By Edward Lee (Head, ASEAN Economic Research Standard Chartered Bank) and Jonathan Koh (Economist, Asia Standard Chartered Bank, Singapore Branch)
Standard Chartered Bank is raising its 2017 GDP growth forecast for Malaysia to 5.4% from 4.6%.
This reflects strong H1 growth of 5.7%, although we still expect growth to ease in H2. Two key areas positively surprised us in the H1 data: (1) the resilience of private consumption, which rose close to 7% y/y; and (2) private investment, which increased 10% y/y.
Exports picked up in line with our expectations, although higher imports curtailed the contribution from net exports.
Despite the strong H1 growth, we maintain our view that growth will moderate in H2-2017 and that private consumption will ease. Real wage growth – which has affected consumption with a lag of about three quarters empirically – was slightly negative in H1.
Private investment had a stellar H1, but loan growth remains subdued. External demand, especially the robust electronics cycle, may keep growth up in H2, but some base effects may kick in during Q4. On balance, 2017 is shaping up to be a year of rebound after the muted 4.2% GDP growth in 2016.
The strong pace of growth in H1 increases the risk of a pick-up in core inflation, and if growth continues to surprise to the upside, expectations for a rate hike may build up.
In the latest monetary policy statement in July, Bank Negara Malaysia (BNM) noted “that underlying inflation (measured by core inflation) will be sustained by more robust domestic demand but is expected to remain contained.” We think BNM is comfortable with the current accommodative monetary policy settings and maintain our view of no change in the policy rate for 2017, while keeping a watchful eye on core inflation even as headline inflation has eased since its peak in Q1.
Domestic economic activity boosted growth in H1 amid mixed signals
After a strong Q1 – which expanded 1.8% q/q (the fastest in 14 quarters) – Malaysia extended the growth momentum in Q2, with GDP growth picking up to 5.8% y/y from 5.6% in Q1.
Sequentially, performance remained strong at 1.3%. In a short statement accompanying the GDP release, the central bank said the economy is expected to grow at above 4.8% (the upper end of the government’s forecast range of 4.3-4.8%) in 2017.
Private consumption rose 7.1% y/y in Q2, the fastest pace of expansion since Q1-2015. Spending on motor vehicles rose 3.5% y/y in H1-2017 versus a contraction of 3.6% in the same period last year. Retail sales growth also picked up to 11.8% y/y in H1-2017, compared to 8.3% in H1-2016, driven by sales in non-specialised stores and spending on automotive fuel.
Robust consumer spending remains a surprise considering that (1) real wage growth is still in negative territory; (2) the unemployment rate (as of June 2017) remains elevated at 3.4% (versus an average of 3% in 2014-15); and (3) household leverage remains high, although levels have eased since H1-2016.
Domestic spending in H1-2017 was likely boosted by one-off measures, including the minimum wage increase and voluntary employee pension contribution cuts. Higher BR1M (cash assistance to low-income households) may have also helped, but this was likely reduced by lower subsidies.
Consumption may have been boosted by higher rural income due to the commodity price recovery. We think some base effects of the one-off measures may weigh on consumption growth in H2. Furthermore, the slightly negative real wage growth may affect consumption (empirically, we found that real wage growth affects private consumption with a lag of about three quarters).
Unexpectedly strong private investment
Private-sector investment recorded a huge increase in H1-2017, rising 10% y/y from 3.9% in H1-2016. The bulk of investments likely went into machinery and equipment. Private investment contributed c.33% of the 5.7% GDP growth in H1 (on a ppt contribution basis). In contrast, public investment fell 0.9% y/y in H1, which was expected given fiscal constraints. Private investment was likely boosted by ongoing infrastructure projects and a pick-up in external demand. Earlier foreign direct investments may have also supported the strong investments.
However, we remain somewhat cautious on the sustainability of this strong momentum. Loans disbursed eased in Q2 from Q1, while construction projects have fallen steadily over the last few quarters.
External sector provided support in H1, but exports may have peaked
The external sector provided a boost to growth in H1-2017, with exports rising 9.7% y/y versus 1.5% in the same period last year. Export growth has benefited from (1) the pick-up in trade volumes; and (2) higher commodity prices. Export volumes picked up across almost all industries in H1-2017. The robust electronics cycle provided another boost. Malaysia is one of the few countries that benefited from the improvement in electronics and commodity demand.
By destination, China has been the primary source of demand for exports, accounting for 28% of the total increase in exports in H1-2017, on the back of robust demand for mineral fuels and machinery and transport equipment.
However, exports seem to have peaked and we expect export growth to remain robust but moderate in H2-2017. The export sector will have to contend with an unfavourable base effect in H2.
The boost from high commodity prices in H1 is likely to fade in H2 assuming prices remain at current levels. External demand in H2-2017 may also moderate. We expect growth in China to soften in H2 after a strong H1 as the economy pursues its deleveraging agenda. The inventory rebuilding cycle in China also appears to have peaked and seems to be losing momentum.
On a positive note, however, our proprietary broadness index on export destinations is showing a slight broadening of exports, indicating lower concentration risk and dependence on China alone.
A note of caution, however, is that supply chain dynamics may have clouded the final source of demand as exports from Malaysia’s key export partners ultimately land in China.