Mainland should note Vietnam prices
If mainland policy-makers are in any doubt about the dangers of holding down the value of their currency in the face of heavy capital inflows, they only have to look at Vietnam for a salutary lesson about what can go wrong.
For much of the past year, Vietnam has been the undisputed darling of the Asian investment community. Since last June when a new prime minister took office pledging to restart Hanoi's stalled programme of economic reforms, overseas companies and institutions have been piling in with unbounded eagerness. Last year Vietnam attracted a record US$7.6 billion in foreign direct investment, while the benchmark index on the five-year old Ho Chi Minh City stock market shot up 147 per cent, making it easily the region's best performer.
Vietnam's long-awaited accession to the World Trade Organisation at the end of the year only fuelled the enthusiasm. In January alone, foreign investors pumped a record US$350 million into Vietnamese equities. By March daily trading volumes had soared sixfold and the market had climbed a further 58 per cent.
International investment banks rushed out glowing research reports talking up the economy's growth prospects and gushing about the investment opportunities. 'Watch it grow' commanded UBS. 'Asia's new tiger cub' proclaimed Morgan Stanley. Meanwhile Lehman Brothers forecast that this year Vietnam would draw in US$8.9 billion in foreign direct investment, up 17 per cent from last year and nearly seven times the inflow of five years ago.
Economic growth has certainly been impressive. In the first half of the year Vietnam's gross domestic product expanded by 7.9 per cent year-on-year, propelled by robust investment growth, sharply rising industrial production and surging exports.
Economists expect a similarly strong performance over the second half, assisted by Hanoi's policy of steering an annual 1 per cent depreciation of Vietnam's currency, the dong, against the US dollar to encourage the export sector.
But not everything is rosy. Vietnam is also grappling with some of the problems caused by rapid growth and investment.
Not surprisingly, the bubble in Vietnamese stocks has deflated. The index is down by 24 per cent from its March peak and trading volumes have subsided to a fraction of their former levels. Even so, stocks still look pricey, and with investor enthusiasm dented by recent hitches in the government's privatisation programme, analysts at HSBC expect the index to fall by another 8 per cent before the end of the year.
More troubling is inflation (see chart). Like other countries with undervalued currencies facing strong investment inflows, Vietnam has struggled to manage domestic liquidity growth and the resulting price increases. Now, hammered by sharp rises in food prices in line with the global trend, the authorities are in danger of losing their grip.
According to official figures released yesterday, consumer prices rose 8.4 per cent over the year to July, outstripping the economy's growth rate and easily exceeding the government's target. Food prices were up 15 per cent, while housing costs rose 11 per cent.
Inflation is dangerous. It hits the poor disproportionately and can cause popular discontent. That might not be happening yet, but it could soon, both in Vietnam and elsewhere.