OPR to rise further amid policy normalisation

Keeping the OPR low for too long may cause a macroeconomic imbalance


BANK Islam Malaysia Bhd forecasted that the Overnight Policy Rate (OPR) will increase by another 50 basis points (bps) to 3.25% during the first quarter of 2023 (1Q23) (25bps tomorrow and another 25bps in March) as monetary accommodation tightens owing to increased domestic demand. 

Its chief economist Firdaos Rosli (picture) stated that keeping the OPR low for too long may cause a macroeconomic imbalance in the midst of excessive risk-taking. 

“Regardless of the impact on the Malaysian economy’s overall borrowing costs, the consecutive increases in OPR were intended to progressively remove the excessive monetary accommodation rather than to manage inflation. With no global event risk, the OPR is projected to remain stable throughout the second half of 2023 (2H22),” he said during Bank Islam’s 2023 Economic Outlook earlier today.

He added that Bank Negara Malaysia has reiterated that the reduction in the degree of monetary accommodation will be measured and gradual.

On Malaysia’s fiscal deficit, Firdaos stated that Malaysia’s fiscal deficit narrowed to 3.9% of GDP during the first nine months of 2022, which was cushioned by the better-than-expected 3Q22 GDP performance (3Q22: 14.2% versus 2Q22: 8.9%).

Going into 2023, Bank Islam expects Malaysia’s budget deficit to improve to somewhat in 2023 to be between 4% and 4.5% of total GDP (2022F: 4.5%), as the country’s economic fundamentals remain strong on the back of the new government leading the economy through the global slowdown, avoiding a recession in 2023.

he consecutive increases in OPR are intended to progressively remove the excessive monetary accommodation rather than to manage inflation, Firdaos says (pic: MUHD AMIN NAHARUL/TMR)

“We forecast the Malaysian Government Securities (MGS), Government Investment Issues (GII) issuance to be higher at RM185 billion from an estimated RM175 billion this year. The redemption is expected to be RM83.3 billion (2022F: RM78.8 billion),” Firdaos said.

He added that a higher debt service charges ratio will likely follow suit, rising in tandem with a high-interest rate environment.

“We foresee the debt (MGS, GII and Malaysian Islamic Treasury Bills [MITB]) to the GDP ratio to inch closer to the statutory debt limit (65%) at 64.1% in 2023 (2022F: 63.3%),” Firdaos said.

However, he stated that the bank’s main concern in 2023 will be maintaining Malaysia’s growing momentum as the country’s financial year 2022 (FY22) GDP is expected to be 8.1%, above official predictions of a range of 6.5% to 7%.

“However, economic challenges exist in 2023, and we expect Malaysia’s real GDP growth to decrease to 4.5%, which is higher than the region’s average.

“According to the World Bank’s January 2023 prediction, Malaysia’s growth will be 4% in 2023, up from 7.8% in 2022,” Firdaos said.

On the inflation end, the bank suggests that Malaysian inflation peaked in 2022 and would moderate due to favourable US dollar/ringgit exchange rates and base effects. However, the bank stated that prices will remain high in 2023.

As a result, the bank estimates that the headline inflation will average 3% in 2023 (2022F: 3.4%) under the assumption that the government retains the present fuel subsidy.

“Consumer Price Index (CPI) prints were generally stronger-than-expected at 3.3% during the first 11 months of 2022 (11M22) (11M21: 2.4%) amid a combination of factors, including unsettling Russia-Ukraine military conflict and unfavourable foreign exchange rate against the US dollar. The latest CPI print may have peaked (August 2022: 4.7%), but overall prices will likely remain elevated.

“In 2H23, the CPI year-on-year percentage would come in lower amid base effects. The headline inflation is to average 3% this year (2022F: 3.4%) with the assumption that the government maintains current fuel subsidy programmes.

“If the government continues with subsidy rationalisation in 2023 as retail oil prices rise, inflation will certainly rise over the bank’s baseline (3%). For every 10-cent increase in RON95, we anticipate the CPI to rise by 0.42% above the baseline,” Firdaos further explained.

To conclude, Firdaos highlighted three key events for Malaysia to look out for in 2023 — the re-tabling of Budget 2023, mid-term review of 12th Malaysian Plan (12MP), and domestic political landscape and state elections in 2023.

“We hope that the new budget will prioritise the government’s medium-term revenue strategy, public expenditure review and Fiscal Responsibility Act. This, in turn, will shed light on the new government’s economic goals, particularly the return of the Goods and Services Tax (GST) and efforts to rationalise subsidies. We expect that these reform initiatives will cause inflation in the short run. The government’s oil price assumption is critical as a net energy exporter.

“Secondly, the review of the 12MP is aimed to monitor the progress made under the 12MP and to identify any changes needed to attain the initial targets. The government does not have complete control over everything. Given the lack of a clear policy framework among the government’s coalition and parties, reviewing the 12MP will be extremely difficult.

“Last but not least, following the 15th General Elections (GE15) on November 19, 2022, the multi-coalitional structure will continue in place, with the prime minister’s (PM) party not being the largest component member of the ruling coalition.

“Nonetheless, the current government has a strong two-thirds majority in the Dewan Rakyat. We feel that PM Datuk Seri Anwar Ibrahim’s conciliatory character will be critical in restoring positive balance to the shaky multi-coalitional formula. We anticipate that the six states (Kedah, Penang, Selangor, Negri Sembilan, Kelantan and Terengganu) would have state elections in 2Q23,” Firdaos said.

On a further note, Firdaos stated that PM’s revelation that the national debt has reached RM1.5 trillion (debt and contingent liability) — highlighting that the current national debt has reached 80% of the GDP — will not affect the international credit rating because international rating agencies will not only evaluate Malaysia but will also refer to the sovereign debt of other countries.

“However, if other countries (in the debt category with an A3 rating) such as Malta and Botswana grow faster than Malaysia, the country’s rating will fall marginally. 

“At the same time, the evaluation of this debt cannot be criticised if it has exceeded the statutory limit rate of 65% set since the national debt ceiling limit component is based on MGS, GII and MITB. As of 2022, it stands at 63%, which is still below the statutory debt ceiling established by Parliament,” he said.

Commenting further on the possibility of the re-implementation of GST, he stated that Malaysia requires the tax since it has a superior mechanism than the currently in place Sales and Services Tax.

“The proper rate should it be imposed again is probably between 2% and 3%,” Firdaos said.

However, when asked about the proper timing, he mentioned that there is none, especially given the current economic climate.

“Singapore implemented GST at 3% in 1994 before gradually increasing (to 8% in 2023),” he explained.

However, he believes that any moves to reinstate GST or alter subsidies will have a medium-term influence on inflationary pressures.