This article first appeared in Capital, The Edge Malaysia Weekly on August 3, 2020 - August 9, 2020

THE US dollar has been on a downward trend after touching a high in March amid the global market rout. In July alone, the ICE US Dollar Index, which tracks the value of the greenback against a basket of six major foreign currencies, fell 3.7%.

The greenback also depreciated to a two-year low last week on the back of escalating US-China tensions, worsening Covid-19 pandemic and uncertainty arising from the US presidential election in November.

At home, the ringgit rebounded 4.4% from a low of 4.4470 against the US dollar in March. But the local currency has been among the worst-performing Asian currencies so far this year, declining by 3.9% year to date. It closed at 4.2533 last Tuesday.

Is the ringgit poised for a strong appreciation as the US dollar weakens? How would it impact the local economy in the current challenging environment?

Sunway University economics professor Dr Yeah Kim Leng believes the strengthening of the ringgit is timely to ensure a more balanced growth for Malaysia, providing support to both exporters and importers.

“A strong ringgit will be positive for the economy in terms of making the import of capital goods cheaper, which in turn will help to support the upgrade of Malaysia’s industrial sector and cater for the import of technology and other capital equipment. That should be helpful,” he tells The Edge.

Although a strong currency does not bode well for local exporters, he says there will be a strong buffer for them in view of the significant margins they have been enjoying to date.

“For resource-based industries, the ringgit’s strengthening will not affect them too much because they do not have very large import content.

“Of course, it is preferable that the ringgit strengthens on a more gradual pace so that Malaysian industries will have ample time to cope with the strengthening of the currency. Currency stability is more important,” he adds.

RHB Research Institute chief Asean economist Peck Boon Soon is also of the view that exporters will be able to remain competitive despite a strong ringgit. “They (exporters) can still survive even if the ringgit strengthens to 4.0. They have been building up their competitiveness,” he says.

Dr Anthony Dass, group chief economist and head of AmBank Research and a member of the Economic Action Council Secretariat, says exporters such as rubber glove manufacturers and semiconductor and plantation firms may see their earnings being affected to varying degrees due to a stronger ringgit.

On the positive side, a strong ringgit will reduce import costs such as food and other items, thus reducing the pain from the rising cost of living.

Affin Hwang Investment Bank Bhd chief economist Alan Tan notes that economic adjustments will be manageable if the ringgit strengthens gradually against the US dollar. He is not expecting a sharp appreciation in regional currencies, including the ringgit, against the US dollar.

“In order for regional currencies to appreciate sharply against the greenback, the regional economy needs to recover strongly. Right now, the economy is by no means returning to normal. As long as there is still downside risk to the economic growth outlook, the ringgit will only move in a range of 4.20 to 4.30 by the end of the year,” he says.

Sunway University’s Yeah says Malaysia will be on track to see a firmer currency if the economic recovery can be sustained with no third wave of Covid-19 infections.

“We are likely to see firmer recovery supporting the ringgit, ranging between 4.15 and 4.20 against the US dollar in the near term,” he says, adding that the ringgit is still undervalued with the “reasonable level” being 3.9 to 4.0.

Yeah notes that there are a couple of negative factors weighing on the ringgit, such as a widening fiscal deficit and rising debt level.

Malaysia’s fiscal deficit is forecast to rise to 5.8% to 6% this year following the massive stimulus packages to mitigate the economic fallout from Covid-19.

Direct federal government debt stood at 53.2% of gross domestic product (GDP) as at June 2020, against the 55% statutory debt limit.

Meanwhile, Yeah sees the monetary policy having a minimal impact on the ringgit’s movement. “Even if there is another overnight policy rate (OPR) cut, it will not translate into a knock-on effect on the currency because other advanced economies are facing near-zero interest rates,” he notes.

RHB Research’s Peck concurs, noting that the positive yield gap is still in favour of the ringgit. However, he thinks the OPR should be kept unchanged as economic conditions have been improving.

Dass says a stronger ringgit will open the doors for monetary easing. “This means should the ringgit continue to appreciate, there is room for the OPR to ease further in September as a precursor to the ending of the six-month loan moratorium at end-September.”

Bank Negara Malaysia’s next Monetary Policy Committee meeting is due on Sept 10. The central bank has slashed the OPR four times so far this year for a cumulative 125-basis-point reduction to 1.75%.

Ringgit faces external, domestic headwinds

Despite the upward momentum, Socio-Economic Research Centre executive director Lee Heng Guie remains cautious about the ringgit’s gain.

“I still hold the view that the ringgit will trade at the 4.25 to 4.30 level till the end of the year. People expect the US dollar to continue to weaken, but there are a few things that we need to watch out for in terms of the US dollar trend,” he tells The Edge.

“First, whether there will be a third wave of Covid-19 infections, which will force countries to go back to lockdowns. Second, whether there will be a change in US policy after the presidential election. Third, the global recovery momentum.”

Even though oil prices have recovered from historic low levels, Lee sees the upcoming FTSE Russell review as another hurdle for Malaysia.

There are concerns that Malaysia could be excluded from the World Government Bond Index (WGBI) by FTSE Russell, after being added to its watch list in April 2019 for a potential downgrade in market accessibility level. The next review is due in September.

Lee says the recent outlook downgrade by both S&P Global Ratings and Fitch Ratings poses another headwind for the Malaysian economy. The downgrade was premised on concerns over the government’s weakening debt position over the next few years and political volatility.

“Investors will still be looking at some of the developments, including the upcoming Budget 2021 (and) any (other) measures to continue supporting economic recovery.”

If there is a third wave of Covid-19 infections, investors may flock to safe-haven assets like the US dollar, says Lee.

Nonetheless, he says investors will continue to buy Malaysian bonds despite being net sellers in the local equity market.

According to UOB Research, foreign funds purchased RM11.6 billion of domestic bonds in June, marking the second month of net buying. However, foreigners continued to sell RM3 billion of Malaysian equities although this was offset by strong domestic retail participation.

Given the potential downside risk to growth, Affin Hwang’s Tan is of the view that capital inflows to the region will be limited.

“Capital flows will eventually come back to the region, but the current concern is the resurgence of coronavirus cases. As long as global uncertainty remains, the Asean region will be vulnerable owing to lower exports, as it is highly dependent on external trade. While capital will still find the Asean market to be attractive, it is not going to come back in a big way for both the bond and equity markets,” he says.

As China’s economy is the world’s second largest, its currency also plays a major role in determining the performance of regional currencies, including the ringgit.

“Generally, China’s economic conditions are much better than the US’ in terms of the pace of recovery after the Covid-19 outbreak as it has been able to contain the spread of the virus. Together with the strong current account surplus, there is still room for the renminbi to strengthen.

“So far, China has been quite well behaved in coordinating its stimulus, employing a range of fiscal and monetary policies, giving people the confidence to hold on to its currency,” says RHB Research’s Peck.

On the other hand, he sees US dollar weakness gaining pace moving into 2021.

AmBank Research’s Dass does not rule out the possibility of the US dollar entering its fourth post-Bretton Woods bear market if the US’ economic momentum continues to lag the rest of the world in the recovery phase following the coronavirus pandemic.

“This is further supported by ample US dollar liquidity, owing to limited tolerance by the US Federal Reserve for US dollar funding shortages. Besides, even if a V-shaped recovery were to emerge, it is unlikely that the Fed will start tightening its policy aggressively relative to other major central banks.”

He expects the ringgit to appreciate by around 0.5% in the next three months and around 1% in the next 12 months.

Sunway University’s Yeah says the expectation of more US monetary easing will translate into further US dollar weakness.

“The US economic outlook is quite grim because of the rising infection rate, which suggests that the economy will not be fully reopened. Some states may experience further lockdowns and restrictions, which will further constrain the recovery, so we expect the US economy to be the worst hit and still not out of the woods yet.”

He believes the financial market volatility will persist until after the US presidential election. “That will also depend on what policy is to be taken, for instance, whether there will be a change in its policy on China. If the conflict continues to intensify, then global trade and investment as well as financial markets will continue to be at risk,” he notes.

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