The Current Backdrop

Back in January 2023, Bank Negara Malaysia (BNM) kept the Overnight Policy Rate (OPR) unchanged at 2.75%. This was after a cumulative 100 bps rate hike that had taken place since May 2022. According to the Monetary Policy Committee (MPC) statement, one of the reasons to maintain the rate at the current level, was to allow “…the MPC to assess the impact of the cumulative past OPR adjustments, given the lag effects of monetary policy on the economy.”

The Probability for Rate Hike in March 2023 Is Now Seen Lower

In the context explained above, we view that the probability of rate hike in March 2023 has dissipated as compared to our earlier assessment at the beginning of 2023. Determining the lag effect from rate normalisation that had taken place since May 2022 may require longer time frame. Our analysis shows the impact of interest rates hike would take effect within 8-10 months. The caveat to this is that it could be shorter or longer than the period mentioned above due to structural changes given how Covid- 19 pandemic had affected both, supply, and demand factors in the global inflationary environment.

Maintain the View of Another 25 Bps Hike in 2Q2023 or Beyond

As guided by the above analysis, we now see rate hike to only take place in 2Q2023 or beyond that, depending on further guidance as well as how domestic inflation data evolves in the upcoming months. In relation to this, the release of 2022 BNM Annual Report later this month could provide more dynamic in economic and inflation assessments. Against this backdrop, we maintain our call for another 25 bps increase, bringing the OPR back to pre-pandemic level of 3.00%. In comparison, we noticed that consensus’s OPR forecast ranges from 2.75% to 3.25% as depicted in Exhibit 1 below.

China’s Reopening Has Yet to Manifest Its Full Potential Impact

For the purpose of this analysis, we have constructed our Policy Rate Sentiment (PRS) Index which is defined as calculating the ratio of among of positive, uncertain and negative words1 used in the monetary policy statements.

The index implies that there has not been any significant deviation on the present situation vis-à-vis the level seen earlier in January 2023. Our PRS index remained in the dovish territory since September 2021, as shown in Exhibit 2 which means that there is a basis to expect OPR to be kept unchanged in the next MPC meeting.

This is despite the relaxation of China’s zero-Covid policy which theoretically should boost market’s optimism. This could also imply that concerns on slower global economic outlook outweigh the good news from China which is also supported by latest PMI numbers from the US, the UK, Euro, China, and most of the ASEAN economies where they remained in contractionary level. Inflations in most economies are easing, but at the same time, the effects from cumulative rate hikes are already clouding the growth outlook.

The Need to Bring Real Interest Rate Back Into Positive Territory

Despite the pessimism, we feel that there is a need to keep in interest rates above the inflation rate. Looking at the historical trend as shown in Exhibit 3, we noticed that it was not common for the real interest rate (defined as OPR minus inflation rate) to be in the negative territory for two consecutive years. The year 2022 could be an exception as global inflation rose to multi-decades high, but we believe that eventually the real rate would return to positive level.

As the real interest rate is a function of two variables, we are only looking at gradual decline in inflation rate hence that also explains our rate hike call. Moreover, OPR at 3.00% is not seen as restrictive to economic growth as that would only bring the level to where we were before the pandemic started.

Source: AmInvest Research - 3 Mar 2023