4.5.3. Inadequacies and recommendations related to regulations on using short-term capital for medium- and long-term lending
Currently, enterprises in Vietnam are largely dependent on medium and long-term capital from banks because the corporate bond market in particular and the stock market in general are not yet developed. Meanwhile, banks can only mobilize short-term capital. As analyzed in Chapter 4, the use of short-term capital to provide medium and long-term credit is being maintained at a level of no more than 40%. This has been gradually reduced according to the roadmap in the past time and the level of 40% is the lowest level in this roadmap. However, even so, liquidity risk and interest rate risk still continue because the difference in maturity between the terms of commercial banks still exists. Therefore, currently, to meet the requirements of current laws, commercial banks are forced to readjust their credit structure: limiting the use of short-term capital for medium and long-term loans. This has the positive side of reducing the risk of liquidity for commercial banks. In addition, many commercial banks, in order to obtain more credit, have sought to increase medium and long-term capital by issuing long-term deposit certificates. This is considered a temporary solution to compensate for the temporary shortage of medium and long-term capital to serve medium and long-term loans.
However, the desire of commercial banks to increase the mobilization of medium and long-term capital to prepare for medium and long-term credit is difficult to implement for many reasons:
Firstly, this is difficult because the general mentality of people is to like to deposit money at commercial banks with short terms so that they can easily withdraw it when needed. If when the deposit matures, there is no need to withdraw the money, people will let the short-term deposit contract be automatically renewed.
Another reason why this is not easy to do is that, basically, the interest rates for long-term and medium-term deposits are not much higher compared to short-term deposit interest rates, so they are not attractive enough for people to choose to deposit money with medium-term and long-term terms. For example, in the interest rate table for savings deposits in Vietnamese Dong of VCB Bank (effective from September 10, 2018), the interest rate for 1 and 2-month terms is 4.3%, 3 and 4-month terms is 4.6%, 5 months is 4.8%, 6 months is 5.3%, 9 months is 5.5%, 12 months to 48 months is 6.6%. Thus, compared to terms under 1 year, the interest rate difference for terms over 1 year is 1.1%. However, although the interest rate is not much higher, it is still enough to affect the business efficiency of commercial banks due to higher capital costs. Therefore, this has increased the cost of legal compliance. Meanwhile, the analysis in chapter 2 clearly oriented that the legal management of commercial banks must ensure that it does not increase the cost of legal compliance. Not to mention, in essence, the credit granting activities of commercial banks are short-term credit granting activities, not medium and long-term credit granting. Medium and long-term credit granting is the main work of the financial market, not the main activity of commercial banks.
For the above reasons, it is not feasible to mobilize sufficient medium and long-term capital to meet the requirements for medium and long-term lending. Therefore, in the immediate future, the continued regulation of the ratio of short-term capital for medium and long-term lending should be maintained until the capital market can fulfill its function (providing sufficient medium and long-term capital for the market). At that time, the regulation on the ratio of short-term capital used for medium and long-term lending by commercial banks should be removed.
However, whether the regular application of the regulation on the ratio of short-term sources to medium- and long-term loans to assess the compliance of commercial banks is correct for all periods or not is an issue that needs further consideration. If the mobilization of medium- and long-term capital is not good, the provision of medium- and long-term credit will be affected, and commercial banks are at risk of being considered as violating the provisions of the law and being punished for this violation. From there, the cost of compliance with the law on capital use activities of commercial banks is pushed up even higher.
Dr. Nguyen Tri Hieu once suggested that in the short term, we can continue to use short-term capital to lend medium and long term. Then, we will securitize 282 these loans and sell them to domestic and foreign investors. Next, banks can continue to circulate the cash flow 283 . Not only Dr. Nguyen Tri Hieu's proposal, the Action Plan to restructure the system of credit institutions associated with bad debt settlement in the period 2016-2020 284 has set out the task of researching and building a legal framework for securitization of debts, contributing to creating a legal basis for conducting transactions on the stock market and converting bad debts into securities for public and transparent trading at the appropriate time. This proposal and task are quite good, but according to the researcher, this can only be done well in countries with developed stock markets. In Vietnam, where the stock market is not developed, this proposal will take a very long time to be applied. In addition, according to author Pham Toan Thien, loan securitization is also one of the reasons that led to the financial crisis in the US because it did not help distinguish between qualified and unqualified loans .
282 See https://www.investopedia.com/terms/s/securitization.asp, accessed March 15, 2019: “Securitization is the procedure whereby an issuer designs a financial instrument by merging various financial assets and then markets tiers of the repackaged instruments to investors. This process can encompass any type of financial asset and promotes liquidity in the marketplace”. Securitization is the procedure whereby an issuer designs a financial instrument by merging various financial assets and then markets tiers of the repackaged instruments to investors. This process can encompass any type of financial asset and aims to increase liquidity in the marketplace.
283 According to Pham Binh (2015), “Real estate credit viewed from the “ice block” of 30,000 billion VND”, Overview of Vietnamese banking in 2015, p. 72.
284 Issued with Decision No. 2071/QD-BTC dated October 16, 2017, effective from October 16, 2017
285 Pham Toan Thien (2008), “Subprime mortgage crisis in the US: Lessons and some recommendations”, [file:///C:/Users/user/Downloads/Documents/1351-1-2640-1-10-20160713.pdf ], accessed on March 8, 2019, p.1
According to the researcher, the regulation on the ratio of short-term capital for medium and long-term lending should only be used as a ready-made "medicine", only "used" when the economy needs that limit. When the economy needs it due to high inflation, the above regulation will be applied to determine whether commercial banks have violated the above limit ratio or not. When the economy is in a stable phase, the above regulation still exists but should not be used to determine whether commercial banks have violated the above regulation. Therefore, the researcher recommends that the ratio of short-term capital limit for medium and long-term lending should not be removed but only used when necessary, when the economy is unstable and the inflation rate is high. Because if the above limit is always applied, commercial banks will easily be considered as violating, leading to administrative sanctions, at which time the cost of ensuring compliance with regulations on capital use activities of commercial banks will be high. At the same time, this will greatly affect the interests of commercial banks.
4.5.4. Inadequacies and recommendations on improving the law on credit structure of commercial banks
The credit structure of commercial banks is a part of the capital structure of commercial banks. According to Tran Thi Lan, the capital structure of commercial banks reflects a set of assets formed from the capital use activities of banks, arranged according to different criteria and composed according to certain proportions 286 . Besides, although there are many types of credit structures in particular 287 , in this content 4.6.4., the researcher only mentions the credit structure in general by field and object.
The current credit structure is allocated to both production and non-production sectors. According to data provided by the State Bank of Vietnam, Ho Chi Minh City branch, the proportion of outstanding loans to the production and business sector accounts for 76%-78%, while previously this figure was 80%-83%. According to the analysis of the State Bank of Vietnam, Ho Chi Minh City branch, the credit structure in Ho Chi Minh City tends to change in the direction of increasing outstanding credit to the non-production sector . 288 According to the researcher, the current credit structure needs to be oriented to focus more on the production and business sector, in order to promote economic development, on projects that meet environmental requirements, on the agricultural and rural sectors. If capital is only focused on real estate business or consumption (non-production), the economy will find it difficult to develop. In addition, among the ratios set by law, there is no minimum limit on the ratio of capital for production and business sectors, loans in the agricultural sector, and projects that meet environmental requirements. The encouragement of the allocation of capital flows
286 Tran Thi Lan (2018), op. cit. 42, p.6.
287 Refer to Tran Thi Lan (2018), op. cit. 42: “The lending structure of commercial banks can be divided according to the following criteria: Loan structure by term; Loan structure by economic sector; Loan structure by customer; Loan structure by loan collateral; Loan structure by currency type; Loan structure by capital use purpose; Loan structure by investment sector; Loan structure by market nature”.
288 Van Linh (2017), "Credit in real estate, consumption, and securities tends to increase", Securities Investment ,
April 19, 2017, p. 24
Capital for production and business activities, loans in the agricultural sector, for projects that meet environmental requirements should be specified by legal regulations on the minimum capital ratio limit for these sectors. It is reasonable to set these minimum limits when it is necessary to encourage credit granting by sector, otherwise, commercial banks may, for profit, direct credit flows to other sectors. This will cause commercial banks to direct capital flows not to the key sectors that the state wants. In cases where credit granting is not encouraged, the maximum limit will be set. The Law on Credit Institutions 2010 does not have regulations on promoting credit granting for environmental projects, for green banks. Meanwhile, "The high proportion of environmental protection loans 289 shows that the contribution of banks to sustainable development in terms of the environment is good" 290 . Currently, policies on credit granting for projects that meet environmental requirements in Vietnam, on credit granting for production and business are only at the level of calling for and recommending, there is no minimum limit for credit granting for projects that ensure environmental protection requirements, nor is there a specific sanction for violations of sustainable development requirements. If the requirement for commercial banks to use capital to grant credit to ensure environmental protection factors is only at the level of calling for and general requirements, without setting limits or credit criteria for environmental projects, commercial banks will choose the profit factor, regardless of how the granting of credit for those projects affects the environment.
Although it is necessary to direct bank capital into production and business activities, the current direction of commercial banks to lend to startups is inappropriate for many reasons:
Firstly, startups hardly have assets to secure credit at commercial banks. If startups are unable to repay the loan, the loan becomes bad debt.
Second, the interest rate that commercial banks lend to startups is low. This greatly affects the profits of commercial banks.
Third, commercial banks have the main purpose of doing business. The implementation of the Government's policies, the State Bank should only assign policy banks, which is more appropriate. For example, the current state investment credit policy is assigned to the Vietnam Development Bank to implement according to Decree No. 32/2017/ND-CP, issued on March 31, 2017, on state investment credit. According to this Decree, the maximum state investment credit loan amount for each project is equal to 70% of the total investment capital of the project (excluding working capital). However, previously, Decree No. 75/2011/ND-CP only limited the maximum loan amount for each investor to not exceed 15% of the capital.
289 This ratio = 100% x (Outstanding environmental protection loans/ Total outstanding bank loans)
290 Nguyen Thi Loi (2014), Requirements and criteria for measuring sustainable development of commercial banks , Banking Magazine, No. 24, December 2014, p.38.
The actual charter of the Vietnam Development Bank. Now, Decree No. 32/2017/ND-CP further limits the total outstanding credit balance to not exceed 25% for a customer and related persons, except for special projects decided by the Prime Minister. This limit is considered to make the investment credit provision of the Vietnam Development Bank consistent with the current Circulars on credit provision of credit institutions in general.
According to the researcher, the implementation of state policies should be assigned to policy banks because commercial banks are enterprises whose main goal is to make a profit, and the implementation of state policies (if any) should only account for a small part of the capital use activities of commercial banks. Currently, commercial banks have to implement many directives of the Government and the State Bank (directed lending, low-interest lending, unsecured lending), which has a certain impact on the freedom of business and the profit-seeking goal of commercial banks. In chapter 2, the orientation to perfect the law on capital use activities of commercial banks mentions a criterion of ensuring the rights of some subjects. The recommendation here is to serve the implementation of the criterion of perfecting the law.
4.5.5. Inadequacies and recommendations related to minimum capital adequacy ratio
In fact, if we only consider the numbers, the minimum capital adequacy ratio of commercial banks in Vietnam is still low compared to other countries (See appendixes 1 and 2). Not to mention, commercial banks in other countries also have to comply with a stricter method of calculating the minimum capital adequacy ratio than that of Vietnam.
The regulations on minimum capital adequacy ratio of Circular 41/2016/TT-NHNN will only take effect from 2020. Meanwhile, the activities of commercial banks continue to take place. Therefore, the implementation of the current regulations on minimum capital adequacy ratio in the Law on Credit Institutions 2010 and Circular 36/2014/TT-NHNN needs to refer to the experiences of other countries and other commercial banks as follows:
Regarding the minimum capital adequacy ratio, we can refer to the experience of Hong Kong and Shanghai Banking Corporation (HSBC), which excluded deposits from large customers from the denominator when calculating the minimum capital adequacy ratio. This ratio of HSBC is stricter than the ratio of credit capital/mobilized capital proposed by the liquidity theory of banks, demonstrating a very cautious attitude of HSBC in credit risk management. HSBC recommends that its branches should not rely too much on large, short-term capital from large lending customers in the specialized lending markets to ensure liquidity, because the costs in this market are quite high and the stability is low . 291
291 Vu Quang Huy (2017), “Experience in liquidity risk management and lessons for Vietnamese commercial banks”, Banking Magazine No. 11, June 2017, p. 51
China alone has not delayed the application of stricter capital standards in Basel II. In fact, under the new standards, China's capital ratios may even be higher than those of Basel II. In particular, the Tier 1 capital ratio in the calculation of capital adequacy ratio will be applied at 5%, 0.5% higher than the Basel III standard 292 .
4.5.6. Inadequacies and recommendations for improving regulations on legal capital for commercial banks
Minimum capital is the lowest level of capital. Meanwhile, legal capital is the minimum level of capital and is prescribed by law. The concept of legal capital and minimum capital is completely different from the minimum capital safety ratio of commercial banks. Some European countries such as Germany, France and Vietnam all stipulate conditions on legal capital for establishing a company. For countries following the Anglo-American Law system, there are almost no regulations on legal capital and many 1 dollar companies have registered to operate in the UK, US, Australia, etc. 293 . But in the banking sector, banks in all countries must meet the requirements on legal capital. For example, for banks listed in Appendix II of the Central Bank of India Act 1934, the minimum paid-up capital is Rs 5 lakh, i.e. Rs 500,000 (equivalent to VND 164,150,000) 294 , for banks not listed in the list: the paid-up capital and reserve funds of these banks must not exceed Rs 500,000 295 . In Vietnam, the current legal capital of commercial banks is stipulated in Decree 10/2011/ND-CP, for joint stock commercial banks and state-owned commercial banks, this level is VND 3,000 billion.
According to the researcher, Vietnam needs to increase legal capital requirements for the following reasons:
Firstly, the regulations on the legal capital of commercial banks have been changed and adjusted many times through the following legal documents: Decision 67/QD-NH5 issued by the Governor of the State Bank of Vietnam, effective on March 27, 1996, stipulates that the charter capital from 1996 for urban joint-stock commercial banks in Ho Chi Minh City is 150 billion VND, in Hanoi is 100 billion VND, in other provinces and cities is 50 billion VND, in rural areas and with branches is 10 billion VND, without branches is 3 billion VND; Decree 82/1998/ND-CP stipulates that the minimum capital of a state-owned commercial bank is 2,200 billion VND for Agribank, 1,100 billion VND for other state-owned commercial banks, 70 billion VND for urban joint-stock commercial banks in Ho Chi Minh City and Hanoi, 50 billion VND for other provinces and cities, and 5 billion VND for rural joint-stock commercial banks; Decree 141/2006/ND-CP stipulates that the capital of state-owned commercial banks until 2008 and 2010 is
292 Tung-Hao Lee and Shu-Hwa Chih (2013), Does financial regulation affect the profit efficiency and risk of banks? Evidence from China's commercial banks , North American Journal of economics and finance, p.706: The New Standards adopt capital adequacy rules and leverage ratios that are even more stringent than those of Basel
III. In particular, the core tier 1 capital adequacy ratio will be set at 5%, 0.5% higher than Basel III
293 Mai Hong Quy (2012), op. cit. 47, p. 145.
294 According to the exchange rate on August 31, 2018, 1 rupee is equivalent to 328.30 VND (See: https://vn.exchange- rates.org/Rate/INR/VND/2018-08-31)
295 Nguyen Huu Thu (editing translated documents), Overview of banking transactions in India , Lesson 6 Commercial Banks, pp. 159, 162.
3,000 billion VND, for joint stock commercial banks it is 3,000 billion VND (until 2010). The current legal capital regulation in Decree 10/2011/ND-CP is a partial inheritance of Decree 141/2006/ND-CP. Thus, the current regulation of 3,000 billion VND has existed for about 13 years, so it is certainly no longer suitable for price fluctuations in the economy. This level has become low compared to practical requirements in Vietnam and is too low compared to commercial banks in the region.
Second, this regulation on legal capital comes from the fear that banks with capital lower than necessary will affect the operations of commercial banks. In practice, banks with large capital will have advantages in organizing business activities, expanding the scope and scale of investment and granting credit. In addition to traditional business activities, commercial banks are currently expanding their investments into many fields and expanding their domestic operations in the form of opening more branches. Therefore, we need to raise the capital requirement to match the diversity of operations, expanding the scope and area of operation of commercial banks. Article 11 of Circular 30/2015/TT-NHNN regulating the issuance of licenses, organization and operation of non-bank credit institutions 296 requires that in order to establish a non-bank credit institution, a commercial bank must have total assets of at least VND 100,000 billion, fully comply with regulations on risk management and full provisioning as prescribed at the time of submitting the application for a license and at the time of submitting additional documents. Not to mention, if one wants to expand the scope of operations, one must meet the minimum capital proportional to the number of branches and representative offices established.
Third , in the article "The impact of monetary policy and macroprudential policy on financial stability in Vietnam - a perspective through credit growth", by using panel data processing techniques and regression estimation methods with standard errors at 21 commercial banks, the two authors Nguyen Duc Chung and Nguyen Hoang Chung 297 provided research results that with the approach to the Basel II International Capital Accord, domestic commercial banks must maintain a large enough amount of capital to cover risky activities including credit risk, market risk and operational risk. These authors also stated that a large enough amount of capital is really a new risk buffer for commercial banks, not a capital adequacy ratio. A large enough amount of capital is the basis for the State Bank to control credit growth and ensure the stability of the financial system. Accordingly, access to the Basel II Capital Accord will help commercial banks maintain a large enough amount of capital to withstand risks .
296 Issued on December 25, 2015, effective from February 8, 2016
297 Nguyen Duc Chung, Nguyen Hoang Chung (2018), The impact of monetary policy and macroprudential policy on financial stability in Vietnam - a perspective through credit growth , Banking Technology Magazine, No. 142&143, p.69
298 Nguyen Duc Chung, Nguyen Hoang Chung (2018), op. cit. 297, p.69
Fourth, when the legal capital of a commercial bank is high, the charter capital of new commercial banks can be increased accordingly. In practice, up to now, no bank has a charter capital close to the current legal capital of 3,000 billion VND, although if this were to happen, it would not be considered against the regulations. However, the charter capital of some banks in Vietnam shows the "modest" scale of current commercial banks 299 :
Bank Name
Kienlong-bank | OCB | Bac A Bank | Viet A Bank | South A Bank | |
End of 2016 | 3,000 | 4,000 | 5,000 | 3,499.9 | 3,172 |
End of 2017 | 3,000 | 5,000 | 5,500 | 4,200 | 5,000 |
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(Table 7: Charter capital of some banks in Vietnam, unit: billion)
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According to the researcher, the increase in legal capital will be the pressure for commercial banks to try to increase their charter capital. When the charter capital is high, the owner's capital can be increased accordingly. Owner's capital is the basis for determining the total outstanding loan balance for a customer (not exceeding 15% of equity) and is the basis for determining other types of limits.
Fifth, increasing capital of commercial banks is especially necessary in the integration trend. For example, when Basel III capital safety standards are officially applied from January 1, 2022, the capital safety ratio according to the new calculation method will cause the current capital safety ratio of commercial banks to decrease. At that time, commercial banks are very likely to not meet the minimum capital requirements for safe operations. If Basel's recommendations on minimum capital requirements are not applied, it will be difficult for Vietnamese commercial banks to become regional commercial banks. Accordingly, Basel has reformed the capital calculation and included criteria for credit risk, credit valuation adjustment risk and operational risk.
Sixth, the current safety coefficients and limits have made the current legal capital level even more unreasonable. The risk coefficient for granting credit for real estate business activities has been raised higher than before, so commercial banks need to have a higher legal capital level. At that time, if the current legal capital level is maintained, the source of capital for real estate loans will decrease accordingly when the risk of lending for real estate business increases. In addition, the researcher agrees with the author Pham Thi Giang Thu's point of view that for credit granting activities, banks must implement many different safety limits, so when capital capacity is limited, the ability to meet customer needs will be limited.
299 Van Linh (2017), “Small banks simultaneously plan to increase capital”, Investment Newspaper , April 21, 2017, p.7.