Vietnam - Economic Update

The IMF has published its latest assessment of the Vietnamese economy under its Article IV process.   This note briefly summarises the main points.

Recent Economic Developments

Growth has resumed, but it is below its pre-pandemic trajectory.  Real GDP expanded by 2.6% in 2021, slower than regional peers, because of lockdowns and supply disruptions.

High frequency indicators – retail sales, industrial production, firm entry – point to stronger momentum in 2022.

The labour market is showing signs of recovery, but underemployment remains high, particularly in services.

Consumer prices are edging up, but core inflation in April was still below the 4% target.

The current account surplus moved from a 4.4% GDP surplus in 2020 to a deficit of 1% GDP in 2021, as a result of supply bottlenecks, higher import prices and muted tourism.

FX reserves rose by USD 14.3bn over the year, and the real effective exchange rate appreciated slightly.

In the IMF’s opinion, the external position in 2021 is somewhat stronger than implied by medium term fundamentals and desired policies.

Macroeconomic policies – monetary policy, financial sector support/policies, fiscal policy – have been supportive, but the last of these has been beset with implementation challenges, reflecting capacity constraints and weaknesses in the social protection system.

Overall, financial conditions are accommodative, but uncertainty about bank asset quality is high and risks in the property and corporate bond markets are rising.

Outlook

IMF staff project real GDP growth of 6% YoY in 2022 and 7.2% YoY in 2023 – assuming vaccine effectiveness, abated supply disruptions and a normalisation of activity in 2022.

Fiscal stimulus and strong export growth are expected to compensate for a more gradual rebound in private consumption.   Headline inflation is forecast to be running at 3.9% YoY, with core inflation of 2.3% YoY, at the end of 2022.

Over the medium term, the IMF estimates output loss due to COVID scarring could be around 3% of GDP.

A table summarising the IMF’s projections appears below.

Fiscal Policy

The IMF is comfortable that Vietnam’s Programme for Recovery and Development (PRD) is appropriately prioritising health, economic recovery and medium-term prospects, but it is concerned that low efficiency and weak execution could undermine its effect.

In forecasting a 4.7% GDP fiscal deficit, it has assumed only partial implementation of planned spending, in line with past experience.

In addition, it has suggested ways in which support could be better targeted.  For example, it favours cash transfers over a temporary cut in the environmental protection tax (0.3% GDP) as a measure to limit the rise in domestic oil prices, and it believes tax deferrals (1.6% GDP) and interest rate subsidies (0.5% GDP) would better have been concentrated on the most vulnerable viable firms / SMEs.

Over the longer-term, the IMF has highlighted the need to build resilience to climate change, to strengthen the social safety net and to improve revenue mobilisation.

Vietnam is more exposed to climate change than many countries (the IMF estimates 10% to 15% of GDP could be lost by 2050).   The geographical risk is heterogenous, with the central provinces being most impacted by extreme weather events …

 … and the Mekong Delta and the industrial belt around Ho Chi Minh City most exposed to rising sea levels.

Revenue mobilisation is low compared to peers, and the IMF is suggesting there is a need to reduce exemptions, to rationalise FDI exemptions, to broaden the VAT base and to introduce property taxes.

The IMF has welcomed the recent increase in the retirement age, but it suggests reforms are needed to address unfunded pension liabilities as well as the sustainability and fairness of pensions.

Monetary and Exchange Rate Policy

Whilst monetary policy is currently judged appropriate, the IMF is suggesting increasing vigilance is required.

The growth in the money supply and credit have significantly exceeded nominal GDP growth.

Credit/GDP of c.125%, when coupled with high borrower leverage, poses asset quality risks.

FX reserves are judged to be broadly adequate (at round 3.5 months of imports), allowing the exchange rate to be allowed to operate as a shock absorber, especially if global tightening proves to be premature from a domestic perspective.

The IMF recommends a gradual relaxation in credit growth ceilings (both in aggregate and bank-by-bank) and in short-term deposit and lending rate caps for priority sectors, to strengthen market-based pricing.  It is advocating further strengthening in the macroprudential toolkit.

Financial Sector Policies

With the economy recovering, the IMF believes regulatory forbearance on loan classification should not be extended beyond the middle of the year.  It suggests the central bank should consider accelerating provisioning for restructured loans ahead of schedule.

Given the level of impaired loans and the exposure of banks to certain sectors and borrower groups, it believes their capital adequacy needs to be carefully supervised and, if necessary, credible restoration plans submitted.  The banks’ plans for Basel II adoption needs to be carefully monitored.

Consideration should be given to increasing foreign ownership limits as well as to introducing measures such as countercyclical capital buffers, capital conservation buffers, limits on loan-to-value and debt service-to-income ratios, and adjustments to risk weights.

Whilst the corporate bond market is growing rapidly, private placements dominate public issuance.  Capital markets need to deepen further.  This requires the development of a credit rating agency, strengthened disclosure requirements and the appropriate enforcement of securities regulation.

Macro-Structural Policies

Vietnam is increasingly significant in global value chains for high-tech products, and spending on R&D and patents is at levels consistent with its per capita income.

However, at the company level, technology absorption is lower than it should be.  A large fraction of household businesses are informal.  Steps are needed to create a level playing field for finance and land access, to simplify complex licencing, and to adjust regulations which are inhibiting the development of SMEs.

Further efforts are also required to improve the quality of the labour force and to reduce skill mismatches.  University-level and vocational-technical skills are under supplied and on-the-job skill acquisition does not fill the gap, as few firms provide formal training.

Wealth and income inequality is low in Vietnam compared to regional peers.  Nonetheless, it has widened with the pandemic, as low-income households and SMEs have been hardest hit, and booming asset prices have disproportionately benefited the wealthy.  Steps which could be taken to reduce inequality include better targeting of fiscal/credit support, improving the progressivity of the tax system (eg. through a property tax), and increasing public social spending.

Efforts are being made to strengthen the anti-corruption framework.  Notably, a decree on assets and income declaration by people with position and power has resulted in declarations by 1.3 million people to date.  Steps are also being made to promote e-government, to reduce regulations and licencing requirements. and to strengthen the anti-money laundering framework.   Nevertheless, in the opinion of the IMF, “corruption remains a serious and complex challenge”.

For access to the full report, please use the following ling to the IMF’s website:

https://www.imf.org/en/Countries/VNM