What is Najib’s response to arrest impending ringgit, equity and bond meltdown?

Dzulkefly Ahmad (The Malaysian Insiders)

Granted, the Asian currencies which have been weakening since May 2013 have been duly noted. The Malaysian Ringgit recent fall, in that sense, is in tandem with the regional currencies.

Many took comfort in observing that the depreciation is not a reflection of economic weaknesses but more as a result of strengthening of the US dollar ie as a result of US bond purchase or tapering of the quantitative easing (QE).

Some economists went further as treating it as a blessing in disguise as to find our ‘natural economic equilibrium’. While that may be arguably so, it is not entirely true or at best, only half-truth? We couldn’t resist noting that it is too much of an apologia.

Already the Fitch Rating has mooted and alluded to the possibility of credit rating downgrading both the Indian rupee and the Indonesian rupiah if their governments fail to halt the slump in investors’ confidence and maintain financial stability.

The far-reaching implication on cost of funding and the impact quality of life i.e. inflation and burden on debt repayment must be fully appreciated. This is especially so if income and wealth divides have been widening hence affecting the lower income group more severely and creating social tension of sort.

While not forcing a similarity with the earlier crisis, wouldn’t it better for the emerging economies to be more on the alert as to avoid the recurring of a catastrophic currency crisis and subsequently a full-blown Asian financial melt-down seen in the late 90s?

Which countries are at greater risk in these currencies free-fall and why? More importantly is to ask what could and should be done in order to halt the slum in confidence.

For the record, the Indian rupee fell to 64.13 per US dollar (-13.67, % move) and the Indonesian rupiah fell to trade at 10,700 to the greenback (-10, % move), its lowest since April 30, 2012.

After these two countries the next to be ‘contagiously infected’ would be those that have a combination of these factors; ‘high fiscal deficits, high subsidies bill, slowing economies and high foreign ownership of government bonds. Malaysia and Thailand fit into these profiles.

Thailand economy incidentally shrank in the second quarter of this year and in fact went into a mild recession, Thailand’s baht touched a 13-month low of 31.72 per US dollar(-3.22, %move), its weakest since July 2012.

Let us now consider a closer snapshot of the Malaysian case. The following are our takes that have caused foreign investors to re-evaluate their exposure to Malaysian assets:

  1. Economic growth is expected to slow to five years low in 2014,
  2. The ringgit currency has already been driven to three-year lows around 3.3 to the dollar, down more than 7% this year. Traders estimate the central bank has spent close to US$1.3 billion (RM4.3 billion) to defend the currency in recent days.
  3. Selling spread on Tuesday to the Kuala Lumpur’s stock market – usually seen as a regional safe haven – dragging the main index down 1.85%.
  4. While most economists expect the current account to remain in surplus, its sharp fall to RM8.7 billion in the first quarter from RM22.8 billion in the previous period removed much of Malaysia’s perceived protection from heavy fund outflows.
  5. Export plunges in recent months could push the current account into a quarterly deficit for the first time in 16 years. People weren’t expecting the deficit to get anywhere close to zero six months ago. 5 years low trade surplus (plunging prices of Malaysia’ palm oil exports and rising copper imports). Current-account surplus probably decreased to 900 million ringgit (US$274 million) in the second quarter from 8.7 billion ringgit in the previous three months. There are some in the market who think Malaysia could post a current-account deficit in the next quarter which is the first time into deficit since 1997 primarily due to weak commodity prices and weaning China demands.
  6. The government is silent on the much-needed reforms to fix a large fiscal deficit. The fact that the government remains relatively silent (with new government first 100 days just slipped by quietly without economic master plan) may add more to investors’ uncertainties and ringgit weakness.
  7. Despite the proposed set up of a ‘Fiscal Committee’, the government must deal more with the roots of ringgit weakness which is ratings downgrade due to public finance disorders with lack of reforms to control Malaysia’s household debt 83% debt-to-GDP ratio, government debt plus guarantees at 70% of GDP and corporate debt at an alarmed 95.8% of GDP. There is high evidence that debt growth has been growing faster than GDP growth since the last ten years which can be the tipping point to send our economy to vicious market instability spiral.
  8. We note that the month-long selling has pushed 10-year Malaysian government bond yields to their highest in 2-1/2 years (Ten year bond yields have crossed 4 percent for the first time since early 2011) which can pressure borrowing cost and affect the local investors world.
  9. Given that overseas investors held 33% of Malaysian government debt and 25% and Malaysian equities (among the highest proportion among Southeast Asia’s biggest economies according to central bank data), we expect more capital outflows over next few weeks which could cause the ringgit to underperform and people to lose more their quality of life. Foreigners have been selling Malaysian bonds, reducing their holdings to RM138 billion in June from RM145 billion in May, according to the latest data.
  10. Ironically, we observe the local GLIC fund, pension fund and even local banks are purchasing less of Malaysian equities and bonds with most now focusing on overseas assets which can be a serious worry.

Hardly surprising that the Fitch ratings agency cut its outlook on Malaysia’s sovereign debt last month, citing worsening prospects for fiscal reforms such as proposed cuts in the country’s steep subsidy bill and a new consumption tax to reduce its reliance on oil revenues.

We also notice there wasn’t a strong counter ringgit policy response from the government which is very important to spur investors’ morale while breathing a positive perception into the fledgling new administration. We believe the absence could be PM Najib strategy in response to the shrinking number of parliamentary seats won by BN and of course dwindling business electorate support (especially Chinese & urban middle class) which has dealt a certain blow on the PM. Similarly, Prime Minister Najib Abdul Razak faces a possible leadership challenge from within his ruling party in October, raising uncertainty over his pledge to cut one of emerging Asia’s highest budget deficits of 4.5% of GDP.

Hence, we strongly advocate that the government to immediately release counter ringgit response and communicate with the business communities (investors, analyst & rating agencies) and come up with major manoeuvres within 48 hours to fix the country economic problems so as to arrest the impending ringgit, equity and bond market meltdown.

Dr Dzulkefly Ahmad, Executive Director PAS Research Centre.

Press Release of the Corporate and Islamic Finance Resource Group.

23 August 2013.

* This is the personal opinion of the writer or publication and does not necessarily represent the views of The Malaysian Insider.

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