• Headline inflation contracted for fifth consecutive month due to decline in costs of transport and housing & utilities
• Core inflation, which excludes administered and volatile price items, eased slightly to 1.1% yoy in July (1.2% in June)
• We expect the country’s headline inflation to average around -0.3% for 2020, as compared to the official projection of between -1.5% to 0.5%

Improving economic activity to limit downward pressure in the coming months

Malaysia’s headline inflation contracted by -1.3% yoy in July, albeit a smaller decline compared with -1.9% in June. However, the country’s economy has been in a state of deflation for the fifth consecutive since March 2020, reflected mainly by the sharp fall in costs of transport and housing, water, electricity, gas and other fuels. During the month, cost of transport fell for the fifth straight month, but at a slower pace of -10.3% yoy (-14.3% in June). Domestic retail petrol price of RON95 averaged RM1.69/litre in July as compared to RM2.08/litre in July 2019. Headline inflation, excluding fuel for vehicles (RON95, RON97 and Diesel), was stable for the second consecutive month at +0.2% yoy in July. However, core inflation, which excludes administered and volatile price items, eased slightly to 1.1% yoy in July (1.2% in June). The decline in headline inflation was also dragged by costs of housing and utilities, which contracted for the fourth straight month by 2.6% yoy in July, partly due to ongoing electricity discounts. Besides that, the fall in costs was also registered for clothing and footwear (-0.6%) and furnishing (-0.1%) in July. Meanwhile, costs of communications (+1.6%) and health (+1.1%) remained stable in July, while prices of food and non-alcoholic beverages improved to 1.4%, restaurants and hotels (+0.2%) and miscellaneous goods and services (+2.9%), moderated. In contrast, recreation services and culture (+0.7%), education (+1.2%) and alcoholic beverages and tobacco (+0.3%) rose during the month.

In the first seven months of 2020, the country’s headline inflation rate averaged -0.9% yoy compared to +0.3% in the corresponding period of last year. In the months ahead, we expect some downward pressure on headline inflation from costs of transport, from a continued high base from the previous year of retail fuel price of RON95, which was capped at RM2.08/litre compared to RM1.68/litre currently. Meanwhile, the ongoing electricity discount from April to December 2020 will also weigh on headline inflation going forward. We believe the country’s average inflation to remain in negative territory in 3Q20, reflecting low retail fuel prices and the electricity tariff rebate provided. Nevertheless, as domestic economic activity continues to slowly recover, we believe rising demand and improvement in global oil prices will put some gradual upward pressure in later part of 2020. We expect the country’s headline inflation to average around -0.3% for 2020 (+0.7% in 2019), as compared to the official projection of between -1.5% to 0.5%. With BNM lowered already its overnight policy rate (OPR) by a total of 125bps since early 2020, we believe the current level of OPR is supportive of economic recovery. As a result, we maintain the view that BNM will likely keep OPR unchanged at 1.75% in the next MPC meeting on 10 September, with signs of further improvement in domestic economic conditions from 2H2020.

Source: Affin Hwang Research - 19 Aug 2020