MALAYSIAN ECONOMIC OUTLOOK
Risk, uncertainty and volatility are the key factors undermining confidence of economic agents, irrespective which group they belong to, ordinary domestic households, profit-maximizing producers, entrepreneurs, retailers, financial intermediaries or smart and sophisticated foreign investors in the rest of the world (ROW), with the exception of risk lovers. Loss of confidence and growing anger over increasing financial difficulties, especially by low income households and ordinary citizens alike are warning signals of an economic distress. While the warm glow effects, associated with favourable sovereign credit ratings, which have been upgraded and reaffirmed at "A-" with "stable" outlook by Fitch and S&P, respectively in July 2015 disappeared quickly, new headwinds are on the way and risks remain tilted on the downside, especially on the international front. These include Greek debt crisis, which is still unfolding and China's financial market turmoil. These two countries share one common feature, that is a strong presence of Government in the economy, as indicated by a large number of state-owned enterprises and state-controlled banks and financial institutions. They could potentially trigger the worst-case-scenario for the global economy.
On the domestic front, there are discernible "dark clouds" hovering over Malaysia's economic landscape, while political storms are brewing and "dark forces" rearing their ugly heads again, sparked by advances in communication technology (internet and social media), growing inequality in both income and property ownership, urban poverty and also racial divide. Economic dark clouds include the rising cost of living; severe misalignment in the value of ringgit exchange rate, which cannot be simply left to unrestrained FX market forces; elevated Federal Government and household debts; rising contingent liabilities and significant exposure at default (EAD). While default probability is low and loss given default manageable, EAD remains substantial, especially with increasing risk of a "multi-notch downgrade" or migration of rating to lower investment grade, as reported by BNP Paribas.
Related to these developments, there is clearly a need for new "optimal policy framework", focussing on short-term stabilization measures by putting greater efforts at renewing Government's commitment, restoring market sentiments and confidence, enhancing policy credibility and protecting Malaysia's good reputation overseas. While current economic conditions are somewhat different from initial conditions of the Asian financial crisis in 1997/98, we need to start examining in-depth all binding constraints, external shocks, domestic weaknesses as well as strengths to economic and social development in the country. We need to fully maximize social welfare gains and avoid deadweight losses, associated with weak institutions, poor governance, entrenched vested interests, pervasive corruption and lack of openness and transparency, as recently seen in "distressed economies" in the euro area, developing economies in the US dollar zone and even some "developed economies" in Asia. More importantly, we need to ensure continued happiness and good life for the rakyat, encouraging greater kindness and compassion and avoiding to a large extent "tyranny of the majority" and prosperous fools. As noted by the ancient Greek Philosopher Aeschylus "a prosperous fool is a grievous burden".
Short-term Issues and Stabilization Measures
Real GDP registered a strong growth of 5.6% in the first quarter of 2015, performing better-than-expected in an environment of fragile global recovery and uneven observed growth across country classification and regions. Meanwhile, net current account of the balance of payments (NCAB) remained in surplus, registering almost RM10 billion in the first quarter of 2015. This helped to alleviate undiminished concerns, especially by foreign rating agencies, market analysts as well as non-resident investors about the likelihood of "twin-deficit" phenomenon, which could materialize on quarterly basis. While overall unemployment remained at 3.1% of the total labour force in May this year, indicating full employment situation (4%), consumer price inflation accelerated higher in June 2015, registering 2.5% (May 2015; 2.1%, April 2015: 1.8% and March 2015: 0.7%), on account of mostly policy-driven domestic cost-push factors. These included a cumulative direct and indirect effects of GST implementation, upward adjustments in fuel end-user prices and also partly higher import prices, following almost across-the-board declines in ringgit exchange rates against Malaysia's major trading partners. Fortunately, pricing behaviour of firms and strong market competition, especially in the distribution and marketing channels, helped to minimize sharp increases in domestic consumer prices.
In fact, worries about full pass-through effects from sharply lower ringgit more or less dissipated, as intermediate producers absorbed higher imported costs, focussing their efforts more on raising productivity, while final producers, wholesalers, distributors and retailers searched for alternative sources of materials and final products around the globe, therefore avoiding excessive mark-ups and hikes in consumer prices. Although GST price effects are unavoidable, as part of the transitional process of taxation reform in the country, firms and traders are dictated more by competitive market forces, working hard to protect their market shares and willingly accept lower profit margins. Moreover, traders or retailers are not allowed to increase their net profit margin for any goods or services for 18 months from January 2015 to June 2016, as required under the Price Control and Anti-Profiteering Act 2011. This augurs well for the Malaysian economy, providing a solid window of opportunity in ensuring smooth implementation of the Goods and Services Tax (GST) in the coming months as well as in the years ahead. Generally, there is a wider acceptance and public ownership of this important fiscal reform program, except probably the GST initial tax rate, which many considered excessive to start with. Taxation reform is for the long haul of the economy and not to increase revenue and reduce deficit, especially in the short-term. While long-term benefits will far outweigh the short-term costs or pains, and the gainers will ultimately be the rakyat in the long-term, there must be a binding commitment on the part of the Government, not only to raise revenue but also to spend it wisely and in a prudent manner. The implementation of GST together with removal of decades-old fuel subsidy regime need to be complemented with strong fiscal discipline and more importantly, good governance on the Government side. There must also be greater transparency and enhanced public integrity, better and more predictable policies and sustained reform process, which altogether help in removing aggregate domestic uncertainty and in the final analysis improving policy credibility and predictability.
As a trade-oriented and financially integrated economy, Malaysia continues to be susceptible to both unanticipated and anticipated shocks, such as reversals in portfolio flows, fluctuations in the prices of commodities and sharp volatility in financial assets prices. Commodity terms of trade (CTOT) losses, depreciating ringgit and anticipated higher interest rates in the United States (US) are negative shocks that will affect adversely Malaysia's currently favourable domestic macroeconomic fundamentals. The reversal in portfolio investment flows, as seen previously in the fourth quarter of 2014, accelerated markedly in the second quarter of this year, involving mostly non-resident portfolio investors, who are still holding significant amount of Malaysian equities (about 24%) as well as Malaysian Government Securities (MGS, about 47%). These investors are generally smart, rational and forward looking, always searching for better returns for their portfolio investment around the globe. They are also fickle-minded investors who subscribe to herd mentality, gradually and partially moving out from emerging market economies (EMEs), including Malaysia by reallocating their portfolio to dollar-denominated assets, especially in the US.
They are in fact riding on new optimism, taking advantage of roaring boom of the US economy and betting on the hike in the US rock bottom interest rates, which could come sooner than expected, despite continued monetary easing in both developed and emerging market economies. Moreover, global economic prospects remain uncertain, especially in the euro area and China, the world's second largest economy. Meanwhile, external risks remain tilted on the downside, especially with an ongoing Greek debt crisis and continued fighting in the Middle-East. There are also reports about cross-border conflicts and threats posed by extremist groups in Africa as well as in Asia. These so-called geopolitical factors affect market sentiments, pushing portfolio investors to look for a safe haven in the US and more recently Japan, as investors are becoming more risk-averse and also home bias in their international portfolio diversification.
Looking at the medium-term macroeconomic perspective, downside risks remain manageable, while strong recovery in the US economy will hopefully provide a "shot in the arm", sustaining the country's export earnings of goods and services as well as foreign exchange earnings from tourism activities, following greater number of tourist arrivals. Generally, markets remain the best allocators of nation's scarce resources, providing unbiased judgements about good management of the macro economy. As such, misguided government interventions result in market imperfections and distortions, while weak and uncoordinated policy actions, especially in strategic and important areas create uncertainty among economic agents and affect policy credibility as well as predictability. There are social costs and in fact welfare losses to society, associated with lack of openness and transparency, gap in policy credibility, weak institutions, poor governance and, worst still low ethical and moral values. These are "soft" elements, affecting public sentiments and investor perceptions and, therefore, need to be managed intelligently and further strengthened. There must be good signalling mechanism for market participants to react adequately, while "gradualism" and extensive consultations with key stakeholders will ultimately help to avoid idiosyncratic uncertainty and negative perceptions of stakeholders, investors and rakyat alike.
Macroeconomic and Financial Policies
BNM through its Monetary Policy Committee (MPC) again anchored the Overnight Policy Rate (OPR) at 3.25% in its latest MPC statement on 9 July 2015, the sixth time since BNM raised the OPR on 10 July 2014. The decision certainly provides financial comfort and continued easy monetary conditions for local economic agents, who are presently being burdened with rising cost of living and declining disposable income, associated with the implementation of GST in April 2015, upward adjustments in retail fuel pump prices and expectation of more subsidy rationalization actions in the coming months. These included recent increase in fares for taxis (43%) and 23% for express buses, which seemed unreasonable and burdensome. The MPC decision was also in line with the US Federal Reserve Bank (Fed) decision to delay the increase in the Fed Funds Rate from its almost zero percent since December 2008, on account of benign observed inflation, negative output gap and prevailing long-term structural issues. The Fed Funds Rate is expected to be raised only in September 2015 and most likely to be delayed to early 2016, as requested earlier by both the IMF as well as World Bank. Most importantly, the European Central Bank (ECB) and the Bank of Japan are currently implementing the US Fed-inspired quantitative easing and continuing with their accommodative monetary policies. Advanced countries in the Asian region, such as Australia, New Zealand and Korea have recently reduced their policy rates to arrest their moderating economies, while India has maintained its current policy rate. Of greater significance, the Bank of England is expected to delay tightening of its monetary policy, despite registering strong recovery in the economy. The US neighbour up north, Canada has also eased monetary policy stance.
As such, the MPC decision to maintain the OPR at 3.25% seemed appropriate and relevant in the current circumstances, as average consumer price inflation remained low at 1.4% in the first six months of 2015, while output gap is expected to be negative for the year as a whole (socially optimal potential output: 5.5% per annum). Nonetheless, inflation expectations are seen as gathering momentum, rising almost across-the-board in recent months, on account of policy-driven domestic cost-push factors, while demand-induced inflation remained largely benign, as private consumption expenditure is on a moderating path. The uptick in consumer prices, associated with the GST implementation seemed minimal and well under-controlled, as seen in June's inflation rate, which edged upwards by only 2.5% on year-on-year basis (May 2015: 2.1%, April 2015: 1.8%, March 2015: 0.7%). The uptrend in inflation rate is expected to be a transitory phenomenon, looking like a chi-square probability distribution with higher degree of freedom (impulse response function), which is expected to quickly decline over time, barring other new or planned back-to-back mark-up in prices or wages. As such, inflationary pressures associated with domestic cost-push factors, especially GST are expected to be well-contained, supported to a large extent by a persistently low crude oil prices (as seen in moderating transport charges) and continued low inflation environment on the international front.
Private sector liquidity or broad money (M3), which bottomed-out in August 2014 with a growth of only 4.8%, moved up steadily to record a strong growth of 7.9% in March 2015, but it took a turn in May and June 2015, decelerating by 5.7% and 6.0%, respectively. This tightening of monetary condition was partly contributed by a slowdown in quasi-money (M2), registering only 6.5% in June 2015 (May 2015: 6.2%, April 2015: 7.0%, March 2015: 8.5%). Meanwhile, growth in M1 accelerated to 9.5% in June 2015 (May 2015: 8.7%). The easing of domestic liquidity as seen in the first three months of 2015 seemed to be short-lived, although there was a continued expansion in domestic credit (DC) extended to the private sector, particularly to businesses. In terms of factors influencing M3 annual growth, the slowdown in recent months was attributed to an improvement in Government operations, in which net claims on Government declined substantially on account of rising Government deposits with the banking system. Meanwhile, net foreign assets (NFA) continued to weaken, exacerbated by declining trend in NFA of the banking system, following persistent outflows of portfolio investment from both equity and debt securities markets. While the tightening liquidity situation was not reflected in the movements of key interest rates, in view of presently stable interest rate environment both at home and abroad, exchange rate clearly took the brunt of adjustment, depreciated markedly against the currencies of most of Malaysia's major trading partners in May as well as June 2015.
Unfortunately, the ringgit continued its depreciating trend in July and early August 2015, which generally started in September 2014, as US dollar gained strength on the back of roaring boom for the US economy and expectation of US monetary policy normalization from practically zero benchmark interest rates. Portfolio outflows by non-residents are expected to continue, reducing further net international reserves of BNM, especially with expectations of continuing flat OPR in the coming months, weakening domestic macroeconomic fundamentals and elevated concerns on high Federal Government debt and exposure at default (EAD) of Government guaranteed bonds. Deterioration in commodity terms of trade (CTOT), increasing percentage share of Federal Government debt to GDP, widening of real interest rate or yield differentials, rising country risk premium and widening credit spreads are the key concerns of portfolio investors. As such, ringgit will remain under strong exchange market pressures by traders, arbitragers, hedgers and speculators, as crude oil prices are on the downside (31 July 2015: USD47.12 per barrel). Similarly, liquefied natural gas (LNG) prices are also on the downside, as both supply and demand conditions turned negative. The outcomes of the Iran nuclear deal dictate the movements of both crude oil and LNG prices.
While we have successfully diversified our economy away from commodity-based exports, our nominal effective exchange rate (NEER) tracks closely crude oil prices, as oil-related revenue account for up to 30% of Federal Government revenue in recent years. Meanwhile, oil-related exports accounted for 13.6% of total exports, and together with LNG (8.4%), another resource-based commodity export, the share remained significant at 22% in 2014. Meanwhile, the share of manufactured exports more or less stagnated at about 70% of total export earnings. This was triggered by the "premature deindustrialization" phenomenon, as the country moved aggressively to unfortunately low value-added and low wages services sector (2014: 53.5% of GDP), relying heavily on low-wage foreign workers. Latest available DOS data show that compensation of employees (COE, labour share) accounted for only 34.3% of nominal GDP in 2014, while gross operating surplus of firms remained large at 62.6%. Prices of other commodity-based exports, such as palm oil and rubber are also falling. In the short-term, persistently low crude oil prices, financial market frictions, together with existing price stickiness and wage rigidities in the product and labour markets will see that ringgit continues its undershooting, as predicted decades ago by the economist, Rudi Dornbusch in his celebrated overshooting exchange rate paper.
The prevailing imperfections in market microstructures, foreign exchange (FX) key-board and chart-based electronic trading together with almost instantaneous transactions 24/7 around the globe will also see that ringgit exchange rates are being influenced stochastically by non-economic process. These include waves of unanticipated news and political events that affect investor sentiments and perceptions of market participants. In addition, there are also herd mentality and behaviour among portfolio investors, including local institutional investors, subscribing to one-way destabilizing flows, especially in abnormal or difficult times. In terms of fair value or fundamental equilibrium exchange rate, there is clearly severe misalignment in the value of ringgit, which is being backed by strong underlying domestic macroeconomic fundamentals. In fact, the ringgit external value is presently being backed by substantial amount of BNM's unencumbered net international reserves, which remained above the "psychological" threshold of USD100 billion (or equivalent to about 34% of nominal GDP and 7.9 months of retained imports).
While the ringgit is currently misaligned, in view of its extreme undershooting, it is expected to revert back to its equilibrium fair value of between RM3.50 to RM3.70 per US dollar in the medium term, as exchange market pressures subside and the two-way flows return back to the FX markets. This mean-reverting process, however, will take a while longer to materialize as negative surprises keep popping up, affecting market sentiments and investor perceptions. In this respect, we need to nurture back the confidence of economic agents and FX market participants as well, encompassing both locals and foreign portfolio investors. Moreover, portfolio flows have been very volatile, since the global economic and financial crisis in 2008, moving in and out of Malaysian equity and capital markets, dictated not only by yield differentials, country risk premium and credit spread, but more importantly by US monetary policy and its associated uncertainty. These included taper tantrum seen in May 2013 and currently the difficulty of the US Fed in moving out smoothly from its rock bottom interest rate policy environment.
While BNM earlier adopted passive reserve management strategy, allowing ringgit to adjust flexibly through FX market forces when US dollar was clearly strengthening on the other side, BNM is recently seen as intervening heavily to arrest further decline in the value of ringgit exchange rate. Despite strong FX interventions (FXI), however, the ringgit crossed the "psychological" level of RM3.80 per US dollar on 6 July 2015, closing slightly lower at RM3.8070. In fact, the ringgit was the worst performing currency in Asia on that day, depreciating across-the-board against other major currencies, including the Euro and Japanese Yen as well as with Thai Baht and Vietnamese Dong. Although the trigger point was clearly the deepening of Greece's debt crisis, that culminated in a "No" votes to tough IMF and ECB bailout austerity measures, domestic non-economic factors were also at play that day, depressing further the external value of ringgit. Meanwhile, the ringgit remained below the "psychological" threshold of RM3.80 in recent weeks, indicating excess supply of ringgit in the FX markets, as confidence remained weak. Extreme undervaluation of ringgit, if not stabilized in the medium and long-term, could well see that external debt services, especially by the private sector get bigger and bigger and import bills get higher as import shares for both home production and consumption are quite significant. Moreover, import of intermediate and capital goods are closely linked with both exports and domestic investment. If ringgit depreciation persists, social costs and welfare losses to the society could far outweigh the benefits of improving export competitiveness and greater number of tourist arrivals in the country.
With a managed floating exchange rate regime, following the dismantling of fixed exchange rate regime in July 2005 and together with free flow of capital, ringgit continues to take the brunt of adjustment, especially with expected continuing unchanged OPR in the coming months. Meanwhile, fiscal policy remains at a centre stage, especially with worsening fiscal space, as oil prices remain in doldrums. As such, fiscal affairs need to be managed in a credible and prudent manner, as increasing Federal Government debt and rising contingent liabilities are the topical concerns of portfolio investors, FX strategists and sovereign rating agencies and citizenry alike. This is especially so with the expected decline in oil-related revenue (2015 est: 29% of total Federal revenue), moderating private spending and elevated borrowings to finance mega infrastructure projects, as unveiled under the 11MP. Moreover, about 47% of ringgit-denominated Malaysian Government securities (MGSs) are owed to non-residents, and tenors are mostly medium-dated (more than 5 years to 10 years). Meanwhile, borrowings by GLCs and private corporations are mostly in US currency, but fortunately tenors are mostly medium to long-dated.
Although bilateral ringgit and US dollar exchange rate moves in tandem with crude oil prices, based on high frequency real time data, these transitory relationship is expected to weaken in the medium term. Short-term exchange rates move largely with news and expectations, whereby market participants are rational and forward looking, placing greater weight on unanticipated events. On a positive note, net international reserves position remained substantial (34% of nominal GDP), providing adequate buffer and "insurance cover", depending on reserve management strategy of BNM and also external developments. Speculators like to get their fair share of accumulated reserves, taking calculated risks and profiting from idiosyncratic uncertainty and volatility, associated normally with macroeconomic mismanagements, weak governance or simply pure mistakes by the authorities. More so, if they have in their possession relevant information that can materially provide basis for one-way speculative activity, which more often than not is destabilizing.
Net international reserves continued its downward trend, touching USD100.5 billion as at 15 July 2015 (end-December 2014: USD116.0 billion; end-Dec 2013: USD134.9 billion). Fortunately, the ratio of international reserves to short-term external debt remained at 1.1 times, marginally above the standard international threshold of 1.0, as short-term debt also changes with financial market developments. However, Malaysia international investment position (IIP) continued to record deficit, totalling RM13.1 billion as at end of 2014 (end-2013: -RM47.2 billion, end-2012: -RM17.8 billion), indicating that Malaysia is a net debtor on international front, running for three years in a row. This unfavourable position is expected to continue this year, despite smaller deficit of RM1.2 billion registered as at end-March 2015. Persistent and significant outflows of portfolio investment in the second quarter of 2015 and possibly in the coming months could well see that Malaysia again register a net debtor position in 2015.
Global Economic Developments and Prospects
The global economy is clearly on shaky ground this year, caught by increasing indebtedness in a large number of developed as well as emerging market economies (Malaysia included). There is also uncertainty and enhanced volatility in the global financial markets. These factors affecting not only presently "distressed economies" like Greece in the euro area and Puerto Rico in the US dollar zone, but also extending to emerging market economies, such as Brazil, Russia, India and China (termed as BRICs). The latter is the world's second biggest economy and also global manufacturing powerhouse, absorbing substantial amount of resource-based materials from other developing countries, particularly in Africa, Asia and the Middle-East.
While Greek economy is relatively small to affect the world economy, economic and political events, associated with Greek debt crisis could potentially provide a trigger point for negative surprises, affecting not only "stressed economies" in the euro area, but also other emerging market and developing economies around the globe. China is currently struggling hard with a slowdown, engineered initially by the authorities as part of the efforts to rebalance their sources of growth. The authorities have recently intervened to arrest plunging share prices, which remained out of sync with underlying domestic market fundamentals. The stock market meltdown in China resulted in USD3.2 trillion being wiped out from market capitalisation within a period of only three weeks. As such, a full blown stock market crash and financial market turmoil in China could possibly trigger much wider effects, not only to the global financial markets, tightening global liquidity situation, but also affecting the real side of the economy in emerging market and developing economies as well as advanced countries. Resource-based economies, such as Australia and Canada, and many countries in Asia and Africa, will be adversely affected, again Malaysia is included. Moreover, higher interest rates in the US and stronger US dollar could also see that borrowing and debt servicing costs for many highly-indebted nations will be on the rise, exerting significant pressure on Government finances.
While continuing lower oil prices, easy monetary conditions and roaring boom in the US economy helped to support global economic recovery, global growth remained uneven, across country grouping as well as regional classification. The International Monetary Fund (IMF) in its latest World Economic Outlook Update (WEO Update, 9 July 2015), released on 9 July 2015, revised downward the 2015 annual growth estimate for the world economy to 3.3% (2014: 3.4%), representing 0.2 percentage point lower than April 2015 WEO estimate of 3.5%. Meanwhile, the IMF maintained the global growth forecast for 2016 at 3.8%, indicating that global economy will somehow strengthen next year. Growth in advanced economies is expected to be on the uptrend this year, growing slightly lower by 2.1% (2014: 1.8%, 2013: 1.4%), compared to April 2015 WEO forecast of 2.4%, while growth rate in 2016 is projected to be 2.4%, the same rate as predicted before. Growth in emerging market and developing economies as a group is projected to moderate slightly to 4.2% this year (2014: 4.6%, 2013: 5%), which is only 0.1 percentage point less than earlier forecast at 4.3%. However, growth is expected to gain momentum, registering 4.7% in 2016, supported by a rebound in economic activity, especially in crisis-affected countries.
Recovery in the US economy remains on track, despite temporary setbacks that occurred in the first quarter of 2015 in the form of severe winter conditions and strikes by port workers in the west coast. While growth declined by 0.2% in the first quarter of 2015, latest estimates indicate that growth has strengthened in the second quarter 2015. Private consumption expenditure (PCE) as well as private investment continued to be the key drivers of growth, supported by healthy labour market conditions, strong wage growth, continued easy monetary conditions, lower fuel pump prices and improving housing market conditions, among others.
There are also positive signs emerging from the euro area with growth prospects improving in recent quarters, especially with ECB's quantitative easing. Domestic demand is on the rise and fears of deflation dissipated as inflation is beginning to come back. The IMF in its July 2015 WEO Update maintained the growth forecast for the euro area at 1.5% in 2015, while forecast for 2016 has been revised upward by 0.1 percentage point to 1.7%. While growth forecasts for major countries, especially Germany and France have been maintained as in April 2015 WEO, projections for Spain and Italy have been revised upward in both 2015 and 2016, pointing to robust recovery in these previously "stressed economies", except Greece. Economic and political events are still unfolding in Greece, and these events could have serious implications to the euro area. Moreover, the euro area is still struggling with high unemployment and high Government debt. Looking at geopolitical factors, there are still tensions between Russia and Ukraine, while Russia and the Commonwealth of Independent States (CIS) are facing economic difficulties, especially with continuing lower oil prices and declining confidence.
Structural reforms are clearly needed in Japan, as Japan is growing at a very slow pace, constrained largely by high public debt, which stood at 245% of GDP. Abenomics has triggered bubble in asset prices, with the stock markets closed markedly higher in May 2015, while the real economy remained weak, as growth last year was at -0.1% (2013: 1.6%). Weaker Yen and uncertain economic outlook, especially in China are affecting private consumption expenditure which remains sluggish. Moreover, growth in real wages is weak. In this connection, Japan's growth forecast for 2015 has been revised downward by the IMF (WEO Update, July 2015), projecting growth of 0.8% in 2015. Meanwhile growth forecast for 2016 has been maintained at 1.2%, in tandem with favourable growth projections for the majority of advanced economies.
Meanwhile, China is growing slowly, but more sustainably at 6.8% growth predicted this year (2014: 7.4%, 2013: 7.7%) and 6.3% in 2016, the same growth forecasts as in April 2015 WEO. These growth projections are in line with enhanced structural reforms and efforts by the authorities at rebalancing the economy. However, according to the IMF, there are still difficulties in China's transition to a new growth model, as seen by the recent stock market swings and the intervention by authorities, resulting in enhanced market volatility and greater uncertainty. Growth in India is on the uptrend, representing a truly bright spot in Developing Asia. India is benefitting a lot from a persistently low energy prices, together with its continued reform programs. The IMF maintained India's growth forecasts for 2015-2016 at 7.5%, which is clearly on the uptrend (2014: 7.3%, 2013: 6.9%) and overtaking China's slowdown in growth rate in recent years. Meanwhile, in Latin America and the Caribbean, Brazil another BRIC country, is in deep recession, sharing similar economic difficulties with Russia, due mainly to lower commodity-export prices. Growth projections for these two countries have been marked down to -1.5% and -3.4%, respectively in 2015 (2014: 0.1% and 0.6% respectively), while growth in these two countries are expected to improve, but remain below 1% in 2016. Countries in the Middle East and parts of Africa are certainly in deep political and economic turmoil, especially in Syria, Iraq and more recently Yemen.
While world oil production remains on the uptrend, especially with successful conclusion of the Iran nuclear deal, coupled with expectations of rising interest rates in the US, weak recovery in the euro area and slowdown in China, commodity price movements will continue to be on downtrend, especially crude oil, while US dollar getting stronger. Meanwhile, crude oil prices, which declined by almost 50%, rebounded in the second quarter of 2015, supported partly by higher demand. Nonetheless, crude oil prices are expected to register only small increases this year as well as in 2016, averaging about USD59 per barrel in 2015 and USD64.22 per barrel in 2016, according to the latest projections by the IMF. While global oil supply is on the rise, global oil inventories are accumulating, as world oil demand remains weak, following fragile global recovery. Additionally, geopolitical factors have gained prominence, especially with continued fighting in the Middle East, sanctions against Russia and its retaliatory actions and also changes in the political landscape. The latter include political uncertainty and the possibility that pendulum swing to the extreme left, throwing away tough austerity and reform measures in many "stressed economies" in the euro area. While distressed economy like Greece accepted its third bailout package, despite "No" votes by the Greek people, tough austerity measures and less money actually being channelled for real productive purposes, point to continued vicious cycle with potentially severe economic implications and political repercussions. Sovereign bond yields with long tenors have already increased by 80 bps in the euro area (excluding Greece) since April 2015, according to the IMF. Meanwhile, longer-term sovereign bond yields and country risk premiums are also on the rise in emerging market economies, reflecting increased uncertainty, especially with sooner-than-expected hike in the US interest rates, altering the term structure of interest rates more to the upside, as term and risk premium on longer-term bonds are still low, as observed by the IMF.
While global risk, uncertainty and volatility remain about the same as in the previous reports, short-term risks are tilted on the downside, especially with recent events in Greece and China, which are still unfolding. The IMF in its July 2015 WEO Update again mentioned about disruptive asset price shifts and further increase in financial market volatility as major near-term risks to the global economy. Meanwhile, financial market turmoil; a further US dollar appreciation; re-emergence of financial stress; financial market turbulence in China and geopolitical tensions in Ukraine and fighting in the Middle East as key short-term risks, mentioned earlier in April 2015 WEO. Meanwhile, fiscal imbalances in the euro area and in many emerging market economies, misalignment of currencies and mismanagement of fiscal stimulus also remain as short-term risks. Medium-term risks include low potential output growth and secular stagnation in advanced economies and consequently lower potential growth in emerging market economies. Lower commodity export prices will affect economic performance of resource-based economies, including high-income nations and, most worryingly low-income developing economies in Africa as well as Developing Asia. Looking from longer-term perspective, aging population is expected to lower labour input in advanced economies, especially in Japan.
Long-Term Issues and Structural Adjustments
Looking on medium and long-term perspective for economic and social development in the country, the Eleventh Malaysia Plan (11MP, 2016- 2020) was unveiled in Parliament on 21 May 2015. While Malaysia aspires to join the four Asian tigers, its country classification remains as one of the emerging market economies (EMEs) in Southeast Asia with an upper middle-income category. With multidimensional goals, the Eleventh Malaysia Plan focuses on enhancing inclusiveness towards an equitable society and improving wellbeing for all, among others. The adoption of sustainable consumption and production concept in pursuing green growth strategy for sustainability and resilience is clearly on the right direction. Meanwhile, the Eleventh Malaysia Plan also giving greater focus on strengthening infrastructure to support economic expansion, which is clearly necessary to enhance connectivity and easy access for wellbeing of the rakyat.
With outlook for global economic activity remains uncertain and strong headwinds are expected in the coming years, especially with recent setbacks, attaining real GDP growth target of 5 to 6% per annum in the next five years is undisputedly a tough challenge, but the target seems achievable, barring negative surprises. Real GDP grew by an estimated 5.3% per annum in the Tenth Malaysia Plan (2011 - 2015), while nominal per capita income in US dollars stood at USD10,796 in 2014, which is far below the current minimum threshold of USD12,746 under World Bank classification as a high income country. Moreover, per capita incomes of the "advanced economies" averaged well above USD35,000 in recent years. Looking on the supply side, long-term structural reforms and adjustment programs need to be strengthened, focussing more on enhancing total factor productivity (TFP) and improving overall nation's competitiveness. These include removing structural impediments to sustainable growth, infrastructure bottlenecks, market imperfections and distortions that inhibit growth process, especially in the product, services and labour markets. Greater focus needs to be given on adoption of new technologies, research and development (R&D), innovation and greater power of new ideas, through upgrading of skills and reducing out-migration of talents.
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