Bank Negara on the right track but too optimistic about growth

Bank Negara’s assessment for the Malaysian economy in the coming year shows the difficulties of forecasting during a period of significant disruption in economic activity.

On one hand it is correct in highlighting that the balance of risks is on the downside but on the other it has a very buoyant outlook for economic growth during what is likely to be a very turbulent year.

Given that Malaysia has been in lockdown for the first three months of 2021, BNM’s forecast that the economy will grow by 6.0-7.5% for the full year looks optimistic and may be due solely to comparing this year with the low base of last year. A more realistic view of underlying growth in 2021 would be around 3% which does not indicate such a strong rebound.

In fact, BNM’s analysis of growth potential is tucked away in the back of its report and is consistent with our view that this crisis would leave us with a completely different economy. We calculated that underlying growth could be about 0.75% lower while BNM estimates 1.3%-1.5%. This is a significant structural break.

We should remember that this time last year BNM forecast the economy could actually grow by 0.5% during 2020 or at worst suffer a mild 2.0% contraction which shows how difficult it is to forecast during a structural break like the one we are experiencing.

BNM’s predictions are in line with the 6.0% growth forecast by the World Bank last week but in April last year the World Bank forecast was also far off. It predicted only a mild 0.1% contraction, revised down to -3.1% in June and -4.9% in September.

This all proved to be off-target. The economy contracted by 5.6% and would have contracted by 9.6% according to the finance ministry if not for the stimulus packages.

This outcome was more in line with our assessment in June of a more than 7% contraction without a significant policy injection. This year we expect the economy to grow between 3% and 4% with low inflation at around 1%. Moody’s Analytics is also forecasting in that range and, like us, expects Malaysia to reach pre-Covid GDP by mid-2022.

BNM’s analysis of inflation looks much more realistic and it has been very clear about the factors likely to affect prices and therefore the monetary policy stance in the coming months. This is exactly what a central bank should do. Price stability is a central component of a successful economy that also protects society from rising costs of living.

It is likely that core inflation will remain low at around 1% and within the BNM range of 0.5-1.5%. Non-oil inflation will be flat around zero. This low inflationary scenario continues the trend of the last five years and is in-line with our assessment that at the tipping point mid-year, the economy will remain in a low inflation zone.

Headline inflation may be affected by oil prices but we already saw the biggest impact of this cost-push during the last three months. Headline inflation will show only a temporary blip and should not be used to guide interest rate policy as BNM correctly notes.

In fact, a cut in interest rates is likely to have little effect now and an increase in interest rates would severely harm sentiment and so should be avoided. In these circumstances BNM is right to say that monetary policy will be accommodative.

The big issue to watch is the impact of the “rakyat stimulus” from the disbursement of Employees Provident Fund (EPF) savings through the i-Sinar programme which we now know is worth RM52 billion. In addition there is RM9 billion from lower EPF contributions and there was previously RM19 billion from the i-Lestari scheme.

This is almost RM80 billion of direct spending from consumer savings and more than twice the amount of direct spending through government schemes such as the wage subsidies or the cash transfer programmes. We need to see how this will affect the economy and whether it will be spent or saved or used to pay-off debts and rebalance consumer finances.

It is also interesting to note that BNM acknowledges the contribution of oil and gas and palm oil to the future prospects of the economy, which is something that international agencies will never acknowledge. The truth is that these forms of unfashionable economic powerhouses will push growth in Malaysia through to 2030 and beyond and they deserve more attention.

Also to its great credit, BNM has been very clear that despite its strong growth forecasts the downside risks are high. This is very sensible because of uncertainty about the positive impact of external demand, the disappointing registrations for vaccines which we hope will not delay the roll-out and the possibility of further containment restrictions in the movement control orders.

There are three areas of significant structural disruption highlighted by BNM which are exactly the areas that need immediate policy attention. The first are the risks to the finance sector due to higher debt risk, the loan moratorium and lower bank earnings. BNM is right to keep an eye on these areas but its reputation for prudential supervision is second to none in Asia and so this is well under control.

The second is the significant shift in the labour market which has caused higher unemployment and underemployment as well as a shift to freelance, part-time and lower security “gig-economy” jobs. This is a clear structural break in labour market conditions which has social as well as economic considerations.

The third is the need for reform of social protection and in this respect BNM, the government and the wider policy community must begin a discussion of the benefits of a social market economy which balances the economic efficiency of a competitive marketplace with the equitable considerations of a social welfare reform. It is good that BNM has placed this firmly on the agenda and we look forward to this discussion.

The detailed analysis of the BNM reports shows that it has identified structural changes due to the Covid-19 crisis which is fully consistent with our analysis of the current condition of the economy. It has also highlighted key areas which need to be address urgently. There is a new Malaysia to shape and BNM has shown us part of the way forward.

Paolo Casadio is an economist at HELP University and Geoffrey Williams is an economist at Malaysia University of Science and Technology.

The views expressed in this article are those of the author(s) and do not necessarily reflect the position of MalaysiaNow.