The surprise move was designed to curb a widening trade deficit. It was also introduced to prevent a more rapid decline in foreign exchange reserves, which the State Bank of Vietnam has been using to prop up the dong.
At the time of writing, the currency was trading at 17.961 against the US dollar. The new rules also restrict the dong’s move within a 3% band, from 5% previously. The central bank also raised interest rates by one percentage point to 8%.
Industry watchers suggest this will be the first of several depreciation efforts by the State Bank. “We certainly believe this is not a one-off devaluation and is just the beginning,” Mitul Kotecha, Calyon’s head of global FX strategy in Hong Kong, told asiamoney.com.
The widening trade deficit and high inflation have put pressure on the currency, which has depreciated 5.6% against the US dollar year-to-date. That makes it the second worst performer among Asian currencies this year, after Kazakhstan’s tenge.
The government made the move after external pressures led to the widest difference between spot and black market currency rates in a decade, a Bloomberg report found.
“At the rate that the black market rate is moving so far against the current spot rate, they are almost forced to act,” notes Kotecha.
In spite of this revaluation, pressures are unlikely to let up. According to Bloomberg, the dong plunged 3.4% to a record low of 18,500 against the dollar in Hanoi today (November 26), reaching the low end of its trading band.
Kotecha believes it is likely that the official rate could easily get to 19,000 [against the US dollar] in the coming months as the government devalues the currency further.
Vietnam is battling problems on several fronts. Consumer price inflation increased to a six-month high of 4.4% year-on-year in November, fueled by loose monetary conditions. It is also facing a widening trade deficit, which reached US$10.2 billion in the first 11 months of the year.
Some of the problems are also the result of Vietnam’s pro-growth policy, which encourages weaker exchange rates to prop up its exports industry.
“Vietnam wants to keep exports competitive, and keeping it relatively weak compared to the region is helpful for them, but there’s the risk that you may stoke higher inflation,” says Kotecha.
“Looking at valuations, some ask if it’s justified by what’s taking place with regards to the fundamentals. And many people would argue, ‘yes it is.’”