We are actually quite surprised that Bank Negara chose to make this measure this month!
AFTER keeping interest rates low for the past three years to support economic growth, Bank Negara has finally decided that it is the time to “normalise” interest rates.
In response to firm growth prospects and expecting inflationary pressure to continue, the benchmark overnight policy rate (OPR) was raised by 25 basis points (bps) to 3.25% on Thursday.
This is the first hike since May 2011 and the reasons, although not spelled out, were broadly hinted towards containing inflation and curbing rising household debt.
Most economists are unperturbed with the move, as the central bank has hinted of an imminent hike in OPR after the Monetary Policy Committee (MPC) meeting in May.
According to a Bloomberg survey, 15 out of 21 economists estimated a hike.
“Amid firm growth prospects and with inflation remaining above its long-run average, the MPC decided to adjust the degree of monetary accommodation,” Bank Negara says in a statement.
The economy grew by 6.2% year-on-year in the first quarter with private consumption up 7.1% and private investment expanding by 14.1%.
The prolonged period of low interest rates in Malaysia has been supportive on the domestic economy, hence the recent rate hike has sparked the question whether the time is right for a hike amid a recovery in the global economy.
“Despite higher costs of living, stable income growth and favourable labour-market conditions are expected to buoy private consumption growth,” said CIMB Research in a report.
It expects the country’s economic growth to increase to 5.5% this year and 5.2% in 2015.
Bank Negara remained positive on Malaysia’s growth outlook, riding on the back of recovery in exports, robust investment activity and anchored by private consumption.
Financial imbalances
“Going forward, the overall growth momentum is expected to be sustained.
“Exports will continue to benefit from the recovery in the advanced economies and from regional demand. Investment activity is projected to remain robust, led by the private sector,” says Bank Negara.
There are a lot of factors that could derail the recovery in the world’s economy, including a risk in China’s growth slowing and a slower recovery in Europe and the United States.
“We are actually quite surprised that Bank Negara chose to make this measure this month. The fact that the latest normalisation drive would push the ringgit higher and that puzzles us as export momentum may decelerate in the next few months due to waning competitiveness,” says M&A Securities.
Nonetheless, it believes the economy is capable of absorbing the adjustment.
Prior to the 2008-09 Global Financial Crisis, Malaysia’s OPR stood at 3.5%. The country’s OPR was subsequently cut down to as low as 2% to support the domestic economy during the height of the global downturn in early 2009 before being raised gradually to the present level.
Between November 2008 and February 2009, Bank Negara had cut the OPR by 175 basis points in response to the global economic crisis. “The rise in OPR will likely to improve Malaysia’s attractiveness amongst foreign investors, leading a stronger capital inflows, lower bond yields and appreciating ringgit,” says AllianceDBS Research chief economist Manokaran Mottain in a report.
He says that since the previous MPC meeting in May, the market has been influenced by this expectation.
Year-to-date, the ringgit had rallied to RM3.172 per US dollar on July 9, registering a 2.06% gain. However, at the close yesterday, the ringgit closed lower at RM3.21 against the greenback.
The central bank also highlights that the increase in the OPR is to ease the risk of financial imbalances, which may effect the economy’s growth prospect.
“At the new level of the OPR, the stance of the monetary policy remains supportive of the economy,” Bank Negara says.
The OPR is an overnight interest rate set by Bank Negara. It is the interest rate at which a bank lends to another bank.
A rate hike would have an impact on businesses and consumers, as changes in the OPR would be passed on through changes in the base lending rate (BLR).
Bank Negara governor Tan Sri Dr Zeti Akhtar Aziz was reported as saying that signs of financial imbalances would also factor into policy decisions, because a prolonged period of accommodation could encourage investors to misprice risk and misallocate resources.
“Higher interest rates should help to ensure a positive real rate of return for deposit savings and deter households from turning to riskier investments,” says CIMB Research.
The low interest rate environment has resulted in rising household debt level, which reached a record of 86.8% of gross domestic product at the end of last year.
“Although the increase in the OPR will likely have some impact on consumer spending and business activities, it will help to moderate the increase in prices,” says RHB Research Institute.
It expects inflation to moderate but to remain high, hovering above 3%.
Most economists are expecting OPR to remain unchanged at 3.25% for the rest of the year, although price pressures are likely to remain.
They say Bank Negara may resume its interest rate normalisation only next year.
“The price pressure is likely to remain, in view of further subsidy rationalisation (another round of fuel-price hike this year),” CIMB Research says.
Muted impact
“Another 25bps hike will crimp domestic demand,” Manokaran opines, adding that there are other measures that may be taken if household debt continues to grow at a worrying pace.
Malaysia is the first country in the South-East Asia to increase its benchmark rate on the back of improve confidence in exports growth and robust investment activity.
According to CIMB Research, Malaysia’s equity market has already priced in an interest rate hike following the May MPC meeting.
The research house says while the is negative for equities, the impact on the stock market should be muted as the increase is minimal.
“Rate hikes are negative for cyclical sectors such as property and auto, as well as consumer stocks due to lower disposable income,” it says.
In the property sector, rising interest rates would increase mortgage payment and reduce affordability.
However, CIMB opines that the impact of a gradual rise in interest rates will be mitigated as the key drivers of property demand are the overall economy and the stock market.
“But the overall impact should be muted as net gearing for corporate Malaysia is less than 10%,” it adds.
CIMB notes that the banking sector will benefit from the rate hike due to a positive re-pricing gap between lending and deposit rates.
“We estimate that a 25bps rise in OPR could enhance banks’ earnings by 1% to 2%.
“This would outweigh any slowdown in loan growth in an environment of higher interest rates, while asset quality is expected to be unaffected,” it says.
Contributed by Intan Farhana Zainul/The Star/Asia News Network
No justification for interest rate hike: Kenanga
Investment bank research head cites expectations of softer economic growth in H2
KUALA LUMPUR: Kenanga Investment Bank Bhd has taken the contrarian view and believes that an interest rate hike is unlikely to materialise today, saying that it would be unjustified given jittery economic fundamentals that would not be able to take such a hike.
Most analysts opine that Bank Negara is likely to raise the overnight policy rate (OPR) for the first time since May 2011 today, even though they tend to differ on the quantum of increase, between 25 basis points (bps) and 50 bps. The OPR currently stands at 3%.
Bank Negara is scheduled to hold its latest monetary policy committee (MPC) meeting this evening.
Kenanga Investment Bank deputy head of research Wan Suhaimie Saidie (pix) opined that this is not the right time to raise interest rate as economic growth is expected to trend lower in the second half compared with the first half of the year.
"Due to softer external demand and slow down in other parts of the world, I don't think Bank Negara will raise interest rate, unless they revise the gross domestic product (GDP) higher," he told a media briefing here yesterday.
Wan Suhaimie said as Malaysia is an open economy, the interest rate outlook will be externally dependent, whereby it has been observed that Bank Negara would shift towards tightening mode when the global manufacturing PMI breaches 54.0.
"However, it may take at least another three to six months before the index breaches 54.0," he said, adding that there is little reason for Bank Negara to raise the OPR for the rest of the year.
Wan Suhaimie believes with the implementation of the goods and services tax (GST) next year, the local economy may even slow down for at least two quarters, making the case for an interest hike far from compelling.
Kenanga expects GDP in the first half to be close to 6%, while second half is projected to average by 5.2%, with a full year growth rate of 5.5%.
Wan Suhaimie said instead of raising the interest rate, Bank Negara could take additional macroprudential measures to address imbalances in the financial system, such as reducing the loan-to-value ratio and debt-to-income ratio.
According to data compiled by Kenanga, Bank Negara is one of the most conservative central banks in the world, with only 10 rate adjustments made over the past 10 years.
M&A Securities concurred with Kenanga on the unlikelihood of a hike in OPR today albeit for a different reason.
"Policy decisions would need to get the cabinet endorsement first. Being a caring government that would like to avoid political backlash, we think that the government would prefer Bank Negara Malaysia (BNM) to defer that to the September MPC meeting," it said in an economic report yesterday.
It explained that on the back of rising cost of living and the upcoming stress of the goods and services tax, the last thing BNM and hence, the government would want to see is the adjustment be a burden the people.
"As 55% to 60% of Malaysian population, as in the Muslims would be observing the month of Ramadan of which their spending would increase, the government would risk its reputation if it proceeds with a policy hike. There is a small chance that the government would execute this in our opinion," said M&A analyst Rosnani Rasul.
It said impact to the ringgit would also be more conducive if policy rates get adjusted in September and that an adjustment of 25 bps would suffice.
With no hike in the OPR, volatility in the market will continue and is likely to see the ringgit fall back to 3.20 to 3.30, Wan Suhaimie opined.
The ringgit has been rising lately, surging to as high as 3.1860 early this month in anticipation of an interest rate hike.
Contributed by Lee Weng Khuen sunbiz@thesundaily.com 10 July 2014
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