The dong's chronic weakness has repelled foreign investors and hampered attempts by Vietnam's policymakers to reverse the faltering fortunes of an economy that only five years ago was one of Asia's most promising.
Until Vietnam rebuilds trust by decisively taming the region's worst inflation and narrowing sizable trade and budget deficits, the risks of holding dong are likely to continue to outweigh the benefits no matter what tinkering the central bank does, analysts and investors say.
The dong is stronger this month than in February when the State Bank of Vietnam devalued it by 8.5 percent. Still, the currency has lost more than 20 percent in value since mid-2008, as waves of inflation, high credit growth and large deficits eroded already low levels of confidence. Since that time, it has shed more than any other Asian currency.
This year, the dong strengthened from February until August "” but it doesn't look likely to switch again and appreciate.
"The VND will find it difficult to maintain its current level indefinitely given the current economic environment," said Dominic Bunning, a foreign exchange strategy associate at HSBC.
In an attempt to end a cycle of small devaluations, the State Bank of Vietnam launched a campaign to stabilize the currency on Feb. 11 with the biggest single devaluation since the Asian Financial Crisis of 1997-8, an 8.5 percent move.
The SBV subsequently compelled state-owned firms to sell it their foreign exchange to bulk up reserves, teamed up with the police in a sustained crackdown on the black market, curtailed gold trading that fuels dollar demand and raised bank reserve requirement ratios for foreign currencies three times.
Over-valued and vulnerable
For a period of months, the measures bore fruit. In late February the unofficial exchange rate peaked above 22,000 dong per dollar and in April it was back down on par with the interbank exchange rate around 20,900 and trading within the central bank-mandated trading band.
But in early August, the dong fell back outside the band as gold prices soared "” amid a new bout of gold fever "” and the trade account slipped back into deficit after a rare surplus in July, raising fresh questions about the sustainability of central bank policies.
Sources say that since mid-August, the central bank has been selling dollars selectively to major banks. Central bank governor Nguyen Van Binh and other central bank officials declined to comment.
The SBV's steps "seem to have frozen the problem, but don't deal with the problem, which is that there's not enough foreign exchange at the official rate," said Jonathan Pincus, dean of the Fulbright Economics Teaching Program in Ho Chi Minh City.
And that, he said, is partly a result of attempts by authorities to control both the exchange rate and interest rates. "Basically they have to pick one," he said.
"There's no faith in the VND. No one trusts it and interest rates aren't high enough to compensate for people's expectations about devaluation."
That appears to be borne out on the street, where many put spare cash into gold or dollars. Teacher Nguyen Thi Uyen stopped by to check prices at a crowded Hanoi gold shop on a recent day. "People don't have much faith in the dong," said Uyen.
For dong deposits, banks are allowed to pay interest of 14 percent. That might sound high, but annual inflation hit 23 percent "” a 33-month-high "” in August.
Foreign investors and analysts say the government needs to do more to boost the economy.
Mark Mobius, executive chairman of Templeton Emerging Markets group, said a "long-range" stabilization plan should involve government spending cuts, a bulking up of foreign reserves and a major drive to privatize state-owned enterprises, which suck up credit but often use it relatively inefficiently.
"These measures will instill confidence," Mobius said. "Rapid currency movements make decision-making more difficult for an investor."
Stabilizing, not fixing
Sweeping reforms seem unlikely in the short term, so the question is whether the SBV can keep the dong's rate of weakening in check.
Binh, a career central banker and former deputy who was elevated to governor in July, is careful where he aims.
"Stabilizing the value of the Vietnam dong is our key goal. Stabilizing, not fixing (it)," the online news portal Vietnamnet.vn quoted him as saying in mid-August.
Much will depend on the macro-economic environment and the depth of Vietnam's foreign reserves, economists say.
The authorities have continued to pay lip service to the inflation fight, but at the same time have started to push for lower interest rates and more lending to certain sectors, with some arguing that price pressures have peaked.
Benedict Bingham, the International Monetary Fund's senior resident representative in Vietnam, warns that the improved sentiment towards the dong this year was "positive but fragile."
"Any premature easing of monetary policy might undermine that sentiment in the foreign exchange market," he said.
ANZ revised its forecast for the exchange rate last week, citing "further signs of back-peddling on inflation to favor growth." The bank now sees the dong hitting 21,000 per dollar by year end versus 20,835 currently, it said in a note.
Managing it weaker
Matt Hildebrandt, an economist at J.P. Morgan in Singapore, said a 4-6 percent yearly decline in the value of the dong "would not raise eyebrows", but a deeper fall would spark concerns about inflation and return on investment.
"They can manage it weaker slowly if they have the FX reserves to do it, but we don't really know where those stand," he said.
Vietnam's level of reserves is considered a state secret and the central bank does not publish current figures.
Le Xuan Nghia, vice chairman of the National Financial Supervisory Committee, said reserves had sunk to $7 billion to $8 billion earlier this year from $23 billion in 2008.
When the currency was strengthening after the February devaluation, the SBV bought $6 billion to bolster reserves, the government reported.
"Most observers think that in past FX crises, an intervention by the central bank in an amount of $2 billion would be sufficient to restore stability," the brokerage VinaSecurities said in a note last week.
"The current war chest built up by SBV is three times that amount."