UPDATE 2-Vietnam dong drops to low end of new band

(Adds quotes, market details)

By Ho Binh Minh

HANOI, June 27 (Reuters) - The Vietnamese dong VND= dropped on Friday to the low end of a new widened trading band, set up to address economic risks, after the central bank set the official exchange rate at a record low.

The dong fell as low as 18,846 per dollar and was quoted around 16,840/16,846 by 0347 GMT. The central bank cut its daily rate, which sets the central point for the day's trading, by 0.39 percent to 16,516 dong per dollar.

The central bank doubled the trading band to +/-2 percent on Friday, the second time it had widened the limits this year, in the face of mounting selling pressure on the currency stoked by a ballooning trade deficit and double-digit inflation.

Friday's official rate means the dong has depreciated by 2.43 percent against the dollar so far this year, more than the government's earlier declared target of allowing it to go up or down 2 percent against the dollar for the whole of 2008.

Dong depreciation could add more fuel to inflation by making imports more expensive when crude oil and other commodities are already at record high prices.

A weaker currency would, however, help cut the trade deficit, which has nearly tripled in the first half to $14.78 billion from a year ago, by reducing demand for imports and making exports cheaper.

"The government has concluded that it is relatively feasible to control the trade deficit," central bank Governor Nguyen Van Giau was quoted as saying in state-run media.

Giau forecast Vietnam would still have a surplus of $2.5 billion in its overall fiscal balance this year if the annual trade deficit reached the projection of $20 billion.

NEW RULES

The decision by the State Bank of Vietnam, the central bank, brought the official rate closer to black market rates.

Gold shops, Vietnam's most active non-bank forex traders, are banned by the central bank from selling dollars to individuals, but private dealers quoted the unofficial rate as unchanged at 17,800 dong per dollar on Friday. That is still more than 5 percent lower than the spot rate.

"Trading has slowed today because the banks here are still trying to figure out ways to deal with the central bank's new rules," a trader at a foreign bank in Ho Chi Minh City said.

In addition to the band widening, the central bank also banned the trading of U.S. dollar and dong via a third currency.

The dollar has lost 10 percent against the dong on the unofficial market since a high of 19,600 dong a week ago.

Investors in offshore forwards market PNDG on Friday were still pricing in a substantial fall in the dong in the coming year. Forward rates indicated dong depreciation of 22 percent in the next year.

The authorities have raised interest rates three times this year as they tightened money supply to try to control inflation, which hit an annual rate of 26.8 percent in June, the eighth consecutive month in double digits.

Vietnam's stock market .VNI, which has lost nearly 60 percent this year, closed up 1.6 percent at 392.61 points on Friday, its fifth rise in a row. The over-the-counter Hanoi exchange .HASTCI ended up 0.68 percent at 112.68 points.

Goldman Sachs analyst Helen Qiao said in a note that June's macro-economic data released by the government on Thursday showed encouraging signs "but it is still too early to dismiss the warning on macro instability risks."

She said the government will have to "use monetary and fiscal measures to ensure a soft landing of the economy and control inflation."

A weakening fiscal position and limited foreign reserves, estimated at $20.7 billion now from $20 billion at the end of 2007, have prompted some market analysts to warn of a potential currency crisis in one of Asia's fastest-growing economies.

But Vietnam is not seeking an International Monetary Fund loan programme to deal with pressures from economic overheating, contrary to market rumours, a senior World Bank official said on Thursday [ID:nN26306120].

OTHER STORIES: > Vietnam yields to pressure for dong depreciation[ID:nSP18557] > More comments on Vietnam currency measures......[ID:nSP53748] > Vietnam H1 trade gap at $14.78 bln-govt.......[ID:nSGE000034] > Vietnam estimates June CPI up 26.8 pct on yr..[ID:nSGE000033] > Vietnam foreign investment projects.............[ID:nHAN4699] (Additional reporting by Nguyen Nhat Lam and Grant McCool)