OVERVIEW

• Agriculture surprising surge. Both palm oil and rubber output rebounded sharply in 1Q17 following the impact of the current intermission of El Niño since beginning of 2H16.
• Agriculture revised up. The high correlation of the two commodities’ growth rate with its real output growth prompted us to revise our 1Q17 real agriculture growth estimate to +7.8% from -2.4%, its highest since 4Q11.
• Further adjustment to 1Q17 GDP growth. The agricultural sector real growth is estimated to add 0.4-0.6 percentage point (ppt) to GDP growth. Along with the better manufacturing sector performance and sustained growth in services, we have revised our 1Q17 GDP growth to 5.0% from an earlier adjustment of 4.8%.
• A stronger growth outlook. Given the highly probable upside surprise to growth in the 1Q17 and the subsequent quarters, brought about by strong agriculture output and exports, we are increasingly upbeat on the growth prospects for 2017. Hence we are revising our full year forecast to 4.8% from 4.5% earlier.
• Growth to taper in 2H17. External risks remain a concern and would continue to weigh on the economy going forward. Hence, we forecast GDP growth to ease to 4.6% in the 2H17 from 5.1% in the 1H17.

A surprising upturn. The sharper-than-expected turnaround of palm oil and rubber output is somewhat a surprise underscoring the extent of the adverse impact of El Niño. In fact, its current intermission is a blessing to planters and farmers alike after a long spell of hot and dry weather. According to Australia’s Bureau of Meteorology the El Niño weather phenomenon that plagued Asia since May 2014 has ended or may be taking a long break since early June last year

A boost to agriculture. The strong rebound in palm oil and rubber output following the prolong intermission of the weather disruptive El Niño is expected to give a boost to the agriculture sector this year. In fact, the production of crude palm oil, a major subcomponent of the agriculture sector of the GDP, is highly correlated with oil palm growth in real terms (see Graph 1). This is also similar for rubber production. Combined, the two commodities contribute about have half of the agriculture sector and 4.0% of total real GDP with palm oil taking the lion share at 3.2% of GDP.

Record growth turnaround. Palm oil output surged 17.9% YoY in the 1Q17 its fastest since 2Q11 (+22.2%) after four straight quarters of contraction which bottomed in the 2Q16 (-20.3%), its lowest since the mid- 1980s. Similarly, rubber output jumped 22.4% YoY in the 1Q17 from 1.0% in the 4Q16 and growth contraction in the preceding three quarters. The 1Q17 rubber production is the highest since 1Q10 (+27.2%).

Agriculture sector growth revised up. Given the high correlation of both palm oil and rubber growth rate with its corresponding real output growth it provided a very strong reason to revise our 1Q17 real agriculture growth estimate from -2.4% to +7.8%, effectively its highest since 4Q11.

Further upward revision for 1Q17 GDP. The sharp turnaround of the agricultural sector’s real growth rate alone would probably add an estimated 0.4-0.6 percentage point (ppt) to the headline GDP growth in the 1Q17 from -0.2 ppt in 4Q16. This alone would push up our 1Q17 GDP estimate to 4.8% from our earlier projection of 4.4%. More importantly, the YoY growth expansion of the 1Q17 manufacturing sector to 5.6% from 5.0% in 4Q16 supports a better growth story for 1Q17. This is further supported by the Nikkei Malaysia Manufacturing Purchasing Managers’ Index (PMI) breaking the 50.0 mark at 50.7 points for the first time since March 2015, suggesting a turning point for business sentiments as Malaysia’s economy picks up pace. Along with the sharp turnaround of the agricultural sector and a sustainable growth of the services sector, we believe that this justifies a further revision of our GDP growth estimate to 5.0% for 1Q17 from our recent adjustment to 4.8%.

A stronger growth trajectory. Given the highly probable upside surprise to growth in the 1Q17 and the subsequent quarters, brought about by strong agriculture output and exports as well as domestic demand, we are increasingly upbeat on the growth prospects for 2017. Hence we project the full year 2017 GDP growth to expand to 4.8% from 4.2% last year, at the higher end of the Ministry of Finance’s 4.0-5.0% growth targets.

Growth to taper in 2H17. External risks remain a concern and would continue to weigh on the economy going forward. Hence, at this juncture, we forecast GDP growth to accelerate to 5.1% in the 1H17 before it tapers off to a projected 4.6% in the 2H17. We believe that the strong exports growth that brought about by the uptick in IT replacement cycle in the 1H17 would start to slow in the 2H17. Meanwhile, though we may see further upside on public expenditure boosted by the possible triggering of a 2017 general elections, it will only provide a more modest support to growth as the government seeks to balance between fiscal consolidation and rollout of its development plans.

Source: Kenanga Research - 17 May 2017