Zeti cautions on cheap money in KL, Yellen suggests rate hike in US

PETALING JAYA: Bank Negara has projected the economy to grow by between 4.5% and 5.5% this year and expects inflation to inch up to 4%, a development that it feels does not warrant a hike in interest rates.

However, the central bank cautioned that a prolonged period of a relatively low interest rate regime in the international and domestic markets could encourage excessive risk-taking behaviour.

During the release of its annual report yesterday, Bank Negara governor Tan Sri Dr Zeti Akhtar Aziz said that it was undesirable to have a negative real interest rate regime for too long because it would cause financial imbalances.

“The monetary policy has remained on preserving price stability in an environment of growth. However, also embedded within the consideration of the policy is to ensure that the interest rate setting does not result in widespread financial distortions or excessive risk-taking behaviour of the economy,” she said.

Since early December last year, Malaysia has been experiencing negative real interest rates, a situation where the inflation rate is higher than the fixed-deposit interest rate.

What this means is that money that has been set aside as savings deteriorates in value because its returns are lower compared with the general rise in the price of goods and services.

In this respect, many expected Bank Negara to increase its overnight policy rate (OPR) two weeks ago, but the central bank maintained it at 3%.

Zeti said the Monetary Policy Committee meetings to decide on the OPR were lengthy affairs and various issues had been looked at.

“We always look for signs if the low interest rate is leading to excessive risk taking. For instance, if there is a misallocation of resources such as people using cheap funds to go into business that are high-risk,” she elaborated.

Zeti, who has the experience of having gone through two economic crises that hit Malaysia in recent history, said the period of rising inflation would lapse after some time because the cost pressures would be passed on to the rest of the economy.

“The source of inflation is primarily due to cost-push factors. The higher cost would be partly contained by the subdued external price pressures, continued expansion in the domestic capacity and the more moderate rate of expansion in domestic demand,” she said.

The central bank also said that it would continue to remain focused on identifying signs of inflation becoming more pervasive and persistent, whereby a monetary policy response would become appropriate.

On the economy, the central bank’s projection is in line with that of the Economic Report that was issued in October last year together with Budget 2014.

However, surprisingly, Bank Negara has predicted a federal government deficit of 3.9% as a percentage of the gross domestic product (GDP), a figure that is 10 basis points lower than what had been projected in the Economic Report.

In the report, the federal government deficit was expected to shrink to 4% of GDP in 2013 from a deficit of 4.5% in 2012.

Economists said that the federal government deficit of 3.9% of GDP predicted by Bank Negara indicated that the Government had reduced its development expenditure at a more aggressive pace than expected.

Bank Negara predicted that the Government was on track to achieve a federal government deficit of 3.5% of GDP this year, a target of 3% in 2015 and subsequently, a balanced budget by 2020.

On household debt as a percentage of GDP that stood at 86.8% as at the end of last year, Zeti said that although the ratio had increased, the growth last year was the slowest since 2010. “The new borrowers are of good quality because they have met all the stringent guidelines.”

Where the tapering effect that has caused volatility in the currencies of emerging markets is concerned, meanwhile, Zeti expects it to continue.

Meanwhile in the US: 

WASHINGTON: The US Federal Reserve will probably end its massive bond-buying programme this fall, and could start raising interest rates around six months later, Fed Chair Janet Yellen said on Wednesday, in a comment which sent stocks and bonds tumbling.

Yellen's remarks at her first news conference as the head of the central bank pointed to a more aggressive path toward higher interest rates than many had anticipated, and bets in financial markets shifted accordingly.

The comments came after a two-day meeting in which Fed officials made another reduction in their bond-buying stimulus and decided to jettison a set of guideposts they were using to help the public anticipate when they would finally raise rates.

The Fed said the change in its rate hike guidance did not mark a shift in its intentions and that it would wait a "considerable time" after shuttering its asset purchase program before pushing borrowing costs higher.

Yellen, who had fielded numerous questions without a hitch, hesitated when asked what the Fed meant by "considerable."

"I -- I, you know, this is the kind of term it's hard to define, but, you know, it probably means something on the order of around six months or that type of thing. But, you know, it depends -- what the statement is saying is it depends what conditions are like."

Several analysts wondered whether her answer was an unintended slip, given the deliberately vague language of the Fed's statement.

Either way, the reaction in financial markets was swift and sharp. Prices for U.S. stocks and government bonds added to earlier losses triggered by fresh Fed forecasts that showed policymakers are inclined to raise rates a bit more aggressively than they had been just a few months ago. The U.S. dollar rose.

"The forecast change could be interpreted as a relatively hawkish shift ... and as such the general market reaction seems well-founded," said JPMorgan economist Michael Feroli.

Futures traders moved to price in a first interest rate hike as soon as April 2015. Previously, it was July.

Most top Wall Street economists, however, continued to see the first rate hike in the second half of 2016, according to a Reuters poll.

MIXED MESSAGES

Yellen sought to use her news conference to emphasize that rates would stay low for awhile and rise only gradually. She also said they could end up staying lower than normal "for some time" even after the jobless rate drops to a healthy level.

The Fed would look not only at how close inflation and unemployment are to its goals, but how fast, or slowly, those measures are approaching those goals, she said.

At 6.7 percent, the unemployment is well above the 5.2 percent to 5.6 percent range Fed officials see as in keeping with full employment. The central bank's favored inflation gauge is barely more than half of its 2.0 percent target.

The Fed has held interest rates near zero since late 2008 and has pumped more than $3 trillion into the economy with its bond purchases to try to foster a stronger recovery.

Of the Fed's 16 policymakers, only one believes it will be appropriate to raise rates this year; 13 expect a first rate hike next year, and two others see the first rate hike coming in 2016, according to the new forecasts.

But once rate hikes start, Fed officials see slightly sharper increases than they did in December, when they last issued forecasts. They now see rates ending 2016 at 2.25 percent, a half percentage point above their December projections. ID:nL2N0MG1AP]

The unease in markets "might be a sign that people think Yellen will tighten sooner rather than later," said Wayne Kaufman, chief market analyst at Rockwell Securities in New York.

MEASURED WIND DOWN

The central bank proceeded with its well-telegraphed reductions to its massive bond-buying stimulus, announcing it would cut its monthly purchases of U.S. Treasuries and mortgage-backed securities to $55 billion from $65 billion. - Reuters