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Executive Summary

The Malaysian economy performed better than expected in the first half of 2017 (1H2017). Real GDP grew by 5.6%, year-on-year basis (y-o-y) in the first quarter and further expanded to 5.8% in the second quarter. The growth was supported by stronger domestic demand due to the improvement in both investment and consumption, and further reinforced by upbeat export demand. The external sector continued to progress as the world trade activities strengthened. Global economy is expected to grow stronger than expected underpinned by faster growth in the advanced economies as well as the continued improvement in the emerging market and developing economies.

Global trade flows intensified as most major economies are growing faster than expected. The IMF projected that world trade volume to grow at 4.2% y-o-y, the second upward revision for this year. Malaysia's external sector benefited from stronger performance of its major trading partners coupled with undervalued ringgit. For the first seven months of this year, gross exports of goods grew substantially by an average of 22.6% as compared to 1.1% for the same period of the previous year. Meanwhile, gross imports, grew at a stronger rate of 23.4% for the same period. Nevertheless, surplus in the current account of the balance of payments continued to deteriorate attributable to stronger growth in imports over exports in the merchandise account, larger deficit in the services account and bloating primary income transfers due to growing remittances by foreign workers amidst weaker ringgit.

Notwithstanding that imports are growing faster than exports, it will benefit the economy in the medium to longer run. Imports were dominated by intermediate goods representing about half of total imports. The remaining half of total imports is split between capital and consumption goods. Capital goods are important for production capacity expansion. High growth in capital goods will contribute to capital accumulation or investment in the economy. This is good for a long-term growth potential. Growth in intermediate goods, in turn, is good for a medium-term growth prospect as intermediate goods are used for making final goods, which are mostly for the export markets. Imports of capital goods grew by 42.0% a year in the 1Q2017 and 6.9% in the 2Q2017. Imports of intermediate goods grew by 27.8% and 23.9% in the 1Q2017 and 2Q2017, respectively. Imports of consumption goods, on the other hand, grew by only 4.0% and 1.5% in the 1Q2017 and 2Q2017, respectively.

The latest release Purchasing Managers' Index (PMI) for September 2017 indicated that global economic growth remains broad-based, both for the manufacturing and services sector. The pace of global economic growth revealed by PMI index is near a two-and-a-half year high, which is at the rate last recorded in the 1Q2015. The "all industry" as well as services and manufacturing indices are on a rising trend since the 1Q2016.

The advanced economies are growing beyond expectation for this year except for the United Kingdom which is growing as expected. The US economy is growing on track but subject to a greater risk dispersion due to uncertainties on Trump's policy administration. Stronger growth in the euro area, particularly for Germany, Spain, Italy and France, is supported by strong domestic demand which is gaining momentum in the last couple of quarters. The unemployment rate for the region recorded an eight year low of 9.1%. Strong output growth in the euro area is demonstrated by rising industrial output for the past two years, as shown by the Euro-zone Industrial Production index. Meanwhile, Markit's global composite PMI for the euro area unveiled the largest increment for the first three quarters of 2017 compared to the other advanced economies as well as compared to the global composite PMI. Stronger growth for the Japanese economy is supported by an improvement in its external demand and a stronger domestic demand as business conditions and labour market improves on the back of expansionary policy for both monetary and fiscal.

China's growth has been supported by strong investments and strong credit growth. Bilateral trade between China and Malaysia has improved as a result of better-than-expected demand from China. Total trade between China and Malaysia for the period January-August 2017 has increased in terms of market share as well as values compared to the same period of last year. Total trade values rose by 30.6% from RM148.9 billion in the period January-August 2016 to RM194.4 billion in the period January-August 2017.

On the domestic front, the first half of 2017 growth was primarily driven by domestic demand, which was growing by 7.7% y-o-y in the first quarter and 5.7% in the second quarter, underpinned by strong growth in both consumption and investment. Private consumption continued to grow at a faster pace (1Q2017: 6.6%; 2Q2017: 7.1%), while public spending rebounded from a negative growth in the fourth quarter of last year (1Q2017: 7.5%; 2Q2017: 3.3%). Meanwhile, investment was dominated by the private sector with a double digit growth of 12.9% in the 1Q2017 and moderated a bit to 7.4% in the 2Q2017. However, public investment decelerated 5.0% in the 2Q2017 after growing at 3.2% in the 1Q2017.

Strong domestic demand to some extent is derived from external demand as shown by the pattern of growth in the Industrial Production Index (IPI). The improved performance of IPI was largely supported by the manufacturing index. The manufacturing index grew by 6.0% for the 1H2017, which in turn, supported by a strong growth in the export oriented industries index. The average growth of the index for export oriented industries for the 1H2017 was 6.5% and continued to grow strongly at 8.2% in July, mainly supported by major export-oriented subsectors, namely electrical and electronics products and petroleum, chemical, rubber and plastic products.

Correspond with the development in the first half of the year, MIER's Business Conditions Index (BCI) for the third quarter of 2017 was above the demarcation level of 100-point threshold of optimism, although lower than the previous quarter. The third quarter BCI shows that businesses are optimistic about the near-term prospect as well as on the export demand, as indicated by the improvement in the indices for capacity utilization, expected production and expected export sales compared with the previous quarter. The capacity utilization rate in the third quarter was 83.6%, a surge of 0.8 percentage point from the previous quarter.

Better-than-expected growth in the first half of 2017 exerts positive sentiments about the economy, reflected by several indicators. Among others, the domestic financial market recorded positive inflows of portfolio investment amounting to RM16.0 billion for the 2Q2017. Apart from good first quarter performance, the portfolio inflows also resulted from measures to develop the domestic financial market. Given the development in the financial market and good macroeconomic indicators, ringgit rallied strongly against the USD. For the first nine months of 2017, ringgit has appreciated by 6.3% against the USD.

Notwithstanding the above-expectation economic performance of the 1H2017, consumer confidence remains weak as the third quarter's MIER Consumer Sentiments Index (CSI) continues to be below the demarcation level of 100 points. Nonetheless, in general consumers remain optimistic about the economy since the index is still above the 4Q2016's index, which is the lowest in the last six quarters. Consumers are also appeared to be more optimistic about the employment outlook for the third quarter of 2017. Accordingly, the survey revealed that consumers are having ambitious spending plans ahead.

Crude oil prices were rising moderately this year after hitting the lowest in the 1Q2017. The accord made by the Organization of the Petroleum Exporting Countries (OPEC) to cut oil outputs to combat the global supply glut witnessed more favourable prices in 2017. The compliance rate on the agreed quotas among OPEC members was quite high in the 1Q2017. Nevertheless, total world production began to upsurge in May as OPEC production rose 6.5% above the quota, mostly contributed by Nigeria and Libya, the two member countries exempted from the quota. OPEC production continues to rise and concurrently the non-OPEC productions are also rising, hence exerting a downward pressure on prices. Crude oil prices are expected to average out at USD55 per barrel in 2017 and further improve to USD60 per barrel in 2018.

For the agriculture commodity, crude palm oil (CPO) was enjoying better prices starting from the beginning of this year due to stronger demand coupled with weather-related supply disruption last year. However, better harvest this year saw production on the rise and simultaneously prices are sliding down. The imposition of tariff on edible oils by India, the largest importer of Malaysian CPO, worsen the outlook for the industry.

Taking into consideration the current development in the world economy as well as on the domestic front, Malaysian economy is projected to grow at 5.4% this year, an upward revision by 0.6 percentage point from MIER's July forecast. The growth is driven primarily by domestic demand and reinforced by stronger external demand. Domestic demand is expected to grow by 4.8% (0.2 percentage point upward revision from our July forecast). Private consumption is expected to grow faster at 6.1% (0.1 percentage point upward revision). The growth projection for public consumption is maintained at 1.0%, while gross fixed capital formation is revised upwards by 0.2 percentage point, to grow by 3.9%. The growth in exports of goods and services as well as the growth in imports for this year are revised upwards to 13.4% and 13.6%, respectively, thanks to a better-than-expected global demand.

The growth projection for 2018 is maintained at a range of 4.7 - 5.3% as of now while awaiting fresh leads. Current account balances for this year as well as for 2018 are maintained as per July forecast, estimated to be 1.8% and 1.6% of GNI, respectively. Balances on goods account for 2017 and 2018 are also maintained at 8.4% and 8.2% of GNI, respectively.

Posted by suzy at 03:21 PM