The contraction rate surprised most analysts as the economy had posted a modest growth of 0.1% in the final quarter of 2008, and Bank Negara Malaysia (BNM) governor Tan Sri Dr Zeti Akhtar Aziz warned that similar conditions prevailed in 2Q09.

The central bank said yesterday that manufacturing shrank 17.6%, mining 5.2% and agriculture 4.3% in 1Q09. It also said services slipped 0.1% while construction expanded 0.6% in the three months.

The sharp contraction was due to a significant deterioration in external demand. Zeti said the large inventory drawdown, particularly in the manufacturing and commodity sectors, also contributed to the decline in growth in 1Q09.

The economy was expected to stabilise in the second half of 2009 (2H09), supported by fiscal stimulus measures and steps to enhance access to financing, she said when announcing the 1Q09 economic data yesterday.

Zeti said inflation was expected to hit below 2% in 2H09 and  BNM was maintaining its forecast for inflation to average 1.5% to 2% this year.

Inflation rate moderated to 3.7% in 1Q (4Q08: 5.9%) due mainly to lower inflation in the food and non-alcoholic beverages and transport categories. Headline inflation continued to moderate to 3% in April.

To a question if conditions in 1Q09 were to prevail and if the central bank expected another contraction, Zeti said: “We are almost completing 2Q and the export demand continues to remain weak. It is likely to be similar (in 2Q09).”

However, she said: “We will see significant improvement in the third quarter and we are confident of positive growth in the fourth quarter.”

Zeti said the signs of improvement included better labour market conditions as retrenchment stabilises; continued lending activities by financial institutions; improved commodity prices from their lows; declining inflation that will improve purchasing power; improved performance of capital markets and improvement in consumer sentiment index.

The governor sidestepped a question on whether Malaysia was in recession by saying that it was not constructive to look at the usual definition of recession as two consecutive quarters of negative growth.

“We must look at the prospects (as a whole). There are various markets including the labour, the commodity and capital markets that are stabilising and all these support prospects of positive growth going forward,” she added.

On whether the 6.2% contraction was expected, Zeti said Bank Negara had already announced last year that growth would be significantly lower over the next 12 months.

“But the financial crisis was prolonged, so we are affected more than expected,” she said.

“There is a great deal of uncertainty but there will be improvement. This will depend on various factors including external conditions, stimulus packages, implementation of projects and access to financing,” she said.

The fiscal stimulus packages announced by the government were vital as they supported the economy as a whole, unlike packages in other countries that primarily addressed the financial system.

“Gradually the government can exit and leave the private sector to assume the responsibility of supporting the economy.

“It is because we took all these measures that the finance sector is strong to provide financing to the private sector now,” she said.

When asked if BNM was revising its gross domestic product (GDP) forecast for 2009, she said Prime Minister Datuk Seri Najib Razak would be announcing a new forecast today.

On the first quarter economic performance, Zeti said the significant decline in manufacturing (-17.6%) was led by a 23.1% contraction in the export-oriented industries.

“In particular, the E&E (electrical and electronics) industry contracted steeply by 41.4%. The domestic-oriented industries declined by 15.9% (4Q08: -2%) due to weakness in both consumer- and construction-related sub-sectors,” she said.

She said the services sector was flat following a marginal decline by 0.1% (4Q08: 5.7%), primarily affected by sub-sectors closely linked to the manufacturing sector.

The agriculture sector recorded a contraction of 4.3% (4Q08: 0.5%) due to lower output of both palm oil and rubber, while the decline in the mining sector of 5.2% (4Q08: -5.7%) was due to falling crude oil and natural gas production.

However, the construction sector turned around to register a positive growth of 0.6% (4Q08: -1.6%) and this was due mainly to an increase in construction of office space and the high-end segment of the residential sub-sector.

Zeti noted that the banking sector remained resilient supported by strong capitalisation and stable credit quality.

“Although profitability has been moderated by the conditions in the economy, the banking system remained financially sound, and supported by ample liquidity, is well positioned to continue meeting the financing needs of the economy.

“As at end-March 2009, the risk-weighted capital ratio (RWCR) strengthened to 13.4%, whilst core capital ratio (CCR) improved by 0.9 percentage points to 11.5%,” she said.

The strengthened capital ratios resulted from capital raising exercises by a number of banking institutions to boost their capital positions. Meanwhile, excess capital amounted to RM44.6 billion, Zeti said.

Pre-tax profit amounted to RM4.8 billion in the first quarter of 2009 while the annualised average returns on assets and equity were 1.7% and 19.9% respectively.

This article appeared in The Edge Financial Daily, May 28, 2009.