PM DECLARES WAR ON INFLATION, WB STILL OPTIMISTIC ON

UNCLAS SECTION 01 OF 02 HANOI 000377 SIPDIS SENSITIVE SIPDIS SINGAPORE FOR TREASURY TREASURY FOR SCHUN USTR FOR BISBEE E.O. 12958: N/A TAGS: ECON EFIN ETRD EINV VM SUBJECT: PM DECLARES WAR ON INFLATION, WB STILL OPTIMISTIC ON ECONOMIC OUTLOOK REF: A) Hanoi 206 ("Frozen Assets"); B) 07 HANOI 1929 ("Authorities Scramble To Stay Above Water"); C) Hanoi 193 ("Vietnam's 2007 Economy"); D) 07 Hanoi 1729 ("Vietnam's Inflationary Conundrum"); E) 07 Hanoi 2013 (Inflation Hit 10 Percent) HANOI 00000377 001.2 OF 002 ¶1. (U) Summary: With inflation in Vietnam hitting 19.4 percent year-on-year for March, the Prime Minister has very publicly made lowering inflation on of his top priorities, and has just released a seven-point plan to ease inflationary pressures. Despite the domestic macroeconomic challenges and the current global economic slowdown, the World Bank is optimistic that Vietnam will continue to attract significant foreign investment in 2008. End summary. ¶2. (U) Vietnam's General Statistics Office reported on March 25 that inflation has reached 19.4 percent year-on-year for March, up from 15.7 percent in February. The news prompted a flurry of action by the Government of Vietnam (GVN),including the release of a seven-point plan to fight inflation and the statement on March 31 that fighting inflation was now one of the GVN's top priorities, placed above meeting the nation's economic growth targets for 2008. The World Bank also met with the Prime Minister to share its views on Vietnam's macro-economic situation and to recommend a course of action. PRIME MINISTER'S SEVEN-POINT PLAN ¶3. (U) On March 28, perhaps in an effort to prepare the public for some economic belt tightening, the Prime Minister (PM) revised the estimate for 2008 economic growth from 9 down to 7.5 percent. A few days later, on March 31, the PM released his seven-point plan to fight inflation, calling for coordinated efforts by all agencies at all levels and noting that the plan would "exact a price" on the country's economic growth. The first measure will be to further tighten monetary policy to reduce money supply and credit growth, but without restricting legitimate foreign exchange available for production and export activities. The second measure will be to cut down on State Budget expenditures and to control "investments of State Owned Enterprises (SOEs)". (Note: This second clause is perhaps the most critical, as SOEs have been borrowing heavily from commercial banks in 2007 and early 2008.) ¶4. (U) The third measure will focus on the development of agriculture and industry to "reverse the adverse consequences of inclement weather and disease on food supplies" (REFS A, B). The Plan notes that food "production development is key to increasing supply for in-country use and export." (Note: A significant portion of Vietnam's inflation is driven by rising food prices.) ¶5. Similarly, the fourth measure looks to find a balance between the supply and demand of goods to increase exports and reduce the trade deficit. The plan specifies that the GVN will not increase fuel and petrol prices before June 2008 and caps rice exports at four million tons. This measure also holds that the GVN will apply a "flexible exchange rate with an appropriate trading band...without impacting exports." Finally, in classic GVN-speak, the plan asks businesses to "increase exports and control imports to balance trade." To that end, PM Dung said that import tariffs for non-essential goods would be raised in a manner consistent with Vietnam's WTO and other bilateral commitments. (Note: Vietnam's trade deficit more than tripled in the first quarter of 2008, reaching $7.37 billion. It is not clear how the last part of this measure will be implemented in the short term, as Vietnam's exports are still heavily dependent on imported materials and machinery.) ¶6. (U) The fifth measure asks GVN and provincial offices to cut ten percent of their administration expenses, and calls for private sector businesses to do the same. Citizens are encouraged to save fuel and energy in their daily activities. Measure six notes that "market management should be further supervised" to avoid speculation and smuggling, especially in key goods such as petrol, cement, steel, medicine and food. Finally, measure seven indicates that the GVN will implement social welfare policies and increase salaries and allowances to help citizens cope with rising prices. WORLD BANK OFFERS ITS OWN SOLUTIONS ¶7. (U) The World Bank (WB) conducted a roundtable on Vietnam's macroeconomic situation with the Prime Minister on March 20, and then made its points public in a forum on April 1. In his presentation, Lead Economist for Vietnam Martin Rama noted that inflation, a growing current account deficit, and the real estate bubble all indicate that Vietnam's economy is overheating. Rama made clear that it would be difficult to maintain Vietnam's HANOI 00000377 002.2 OF 002 "impossible trinity" of controlling interest and exchange rates in the face of rising capital inflows (REF C-E) and offered some concrete steps to ease inflationary pressures. ¶8. (U) Rather than lending caps on banks to cool the real estate market, the WB feels that an earlier introduction of the planned property tax would be advisable, perhaps combined with a tax on short-term capital gains from land. A property tax would reduce speculation without creating distortions in the market like those seen as a result of the securities cap implemented in 2007. Rama noted that such a tax might also make government bonds more attractive to investors, thereby allowing the State Bank of Vietnam's (SBV) "sterilization" of currency inflows more to be more effective. (Note: The property tax is not scheduled to be rolled out until 2009, but the mere mention of it in the press last fall caused a brief but noticeable drop in property prices.) ¶9. (U) The WB also advised Vietnam to adopt a more modern management style for funds held by state agencies, specifically those held by Vietnam Social Security (VSS). VSS has approximately $4 billion in pension funds, and is accumulating at a rate of one billion a year. The WB suggests that VSS purchase bonds on the domestic market, rather than forcing the SBV to mop up liquidity through compulsory bond purchases. Rama cautioned SOE's against questionable investments, noting their role in credit growth. Finally, the WB advised the GVN to de-link from the U.S. dollar, and recommended instead that it reference a "basket" of currencies which would help it respond to regional inflationary pressures. WORLD BANK POSITIVE ON VIETNAM'S FUTURE ¶10. (U) Despite the macroeconomic challenges, the WB believes significant foreign investment in Vietnam will continue through 2008 and sees a "low probability" of capital flight. The WB is forecasting between 7.5 and 8 percent GDP growth for Vietnam in 2008, and between a 10.1 and 10.8 percent increase in FDI. The Bank does not expect VN to be amongst the most "directly affected" by the global slowdown, and instead believes that VN will gain market share as it is not a margin producer like some countries. Rama noted that low dollar interest rates will likely create a liquidity surge which could result in an influx of short-term capital for Vietnam and stressed that better tracking of capital flows is needed. POLITICAL ANGLE - THE PRIME MINISTER SPEAKS ¶11. (U) Prime Minister Dung returned from an extended overseas trip last month to a nation seriously rattled by inflation, which continued to increase rapidly even after the early February Tet holiday, when prices traditionally spike. This, combined with continuing problems in the equity markets and unsettling fluctuations in the currency's value against the dollar, catapulted economic issues to the top of the government's agenda. Dung's advisers have told us that he understands that he must be seen as in control and taking action, and the very public March 31 rollout of the "plan" is definitely part of an effort to influence popular psychology. The U.S. economic slowdown is cited as influencing Vietnam's current situation, but, to its credit, the GVN is not sugar coating its domestic economic problems. The GVN knows that its legitimacy rests to a large degree on its economic performance, and is appropriately concerned that a further deepening of current problems could undermine its support. MICHALAK