Economists have warned that elevated levels of short term corporate debt threaten the economic stability of Vietnam.

Easy short term credit has initially stimulated lending and economic growth in the country, says French investment bank Natixis in a newly released report, but it has been expanding much too rapidly.

As a result, credit standards have become too loose, defaults are mounting and borrowers are devoting more of their current income to repaying old loans—a sign that big trouble could be brewing.

A sizable portion of the borrowings have been made to Vietnam state owned enterprises, which are notorious for their inefficiency and low profitability. Their loans would pay off only if used for profitable projects, the report suggests— and it’s not clear that they are.

Corporate debt can slow the economy even in times of overall growth. Money that would otherwise be spent on things such as manufacturing facilities, modern machinery and equipment, vehicles, research and development, and infrastructure increasingly gets diverted to making payments on the growing debt.

Debt, once accumulated, constrains demand, warned Natixis.

Vietnam state-run enterprises are saddled with more debt than the most private corporations, notes Frederick Burke, partner with the international law firm Baker & McKenzie in Ho Chi Minh City.

These enterprises are heavily involved in operating businesses in a large number of economic segments, everything from natural gas to garment and textiles manufacturing. He says they account for roughly one-third of the country’s GDP.

Property developers operating in Vietnam are also more likely than not heavily leveraged with too much short-term debt, Burke adds.

If loans go toward state owned enterprises that don’t turn a profit or investment in single family residential units that don’t sell, that directly leads to insolvency and higher bad debts, which in turn negatively impact the economy, say economists. 

The Vietnam modern economy cannot function without borrowing and lending, and hence private debt, say economists. But loans must be used to pursue projects expected to bring earnings sufficient to meet the debt service principal and interest repayments plus an adequate return on investment.

Without such loans, these profitable business ventures would lack the requisite capital to make them viable.

While it remains to be seen to what extent the current level of private short term debt is problematic, economists caution that the country in not likely to deleverage without significant negative consequences.

Policy makers must be mindful that credit expansion and particularly short term borrowings is by far outpacing economic growth, says French investment bank Natixis in its report out this month.

The must take care to not encourage disproportionate run-ups in private debt in the future by keeping borrowing rates artificially low or by encouraging borrowings by marginally profitable businesses or those in elevated risk segments of the economy.

Most importantly they must tighten credit policies to encourage responsible long-term lending in lieu of short term borrowings and take note that private debt in Vietnam has hovered above 100% of GDP since 2011.

A statistic that the International Monetary Fund describes as a severe negative.

VOV