Global Trade Tensions Continue to be a Key Source of Downside Risk

Bank Negara Malaysia (BNM) maintained its Overnight Policy Rate (OPR) at 3.25% at the fourth consecutive MPC meeting. In January 2018, BNM raised its OPR by 25bps from 3.0%. BNM also maintained its statutory reserve requirement (SRR) at 3.5%, unchanged since January 2016.

In the latest assessment on the overall economic conditions in the advanced and regional economies, BNM noted that risks to the global economic growth has increased with the trade tensions continuing to be a key source of downside risk. BNM added that “global economic expansion is continuing, albeit with increasing divergence across economies and signs of a slower momentum.” BNM also highlighted the greater volatility in international financial markets, which we believe is related to continued depreciation of emerging market currencies as a result of capital outflows with financial market adjustments in emerging economies.

On the domestic front, BNM highlighted the supply disruptions in the mining and agriculture sectors as factors that led to more moderate economic growth in 2Q18. We believe real GDP growth will likely recover from 4.5% yoy in 2Q18 to about 5% for 3Q18. Consistent with the view taken by BNM, we believe the domestic economy will continue to benefit from the tax holiday period from June 2018 to August 2018, on lower prices and front loading activity prior to the reimplementation of the sales and services tax (SST) on 1 September 2018. BNM also added that GDP growth will continue to be supported by steady wage and employment growth However, as the government embarks on a reprioritisation of expenditure, public spending will likely weigh on Malaysia’s economic growth.

However, the slowdown will likely be cushioned by investment activity from continued capacity expansion in the export-oriented industries. Going forward, BNM cautioned that the economy faces downside risks from heightened trade tensions, prolonged weakness in the mining and agriculture sectors, and some domestic policy uncertainty.

As for concerns over the trend of non-resident portfolio outflows, BNM highlighted that Malaysia’s financial market is experiencing portfolio outflows due to volatility in other emerging market economies and monetary policy normalisation in developed economies. BNM clarified that it will continue to ensure sufficient liquidity to support the money and foreign exchange markets in the country. We believe that portfolio outflows by foreign investors will remain manageable, supported by the country’s underlying fundamental strength, with steady economic growth, low unemployment and current account surplus in the balance of payments.

On the inflation front, BNM is expecting a slightly higher headline inflation due partly to the reintroduction of the SST. However, while headline inflation may edge upwards, it should be transitory and normalise towards October next year. BNM maintained that the underlying inflation should remain relatively stable. We believe that BNM will maintain the OPR at 3.25% until at least the end of this year. We believe that any decision to change its monetary policy stance will only be made next year, given current uncertainties in the financial market, as well as risks for global economic growth from global trade tensions.

Source: Affin Hwang Research - 6 Sept 2018