Stronger Intervention in Forex Market

US dollar fever has constantly set new record rates of exchange for the local Vietnamese dong. The exchange rate of the US dollar against the dong surpassed the benchmark of 21,000 on November 4, 2010. Strains of the growing exchange rate in the Vietnamese banking system forced the Government to adopt interventional policies. The exchange rate will continued to be pegged and the State Bank of Vietnam (SBV) will sell US dollars to stabilise the market.

 

Amid skyrocketing prices of US dollars and mounting interest rates of gold, foreign currency and the Vietnamese dong, on November 3, the Government met to discuss this pressing issue. On November 4, Chairman of National Financial Oversight Committee Le Duc Thuy held a press briefing to announce the Government’s latest instructions on interest and exchange rates. Accordingly, the Government determined not to change the exchange rate from now through the Traditional New Year, which falls on February. At the same time, it decided to give up interest reduction policies and allow banks to mobilise and lend on the basis of market-driven interest rates.

 

On November 3, the Government decided to use foreign exchange reserves to fund the demand for foreign currencies for fundamental production activities, rather than adopt other solutions like adjusting (raising) the exchange rate or exchange rate band. Mr Le Duc Thuy said the Government instructed the State Bank of Vietnam (SBV) - or the central bank - to take strong interventional measures and supply foreign currencies to stabilise the market in case of forex tensions. The demand for foreign currencies for essential production activities will be sufficiently met and borrowers will be satisfied as soon as practicable.

 

This is a clear response to rumours that the exchange rate would continue to be adjusted due to mounting pressures on the foreign exchange market. The USD/VND exchange rate climbed from 20,000 on November 2 to 21,000 on November 4 before the government’s new policies were adopted. Then, the rate on the free market dropped steeply but soon rebounded, worsening concerns on the market. Before that, from the end of September, the US dollar price escalated, fuelled by bad news about rising inflation and trade gap, in the first nine months.

 

The data from the National Financial Oversight Committee showed that the State Bank purchased some US$300 million in September and sold about US$200 million in October. The committee said although Vietnam’s foreign exchange reserves have been reduced, they are still enough to stabilise the market. The current macroeconomic situation is good enough to intervene in the foreign exchange market. October exports have accelerated while imports have been brought under control. The full-year exports are estimated to increase 23 %. The trade gap is now predicted at US$12.5 billion, or even US$12 billion, in 2010, lower than previous estimates of US$13.5 - 14 billion. The balance of payment deficit was around US$9 billion in 2009, but is expected to be only US$4 billion in 2010, a sharp fall. GDP growth may go beyond this year’s initial estimates. Current foreign exchange reserves are equivalent to 6-7 weeks of imports.

 

The Government has decided to intervene in the market for the purposes of stabilisation by selling reserved US dollars as it anticipated very bad scenario and domino effects on other areas, especially inflation, if the exchange rate was adjusted. Measures like raising the centre rate or widening horizontal bands were not taken into account.

 

With respect to interest rates, the Government previously directed banks to lower interest rates, but the situation has now changed. Economic development objectives are fundamentally completed while the consumer price index (CPI) is tending to increase. The lower interest rate will weaken the local dong. Thus, the Government decided not to lower interest rates, but to allow banks to apply market-oriented interest rates, meaning an acceptance of higher rates. The central bank also uses open market interest rates to tune up deposit and lending rates instead of using the base rate. At the same time, banks are not allowed to take any measures to hike USD interest rates.

 

The US dollar is weakening against other currencies globally, but the greenback is strengthening in Vietnam day after day. This is causing a dual depreciation of the Vietnamese dong: losing value in exchange with the US dollar and the value of US dollar in exchange of other currencies.

 

Since early 2010, the USD/JPY exchange rate slumped from 92.55 to 80.62, or in other words, the Japanese yen gained 12.9 % against the dollar. Although the euro lost 17 % of its value against the dollar, from 1.4387 to 1.1914, in the first half of this year, it then rebounded to 1.4017.

 

In the region, the greenback also depreciated against other currencies. Singapore dollar (SGD) gained 8.2 % against the US dollar, from 1.4037 to 1.288 SGD per dollar. Thai baht (THB) also strengthened 10.7 % against the dollar, to 29.72 THB per dollar.

 

Financiers are keeping a close watch on the Fed’s moves. On November 3, 2010, the US Federal Reserve announced its decision to spend US$600 billion to purchase long-term treasury bills in eight months. Besides, the Fed will reinvest US$250-300 billion in treasury bills over the same period, though the realized amount of reinvestment will depend on the evolution of actual principal payments. Taken together, the Fed anticipates conducting US$850 to US$900 billion of purchases of longer-term treasury securities through the end of the third quarter of 2011. In addition, the Fed also kept the prime rate unchanged at 0.25 % and pledged to retain this rate for some time. This move showed that the Fed has engaged in quantitative easing, as it pumped US$1,700 billion into the economy. This move has raised concerns over a further depreciation of the US dollar against other currencies.

 

Meanwhile, in Vietnam, the USD/VND exchange rate continues to go up and set new record highs. The rate is predicted to continue to climb in the coming time. While people in Vietnam know that the US dollar is losing its value all over the world as a result of the Fed’s stimulus packages, they so far remain smitten with the greenback.