Stronger headwinds bring newchallenges for the government

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COVID-19 POLICYRESPONSE NOTES #3

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COVID-19 is a gigantic shock,devastating the society and theeconomy across the world often inmutually reinforcing ways. Mostcountries are entering into recessionand a recovery is not expected beforethe end of the third quarter of 2020,which should hopefully intensify over thecourse of 2021. Uncertainties are solarge that both the health and financialconsequences of the global outbreak areproving diff icult to predict. All over theworld, economists have beencontinuously revising their economicprojections to better reflect the growingnegative impact of the global pandemic,and the World Bank Group has

and the World Bank Group has beenplaying a crit ical role in this effort byproviding much needed technical adviceand financing. Against this backdrop, the economicprojections for Vietnam have beenrevised downward significantly. TheCOVID-19 outbreak has so far beencontained in Vietnam through thecombination of smart preventivemeasures and controls. GDP growth isprojected to be only 3.0 percent in 2020,which is good by regional andinternational standards but the lowestexpansion rate since 1986. Our newprojection is lower than the 4.9 percent growth

With rising global health and economic concerns, Vietnam economy is expectedto be significantly affected, even though the COVID 19 health crisis has beenso far contained, with only 240 cases of infected people and no registereddeath as of early April.The World Bank’s GDP growth forecast for Vietnam has been cut by halfcompared to pre-crisis projections, with new forecast at 3.0 percent in 2020.Both the fiscal and external accounts are expected to deteriorate, creating afiscal f inancing gap of approximately $5 bil l ion that wil l require new borrowings.The Government’s fiscal response—a combination of tax and social protectionmeasures—is expected to attenuate the short-term economic costs associatedto the COVID 19 pandemic, but the key challenges wil l be the rapid andeffective implementation of the above measures and preparing the economy forthe expected rebound when the health crisis is contained.Easing monetary and credit policies creates a welcome buffer to the affectedbusinesses, but close monitoring is required as banks become increasinglyexposed to the economic slowdown, affecting their asset quality, l iabil i ty, andprofitabil ity over time.Potential areas for collaboration between the Government and the World Bankcould include (i) macro and fiscal monitoring; (i i) implementation of socialprotection measures; and (i i i) reforms to be implemented for optimizing therebound of the economy.

Key messages

Stronger headwinds bring new challengesfor the government

1. This note was prepared by Jacques Morisset with inputs from Alwaleed Alatabani, Nga Nguyet Nguyen, Viet Tuan Dinh, ObertPimhidzai, Steffi Stallmeister, Dung Viet Do, and Viet Anh Nguyen; and under guidance fromOusmane Dione, Deepak Mishra, andRinku Murgai.

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COVID-19 POLICY RESPONSE NOTESStronger headwinds bring newchallenges for the government

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Stronger headwinds will reduce growth and requireadditional financing

consumption, especially since a State ofEmergency was declared by the PrimeMinister at end of March. The first quarter results, justreleased, confirm the slowdown in therate of expansion of the Vietnameseeconomy. Although the outbreak wasonly reported in China by mid-Januaryand Vietnam started to implementrestrictive measures in early February,the quarterly GDP growth rate was only3.8 percent - the lowest expansion since2009. While several sectors performedrelatively well (such as manufacturingand construction), the service sectorwas severely hit, especially tourism andtransport activit ies. The growth of retailcommerce (a proxy for households’consumption) was almost f lat (up 1.5percent in real term) compared to a 9.3percent expansion during the firstquarter of 2019. Total investment wasalso slightly down because of lowerprivate investment (including FDI) eventhough it was only partly offset by higherpublic invest

projection is lower than the 4.9 percent growth rate that was projected in therecently published the East AsianEconomic Update . We sti l l expect thatthe Vietnamese economy will recoverrelatively quickly and report a GDPgrowth rate of 6.8 percent in 2021. Thisassumes that the global health crisis wil lstart phasing out by June/July 2020,followed by a gradual resumption inexternal demand in the country’s maintrading partners.

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The reason for the downwardadjustment in the growth rate is thestronger headwinds in both the globaland local economies. By now, it is aforegone conclusion that the globaleconomy will sl ip into a recession in2020. The Conference Board consensusestimates from March 25 suggest adecline of US GDP in 2020 of 1.6-6percent, with the odds rapidly moving toa worse scenario.

The PMI for the Eurozone dropped from51.6 in February to 31.4 in March – thelargest decline since comparable datawere first compiled in July 1998. TheWorld Bank projects growth in thedeveloping regions to slow to 0.9percent in 2020, down from a forecast of4.1 percent in the January GlobalEconomic Prospects (GEP), withcontractions in all regions of the worldexcept East and South Asia. This globaldownturn wil l sharply reduce foreigndemand for Vietnamese exports duringthis period. It could also disrupt globalvalue chains in industries such aselectronics and texti le that account forabout 2/3 of the country’s total exports.The tourism sector is at standsti l l withno foreign visitors allowed and heavyrestrictions on international anddomestic passenger travel.Concurrently, the local economy is beinghit by more restrictive measures on themobility of people, affecting businessesand households, lowering domesticconsumption, especially since a State

Table 1: Summary of main economic indicators, 2018-2022

2. The World Bank, East Asian Economic Update: East Asia and Pacific in the Time of COVID-19, March 31, 20203. https://www.conference-board.org/data/usforecast.cfm

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Source: GSO, MOF, SBV and World Bank projections*According to IMF's GFS statistics

though it was only partly offset by higherpublic investment. Net exports, after agood performance in January andFebruary, fell abruptly in March mainlyas the result of lower earnings fromtourism and transports (down by over 30percent). Similarly, FDI commitmentdeclined by almost 21 percent in the firstquarter compared to a year ago. The decline in the GDP growth ratewill be accompanied by adeterioration in the fiscal and externalaccounts. On the external front, thebalance of payments wil l suffer as aresult of lower (net) exports, inparticular services, and a decline inremittances as well as of FDI inflows. Asa result, the current account surplus isl ikely to decline be approximately 5percentage point of GDP—from 4.5percent in 2019 to 0.1 percent in 2020(table 1). However, the resulting impacton the balance of payments should belimited with a marginal depletion ofinternational reserves in 2020, which at$78 bil l ion represents a strong bufferagainst growing pressure on thecountry’s external accounts. The Government’sfiscal consolidationdrive would be temporarilyinterrupted by the COVID 19crisis. The overall f iscal deficit isexpected to jump from 4.4 percent in2019 to approximately 5.8 percent ofGDP in 2020, abcd

To mitigate the significant health andeconomic shocks to the economy, theGovernment has taken a series ofactions. Under crisis conditions,aggregate health, economic, andfinancial indictors race away from thepre-crisis normal to a peak level ofdistress, and then begin to ebb beforeslowly getting back to normal (whichneed not match the pre-crisis normal).What matters for policymakers is thepeak of the half-cycle and its duration.The

The deeper the crisis (the taller the peakof the half-cycle), the more damaging itis from a long-term perspective. Clearlyin the case of health, f lattening thepandemic curve is important because itsaves l ives. For this reason, theGovernment has focused its init ial efforton controll ing the health dimension ofthe crisis by scaling up testing andcontroll ing mobil ity. Over time, increasedpreventive measures were taken fromthe closure of schools in early Februaryto the declaration

4. While fiscal data is still incomplete for Q1 2020, preliminary results are that the collection effort was good in January andFebruary but fell significantly in March due to lower domestic activities and declining imports.5. P. Dudine and J. T. Jalles, How Buoyant is the Tax System? New Evidence from a Large Heterogeneous Panel, IMF workingpaper, WP/17/4, 2017.

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GDP in 2020, mainly as the result oflower revenues from the expectedslowdown in economic activity. Weestimate, extrapolating from a recentstudy from the IMF on a large set ofcountries, that a substantial decline ineconomic activit ies due to a shock suchas the current pandemic could reducetax revenue by a factor of two – meaningthat a 3.5 percent decline in GDP growthcould lead to a 7 percent decrease in taxrevenue or the equivalent of about 1.2percent of GDP . This loss in revenue,should be added to the cost associatedwith the fiscal package underconsideration by the authorit ies. Weexpect that the Government wil l return toits prudent fiscal policy in the aftermathof the global crisis, explaining why theoverall f iscal deficit wil l decline to 4.7and 4.0 percent of GDP in 2021 and2022 respectively. The projected increase in the fiscaldeficit will create a fiscal financinggap of about $5 billion in 2020.Compared to the pre-crisis projections,the Government wil l need to secure anadditional 1.8 percent of GDP in newfunding, leading to an increase in thepublic debt to GDP ratio from 54.1 to55.8 between 2019 and 2020. Becausethe Government wil l resume itsconsolidation effort in 2021, the debttrajectory should remain sustainableover the medium term.

Fiscal package: what we know so far

Stronger headwinds bring newchallenges for the government

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to the declaration of State of emergencyby the Prime Minister at the end ofMarch. Today, almost all internationalpassenger fl ights have been cancelledand domestic mobil ity severelyrestricted. Due to Vietnam’s early action(including contact tracing) and extensivemeasures, it has been internationallyrecognized for the adequacy of itsresponse that has translated into alimited number of infected cases (around240 as of April 4) and no registereddeaths. A deep and prolonged economicrecession, to the extent possible,must be avoided, as it can causelasting damage. Economic cycles are aregular occurrence even in marketeconomies. If the peak of the cycle isnot excessively high, things get back tonormal when the economy returns to itslong-term trend. But deeper and moreprolonged recessions have the potentialto erode human capital and weakeninstitutions. As argued in our previouspolicy update, it is essential that theGovernment acts on a sequencingstrategy to support most affectedbusinesses and people in the short termand prepare early enough to reactivatethe economy when the heath crisis isphased out, hopefully in the next fewmonths. Measures to accelerate theimplementation of the existing publicinvestment program and structuralreforms to make the best use of digitaltechnologies as well as to strengthenthe level of resil ience and preparednessof the health system for futurepandemics could help to quicken thepace of recovery. So far, the Government has prepareda series of fiscal measures to mitigatethe impact on most affectedbusinesses and people – the first stepof what should the comprehensiveeconomic response. As presented inAnnex (Table A2), COVID 19 can affectwellbeing of cit izens through threedifferent channels: (i) health preventive restrict

and remedial measures; (i i) measures torestrict mobil ity; and (i i i) trade disruptivemeasures. The resulting impact of thesechannels could be a combination ofreduced output and higher prices. TheWBG team has been interacting with theauthorit ies on the content and themagnitude of their f iscal package tomitigate the impact of these channels.However, our assessment is based oninformation collected in early April,recognizing upfront that the policyresponse should evolve rapidly to adjustto changing conditions. The initial mitigating measures havefocused on two type of instruments:tax payment and social insurancedeferrals, and direct financialassistance to employees andvulnerable households (see Tables A3and A4 in Annex for a full description).These instruments are well aligned withinternational practices as they aim atrelaxing the cashflow constraint on mostaffected businesses and people. Asdiscussed below, our preliminaryassessment is that the proposedpackage is ambitious as it covers mostformal f irms operating in Vietnam bypostponing their tax payments and usesvarious existing social programs todistribute extra cash to approximately 26mill ion vulnerable people andhouseholds’ businesses. It is alsoaffordable, with an estimated cost ofabout one percent of GDP, that shouldremain within the boundaries of thefiscal framework discussed earlier,However, further improvements could beconsidered to better cover the informalsector. A major challenge wil l be toidentify businesses and employees inthe informal sector and to transfer themthe extra money when most of themhave no bank accounts and theirmobil ity is restricted. Relatively big package but affordable When designing their response,governments are facing a trade-offbetween

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46. The World Bank: Vietnam: Potential policies responses to the COVID-19 epidemic, March 4, 2020.

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the measures of direct financialassistance to vulnerable firms and people (see Table A3 in Annex). Thetotal cost is estimated at aroundVND61.4 trillion or almost one percentof GDP. Around ¾ of this amount wil l befunded directly from the State budget(and accumulated reserves from the Un-employment Fund), while the remainderwill be financed by the combination ofsocial security payments deferrals andloans to affected households’businesses. The budgetaryresponsibil i t ies between central andlocal governments have already beendefined following a set of rules thatmainly depends on the financial capacityof each Province. The fiscal cost associated with taxmeasures (described in Table A4) islimited even though the StateTreasury may face liquiditychallenges in the short term. Sincemost actions consist of the deferral oftax payments over the next few months,tax administration wil l recover theirrevenue before the end of theyear. Under these conditions, the fiscalcost is simply the delay in payments thatcan be estimated in the range of aroundVND 3.6 tri l l ion (US$ 190 m) assuming adiscount rate of 3.6 percent (which isthe interest rate on T-bonds today).However, because of the magnitude ofdeferrals, the Government wil l face ashortage of l iquidity in the short termthat wil l reach approximately VND 241.8tri l l ion (US$ 10.3 bn).This temporary gapwill need to be fi l led by the use ofcontingent funds set aside in the budgetevery year (equivalent to 5 percent ofthe State budget) and, most l ikelycomplemented by short term borrowing. Broad coverage despite the challengeof the informal sector The proposed package is ambitious asit will cover almost all formalbusinesses operating in Vietnam anda relatively large number ofvulnerable groups. It is estimated thatthe direct f inancial program will reach 26mill ion people

between helping the most affectedgroups and respecting existing fiscalrules. We believe that the Governmentof Vietnam has found the right balancewith the set of proposed measures thatare estimated to cost around onepercent of GDP. This cost wil l contributeto an increase in the fiscal deficit butshould be affordable using acombination of contingent allocation andfunds from the budget of central andlocal governments and additionalborrowing. Most importantly,authoritative research on the 1918pandemic suggests that regions thatintervened earlier and with moredetermination experienced a relativeincrease in real economic activity afterthe pandemic subsided. Pandemics havelarge costs, but “non-pharmaceuticalinterventions can lead to both bettereconomic outcomes and lower mortalityrates. The size of the fiscal package by theVietnamese authorities would be onthe low- side compared to other EastAsian and developing countries. Itwould be within the range of the fiscalpackage recently adopted by Indonesia(0.8 percent of GDP), Myanmar (1percent) as well as Argentina (1percent), and higher than the onesadopted in South Africa (0.2 percent)and Japan (0.1 percent). However, itwould be lower than the ones reported inPhil ippines (1.7 percent) and Thailand(3 percent) and distant to the onesannounced in Brazil (over 2 percent ofGDP) and far below the recently adoptedpackages in OCED countries such asUSA and Australia (close to 10 percentof GDP). The authorit ies haveproportioned their init ial response to thesize of the shock and to their availablefiscal space but, as discussed later,should be ready to adjust their responsein view of the evolving conditions in thefuture. The bulk of the fiscal costs of theVietnamese program will be linked tothe measures of direct financialassistance to vulnerable firms andabcd

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57. Correa, Sergio, S. Luck, E. Verner. 2020. “Pandemics Depress the Economy, Public Health Interventions Do Not: Evidence fromthe 1918 Flu”. MIT and The Federal Reserve Board. https://papers.ssrn.com/sol3/Papers.cfm?abstract_id=3561560

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vulnerable groups. It is estimated thatthe direct f inancial program will reach 26mill ion people or almost 30 percent ofthe country’s population. Measuresinclude the standard actions to deferfi l ing and payment of taxes and cut intosocial contributions by formal employeesand employers. They also provide no- orlow-interest loans to firms and targetedtransfers to firms as well as pay a shareof private wages directly to workers,with the objective to l imit long term lay-offs. To broaden the coverage tovulnerable groups and informal workers,direct f inancial assistance wil l beoffered over a three-month period. By definition, all tax related measuresare directed to enterprises and peoplethat pay their financial obligations.These relief measures wil l be offered toalmost all sectors of activit ies, but thenotable exceptions are thetelecommunication and constructionsectors (See table A4). Qualif iedtaxpayers wil l benefit from acombination of temporary tax relief onVAT, CIT, PIT and other smallerobligations such as land rental charges.While social security contributions arenot per se taxes, their deferral wil l alsoalleviate cash flow pressures ofbeneficiaries. This measure wil l alsoreduce the cost of formal labor and so,hopefully, reduce the incentives foremployers to lay-off their workers.Altogether, these measures wil l reducethe payment of tax obligations in themagnitude of VND 210,000 bil l ion,alleviating temporarily the cash flowsconstraints of most f irms in the country.In the longer term, to the extent thatthese obligations wil l be paid by thefirms at the end of the grace period,their savings could be estimated aroundVND 15,000 bil l ion (if they would haveborrowed this money at a lending rate of12 percent). On top of tax and social insurancedeferrals, the Government hasdesigned social protection measuresby using (i) special support (includingwage subsidies) to registered firms toretain

designed social protection measuresby using (i) special support (includingwage subsidies) to registered firms to retain their workers; (ii) top-upfinancial support to beneficiaries ofexisting social programs; and (iii)monthly allowances to informalemployees. The government’s responseis well aligned to the one used by mostcountries to mitigate the short- termimpact of the COVID 19 on mostaffected groups (Figure 1). Themeasures are briefly described below. Registered firms will receive specialfinancial support to retain theirworkers. Proposed measures includepartial payments of wages to temporarylay-off workers, deferral of SIcontributions, training, and subsidizedloans to employees (measures # 7-10 intable A3). According to the Government,the combination of these measures isexpected to reach about 4-5 mill ionbeneficiaries or less than 10 percent ofthe total labor force as most workershave no contract or are in self-employment. The total amount offinancial support per worker (equivalentto about VND 1.7 mill ion (or $80) permonth is also relatively low as it wouldrepresent only 40 percent of the mediansalary in the manufacturing sector.

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Figure 1: Global mix of COVID-19 SPresponse programs and adaptations (n=418),

as of early April

Stronger headwinds bring newchallenges for the government

Source: World Bank

Registered firms wil l receive specialf inancial support to retain theirworkers. Proposed measures includepartial payments of wages to temporarylay-off workers, deferral of SIcontributions, training, and subsidizedloans to employees (measures # 7-10 intable A3). According to the Government,the combination of these measures isexpected to reach about 4-5 mill ionbeneficiaries or less than 10 percent ofthe total labor force as most workershave no contract or are in self-employment. The total amount offinancial support per worker (equivalentto about VND 1.7 mill ion (or $80) permonth is also relatively low as it wouldrepresent only 40 percent of the mediansalary in the manufacturing sector.Retaining workers, even on a part t imebasis, wil l not only help maintain theirincome during the crisis but it wil l alsohelp to speed up the reactivation ofproduction when the demand wil lincrease again. Beyond formal businesses andworkers, about 16.7 million vulnerablepeople will receive direct financialsupport through participation inexisting assistance programs byproviding additional benefits (‘top-ups’)on a temporary basis. The proposalwil l provide support to the poor, near-poor

poor households, social assistancebeneficiaries, and “merit” people. Mostof these are currently beneficiaries ofdifferent assistance programs. Eachpoor household wil l get a monthlyallowance of VND1 mill ion (USD 43),near-poor households get VND 500,000(USD 21) per month, while socialprotection beneficiaries and those withmeritorious services would receiveVND500,000 (USD 21) permonth.Approximately 760,000 registeredhousehold businesses (who have annualrevenue below VND100 mill ion) wil lreceive a monthly allowance of VND500,000 ($21.5). These allowanceswould be provided over at least threemonths (unti l June). In a deliberate effort to broaden thecoverage to the informal sector, theGovernment has included a monthlydirect support to five million non-registered employees for at least athree months period. The total monthlyallowance would be of VND 1.8 mill ion($51) per person. Such a measure isjustif ied by the high-level of informalityin sectors which are the most vulnerableto the COVID19 such as tourism,transport and retail trade (see Table 2).Many of these informal workers are alsounlikely to receive support though theexisting programs mentioned above astheir databases are rather incomplete.abcdefgh abcd

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78. This figure does not include the benefits associated to training and SI deferrals.9. We assume that the median size of household is 4.6 members.

Table 2: Labor market in Vietnam, 2018 (%)

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9

Source: WB Staff Estimates

their databases are rather incomplete.However, it remains unclear how the.Government calculated the number ofbeneficiaries in the range of 5 mill ionpeople as no clear eligibil i ty criteria hasbeen yet shared. This figure is alsounlikely to cover all informal workersaffected by COVID 19 crisis. Forexample, the distress of the hotel sectorcould mean that 90 percent of its laborforce could be temporary unemployed,including possibly up to 3.7 mill ioninformal employees. If the lay-offsinclude half of the informal labor force inthe logistics sector and retail commerce,the total number of affected workers wil ljump by an additional 7 mill ion. Inaddition to the size of the informalsector beneficiaries, our most importantconcern is how to implement thismeasure as discussed below. A general concern is that theGovernment’s program may omit afew potential vulnerable groups.Among them are the elderly people whomight not belong to any of the groups ofbeneficiaries identif ied by the authorit ies(a rough estimate is about half of totalpeople aged over 65 years old). Not onlyaged people report generally low or noincome, but they are also extremelyexposed to the COVID 19 pandemic. Thenumber of people 65 years and older inVietnam is estimated to be at around 11mill ion in 2019. Some specificprofessions (tour operators, taxi drivers,etc.) wil l be more affected than others,which could benefit from specialattention. For example, in Singapore,taxi drivers and private-hire car driverswill receive relief payments of S$300(USD210) per vehicle per month unti lthe end of September. Implementation would be challengingespecially for the informal sector The Government aimed at minimizingthe transactions costs associated withthe abcdefghik

implementation of the differentassistance programs. All related taxmeasures should be relatively easy to implement as deferral mechanisms arewell known by the tax administration.Similarly, the allocation of directpayments to several groups wil l berealized through existing programs thathave proved their relative efficacythrough the network of governmentagencies in the country over the pastfew years. However, specific attentionshould be on monitoring and evaluationto reduce the risks of delays andleakages during the implementation ofthese programs under specialcircumstances as transactions are oftenon manual basis and it is hard to followsocial distancing requirement duringpandemic period. The main challenge will be to providefinancial assistance to millions ofinformal employees, includingpossibly street vendors and smallfarmers, who are currently notregistered under any existingprogram. The authorit ies are facing adouble problem that is, f irst, toidentify/register them and, second, totransfer the cash to them. Manycountries can rely on a comprehensiveID system and the use of digitalpayments through mobile phones.Unfortunately, Vietnam is lagging inthese two areas . The Government wil lhave to find alternative solutions,including by using existing databasessuch as MOLISA, VSS, and cit izen IDdatabases as well as from mobileoperators as currently experimented inother countries. The extension of pilotprograms using mobile payments couldalso be accelerated. As done recently byIndonesia, Thailand, Phil ippines, andArgentina, voluntary e-registrationprograms can be launched throughwhich the informal workers canregistered themselves . The authorit ieshave then to check if the registeredpersons are not already included inother databases from abc

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10. While Vietnam has well developed social programs for the extreme poor, there is relatively little assistance offered to othervulnerable groups, such as informal urban workers that are the most impacted by the COVID 19. It is therefore difficult to top upexisting programs to reach them.11. The Thai authorities in their second package have provided for a THB 5,000 (USD152) monthly payment for three months foraround nine million workers not covered by the Social Security Fund. This involved rapid registration of millions of informal workers,which was achieved using a banking app, and leveraging Thailand’s strong national ID system.

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persons are not already included inother databases from the taxadministration, social security orregistered households’ businesses toavoid duplication of assistance. As aresult of this screening process, in thePhil ippines, out of 18 mill ion people who submitted on-line applications, two-thirdwere automatedly eliminated throughchecking across government databases. One common challenge to existingand new programs is to proceed withtimely payments to beneficiaries whenpeople cannot freely move because ofcontainment measures. As only 1 outof 3 Vietnamese own a bank account,the banking system is not a practicalsolution or can be considered only anincomplete solution. Today mosttransactions include manual cashpayment that are both not transparent,inefficient, and not following socialdistancing principle during pandemics.Given the magnitude of targetedbeneficiaries (approximately 15 mill ion),it would be important to avoidcongestion in banks and governmentoffices as recently experienced in thestreets of Argentina when thousandsof pensioners and cit izens who receivegovernment welfare l ined up outsidebanks

to get their monthly payments. The longlines underscored some of the strainscreated by the coronavirus pandemic incountries in which less than half of thepopulation has a bank account and e-payments through mobile phones are notyet possible . Because of the challenge to distributemonthly allowance to newbeneficiaries under the currentcircumstances, some governmentshave opted to reduce the utility billsof poor customers. For example,Malaysia is providing a 15 to 50 percentdiscount, depending on consumption, onthe electricity bil l for households. Thegovernment of Indonesia announced fullelectricity subsidies for householdsusing 450 Volt-Ampere (VA) connectionsand a 50 percent subsidy for those on900VA connections between April andJune. In the case of Vietnam,subsidizing the electricity bil ls of poorhouseholds might not be efficient asthose account for an insignificant shareof their monthly expenses (on averageonly 2 percent). However, such ameasure could be considered for themobile phone bil ls, which account for alarger share of their expenses.

Contrary to the 2009 global crisis, thecurrent turmoil does not find itsorigin in the excesses of the financialsector. The global pandemic hasaffected the real economy, both thesupply and demand sides, and financialpolicies have been seen as part of thesolution than the source of currentproblems. In almost all countries,including in Vietnam, Central Bankshave eased monetary and credit policiesto rescue affected business andhouseholds. However, the financialsector is not immune to the currentCOVID 19 crisis as deterioration ofbusiness performance and householdconsumption wil l eventually hit thebanking

banking sector and the capital markets. As of today, the outstanding credit tothe economy is currently aboutVND8,251trn (US$350 bn), of which 54percent is for businesses. Since theoutbreak of COVID-19, outstandingloans decreased in most sectors ofwhich the most significant were inservices, trading, tourism andtransportation. In the first 3 months,credit to the economy only increased by0.68 percent, the lowest growth rate inthe last 5 years. Credit growth in manycommercial banks either stood sti l l ordeclined due to low credit demand fromboth corporate and retail segments. Onthe consumer side, credit demand

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Special focus: The impact of COVID-19 on thefinancial sector

12. https://www.reuters.com/article/us-health-coronavirus-argentina/ridiculous-block-long-lines-at-banks-greet-argentine-pensioners-at-high-risk-for-coronavirus-idUSKBN21L2Y6

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the consumer side, credit demand hasalso decreased in l ine with slowergrowth of retail sales of consumer goodsand services that only increased by 4.7percent YoY in the first two months andgrew much slower than the same periodin 2019 (at 12.1 percent). Deposit growth (fund mobilization) ofbanks also increased slowly. Depositgrowth and total money supply (M2)growth expanded for only 0.51 percentand 1.55 percent respectively (last yearincreased 1.72 percent and 2.54percent) (Figure 2). Due to decliningrevenues, many businesses haveresorted to withdrawing their bankdeposits to cover operation costs.Consumer deposits are l ikely to declinebecause of lower monthly individualincomes when their employment isthreatened and/or uncertain. These negative trends occurreddespite the supportive policymeasures the State Bank of Vietnam(SBV) has issued. In March 2020, theSBV cut its benchmark rates by 50-100points and reduced short-term depositrates cap by 25-30 bps, and the short-term lending rates cap for prioritysectors by 50 bps; raised theirremuneration rates on required VNDreserves. The authorit ies announced acredit package totaling VND 250 tri l l ion(about 4 percent of 2019 GDP) for thebanking sector design

banking sector designed to supportaffected firms and households throughrestructuring loans of affectedbusinesses and a reduction or waiversof interest rates and fees. Thesesupportive policies have and wil lcontribute to reduce temporarydiff iculties of f irms facing cash flowissues and debt repayment challenges.They are mainly targeted to the formalsector, most notably large enterprises,as the credit allocation to small andmedium firms has been marginal, albeitincreasing, over the years. However,their implementation by banks wil lincrease the pressure on their netinterest margins (NIM) and, ult imately,reduce their overall profitabil ity. To the extent that the COVID 19 crisisis expected to last over the next fewmonths, both credit and depositgrowth are expected to expand at aslower pace in Q2 with the continuedstagnation of business activities inmost sectors. While most commercialbanks appear well equipped to resist atemporary economic slowdown, theymay start to face a decline in assets’quality through higher non- performingloans in their portfolios if the crisis lastlonger. In addition, some might be morefragile due to their relatively highexposure to tourism and real estate thathave considerably affected by the crisis.Some banks are also undercapitalized,therefore

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Figure 2: Credit, Deposit and Total money supply (M2)growth in the first 3 months, 2017-2020

Figure 3: Loan balance (VNDtrn) and YTD growth (%) asof 20 Mar 2020

Source: SBV, GSONote: Total money supply include corporate and individual deposits PLUS thevalue of issued valuable papers purchased by credit institutions

Source: SBV, GSONote: The most significant declines in outstanding loans came from Services,Trading, Tourism & Transportation

Stronger headwinds bring newchallenges for the government

therefore l iming their resil ience. An ongoing concern is to ensure adegree of financial safety net forsmall businesses in affected sectorsto avoid situations of illiquidityleading to insolvency of businesses.Liquidity in the banking system in Q1remained stable due to slow creditgrowth, low interest rate levels in theinterbank market and SBV's netwithdrawal via OMO or the issuance oftreasury bil ls (SBV net withdrewVND94.96trn/US$3.98bn in February).Liquidity is expected to remain stable inQ2 due to low credit demand since theLunar New Year and the abundant cashcirculating in the banking system beforethe COVID-19 broke out. By the end of2019, deposits grew in parallel withcredit (13.6 percent) and total moneysupply (M2) grew faster (14.2 percent). For the monetary authorities, it wouldbe prudent and essential to plan for asituation where the economic effectsof the pandemic continue beyond Q2.This may require continued andpotentially more direct support to thebanking sector. The longer thispandemic prevails, the more l ikely is therisk for the banking sector to be severely impacted a

severely impacted and broader fiscaloptions would need to be considered.Structural weaknesses in the bankingsector l imit the available options for theSBV. For instance, relaxing banks’capital buffers to improve liquidity, ashas been done in several othercountries, is not an option in Vietnam.Moreover, SBV will need to continuemonitoring the l iquidity situation andmay have to pursue furtherexpansionary monetary policies throughlowering interest rates at least oncemore, reducing net withdrawals of VNDfrom the market or consider l iquidityinjections to the economy to supportbanking system liquidity if the creditsituation lasts longer and leads to aliquidity crisis for banks. Liquidityinjections can include targetedinterventions to support the bankingsector such as policy loans, emergencyloans and the implementation of banks’supporting credit packages. Finally, it will be important to assessthe impact of the pandemic and theeconomic slowdown on businessesthat have issued corporate bonds inthe corporate bond market over thepast 2 years. The potential effect ontheir revenues and capacity to honorcoupon payments.

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Conclusion  and next stepsThe COVID 19 pandemic has alreadyshaken Vietnam’s traditionalresilience to external shocks. In 2020,the economy couldsee its expansion cutby half compared to pre-crisisprojections, with increasing pressure onits external and fiscal balances. Whilethe economic fundamentals remainstrong, the government might have tofind about $5 bil l ion to finance its f iscalgap due to declining revenues and theimplementation of a fiscal program thatis required to attenuate the negativeimpact on businesses and households. The proposed fiscal package underabcd

preparation by the authorities isambitious, but affordable within theexisting fiscal framework. Thispackage wil l combine tax and financialsupport measures to both the formal andinformal sectors. The emphasis ishowever mainly on formal businessesand workers. The main challengethat remains is how to cover informalemployees, mainly street vendors andsmall farmers, who are neither wellidentif ied nor easy to reach thoughstandard manual payment procedures. The financial sector offers a solutionto alleviate the cash flows problemsfaced by

Stronger headwinds bring newchallenges for the government

The first area of collaborationwouldbe on economic monitoring as thecountry’s macroeconomic and fiscalprojections wil l need to be regularlyupdated to the frequent changes inboth the domestic and global arena.The WBG team can share timelyinformation on other countries as wellas on mega-trends emerging in trade,capital f lows, and financial markets.The Bank could also collaborate inthe task to collect t imely and highfrequency information. TheCOVID-19has placed limitations on traditionalface-to-face methods of datacollection. The use of technologysuch as mobile and internet to gatherdata has been used in settings wheretraditional survey methods cannot beimplemented. Our team hasdeveloped tools, some of which couldbe applied in Vietnam, such as rapidmobile surveys of f irms/householdsand online-based tracking informationthat could include satell i te data (e.g.nightl ights), digital data (hotelbookings, mobil ity and transport data)and high-frequency administrativedata (e.g. aviation data) to trackeconomic activity, as well as prices ofkey commodities. Furthermore, wecould support the tax administrationto prepare and implement acompliance stra

faced by many businesses. Yet, closemonitoring is required as banks wil l alsolikely suffer from lower profitabil ity andhigher exposure to delinquentloans ifthe crisis last longer thanexpected. The WBG stands ready tohelp the Government in its effort tomitigate the short-term impact of theCOVID 19 crisis on the economy. Ourteam can share international bestpractices and organize technicalassistance on specific topics to tackleand shorten the crisis as well toenhance Vietnam’s preparedness forfuture shocks upon request of theauthorit ies. This collaboration could takeplace in at least four areas that arebriefly described below.

The second area would on theimplementation of the proposedmeasures to protect the most affectedgroups. Our team could collaborate onthe challenge to provide directsupport to the informal sector bysharing experiences currently underimplementation in other countries,including,in the region, such asThailand, Indonesia, and Phil ippinesthat are facing the similarchallenges.We could also explore howto expand the e-payment pilot of SAbenefits in Cao bang to other areasas currently envisioned by MOLISA.We could help update MOLISA’sregistry of poor and near poorhouseholds, that is sti l l incompletedespite of recent efforts. Finally, wecould provide technical support in themonitoring of the programs to gathersocial sentiments from beneficiariesand communities as well as theircoping strategies by using socialmedia platforms through the DataCollaboratives agreements betweenthe WBG and several socialmedia/internet companies (e.g. usingFacebook mobil ity data, Google, orGrab app data. The Iterativebeneficiary monitoring (IBM) could bevaluable tool to be used as part ofproject supervision/programmonitoring activit ies as it helpsgenerate real-time feedback loops onimplementation progress and potentialimplementation bottlenecks. It isalready under use in over 80 projectsat the World Bank.).

The third area of collaboration wouldbe on the reforms that wil l benecessary to optimize the response ofthe economy when the health crisiswil l start to phase out in the next fewmonths. As emphasized in our lastpolicy

strategy that helps to fight against theincrease in non-compliance behaviorsresulted from the crisis, such aslate/none fi l ing, late/none payment,and increased tax arrears.

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Stronger headwinds bring newchallenges for the government

policy note, these could include supportto the government in its effort tosimulate the aggregate domesticdemand through an acceleration of theexisting public investment programs.[1]The proposed actions aim ataccelerating the execution of capitalexpenditures through the digitalizationof procedures and faster approvalprocesses for priority spending. Becausepublicworks programs can generatetemporary jobs and provide incomesupport, existing public works can beadapted or new ones can be deployedand so stimulate the economy at thecommunity level. Specific actions couldbe designed to enhance the response ofcustomers in distressed sectors such astourism and transport (using the specificexpertise of IFC in theseindustries). Concurrently, there is anopportunity to expand the digital agendaby enhancing reforms to promote e-payments, e-learning, and e-governments. Indeed, this could be anopportunity for government to implementfaster the recently approved FinancialInclusion Strategy. Another l ine ofactions could be to support actions tofurther strengthen the preparedness andresil ience of the health system to futureepidemics.

Up to the moment, the Government’sresponse has rightly focused onpolicies that are targeted to flattenthe health, and corporate andfinancial distress curves. They arecrisis mitigation policies. How long acountry can sustain these policies – atgreat f iscal and economic cost –depends on each country’s init ialconditions, its capacity, buffers, thelevel of infection, and on its f inancingcapacities. They clearly cannot lastindefinitely. If needed, the WBG canprovide financial assistance to thegovernment. Beyond technical supportin the above-mentioned areas, and infinancing emergency heath relatedactions, we can provide budget supportthrough a series of Development PolicyOperations (DPOs) for an amount thatwould be jointly determined but couldexceed US$500 mill ion for eachoperation. Such series wil l not onlyalleviate the possible budget pressure inthe short to medium term but alsoprovide foreign currency when thecountry’s balance of payment isexpected to deteriorate and allowVietnam to diversify sources of funding.Given the recent decline in interest rateson international markets, we believe thatthe cost of our lending wil l becompetit ive, especially in comparison tothe issuances of bonds on the domesticmarket

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ANNEX

Table A1: Main economic indicator, 2016-2022

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Table A2: Main channels of transmission on vulnerable groups

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Table A3: List of social protection measures

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Table A4: List of tax measures

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