreigners, but also locals too.
I would not be surprised if tjhe currency gets a lot weaker before it starts to turn around.