The US Federal Reserve (FED) recently cut interest rates by 0.25 percentage points to 4-4.25 percent. This move was welcomed by global financial markets as a signal of a policy shift after a prolonged tightening cycle. 

Global gold prices have cooled and the USD weakened on international markets. In Vietnam, the central exchange rate announced by the State Bank of Vietnam (SBV) on September 18 dropped by VND12 to VND25,186 per USD.

Under this influence, the dong/dollar exchange rate is expected to ease but not automatically reverse, as the exchange rate still depends more on domestic factors, including credit growth, the balance between deposits and lending, the banking system's capital and foreign currency balance, and the SBV's prioritization of macroeconomic stability.

The World Bank noted in its September report that the VND has depreciated against the USD, despite the USD weakening (with the DXY index down 8.95 percent since the start of the year due to trade uncertainties), likely due to domestic factors, including debt repayment obligations.

An SBV official explained: “One of the main reasons is the interest rate differential between VND and USD, as domestic rates have been significantly lowered to support economic growth.”

Low interest rates needed to support growth

At the government’s regular August meeting, SBV Deputy Governor Doan Thai Son noted that core inflation has remained above 3 percent for several consecutive months, a threshold considered an early sign of instability risks. 

He said: “If inflation exceeds a certain level, subsequent control measures will come at a very high cost.”

Data showed that the average interest rate of new loans by late August was only 6.38 percent per year, down 0.56 percentage points from the end of 2024. However, alongside low interest rates, credit growth has boomed. Outstanding loans reached VND17.44 trillion, up 11.68 percent in just eight months, potentially exceeding 20 percent for the full year, the highest in years, far surpassing the familiar 14-15 percent range.

When credit growth rate is high, this leads to banks competing to attract deposits, pushing deposit rates back up, distorting efforts to keep lending rates low. Additionally, the amount of money injected into the economy exceeds absorption capacity, creating medium-term inflationary pressure.

This is the primary reason real interest rates are near zero, making the VND less attractive compared to the USD, as the World Bank has warned.

Exchange rate pressure

As the FED cut rates, the USD Index (DXY) has dropped over 10 percent since the year’s start. This should have been an opportunity for VND stability. However, high USD interest rates while VND rates remain low could trigger capital outflows. 

Notably, from January to August, foreign investors withdrew a net VND78,000 billion, equivalent to 84 percent of the total net sale for all of 2024. Foreign debt repayment pressures have also intensified.

To address this, the SBV had to intervene by selling foreign currency and lowering the central exchange rate by 3.1 percent in the first half of the year. Foreign exchange reserves fell to just 2.4 months of imports, a noticeably thinner safety buffer.

The World Bank’s September report says Vietnam’s space for monetary loosening has become limited. The refinancing rate of 4.5 percent and discount rate of 3 percent which has been maintained since mid-2023, are already at historic lows, bringing real interest rates close to zero.

Aggressive lending has tightened system liquidity, pushing the loan-to-deposit ratio above 100 percent at many banks, including major lenders.

Vietnam’s credit-to-GDP ratio is projected to reach 134 percent by the end of 2024, up from 90 percent in 2015.

The World Bank warned that the credit grows too rapidly, while NPL have risen to 5.3 percent, and the ratio of provisions against bad debts to non-performing loans has nearly halved over the past three years.

Experts believe that with the FED easing and external exchange rate pressure declining, now is the time for policy to refocus on macroeconomic stability.

If inflation expectations slip beyond the target range, the cost of containment will be steep and prolonged. Deputy Governor Doan Thai Son said: “We must act early and stay ahead. We cannot afford to be complacent, because once inflation flares up, the price will be very heavy.”

The FED’s rate cut may bring some calm to international markets, and Vietnam may benefit from this. However, current macro risks are more internal than external: near-zero real interest rates, rapid credit expansion, and declining foreign reserves.

Tu Giang