Risks remain, but there’s optimism

ALTHOUGH the latest economic data looks gloomy, resilient domestic demand indicates better days ahead.

With this sustained trend, coupled with strong tourism support and a bottoming out of the global electronics export downcycle, GDP growth this year is forecast to reach 4.2% YoY, up from 3.7% in 2023.

The drag in the last quarter of 2023 was mainly caused by external factors. Export growth remained weak at -12.3% YoY in 4Q23 versus -16.0% in 3Q23. Investment spending growth, however, was solid at 5.5% YoY (albeit lower compared to 6.8% the previous year).

Investment spending and goods export growth have historically moved in tandem, making investments resilient. The public sector provided most of the support.

Infrastructure spending by the public sector will continue to support growth, while the private sector must step up to achieve the optimistic GDP forecast.

The onus is on the government to provide confidence and encourage private investments. Introducing targeted fuel subsidies on time is the lowest hanging fruit for signalling fiscal discipline and achieving the 4.3% fiscal deficit target in 2024 (versus 5.0% in 2023).

The progress of the New Industrial Master Plan 2030 and National Energy Transition Roadmap, and the mid-term review of the 12th Malaysia Plan, will also be important in enhancing competitiveness over the medium term, attracting FDI and bolstering the external balances.

These include labour market reforms and expanding manufacturing expertise in sectors such as electronics and commodities.

More tax reforms are also needed. Measures, such as higher services tax on certain items, came into effect in January. The first stage of mandatory e-invoicing begins in August and entails significant changes for businesses.

The elephant in the room remains the reintroduction of the Goods and Services Tax (GST). The authorities have not ruled out the possibility. However, this requires strong political consensus and steadier household spending trends.

Household spending (ie private consumption) growth normalised to 4.7% YoY in 2023 compared to 11.2% in 2022. We expect it to remain resilient in 2024 supported by steady wage growth (on a nominal and real basis), a lower unemployment rate and easing inflationary pressures in 2024.

Resilient domestic demand will be complemented by better export growth, albeit limited to the electronics sector. The global electronics export downcycle, that started in late 2022-early 2023, is forecast to bottom out by 2H24. Electronics and electrical appliances account for a large share of total exports (40%).

The tourism industry remains robust with tourist arrivals last year at 77.2% of the 2019 level, the highest amongst regional peers (ie Indonesia, Philippines, Singapore and Thailand).

The direct share of tourism improved to 10% of GDP in 2023 and will likely rise further this year. Anecdotal evidence suggests that tourism was off to a strong start in 2024, particularly during the Chinese New Year holidays.

Despite a better growth outlook, we expect inflationary pressures to be contained in 2024. Headline inflation is forecast at 2.5% YoY in 2024, similar to 2023. The inflation outlook, however, hinges on the timing and mechanism for targeted fuel subsidies.

We expect Bank Negara Malaysia to keep its policy rate unchanged at 3% in 2024. The central bank has rarely reacted to supply side shocks in the past and it will be no different this time.

The current account balance is forecast to improve based on expected better export growth.

It is forecast that the US Federal Reserve will cut its policy rate by 100 basis points in 2024, allowing wider interest rate differentials with the US, which are currently negative. This could support the ringgit.

Overall, we are cautiously optimistic because of several external risks.

A prolonged weakness in the electronics export downcycle into 2H24 and a lack of traction in domestic reform momentum by 2Q24 are the biggest risk factors. Other negatives include stickier global inflation trends, higher-for-longer interest rates from major global central banks and geopolitical shocks.

This article first appeared in Star Biz7 weekly edition.