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Cablegate: (Sbu) Hcmc's Surprising Gold Markets

DE RUEHHM #0676/01 3520952
O 180952Z DEC 09




E.O. 12958: N/A

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1. (SBU) Summary. Not far from HCMC, a huge, 24-karat gold
plated effigy of the late Ho Chi Minh on display in Vietnam's
largest Buddhist temple is an interesting metaphor for two
somewhat incongruous realities: the Vietnamese people's
reverence for the founder of Communist Vietnam and their abiding
faith in the value of gold and commerce. That faith in gold and
commerce is also reflected in the fact that the 2,000 gold
dealers located in HCMC comprise what is arguably the most
efficient, transparent and least regulated market in the
country. Ordinary Vietnamese see gold (often hidden away in
walls or under floors) as an investment, a hedge on inflation, a
safeguard against unforeseen drastic changes in GVN policy, and
the most reliable medium of both exchange and storing wealth.
One HCMC financial analyst calls gold the "ultimate local
confidence indicator," explaining that when Vietnamese see
economic policy drifting away from market reality, they trade in
gold. Merchants use gold as a way to avoid taxes or to get
around limitations on the purchase and use of foreign exchange
and business and individuals alike use the gold markets as the
"free market" for exchanging between Vietnamese dong (VND) and
U.S. dollars ($US). Vietnam's gold trading markets can reach a
daily turnover of $3 billion, dwarfing the stock exchange which
often records less than $100 million in turnover. The
remarkably versatile role that gold plays in the Vietnamese
economy is increasing drawing the attention of senior Vietnamese
officials, who are now talking about ways to limit gold trading.
Experts warn that, if enacted, such moves would only drive the
market underground. Restrictions on gold trading intended to
stabilize the value of the VND would almost certainly backfire
by removing what has emerged as a key safety valve in Vietnam's
mixed state/private economy. End Summary.

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The Complex Nature of the HCMC Gold Market
2. (SBU) The price of gold seems to obey strange rules in HCMC.
At times, gold can be purchased here for less than on the world
market; at other times, such as the days leading up to the
exchange and interest rate adjustments announced by the State
Bank of Vietnam on November 26, domestic prices can exceed world
prices by as much as 20%. According to HCMC-based World Gold
Council representative Huynh Trung Khanh, the perplexing
behavior of the gold market, especially the divergence between
the world and domestic gold price is a function of many factors,
including GVN policies that peg the Vietnam Dong (VND) to the
USD and limit gold imports in an (eventually unsuccessful)
effort to manage the country's balance of payments.

3. (SBU) The State Bank of Vietnam (SBV) sets import quotas for
gold and assigns the right to (legally) import gold to roughly a
dozen privileged companies. The largest of these are Saigon Gold
and Jewelry Company, Phu Nhuan Gold and Jewelry Company,
Sacombank Jewelry, Agribank Gold and Silver Company and the Asia
Commercial Bank. According to World Gold Council estimates,
Vietnam's gold-consuming industries use between 20 and 22 tons
of gold per year, meaning that roughly 70 percent of the 60-some
tons of gold that Vietnam imported last year went "into the
mattress." Official limitations on gold imports serve as a
narrowing of the pipeline rather than a solid impediment.
Official limitations on supply mean that local market demand for
gold often exceeds the supply, pushing the local price above the
world price. The difference between the world and domestic gold
prices is held in check gold smuggling. The primary smuggling
route is across Vietnam's border with Cambodia and into HCMC's
roughly two thousand private gold shops. Those shops pay for
the gold using dollars purchased at the "free market" (also
called unofficial or "black market") rate. The shops then sell
it to Vietnamese buyers either for dollars or for the equivalent
VND price based on the prevailing "free market" rate. The
industry best guess, based on gold trade throughout the region
as well as current and historical consumption patterns, is that
between 40 and 50 tons of gold per year are smuggled into
Vietnam, and that the stock of privately-held gold in Vietnam
ranges from 600 to 700 tons, worth $22-25 billion USD. To put
that into perspective, the value of privately held gold easily
exceeds official national reserves.

4. (SBU) "The unofficial currency market is strongly influenced
by the price of gold," SBV governor Nguyen Van Giau told the
press when he announced the decision to issue additional gold
import quotas on November 25. One former multilateral
development bank economist seconded that statement in a
conversation with the Consulate, attributing significant
pressure on the VND/USD "free market" exchange rate to HCMC's
2,000 gold shops buying USD above the official maximum VND/USD
exchange rate to purchase gold in Cambodia. This drain on the
already restricted flow of hard currency makes it more difficult

HO CHI MIN 00000676 002.2 OF 003

for businesses get the dollars they need for international
trade, and obliges the SBV to find other ways to provide more
USD liquidity through the banking system.

Gold is Useful for Getting around Inconvenient Rules
--------------------------------------------- -------
5. (SBU) Gold is an important mechanism for getting around
official currency exchange constraints, said one expat banker,
and will remain so until Vietnam fully liberalizes the VND/USD
exchange rate. While gold shops are legally prohibited from
conducting foreign exchange transactions, the practice is
ubiquitous -- so much so that various GVN-owned media outlets
provide daily (or even up to the minute via SMS) "free market"
exchange rate quotes. To maintain a semblance of legality, gold
shops typically log two transactions when exchanging currency --
gold sale for dollars versus gold purchase for VND at a price
that reflect the "free market" VND/USD exchange rate. While
banks are legally required to buy and sell dollars within the
official trading band, (currently 17,961 VND/dollar plus/minus
three percent), many also circumvent the rules by selling gold
for dollars then buying the gold with VND with a service charge
that just captures the difference between the "free market" and
official VND/USD exchange rate.

6. (SBU) For many Vietnamese looking to make large payments, but
who don't want to be troubled by paperwork or tax bills, gold
remains the currency of choice. While payment in US dollars or
even VND was gaining increasing acceptance over the past several
years, the disparity between legal and market dollar rates that
prevailed for much of 2009 made sellers of real estate and other
big ticket items reluctant to put up with exchange rate risks if
they accepted VND or the risk that they would be required to
exchange their USD for VND at the official rather than free
market rate. Gold provides a great, and very traditional,
alternative. Except for a few of the larger banks and gold
companies like Saigon Jewelry Company and Phu Nhuan Jewelry
Company, gold merchants rarely provide tax invoices for gold
transactions so the government never needs to know exactly how
much was bought or sold. The "off the books" nature of the gold
business is indirectly recognized by the GVN since, as Khanh of
the World Gold Council notes, gold shops pay a fixed tax per
month rather than a tax on the volume of transactions or on

Gold is an Expression of Confidence, or Lack Thereof
--------------------------------------------- -------
7. (SBU) HCMC bankers and investment fund managers emphasize
that gold is a good store of value in high-inflation periods
such as Vietnam experienced in 2008. They also explained that
gold prices reflect local anxieties about Vietnam's balance of
payments and budget deficits, and by extension an expectation of
long-term strength or weakness in the Vietnam currency. The
real value of Vietnam's currency is based on the strength of the
economy, WGC's Khanh agreed, adding that even without high
inflation people will buy gold until the currency is fully
convertible. Khanh says that although the SBV claims there is
no shortage of dollars, the free market exchange rate has yet to
converge with the SBV's official maximum rate, which is
currently set at 18,479 VND/USD. (Note: As of December 16, the
free market rate was 19,400, or roughly 5% above the legal
limit.) Until there are enough dollars in the system, that
situation won't change and people will look for trusted
alternatives like gold.

8. (SBU) The price of gold can also be read as an indicator of
confidence, Khanh said, as shown by State Bank of Vietnam
macroeconomic moves on November 26. Two days earlier, on
November 24, the price of gold in Vietnam at "free market"
exchange rates was US$ 27 per troy ounce above the world price.
(Note: Using the "official" exchange rate yielded a domestic
Vietnamese gold price a whopping US$ 221 above the world price
-- a figure that was quoted in some local press articles about
gold fever. End Note.) Two weeks later, on December 7, the
price of gold in Vietnam based upon the free market exchange
rate had dropped to US$ 56 per troy ounce below the world price.
These dramatic shifts show that the market read the November 26
exchange rate adjustment as a step toward market reality and
greater currency liberalization, a local portfolio investment
manager said. Many other HCMC analysts tell us gold is the
leading indicator of Vietnamese confidence in their government's
economic policies, with several mentioning that the cancellation
of short-term interest rate subsidy helped cool fears of a
return to high inflation in 2Q 2010.

Time to Regulate Vietnam's Most Efficient Market?
--------------------------------------------- ----

HO CHI MIN 00000676 003.2 OF 003

9. (SBU) One of the secrets to the success of the HCMC gold
market is that it largely operates in a legal and regulatory
vacuum. A local HCMC equities analyst explained that even
though gold imports are regulated, once the gold is in the
country domestic trading is so lightly regulated that a huge
market has developed in recent years -- a market with daily
volumes of reported gold transactions sometimes reaching US$ 3
billion. In comparison, the HCMC Stock Exchange sometimes
closes with less than $100 million in daily turnover. The
analyst said the lack of rules for gold trading have allowed the
market to flourish, explaining that "gold is more liquid than
Vietnamese stocks, gold transactions settle instantly so you
don't wait three days as with stocks, you can short gold, you
can leverage gold, ruthless competition minimizes transaction
fees, and information is virtually transparent. None of this
can be said for stocks in Vietnam."

10. (SBU) This unregulated activity makes some of Vietnam's
leaders nervous. SBV governor Nguyen Van Giau told the National
Assembly that gold exchanges operate in a "legal loophole" that
no agency currently regulates. There is a public discussion
over regulating gold, with some like former SBV governor and
member of the National Financial and Monetary Policy Advisory
Council (NFMPAC) Cao Sy Kiem arguing for strict control over
gold trading to help the GVN better manage Vietnam's economy.
Most HCMC analysts believe this would just push gold trading
underground. $1.4 to $1.8 billion dollars worth of gold will be
smuggled into Vietnam this year and the GVN won't be able to
turn that off overnight, a gold industry analyst stated. HCMC
University of Economic professor and NFMPAC member Tran Hoang
Ngan urged caution, "although gold exchanges have negative
impacts on the market, the government should facilitate their
business with better management."

11. (SBU) The lesson we take from the operation of the HCMC gold
shops is that free markets can and do work remarkably
efficiently in Vietnam. With virtually no regulation or
oversight, the gold market operates on extremely thin margins;
trust in the market is so high that ordinary Vietnamese do not
hesitate to engage in fairly large (in comparison to their
income) transactions via small gold shops; complaints of
non-delivery or debasement are so rare as to be almost a
non-issue; and international financial listing routinely list
the "SJC" (Saigon Jewelry Company) gold closing prices right
alongside prices from New York and Zurich. The broader lesson
is that the gold market has been functioning as both a safety
valve and reality check on what is happening in more tightly
controlled markets such as the official currency exchanges and
the stock market. Prior to the November 24 "adjustments" by the
SBV, the SBV, GVN -- and everyone else -- only needed to look at
the "free market" VND-USD exchange rate set via HCMC's gold
shops to understand that the official exchange rate was
dangerously out of touch with reality. An attempt to severely
restrict the operation of the HCMC gold market would almost
certainly have the perverse impact of further undermining
confidence in the VND by convincing ordinary Vietnamese that
they need to increase their golden hedges against economic
uncertainty. End Comment.

Postscript: A Note on the Value of Gold in Vietnam
--------------------------------------------- -----
12. (SBU) Gold prices in Vietnam are quoted in obscure measures
(like "chi" and "tael" and "luong"). Some reporters quote them
at official currency exchange rates that, while binding to
international companies, hold less meaning for ordinary
Vietnamese while others use free market rates. The results can
be confusing. For this cable, we've taken into account official
VND/USD exchange rates, "free market" VND/USD exchange rates in
HCMC, world gold prices, spot gold prices in Vietnam, and import
tariffs. Lastly, Vietnamese gold markets also differ from world
markets in that the most commonly quoted price in Vietnam is the
delivered price (since Vietnamese traditionally store much of
their wealth in gold hidden in their homes or elsewhere). World
market prices, on the other hand, do not include the cost of
physical delivery since relatively few world buyers actually
take possession of the metal they purchase (instead relying on
large depositories). We did not attempt to correct for this
last difference in world and Vietnamese market prices.

13. (U) This cable was coordinated with Embassy Hanoi.

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