Malaysian central bank unlikely to move rates on slowdown fears - economists

Malaysian central bank unlikely to move rates on slowdown fears - economists
Posted by Raja Petra
Monday, 28 April 2008

(Thomson Financial) - The Malaysian central bank is not expected to move interest rates when it meets on Tuesday even after inflation edged up for a second straight month in March as it weighs the risk of a possible sharp slowdown should the U.S. economy sink into a severe recession, economists said.

'It is unlikely Bank Negara will raise interest rates to check inflation this year as domestic demand is the required driver of growth against the backdrop of a U.S. recession-led global economic slowdown,' said Aseambankers Research.

Southeast Asia's third largest economy is highly dependent on exports to fuel growth. But the export sector has performed poorly since last year as the turmoil in the subprime mortgage market dragged the United States, a major buyer of Malaysian-made electrical and electronic goods, into a severe downturn.

'The risks of further subdued export growth have risen with the deepening U.S. subprime debacle,' said the Malaysian Institute of Economic Research (MIER), an independent economic think tank.

The economy is expected to grow at a slower pace of 5 percent to 6 percent this year after expanding by 6.3 percent last year as external demand falters, according to the government.

The government is hoping that robust domestic spending and strong commodity prices would help offset weakness in the manufacturing sector, which accounts for a third of the economy.

Malaysia, a net exporter of petroleum and the world's leading palm oil producer, has benefited from the high prices of crude oil and crude palm oil.

But having a share of only about 20 percent of total exports, commodity exports have not been able to offset the slack in the key electronic and electrical sector, MIER said in a report issued this month.

The electronic and electrical segment accounts for about 37 percent of total exports.

The MIER has maintained its 2008 economic growth forecast at 5.4 percent, saying growth is likely to slump in the second half as it takes a hit from the slowdown in the United States.



Keeping prices low



Malaysia's inflation rate accelerated to 2.8 percent in March with the food price index up 4.9 percent, according to official data.

The March inflation was the highest in 12 months but was still considered mild when compared to other countries in the region where inflation has hit multi-year highs.

The Malaysian government is able to keep domestic prices low even after global food and energy prices skyrocketed because it imposes strict price control on essential items such as rice, bread and flour.

Domestic retail prices of gasoline, diesel and natural gas are also heavily subsidized.

Zeti Akhtar Aziz, the governor of the Malaysian central bank, said last week that inflation may hit 3 percent in the coming months as food prices continue to trend higher.

But the central bank chief dismissed the idea of curbing rising food prices by moving interest rates.

The current rise in food prices is being driven by supply conditions and is not a result of rising demand and 'fiddling with interest rates is not the answer in this kind of environment,' she said.

The central bank's overnight policy rate at its current level is not discouraging demand for raising financing and is not discouraging consumption and investment activities, Zeti said.

The central bank has left its overnight policy rate unchanged at 3.5 percent since April 2006.

Economists said instead of depending on monetary tools, the government is exploring fiscal and administrative measures to rein in inflation. They said the central bank is also more likely to tolerate a faster rise in the ringgit in a bid to curb import inflation.

In an effort to ensure price stability, the government has set up a cabinet-level committee to tackle inflation issues.

The government also said this month that several big-ticket projects under its multi-billion-ringgit development blueprint are currently under review due to rising costs, Abdullah said.

'We see the government re-scheduling and re-prioritizing the development projects for implementation to make allocation for higher subsidy,' said OSK Research in a note.

Malaysia's fuel subsidies could hit 53 billion ringgit if crude oil prices stay around $117 a barrel, according to the government.

The exchange rate could be another useful tool in the face of rising prices, economists said.

The Malaysian ringgit hit a new 10-year high of 3.13 ringgit against the U.S. dollar earlier this month.

'We believe the central bank is comfortable with the strengthening of the ringgit so far this year, to partially offset the inflationary pressures coming from import costs,' said Aseambankers Research.

MIER is forecasting the ringgit will break the 3.00 ringgit per U.S. dollar mark by the end of this year, saying the local currency is still undervalued as the declining dollar has yet to bottom out.