OVERVIEW

● June’s inflation eased sharply to 0.8% YoY (May: 1.8%) the lowest since February 2015 (0.1% YoY). It was sharply lower than Bloomberg’s median consensus of 1.9% and house estimate of 1.8%. We may have underestimated the impact of zero rated Goods & Services Tax (GST), fuel subsidy, sales discount and price control measures prior to Eid al-Fitr. Meanwhile, core inflation moderated to 0.1% YoY from 1.5% YoY in May.

● Communication index dropped sharply by -3.9% YoY (May: -0.9%) a record low possibly as the competition is getting stiffer. We expect the price would continue to fall in 3Q18 as the government pushes for better internet connectivity by doubling the internet speed while halving the subscription price. Meanwhile, clothing & footwear fell sharply by -3.1% YoY (May: -0.7%) as zero rated GST kicks in and sales discount during Eid al-Fitr.

● Food prices slowed to 0.8% YoY (May: +2.2%), the lowest since October 2009. It fell by 1.0% MoM (May: +0.2%) possibly due to the zero-rated GST, and price control measure by the government.

● The transportation index, meanwhile, increased by 5.5% YoY in June (May: +3.8%) due to higher retail fuel prices during the month compare to the preceding year. Weighted average retail fuel prices for RON95 and RON97 were higher in June at RM2.2000/litre and RM2.5757/litre respectively (June 2017: RM1.9577/litre and RM2.2116/litre respectively). The index, however, contracted by 0.8% MoM (May: +0.1%) even though retail fuel prices were capped during the month since March this year.

● We expect inflation to resume its uptrend in 3Q18 following the end of the tax holiday and the reintroduction of Sales and Services Tax (SST) in September. The provision of services will be taxed at 6%, while the sales of goods will incur a 10% tax. Additionally, the government has allocated RM3.0b for fuel subsidies which will keep retail fuel prices of RON95 at its current level of RM2.20 at least till end of this year.

● BNM in its latest Monetary Policy Statement sees lower inflation ahead due to the zero-rated GST and the return of fuel subsidy. Hence, we expect full year CPI growth to be lower between 1.0-1.5% from 2017’s level of 3.7%. Year-todate, inflation is gradually descending at 1.6% compared to 4.0% in the same period of last year. Hence, we maintain our view that BNM would keep its interest rates on hold at 3.25% in the interest of supporting domestic demand as global trade tension is expected to weigh on economic growth in 2018.

Source: Kenanga Research - 19 Jul 2018