By John Ruwitch
BAC NINH, Vietnam, Feb. 18 (Reuters) - For wood craftsman Tong Trong Nghia, Vietnam's bold currency devaluation will likely bring higher costs and squeezed profits.
But for some economists, the Feb. 11 move could be a welcome signal that authorities are getting to grips with woes making Vietnam -- an investment hotspot when it joined the World Trade Organisation in 2007 -- slip off the radar of emerging-market investors.
The key is what steps Vietnam takes in the wake of the 8.5 percent devaluation, the biggest since August 1998. The devaluation, whose magnitude caught the market by surprise, was widely welcomed for narrowing a gap between the official and unofficial currency rates.
"Like China, the priority in Vietnam seems always and everywhere growth," said Tim Condon, chief economist for Asia at ING. Unless the Feb. 11 devaluation is followed by "some action to reduce domestic demand and slow import growth, it's a little hard to see this really having much of an effect," he said.
Vietnam on Thursday took what analysts say could be its first action. The State Bank of Vietnam raised what's called the refinance rate, on short-term loans it offers to domestic banks, by 200 basis points to 11 percent.
But analysts say Hanoi, which did not raise other rates on Thursday, must take a range of steps to boost low confidence in its currency, the dong, and cut double-digit inflation.
Raising rates is "certainly necessary" to try to contain inflation "but it is unlikely to be sufficient," said Danny Richards, a senior analyst at the Economist Intelligence Unit who watches Vietnam.
The consumer price index hit 12.2 percent in January and many forecast it to remain around that level this year, despite a government target of 7 percent.
Nghia, who has a woodworks shop in Bac Ninh, a city about 30 km (18 miles) northeast of Hanoi, sees pain from the currency's three-year slide. The 61-year-old imports ironwood, acacia, sandalwood and other logs from neighbouring Laos but sells its finished products -- window fames, doors and furniture -- in Vietnam.
As Vietnam's currency, the dong, sheds value, Nghia is struggling to defray higher costs for logs, especially with bank-lending rates sky high at about 20 percent a year.
CAUTIOUSLY OPTIMISTIC
"Lower profits are unavoidable," said Nghia, who has operated his woodworks business for 18 years.
Some analysts are cautiously optimistic that the devaluation could spur growth in exports, to help narrow the trade gap, which grew to $12.4 billion last year and is expected to be about the same this year. But more broadly, economists are holding their breath for more evidence that Hanoi is improving its economic management.
When Vietnam joined the WTO, it was a choice emerging-market investment destination. But lack of coherence in economic policymaking and a priority on growth alone have led to imbalances, including in trade, that have scared off many investors. Last year, all three major ratings agencies -- Fitch, Standard & Poor's and Moody's -- downgraded Vietnam, citing macroeconomic imbalances.
Most economists agree that Vietnam's growth-obsessed Communist bosses focussed too much on GDP gains ahead of a once-in-five years leadership reshuffle in January-- and it cost them.
With little end in sight to high inflation and the government discussing plans to raise electricity and petrol prices, many Vietnamese are hoarding dollars and gold, expecting the dong to lose even more value. In unofficial markets, the dong has slipped to around 22,000 per dollar, from about 21,300 before the devaluation.
The Feb. 11 devaluation raised the question: What else are the authorities planning? The government was silent until Thursday's increase in the refinance rate.
UNCERTAINTY BEFORE CLARITY
With the unofficial dong-dollar languishing outside the trading band since September, the Feb. 11 devaluation was widely expected.
But the scale and accompanying shift toward more frequent adjustments of the midpoint rate have been seen as positive changes, allowing the central bank to protect foreign exchange reserves and keep bank exchange rates near unofficial ones.
"It is still too early to say whether the central bank has made a turn in the way they monitor their policies, but I think with their adjustments, there is ground for optimism," said Vo Tri Thanh, deputy director of the Central Institute for Economic Management, a state-run think tank.
Optimists say political obstacles have largely been cleared since the end of the Communist Party's national congress in mid-January and re-appointment of the prime minister to the ruling Politburo, paving the way for another five-year term.
A new law this year also gives the central bank, in theory, more independence and a clearer mandate to control prices.
However, how the State Bank Law gets implemented is another matter, especially with the appointment of a new governor on hold until after May 22 parliamentary elections. "Uncertainty will still exist. Then the new governor may come up with a clearer policy," said an economist at an investment firm in Vietnam.
The EIU's Richards said "tougher measures are needed to bring down the pace of growth in credit and thereby dampen demand-driven inflationary pressures." He and other analysts said the central bank should consider pushing up banks' reserve requirements.
GUESSWORK
Investors have struggled to understand monetary policy since early 2010 when the State Bank of Vietnam de-linked the benchmark base rate from bank rates. Before last April, short-term lending rates were capped at 1.5-times the base rate. Many economists applauded when the base rate was hiked by 100 basis points in November as a sign of resolve against rising prices. Higher rates make it more attractive to hold dong, restoring some confidence and boosting the currency's value. Since November, some investors have focused more on steady increases in the reverse-repurchase rate, although nobody knows which rate will emerge as the best benchmark. After Thursday's increase in the refinance rate, some may begin watching that one more closely, too.
"The bottom line is we shouldn't have to guess what their policy rate is. That should be very explicit," said Matt Hildebrandt, an economist at JP Morgan based in Singapore.
Vietnam's imbalances follow its dramatic economic expansion from 2000 to 2007, when gross domestic product grew by an annual average of 7.6 percent and inflation spiralled, peaking at 28 percent in August 2008 -- fueled by years of easy money policies and aggressive state spending.
The domestic overheating caused many investors to flee even before the global financial crisis hit markets. In 2008, the year the crisis began, Vietnam kept growing, reporting a 5.3% rise in GDP. But then weakened exports and wide trade deficits raised questions over whether underdeveloped Vietnam was relying too much on overseas markets.
At the heart of Vietnam's woes is profligate government spending, with investment skewed heavily toward inefficient state-owned enterprises, some say.
"The core problem is a fiscal problem," said Jonathan Pincus, dean of the Fulbright Economics Teaching Program in Ho Chi Minh City and a former United Nations economist in Hanoi. "They need to fix that before there's a viable monetary solution to this problem."
(Additional reporting by Ngo Thi Ngoc Chau; Editing by Jason Szep and Richard Borsuk) (Created by Richard Borsuk)