Moderating growth – The pace of economic expansion has been slowing since at least 3Q14 and will continue to decelerate in 2Q15 and 3Q15 as the April implementation of the Goods and Services Tax (GST) takes its toll on private consumption. Growth in 2Q15 and 3Q15 is expected to come in under 5.0% YoY as a result.

Year-end liftoff – Promising signs of a recovery in developed markets and consumers more willing to spend toward the end of the year will lift GDP growth in 4Q15, which is also seasonally the best performing quarter of the year. Full-year growth in 2015 is projected at 5.1%, lower than 6.0% in 2014.

Exports to mend – Despite a setback in 1H15, exports are expected to post a modest 2.2% gain for the year, suggesting a relatively strong rebound in 2H15. Electronic and electrical (E&E) exports are on track to achieve growth of about 5.0% this year while oil & gas exports have partly fought off low prices by increasing production from new wells and improvements in efficiency.

Inflation is of little concern – Cost-push inflation from GST implementation turned out less severe than earlier anticipated. Even when assuming for further cost pass-through to consumer prices in the coming months, headline inflation looks likely to only just exceed 2.0%, below the long-run average.

Accommodative monetary policy – With inflation hardly a concern, Bank Negara is expected to keep its policy rate at 3.25% with the aim of maintaining GDP growth of 4.5% - 5.5% this year. The current monetary policy stance is accommodative and functions to discourage portfolio outflows and ringgit volatility as well as keep a lid on household debt and other financial imbalances.

Fiscal consolidation – A recent GDP rebasing exercise and better-than-expected performance of the mining sector has made the federal government’s fiscal deficit target of 3.2% of GDP more achievable. Planned cuts to operating expenditure totaling RM5.5b still appear ambitious but can be made up for by better numbers on the revenue side from GST collections.

 Ringgit: unpredictable and volatile – Both domestic and external factors are weighing down on the ringgit in the short term. Until the US Federal Reserve makes the first rate hike for the current cycle, which is now expected to be pushed back to September, USDMYR is expected to stay largely in the 3.65 - 3.85 range. Our current average USDMYR forecast for 2015 is 3.68, a revision from 3.57 earlier.

Beyond 2015 – In 2016, private expenditure growth is expected to pick up pace and become the biggest contributor to overall growth with a close to 70% share of output, enough to offset growth shortfalls in net exports and public expenditure. Barring any unforeseen risks to growth, GDP growth will pick up pace to 5.5% next year. Even further ahead, the 11th Malaysia Plan envisions a high-income consumer economy based on services and high-value manufacturing.

Source: Kenanga Research - 6 Jul 2015