End of the cheap money era

  • Business
  • Saturday, 14 Nov 2015

Right move: File picture of Bank Negara Malaysia at Jalan Kuching in Kuala Lumpur. Bank Negara has done the right thing to impose stringent rules for buyers of second and third properties.

THE latest job statistics in the United States have almost put an end to the debate on whether the US will raise interest rates. The verdict points to an overwhelming consensus that the world’s largest economy will finally raise interest rates next month – its first since the 2008 financial crisis.

In anticipation of the rate hike, the dollar has appreciated against all major currencies. Yields on short-term bonds have trended upwards and short-term deposits no longer earn negative interest rates.

Generally, when the US raises its interest rates, the rest of the world will follow suit. But it will not happen this time around because while the US economy is well on the path to recovery, the rest of the world is suffering.

The European Central Bank is prepared to expand its quantitative easing programme or better known as “printing of money” to boost the flagging euro zone economy. Japan has also embarked on an easy monetary policy.

The worst affected are the emerging market economies that have seen a downward spiral of their currencies. Among the lot, countries that are dependent on commodities such as oil to fund public expenditure are the worst hit.

Malaysia falls into that category. It is a net exporter of oil and gas and depends on other commodities such as the export of crude palm oil to sustain its economy. Income from oil-related revenue such as taxes and dividends from national oil company Petroliam Nasional Bhd or Petronas made up 30% of Federal Government revenue last year. Next year, it is expected to be down to 19.7%.

Interest rates have remained low for more than 10 years now in Malaysia. The highest was during the crisis in 1998 when it hit double digits. But since 1999, the rates have come down gradually to less than 6%, a reflection of the low cost of funds.

For a long time, the three-month deposit rates were less than 3% and remained at that level until last year when it inched up to 3.04%. The three-month rate is about 3.15% now, with some non-conventional banks offering more than 4.2%.

Interest on housing loans is creeping up. In Singapore, the loans were less than 1% a year ago. Now, it is almost 1.8%.

In Malaysia, the base lending rate (BLR) was on average 6.45% in 2011. Latest numbers show that it is 6.79% on average and inching up, a reflection of the higher cost of funds.

An increase in the BLR will kick in if Bank Negara raises the overnight policy rate (OPR) that is set at 3.25% currently. But the central bank cannot afford to raise the OPR just yet as there are several reasons for it.

For one, the economy is slowing down, as seen by the falling capital formation numbers. The economy is expected to grow at about 5% this year and less than that next year.

Secondly, inflation is steady at about 3% although the country has seen three incidences that have triggered a general increase in the prices of goods and services this year.

The first happened in January this year when traders increased prices in anticipation of the implementation of the goods and services tax (GST) in April.

It was their last chance to increase prices because under the law, companies’ profit margins cannot change three months before the GST and 12 months after the tax is implemented. So, end-January was the last date traders could increase their prices without being caught for profiteering – and they did so.

Then came April when the GST was implemented and traders added 6% to the price. And now prices of certain goods and services are being adjusted upwards to reflect the depreciation of the ringgit against the US dollar.

The third reason why interest rates cannot go up is because of the overhang in the housing market. There have been few launches not because there are less takers, but more so due to the shrinking pool of people eligible to obtain a housing loan.

Bank Negara has done the right thing to impose stringent rules for buyers of second and third properties. It has also not allowed developers to entice buyers with easy payment schemes such as the developer interest-bearing scheme or DIBS to reduce speculative activities.

A large number of properties, especially high-end condominiums, have come into the market in the past one year and many more are expected to come on board in the next 12 months. Owners are having difficulty renting out properties, especially the high-end ones in the KL City Centre area.

Rental rates have come down and in most cases, are not enough to meet the monthly instalments. Effectively, owners of high-end apartments are subsidising the tenants.

Based on the current environment, it is hard to see Malaysia raising rates. But the inevitable can happen, depending on how future interest rate hikes pan out in the US.

So far, the chairman of the Federal Reserve (Fed) Janet Yellen has indicated that the interest rate hike would be gradual. By that, the market is expecting a 25-basis-point hike or 0.25%. Anything more would come as a surprise.

If the Fed raises rates aggressively, it would spell trouble for emerging market economies such as Malaysia. Whether rates go up aggressively depends on the US economy.

The US unemployment rate for October was 5% and heading well below the figure. According to a report, the US economy needs to create only 77,000 jobs per month to keep the unemployment rate at current levels. But the jobs created have been in excess of 230,000 per month in the past one year.

This explains why the annual increase in the hourly wage rate is up by 2.5% - higher than the normal rate hike of between the 1.8% and 2.3% band.

At the rate the economy is picking up in the US, it will be sooner rather than later when the US interest rates start to move up more than the “gradual” phase as advocated by the Fed.

When that happens, the rates in Malaysia would have to go up or the ringgit will come under more pressure, something that not many would like to see.

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