Issues Related to Government Control of Credit Allocation

In the process of transforming a formerly centrally coordinated system to a market-based system, the timing of the transfer of government ownership (the equitisation process), on the one side, and the relationship between the SOBs and the SOEs, on the other, determine where and how the government (if it desires to do so) can continue a policy of subsidising the state-owned enterprises. Table 6.2 presents the four different outcomes in a simplified representation of this argument:

Table 6.2: Objective of SOBs and credit allocation to SOEs

Allocation of credit to SOEs is market-based

Allocation of credit to SOEs is determined by government

Top priority of former state-owned but

now private banks is to maximise profits

4 3

Profit maximisation is not the top

priority of the SOBs

2 1

Outcome 1 in Table 6.2 more or less represents the situation in Vietnam prior to the initiation of the Doi Moi reforms. The overall objective of the SOBs was to function as a supplier of credit to the SOEs – i.e. to be subservient to SOEs. Consequently, maximisation of SOB profit was not a priority objective if at all on the list of priorities.

The SOEs were the focus of government economic policies and planning, and the government consequently controlled allocations of credit to the SOEs in accordance with these plans and objectives.

At the other end, outcome 4 to some extent reflects the current situation in OECD countries. State-owned enterprises can, of course, still apply for credit in (the often formerly) state-owned banks, but given that the first priority of the SOBs is to maximise profits, any decision to grant credit to SOEs will be made based on a market-based assessment of expected profits and risks associated with their application. To obtain this degree of bank autonomy vis-à-vis SOEs typically requires that the SOBs are sold to private owners through a process of equitisation.

Outcomes 2 and 3 represent intermediate stages in the transition from outcome 1 to outcome 4. In outcome 2, the SOBs are still not allowed to assign top priority to profit maximisation but the allocation of credit to SOBs is conducted according to market principles. Hence, while SOBs might be forced to extend loans to SOEs they will (in

principle)⁴² receive compensation for doing this from the government. Consequently, any subsidies and favourable treatment that the government might wish to extend to the SOEs will come from and appear on central government budgets. This (potentially) has the benefit of enhancing overall transparency concerning the extent and nature of government subsidies to the SOBs.

Outcome 3 represents another quite different situation. Here the SOBs are allowed to pursue an overall objective of profit maximisation vis-à-vis their non-government customers while the government reserves the right to stipulate the terms and conditions under which the SOEs receive credit. In this outcome the government transforms bank profits made on private customers into subsidies to the SOEs. As a consequence, any direct subsidies given to SOEs over the state budget can be reduced by the indirect subsidies channelled through the SOBs and financed by the SOB private customers. In addition, the extent and nature of subsidies given to the SOBs are less transparent to both outsiders and to the government itself.⁴³

The transformation from outcome 1 to 4 is a prolonged and gradual process rather than a clear structural break. Moreover, the timing between the process of increasing SOB autonomy (the equitisation process) and the process of reforming the principles and procedures governing the allocation of credit to the SOEs is likely to be neither perfect nor coordinated. On this background, it makes sense to compare and evaluate outcomes 2 and 3.

First, it should be noted that Outcome 2 is clearly preferable to Outcome 3 in terms of overall transparency of the character and magnitude of subsidising SOEs. This is the case for both the central government that achieves better and more precise information, which can be used to improve and reform existing polices, and non-governmental, external agencies, which (if allowed by the government) can obtain a better assessment of the overall state of the economy and the financial sector in particular. Second, it is clear that Outcome 3 becomes increasingly non-sustainable if the process of equitisation lead to a gradual increase in the private ownership of banks. It is thus evident that an inherent tension exists between increasing the level of SOB autonomy, on the one side, and the government wishing to continue to influence the allocation of credit to the SOEs, on the

42 The SOBs will not be fully compensated to the extendt that stipulated extension of credit to SOEs might limit the SOBs possibilities to pursue more profitable projects in the private sector due to, for example, reserve requirements and/or a limited supply of credit available.

43 Note that this might represent a serious short-term problem if this is inclined to abolish the practice of

other. In conclusion, Outcome 2 is the preferred intermediate stage between a centrally coordinated economy and a market-based system, consisting of fully autonomous economic entities.

Vietnam has already launched a process of equitisation with the stated objective to fully privatise the SOBs (see Chapter 3). Thus, one objective of the subsequent analysis in this chapter is to assess the degree to which SOBs receive market-based compensation for allocating credit (directly to SOEs or to government programmes) according to government directives. This will give an indication of the nature of future tensions that are likely to arise in the process of transforming the Vietnamese financial sector.