The country’s central bank plans to ban commercial lenders from taking deposits and issuing loans in both foreign currencies and gold in a bid to boost demand for the dong. But removing alternatives to the local currency from market use will inevitably lead to distortions and promote black markets.
Le Xuan Nghia, a member of the National Financial and Monetary Policy Advisory Council in Vietnam, said on November 7 that the State Bank of Vietnam (SBV) will introduce the ban during 2015-2016. He stated to local press that if banks raise deposits in gold they are at risk from price spikes which will lead to an uptick in bad debts, a with which problem the country’s banks continue to struggle.
“Local people can still purchase or sell gold and foreign currencies freely as the government will only ban using gold and foreign currencies as a means of payment for local services as well as prohibit banks from mobilising gold and foreign currency deposits,” he said to local newswire Dau Tu.
In theory this will protect the country’s banks from sharp currency moves, removing any vulnerability to currency mismatches and a strengthening dollar. Unhedged foreign currency exposure was one of the key catalysts for the Asian financial crisis, and as such, commentators agree that the motive behind the ban makes sense.
“The original sin in economic language is borrowing in someone else’s currency. One of the great things in Asia over the past few years has been the development of local currency bond markets, though most corporates here still borrow in dollars or some other foreign currency,” said Matt Hildebrandt, emerging Asia economist at J.P. Morgan.
“So you want people borrowing and lending in local currency, but you want to get that to evolve out of a genuine natural inherent demand for that currency, not because there is a law forcing you to do it.”
It is the fact that the central bank may force this on the banks, rather than issuing guidelines and allowing each commercial lender to make its own decision that has concerned one commentator, who argued a ban would likely be followed by a decision to print more dong.
“The economics behind that decision are just brutal. It kind of gives you this indicator that they’ve gone, ‘hey, no-one is going to want this crappy money that we’re printing so we’re going to force them to take it’. I could be wrong but I think that they’re going to start printing money like crazy,” he said.
Even if this is not the case, it would allow the government to manipulate the currency value and market rates.
“When inflation goes up you don’t want to hold your local currency, particularly in Vietnam because they usually put caps on the interest rates. So the whole point about having the mobility is that it forces the government to correct its imbalances or face everyone selling dong and buying dollars,” said Hildebrandt.
Another worry voiced by commentators is that if this law does come into effect, Vietnam’s exporters and importers will have nowhere to hedge their foreign funds and will have to conduct business according to daily exchange rate movements.
“The move will likely have the most detrimental effect on exporters and importers. Instead of being able to keep foreign currency at a bank on hand for buying or selling goods, they will constantly be forced into the volatile foreign exchange market short-term when they make transactions,” said Graeme Cunningham, head of Indochina research at KT ZMICO Indochina Research.
If market distortions begin to happen, people will find other ways to get their money, he said. Others agreed, suggesting that the black market for foreign currency would likely thrive. However, many market participants based in Vietnam are not too concerned about the immediate impact.
“They’ve already tried to implement the gold part of it and there was a deadline at the end of this year and now they’ve postponed it to next year. So 2015 is far enough away that it doesn’t have any immediate effect and once we get there then they’ll probably postpone it some more,” said one vice president of a financial services group.