OVERVIEW

Sustained growth amid challenging global economic environment. Concurring house’s expectations, Bank Negara Malaysia (BNM) leaned towards a more downbeat tone in its newly published Annual Report 2018 amid expected moderation in the global economic expansion. Elevated uncertainties at the external front, particularly those pertaining to trade war development, political and policy directions, as well as lower commodity prices, exert risks to domestic growth outlook. Notwithstanding the above, BNM expects Malaysia’s GDP to remain steady, expanding by 4.3%-4.8% in 2019, anchored mainly by the private sector activity. This is in line with the house’s 4.5% growth forecast, but below Ministry of Finance’s bullish projection of 4.9%.

Domestic demand to remain the key pillar of growth. BNM foresees domestic demand, in particular private sector expenditure, to drive overall economic growth, expanding by 6.2% in 2019. Private consumption is expected to remain firm, forecasted to grow by 6.6% (KIBB: 6.2%), on the back of stable labour market conditions (unemployment rate: 3.3%- 3.5%; 2018: 3.4%) and continued wage growth, normalising from last year’s strong performance as the impact from the one-off three-month tax holiday period recedes. Further lending support to private consumption are the implementation of policies aimed at weathering the rising cost of living, such as the price cap on retail fuel prices, higher minimum wage and cash transfers (e.g. Bantuan Sara Hidup). Private investment is forecasted to grow at a faster pace (4.9% vs. 4.5% in 2018), underpinned by the ongoing multi-year projects and automation enhancement initiatives. This includes capital spending in the Electrical and Electronics sectors (E&E) sector and primary-related manufacturing sector along with transport, storage and communication services sub-sectors. Meanwhile, public sector expenditure will drag growth downwards, as it is projected to contract by 1.8% (2018: +0.1%) and knocking off 0.4 percentage points of the overall GDP growth, reflecting reprioritisation of government spending and the completion of large public infrastructure projects.

Broad-based expansion across sectors. BNM opines that all sectors will expand in 2019, albeit at a softer pace for the services, manufacturing and construction sectors. The services and manufacturing sectors are predicted to moderate against the backdrop of global trade slowdown, weighing on transport and storage sub-sector for the former, and E&E subsector for the latter. Similarly, the construction sector is expected to trend downwards following completion of large petrochemical projects in the civil engineering sub-sector namely Petronas’ Refinery and Petrochemical Integrated Development (RAPID), and subdued residential and non-residential sub-sectors amid the oversupply of residential and commercial properties. On the other hand, the commodity-related sectors are projected to chart a positive growth, driven by a recovery in natural gas production and higher palm oil output as palm oil yield improves and mature oil palm areas expands.

Trade activity to moderate. The ongoing economic slowdown in major economies, including in China and euro area could result in hampered trade performance for Malaysia, with exports forecasted to grow at a slower pace of 3.4% (2018: 6.8%), while imports are projected to expand by 4.5% (2018: 4.9%). Consequently, the trade surplus under the current account of balance of payments is expected to narrow to RM116.2b (2018: RM121.4b). Meanwhile, the services and income accounts are expected to sustain a deficit, but slightly wider for the latter, due to higher FDI income payment given the larger number of locally-incorporated foreign firms. Overall, BNM expects the current account of the balance of payments to remain in surplus, albeit narrowing to 1.5%-2.5% of GNI (2018: 2.4% of GNI).

Government affirms its commitment to fiscal consolidation agenda. With the goal of narrowing fiscal deficit to -3.4% (2018: -3.7%), the government further enhances its fiscal consolidation efforts through multiple key initiatives. These include the implementation of zerobased budgeting, announcement of the Government Procurement Act, formation of the Tax Reform Committee (TRC), as well as establishment of a Debt and Liabilities Management Committee. In line with the aforementioned, government revenue is predicted to pick up to 12.4% (2018: 5.7%), while public expenditure expands by 9.6% (2018: 9.3%), as the increase in operating expenditure exceeds a contraction in development expenditure.

Output gap turns negative. Output gap is projected to turn marginally negative in 2019. This is largely due to lower growth of potential output underpinned by slower pace of expansion in the capital expenditure and labour force, while actual output is expected to be weighed by external and domestic uncertainties, including re-emergence of commodity supply disruptions and oversupply in the property market. As output gap turns negative, inflationary pressure is expected to remain benign. BNM foresees the inflation to average between 0.7%-1.7%, as a cost-push pressure will be contained by lower global oil prices and the price cap on domestic retail fuel prices.

Ensuring stable growth remains as monetary policy focus. Acknowledging that the economy is currently undergoing a phase of heightened headwinds, coupled with an environment of benign inflationary pressures, BNM retains its accommodative monetary policy stance.

Banking sector remains healthy. According to BNM’s assessment, the banking sector remained healthy with capital ratios surpassing the levels required under Basel III. The banking system’s Common Equity Tier-1 (CET1) capital ratio registered at 13.1% of risk-weighted assets, Tier-1 Capital Ratio (Tier-1) at 13.9% and Total Capital Ratio at 17.4%, creating a stronger buffer against external risks to the banking system. In 2018, the annual growth of total household borrowings continued to edge lower to 4.7% (RM1,187.3b; 2017: 4.9%), with the ratio to GDP marginally shrank to 83.0% (2017: 83.8%). Meanwhile, banking system loans grew at a faster pace of 5.6% (2017: 4.1%). Of significance, BNM highlighted the heightened risks in the office and retail space segments attributable to the oversupply situation. Nonetheless, BNM’s analysis showed that the banks are assessed to be able to withstand a broad property slowdown.

CONCLUSION

House slightly bearish relative to BNM’s growth outlook. Our 2019 forecast of 4.5% growth sits right at the mid-point of BNM’s growth range of 4.3-4.8%. However, given that BNM’s point forecast is 4.7% (calculated based on the sum of percentage points contribution of the GDP components provided in the annual report), house’s forecast appears to be marginally bearish. The main difference came from the commodity-related sectors, in which we forecast lower growth for the agriculture and mining sectors, as we suspect the recovery in production, driven by an increase in palm oil price and the cease of production facilities interruptions, to be rather constrained by prospects of softer external demand. A more moderate manufacturing sector growth trajectory (4.4% Vs. BNM’s 4.8%) is another reason for the less sanguine house GDP growth projection.

BNM monetary stance to tilt towards easing. With major central banks, including the Fed and the ECB, portraying cautious outlook on growth and dovish monetary policy stance, BNM now has more room to adjust its short-term benchmark interest rate lower. However, at this juncture, while BNM has toned down its inflation expectation (0.7%-1.7%) and slashed growth forecast for 2019, we still feel that a rate cut requires more data evidence that shows signs of deeper deterioration in domestic activity relative to level of moderation experienced currently, or at least a partial materialisation of the growth headwinds mentioned earlier. In the absence of the aforementioned factors and barring a major external shock, we expect there is no compelling reason for BNM to cut the Overnight Policy Rate, which has remained at 3.25% since it was raised in January last year which was the first rate hike since July 10, 2014. BNM last cut the OPR to 3.00% from 3.25% on July 13, 2016.

Source: Kenanga Research - 28 Mar 2019