• Economy to grow between 5.5% and 6% in 2018

• Sustained growth from private consumption and investment

• Current account balance surplus of 2.0% to 3.0% of GNI in 2018

• 2018 inflation at 2% to 3%

• Total household debt as a proportion of GDP declined further

Bank Negara Malaysia (BNM) expects the Malaysian economy to grow by 5.5% to 6.0% in 2018. In its 2017 annual report, Bank Negara said the global economy experienced the highest growth last year, as well as the growth in the global world trade which exceeded a gross domestic product (GDP) for the first time in consecutive three years. Bank Negara said the recovery in global commodity prices and the continued growth of domestic demand would together support the growth performance.

Growth will be mainly driven by domestic demand with high contribution from the services sector. Apart from domestic demand, GDP growth will also be supported by the favorable external demand conditions. On the supply side, all economic sectors are forecasted to expand in 2018.

Domestic demand will continue to be the anchor of growth, underpinned by private sector activity. Private consumption growth is projected to remain sustained at 7.2% in 2018. The key factors that will support consumption spending during the year include continued growth in employment and income, lower inflation, and improving sentiments. Robust export performance is expected to support wages in the export-oriented industries amid continued growth in domestic economic activity. The continued Government measures will also increase household disposable income in 2018. Private investment growth is projected to be sustained at 9.1% in 2018, underpinned by ongoing and new capital spending in both the manufacturing and services sectors, and strengthened by continued positive business sentiments.

Public sector expenditure is projected to decline due to the contraction in public investment amid more moderate growth in public consumption. Public consumption is expected to register a marginal expansion of 0.6% in 2018 because of more moderate growth in emoluments amid prudent spending on supplies and services. Public investment is projected to decline by 3.2% due to lower capital spending by public corporations following the near completion of large-scale projects. Investment by the General Government is expected to increase, reflecting mainly higher investment to improve public infrastructure and transportation network.

GDP growth will also be supported by the favorable external demand conditions. Both gross exports and imports are forecasted to grow at above-average trends in 2018, albeit at a more sustainable pace of 8.4% and 8.6%, respectively. Exports will be lifted by favorable demand from major trading partners, the continued expansion in the global technology upcycle, increase in domestic productive capacity and broadly sustained global commodity prices.

Amid continued strength in trade activity, the goods surplus of the current account is expected to increase. Deficits in the services and income accounts, however, will continue to weigh on the current account balance. Overall, Malaysia’s current account balance is expected to register a surplus of 2.0 - 3.0% of GNI.

On the supply side, all economic sectors are forecasted to expand in 2018. The services and manufacturing sectors will continue to be the key drivers of overall growth. The services sector is expected to record sustained expansion of 6.1%, slightly slower than the 6.2% in 2017. This sector accounted for 54.4% of the country's GDP in 2017. The wholesale and retail trade, food and beverages and accommodation sub-sectors are anticipated to benefit from favorable labor market conditions.

Growth in the information and communication sub-sector is expected to remain strong, reflecting sustained demand for telecommunication and computer services. In the transport and storage subsector, growth will be driven by continued strength in trade activity. Growth in the manufacturing sector is projected to be sustained at 5.9%, slightly slower from the 6.0% in 2017. This sector accounts for 23% of GDP. In the export-oriented industries, growth will be supported mainly by continued demand for chemical-related products in the primary-related cluster. Production of E&E products will be sustained, in line with the expected normalisation in global semiconductors demand. Growth will also be supported by new production capacity in the resource based industries such as petrochemicals and rubber gloves. In the domestic-oriented industries, growth will be driven by higher production of construction-related materials for new and on-going infrastructure projects as well as continued strength in demand for food-related products.

Bank Negara sees a stronger growth for the construction sector, expanding by 7.3% compared with 6.7% in 2017. This sector accounts for 4.6% of GDP. Underpinning the growth will be large new and existing multi-year civil engineering projects. These projects are mainly in the transportation and utilities segment.

In the commodities sector, the mining sector is projected to grow at a faster pace of 1.8% from just 1.1% in 2017 due to the continued pick up of natural gas production from the new gas fields and production facilities. This sector contributes to 8.4% of GDP.

Agriculture sector to register a more moderate growth of 3.6% in 2018 from 7.2% in 2017. This accounts for 8.2% of the GDP. The slower growth in the agriculture sector mainly reflects the normalisation in crude palm oil production growth following the exceptional post-El Nino rebound in 2017.

BNM sees Malaysia 2018 inflation at 2% to 3%

BNM has projected Malaysia's headline inflation to moderate from 3.7% in 2017 to average between 2% and 3% in 2018 after taking into accounts a higher base in 2017 and stronger ringgit. Core inflation, is also expected to moderate in 2018, due to smaller cost pass-through to retail prices compared to the previous year. The inflation outlook is, however, subject to two key risks

i) Externally, stronger-than-anticipated increase in global oil prices could lead to headline inflation averaging higher. Global oil price movements remain uncertain, subject to geopolitical risks and developments in the US shale oil industry.

ii) Domestically, stronger-than-expected growth in demand could support larger cost pass-through to prices, and risk stronger demand-driven price pressures.

Monetary Policy

Monetary policy in 2018 will focus on ensuring the sustainable growth of the Malaysian economy with price stability. Given the continuing positive macroeconomic outlook and firm growth path, the MPC decided to normalise the degree of monetary accommodation at the January 2018 MPC meeting. The MPC raised the OPR by 25 basis points to 3.25%. The MPC also recognises the need to prevent the build-up of risks that could arise from a prolonged period of low interest rates, even as the risks of financial imbalances currently remain contained. The MPC will monitor closely the evolving economic outlook, including the impact of the OPR adjustment in January 2018. The Bank’s monetary operations will continue to ensure that domestic liquidity in the financial system will remain sufficient to support the orderly functioning of the domestic financial markets.

Fiscal Policy

Fiscal policy in 2018 will continue to focus on strengthening the Government’s fiscal position while ensuring sustainable and more inclusive economic growth. The Federal Government’s fiscal deficit is expected to narrow further to 2.8% of GDP in 2018 (2017: -3.0%; from a peak of 6.7% of GDP in 2009), supported by higher growth in revenue. This marks the ninth consecutive year of fiscal consolidation, which reflects the Government’s commitment towards fiscal reform. As delineated in the 2018 Budget, fiscal spending will prioritise high-impact infrastructure projects and initiatives that build capacity and raise productivity. The share of operating expenditure as a percentage of GDP declined to 16.1% in 2017 compared to 17.1% in 2016 due to subsidy rationalisation and a reduction in non-critical spending on grants and transfers. For 2018, the share of operating expenditure is expected to amount to 16.2% of GDP. Consistent with the efforts to ensure an inclusive economic growth, welfare enhancement programs and fiscal transfers will provide support to the lower- and middle-income segments to cope with the higher cost of living.

BNM Financial Stability and Payment System (FSPS) Report 2017

The global economy and financial markets were influenced by major policy developments in several key economies, volatility in commodities markets and geopolitical risks. Against this global setting, domestic financial stability continued to be firmly supported by sound financial institutions, and deep and liquid financial markets which facilitated the smooth functioning of financial intermediation activities. Compared to 2016, the direction of credit and contagion risks remained broadly unchanged in 2017. Indicators of market, liquidity and funding risks were lower.

Risks to financial stability from elevated household debt levels continued to recede. The growth in household borrowings moderated for the seventh consecutive year and is now more in line with income growth. Against the stronger performance of the domestic economy, the ratio of household debt-to-GDP declined further to 84.3% (2016: 88.3%). Underlying trends in debt accumulation by households also continued to improve. First, the growth of unsecured borrowings in the form of personal loans has been sharply lower than that observed in earlier periods (2017: 2.5%; 2008: 25.2%). Second, the debt servicing ratios of most households remained within prudent levels (median: 32.7%). Third, the growth in household financial assets (8.6%) outpaced that of debt for the first time since 2012. Despite these positive developments, lower income households could continue to face challenges in meeting debt repayments amid higher costs of living.

Banking Sector

Malaysia’s banking sector’s profitability improved in 2017, mainly due to the slower growth in interest expenses as well as higher fee-based income from financing-related activities and stock broking activities. Outstanding loan by banks increased by 4.1% to RM1,584.4bn in 2017, contributed mainly by financing to households and small and medium enterprises (SMEs). The financing growth towards SMEs stayed favorable at 6.0%.

The household debt grew at a moderate pace of 4.9% yoy to RM 1,139.9bn in 2017 from 5.4% in 2016. Likewise, the banking system loans eased to 5.1% yoy in 2017 as compared to 5.3% rise in the previous year. The slower pace of growth was primarily prompted by the lower borrowings for personal use, and the purchase of motor vehicles and non-residential property. However, there was an expansion in housing loans, which remained robust at 8.5% from 9.1% recorded in 2016. The eligible borrowers continued to have access to bank financing.

Overall, impaired loans for banks remained low and stable at 1.6% of total household debt. Among overall categories of household debt, there were increased impairment in financing for personal use and purchase of non-residential properties.

Our 2018 GDP forecast slightly lower Bank Negara forecast.

Malaysia’s economy should continue to do reasonably well in the coming quarters, though its pace of growth is likely to cool further against a backdrop of moderating export growth and tighter monetary conditions. We are still relatively sanguine on 2018 GDP growth for Malaysia although the projection was slightly lower compared to BNM’s projection, it was still considered a respectable figure, as the moderation was due to the high base effect in 2017. The forecasted 5.3% GDP for 2018 is supported by the private consumption

Meanwhile, we believe the banking sector will be remained positive in tandem with the interest rate hike last January which might be reflected in their earning. Furthermore, strong economic fundamental could also lead to better activities from private sector as well as the continuity in business expansion. Besides, healthy labor market condition and continued income growth would continue to provide support to households’ debt repayment capacity.

Nonetheless, as highlighted by BNM, downside risks to growth remain. Unfavorable monetary and regulatory policy shifts in the advanced economies, rising trade protectionism by major trading partners and a sharper-than-expected growth moderation in China, may impact the strength of Malaysia’s exports to the major trading partners. A re-emergence of volatile commodity prices or abrupt corrections in the international financial markets could also weigh down sentiments, dampening the strength of domestic economic activity.

Source: BIMB Securities Research - 29 Mar 2018