Interest Rate Will Continue to Decline in Third Quarter

 

The global research team of Standard Chartered has just announced the updated report on Vietnam's economy in the year 2013, in which the bank identified that low inflation rates have created favourable conditions for the SBV to make further cuts in interest rates this year. The SBV has reduced the interest rate to refinance 100 base points in March, immediately after the inflation rate was under 7 percent. In April, inflation remained stable at 6.6 percent compared with the same period last year, lower than the 6.9 percent in the first quarter of 2013 (quarterly average). The core inflation also fell from 12 percent to 11.6 percent compared to the same period last year. According to figures updated periodically by Standard Chartered, since April, 2010, the monthly inflation rate has, for the first time, been negative in April. As predicted, the potential return of inflation will be later than those previously predicted. Therefore, the bank has lowered the forecast inflation rate in 2013 from 8.0 percent to 7.2 percent, and raised the forecast rate in 2014 from 6.0 percent to 8.2 percent.

 

According to the forecast, inflation will continue to increase in the future and the risk of inflation will heighten in the fourth quarter of 2013 under the circumstances that food prices, energy prices and minimum wage increases.

 

The credit growth rate continuing to slow has paid the way for the most recent interest rate cuts. In the period from the end of 2012 to April, 2013, the credit growth rate just reached 1.4 percent. This result, despite being higher than in March, is still far from the target of 12 percent that the government set out for 2013. High interest rates may be the reasons for weak credit growth. However, whether reducing the interest rate will actually lower the cost of raising capital and boost the lending frequencies of the bank or not is still a question. Since the scale of refinancing is still modest, which cannot offset the costs of savings deposits of the banks, the lower interest rate will not directly help to minimise cost to banks. More importantly, the lower costs of saving deposits will help flourish the lending activities. The condition of excess liquidity in the system reflects the banks’ weak management and capacity to solve the bad debts, which are much more challenging than fostering credit growth.

 

In the period from February 2011 to May 10, 2013, the government bond’s yield for 2-year terms was lower than the refinancing rate (in February 2011, the refinancing rate becomes the policy rate, replacing the base rate on May 10, 2013, the SBV cut the interest rates to refinance 100 base points down to 7 percent). The recent cuts in the refinancing rate were 50 percent greater than market expectation. So far, the government bonds’ yields for 2-year terms have been settled at 7.2 percent, higher than the refinancing rate. Standard Chartered predicted this disparity would be narrowed when the banks take full advantage of the refinancing operations to ensure liquidity and therefore, the refinancing rate including costs of risks will reflect in the tough situations of borrowers.

 

The demands for the government bonds mainly come from the banking group. Therefore, according the banks’ forecast, the decrease of borrowing rate will go along with the decrease of the refinancing rate, so the government bonds will continue to rise sharply in the near future. Refinancing is just one of many financing methods of the banks and it may not reflect the overall financing activity. According to the Standard Chartered, the interbank loan activity, savings and refinancing activity through the open market operation (OMO) of the SBV are three major refinancing sources of the domestic banks. The Standard Chartered also found that the government bonds’ yields are still higher than the interest rates of the banks’ borrowers.

 

Although the performance is quite unstable, the overnight lending rate of the banks has been fluctuating in the range of 2 percent to 4 percent for the past 6 months, less than the 400-500 base points compared to the government bonds’ yields in 2 year terms. Along with the slow growth of credit operations, the liquidity of the banking system has become redundant since 2012. With the interest in the reverse repurchasing agreement reduced to 6 percent from 6.5 percent in May 13, the government bonds with terms of over 2 years with higher earnings of 120 base points become intrigued. The ceiling deposit rate in short term is currently set at 7.5 percent, lower than the 8 percent in March. Standard Chartered predicts this ceiling rate will fall further as the inflation growth rate in the short term is still quite low.

Raising the ceiling interest rate is one of the most effective measures to control the lending rate because the savings deposits account for high portion of the financial sources of the bank.

 

The risks of supply sources are low because the financing ability of the government is much higher than estimated. On May 9, Bloomberg quoted the Vietnamese Ministry of Finance saying that, as of the end of April, the amount of capital raised from the government bonds and the Treasury bills has reached VND89 trillion, equivalent to 59 percent of the goal of mobilizing from the debt markets in 2013.

 

Standard Chartered predicts the maturity of the government bonds from 1 to 3 years, which was the most traded, will maintain high interest rates across the yield curve, and the government bonds’ yields generally will go up and stay in line. The bank also predicted the government bonds’ yields in term of 2 years will hit bottom at 6.5 percent versus 7.2 percent at present and 7.7 percent as forecast earlier. The accelerated inflation in the second half of 2013 will limit the increase in the government bonds’ yields, while the real interest rates will undermine the demands by banks for the government bonds. International investors will also look to the transaction costs and foreign exchange risks when investing in government bonds. Standard Chartered predicts the SBV will devalue the Vietnamese Dong by 2-3 percent this year and the USD/VND exchange rate will reach VND21,000 in the fourth quarter of 2013.