Is Vietnammms Development Overheating?

The World Bank’s report said Vietnam’s growth reached 8.5 per cent in 2007, making it the third consecutive year above the 88 per-cent benchmark. Fears that the WTO accession (early in 2007) would adversely affect agriculture and retail trade failed to materialize. The business climate continued to improve, with the investment rate reaching above 40 per cent of GDP. Growth was increasingly driven by the private sector, with 59,000 new enterprises registering during the year, 26 per cent over the year before. Foreign direct investment (FDI) commitments almost doubled, to US$20.3 billion whereas stock market capitalization reached 43 per cent of GDP by end of 2007, compared to 1.5 per cent in 2005. Nonnâ€oil exports grew by 27 per cent, bringing total exports to 68 per cent of GDP by year end. International reserves increased by over US$10 billion to US$21.6 billion, equivalent to 30.2 per cent of GDP or 3.3 months worth of imports. Business surveys consistently show a large majority of respondents foreseeing continued expansion in 2008.

 

However, the report says the Vietnamese economy shows signs of overheating. Inflation accelerated from 6.6 per cent (year on year) in December 2006 to 15.7 per cent by February 2008. To some extent, this reflects the rapid increase in international prices, especially for food, oil, and construction materials. With the Vietnamese dong loosely pegged to the dollar and a very open economy, changes in world prices are rapidly reflected in domestic prices. Higher domestic oil prices also reflected the removal of government subsidies to local distributors, a sound policy on fiscal grounds.

 

The report also adds that the current account of the balance of payments recorded an unusually large deficit in 2007 in the range of 9.3 per cent to 9.7 per cent of GDP. Imports surged by almost 40 per cent, with growth especially strong for capital goods (56.5 per cent) due mainly to imports of commercial aircraft and oil refinery equipment. Growth was also strong for intermediate goods (40 per cent) used in the production of garments and footwear, chemical products, plastic and livestock.

 

Besides, in 2007, asset prices also climbed rapidly - stocks in the first half of the year and real estate in the second. When the State Bank of Vietnam (SBV) capped lending for the purchase of securities, and the number and size of companies listed expanded rapidly, the stock market fever receded. But the fever moved to the real estate market, where rapid increases in property prices have raised the prospect of a potentially dangerous bubble.

 

Overheating is not the result of excessive government spending. Indeed, the overall budget deficit for 2007 stood at around 1 per cent of GDP. This preliminary figure does not represent a significant departure in relation to previous years. The overall fiscal balance was larger at around 5 per cent of GDP, including the issuance of government bonds for education, infrastructure and the recapitalization of Stateeâ€owned commercial banks.

 

On the other hand, there was rapid acceleration in credit growth, from 25.4 per cent in 2006 to 50.6 per cent by November 2007. This frenetic pace raises concerns about the quality of the portfolios of banks. Lending by joint stock banks grew by a remarkable 95 per cent, but state-owned commercial banks were more cautious, increasing lending by only 25 per cent to improve the overall quality of their loan portfolio prior to equitisation.

 

Towards the end of 2007 and in early 2008, the central bank took dramatic contradictory measures resulting in a severe lack of liquidity. It stopped foreign currency purchases, increased reserve requirements, forced placement of SBV bonds with banks, and stopped rolling over reverse repos. This led to a sharp spike in overnight interest rates that peaked at 40 per cent.

 

According to the World Bank Report, growth in developing East Asia will decline by around one to two percentage points to around 8.5 per cent in 2008 as a result of the unfolding financial turmoil in the US and the resulting global slowdown.

 

The report says despite the likely drop from recent double-digit levels, overall growth remains healthy across the region and most countries are well positioned to navigate the global slowdown because of the investments they’ve made in the last 10 years in structural reforms and putting sound macroeconomic policies in place.

 

The report finds that most East Asian countries continued to see strong rates of economic activity through 2007 and into early 2008, despite falling US import growth, and rising volatility in global financial markets. China, which is expected to drop from its 11.4 per cent growth rate in 2007 to 9.4 per cent in 2008, continues to perform strongly because of rising domestic investment and consumption growth. Stronger remittance flows to the Philippines supported robust consumption growth while in Indonesia, growth accelerated to a 10-year high of 6.3 per cent mainly because of booming private investment and consumption. Even in Thailand, which saw private consumption and investment weaken because of unsettled political conditions, growth still came in at a respectable 4.8 per cent.

 

Part of the reason for the continuing buoyancy is that East Asian exporters have benefited in recent times from trade both within the region and beyond to markets other than the US. The region has recorded export growth at levels as high as 17 per cent to developing country markets outside East Asia.

 

“Domestic demand is now playing a much bigger role in driving growth in the East Asia region,” says Vikram Nehru, the World Bank’s chief economist for the East Asia and Pacific. “East Asia has also been able to diversify its export markets so, even though there is a significant decline in demand from the United States, East Asia has been able to compensate by exporting larger amounts to Europe and to other developing countries.”

 

But the report warns that the real challenge for governments of the region is the inflationary effect of mounting food and fuel prices especially because of the harsh burden this imposes on the poor.

 

“While the sub-prime crisis will have its impacts – possibly on some countries more than others – the more immediate concern is that in virtually every East Asian country, inflation is climbing to uncomfortable levels,” said Jim Adams, Vice President of the World Bank’s East Asia and Pacific region. “We are already seeing real incomes of poor people living in rural and urban areas decline substantially as a result of higher food prices.”