: Bruce Gale; Malaysia; 30 March 2011; Hits: 1404

Double edged impact on Malaysia

JUST how good are Malaysia’s economic prospects this year? The 7.2 per cent economic growth registered by the country in 2010 was the highest the country has achieved for 10 years. But it also came off a low base in the previous year, was driven by two government stimulus packages, and took place at a time when events in the Middle East and Japan were not casting a shadow on the global economy.

Last year’s rebound took the government by surprise, a factor that may have encouraged local politicians and businessmen to make optimistic assessments in January and February about prospects for this year. The original target of just 6 per cent for last year was exceeded when exports recovered faster than expected.

Even before the crises in Libya and Japan, however, it was clear that growth this year would be slower. GDP growth eased to 4.8 per cent year-on-year in the fourth quarter last year, down from 5.3 per cent in the third quarter as global demand for Malaysia’s exports moderated. By January this year, year-on-year export growth had fallen from double digits to just 3 per cent.

Malaysian exports are equal to more than 100 per cent of GDP. Thus, any slowdown in external demand typically has a marked effect on economic expansion. Many believe that this year, the slack will be taken up by domestic demand. But with higher interest rates likely as the authorities move to curb inflation, and the government committed to fiscal consolidation in an attempt to check the fiscal deficit (equal to 5.6 per cent of GDP last year), domestic growth could be limited.

Bank Negara (the central bank) has resisted raising interest rates for the last four months. Inflation, however, is clearly moving upward. The consumer price index rose to 2.4 per cent in January, up from 2.2 per cent in December. Bank Negara projects growth this year to be between 5 and 6 per cent, with inflation rising to between 2.5 and 3.5 per cent.

How far inflation, and therefore interest rates, actually rise in the next few months, however, will depend very much on international oil prices. And this, in turn, will depend upon developments in oil producing countries such as Libya. Oil reached US$106 a barrel last week in the wake of international air strikes in that country. If the fighting is prolonged, some observers believe oil prices could rise above the US$140 level seen in 2008, thus triggering another global recession.

Meanwhile, Japanese electronics firms operating in Malaysia have been badly hit by the multiple crises in Japan. Many such companies source high-end components from Japan and sell their products in US dollars. Now, with the yen at an all-time high against the US dollar, margins are being squeezed. Many will also have to cope with supply chain disruptions.

Other companies in Malaysia face similar problems. Reports say, for example, that car manufacturer Perodua, owned by Daihatsu and national car manufacturer Perusahaan Otomobil Kedua, sources 10 per cent of its engine parts from Japan for three of its models.

As in the case of the troubles in the Middle East, Malaysia’s growth prospects in the coming months will depend at least partly on how quickly Japanese companies can deal with these issues.

Foreign investment may also be affected. Last year, Japan was Malaysia’s second largest foreign investor, accounting for 13.9 per cent of total approved manufacturing investments. That source may well dry up this year as Japanese companies focus their energies on reconstruction at home.

In the short term, however, such factors need to be set against the fact that higher commodity prices will boost incomes for farmers. The country’s oil and gas companies will also benefit from higher oil prices. Timber exporters could also enjoy an export boom once the recovery effort gets under way in Japan. In 1995, after the Kobe earthquake in January of that year, Malaysia’s exports to Japan surged by 31.6 per cent, much higher than the overall increase in Malaysian exports.

Oil, gas and timber are among the country’s largest export earners.

The impact of the crises in Japan and the Arab world are therefore double-edged. But even if the optimists are right, and these latter factors mitigate some of the negative effects, maintaining the growth momentum this year is going to be difficult.

As we reach the end of this year’s first quarter, talk of another impressive economic performance for Malaysia this year needs to be replaced with sober realism. Malaysia is still a long way from reclaiming its position in the early to mid-1990s when, as a result of strong exports and huge inflows of foreign investment, its economy expanded at an average rate of more than 7.5 per cent each year.

To reproduce that level of economic performance, Malaysia will have to rescue itself from the so-called “middle income trap” in which the country is neither a low-wage producer nor highly skilled innovator. But such transformations take time, and there are just too may unknown factors at play to justify a sense of euphoria about economic prospects for this year.

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Key Political Risks

Now that the general assembly of UMNO, the senior partner in the ruling National Front coalition government, is over, the long-awaited general election could be held at any time. Constitutionally, Prime Minister Najib Razak has to call elections before April 21st 2012, after which the Elections Commission must hold the election within 60 days.

Widely expected to be the most hotly contested in Malaysian history, the polls will pit Mr Najib's government against a rival political coalition led by charismatic opposition leader Anwar Ibrahim.

While the opposition Pakatan Rakyat alliance attacks what is says are the corrupt and authoritarian ways of the government, Mr Najib has been describing the opposition coalition as an unnatural alliance of Islamic fundamentalists and multi-ethnic and liberal parties.

The strong economy is likely to favour the government.

WATCH OUT FOR:

The size of the expected government victory, particularly the ability of the ruling party to retake control of key states such as Selangor. Mr Najib needs to win convincingly if he is to implement long-delayed economic reforms. These include reducing oil and food subsidies and introducing a goods and services tax to boost government revenue.
The ability of Mr Najib to placate conservative elements of his Muslim-based UMNO party who disapprove of his policy of boosting national unity through greater inter-faith and ethnic tolerance.
The extent to which the government is able to convince the public that the coming elections will be free and fair. If the election result is close, influential organisation such as Bersih could declare them illegitimate, and stage major protests.