Morgan Stanley: VN Economy still hot, but it's on the correction path! (27/06/2008)

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What''''s new? June inflation and trade data were released today. Both indicators are important to watch for Vietnam as they are key in gauging whether policy measures to rein in the overheated economy are taking effect. We note that whilst inflation continued to rise, trade deficit appeared to have bucked the widening trend. Details as follows:

Inflation still trending up: June inflation rose 26.8%YoY (vs 25.2%YoY in May-08). On a sequential basis, inflation rose 2.1%MoM (vs +3.9%MoM in May-08). Food and foodstuff accounted for 90% of the 1.6%-pt uptick in headline as prices in the segment rose 45.6%YoY (vs 42.4%YoY in May). Elevated price pressures were also seen in housing & house maintenance (+23.7%YoY vs +23.0%YoY in May). Meanwhile, transport and communication continued to
stay high at 14.9%YoY (vs +15.5%YoY in May) on the back of the 12-36% increase in retail fuel prices earlier in February. By our calculation, core inflation (excluding food & transportation) picked up to 12.3%YoY (vs +11.7%YoY in May).

Trade deficits high but narrowing: Trade data showed some positive signs as exports grew 31.4%YoY (vs+43.6%YoY in May) and imports decelerated to 35.7%YoY (vs +45.1%YoY in May). Specifically,
automobile imports weakened to 68.3%YoY (vs +196.2%YoY in May-08) as auto import tariffs were raised from 60% in March to 83% as at end-May. Imports of steel products also decelerated to 28.5%YoY (vs +49.8%YoY in May-08) amid the slowing of the real
estate market. Consequently, trade deficit narrowed to ?"US$1.3bn (- 20.2% of GDP on annualized basis), down from ?"US$1.9bn (-30% of GDP) in May-08 and the peak of ?"US$3.3bn (-53.3% of GDP) in Mar-08.

Corrective measures slowly taking effect: June trade data suggests that tightening measures are slowly beginning to take effect. The real effect of the Central Bank lifting the maximum lending rate from 13.1% to 18% on May 19 and then from 18% to 21% on June 10 will continue to be reflected in the growth numbers going forward. As it is,
credit growth has already slowed at the margin from 6.3%MoM in January to 1.2%MoM in June. Indeed, we expect GDP growth to slow to 5.5%-6.0% by 1Q09 from 7.5% in 1Q08. This should alleviate the stress on balance-of-payments as imports slow further. Moreover, a recent ban should also put a lid of gold imports, which have picked up recently as Vietnamese turn to gold as a hedge against rising inflation.

Risks remain; More policy tightening in the cards: Supply-side inflation pressures remain a concern, particularly as capacity utilization in the economy stays high. The government has imposed controls on 10 commodities (petrol, electricity, coal, water, cement, steel, school/hospital fees, bus, rail & air travel). However, there are risks of upward adjustments if commodity prices continue to stay on an upward ascent. In that regard, we believe the Central Bank could hike the base rate by an additional 2-3% over the next 1-2 months if circumstances warrant.