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Loan subsidies fuel credit, raise risks, Citigroup says   2009-04-29 - sanotc

 The loan-subsidy program in Vietnam is creating a “credit boom” that may increase bad loans and stoke inflationary expectations, according to Citigroup Inc.

Credit growth slowed to 25% last year from 54% in 2007 after the central bank raised interest rates, “tightened market liquidity conditions, and restricted bank lending activities through moral suasion,” according to the International Monetary Fund (IMF).

The interest-rate subsidy program calls for authorities to reimburse banks for a portion of loans made to specified industries, according to a note by Ken Peng, a China-based economist at Citigroup.

The program is designed to boost an economy that expanded 3.1% in the first quarter, the slowest growth rate on record.

The subsidy plan “has created a new credit boom at a time when observers are still wondering what happened to legacy loans of the previous boom,” Peng wrote in a note dated April 24.

While the subsidy program is boosting bank balance sheets and profitability, it also has resulted in lower lending standards, likely increasing the risk of non-performing loans, the Citigroup note said.

Other potential disadvantages of the program include the probability that some loans were used to invest in the property or stock markets; that some fake projects may have been created to take advantage of the scheme; or that some banks “may be running circular loans to profit from the subsidy,” Peng wrote.

‘Biting question’

The increase in credit is raising bond yields, reducing expectations for further monetary easing, and increasing perceptions of a risk that inflation may return, Citigroup said. Gains in consumer prices slowed in April to 9.2% from a year earlier, the lowest pace in 19 months.

“Moreover, what happens after the subsidy remains a biting question,” Peng wrote in his note.

A credit market thawing drove a surprising 6.9 percent first-quarter expansion in the construction industry, according to fund managers Dragon Capital. The local unit of Savills Plc, the UK’s largest publicly traded property broker, said this month that Vietnamese banks are “relatively flush with cash and willing to lend.”

The IMF is awaiting March data for a “good first read” on how the subsidy program is working, according to Benedict Bingham, the agency’s senior resident representative in Hanoi.

“The interest-rate subsidy program is the equivalent of a significant easing of monetary policy,” Bingham said in a telephone interview on Monday. “It is certainly fair enough for the government to try to address the risks of an economic slowdown, but addressing these risks needs to be balanced against exacerbating risks to the country’s macroeconomic stability.” (Bloomberg

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