Economic outlook second half of 2022
After a challenging first half of the year, the global growth forecasts have been downgraded multiple times for the year to date and the process may not have ended yet – the World Bank and OECD have recently pared their 2022 growth forecasts, and the IMF has signalled it will do so in July as well. Key contributors to the growth forecast downgrades were expected slowdowns in the US, Eurozone and China, albeit for slightly different reasons. In addition, the Omicron wave of Covid infections also took a toll on 2Q22 GDP growth for many Asian economies, but the good news is that the re-opening of their economies have given a fresh lease of life to the aviation and hospitality-related industries going ahead for 2H22.
Inflation has been a key bugbear this year. Inflationary pressure has clearly been more persistent rather than transitory, and the global supply chain disruptions that were first Covid pandemic-related, then attributed to Russian-Ukraine war, and subsequently the China’s Covid lockdowns. Fuel price increases only explain part of the inflation story, but the recent spate of food export bans, however, temporary in nature, have added to the inflation ascent. This is on top of the global chip shortage, China-related port and logistics bottlenecks due to tight Covid-related restrictions, and limited labour movements for the year to date. Global food inflation is a more intractable problem due to a combination of climate changes, difficulty of ramping up supply in the short-term, and some inclination to lean towards protectionist measures to ensure sufficient domestic supply. If food supply is “weaponised”, then the world economy may be worse off for it.
The escalating inflation problem explains why major central banks like the FOMC has turned decidedly aggressive as illustrated by its recent 75bps hike at the June meeting in its biggest increase since 1994 to 1.50-1.75%, since inflation has obviously surprised to the upside over the past year and actually hit a more than four decade high of 8.6% recently. The Fed is still tipping another 175bps more by end-2022 to hit 3.4% by year-end and reach 3.8% by end-2023 before potentially easing to 3.4% by end-2024, according to the FOMC projections. The FOMC statement “anticipates that ongoing increases in the target range will be appropriate” even though “it will take some time to get inflation back down”.
The question is what will be the economic cost? While Fed chair Powell noted that he saw “no sign of a broader slowdown”, the committee tips GDP growth to ease to 1.7% this year (previously 2.8%) and also in 2023, with the unemployment actually likely to rise to 4.1% by end-2024, up from the 3.7% anticipated this year. Will it take US growth to actually stall before the Fed reverses course? Does the Powell put still exist? In our view, the latest post-FOMC relief rally is not indicative of any Powell put, but rather how desperate market players are to find any silver lining in the global tightening bandwagon. Americans are now deeply pessimistic about the US economy, according to a recent Wall Street Journal-NORC poll, with some 83% of respondents describing the state of the economy as poor or not so good which is the highest since the survey question started back in 1972.
One silver lining is that the more the Fed frontloads the rate hikes, the earlier the pause may materialise. But that may not be the end of the story yet as financial conditions tightening extend beyond policy rate hikes. Quantitative Tightening (QT) is also the other key factor to watch. While market liquidity remains okay for now, the Fed reiterated it would continue QT with a US$47.5b pace per month and plans to step up to US$95b by September.
Outside of the US, the other central banks have not been sitting still either. The ECB has also signalled it will halt its CSPP purchases and embark on rate hikes to bring its policy rate out of negative territory as well this year. Meanwhile, the likes of BOC, BOE, RBNZ, BOK and even MAS have tightened monetary policy settings repeatedly to combat the overshoot in headline and core CPI. The BOE is also planning to sell down its corporate bond holdings. Even laggards like BOT and BI are likely to follow suit as the year progresses. The only outlier is probably China, where slowing growth amid its zero-COVID strategy has prompted both fiscal, monetary and credit policy easing. At least the China policy put is still intact for now, even though whether this is sufficient to lift full-year 2022 growth to close to its ambitious 5.5% growth target remains to be seen. In particular, the property market may be China’s Achilles heel and a near-term stabilisation is necessary for the growth momentum to improve.
Turning our attention to Malaysia, the central bank has been actively weighing the challenges presented by such global gyrations. Balancing the need to tackle inflationary momentum at the time of potentially more uncertain global growth prospects, Bank Negara has started its rate hike cycle in May when it raised its Overnight Policy Rate by 25bps in May and by another 25bps to 2.25% in July.
BNM made it clear what ultimately prompted the hikes. In no uncertain terms, its May statement declared that “Inflationary pressures have increased sharply,” driven by “a rise in commodity prices, strained supply chains and strong demand conditions, especially in the US.” It noted how, in response, “several central banks are expected to adjust their monetary policy settings at a faster pace to reduce inflationary pressures.” While it did not name names, the recent hawkish moves by the Fed – with strong signals of a few more such big moves to come – would have featured prominently in the MPC discussion.
The reality of higher inflation is something that BNM has to countenance on the domestic front too, with the July statement noting how “the underlying inflation, as measured by core inflation, is expected to average between 2.0% - 3.0% in 2022 as demand continues to improve amid the high-cost environment.”
The fact that BNM is wide-eyed about such inflation risks and has started to act proactively to contain them is laudable. This is especially so because contemporaneous core inflation remains relatively low – compared to other countries. Rather than hide behind those tame prints, it has decided that it is a lot better to be pre-emptive and to hike rates sooner rather than later, especially given the fact that food prices have been on the uptick. Indeed, the uptick in food prices has resulted in an uptick in the headline inflation rate to 2.8% yoy in May, compared to 2.3% in April, for instance.
For the year as a whole, we see inflation to be averaging 2.9% yoy for Malaysia. While the food prices may remain a major driver of inflation, the upside is likely to remain capped by continuing subsidy schemes by the government. Indeed, by the Finance Minister’s telling, the inflation rate could have been quadruple of existing level if not for such subsidies.
Going forward, we see more rate hikes coming from BNM. Against the backdrop of rising global interest rate settings and some domestic inflation pressure, there is also a growing chance of back-to-back rate hikes rather than a more drawn-out cycle.
Indeed, our view is that there will be at least one more 25bps hike from the central bank this year, with a high likelihood of it taking place in the next immediate meeting on September 8th. It might then pause in the last meeting of the year in November to assess the balance between inflation and recession risks before undertaking any action thereafter.
Such relative monetary policy tightening will occur at a time when the economy is likely to recover well still, broadly speaking, even though we might see a comparative slowdown in momentum due to global factors. To that end, it is heartening to note that Malaysia had started the year on a strong footing, with the GDP growth clocking a higher-than-expected 5.0% yoy, for instance. Still, the potential headwinds posed by a slowdown in the major economies are likely to present tougher times for the Malaysian economy. As fortunate as it is to enjoy a domestic demand uplift, the exports component cannot be ignored, on its own and on account of how it feeds to the overall economy through employment recovery, especially.
Hence, even though our forecast for the full-year GDP growth would naturally go up to account for the upside surprise in Q1, the outturn for the later parts of the year looks less promising than before. In net terms, we now see the full-year 2022 growth at 5.7% YoY, a measured uptick from 5.4% before. Furthermore, should growth outturns in major export destinations such as China and the US slow down markedly from here, Malaysia’s growth trajectory will be weighed down, as well, unfortunately, even if remains respectable.
When it comes to the exchange rate movement, our view is that the recent relative weakening in the Ringgit vis-à-vis the US dollar should be seen in the context of the broad dollar strength, rather than a move pertaining to the Ringgit. Against a basket of currencies, the Ringgit has recently rebounded and is trading at levels near the peak strength since September 2020. On a 6-month horizon, the MYR outperformed the INR, THB, PHP, TWD, KRW and JPY, but underperformed the CNY, IDR and SGD.
USD/MYR is biased to the upside near-term on broad dollar strength as global recession worries grow, while BNM is likely lagging the Fed in hiking rates in relative magnitude of the move. Next resistance for USD/MYR is not far away at the recent high of 4.4255, while support sits at 4.4000. Further out, when the most aggressive Fed rate hikes are out of the way, and with potential for Malaysia’s current surplus to widen back (when imports bills and repatriation of income normalise), there is room for USD/MYR to fall towards 4.3800 by year-end.