Flexible exchange rate crucial, say economists
PETALING JAYA: Economists concur with the government’s view that the ringgit should not be pegged to the US dollar, and a flexible ringgit exchange rate is important.
Malaysia University of Science and Technology economics professor Geoffrey Williams told StarBiz that a ringgit to US dollar peg should not be the government’s policy.
“Governments and central banks cannot control exchange rates. Exchange rate targeting in the past everywhere in the world has been at best ineffective, at worst a disaster.
“Exchange rates are determined by the market in all circumstances in the short and long term.
Malaysia University of Science and Technology (MUST) economics professor Geoffrey Williams
“In most cases, they are determined by factors outside the control of monetary authorities such as economic conditions in other countries,” he noted.
Yesterday, Bernama reported Finance Minister Tengku Datuk Seri Zafrul Abdul Aziz as saying the government has no plans for a ringgit-US dollar peg, as such a move is fraught with high risks and a large trade-off.
Tengku Zafrul explained that a peg would not be the best move for the economy, as it would require Malaysia to follow the monetary policy of the country to which the ringgit is pegged to.
“For example, if the ringgit is pegged to the US dollar, Malaysia’s overnight policy rate (OPR) would have to follow that of the US Federal Reserve, which is expected to raise its interest rates by 325 basis points, or 3.25 percentage points overall in 2022, although Malaysia’s economic recovery and inflation levels are different than that of the US.
“Malaysia would face constraints in setting the monetary policy, and Malaysians would have to bear the high financing cost, although the economic situation here is different from that of the United States,” Tengku Zafrul told the Dewan Negara.
He said if the peg is implemented, it would have to be accompanied by capital controls to prevent capital outflows, and that would affect foreign investor confidence.
A flexible ringgit exchange rate is important to balance the need to absorb external shocks and support the Malaysian economy, amid global uncertainty, Tengku Zafrul added.
Williams pointed out that at best, monetary agencies might influence exchange rates on an ad hoc basis, but they have no systematic influence on the level or volatility of exchange rates.
“Bank Negara is no different to that. Raising the OPR will be wholly ineffective in strengthening the ringgit and the central bank has made it clear that this is not their policy. They are wholly correct in that and I support that stance,” he said.
Williams also explained that it is a fallacy to claim one can “buck the market” and control the exchange rate because the ringgit’s value depends on the value of the US dollar as well, which one cannot control.
“The ringgit is always driven by market forces even in a pegging regime, because you need to respond to the market value of the US dollar,” he said.
Williams added that the Finance Minister is right in talking about looking at and trying to optimise the long term fundamentals of the economy, so that there is confidence to invest in Malaysia and hold the ringgit based on underlying economic strength.
“The level of the ringgit is determined by long term fundamentals and short term financial flows and trades. All of this is done by comparison to what is happening elsewhere, which is outside the control of Malaysia,” he said.
Sunway University economics professor Dr Yeah Kim Leng noted the Finance Minister’s explanation is in line with most economists’ views, given that the country is not in a crisis situation.
Regarding potential measures that the government can take, Williams noted that the central bank does not have deep pockets full of international reserves.
“What they have is sufficient for good prudential management but nothing more. So money market interventions are not helpful,” he explained.
He added that the OPR policy to strengthen the ringgit is also limited.
“The OPR cannot be used to chase the US Federal Reserve (Fed) because Bank Negara will always be behind the Fed and higher interest rates here will damage domestic growth and weaken the debt sector.
This will damage fundamentals and lead to capital outflows,” said Williams.
“Ultimately the only thing the government can do is to maintain good, credible, transparent and accountable economic policy to demonstrate sound fundamentals. This means sound macroeconomic policies
and in my view, economic reform focused on the supply-side and liberalisation,” he added.
Meanwhile, Sunway University economics professor Dr Yeah Kim Leng noted the Finance Minister’s explanation is in line with most economists’ views, given that the country is not in a crisis situation.
“Importantly, the flexible exchange rate helps the economy to absorb various shocks including strengthening of the US dollar against all other currencies as well as global energy and food price increases,” said Yeah.
He pointed out that pegging the ringgit will send the wrong signal to financial markets, given that the flexible currency has been the norm for financial and capital flows.
“Financial market players have the means to cope with exchange rate volatility and fluctuations in the level of the ringgit, given that exchange rate changes affect importers and exporters differently.
“The overall adjustment is a reflection of the country’s ability to cope with the changes in financial and economic conditions,” said Yeah.
He also pointed out that the central bank’s function includes ensuring financial stability and it is already taking measures to ensure orderly movements of the ringgit.
“That means the ringgit does not fluctuate too widely, which will cause disruptions to financial and economic activities, especially in investment decisions,” said Yeah.
UCSI University assistant professor in finance Dr Liew Chee Yoong
UCSI University assistant professor in finance Dr Liew Chee Yoong, who is also a fellow at the Centre for Market Education, also told StarBiz that a ringgit - US dollar peg is not a good idea.
"A peg requires Bank Negara to frequently buy and sell foreign exchange reserves to maintain the peg particularly during periods of high volatility and uncertainty, like now. As a result, Bank Negara may run the risk of running out of foreign exchange reserves to maintain the peg (similar to what happened to the Thai Central Bank which precipitated the 1997 - 98 Asian Financial Crisis," he explained.
Liew also pointed out that Malaysia had pegged its currency before during the 1997 - 98 Asian Financial Crisis.
"To repeat the peg will lower foreign investors' confidence. This will hamper economic growth and development in the long run," he said.
Meanwhile, Liew opined that the government should take concrete measures to strengthen the ringgit, and "not just let it drift according to market forces."
Liew said measures that the government could take include making capital markets more attractive to lure more foreign financial investments, enhancing the labour force’s skills to attract higher value chain foreign direct investments, as well as implementing more effective policies to reduce corruption and wastage to improve foreign investors’ confidence.
"All these measures may help strengthen the ringgit in the long run," he said.
