4 major factors that will shape Malaysia’s economy in 2H2024

This article first appeared in The Edge Malaysia Weekly on July 1, 2024 – July 7, 2024

THE global economy held its own in the first half of the year, despite being vulnerable to financial market turbulence and geopolitical headwinds, and appears to be heading into a slightly better second half.

Economists believe that a better performing global economy, bolstered by a strengthening Chinese economy and a soft landing in the US, could boost Malaysia’s export performance. This could augment its local demand-led gross domestic product (GDP) growth to above the 4% to 5% projected for the year.

Apart from the external demand pull that could drive a better second half, eyes are on domestic private consumption, which accounts for about 60% of GDP, to ascertain if it will be derailed by the soon-to-be implemented fuel subsidy rationalisation or the expected uptick in consumer price inflation.

“The second half will likely see the continuing gradual pickup in private consumption growth from 4.2% in the second half of last year to 4.7% in the first quarter of this year to 5%-6% in the second half, or close to the trend growth average of 6% over the last three years,” Sunway University economics professor Dr Yeah Kim Leng tells The Edge.

“The other major factor underlying the country’s economic performance in the second half is the higher realisation of domestic and foreign direct investment approved over the past two years that is expected to translate into stronger private fixed investment activities for the year.”

The Edge looks at key factors that would boost investor confidence and risks that could influence how Malaysia’s economy pans out in the coming months.

1. Fuel subsidy rationalisation impact on consumer spending

Having floated the price of diesel in Peninsular Malaysia to the unsubsidised market rate effective June 10, Putrajaya is monitoring the administration and impact of the first phase of fuel subsidy rationalisation on the nation.

“Administratively, this will be a time of fine-tuning so that the government can reduce teething issues when it is time to remove the subsidy for petrol. For now, the indirect impact on the consumer itself is small. The greater impact will be how the increase in logistical cost will directly raise the final cost of goods and services,” says Lee Heng Guie, executive director of the Associated Chinese Chambers of Commerce and Industry of Malaysia’s Socio-Economic Research Centre (SERC).

Despite the Ministry of Finance reporting a 30% dip in retail sales of diesel at petrol stations in the first week following the subsidy removal, it is hoped that the projected savings of RM4 billion will pave the way for the more pervasive impact of petrol subsidy rationalisation in the second half of the year.

Note that the higher diesel price comes alongside the RM200 monthly Budi Madani cash assistance for eligible individuals to offset the negative welfare impact of higher prices on the low income group.

“We can expect consumption spending to be sustained as the propensity to spend tends to be higher among the low income group. And while the fuel subsidy savings may be less than expected due to the Budi Madani cash transfers, the economy and government’s fiscal position will be less vulnerable to oil price shocks,” says Sunway’s Yeah, who believes the second half will likely see the continuing gradual pickup in private consumption growth to 5%-6% from 4.2% in the same period last year, or close to the trend growth average of 6% over the last three years.

What Yeah thinks of the fuel subsidy rationalisation and accompanying improvement in fiscal soundness, however small, conveys an important signal that the necessary economic reforms have started to take off. “The [reforms] will pick up pace as confidence in the administration’s implementation capabilities and accompanying short- and long-term people-oriented benefits become more evident,” he says.

However, the economists whom The Edge spoke to caution that a potential slowdown in private consumption could arise from higher inflation during the subsidy rationalisation period.

“This could be an ongoing process that could extend through 2025. As it stands, headline inflation rose to 2% in May from 1.8% in April, while core inflation came in at 1.9% year on year (y-o-y),” says MARC Ratings Bhd chief economist Dr Ray Choy.

“Those readings are higher than expected. And this is even before taking the diesel subsidy removal effect into account,” says SERC’s Lee.

The economists agree that what would bolster Malaysia’s economic performance in the second half of the year is the higher realisation of domestic and foreign direct investment approved over the past two years.

“That is expected to translate into stronger private fixed investment activities for the year. I’m hopeful that private investment will give a bigger punch to the economic outlook. The last three years saw strong approval numbers by Mida (Malaysian Investment Development Authority), with the first quarter of 2024 recording a 13% increase in overall approved investments compared to the same period last year,” says Lee.

“Ministers have said the actual realisation rate of the approved investments [so far] has been high, about 80% to 85%. Going into the second half, private investment cycles are taking shape. Master plans like the National Energy Transition Roadmap (NETR), or the fact that data centres make up the bulk of the RM144.7 billion in approved digital investments, serve as kickers for Malaysia’s GDP growth.”

2. Sustained momentum in Malaysia’s exports

Should consumer spending be more subdued than hoped, economists are looking to exports to spur growth. Malaysia’s trade was strong in May, recording double-digit growth of 10.3% y-o-y to RM246.31 billion, which was the highest value recorded since October 2022 and the fifth consecutive month of expansion y-o-y, according to the Ministry of Investment, Trade and Industry (Miti). Exports increased for the second consecutive month, expanding 7.3% to RM128.22 billion.

“With strong trade data and industrial production showing decent growth, we have reason to hope that the export segment will gather momentum in the coming months,” says Lee. He notes that the global growth data have been largely in line with the International Monetary Fund’s forecast of 3.2% in 2024 and 2025.

Echoing the belief that there is more space for export growth, MIDF Research says the segment’s expansion in the second half will be underpinned by electrical and electronics and other manufactured goods, as well as primary goods.

“If export value is maintained at RM125 billion per month on average throughout 2024, Malaysia’s outbound shipments growth rate can potentially grow at 5.2%. By component, domestic exports, which constitute 77.4% of total exports, are predicted to grow 7% while re-exports are expected to rebound modestly by 3%. Better recovery in China, growing demand in major countries, the tech sector’s up cycle and supportive global commodity prices will boost the rebound of Malaysia’s external trade performance,” says the research house.

With China’s stronger-than-expected 1Q2024 GDP growth of 5.3% beating the previous quarter’s 1.6% and analysts’ growth forecasts of about 4.8%, OCBC Bank senior Asean economist Lavanya Venkateswaran affirms that the stabilisation of the world’s second most powerful economy should be broadly supportive of Malaysia’s exports to China.

3. Ringgit factor, Fed’s decision

The US Federal Reserve has since early this year delayed its decision to cut its key policy rate of 5%-5.25% due to sticky inflation. Economists initially predicted a total of seven rate cuts this year but that has dwindled to just one cut later this year as the US economy shows signs of slowing down.

Other major central banks have started to ease their monetary policies. The European Central Bank on June 6 cut interest rates for the first time in five years, lowering its three key benchmark rates (main refinancing operations, marginal lending facility and deposit facility) by 25 basis points (bps) each to 4.25%, 4.50% and 3.75% respectively, effective June 12. Meanwhile, the Bank of Canada on June 5 trimmed its key policy rate, the first G7 country to do so, to 4.75% from 5%, the first cut in four years.

Even so, the world’s major economies are watching out for the Fed’s decision at its next Federal Open Market Committee meeting in September.

“The ringgit will be a key beneficiary of the long-awaited Fed’s interest rate down cycle. Although the ringgit has recovered from its trough, it remains undervalued and a stronger currency will be helpful in making technology imports cheaper at a crucial stage of its industrial upgrading into a technology-driven, knowledge-intensive economy,” says Sunway’s Yeah.

“A stronger ringgit could dampen exports but the prolonged undervaluation has created a sufficient buffer for exporters to absorb the currency strengthening. It will also have the desirable effect of pushing manufacturers and exporters to move up the value chain rather than depend on a cheap currency to maintain a competitive edge in international markets.”

OCBC Bank FX strategist Christopher Wong predicts that the ringgit may trade in a subdued manner in the coming weeks, alongside depreciation pressure seen in other Asian currencies.

“The macro environment continues to be a case of high [US interest rates] for longer and this will continue to weigh on Asian FX (foreign exchange) until the Fed pivots. And now, woes are piling on Asian FX following the renewed weakness in the renminbi and yen. To some extent, the weakness in the Asian FX complex will have spillover effects on the ringgit,” he tells The Edge.

Despite some short-term downside risks, Wong maintains the view that the ringgit may hold its ground compared with its peers — first, on the expectation that the Fed is closer to a pivot and second, improving US Treasury-Malaysian Government Securities yield differentials in favour of the ringgit (average of 45bps in 10-year differentials in June compared to a high of 72bps in May).

“Third, as long as fundamentals at home are still solid, where improved growth prospects are intact, driven by broad-based expansion, domestic demand and widening of current account surplus. Fourth, relatively lower ringgit sensitivity to negative market developments and the renminbi (compared to previous episodes). Lastly, increased communication between Bank Negara Malaysia and market participants gives reassurance that the regulators are closely watching ringgit developments,” he says.

“Note that foreign inflows into domestic equities have been a driver of ringgit stability lately, not forgetting that the FBM KLCI was an outperformer in Asean equities for the year to date [at about 9.5%]. If the inflows persist, then this can add to the ringgit’s stability.”

He forecasts the ringgit at 4.64 against the US dollar in the fourth quarter.

MARC Ratings’ Choy is predicting that the ringgit will stabilise at 4.60 to 4.70 versus the greenback in the second half, while a more bullish MIDF Research is projecting 4.43 by year end and an average of 4.64 for the year.

The economists concur that a sustained pace of key reforms covering subsidy rationalisation, tax mobilisation, spending efficiency, reduced leakages and fiscal prudence, on the one hand, and growth-stimulating strategies as encompassed in the New Industrial Master Plan and various sectoral blueprints and road maps, on the other, will strengthen the economy’s underlying fundamentals and competitiveness.

“The currency unquestionably then will be traded more consistently at its fair value without the need for any intervention from the authorities,” Yeah points out.

4. Geopolitical uncertainties

With the geopolitical tensions in the Middle East and the Russia-Ukraine war, as well as the upcoming elections in 40 countries that represent more than 40% of global GDP, economists contend that there is always a risk that the energy, trade and financial markets could be disrupted, causing inflation to rise and stunting growth.

“The US election in November will be a wild card since higher government spending accompanying elections could be countervailed by the increasingly US-centric trade policy and risk of missteps in geopolitical policy,” MARC Ratings’ Choy points out.

In addition, the scrutiny of candidates’ positions on climate change and foreign policy, particularly in the US and the UK, will be crucial in shaping international relations and economic policies.

“While the overall risk outlook is becoming more balanced, substantial uncertainties persist. High cost pressures, especially in services, may slow inflation reductions and delay policy interest rate decreases, exposing financial vulnerabilities and potentially leading to sharper labour market slowdowns,” says PublicInvest Research. 

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