On June 14, 2017, the Federal Reserve (Fed) raised the interest rate by 0.25%. It was the third hike since December. Surprisingly, after Fed’s announcement, the domestic foreign exchange market remained stable.

According to economist Dr Can Van Luc, there are many reasons behind this stability.

“Besides the fact that financial markets in the world did not fluctuate significantly, there are other reasons. The “central exchange rate” control mechanism protected the Vietnamese economy to a remarkable degree from the influences of the world financial market. 

However, the most important thing is that the supply and demand of foreign currency in Vietnam is stable. The supply of foreign currency from exports, foreign direct investment, official development assistance (ODA) fund disbursement, tourism, and overseas remittances increased steadily in the first five months of 2017,” Luc said.

Although the exchange rate was not altered after the Fed’s decision, many experts called attention to exchange rate pressures. This originates from the rising trade deficit and foreign currency loans.

“Since the beginning of 2017, trade deficit reached US$2.5 billion. It may rise to US$7 billion by the end of this year, which would put pressure on the VND/USD exchange rate in some periods,” Ngo Dang Khoa, country head of global markets at HSBC Bank Vietnam, said, adding that enterprises which operate in industries largely affected by interest rate fluctuations and exchange rate risks should closely monitor the market and prepare for appropriate risk management.

Making the same statement as Khoa, Dr Luc added that foreign currency loans increased by 4.64% in the first four months of 2017, while the same period last year experienced no such increases. Along with the trade deficit, increasing foreign currency loans put pressure on the VND/USD exchange rate.

Raise or not to raise?

The zero interest rate policy on USD deposits is applied by SBV since 2015. Along with many other policies, this measure has decreased dollarisation in the Vietnamese economy. 

However, this policy is showing some shortcomings when overseas remittances are on a downward trend and commercial banks are finding loopholes in regulations to increase their USD deposits.

A representative said that the SBV is reviewing these shortcomings and is considering policy adjustments. According to speculations, there are two main additional reasons why SBV is still considering the move, the first being the worry about dollarisation and the second the fact that USD holdings among the population are small and not worth throwing out a good policy over.

Dr Luc, who has time and again proposed SBV to raise the USD deposit rate, said that it is hard to tell the exact amount of USD holdings among the population and it should be carefully assessed. However, when the Vietnamese economy has a shortage of foreign currency, the more USD deposits, the better.

Regarding the worry about dollarisation, according to Dr Luc, the problem is not worth worrying about. 

Even when the USD deposit rate was raised to 0.25% as it used to be in the past, people will not straight-out switch from USD to VND deposits, because the difference remains significant, at more than six percentage points per year.

Previously, when talking to VIR, economist Dr Le Xuan Nghia said that the simplest way to raise USD deposits is to raise the deposit rate and give permission to USD loans. 

When there is an abundant supply of USD, commercial banks have to reduce USD interest rates, after which the loan rates will even out.

VIR