Inflation in the Economy of Vietnam and Measures against It

Topics: Monetary policy, Inflation, Central bank Pages: 10 (3213 words) Published: December 1, 2013

Macroeconomic Assignment
Topic: Inflation in the economy and selected measures against inflation


Vietnam joined the World Trade Organization in January 2007 and transformed from a heavily indebted country to a low middle income one in 2010. After opening up the country’s economy to foreign investors, its GDP grew by 7.3% on average from 2001 to 2010. While Vietnam survived the global slowdown of 2008 quite well relative to its neighbors with GDP growing by 6.8% in 2010. In 2011, Vietnam has experienced persistently high inflation at 23%. The economic growth rate is no longer the number one priority in year 2011 while top priority is to combat against inflation

While it is well known that Vietnam is experiencing double-digit CPI inflation again in 2011, it has directly affected the lives of the people, especially the poor and has raised a difficult task for the government to maintain macroeconomic stability. It is important to understand what has been driving this high inflation. Some people blamed factors such as the soaring prices of oil and other commodities in the world market while some economists argued that the cause of high inflation was losing macroeconomic policies, including inappropriate monetary and exchange rate policy of the monetary authority. Some other people asserted that expansionary fiscal policy in the form of huge investment in large state-owned firms in 2009-2010 lead to a double digit in inflation rate.

Demand-driven as well as cost-push inflation
Global commodity prices: Given that food accounts for over 30% of the CPI basket, it is no real surprise that movements in global food commodity prices have a material impact on headline CPI inflation. While Vietnam is an important rice exporter, it is an importer of other food items, such as milk, animal feeds, wheat, and vegetable oil. Thus the rise in global food prices can also increase imported inflation. Oil prices do not have a statistically significant impact during the sample period, as the government regulates domestic prices. Service sector real GDP growth: the growth of the service sector to be most relevant for explaining movements in inflation, better than overall GDP itself. This is probably because service sector GDP is a better proxy for the strength of domestic demand (e.g., domestic retail sales, spending on property, for example), whereas industrial GDP reflects the performance of the export sector. Strong domestic demand growth tends to result in demand-pull inflation as producers are more willing to pass on higher input costs to consumers, which also fits well with the fact that the housing, transport, and education components have been adding to the inflation. Money growth: strong expansion in money supply in 2009-2010 caused by loose monetary policy and excessive credit growth (which has been above 20% in the past few years in Vietnam) also leads to higher inflation. This is yet another indication that the inflation we are seeing in Vietnam is not simply imported inflation, but rather a demand-driven phenomenon that needs to be solved by monetary policy.

This essay will identify how successful contractionary monetary and fiscal policy bring the year on year inflation fell from 23% in August 2011 to 7% in November 2012. In order to stabilize macroeconomic environment in Vietnam, the government has implemented both contractionary monetary policy and fiscal policy to help reduce high inflation as described in the graph below.

3.1 Contractionary monetary policy
3.1.1 High lending interest rate

The State Bank of Vietnam reversed the process of tightening monetary policies by raising short term interest rates in the economy which...
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