S&P reaffirms Malaysia's currency rating, Outlook stable


Top two: Dr Zeti with her deputy Muhammad who is expected to be the internal candidate chosen to replace the outgoing governor.

KUALA LUMPUR: Standard and Poor's Rating Service has reaffirmed the  A-/A-2' foreign currency and 'A/A-1' local currency ratings of Malaysia's foreign and local currency with a stable outlook.

It also affirmed its 'axAAA/axA-1+' Asean regional scale rating on Malaysia.

It said on Monday it expected the 1Malaysia Development Bhd (1MDB) issues and the upcoming change in Bank Negara Malaysia leadership will not  diminish the effectiveness of policymaking either in the executive branch  or at the central bank.

“The stable outlook is based on our expectation that Malaysia's strong external asset position and high monetary flexibility reduce the likelihood of a downgrade to less than one-in-three over the next 24 months,” it said.

S&P also believed Malaysia's credit fundamentals can withstand some stress in the oil and gas sector during that period. 

It also doesn't expect to raise the sovereign ratings on Malaysia this year or next. 

“We may lower the ratings (or eliminate the gap between the foreign and local currency ratings) if we assess Malaysia's public finances or institutional settings have weakened,” it said. 

S&P said such a change could come about, for example, should the government dilute its recent fiscal measures or the incoming leadership at the central bank lead us to believe the conduct of monetary policy will be less effective than it has been in the past. 

It may also lower the ratings if contingent liabilities crystalise on the government's balance sheet materially or if it perceives that their future loss content has increased markedly from current levels.

Below is the statement released by S&P:

The affirmation is predicated on our expectations that the 1MDB issues and the upcoming change in Bank Negara Malaysia leadership will not diminish the effectiveness of policymaking either in the executive branch or at the central bank

We believe the government has taken sufficient offsetting measures to compensate for lost hydrocarbon-related fiscal revenue. In addition, the country's strong external position and fairly diverse economy can absorb some weakness in the oil and gas sector

We are affirming our 'A-/A-2' foreign currency and 'A/A-1' local currency sovereign credit ratings on Malaysia. We are also affirming our 'axAAA/axA-1+' ASEAN regional scale rating on Malaysia


The outlook remains stable, reflecting our view that Malaysia's strong external asset position and high monetary flexibility would reduce the likelihood of a downgrade to less than one-in-three over the next 24  months.

RATING ACTION

On March 28, 2016, Standard & Poor's Ratings Services affirmed its 'A-' long-term and 'A-2' short-term foreign currency sovereign credit ratings on Malaysia. 

At the same time, we affirmed our 'A' long-term and 'A-1' short-term local currency sovereign credit ratings on Malaysia. The outlook on the long-term ratings remains stable. We also affirmed our 'axAAA/axA-1+' ASEAN 
regional scale rating on Malaysia.


RATIONALE

The sovereign credit ratings on Malaysia reflect the country's strong external position and considerable monetary flexibility. 

We weigh these strengths against Malaysia's less strong public finances. In affirming the ratings, we assume that corruption allegations in relation to 1Malaysia Development Bhd (1MDB) will not impede the ability of the executive branch to promote  sustainable public finances and balanced economic growth. 

Similarly, we expect that the credibility of monetary policy and operational independence of Bank Negara Malaysia (BNM, the central bank) will not diminish upon the retirement of long-standing Governor (Tan Sri) Dr. Zeti Akhtar Aziz in April. 

The BNM has an established track record in controlling inflation and supervising closely its banking system. Malaysia also has a deep domestic bond market, compared with its peers', which reduces its reliance on external financing and provides domestic corporations with alternative means of finance.

Malaysia's external position, a result of years of current account surpluses, is a key rating strength. We believe this position can withstand the slump in the oil and gas sector over the next two years. 

Our assumptions for Brent oil price per barrel (bbl) is US$40 for the remainder of 2016, US$45/bbl in 2017, and US$50/bbl thereafter (see Related Research section below). 

We envisage Malaysia's external indicators will remain broadly unchanged, given our projection that Malaysia's current account will remain in surplus. 

For 2016, the depreciation of the ringgit should help the competitiveness of manufactured goods exports, offsetting some of the impact of weaker terms of trade for Malaysia's energy exports.

Malaysia's fiscal performance has consolidated after weakening to accommodate the shock of the global financial crisis. The annual increase in general government debt had averaged 6% of GDP over 2009-2012. Deficits have since narrowed, and we project the average annual increase in debt at 2.8% of GDP over 2016-2019. 

The administration still aspires to balance the budget by 2020 despite the sharp decline in oil-related fiscal revenues--a task that we believe will be challenging.

High subsidy spending and dependence on energy-related revenues had weighed on Malaysia's fiscal position. The removal of oil subsidies in December 2014 and the introduction of a 6% goods and services tax (GST) in April 2015 alleviated some of those pressures. 

In response to lower-than-expected crude oil prices,  the government revised the budget in 2015 and 2016 to maintain its fiscal deficit targets. 

We view these measures as signs that Malaysia's budgetary policy is proactive. We expect public finances to remain in check as recent political leadership challenges play out. 

Specifically, we estimate that net general government debt peaked at about 49% of GDP in 2015 and we project the ratio to decline modestly as growth remains buoyant. 

Malaysia's general government fiscal position also carries contingent risks from its public enterprises and financial sector.

These contingent risks include guarantees on debts and letters of support (including the US$3 billion letter of support for 1MDB, which we regard as a direct financial obligation of the government). 

Malaysia's public enterprises have diverse financial profiles--some with strong free cash flows and sizable liquid assets that, at times, have been used to support other parts of the public sector and engage in quasi-fiscal activities. 

Within our forecast horizon, we do not expect  contingent liabilities of the weaker public enterprises to crystalize in a material manner on the central government balance sheet.

Although Malaysia's high household debt poses some risks, we believe that risks to the government are contained by the buffer of high banking sector capitalization and the BNM's regulatory record. 

Our Bank Industry Country Risk Assessment for Malaysia is '4', with '1' being the strongest assessment and '10' the weakest (see Banking Industry Country Risk Assessment: Malaysia, published to RatingsDirect, Nov. 26, 2015).

Just over a quarter of Malaysia's ringgit-denominated government bonds are held by nonresidents. Although the foreign ownership could reduce if–-contrary to our expectations--Malaysia's institutional settings worsen, we believe the country's sound budgeting, a deep local capital market, the BNM's floating exchange rate regime, and its 6.4 months of foreign exchange reserve coverage of current account payments attenuate the risks.

We project Malaysia's GDP per capita to be just under US$10,000 as of the end of 2016, lower than that of most peers in the same rating category. 

The economy is diversified with a large manufacturing and services base. However, the declining percentage of non-energy exports to GDP suggests that the  government's efforts to improve competitiveness and move toward higher-margin exports have yet to bear fruit.

We do not expect the weak energy prices to reduce real economic growth materially over the next 24 months, given that production of crude oil and liquefied natural gas account for only about 10% of GDP. 

We project Malaysia's average annual growth in real GDP per capita to be 3.7% over 2016-2019. 

Exports of manufactured goods and growth in private consumption and investment are likely to drive this expansion.
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