As currencies around Asia continue to retrench vs the dollar, capital flows have become strained in the region. Malaysia has already been caught in the cross hairs of international criticism, but a hard-hitting report by the Royal Bank of Scotland Group plc (NYSE:RBS) (LON:RBS) (AMS:RBS) has just ratcheted up pressure to a whole new level.
RBS on Malaysia’s fiscal flexibility
According to Royal Bank of Scotland Group plc (NYSE:RBS) (LON:RBS) (AMS:RBS), Malaysia has exhausted its fiscal flexibility due to rampant government deficits and now softening commodity prices. During the Great Recession, the Malaysian government increased social spending and government investments in order to offset a severe drop in exports. As a result, government public debt surged to 54% of the national GDP, just shy of the 55% self-imposed limit. Now, Malaysia may be facing choppy waters ahead.
For much of the past decade, Crispin Odey has been waiting for inflation to rear its ugly head. The fund manager has been positioned to take advantage of rising prices in his flagship hedge fund, the Odey European Fund, and has been trying to warn his investors about the risks of inflation through his annual Read More
Emerging Asian governments have long used strong economic growth to stabilize society and stay in power. With the world economy dropping, the Malaysian government was faced with potential stabilization if the economy dropped too severely. Simply put, citizens in Asian countries are used to growing economies and economic expansion. Asia hasn’t seen a hard hitting recession since the 1997 Asian Financial Crisis, which cast doubts onto government economic policies across the region.
Malaysia’s account surplus
Since the 1997 Fiscal Crisis, Malaysia has worked hard to maintain account surpluses and build up large capital reserves. While Malaysia’s capital reserves are in a much better position than they were in 1997, a perfect storm may be brewing. At least, this is what Royal Bank of Scotland Group plc (NYSE:RBS) (LON:RBS) (AMS:RBS) has warned could happen in a recently released report. While many S. E. Asian countries are hitting a rough patch due to slow economic growth in the West and weakening currencies, Royal Bank of Scotland feels that Malaysia’s problems could stem from deeper issues in the national economy.
When the United States Federal Reserve launched its quantitative easing measures, many investors parked their money in economies and currencies across Asia. Malaysia was a particular favorite among investors due to decades of solid economic growth, a well-developed infrastructure, and comparative political stability. Now, with the Fed looking to end its quantitative easing program, many investors are pulling their money out.
Decline in Ringgit
Now only are capital markets drying up, but the Malaysian Ringgit has declined sharply in recent months. Since trading from a high of about 2.9 Ringgit per dollar in May, the currency has sunk to about 3.3 RM per USD. Such a sharp decline is putting pressure on the Malaysian Barisan Nasional ruled government, which just recently emerged from a hard fought election that saw it lose the popular vote but retain parliament.
Malaysia has been running deficits in recent years. While some international analysts are calling on the government to cut back on spending, the situation is not so simple. Malaysia has long used a wide range of public investment policies to encourage private sector support. Often, the government will supply low interest loans, grants, and other forms of funding support to encourage investment.
RBS reports Malaysian government’s delimma
If the government cuts back too sharply on spending, it will create a ripple effect through the rest of the economy. Royal Bank of Scotland Group plc (NYSE:RBS) (LON:RBS) (AMS:RBS) noted this in its reporting, highlighting the “damned if do, damned if you don’t” dilemma faced by the Malaysian government.
Royal Bank of Scotland Group plc (NYSE:RBS) (LON:RBS) (AMS:RBS) has also claimed that Malaysia is facing declining competitiveness. With regional neighbors offering cheaper labor and constantly upgrading their public infrastructure, Malaysia stands the risk of falling behind in key sectors, such as electronics. These sectors have traditionally relied on low cost labor, and Malaysia is losing its edge in this front to other countries. At the same time, the Malaysian government has been having trouble getting the country out of the so-called Middle Income Trap and building a highly advanced economy. Most companies are simply too content making money off real estate and commodities, and Malaysia still suffers from a skill deficiency.
Consumer indebtedness is also on the rise and has hit 80% of the overall economy. Meanwhile, the first quarter of the year saw a drop in business investments, even in spite of low interest rates. Meanwhile, exports have been contracting since February. All the while, Malaysia is slowly running out of oil money, which has been essential to the country’s economic expansion. Oil revenues account for some 50% of tax revenues, but Malaysia will run out of oil around 2030. With so many issues confronting Malaysia, the government will be hard pressed to turn things around, especially if the global economy continues to stagnate.