Vietnam devalued its currency by 5.4 per cent against the dollar yesterday and raised interest rates by a full percentage point in an effort to cut inflation and underpin the beleaguered dong.

The dong has come under pressure recently as inflation started climbing and domestic demand, driven by the country's $8bn stimulus programme, drove the current account deficit to close to $2bn a month.

It was trading on the grey market at 19,800 to the dollar on Tuesday but came back to 19,500 after the government move.

Analysts, however, questioned whether financial markets would believe the latest move had put a floor under the dong.

“The decision poses further challenges to the central bank's credibility,” said Tai Hui, Standard Chartered Bank economist. “The risk is that local investors will pay little attention to official comments going forward, which may exacerbate devaluation pressure on the currency.”

For weeks, the government had insisted that it would not give in to pressure on the dong. “Vietnam will not devalue our currency,” Nguyen Minh Triet, president, said in Singapore last week. “We will take cautious steps on our monetary policy.”

Yesterday's move cut the mid-point of the currency's managed float range from 17,034 dong to the dollar to 17,961, while narrowing the daily trading range from 5 per cent to 3 per cent either side. The benchmark interest rate was increased from 7 per cent to 8 per cent.