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Exchange Rate Policy Management in 2008 and Orientation in 2009
In 2008, the world economy underwent complicated movements. The global growth decreased remarkably due to the domino impact of the subprime mortgage crisis in the United States. All the developed economies fell into recession. Governments in the world had to implement economic relief packages of trillions of dollars and repeatedly reduced benchmark interest rates and pumped money into their banking systems to retain liquidity. However the effect of these relief packages remained unclear and the global economic crisis was foreseen to continue in 2009 and seriously hit developing countries, including Vietnam.
The uncertainty of the world economy caused many challenges to the Vietnamese economy. In the first months of 2008, the inflation rate rapidly rose while the property and securities markets began to decline. The Government timely implemented 8 packages of solutions to contain inflation, and ensured sustainable development and social protection. In the first 6 months of the year, the fluctuation of prices in the world market pushed the trade deficit of Vietnam up. By the end of June, the trade deficit had climbed to USD 14.8 billion to endanger the sustainability of the balance of payment and put the USD/VND exchange rate under pressure. By the end of the third quarter of 2008, the packages of solutions of the Government had obtained such initial results as lower trade deficit and inflation under control. However, the global economic recession began to adversely impact export and the growth rate of the economy, therefore, the Government set forth another 5 packages of solutions to proactively prevent a decline in economic growth rate.
In the context of extensive and intensive integration into the world economy, capital transactions were liberalized to a relatively high extent, fluctuation in investment resources, particularly in indirect investment, put a strong impact on the supply and demand of foreign currencies and the exchange rate. In 2008, the indirect investment flow kept fluctuating, thereby causing an imbalance in the supply and demand of foreign currencies. These resources increased remarkably in the first 3 months and appreciated the domestic currency, and when signals of a reversal appeared, the demand of foreign currencies rose as the world economy remained in difficulties and the national economy was facing rising inflation and trade deficit. After that, there was a slight recovery as a result of an improvement of macro-economic indicators. In the last months of the year, the crisis in the world financial market, once again, prompted foreign investors to outflow their capital to save liquidity for their original institutions.
The unpredictable changes of the global and domestic economy and financial market also adversely impacted the local supply and demand of foreign currencies. However, under the close guidance of the Prime Minister and the coordination of the Ministries and Government Agencies, the State Bank of Vietnam (SBV) pursued a flexible exchange rate policy to secure the liquidity in foreign currencies of the banking sector, hence contributing to promoting export, containing trade deficit and inflation, and stabilizing the macro-economy, in particular:
- SBV intervened in the foreign exchange market with flexible adjustment of selling and buying prices. When the demand exceeded, SBV timely sold foreign currencies to cool the market. When the supply exceeded, SBV bought foreign currencies at a reasonable rate to prevent deep reduction of exchange rates, aimed at containing trade deficit.
- SBV combined various modalities of flexible intervention. In addition to direct intervention, for the first time, SBV adopted indirect intervention to stabilize the market sentiment. With good coordination between SBV and commercial banks, this modality of intervention promptly bore fruit and market stability was maintained.
- SBV worked with the mass media to do well the task of communication and information to raise the confidence of the population and entrepreneurs.
- The management of the monetary and foreign exchange policies was well aligned. The VND interest rate increased whereas USD interest rate decreased; this made the VND become attractive and helped to stabilize the exchange rate.
In the context of unpredictable fluctuation of the demand and supply of foreign currencies and the exchange rate, or dramatic changes from time to time, SBV closely watched changes in the market, constantly monitored, updated information, and evaluated capital inflow and outflow to take reasonable policy actions.
Especially, in mid-June, when the market saw dramatic changes, SBV proactively took timely and synchronous measures, and at the end of June, step-by-step took such policy actions as:
(i) Depreciating the average inter-bank exchange rate by 2% to better align with the demand and supply of the market;
(ii) Expanding the band of the VND-USD exchange rate from ±1% to ± 2% against the average inter-bank exchange rate announced by SBV;
(iii) Substantially raising the base interest rate to attract VND resources to the banking sector; containing inflation and reducing the pressure on the exchange rate;
(iv) Publicizing the international reserves of the government to enhance the confidence of the market;
(v) Instructing those credit institutions with foreign exchange licenses to strictly comply with the regulation on the band of the USD/VND exchange rate, to quote the exchange rate and trade foreign currencies in compliance with the regulation;
(vi) Selling more foreign currencies to commercial banks to meet the maximum demand of the economy, and such necessities as import of petroleum products, medicines, insecticides or pesticides, fertilizers, and medical equipment; at the same time, assisting those banks in settling payment of mature loans or L/C; meeting legal personal demand for foreign currencies, and supporting foreign exchange positions of commercial banks;
(vii) Instructing credit institutions to strictly control and revamp the operations of the agents and exchange counters to ensure serious compliance with the existing regulations on foreign exchange management.
On July 11, 2008, the USD/VND exchange band was expanded from +-2% to +-3% against the average inter-bank exchange rate quoted by SBV (Decision No 2635/QD-NHNN dated 11 June, 2008).
With synchronized measures taken by SBV, the foreign exchange market returned to normal.
It can be said that in the context of difficulties in the world economy, the economy of Vietnam faced such big challenges that several international institutions and many foreign investors considered that Vietnam to be on the brink of a crisis of international balance of payment. The success of Vietnam in stabilizing the foreign currencies market and maintaining relatively stable exchange rates was highly appreciated by international financial institutions, and strengthened the confidence of foreign investors and domestic entrepreneurs in the capacity of macro-economic management of the Government.
On the basis of the practical management of the exchange rate policy in 2008, certain lessons can be learnt as follows:
- In the context of extensive and intensive integration of Vietnam into the world economy and relatively high degree of capital transaction liberalization, the fluctuation of the investment flow, especially the indirect investment flow, substantially affected the supply and demand of foreign currencies and exchange rates. The monitoring and the move toward selective control of this capital flow are therefore a necessity for macro-economic stabilization.
- Trade deficit, which failed to be strictly controlled and remained at a high rate, affected the international balance of payment and caused difficulties to exchange rate management.
- Soaring inflation affected the competitiveness of Vietnamese goods whereas the use of inflation control instruments to support competitiveness faced certain limitations. Therefore, in the context of soaring inflation, the close combination of monetary and exchange rate policies is essential.
- The consistence with the objectives of flexible exchange rate management in a short term and maintaining relative stability in a long term is very important in inflation control and macro-economic stabilization.
- The close and synchronized coordination among Ministries and Government agencies played a critical role to the success of the exchange rate management.
- In 2008, SBV worked closely and regularly with the Ministry of Industry and Trade to contain trade deficit and with the Ministry of Finance to mobilize foreign currencies to raise the international reserves as well as SBV’s capacity of market intervention.
- Given the sensitivity of exchange rates, the context of deepening integration into the world economy, and increasing capital flows, the exchange rate management should closely keep up with all changes in the market for timely and reasonable reactions.
- The close coordination with commercial banks made a remarkable contribution to the effectiveness of exchange rate management since they are very influential as a rapid and effective channel transmitting the message of the SBV’s intervention to the market.
- Communication and information played an important role in the enhancement of the confidence of the population and the business circle to enhance the effectiveness of policy management.
- Economists expect the world economy to remain uncertain in 2009 given the impact of the global economic recession in 2008 and unlikeliness to recover in 2009. Against this background export of Vietnam will face more challenges. Besides, Vietnamese overseas remittance and foreign investment will also be affected by the global economic recession. However, SBV has been working with Ministries and Government agencies in analytical work to forecast various scenarios of the economy and even anticipating the worst. The results show that in any contexts, the Government is able to balance the reserves of foreign currencies for socio-economic development with the close coordination among Ministries, Government agencies, and local authorities, and with the support of the population and the business circle.
- SBV adjusted the USD/VND average exchange rate in the inter-bank foreign currencies market applicable for December 25, 2008 to 16.989 in response to Resolution of the Government No 30/2008/NQ-CP dated December 11, 2008 on urgent measures to prevent economic downturn, maintain economic growth, ensure social protection to “proactively prevent economic downturn, boost production and business activities, promote export, stimulate investment and consumption demand, ensure social protection, strive for a growth rate of 6.5% for 2009”. The new level of exchange rate will support export, contain trade deficit and ensure the sustainability of the international balance of payment and prevent a psychological expectation for deeply depreciating exchange rate so that the businesses can proactively work out their stable business plans. SBV will do its best to stabilize the exchange rate.
- The objective of exchange rate policy management in 2009 is stability for better market sentiment in policies, contribute to macro-economic stability, and proactively preventing economic downturn.
Mr. Nguyen Van Binh, PhD., Deputy Governor of the State Bank of Vietnam
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