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Finance & Banking

Last updated: Friday, July 20, 2018


Rate Cut: From Policy to Reality

Posted: Thursday, July 27, 2017

The State Bank of Vietnam (SBV) has decided to cut regulatory interest rates, in stark contrast to concerns about the pickup of interest rates because deposit growth is lower than credit growth in the midst of bad debt anxiety.

This was the first time in more than two years that the market witnessed on a slew of regulatory rate cuts by 0.25 per cent. The ceiling rate of short-term loans in priority areas is lowered by 0.5 per cent per annum.

Market-signalled cuts
The decision on regulatory rate cut was partly based on the liquidity of the banking system and the short-term outlook. According to SBV Governor Le Minh Hung, a 0.25 cent per cent rate reduction was primarily a signal to the market. This was also a precautionary adjustment.

The reduction of operating rates will indirectly support costs of credit institutions and help lower lending rates in the market. 

On the interbank market, overnight dong rates recently dropped to below 2 per cent per annum. Mortgage-based lending at credit institutions on the open market was stopped with a zero balance from June 22 to date.

The SBV's rate cut decision reconfirmed the market regulator’s direction of using necessary tools and conditions to stabilise exchange rates in the event that the US Federal Reserve (Fed) may continue to raise interest rates further. In addition to stabilising exchange rates, Hung also affirmed that one of priority objectives is controlling inflation.

According to experts, inflation was low in the first half of this year but its inflationary expectation remained high. Hence, monetary policy must be cautious. This rate cut reflected this approach. The SBV said it will closely monitor lending sources in the economy.

Pressures on interest rates stay high
As SBV Governor Hung said, the operating rate cut decision has signalling values, heralding the new wave of lending rate cuts after the common ground of interest rates had been brought to the low level before 2006 - 2007.

From this signal, some commercial banks may start to cut market rates. A director from a commercial bank anticipated that the SBV allows credit institutions to consider access to refinancing channels via VAMC's special bonds after it sells bad debts. After the 0.25 per cent cut, the refinancing rate was brought to 6.25 per cent per annum and the maximum rate on this channel may be at most 4.25 per cent per annum. This cost is worth considering since the ceiling rate of short-term deposit rate is 5.5 per cent per annum.

In addition, from August 2017, the resolution on bad debt settlement adopted by the National Assembly will go into force. The system has got a catalyst in support of settling bad debt and expected on a better, quicker results. Major resources in bad debt treatment will be recreated to further stimulate lending rate cuts.

However, it is important that interest rates are still under upward pressure. The first pressure still comes from bad debts which have amounted to over VND600 trillion while owner's equity of banks was just VND667 trillion at the end of the first quarter of 2017, according to the SBV. It is obvious that bad debt is almost equal to the owner's equity of banks.

The resolution on bad debt handling will accelerate and substantially improve the process of debt settlement. Banks will announce their debts as stated in the resolution and will cause bad debts to go up, thus driving up operating expenses and increasing pressures on interest rate hikes.

On the other hand, deposit growth has not been as high as credit growth since the beginning of the year, resulting in a paradox and danger for the illiquid banking system.

According to banking experts, in VND100 mobilised, VND80 will be lent out and VND20 will be retained to ensure liquidity in case customers withdraw money. Banks cannot lend all VND100 or even more than VND100 because risks will be enormous, e.g. liquidity risk and interest rate risk.

In conclusion, the regulator's rate direction aimed to support businesses and the economy will face many daunting challenges.

Bao Chau

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