Vietnam at a glance. MiFID II Research Is your access agreed? CONTACT us today ECONOMICS VIETNAM. More credit to drive growth

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1 1 September 217 Vietnam at a glance ECONOMICS VIETNAM More credit to drive growth Vietnamese officials are calling for an increase of the country s credit growth target from 18% to 21% for 217 We believe this should be easily achievable, but may accentuate distortions in credit allocation and over time affect credit quality Noelan Arbis Economist, ASEAN The Hongkong and Shanghai Banking Corporation Limited noelan.arbis@hsbc.com.hk Meanwhile, August CPI bounced back to 3.4% y-o-y from 2.%, turning up after six consecutive months of cooling Doubling-down on credit: Top government officials are calling for an increase in the credit growth target from 18% to 21% in hopes of reaching the government s 6.7% GDP target for 217 (Reuters, 14 August). The economy grew at just.7% in 1H17, and in light of already high public debt, Vietnamese officials are signalling that they aim to achieve higher growth via the credit channel. For now, there has been no official announcement that the credit growth target has been increased. Achievable, but with risks: We believe a 21% credit growth target could be easily achieved, given the current pace of credit growth and the State Bank of Vietnam s rate cuts in July. However, the allocation of credit has continued to lean toward less productive industries, such as real-estate, and toward state-owned enterprises (SOEs), at the expense of small and medium sized enterprises (SMEs). Still, there are some positive signs: Since the beginning of the year, the trade, transportation, and telecommunications sectors have been larger contributors to credit growth, which bodes well for increasing competitiveness of more productive industries. Moreover, the government has recently enacted new measures that make it easier for the Vietnam Asset Management Company (VAMC) to repossess collateral in the event of borrowers default, increasing its power to recover lost assets from non-performing loans (NPLs). CPI rising higher, trade and PMI remain strong: August CPI rose 3.4% y-o-y, driven by rising healthcare costs and higher-than-expected transport prices. Inflation in August also registered higher than the previous month, which stems six straight months of cooling prices. Meanwhile, export growth and the PMI remain firm on the back of electronics exports and higher new orders. We expect electronics exports to remain strong for the rest of 3Q before tapering out in 4Q, while agricultural exports should remain robust for the rest of the year, barring any natural disasters. MiFID II Research Is your access agreed? CONTACT us today Disclosures & Disclaimer This report must be read with the disclosures and the analyst certifications in the Disclosure appendix, and with the Disclaimer, which forms part of it. Issuer of report: The Hongkong and Shanghai Banking Corporation Limited View HSBC Global Research at:

2 1 September 217 Chart 1: Credit growth should easily surpass 216 levels %, YTD %, yoy 2 2 forecast Credit % Change Compared to Dec (previous year) Credit Outstanding (RHS) - Credit-led growth Doubling down Vietnam s government officials have recently doubled-down on their credit-led growth strategy. At a meeting of top officials this month, Vietnamese Prime Minister Nguyen Xuan Phuc called for an increase in the credit growth target from 18% to 21% for 217 while emphasizing the need to hit the country s 6.7% GDP growth target. Prime Minister Phuc also stated in his speech that Vietnam should stimulate domestic consumption, create market confidence, boost investment in manufacturing and business, among other measures to drive growth (Reuters, 14 August 217). So far, however, there has been no announcement that the official credit growth target has been increased. We believe Vietnam could easily reach a 21% credit growth rate by the end of the year, but this may pose considerable risks to the economy given the slow resolution of legacy non-performing loans (NPLs) and the quality of credit that could be created in reaching the new target. Moreover, the allocation of credit is important, as Vietnamese SMEs compete for funding with SOEs and other large private corporations. The State Bank of Vietnam s (SBV) surprise rate cut in July provided clear indication to us that the Vietnamese government aims to achieve its 6.7% GDP growth target for 217 via the credit channel (See: It s all about growth: State Bank of Vietnam cuts rates, 1 July 217). Government expenditure has been on the watch due to a rising public debt, which is nearing the government s self-mandated limit of 6% of GDP. Moreover, an SBV survey right before the rate cut revealed that credit growth for 217 was expected to reach just 16.3%, which is lower than the central bank s original 18% target. This is not to say that credit growth has been lagging. In fact, the pace of credit growth in Vietnam has continually increased in recent years, with credit growth rate in 1H17 reaching its fastest pace in six years (Vietnam News, 6 July 217). We expect the pace of credit growth to pick up further in 4Q17 and to easily match the 18.3% growth in 216. Assuming credit growth for the remainder of the year remains exactly in line with last year s pace, credit growth should reach 19.3% by year-end (Chart 1). Meanwhile, the SBV s rate cut in July should also help push up the pace of credit growth and make it easier for the government to achieve Prime Minister Phuc s suggested new target of 21%. 2

3 1 September 217 Risky business It is worth noting, however, that rapid credit growth may create new risks for the banking sector, especially if new credit is placed in less productive industries. For instance, real-estate related sectors still appear to be contributing the most to total credit growth, despite their declining contribution in recent months (Chart 2). The country s real estate sector, which sank after a bubble period in 26-28, was one of the primary reasons for a rise in NPLs and the country s banking sector crisis in 211. Chart 2: Real estate remains the primary contributor to credit growth %, yoy %, yoy Agriculture and Forestry Industry Real estate, financial services and other services Construction Trade, Transportation & Telecommunication Total Credit Growth Source: CEIIC, IMF, and HSBC Moreover, both the IMF and World Bank have noted in recent studies that SOEs are absorbing a disproportionate amount of credit in the Vietnamese economy at the expense of small and medium size enterprises (SMEs). In Hanoi, for instance, the majority of loans still goes to stateowned sectors (Chart 3). An empirical study from the IMF also shows that SOEs borrow at lower interest rates than private firms, enabling weak SOEs to access bank funding to avoid shrinking their balance sheets (See: IMF, Credit Misallocation, July 217). Meanwhile, a World Bank survey of Vietnamese enterprises showed that only 29% of small enterprises (1-2 employees) have an active credit line, with SOEs and large domestic companies taking the lion s share of credit in the market (See: World Bank, Vietnam systematic country diagnostic 216). The data thus suggest that high credit growth alone is not enough to lift Vietnam s economic growth. The misallocation of credit and crowding out of private investments may weigh on GDP growth and increase the risk of future NPLs, if left unchecked. In addition, the decline of NPL-to- Chart 3: Majority of Hanoi bank loans still going to state sector 1% 9% 8% 7% 6% % 4% 3% 2% 1% % Chart 4: Decline in NPLs may belie true level of problematic loans % of total loans % of total loans VAMC came into operation State Non-state Foreign Direct Invested NPLs 3

4 1 September 217 total-loan ratio in recent years somewhat belies the true level of problematic loans in the economy. Part of the reduction in NPLs is due to transfers to the Vietnam Asset Management Company (VAMC), where the underlying credit risks of such loans have not been fully eliminated (Chart 4). Some positive signs At the very least, the government seems to be aware of the importance of containing credit growth in less productive industries. Vietnamese media reports that the government has asked banks to restrict lending in the real estate sector, amongst others, to stem low-productivity lending (Vietnam Net, 31 August 217). Chart 2 above also shows that the trade, transportation, and telecommunications sectors have been larger contributors to credit growth since the beginning of the year, which is a positive development and may help improve the domestic industry s export competitiveness. Moreover, the government has recently enacted new measures that make it easier for banks and the VAMC to repossess collateral in the event of borrowers default, increasing their power to recover assets from NPLs (Vietnam News, 28 August 217). Ongoing SOE equitization and reforms also remain crucial to levelling the playing field for credit access, as it could help divert credit away from supporting weak SOEs and to helping boost private sector investments. As we have previously noted, this is an area where there has been growing momentum as non-state investments have recently caught up to state investments in percentage of total investments in the economy (See: Vietnam at a glance: SOE reform: an incoming windfall?, 4 August 217). Overall, supporting economic growth through the credit channel is a reasonable strategy given the rising role of private consumption and non-state investments. Moreover, rising public debt may be an impediment to increased government spending in the future. However, the quality and allocation of credit, in addition to resolving existing NPL issues, are crucial to ensuring that increased credit growth translates to higher and more sustainable growth in the future. Digging into August data CPI bounce back August CPI rose faster than expected at 3.4% y-o-y (HSBC and consensus: 2.%), driven by a continued increase in healthcare costs and higher-than-expected transport prices. The upside surprise in August is particularly significant, as inflation has cooled on y-o-y terms for six straight months due specifically to persistently low food and transport costs. Transport costs in August, however, increased 2.1% m-o-m after four straight months of negative growth due to a rise in oil prices in late July. Chart : Transport and food costs seeing a bounce back % y-o-y % y-o-y Jan 13 Jul 13 Jan 14 Jul 14 Jan 1 Jul 1 Jan 16 Jul 16 Jan 17 Jul 17 Headline Core Food Transportation -1 4

5 1 September 217 Chart 6: Rice exports continue to gain traction from the 216 drought % yoy % yoy Exports: Crude Oil Exports: Rice Chart 7: PMI marginally expanding, driven by new export orders Source: IHS Markit, HSBC Jun-17 Jul-17 Aug-17 PMI Index Output New orders New ex port orders Backlogs of w ork Stocks of finished goods Employ ment Output prices Input prices Suppliers' deliv ery times Stock of purchases Quantity of purchases Future output index Expanding, faster pace Expanding, slower pace Contracting, Contracting, slower pace faster pace Food prices also appear to be finally moving in an upward trajectory, despite being in a disinflationary cycle for most of the year (Chart ). Food prices rose.% m-o-m in July and 1.1% in August, which is the fastest pace since February 216. This reflects our view that there remain upside risks to inflation toward the end of the year, especially as food prices continue to trend upward. Moreover, healthcare costs continue to rise at a fast pace (42.1% y-o-y in August) due to ongoing government reforms and subsidy reductions. Exports and PMI still going strong As we expected, exports remain strong, growing 17.9% y-o-y YTD in August (prev: 18.7%) or 13.% on a y-o-y basis. As usual, exports of electronics components and phone parts led the way, contributing 1.8 ppt and 2.7 ppt to the y-o-y growth respectively. We expect electronics exports to remain strong for the rest of 3Q before tapering out in 4Q. Meanwhile, agricultural exports (e.g. rice) continue to perform well after a slow start to the year (41% y-o-y in August), and we expect it to remain robust for the rest of the year to offset the drought in 216. However, y-o-y growth in crude oil exports dipped back into negative territory again after solid growth for most of the year (Chart 6). This may perhaps be just a transitory period, similar to the one we saw in March, before picking back up again for the remainder of the year considering the low base from last year. Meanwhile, the August PMI expanded at a marginally faster pace than in July at 1.8 (prev. 1.7). New orders both internally and externally were some of the primary drivers to the PMI s August increase, which coincide with the tech cycle and continued expansion of electronics exports. Similar to last month s PMI, countries that are reliant on electronics exports performed relatively better compared to others in the region, with the Taiwan and China PMIs also rising at a faster pace than the previous month. In addition, Vietnam s input price index climbed to 6.1 in August (prev. 2.1), which is its highest level since March and is reflective of the higher than expected inflation in August.

6 1 September 217 Disclosure appendix Analyst Certification The following analyst(s), economist(s), or strategist(s) who is(are) primarily responsible for this report, including any analyst(s) whose name(s) appear(s) as author of an individual section or sections of the report and any analyst(s) named as the covering analyst(s) of a subsidiary company in a sum-of-the-parts valuation certifies(y) that the opinion(s) on the subject security(ies) or issuer(s), any views or forecasts expressed in the section(s) of which such individual(s) is(are) named as author(s), and any other views or forecasts expressed herein, including any views expressed on the back page of the research report, accurately reflect their personal view(s) and that no part of their compensation was, is or will be directly or indirectly related to the specific recommendation(s) or views contained in this research report: Noelan Arbis Important disclosures This document has been prepared and is being distributed by the Research Department of HSBC and is intended solely for the clients of HSBC and is not for publication to other persons, whether through the press or by other means. This document is for information purposes only and it should not be regarded as an offer to sell or as a solicitation of an offer to buy the securities or other investment products mentioned in it and/or to participate in any trading strategy. Advice in this document is general and should not be construed as personal advice, given it has been prepared without taking account of the objectives, financial situation or needs of any particular investor. Accordingly, investors should, before acting on the advice, consider the appropriateness of the advice, having regard to their objectives, financial situation and needs. If necessary, seek professional investment and tax advice. Certain investment products mentioned in this document may not be eligible for sale in some states or countries, and they may not be suitable for all types of investors. Investors should consult with their HSBC representative regarding the suitability of the investment products mentioned in this document and take into account their specific investment objectives, financial situation or particular needs before making a commitment to purchase investment products. The value of and the income produced by the investment products mentioned in this document may fluctuate, so that an investor may get back less than originally invested. Certain high-volatility investments can be subject to sudden and large falls in value that could equal or exceed the amount invested. Value and income from investment products may be adversely affected by exchange rates, interest rates, or other factors. Past performance of a particular investment product is not indicative of future results. HSBC and its affiliates will from time to time sell to and buy from customers the securities/instruments, both equity and debt (including derivatives) of companies covered in HSBC Research on a principal or agency basis. Analysts, economists, and strategists are paid in part by reference to the profitability of HSBC which includes investment banking, sales & trading, and principal trading revenues. Whether, or in what time frame, an update of this analysis will be published is not determined in advance. For disclosures in respect of any company mentioned in this report, please see the most recently published report on that company available at HSBC Private Banking clients should contact their Relationship Manager for queries regarding other research reports. In order to find out more about the proprietary models used to produce this report, please contact the authoring analyst. Additional disclosures 1. This report is dated as at 1 September All market data included in this report are dated as at close 31 August 217, unless a different date and/or a specific time of day is indicated in the report. 3. HSBC has procedures in place to identify and manage any potential conflicts of interest that arise in connection with its Research business. HSBC's analysts and its other staff who are involved in the preparation and dissemination of Research operate and have a management reporting line independent of HSBC's Investment Banking business. Information Barrier procedures are in place between the Investment Banking, Principal Trading, and Research businesses to ensure that any confidential and/or price sensitive information is handled in an appropriate manner. 4. You are not permitted to use, for reference, any data in this document for the purpose of (i) determining the interest payable, or other sums due, under loan agreements or under other financial contracts or instruments, (ii) determining the price at which a financial instrument may be bought or sold or traded or redeemed, or the value of a financial instrument, and/or (iii) measuring the performance of a financial instrument. 6

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8 Global Economics Research Team Global Global Chief Economist Janet Henry janet.henry@hsbcib.com Global Economist James Pomeroy james.pomeroy@hsbc.com Senior Trade Economist Douglas Lippoldt douglas.lippoldt@hsbc.com Trade Economist George House george.a.house@hsbc.com Europe Chief European Economist Simon Wells simon.wells@hsbcib.com European Economist Fabio Balboni fabio.balboni@hsbc.com Economist Chris Hare chris.hare@hsbc.com United Kingdom Economist Elizabeth Martins liz.martins@hsbc.com Germany Stefan Schilbe stefan.schilbe@hsbc.de Rainer Sartoris rainer.sartoris@hsbc.de France Olivier Vigna olivier.vigna@hsbc.fr Chantana Sam chantana.sam@hsbc.fr North America US Chief US Economist Kevin Logan kevin.r.logan@us.hsbc.com Ryan Wang ryan.wang@us.hsbc.com Canada David G Watt david.g.watt@hsbc.ca Asia Pacific Managing Director, Co-head Asian Economics Research and Chief Economist Greater China Qu Hongbin hongbinqu@hsbc.com.hk Managing Director, Co-head Asian Economics Research Frederic Neumann fredericneumann@hsbc.com.hk Chief Economist, Australia, New Zealand and Global Commodities Paul Bloxham paulbloxham@hsbc.com.au Chief Economist, India Pranjul Bhandari pranjul.bhandari@hsbc.co.in Sophia Ma xiaopingma@hsbc.com.cn Joseph Incalcaterra joseph.f.incalcaterra@hsbc.com.hk Julia Wang juliarwang@hsbc.com.hk Daniel John Smith daniel.john.smith@hsbc.com.au James Lee james.dh.lee@hsbc.com.hk Noelan Arbis noelan.arbis@hsbc.com.hk Ji Won Kwon ji.won.kwon@hsbc.com.hk Kelvin Lam kelvin.h.p.lam@hsbc.com.hk Aayushi Chaudhary aayushi.b.chaudhary@hsbc.co.in CEEMEA Chief Economist, CEEMEA Simon Williams simon.williams@hsbc.com Economist, Russia and CIS Artem Biryukov artem.biryukov@hsbc.com Economist, CEE Agata Urbanska-Giner agata.urbanska@hsbcib.com Chief Economist, Turkey Melis Metiner melismetiner@hsbcib.com Economist, South Africa David Faulkner david.faulkner@za.hsbc.com Economist, Middle East and North Africa Razan Nasser razan.nasser@hsbc.com Latin America Chief Economist, Latin America John Welch john.h.welch@us.hsbc.com Argentina Chief Economist, South America Javier Finkman javier.finkman@hsbc.com.ar Senior Economist Ramiro D Blazquez ramiro.blazquez@hsbc.com.ar Senior Economist Jorge Morgenstern jorge.morgenstern@hsbc.com.ar Mexico Chief Economist, Mexico Alexis Milo alexis.milo@hsbc.com.mx Marina Valentini marina.valentini@hsbc.com.mx