Overview

The Malaysia Index of Services puts 2Q15 growth in service sector production at 5.0% YoY, down from 7.1% in 1Q15 and an average of 6.5% for 2014.

The slowdown in service sector growth in 2Q15 is a reflection of soft consumer spending due to the implementation of the Goods and Services Tax (GST) in April.

As the index closely tracks the services (value added) component of GDP, there is now increased certainty that the economy will expand at a far slower pace in 2Q15 than 1Q15.

Put together, services, manufacturing and mining account for about 86.0% of GDP. We thus view growth rates of 5.0% YoY in the Index of Services and 4.3% in the Industrial Production Index as consistent with our 2Q15 GDP growth estimate of 4.1% with some upside bias.

Despite recent concerns over the rapid deterioration of the ringgit beyond USDMYR 3.90 there continues to be little reason to be pessimistic about GDP growth, which although moderating, appears to be growing at a pace that points to full-year growth in line with our forecast of 5.1%.

By far the largest sector of the economy, value-added services, contributed 55.3% (nominal: 51.8%) of GDP in 2014 and this percentage is set to grow to 58.0% by 2020, according to government projections.

The latest available numbers show that the services sector probably experienced the slowest growth in almost two years, with the Index of Services expanding just 5.0% YoY and contracting 0.5% QoQ in 2Q15.

The sub-sectors measured by the Index of Services that were the best performing are Wholesale Trade (weight: 16.2%) up 7.7% YoY, Information and Communication (weightage: 11.6%) up 9.7%, Telecommunications (weight: 7.7%) up 10.7% and Computer and Information Services (weight: 3.3%) up 7.5%.

The 1.0% QoQ decline for Distributive Trade and 5.3% QoQ drop in Retail Trade in 2Q15 can mostly be explained by impact of the implementation of GST in April. Consumers brought forward purchases in the months before GST expecting that prices would increase once GST came into effect. This led to a relatively weak demand for taxable goods in 2Q15.

Outlook

Economic growth, although expected to moderate from 5.6% in 1Q15 to 4.1% in 2Q15, is still at a healthy level for job creation and investment.

The expected dip in GDP growth mid-year is largely due to one-off effects from GST implementation, which should dissipate by year-end. That and more promising external conditions such as certainty on US Federal Reserve monetary policy should ensure that growth picks up by year-end and well into 2016.

The rapid deterioration of the ringgit beyond USDMYR 3.90 and weak capital markets should not distract from the Malaysian economy’s solid economic fundamentals. At this juncture, we maintain our full-year GDP forecast of 5.1%.

Source: Kenanga Research - 11 Aug 2015