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.