Võ Trí Thành*

The topic of credit growth limits, commonly termed 'credit rooms', has gained renewed attention after a State Bank of Việt Nam (SBV) official announced that the SBV is considering a gradual removal of the credit growth quota policy, following the guidance of the National Assembly and the Government.

The Credit rooms solution sets a maximum credit growth limit for the banking industry every year and, based on the overall credit growth of the entire economy and the financial health of commercial banks, allocated credit growth quotas to each.

The policy has been applied at various times in Việt Nam's history, beginning somehow in the second half of 1990s and reintroduced during the turbulent years of 2007-08, which were marked by the Government's inadequate management of the significant capital inflow post-WTO accession and the global financial crisis. In both situations, the imposition of limits was short-lived. It was only after the Government's Resolution No. 11 in 2011, which aimed at curbing inflation and stabilising the macroeconomy, that the SBV sustained this policy for over a decade.

The SBV has been compelled to maintain the credit limit policy for such a long time, primarily due to the country's unique conditions, where unchecked credit growth has led to serious repercussions such as intense interest rate competition among commercial banks and a sharp rise in bad debt. At that time, the introduction of a credit 'barrier' was deemed necessary.

In the past, the overall system used to be experiencing credit growth of much higher than 30 per cent and even 53 per cent in certain years. Uncontrollable money and credit supply led to macroeconomic instability with high inflation. This also created a fierce competition among banks for deposit rates in order to fund their lending activities.

In recent years, the credit rooms policy has been adapted to address economic fluctuations effectively. For example, during the 2020-21 period, when the COVID-19 pandemic had a significant impact on the economy, the SBV expanded the credit limits for banks with robust risk management practices. This expansion helped channel capital into essential sectors such as agriculture, manufacturing and infrastructure.

However, as the economy began to recover and credit demand surged, the credit quota started to pose a barrier to banks' growth. Many commercial banks indicated they faced difficulties meeting loan demand, as they were approaching their allocated credit ceiling, even though the demand for credit was reasonable and highly viable.

According to data from the SBV, as of September 17, 2024, the overall credit growth in the system only reached 7.38 per cent compared to the end of 2023. Some banks experienced negative growth, while others saw rapid increases and requested additional credit room to continue growing.

In fact, these issues related to credit room allocation have been persistent for years. Despite the SBV’s efforts to introduce new credit management policies in 2024, the system remains plagued by imbalances.

That’s the reason why suggestions to lift the credit ceiling have emerged.

A counter of the Joint Stock Commercial Bank for Foreign Trade of Vietnam (Vietcombank)’s branch in the northern province of Vĩnh Phúc. — VNA/VNS Photo Trần Việt

Benefits and risks

In my opinion, while this tool should ultimately be removed, careful consideration of the timing is essential. The regulatory agency must analyse the relevant factors thoroughly to achieve a balance between benefits and risks.

On the one hand, removing the credit ceiling will enable banks to be more agile in developing credit products and quickly capitalising on business opportunities. This flexibility is particularly vital in a competitive financial market where businesses increasingly require capital. By eliminating rigid credit growth targets, banks can allocate credit more effectively to meet the economy’s demands.

Additionally, this change will create more favourable conditions for businesses, especially small and medium-sized enterprises (SMEs), to access credit. With banks having more freedom in lending, businesses will find increased opportunities to secure capital, facilitating investment and production expansion, thereby contributing positively to economic growth.

Furthermore, removing the credit limits will stimulate competition among banks. Without these restrictions, banks can offer more innovative credit products, leading to competition that enhances the quality of credit packages available to customers. This increased competition will yield significant benefits for both borrowers and the broader economy.

On the other hand, in a landscape where banks exhibit distinct levels of health, the absence of this tool would pose challenges for the regulatory agency in managing growth rates and ensuring credit quality.

It cannot be assumed that banks will avoid pursuing profit-driven credit increases. Without control over the credit ceiling, banks may quickly expand credit, injecting excessive money into the economy that does not correspond to the genuine needs of businesses and individuals. This situation can easily lead to inflation and inefficient capital use.

A lack of credit limits can create fierce competition among banks to attract customers, resulting in lowered lending standards. The risk of bad debt also increases when banks provide credit to particularly high-risk areas like real estate.

Given the substantial burden of financing the economy through bank credit, permitting credit institutions to expand credit growth without regulatory controls risks repeating the consequences experienced before 2011. Việt Nam's credit-to-GDP ratio, as indicated by international organisations, is between 120-130 per cent.

This could lead to macro-economic instability, increased inflation risks and a rise in bad debt, threatening the safety of the banking system. Meanwhile, the process of managing bad debt and restructuring credit institutions remains incomplete and is likely to be prolonged, complicated, and resource-intensive.

Specific roadmap

The credit ceiling serves as an administrative measure that cannot be sustained indefinitely. It is vital to empower banks to take proactive steps in their business planning.

However, any decision to remove the credit ceiling needs to be guided by a specific and well-thought-out roadmap. It is also important to implement alternative tools that can help mitigate concerns about potential risks to the economy and the integrity of the banking system.

Several market tools that assist countries in effectively managing credit growth include return on assets (ROA), return on equity (ROE), credit balance ratio (LDR), required reserves and capital adequacy ratio (CAR).

Among the tools, the CAR ratio is the most useful means to fully control banks' credit growth rates. Accordingly, banks should increase their equity capital in proportion to their credit growth, thereby preventing those with high capital adequacy ratios from being negatively impacted by credit ceilings. This approach would also compel smaller banks with lower ratios to enhance their capital buffers and liquidity.

In the immediate future, the SBV is unlikely to completely remove the credit ceiling, especially for banks that are poorly rated. Nevertheless, for well-rated banks, it would be prudent for the central bank to study the option of allowing these institutions to determine their own credit room levels, while still exercising control through alternative regulatory tools.

If the goal is to remove the credit ceiling, it is imperative to meet specific prerequisites. First, there must be stability in the macro economy, with inflation kept under control.

Second, the banking system must be in good health, ensuring that the restructuring of credit institutions is effectively implemented and aligns with risk management standards such as Basel II and Basel III. Setting a specific deadline for the removal of credit rooms will put pressure on small and poorly-managed banks to strengthen their resilience and demonstrate effective risk management practices. This would ensure the health of the whole banking system.

Third, the SBV should enhance its capacity of compliance and prudential supervision as well as its ability to monitor and intervene in credit growth within the system.

Finally, having a more diversified and developed capital market is crucial to reducing the medium- and long-term capital pressure on the banking system, that is by nature largely relied on short term capital mobilisation.

*Võ Trí Thành is former vice-president at the Central Institute for Economic Management (CIEM) and a member of the National Financial and Monetary Policy Advisory Council. With a doctorate in economics from Australian National University, Thành mainly undertakes research and provides consultation on issues related to macroeconomic policies, trade liberalisation and international economic integration. Other areas of interest include institutional reforms, financial systems and economics of development. He authors the Việt Nam News column Analyst’s Pick.