By CHIEF ECONOMIST, ALLIANCE BANK MALAYSIA BHD
A stronger recovery in the external sector coupled with a resilient domestic
economy means that Malaysia's economic growth will likely edge upwards for next year.
We expect Malaysia to remain on its steady growth trajectory, despite the government's move to consolidate the fiscal policies further via stricter policy reforms, including subsidy rationalisation and tariff adjustment for the utility sector. Therefore, we forecast 2014 growth stronger at 5% - at the lower-end of the government's forecast of 5-5.5%, announced during Budget 2014.
Externally we see momentum building up in the recovery of major economies, including the US, Eurozone, Japan and China. While improving trade will be one of the key factors on the expenditure side, supply side activities will also see improvements, especially services and manufacturing.
After hitting a low of 4.2% in H1 2013, the Malaysian economy has staged a dramatic recovery to post a 5% growth in Q3 2013. The momentum would likely continue in the final quarter, which we estimate to come in at 5%. This would raise the full-year average of GDP growth to 4.6% in 2013 - within the government's official target of 4.5-5%.
Going forward, entrenching recovery in the Eurozone and the rest of the G7 economies would support global growth, regional economies in particular. We see momentum building up in the recovery of major economies, including the US, Eurozone, Japan and China. While there could be some potential downside risk from the US, on account of the debt ceiling debate and quantitative easing (QE) tapering concerns, overall, we see stronger recovery globally. Moderation in domestic demand growth As in the past year, growth will be driven by domestic demand, underpinned by sustained private sector spending in both consumption and investment activities. Nonetheless, growth in domestic demand would likely moderate slightly following the government's move to consolidate its spending in accordance with its target in trimming the fiscal deficit.
Meanwhile, the private sector spending will be constrained by the inflationary pressures triggered by the government move to rationalise subsidies, adjust tariffs for utilities as well as potential hikes in assessment rates for both residential and commercial properties. In this regard, we forecast growth in domestic demand to grow 6.8% in 2014, moderating from +8.3% in 2013 - but still contributing 6.8 percentage points to growth.
In the private sector, moderation in consumer spending growth would be inevitable, given the recent budgetary measures including the subsidy rationalisation and tariff adjustment that could trigger higher inflation in 2014. This could translate into a lower household disposable income next year.
However, the reduction in consumption growth could be offset by several initiatives undertaken by the government ahead of Visit Malaysia Year 2014. In this regard, we forecast private consumption to grow at 7% next year versus 7.9% in 2013. Public consumption, investments to slow down Growth in public consumption is expected to moderate in 2014 to 3% (2013: 7.1%), due to lower federal government development expenditure following the accelerated implementation of projects in the first three years of the 10th Malaysia Plan (10MP).
In the meantime, investment in the ETP (Economic Transformation Programme) projects, the conclusion of 10MP as well as key economic corridors may continue to play important roles in the domestic economy. Nonetheless, the expected involvement of the private sector in boosting these investments may fall short of expectation, if economic performance does not stay vibrant in the first half-year.
Given the consolidation plan to trim fiscal deficit taking the focal point now, we expect government investments to slow down in 2014. Thus, private sector investment is expected to rise at a slower pace of 11%, while public investment growth moderates to 4% in 2014 (+13.1% and 5% respectively in 2013).
Apart from the GST, we continue to expect further reforms next year - especially further subsidy rationalisation for fuel, with an additional 20 sen cut on the cards by June. This was reflected in the reduction seen in total subsidy allocation from RM44 bil to RM36 bil this year, which we think is largely coming from a RM7 bil saving from the September 2013 rationalisation exercise and the anticipated subsidy adjustment.
The recent 15% electricity tariff hike further reinforces our belief that subsidy rationalisation will likely be continued in the medium term, in order to further improve the government's fiscal space. Supply side led by services and manufacturing. On the supply side, growth will be led by stronger growth in the services and manufacturing sectors, expanding 4% and 5.8% in 2014 respectively - supported by domestic demand and the improvement in trade activity. Together, both the sectors will contribute 4.2 percentage points to GDP in 2014.
In particular, the services sector will be supported by consumer-oriented subsectors such as wholesale and retail trade as well as accommodation and restaurant - benefitting from higher tourist arrivals following special promotional campaigns and activities in conjunction with Visit Malaysia Year 2014.
Meanwhile, the manufacturing sector is expected to improve, given the continued recovery in the global economy and improving intra-regional trade. Export-oriented industries such as electrical & electronic products (E&E), chemicals and resource-based industries will provide support to growth.
Likewise, domestic-oriented industries such as construction-related materials, transport equipment and food subsectors are also expected to remain resilient.
Activity in the construction sector will moderate slightly to 10.1% in 2014, from 11% in 2013, in view of slower construction activity in the civil engineering sub-sector following the completion of several major infrastructure projects such as the Second Penang Bridge, as well as the Ipoh to Padang Besar electrified double-tracking railway project. OPR to remain accommodative On Nov 7, the overnight policy rate (OPR) was maintained unchanged for the 15th time since May 2011. At the current 3% level, the OPR remains supportive of economic activity while ensuring adequate price stability.
Moving forward, despite a higher inflation environment, we continue to believe the OPR will remain steady for the most part of 2014 - as inflationary pressures are caused by cost-push factors. However, the OPR has a 50% chance of rising in the later part of 2014, on concerns of short-term capital outflow due to QE tapering in the US.
In addition, Bank Negara Malaysia could potentially take a pre-emptive move to dampen inflation risks, if the central bank adopts the view that higher inflation expectations could potentially fuel demand-driven inflationary pressures. Even in this scenario, we cap the OPR hike to a 25-basis point rise to 3.25% in H2 2014.
Overall, we forecast prices to spiral upwards next year, affecting all sections of the people. The broader inflation rate is expected to breach the psychological level of 3% for most part of next year. CPI is forecasted to peak at 3.8% in August, before closing easier towards the year-end. Full-year, we forecast inflation at 3.2% in 2014, way above the estimated 2.1% in 2013. Downside risk to growth remains While economic growth will likely improve in 2014, there remains to be major downside risks to growth, emanating from both domestic and external sources.
On the domestic side, while inflation is expected to remain manageable, there is an underlying risk that rising levels of cost-push inflation could spiral uncontrollably, potentially leading to second round price effects. While rising prices could lower sentiments and consumption spending, the potential monetary tightening that follows suit would lead to slower economic growth in the near term.
Additionally, the government's debt-to-GDP estimates of 54.8% and 54.7% for 2013 and 2014 respectively remain to be a concern. As such, we expect to see more fiscal consolidations in the next few quarters, through accelerated subsidy rationalisation, among others. If rumours about shifting civil servants' housing loans from federal government's balance sheet materialises, then the debt-to-GDP level could fall below 50%.
Despite the domestic concerns, the higher risk will likely emanate externally, especially with regards to the impact of the Fed's QE tapering, expected to begin early next year.
While there would be an adverse impact on global liquidity and asset prices, another major concern is the potentially sharp reversal of funds out of emerging economies, further impacting economic growth stability as well as threatening domestic financial markets. ESSE u The recent 15% electricity tariff hike further reinforces our belief that subsidy rationalisation will likely be continued in the medium term, in order to further improve the government's fiscal space."
The economy staged a dramatic recovery to post a 5% growth in Q3 and the momentum is likely continue in the final quarter, estimated at 5%.
