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ASEAN Economic Bulletin Vol.26, No.1, April 2009 - Banking and Financial Sector Reform in Vietnam

ASEAN Economic Bulletin Vol.26, No.1, April 2009 - Banking and Financial Sector Reform in Vietnam

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ASEAN Economic Bulletin44Vol. 26, No. 1, April 2009
 ASEAN Economic Bulletin Vol. 26, No. 1 (2009), pp. 44–57
ISSN 0217-4472 print / ISSN 1793-2831 electronic© 2009 ISEASDOI: 10.1355/ae26-1d
Banking and Financial SectorReforms in Vietnam
Suiwah Leung
This paper summarizes Vietnam’s developments in the banking and financial sector to date. Itassesses the system’s weaknesses that played an important role during the macroeconomicturbulence of 2008. It then discusses the need for deeper reforms of the country’s keymacroeconomic institutions. In general, for Vietnam to achieve its goal of becoming a modernindustrialized economy by 2020, it needs to have world-class public institutions tocomplement a flexible and entrepreneurial private sector. Nowhere is this more true than inthe banking and financial markets where effective policy-making and skilful regulation haveto be balanced against profitable risk-taking — all set against a background of commitment toa one-party state where social and political stability still reigns supreme.
Keywords:
Finance, banking, institutional reforms, macroeconomic turbulence, prudential supervision.
I.Introduction
Vietnam has made significant progress in socio-economic development since
 Doi Moi
sometwenty years ago, and is well on the way tobecome a middle-income country. This wasachieved essentially through two phases of economic reforms:
 Doi Moi
1 (1986–1996), and
 Doi Moi
2 (2001–2007). The success of 
 Doi Moi
1in opening the economy to international trade andinvestment has been amply documented (see, for example, Dollar and Litvack 1998; Leung andThanh 1996; Riedel 1999). However, the trade andinvestment regime throughout the 1990s was sotilted towards the state sector that the prospects for continued growth were limited. Almost all theforeign direct investment (FDI) at the time wentinto joint ventures with the state-ownedenterprises where both productivity andprofitability were low. It was not surprising thatthe inflow of FDI began dwindling as early as1996, well before the onset of the Asian financialcrisis in mid-1997 (see Figure 1 below, and Leungforthcoming). Since the new millennium,
 Doi Moi
2 began “unleashing” the domestic private sector and addressed the discrimination inherent in thetrade and investment regime, starting with theEnterprises law in 2000, the Unified EnterprisesLaw in 2005, the Vietnam-U.S. bilateral tradeagreement in 2006, and culminating in the much-discussed Vietnam’s entry into the WTO in 2007.This second phase of reforms resulted in rates of economic growth second only to that of China’s,fuelled by FDI and remittances, this time linkingVietnam’s domestic private sector to the vibrant
 
ASEAN Economic Bulletin45Vol. 26, No. 1, April 2009
production network of the Asian region, and fastclosing the development gap between Vietnam andits original ASEAN neighbours (Bingham andLeung forthcoming).At the same time, research shows that,compared with low-income developing countrieson the one hand, and high-income developedcountries on the other, middle-income emergingmarket economies are the most vulnerable tofinancial crises and instability — the 2008 creditcrisis in the United States notwithstanding(Reinhart and Reinhart 2008). This paper thereforeassesses Vietnam’s developments in the bankingand financial sector to date, and focuses on deeper institutional reforms in the future. In general, for Vietnam to realize its goal of becoming a modernindustrialized economy by 2020, it needs to haveworld-class public institutions to complement aflexible and entrepreneurial private sector.Nowhere is this more true than in the banking andfinancial markets where effective policy-makingand skilful regulation have to be balanced againstprofitable risk-taking, all set against a backgroundof commitment to a one-party state where socialand political stability still reigns supreme.This paper is structured as follows. Section IIgives a brief summary of the recent financialsector developments and an assessment of theunresolved problems. Section III discusses theasset price bubble and macroeconomic instabilityof mid-2008, and the extent to which these weredirectly and indirectly related to the unresolvedproblems in the financial sector. Section IV pointsout the need for continued deep institutionalreforms in order to take advantage of financialglobalization whilst minimizing the risks of financial crises. The concluding section addressesthe balance of interests in contemporaryVietnamese society which could affect thelikelihood of such reforms being adopted.
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  e
Year
   P  e  r  c  e  n   t  o   f   G   D   P
Registed CapitalImplemented Capital
FIGURE 1FDI Inflow to Vietnam (as percentage of GDP)
S
OURCES
: 1991–2007 FDI inflow data from GSO, Available at <http://www.gso.gov.vn>, Accessed date: 28 December 2008.Estimated data for 2008 are from Reuter: <http://www.fxstreet.com/news/forex-news/article.aspx?StoryId=7609b5c1-1012-4599-b075-59b3e903281b>.
 
ASEAN Economic Bulletin46Vol. 26, No. 1, April 2009
II.Recent Financial Sector Developments
The various steps in the liberalization and reformof Vietnam’s formal financial sector as the countrymoved from plan to market have been documentedand analysed in the literature (World Bank 2002;Kovsted et al. 2005; IFC 2007, 2008). Without adoubt, the most significant steps include thederegulation of domestic interest rates (on bothdong and foreign currency deposits and loans)during the period 1996–2002, the decision in May2005 to restructure the state-owned commercialbanks (SOCBs) and have them equitized by 2010,and of course the recent decision to permit 100 per cent foreign-owned banks to enter the market asper commitment to WTO. Meanwhile, theexchange rate is still administered and exchangecontrols remain in place. Rather than reviewingthe history of these reforms, this section highlightscertain recent developments in the Vietnamesefinancial sector that are pertinent for macro-economic stability and for the continued growthand development of its economy.Table 1 shows that formal financial markets inVietnam both grew and diversified rapidly inrecent years. Bank deposits as a percentage of GDP grew quickly from 60 per cent in 2004 to99 per cent in 2007 before falling back to 92 per cent in 2008, reflecting monetary deepening in theeconomy in the medium term, but also short-termfinancial turbulence towards the latter half of 2007 (see section III below). Share marketcapitalization also grew from about 6 per cent of GDP in 2005 to 15 per cent in 2008. Signs of ashare market bubble are certainly evident in 2006and 2007 when capitalization peaked at 43 per cent of GDP before falling back to 15 per centtowards end-2008. Bonds (especially privatesector corporate bonds), insurance and pensionfunds became established in the new millennium,but have remained relatively small.TABLE 1Financial Markets in Vietnam(Percentage of GDP)
 2002200320042005200620072008
 f 
Deposits as % of GDP
a
48526067789992Loans as % of GDP
a
45526170759393Share market (total capitalization)
b
0.962.063.505.5522.6143.3815Outstanding bonds as percentage of GDP
c
NA7.38.48.28.113.715.1Insurance premium (both life and non-life)
d
1.441.722.001.631.541.44NAPension funds
e
3.453.594.124.043.70NANA
S
OURCE
:a.World Bank,
Vietnam Development Report 2009: Capital Matters, World Bank Report to the VietnamConsultative Group Meeting, Hanoi, December 4–5, 2008
.b.State Security Commission.c.Asian Development Bank Asian bonds online: accessed 26 December 2008. Figure for 2008 is at the endof September 2008.d.Thorsten Beck, Asli Demirgüç-Kunt and Ross Levine, “A New Database on Financial Development andStructure”,
World Bank Economic Review
14 (2000): 597–605. Data updated to November 2008.e.Balance in pension fund from World Bank,
Vietnam Development Report 2008: Social Protection
,
 Joint Donor Report to the Vietnam Consultative Group Meeting, Hanoi, December 6–7, 2007
.f.Estimated figures for 2008 from World Bank,
Vietnam Development Report 2009: Capital Matters, World  Bank Report to the Vietnam Consultative Group Meeting, Hanoi, December 4–5, 2008
.

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