Cablegate: Gvn has Tough Economic Choices Ahead

DE RUEHHI #0881/01 2120901
P 300901Z JUL 08




E.O. 12958: N/A

Ref: A) Hanoi 634
B) Hanoi 774

HANOI 00000881 001.2 OF 003

1. (SBU) Summary: Treasury Deputy Assistant Secretary Robert
Dohner, in meetings with Vietnamese government officials on July 2
and 3, conveyed that Vietnam's prospects are still strongly positive
but appropriate policy choices over the next few months would be
critical to achieving a more stable macroeconomic situation.
Officials consistently responded that inflation is the government's
highest priority, and agreed with DAS Dohner on the need for fiscal
tightening (to cool Vietnam's overheating economy) and for improved
communications with markets.

2. (SBU) There was less agreement (and in some cases lack of
consensus within the government) on the extent of risks to the
banking system; the need to increase interest rates to retain
deposits in the banking system; the advisability of administrative
measures targeted at reducing imports; and the need to ensure
continuous trading and market clearing in the market for U.S.

3. (SBU) Finally, there appears to be some reconsideration (but no
consensus) within the Vietnamese government of the advisability of
granting banking licenses to state-owned industrial companies. End

Larger Problems May Surface in Banking System

4. (SBU) DAS Dohner discussed banking system risks in separate
meetings on July 2 and 3 in Hanoi with the State Bank of Vietnam
(SBV) Deputy Governor for Bank Supervision, Nguyen Van Binh, and the
Office of the Government's (OOG) Banking and Finance Department
Director, Pham Van Phuong. Both OOG and SBV said that the banking
system is "under control" and that the banking system has "survived
the most difficult period." Binh reported that liquidity problems
are confined to small joint stock commercial banks (JSCBs), which
comprise only 5-6 percent of banking system assets, and that "state
owned commercial banks and the larger JSCBs (comprising more than 90
percent of banking assets) are all safe and sound." [Comment: The
SBV is providing "liquidity support" to a number of small private
banks, about 12 -20 in total, and is holding them under close
supervision.] Binh highlighted that the latest data from January
showed non-performing loans (NPLs) in "the safe range" of 3.5
percent of total loans, a slight increase from 2 percent at the end
of last year. A contact at the World Bank predicts, however, that
NPLs will take another big jump before the end of the year.
[Comment: NPLs are a backward looking measure. It usually takes 6
months to 1 year from the onset of a crisis for the NPL ratio to
show a significant increase.]

5. (SBU) Dohner expressed concern about potential future problems
in the banking sector, noting Vietnam's rapid credit growth amidst
weak risk management and aggressive lending to the stock and real
estate asset bubbles. [Comment: According to GVN calculations, in
2007 credit outstanding grew by 50 percent overall, and by over 90
percent for private sector banks. In the first quarter of 2008,
overall credit grew approximately 15 percent compared to end of
2007.] Dohner urged officials to "get ready" and develop a response
plan for bank failures that includes swift resolution of insolvent
banks and protection for depositors.

6. (SBU) OOG's Phuong stated development of such a plan is
underway, which was later confirmed by the World Bank
representative. Phoung noted that small banks are receiving
liquidity support because the GVN fears that any bank failure, no
matter how minor, could cause a loss of confidence in the entire
banking system. He explained that the "government has directed the
SBV to support liquidity in the interbank market." He cited
specific efforts to loosen criteria for participation in the
interbank market including lowering the minimum value for negotiated
paper and raising SBV's limits on short-term borrowing.

Direction of Interest Rates Being Debated

7. (SBU) In separate meetings with SBV's Binh, OOG officials, and
Ministry of Planning and Investment (MPI) Deputy Director-General of
National Economic Issues, Dr. Nguyen Phu Ha, DAS Dohner emphasized
the importance of ensuring that bank deposits offer positive real
rates of return to avoid withdrawals from banks to invest in gold or
other durable goods. [Comment: Banks are experiencing difficult
liquidity problems as depositors have been withdrawing funds from

HANOI 00000881 002.2 OF 003

the banking system over the past several months. Interest rates
have not been allowed to rise in line with inflation, thus offering
depositors only negative real rates of return. Vietnamese have been
placing their funds in alternative assets, notably gold. Gold
imports increased 140 percent in first quarter 2008 compared to
first quarter 2007(Reftel A and B).]

8. MPI's Ha noted that debate on interest rates is ongoing within
the GVN - manufacturers and exporters are pressing for lower
interest rates, depositors for higher interest rates, and the
government is seeking to "harmonize all, fight inflation, and have
high growth."

9. (SBU) At a lunch with local representatives of foreign banks,
one observed that JSCBs are lobbying against further increases in
short-term interest rates and hinted that JSCBs are a powerful
lobbying group as many of their CEOs are former SOCB officials. A
representative from GE Money, which just won a license to start a
consumer finance business in Vietnam, expressed concern that the
Vietnamese would institutionalize caps on lending rates which would
"head off consumer lending before it even gets started."

ForEx Market for U.S. Dollars Still Dysfunctional
--------------------------------------------- ----

10. (SBU) To SBV's Binh and OOG officials, Dohner emphasized the
importance of having active trading in foreign exchange markets and
expressed concerns about rationing of foreign exchange to reduce
imports deemed non-critical. [Comment: In the week prior to DAS
Dohner's visit, the SBV issued regulations forbidding two-way
trading of dong and U.S. dollars through third currencies. This
effectively froze the trading of U.S. dollars in the official
market, and the SBV directed sales of its foreign exchange towards
governmental priorities, e.g., oil imports and state-owned
enterprises (SOEs). Reftel B]

11. (SBU) OOG's Phuong explained that reducing imports -- to reduce
the trade deficit -- was one of three targets that had been outlined
at a recent government meeting on addressing inflation. [Comment:
The other two targets are monetary and fiscal tightening.] Dohner
argued that the government would achieve its goal of reducing
imports by slowing economic growth and taking appropriate policy
measures that convince the public that the dong would not rapidly
lose value.

12. (SBU) Separately, a local banker observed to DAS Dohner at a
bankers' lunch that "Vietnamese want gold, oil, anything except
dong. They are afraid of devaluation and so are moving money out of
the dong."

GVN Struggles to Tighten Fiscal Spending

13. (SBU) DAS Dohner noted that monetary policy cannot take the
full brunt of reducing inflation, and urged that fiscal tightening
must also be employed. He emphasized that in order to boost
investor and public confidence the GVN needs to "demonstrate it can
control expenditures." Officials were in strong agreement.
Ministry of Finance (MOF) Vice Minister Ha discussed in detail their
plan for fulfilling the Prime Minister's directive on cutting
non-salary operational budget spending by 10 percent (which MOF
expects will reduce spending by 20 trillion dong or approximately
1.8 percent of GDP.)

14. (SBU) On investment spending, MPI's Ha explained that in early
April the Prime Minister issued a directive for non-critical
investment projects to be delayed. However, when asked, ministries
offered only small projects of little total value as non-critical.
Instead, now the government plans to maintain the original planned
amount of overall investment spending, but fund a fewer number of
projects, as projects costs have increased with inflation.

15. (SBU) Discussions with MPI's Ha revealed a lack of clear state
control over investment spending. She explained that investment
decisions are decentralized to ministries, provinces and SOEs. Also
she explained that despite cutbacks in government funds for
investment projects (many of which involve SOEs), SOEs can and have
been borrowing from banks to continue investments.

16. (SBU) On utilizing increases in the tax revenues, MPI explained
that the government will not use additional tax revenue for
increased expenditure, but instead for covering the deficit. MOF
Vice Minister Ha explained that by law additional budget revenues

HANOI 00000881 003.2 OF 003

are required to be placed in a reserve or to be used for social
welfare projects.

Warnings Against Mixing Commerce and Finance

17. (SBU) In meetings with MPI's Ha and OOG officials, DAS Dohner
expressed concern about SOEs' expansion into the financial sector.
[Comment: In a May report, Fitch Ratings reported that authorities
had issued nine additional banking licenses, almost all of which
were given to state-owned corporate enterprises. According to a
private banker, state-owned Vinashin, however, was recently forced
to step back from an acquisition of a finance company.] Dohner
explained that the United States was averse to non-financial
companies owning banks, and felt that having banks owned by
industrial companies had worked out badly for the Philippines and

18. (SBU) OOG's Phuong responded that the government "is studying
the issue" and emphasized that Vietnam needs to develop its own
solution appropriate for its economic needs. He stated that former
Federal Reserve Governor Alan Greenspan had provided similar advice
against mixing industrial and financial conglomerates during his
meeting with Prime Minister Dung during the PM's trip to Washington
in June.

GVN Aware of Need for Improved Communication

19. (U) Dohner encouraged officials to publish information
regularly on a publicly available schedule, noting that the demand
and importance of information is now higher to calm markets. He
encouraged them to disclose even disappointing information, as it
would assure market participants that nothing is being hidden and
would help prevent rumors.

20. (SBU) Officials were in strong agreement. MPI's Ha noted that
Prime Minister Dung had recently instructed all agencies to better
disclose information to the public. MOF's Ha noted improved
information disclosure is necessary as "some investors don't
understand Vietnam's economy."

21. (SBU) In terms of specific areas where more transparency and
communication could be helpful, the IMF recently noted that the
Ministry of Finance should make a revised budget publicly available
so as to clearly indicate how the Prime Minister's order of a 10
percent fiscal spending cut will be implemented. Further, UNDP's
Chief Vietnam Economist Jonathan Pincus has urged publication of
SOEs audited accounts, to make transparent their level of spending
and borrowing.

22. (SBU) Comment: Government officials, while for months having
voiced anti-inflation rhetoric, appear to have finally shifted into
greater action, likely instigated by the financial downturn of
end-May. Further monetary and fiscal tightening is likely
necessary, but risks lay with interest groups, such as
manufacturers, exporters, and SOEs seeking to keep interest rates
low and investment spending expansive. These entities are using the
slowdown in 2008's second quarter growth to argue for loosening of

23. (SBU) Two risks seem to be under-appreciated by officials.
First, it appears that cutting investment spending will be extremely
difficult given the decentralized nature of investment decision
making. This year will test whether "the government is in charge of
SOEs, or the other way around," one observer noted. Second, while
government officials may be putting on a positive face to bolster
confidence, they may be overly complacent about risks in the banking
system. End Comment.

24. (U) Treasury cleared this cable.


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