VIETNAM'S BUDGET SQUEEZE

UNCLAS SECTION 01 OF 02 HANOI 000262 SENSITIVE SIPDIS STATE FOR EAP/MLS MBROWN SINGAPORE FOR TREASURY TREASURY FOR SCHUN USTR FOR DBISBEE E.O. 12958: N/A TAGS: EINV ECON VM SUBJECT: VIETNAM'S BUDGET SQUEEZE REF: Hanoi 138 ("GVN Rolls Out Stimulus Package") HANOI 00000262 001.4 OF 002 ¶1. (SBU) Summary: In light of the global economic downturn, the GVN is in the process of revising its 2009 budget to reflect decreasing revenues and increasing expenditures. Although the budget deficit is not yet public, the GVN plans to finance the shortfall through increased bond issuances and additional ODA support. Given the GVN's history of failed bond issuances and the lack of clarity on how much will be needed, concern remains that the GVN is not adequately preparing to meet its financing needs. Its ability to implement additional economic stimulus will also be limited. End summary. Deficit is Growing, But By How Much? -------------- ¶2. (SBU) During a March 9-13 visit to Hanoi and Ho Chi Minh, Singapore-based Treasury Attache and Econoffs discussed the budget situation with Government of Vietnam (GVN) officials, think tank economists, and private bankers. Ministry of Finance (MoF) budget officials said that the original 2009 budget carried significant financing requirements of approximately VND 52 trillion, or $3 billion (2.9% of GDP by Vietnamese standards or 4.8% of GDP by international standards - reftel). The 2009 budget was made in October, 2008, using what now look like optimistic assumptions of 6.5% GDP growth, trade growth of 13%, inflation of 15% and oil at $60 per barrel. ¶3. (SBU) MoF officials admitted that 30% of their revenue comes from a percentage tax on oil exports, which will immediately fall as the price of oil falls. Roughly another 30% of revenue comes from taxes on trade, and was already expected to fall as WTO commitments were implemented, but now has been doubly hurt by the decrease in trade due to the global slowdown. Some costs of Vietnam's stimulus plan, including delaying the introduction of the new personal income tax, lowering the corporate tax rate and cutting the value-added tax rates for some items will affect revenues adversely but the precise figures are not yet known (Reftel). The MoF is working on a revised 2009 budget for approval by the GVN this month and submission to the National Assembly in May, but off-the-cuff figures in the press project a $5.3 billion budget shortfall. The IMF estimates that the deficit will increase to over 8% of GDP by international standards if current conditions hold. So How to Pay the Bills? -------------- ¶4. (SBU) It is difficult to predict what effect the stimulus package will have on economic growth and therefore revenue given the complexity of the Vietnamese tax system. The Acting Country Director of the World Bank notes that roughly 9% of GDP is held in various government bank accounts by the provincial governments as a way to self-insure against changes in budget allocations. He believes that urging the provinces to spend these funds could help stimulate the economy. (Comment: Provinces are not likely to comply with this suggestion during economically difficult times, when budget revenues are already unpredictable.) ¶5. (SBU) As for other revenue options, MoF budget officials suggested that the GVN could raise the fuel tax (which was lowered to 0% last year during the height of inflation and rocketing global oil prices) but does not have current plans to do so. MoF is not able to tap any privatization proceeds or dividends from "equitized" (partially privatized) companies, as these items now accrue to the State Capital Investment Corporation (SCIC),not to the budget, and SCIC has not made any transfers to the budget. MoF is, however, considering a postponement of the 20% increase in government salaries scheduled for April. Bonds - .007 Percent? -------------- ¶6. (SBU) The GVN's usual method of financing, debt issuance, also appears to be its favored solution now, but is not without complications. The GVN is seeking the National Assembly's approval to issue an extra VND 11.5 trillion ($676 million) in bonds, which would bring the total debt issuances scheduled for 2009 to VND 55 trillion ($3.2 billion). The new head of the External Finance and Debt Management Department at the MoF, Nguyen Thanh Do, highlighted the need for more domestic debt issuances this year but lamented the failure of their 2008 fund raising efforts. Due to lack of realistic pricing expectations, the GVN only raised about half of HANOI 00000262 002.2 OF 002 their target in the domestic bond market in 2008. For example, he said, when interest rates were at 17-18%, the GVN (specifically the MoF's Banks/Non-Banks Department, which sets borrowing policies) capped the offers they would accept at 9.5%. ¶7. (SBU) Dr. Do was hopeful that this year the rate cap will be replaced with an auction system, to reflect more market based pricing. An ex-MoF official at an influential think tank also argued that the GVN needs to be more realistic about the cost of raising funds and move to an auction mechanism for bonds. He said that he expected 60-70% of the deficit to be domestically funded, partially via bonds denominated in dollars, and 30-40% to be external debt at concessional rates. ¶8. (SBU) The concept of dollar-denominated bonds continues to be controversial. Dr. Do expressed concerns about the short run impact on foreign exchange liquidity and the medium term impact on dollarization that the proposed domestic dollar bond would cause. He said that officials had been swayed by a State Bank of Vietnam (SBV) report that the domestic banks had surplus dollar liquidity of around $2 billion. They have had exploratory discussions with four large state-owned commercial banks (SOCBs),who have indicated that they could buy $300 to $400 million each. ¶9. (SBU) While Dr. Do said these were indications of interest, not concrete offers, it seems likely that the SOCBs will each be allocated a portion of the funds. Dr. Do believed the offering would be priced by auction, and that the MoF will sell the foreign exchange proceeds to the SBV to increase its foreign exchange reserves. The SBV will then use these reserves to improve liquidity. (Note: Moving the dollars around on-shore from the SOCBs to the SBV will not increase total dollar liquidity in the system, but other sources have told us that the SOCBs are being told to pay for the bonds by liquidating off-shore accounts held in dollars, which if true, could help increase foreign exchange reserves at the SBV.) ¶10. (SBU) Staffers at the SBV's Monetary Policy and Forecasting divisions were also concerned about the idea of a U.S. dollar domestic bond because excessive dollarization of the domestic economy undermines their ability to manage monetary policy and increases the risk for the financial system. The staffers contended that dollar liquidity in the banking system had improved, although private bankers in HCMC scoffed at the idea that they could freely trade the currency within the band set by the SBV. Bankers agreed that liquidity had improved somewhat, but dismissed the idea that the market was functioning freely or that the SBV was defending the band effectively. ODA To The Rescue? -------------- ¶11. (SBU) The GVN realizes that it will not be able to cover its entire budget shortfall through bond issuances. Dr. Do thought the ADB would be able to increase its loans to Vietnam this year by $300 million and that the World Bank could increase its budget support funding to Vietnam by around $1 billion through regular processes, using normal commercial terms. The World Bank confirmed that it could frontload some of its $1.5 billion in authorized lending for the next three years to increase budget support by about $1 billion in 2009. ADB says it is discussing the possibility of a joint loan package with the World Bank that would total $1 to 1.5 billion of direct budget support. Comment -------------- ¶12. (SBU) Until a revised budget is released, it is difficult to know exactly how much of a shortfall the GVN will have this year. Theoretically, $1.5 billion in extra ODA plus $3.2 billion in bond issuances might allow the GVN to eke by, but that assumes it can actually issue bonds successfully. Given MoF opposition to offering market rates and the global aversion to risk during the economic downturn, such success is highly unlikely. These budget constraints will also limit the GVN's ability to add additional stimulus should the current package prove ineffective or should the economy deteriorate further. ¶13. (U) This cable was coordinated with Con Gen HCMC. MICHALAK