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Vietnam on Tuesday decided to effectively devalue its currency by almost 2 per cent in a bid to curb soaring inflation, which had risen to a 13-year high of 25 per cent in May.

Vietnam's economy has came under strong inflationary pressure due to higher oil prices, rapid economic growth and booming property prices.

The country's current economic woes reflect the downside of too fast economic growth, while economic fundamentals were not strong enough to cope with the sudden capital inflows. The devaluation was necessary as black-market rates saw the value of the dong falling sharply after investors bought dollars to offset the soaring inflation rate.

Investors have steadily sold off shares from the once-booming stock market.

Although some have mentioned the looming pho (noodle) effect, Thai economists and Bank of Thailand officials take the view that Vietnam's spiralling inflation rate is unlikely to have the same regional effect as the Tom Yam Kung financial crisis in 1997, which had its epicentre in Thailand.

The recent economic woes reflect the correction of the bubble market where asset prices became inflated. Then, a sharp and deep decline in asset values - due to inflation pressure - undermined investor confidence. It later triggered large capital outflows and put pressure on the Thai currency, affecting the financial system.

Although some might say the Vietnamese central bank acted too slowly in devaluing the dong, the measures reflect the authorities' realisation of the need to burst the bubble market.

The Bank of Thailand's view that Vietnam's economic woes would be less severe than the crisis in 1997 is because Vietnam's trade deficit is minimal - and so is the amount of short-term foreign capital in the country. On the contrary, when Thailand was facing the 1997 crisis, the country saw a rapid outflow of short-term foreign capital and a wide trade deficit.

The Vietnamese economy expanded too quickly due to a rapid inflow of foreign direct investment while the country was adopting an investment friendly policy to boost growth. Unfortunately, Vietnamese financial institutions are not well equipped to manage major capital injections. The situation led to a lending spree, excessive investment and a high current account deficit.

Although the severity of pho effect is thought to be less than the Tom Yam Kung crisis, Vietnam's economic problems are a reminder that stability is an important factor for any economy. Over the past year, the Vietnamese government has striven to achieve high growth at the expense of stability. However, if the economy grows in a sustainable manner, the country should benefit from steady expansion in the long run.

Monetary policy should ensure that there are checks in place to control liquidity in this era of financial globalisation. If it doesn't, the economy would be vulnerable to sharp falls in asset prices, which could trigger rapid outflows of capital and destabilise the financial system - as was experienced during the Asian financial crisis in 1997 and Vietnam's current economic woes.