KUALA LUMPUR (Oct 23): Escaping the middle income trap would continue to be a challenge for Malaysia, S&P Global Ratings said, adding that the modest income levels and vulnerability to global economic conditions constrain the country's economic resilience.

"Several factors temper these weaknesses: an open, diversified, and competitive economy with a moderately flexible labour market, reasonably developed infrastructure and a high savings rate," the international rating agency said in its "Banking Industry Country Risk Assessment: Malaysia" report today.

Nevertheless, S&P believes that the risk of imbalances in Malaysia's economy is low, given slower credit growth and moderating property prices in recent years.

"Government and regulatory measures to tighten lending and deter speculation have moderated price increases, and we believe that the government is committed to stabilising property prices."

S&P credit analyst Ivan Tan said the agency is of the view that Malaysian banks' asset quality may experience modest deterioration due to slower, but still healthy, economic growth.

"Nevertheless, we expect new loan loss provisions to remain low, given that non-performing loans are well-provisioned and increasing from a low base," he added.

S&P considers Malaysia's banking regulations to be broadly in line with international standards, viewing its corporate governance and transparency standards to be adequate and supportive of financial stability.

"The matured Malaysian banking system is competitive, but returns have been generally stable, reflecting the system's focus on recurring lending and fee-related income from its core business, with little dependence on volatile trading gains," Tan said.

S&P classifies Malaysia's banking sector in group '4' under its banking industry country risk assessment (BICRA), along with Estonia, Israel, Kuwait, Mexico, New Zealand, Saudi Arabia and Taiwan.

It said the anchor for banks operating only in Malaysia is 'bbb'.

"Credit risk is high because of Malaysia's high private-sector credit level relative to income. This is partially mitigated by the financial buffers and healthy debt-servicing ratios of the country's corporate sector," it added.