Malaysian market develops a defensive nature

Tags: Budget 2010 | Commodity exporter | Defensive nature | Dutch Disease | exports | FDI | GDP | Growth outlook | Malaysian market | Morgan Stanley Research | REER | trade surplus

Written by Financial Daily
Friday, 25 September 2009 11:28

KUALA LUMPUR: The Malaysian market has developed a defensive nature, outperforming during market downturns, and underperforming during market upturns, despite having generally fallen by the wayside amid structural issues in the economy, said Morgan Stanley Research.

Nevertheless, the research house said from a macro perspective, it still expected Malaysia to deliver a reasonable growth outlook in 2010.

“Our 2009 and 2010 forecasts of -3.5% year-on-year (y-o-y) and +4.3% y-o-y respectively, are below consensus’ -3% y-o-y for 2009 but in line with the +4.3% y-o-y for 2010. We see 2011 growth at 4.8% y-o-y. Interestingly, we note a dichotomy in terms of market sentiment.

“Whilst certain quarters of the market have been eager to get bullish on Singapore given the global rebound, we do not sense the same sentiment with Malaysia despite Malaysia being the second-most exposed to global trade within Asean as well as a commodity play,” it said in a report on Wednesday.







Morgan Stanley Research said the three-legged growth model of manufacturing trade, commodity trade and the public sector economy was useful in assessing the Malaysia outlook.

It said trade was slowly but surely turning around as manufacturing faced the same amid an inventory snapback. “Manufacturing production has already picked up ahead of trade amid a lesser pace of destocking in 2Q09,” it said.

Morgan Stanley said on a three-month moving average basis, exports had shown some second-order derivative. It added that the US ISM New Orders Index (which leads by about four months) showed that a more evident turnaround was in the pipeline.

It said Malaysia, being the top net commodity exporter (mainly of oil and crude palm oil) in Asia, was poised to be the biggest beneficiary of higher prices. It said limited global spare capacity and El Niño weather conditions could keep crude oil and edible oil prices supported at elevated levels.

The house expected crude palm oil to remain supported at US$800 (RM2,776) per tonne.

“Commodity trade aside, the large natural resource endowment also helps to fill government coffers in terms of revenue. Revenue from commodities constitute about 40% of total government revenue, which in turn helps to support what is one of the largest public sector economies within Asia,” its research said.

It expected government expenditure to pick up further on a sequential basis as spending tended to be back-end loaded in the second half of the fiscal year.

While Budget 2010, to be delivered on October 23, would be less expansionary, Morgan Stanley expected Malaysia to have one of the highest fiscal deficits within Asean for next year.

The research house viewed the global backdrop and the political climate as two key risks for Malaysia.

“As it is, Malaysia’s manufacturing exports are already under structural pressures, losing global competitiveness.

“Separately, the coordination within the federal government given the two-party system and the coordination between the federal and state governments would be key to watch in terms of how it would affect the workings of the public sector economy,” it said.

Morgan Stanley Research said beyond the cyclical turnaround in 2010-11, structural gaps needed to be addressed in the longer term. “Malaysia faces a ‘Dutch Disease’ of sorts, in our view,” it said. It refers to the phenomenon where the commodity resource sector displaces the export manufacturing sector.

It said when commodity exports augmented the current account balance either due to a commodity boom or new supply discovery and real exchange rates appreciated, the manufacturing export sector suffered.

“Capital and labour shift into the commodity sector due to its profitability and as manufacturing competitiveness erodes. Factor inputs also move towards production of non-tradeables to meet the increase in domestic demand.

“Excess domestic demand from positive terms of trade could also lead to real currency appreciation, which further de-industrialises the economy,” it said, adding that the benefits of technological know-how and productivity growth from manufacturing would whittle away and macro vulnerability to the commodity sector increased.

It said Malaysia’s real effective exchange rate appreciated by a maximum of 11% between 2005 and mid-2008, suggesting that there could be some causality from the Real Effective Exchange Rate (REER) to the competitive erosion of the manufacturing export sector.

Morgan Stanley said the growth buffer in a young labour input and commodities trade had reduced the sense of urgency to increase competitiveness (productivity) and allowed inefficiencies like the affirmative-action policy to go on for longer.

“Indeed, hard infrastructure standards are relatively high as the government spends sizeable amounts on CONSTRUCTION [] but soft infrastructure gaps have persisted. The upshot remains the same — a competitive erosion in exports and FDI that could serve to undermine the economy,” it added.

Notably, commenting on the underperformance in education standards, Morgan Stanley said Malaysia’s tertiary enrolment and completion ratio had lagged that of some of its Asian counterparts.

“At 28.6% and 15%, respectively, its gross tertiary enrolment ratio and gross tertiary completion ratio are 7% and 6% lower than the average expected of economies with its level of GDP per capita. This points to a relative tertiary skill shortage, which is essential to move the economy up the value-added chain,” it said.

“With the labour force growing, unemployment rate staying range-bound at around 3%, and the tertiary skill shortage, graduates surprisingly continue to make up an increasing proportion of the unemployed group, from 15.2% in 2000 to 25.1% in 2007. This suggests that graduate skill mismatch is also a problem.”

Morgan Stanley Research said despite the benign global conditions, Malaysia’s trade surplus of machinery and transport equipment fell from US$10.5 billion in 2000 (11.2% of GDP) to US$9 billion in 2008 (4.1% of GDP).

“In comparison, the trade surplus of China (-US$9.3 billion to US$231.3 billion), Korea (US$41.2 billion to US$119.1 billion), Taiwan (US$19 billion to US$45.1 billion) and Singapore (US$11.2 billion to US$22.9 billion) all saw a positive delta between 2000 and 2008,” it said.

It said machinery and transport equipment constituted about 49% of Malaysia’s total exports and Malaysia’s global share of these exports declined from 2.3% in 2000 to 1.7% in 2007 after China joined the WTO and saw its global share increase from 3.1% to 11.6%.

“Specifically within the machinery and transport equipment segment, telecommunications equipment (from 4.5% in 2000 to 2.4% in 2007) and electronic data processing/office equipment (5.6% in 2000 to 5% in 2007) saw the most pressure in terms of declines in global share,” it said.

Morgan Stanley Research said as net FDI in certain economies in the region (China, India, Singapore, and Thailand) continued to climb higher, net FDI in Malaysia had generally trended down from the peak in the early 1990s, and was now dipping into negative territory.

Net FDI (4Q trailing sum) stood at -3.8% of GDP in June 2009 from +2.4% of GDP in June 2004.

The research house said execution of the government’s reform measures would be key as the policy intent behind them served to arrest the structural weakness in the economy. “We believe investors will now be closely watching for the government’s ability to execute on these measures.”


This article appeared in The Edge Financial Daily, September 25, 2009.