The way ahead

Published: Saturday August 24, 2013 MYT 12:00:00 AM 

Updated: Saturday August 24, 2013 MYT 9:02:09 AM

BY FINTAN NG FINTAN@THESTAR.COM.MY

THE second-quarter economic and financial developments data released on Wednesday by Bank Negara paints a more challenging picture for Malaysia’s economy in the next six months, at the very least.

However, economists are still expecting the second half of the year to be better than the first half although they have revised their targets for gross domestic product (GDP) growth downwards for the full-year based on the first-half’s performance.

Their assumptions are based on the improved global economic outlook as the major developed economies seem to be stabilising with indicators showing a pick-up in US economic activity, the eurozone having moved out of recession and measures to revive Japan’s moribund economy.

Manokaran is maintaining his call that the
local economy will grow by 5%.

They say exports will likely to improve as these developed economies recover and also given China’s stabilisation and the avoidance of a hard landing.

Alliance Research chief economist Manokaran Mottain says Bank Negara’s move to slash the GDP growth outlook for the year to between 4.5% and 5% from 5% to 6% previously on the still uncertain external front is significant.

He believes the message that is being sent out with the revision in GDP is that growth cannot be sustained at the 5% to 6% levels on current levels of spending based on the type of measures which have been in place since the global financial crisis of 2007/2008.

Manokaran is possibly among the few economists who have recently raised Malaysia’s GDP target. He is maintaining his call that the economy will grow by 5%, a slight revision from 4.8% earlier.

“This is a long-term call and will not be affected by the second-quarter data,” he tellsStarBizWeek, admitting that the downside risks are higher.

Manokaran is still convinced that domestic demand will continue to drive the economy, coupled with an improvement on the exports front.

His view is underscored by the belief among many economists that investments from the public and private sectors will pick up now that the uncertainties surrounding the general election have dissipated.

But there are concerns on how sustainable these investments can be at a time when public sector debt-to-GDP level is 53% and approaching the self-imposed 55% ceiling (or well above 60% should government-guaranteed debt be included) while corporate debt-to-GDP ratio is now nearly 96%.

Furthermore, the Government has a commitment to reduce the budget deficit, which stands at 4.5% of GDP this year. This is already hampered due to the cash handouts such as the Bantuan Rakyat 1Malaysia and other promises made based on the 13th general election manifesto. For the first half of the year, the deficit was above 5% of GDP.

As it is, Nomura Holdings Inc economist Euben Paracuelles expects the country’s budget deficit to remain unchanged at 4.5% of GDP this year despite the target to cut the deficit to 4%.

He told StarBizWeek a week ago that while the Government is likely to pursue fiscal consolidation measures for the rest of the year, these measures will only be implemented at a managed pace as oppose to doing it aggressively to achieve the full-year target.

Surplus problem

Overshadowing the problems facing the economy is the current account surplus, which narrowed to RM2.6bil from RM8.7bil in the first quarter. On a year-on-year basis, the surplus fell by over 67%.

This is largely tied to the balance of trade, the component of the current account which has drawn the most scrutiny since late last year as the surplus dropped. Malaysia is reliant on such large surpluses, given its structure as an exports-reliant economy.

Essentially, the balance of trade is what a country earns on exports minus the import costs.

The lower goods surplus of RM18.7bil (from RM24.7bil in the previous quarter) shows the drop in exports, largely due to lower commodity prices (crude palm oil prices have been down since reaching a high of RM3,613 per tonne on April 10 last year) and the weak demand for consumer-electronics products.

There has also been a sustained services account deficit, which widened to RM3.7bil (from RM3.4bil in the previous quarter) as well as outflows in the income accounts, which widened to RM4.1bil (from RM3.8bil previously).

The current account surplus woes are amplified by the weakening ringgit, which has fallen by more than 10% since early May versus the US dollar, making imports more expensive.

Nevertheless, Bank Negara governor Tan Sri Dr Zeti Akhtar Aziz says the current account is not likely to go into deficit due to the recovery in external demand and sequencing of large investments with high import content while the ringgit is likely to moderate versus the greenback in the medium term.

Maybank Investment Bank Bhd chief economist Suhaimi Ilias says in a report that the Budget 2014 presentation may also include possible reviews in some of the major infrastructure and investment projects to avoid the “bunching” of mega projects over the next few years that could strain government finance and the external balance.

Meanwhile, Citigroup Inc economists say in an Aug 21 report that the impending tapering of the US bond-buying programme, known as quantitative easing, are likely to impact “deficit” and portfolio-dependent countries more.

They say this is a bigger concern for those with current account deficits – India, Sri Lanka and Indonesia – as well as more recently, Thailand. “Malaysia also looks relatively vulnerable, given the large role of portfolio inflows,” they say.

Political will

Fitch Ratings’ downgrade of Malaysia’s sovereign credit rating outlook to “negative” from “stable” on June 30 could be what is needed to jolt policymakers into implementing long-postponed reforms.

While these reforms, including subsidy rationalisation and the implementation of a goods and services tax (GST) may be painful for the economy, this will be good in the long term, given that policy space has narrowed on high debt and deficit levels.

Paracuelles points out that while growth may face headwinds in the short term as fiscal consolidation measures are implemented, this will give the Government the breathing space to support implementation of more reforms.

But Moody’s Investors Service, which last week reaffirmed a “stable” outlook for the country’s sovereign credit rating, says three issues make reforms difficult – relative dependence on public-sector expenditure for growth, a fiscal framework dependent on commodity revenues in the absence of broad tax reform and the lack of political will for reforms.

The case in point where political will is concerned is the tabling of Budget 2014, scheduled for Oct 25, following the Umno supreme council election on Oct 19.

Nomura analysts, in a report, say that since nomination day for the Umno supreme council election is on Sept 28, Najib is likely to shore up support by making statements specifically touching on the bumiputra policy to appease Umno hardliners.

They reasoned that although Najib’s position as party president is relatively safe for now, the race for the top post is still wide open.

“Horse trading between the various factions and party interests is likely already underway, and Najib will need to make concessions, both politically and policy-wise, given the ruling coalition’s performance at the general election, despite the large spending,” they say, adding that the party positional line-ups should be clear within a day or two after election day, and will be confirmed at the general assembly scheduled on Dec 2.

Given the timeline of events and pressure from the market to act on the debt and budget deficit, the analysts say that it may be more advantageous for Najib to have the budget presented later so as not to hurt support.

However, they say the onus is on him to push on with the reform process at the Budget 2014 presentation. Manokaran, on the other hand, feels that political pressure has eased off substantially since the general election and that Najib will go ahead to implement measures to curb spending.

“I believe that this round of the budget presentation will be different, there’s nothing holding Najib back and they really need to take action on the deficit and the debt,” he says, adding that there are indications the GST will be mentioned in the presentation.