Names: Dng Thy Dng (Formula, Solution, Current status: banking operations, trade, reaction, results, Conclusion) Nguyn Th Hng Tm ( Impact, Current status: banking operations) o Hi ng ( Causes) Nguyn Hong Qun ( Forms of Dollarization) Nguyn Hong Dng ( Introduction + tng hp, lm slide) Nguyn Th Thy Dung ( Definition, Conclusion)*****Dollarization in Vietnam: Advantage and DisadvantageIntroductionIn recent years, Dollarization becomes a familiar word in Vietnam. Nowadays, Vietnam is amalgamating into the global economy, thus Vietnam has to use U.S dollar in trade and invest activities. Additionally, the habit of use of U.S dollar in daily activities and trading activities of Vietnamese people and firms lead to the dollarization ratio of Vietnam higher than countries in the same area. Therefore, dollarization is a hard situation in Vietnam now. Due to the critical role of dollarization in the Vietnamese economy, particularly the monetary system, studying about dollarization has a very important meaning. Firstly, it helps understand what is dollarization, when does it happen, and how to recognize it. To identify an object is the basic step to find out its influence and the ways to adapt to it. Therefore, with the knownledge gathered and provided in this paper about dollarization, we also propose some solutions to the problems it causes in Vietnam. The final and highest purpose of this paper, then, is a reference for the government, economists, businesses, as well as the whole public to make policies or change their behavior for the maximum social benefit.The paper discusses dollarization in Vietnam. It starts with definition and different forms of dollarization. We identify Vietnam as a partly dollarized economy, characterized by a dual monetary system that significantly complicates monetary policy. The third section is the IMFs formula to measure dollarization.The next two sections are the status and the strong impacts on its economy. The use of dollar as a substitute for domestic currency produces major ricks, original sin and currency mismatch. And directly, partly dollarized economies are potentially instable and extremely prone to financial crises. In the sixth section, we analyze why economies are dollarized and others are not. The common obstacle for emerging economies is their inability to borrow internationally in domestic currency due to a perceived weakness of its currency and structure of the economy. Vietnam is identified as a directly dollarized economy with a dual monetary standard. The U.S dollar serves as parallel currency and quasi second legal tender. The final section discusses possible ways and a gradual approach for Vietnam to reduce and finally abolish dollarization of its economy.

I. Definition of DollarizationDollarization of the economy can be understand as in an economy when the foreign currencies are widely used to alternative all or some functional of domestic currency, then the economy were considered as whole or part of dollarization. Additionally, International Monetary Fund (IMF) define dollarization as the holding by residents of a significant share of their assets in the form of foreign- currency- denominated assets, is a common feature of developing countries and transition economies and is thereby typical- to a greater or lesser extent- of many countries that have IMF-supported adjustment programs. According to the criteria of the IMF, an economy is considered to be high dollarization situation when the proportion of foreign currency deposits (FCD) accounted for 30% or more in the broad money (M2) included cash in circulation, cash deposits, term deposits and foreign currency deposits. Yuma Knish, the Asian Development Banks Vietnam director said: Dollars make up about 20% of money used in Vietnam. This means that the dollarization ratio of Vietnam is moderately high.II. Forms of DollarizationObviously the degree of dollarization, qualitatively and quantitatively, is varying from country to country. A number of countries has abandoned their domestic currencies and replaced them with foreign currency. Officially dollarized Panama and more recently Ecuador and El Salvador are prominent examples of officially dollarized economies. Several other smaller economies have chosen to substitute domestic currency by using dollars or euros. In all cases the dollarized country announced unilaterally the redemption of domestic currency and declared the U.S. dollar as sole legal tender. In most but not all cases the institution central bank is abolished.However, a more significant number of countries are unofficially dollarized. In these cases dollars are used as unit of account, means of exchange, store of value, and medium of deferred payment, while the domestic currency still exists and circulates. The dollar functions as a quasi-second legal tender of the economy, as a parallel currency. Among this group of countries the degree of dollarization might be almost complete (Bolivia, Uruguay, Lebanon) or only partly, as Vietnam with slightly above 20 percent of overall bank deposits.In addition, some countries are semi-official dollarized, a situation which occurs when the foreign currency is legal tender alongside the domestic currency, for example Bahamas, Cambodia, Haiti, Laos (also Thai baht), Liberia.

III. IMFs formula to measure dollarizationAccording to IMF , an economy is considered to be high dollarization situation when the proportion of foreign currency deposits (FCD) accounted for 30% or more in the broad money (M2) included cash in circulation, cash deposits, term deposits and foreign currency deposits. There are several measures of dollarization in an economy with unofficial dollarization. The common dollarization index (DI), used by the IMF is measured by the the method below:We use these variables: DI: dollarization index FCD: foreign currency deposits M2: the broad money included domestic currency in circulation, demand deposits, time and savings deposits and FCD FCC: foreign cash in circulationMeasurement of FCC is difficult and is not included in the standard definition of the money supply. However, in countries with high dollarization foreign currency serves as a unit of account, store of value and, usually, as a circulating medium of payment. Due to the lack of data on FCC, research on the currency substitution process has been forced to accept FCD as a proxy for dollarization. The formula to measure dollarization is:

IV. Impact of Dollarization in Viet Nam1. Positive EffectsThere are three main positive impact of dollariation.First, rampant inflation has been dramatically stabilized. Official currency substitution helps to promote fiscal and monetary discipline and thus greater macroeconomic stability and lower inflation rates, to lower real exchange rate volatility, and possibly to deepen the financial system.Firstly, currency substitution helps developing countries, providing a firm commitment to stable monetary and exchange rate policies by forcing a passive monetary policy. Adopting a strong foreign currency aslegal tenderwill help to "eliminate the inflation-bias problem of discretionary monetary policy".Secondly, official currency substitution imposes stronger financial constraint on the government by eliminating deficit financing by issuing money.An empirical finding suggests that inflation has been significantly lower in economies with full currency substitution than nations with domestic currencies.The expected benefit of currency substitution is the elimination of the risk of exchange rate fluctuations and a possible reduction in the country's international exposure.Secondly, dollarization is a tool to reduce the foreign exchange trading cost. One of the main advantages of adopting of a strong foreign currency as solelegal tenderis to reduce the transaction costs of trade among countries using the same currency.There are at least two ways to infer this impact from data. The first one is a significantly negative effect of exchange rate volatility on trade in most cases, and the second is an association between transaction costs and the need to operate with multiple currencies.Economic integration with the rest of the world becomes easier as a result of lowered transaction costs and stabler prices.Third, dollarization can also increase the economys transparency. In an economy with full currency substitution, monetary authorities cannot act as lender of last resort to commercial banks by printing money.2. Negative EffectsInspire of these above possitive effects, dollariation has negative side. It will be shown in this part.First of all, making monetary policy and the macroeconomic policy planning less effective Currency substitution leads to the loss ofseignioragerevenue, the loss of monetary policy autonomy, and the loss of theexchange rateinstruments. Seigniorage revenues are the profits generated when monetary authorities issue currency. When adopting a foreign currency aslegal tender, a monetary authority needs to withdraw the domestic currency and give up future seigniorage revenue. The country loses the rights to its autonomous monetary andexchange ratepolicies, even in times of financial emergency;former chairman of theFederal ReserveAlan Greenspan, for example, has stated that the central bank considers the effects of its decisions only on the US economy.In a full currency substituted economy,exchange ratesare indeterminate and monetary authorities cannot devalue the currency. In an economy with high currency substitution,devaluationpolicy is less effective in changing thereal exchange ratebecause of significant pass-through effects to domestic prices.However, the cost of losing an independent monetary policy exists when domestic monetary authorities can commit an effective counter-cyclical monetary policy, stabilizing the business cycle. This cost depends adversely on the correlation between the business cycle of the client country (the economy with currency substitution) and the business cycle of the anchor country.In addition, monetary authorities in economies with currency substitution diminish the liquidity assurance to their banking system.Secondly, posing the disappearance of the state banks function of the lender and the last resort. The alternatives to lending to the bank system may include taxation and issuing government debt.The loss of the lender of last resort is considered a cost of full currency substitution. This cost depends on the initial level of unofficial currency substitution before moving to a full currency substituted economy. This relation is negative because in a heavily currency substituted economy, the central bank already fears difficulties in providing liquidity assurance to the banking system.However, literature points out the existence of alternative mechanisms to provide liquidity insurance to banks, such as a scheme by which the international financial community charges an insurance fee in exchange for a commitment to lend to a domestic bank. Commercial banks in countries where saving accounts and loans in foreign currency are allowed may face two types of risks. First, currency mismatch risk which assets and liabilities on the balance sheets may be in different denominations. This may arise if the bank converts foreign currency deposits into local currency and lends in local currency or vice versa. Secondly, the default risk which arises if the bank uses the foreign currency deposits to lend in foreign currency.Finally, dollarization results in the decrease in income from money printing tax. In an economy with full currency substitution, monetary authorities cannot print money anymore. Therefore, there are no benefit gain from this activity.

V. Causes of dollarization in VietnamIt is undeniable that the US dollar become the world currency. A wide variety of commerce use the US dollar to trade. In particular, about 85 percent of all currency transactions across the world involve the US dollar. According to the IMF, around 45 percent foreign bond was purchased by the US dollar.Dollarization frequently occurs in the weak economy. For example, Hyperinflationin Zimbabwebegan shortly after destruction of productive capacity inZimbabwe's Civil War andconfiscation of private farms. During the height of inflation from 2008 to 2009, it was difficult to measure Zimbabwe's hyperinflation because the government of Zimbabwe stopped filing official inflation statistics.However, Zimbabwe's peak month of inflation is estimated at 6.5sextillionpercent in mid-November 2008. In 2009, Zimbabwe abandoned its currency. As of 2014, Zimbabwe still has no national currency; currencies from other countries are used. With regard to Vietnam, the literature identifies four causes for dollarization.Firstly, loss of credibility of monetary policy due to longer periods of high and volatile inflation rates and a devaluating exchange rate.

Source: GSO In the first year of renovation period from 1989 to 1992, inflation rate of Vietnam was very high such as the inflation rate of Vietnam in 1989 was 34.6%, in 1990 and 1991 was very high 67.5% and 67.6% and this rate was 17.6% in 1992. The value of Vietnam currency devaluated sharply against the value of USD. Consequently, gold prices was rising. As a result, many people choose to take direct US dollars and bank deposit. Domestic commercial banks of Vietnam raised interest rates for the domestic currency to increase money supply.

Because inflation rate in Vietnam was high and volatile in previous decades, nominal assets are risk and low liquidity. Therefore, the public shifts nominal assests into another more stable currencies or into real assets, namely the US dollar and gold.Secondly, the limited ability to borrow domestically and abroad in domestic currency increase foreign currency reserves. Due to the loss of credibility and the weakness of Vietnam Dong, the government cannot borrow domestically and abroad in domestic currency. So, the government have to borrow foreign currency.Thirdly, the interest rate loan of US dollars on average is lower. According to Vietcombank, the interest rate loan of US dollars on average only 2% to 3% per year, lower only by 1/3 interest rate loan of Vietnam Dong. So, a vast of investors choose to borrow US dollars. This will lead to the fact that the absolute numbers and proportion of US dollars loans outstanding increased.Finally, the psychology of Vietnamese people also influence their savings behaviour. Particularly, a great number of Vietnamese people do not believe in domestic currency. Consequently, they choose to send the US dollar into bank instead of send by Vietnam Dong. Furthermore, Vietnams currency denomination is still small compare to US dollar. The highest of Vietnam Dong has value of 500,000 but 100 dollars has value approximate 2.1 million. Therefore, in large transaction, Vietnam firms and Vietnamese people use US dollar because of convenience.

VI. Solution to DollarizationDollarization is an unavoidable situation for countries with low starting point which is in transition economies and promotes international integration such as Vietnam. The fear of inflation, the devaluation of its currency, the habit of using cash in transactions, etc cannot be an early, one-way elimination or reduction thoroughly. To reduce the impacts of dollarization, some methods can be applied.Firstly, Vietnams government can increase the legal effect of the management regulation of foreign exchange. Every year, a lot of Vietnamese people, who live abroad, send the foreign currency to Vietnam for their family. On the other hand, there are plenty of domestical households and organizations want to borrow USD for many reasons. In order to control the USD in Vietnam, Vietnams government should narrow the organizations that are permitted to sell or buy USD. Besides, the dollars lending by banks should be limited to borrowers with dollar revenues to limit a currency mismatch. Vietnamese people are encouraged to use Vietnam Dong, not U.S dollar. Vietnam needs a consistent policy of managing foreign currency circulation in the direction of "The country of Vietnam only paid in Vietnam dong." For this, there should be regulations on the use of foreign currency by individuals such as individuals do not pay by U.S dollar in Vietnam, only the State Bank of Vietnam has function of buy and sell foreign currencies. Since 2006, the law of foreign exchange was revealed, it strictly prohibited transactions, payments, advertising USD among organizations and individuals. Secondly, interest ceilings for dollar deposits should be introduced in order to discourage dollar holdings; the envisaged effect is to motivate a further shift out of U.S. dollar denominated into VND deposits and a repatriation of U.S. dollars outside banks in circulation.The State Bank of Vietnam has to reduce saving interest rate of U.S dollar. For example, in the first quarter of 2011, the State Bank of Vietnam decided to reduce the saving interest of U.S dollar. Instead of 6% to 7% per year, the State Bank of Vietnam decided to reduce saving interest of USD to 2% per year. Therefore, Vietnamese people will not saving by U.S dollar and change to saving by Vietnam Dong. Thirdly, Vietnamese people have to trust in VND. To achieve this purpose, the government has to maintain currency values and exchange rate stability in the future. The value of VND is reduced for a long time because of high inflation rate. Therefore, people dont trust in VND anymore. In order to improve this stituation, Vietnam should not devaluate our currency. The government should control the inflation and keep the exchange rate less fluctuate. However, this solution doesnt encouraged export and employment. So, the government and the state bank of Vietnam have to think carefully in order to balance the benefit and the cost.In addition, the central bank can pursue a more independent monetary policy. Independent monetary policy means policy makers can make decisions about a nation's money supply without interference from other elements of the government, such as the country's legislature or head of state. This independence allows monetary policy to be based on economic, rather than political, considerations. In contrast, this method can cause other problems because the monetary policies can affect not only the value of money but also the unemployment rate.Moreover, the government can attract foreign capital into the banking system. Reserve requirements for dollar deposits should be raised to reduce the profit margin for banks doing dollar denominated business. It is crucial to reduce banks incentive to attract further U.S. dollar deposits. This measure, taken by the State Bank since 2001, has been proven to be very effective.

Finally, with tight capital account restrictions in place it should be possible to reverse dollarization as the public has no legal way to earn legally interest on dollar savings outside the domestic banking system. The successful de-dollarization is a necessary precondition for a more flexible exchange rate regime. With the opening of the financial sector in the coming years and the liberalization of capital account transaction it will be much harder to achieve this objective.VII. Current Status of Dollarization in Vietnam1. The expressions of dollarization in Vietnam until 2010.Dollarization in Vietnam clearly manifested in two important areas of the economy: trade-investment and banking operations

a. The dollarization in banking operations

Vietnams economy widely used U.S. dollar in trade ... starting to get noticed in 1988 when banks were allowed to receive foreign deposits . By 1992, the state of dollarization has increased sharply over 41 % of the bank deposits in USD. To solve this problem, The State Bank of Vietnam has been trying to reverse dollarization process and economyquite successful at significantly reduced levels in dollar deposits in banks to 20 % in 1996 . But followed the Asian financial crisis causedVietnam currency devalued , and Vietnam continued pressure of thedollarization .If we apply the formula above in the case of Vietnam, we can estimate the DI of Vietnam. Using the IMF statistic data, we determine the dollarization status through the graph:

DI of Vietnam from the first quarter, 1995 to the first quarter 2010

Source: IMFThe graph above shows the rate of dollarization in Vietnam peaked with approximately 35% in 2001. Therefore, Vietnam is considered one of the top countries in countries with high dollarization ratio. However, the current period (2008 - 2010) was significantly reduced from an average of 28% -30% -18% down to 16.5%. Thus, Vietnam today is not a country with a high rate of dollarization. However, in comparison with China, Vietnams dollarization index is still much higher.

FCD/M2 _ ChinaFCD/M2 _ VNSource: IMF

Vietnam is a partly dollarized economy with a dual monetary system. The precise degree of dollarization, however, is hard to determine. Typically, the degree of dollarization is measured by the ratio of foreign deposits to total bank deposits. This measure has two pitfalls. First, it excludes foreign currency outside the banking system. Following McKinnon, foreign currency covers all money functions, unit of account, medium of exchange, and medium of deferred payment. For an emerging economy with undeveloped financial markets, dollar currency holdings may represent a very large share of foreign currency money holdings. Unfortunately, estimates of its size and evolution are usually of poor quality. Hence, for the perspective of a central bank dollarization complicates the business of liquidity management. Seconly, it Excludes foreign currency borrowings abroad. A more comprehensive measure of dollarization, however, must also include these borrowings.Two factors contributed mainly to the dollarization process. The failed monetary reform in fall 1985 with the consequences of dramatic increases in inflation and depreciation of the Vietnamese Dong (VND) against the dollar until end of 1991. The low quality of VND as store of value forced savers into alternative assets, gold and with the opening of the economy also U.S. dollars. The low quality of VND but also the perceived instability of the bank system is reflected in the short duration of deposits of less than one year in average. The stabilization of the Vietnamese price level and the nominal exchange rate of the U.S. dollar caused a reversion of the currency substitution process. Inflation rates are single digit and very modest since 1996. Strict capital controls helped to stabilize the nominal exchange rate against the U.S. dollar. b. The dollarization in trade A field of dollarization is trade such as online sales , tradingimported products like electronics, business restaurant and hotel. We can recognize that the prices listed in both VND and USD in almost 100 % of the pageweb sell electronics such as computers, household appliances , etc. Although two prices are set parallel, the actual payment is always carried out by USD. If customer pays by VND the price of goods will be based on exchange rates between VND and USD currency at the day trading. These goods are usually goods that Vietnam has to import, so the price would depend entirely on the dollar. Therefore , the joint, to avoid exchange rate risk to themselves, forced to list prices in U.S. dollars . In addition,business listing price in USD was to increase the "modern" , " commerce element . " It can make the dollarizations status worse because online business will become type of major business in the future .

2. The reaction of Vietnams government against the dollarizationSince 2003, Vietnam government has also begun to attract foreigncapital by issuing foreign currency bondsto focus on developing national key projects. This may be one of the most effective method of attracting foreign currency floating outside the banking systems. In addition, this solution can help reduce the foreign debt burden of government.Implement a flexible exchange rate regime is determined on the basis of supply and demand currency markets regulated by the State, in order to narrowing thedistance between the market rate and the unofficial market rate.From 2005, the law that prohibit the listing price in foreign currency, was issued.This law which is fixed and offically applied in 2011, help to improve the dollarization in trade effectively.The State Bank kicked off the program on fighting against the dollarization in 2011, striving to stop the dollarization by 2020. The first thing the State Bank did was raising the required compulsory reserve ratio for foreign currency deposits, which aimed to enlarge the gap between the local currency and foreign currency deposit and lending interest rates. This has forced commercial banks to lower deposit interest rates and raise the lending interest rates in the dollar. As a result, the dollar has become no longer attractive in the eyes of people. Having realized that it is not profitable to keep dollars, people and businesses tend to convert their dollar into dong. Meanwhile, commercial banks have also found it more profitable to lend in dong than in the dollar.The State Bank has also released the decisions aiming to reduce the foreign currency positions of commercial banks, lowered the ceiling foreign currency deposit interest rates. Especially, it has requested state owned enterprises to sell 100 percent of the foreign currencies they earn from exports to commercial banks. 3. The results of avoiding dollarization in VietnamThe comprehensive measures taken by the State Bank have brought satisfactory achievements. The foreign currency deposits had decreased from 19.5 percent in 2011 to 14.6 percent of the total mobilized capital, while the foreign currency deposits ratio on the total money supply had decreased from 15.84 percent to 12.36 percent. The ratio of outstanding loans in foreign currencies had dropped from 20 percent to 17.5 percent of the total outstanding loans. By the end of August 2013, the ratio of foreign currency deposits on the total money supply had reduced further to 11.82 percent. Commercial banks and businesses, which were the foreign currency lenders and borrowers, have become the sellers and buyers. This has helped reduce the foreign currency outstanding loans to 11.5 percent, while the dong outstanding loans had increased by 10.4 percent over 2012.The dollarization reduction has helped put the foreign currency market under the State Banks control.The State Bank once had to devaluate the dong sharply by 9.3 percent on February 2011. However, over the last two years, the dong/dollar exchange rate has been stabilized at VND20,828 per dollar, while the trading band has been staying firmly at one percent (the buy and sale prices quoted by commercial banks could be 1 percent higher or lower than the interbank exchange rate announced by the State Bank).

ConclusionDollarization is an important and complex issue for Vietnams economies that make the authorities find difficult to solve . The first challenge that policy makers confront is the difficulty in measuring dollarization because of its several dimensions, the shortage of reliable data and the lack of perfect formula. To understand the status of dollarization in Vietnam, we has to use the approxiate data, so the decision can be not relevant.

Secondly, dollarization brings not only the disadvantage but also the advantages to the economy. Therefore, when the government enforces the laws to improve the stituation, they can not stop the dollarization immediately to prevent the economy from the shock. In order to solve the dollarization, the government has to apply the comprehensive methods in the long terms.

Third, there are many reasons that lead Vietnams economy to dollarization. Some of them can be affected to stop the dollarization in Vietnam, but the others can not be changed by Vietnams government. Thus, we have to accept that dollarization always exist in Vietnams economy. The government can decrease the dollarization; however, they can not completely remove it.

Furthermores, the authorities can used a lot of methods against dollarization. On the other hand, dollarization is a complex enough issue to not think that simple rules are going to be the solution for every problem. Every measure to prevent dollarization can cause the problem in other field.

After considering all of these challenge, the laws and policies to de-dollarization taken by Vietnams government are quite successful. Among the ASEAN countries, Vietnam is probably the one which has gone furthest in terms of de-dollarization and we can recognize the decrease in the rate FCD/M2 of Vietnam in earlier four year. A successful de-dollarization is necessary given the foreseeable opening of the Vietnamese economy in the context of WTO.