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Banking & Finance

New foreign exchange regime underway

Released at: 19:05, 06/01/2016

New foreign exchange regime underway

Mr. Bui Quoc Dung, Director of the SBV's Monetary Policy Department, spoke with VET about the new exchange rate regime introduced on January 4.

by Nguyen Hoai - Hung Khanh

On January 4 the State Bank of Vietnam (SBV) officially changed to a new exchange rate regime, where the rate is pegged to three benchmarks: demand and supply of the Vietnam dong (VND), the exchange rates for a basket of eight strong foreign currencies, and for any change to balance macro-economic needs.

Why has the SBV decided to change the exchange rate regime?

Many years ago the central bank conducted stable monetary policy via commitments to keep the exchange rate steady for certain periods. In general, that was suitable with the prevailing conditions. The market was stable and this helped control inflation, stabilize the macro-economy, increase the fight against dollarization, and increase foreign currency reserves and financial capacity during the 2011-2015 period.  

However, during the last half of 2015 the SBV recognized that international markets now have a greater impact on Vietnam, especially currency exchange rates. We expect the US Federal Reserve will increase interest rates four times this year, and the Chinese Yuan officially being an international reserve currency will lead to many unpredictable fluctuations. Vietnam has now more deeply integrated internationally, with many free trade agreements (FTAs) signed and the TPP and AEC coming into being.    

The SBV had to consider changing the exchange rate regime because of these factors. On December 31 it issued Decision No. 2780 announcing a central exchange rate between the VND and the USD, and cross exchange rates with the eight strong currencies, instead of announcing a solid exchange rate, as previously.

What are the benchmarks and how will announcements be made?

From the beginning of 2016 the SBV will announce a central exchange rate every day for the VND/USD, which would be used by financial institutions authorized to trade in foreign currencies. The rate is calculated based on the three benchmarks I mentioned above.

Besides announcing the central rate daily, each week the SBV will calculate the cross exchange rate between the VND and the eight other currencies.

This is an important movement in the process fighting dollarization and increasing the position of the VND in international markets, stabilizing the foreign currency market. The SBV began this process in 2011.

Why is the central rate based on those three particular benchmarks and not more or even fewer?

We looked at other countries, which we consider can be placed into two groups. The first group, typically China, base their exchange rate on the closing rate of the previous day, which is the benchmark for today’s opening price. The disadvantage of this is that a “big hand” can manipulate the market and incorrectly reflect fluctuations in the market.

The second group, typically Singapore and Kuwait, calculate exchange rates based on a basket of international currencies. This method has the advantage of being quickly able to adapt to the market, but its disadvantage is that it is overly dependent on international factors.  

Therefore, the SBV chose a different method that has factors reflecting both the local and international situation.

The SBV Governor will calculate the weighted average of exchange rates in the interbank market and closing point of the previous day. This is more objective because the results come from previous trade rather than a particular moment. To calculate the average of foreign currencies, the figures used are the closing point in the previous five sessions, with a figure announced at 7am.

Why did the SBV choose a basket of eight currencies and not more ?

The eight currencies include the USD, the Euro, the Yuan, the Japanese Yen, the Singapore Dollar, the South Korean Won, the Thai Baht, and the Taiwan Dollar.  

These currencies were selected based on trade and investment with Vietnam.

How did the market react to the new regime on the first day?

This new regime will facilitate stronger performance in the foreign currency derivatives market, meeting the requirements for risk prevention in exchange rates and increase liquidity in the market.

On the first day, January 4, the central rate was VND21,896 per USD, up VND6 compared with the exchange rate announced by the central bank on December 31.

The market was calm in adopting the change, with good liquidity seen, and the exchange rate stabilized at around VND22,500, about VND40-50 lower than the previous ceiling. Market demand was fully met, and there was a lot of positive feedback about the new regime.

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