This article first appeared in The Edge Financial Daily on January 22, 2019

KUALA LUMPUR: If there is one thing economists globally have agreed on over the past year, it is the global economy is not heading for a recession, at least not yet.

However, there is growing pessimism about the ability of countries to sustain growth. World Bank senior director for development economics Shanta Devarajan told The Edge Financial Daily that the world is currently facing two major risks that will affect emerging markets — the rising trajectory of US interest rates, and more importantly for Malaysia, the US-China trade war.

In particular, Malaysia’s openness and dependence on trade to sustain economic activities make it more vulnerable to downside risks, especially when a slowdown in China, consuming some 50% of the world’s non-oil minerals, could have a large impact on commodity prices.

“Developing countries can best benefit by signing free trade agreements (FTAs) with every country ... and lowering their tariffs. [This makes countries] more competitive in potential market openings,” Devarajan said in an interview.

Malaysia is currently in negotiations to sign two major regional trade agreements — the Comprehensive and Progressive Agreement for Trans Pacific Partnership (CPTPP), and the Regional Comprehensive Economic Partnership (RCEP).

Minister of International Trade and Industry Darell Leiking had previously stated the government “will not be pressured into ratifying the CPTPP”, but in a recent interview with the South China Morning Post, he raised the possibility of striking bilateral trade agreements instead. His deputy, Dr Ong Kian Ming, had also indicated Putrajaya was looking to conclude RCEP talks by year end.

Devarajan acknowledged a significant opposition to particular details of the CPTPP, but believes on principle that it is “a good thing”.

As investor state dispute settlement and intellectual property rights provisions in the CPTPP are perceived to favour foreign firms over Malaysian consumers’ welfare, opponents — most notably the Council of Eminent Persons member Prof Dr Jomo Kwame Sundaram — have criticised the concessions Malaysia must make to foreign firms for what he considers to be meagre trade gains.

Still, the need for Malaysia and its East Asian neighbours to improve their trade positions is ever more pressing considering China’s economy appears on track for a decade-long slowdown (see chart). Yesterday, China announced its slowest gross domestic product growth rate since the 2009 financial crisis of 6.4%, with Bloomberg highlighting the country’s ongoing debt clean-up and trade tensions.

Malaysia is likely to be affected by any spillover of China’s slowing growth as it is the country’s largest trading partner. From January to November 2018, it accounted for RM127.4 billion or 13.9% of Malaysia’s exports, according to the Malaysia External Trade Development Corp’s data.

However, Devarajan noted a bright spot on the horizon. “There have been periods such as this before where China faced slowdowns in growth and they have always been able, in the past, to introduce some kind of stimulus to smooth out that shock. Its track record makes me hopeful that they can do that, but that is the risk.”

Indeed, last Wednesday the Chinese government pumped another US$83 billion (RM341.13 billion) into its financial system to avoid a cash crunch, taking the total cash injected into the economy to US$169 billion for the week, according to Bloomberg.

Additionally, it had also implemented tax cuts, and lowered reserve requirements for its banks, and funding costs in an attempt to boost growth.

Not everyone is as optimistic that China can successfully stimulate growth. Manulife Asset Management senior strategist for Asia Geoff Lewis opined that China is unlikely to return to the high growth rate of up to 7% anytime soon, despite the expansionary steps taken.

“It has been said they are looking at cutting the value-added tax [at 16% in China and is similar to Malaysia’s sales and services tax], but that will only have a small multiplier effect,” Lewis told The Edge Financial Daily.

He added that China can no longer rely on its consumers to drive growth, citing a Credit Suisse report from September 2018 highlighting a rising debt servicing cost eroding the Chinese’s disposable household income.

That said, Devarajan and Lewis said it is unclear whether China is seeing a deceleration worth panicking about. The constant revision and a lack of complete data are a missing link.

“The Chinese economy is certainly slowing; there is no doubt about that. Whether it is going to fall precipitously ... that is the thing we do not know,” Devarajan said.

Malaysia’s fiscal buffers in a bind

There are several areas where Malaysia can breathe easy — it is not on the list of the world’s most highly indebted countries, which includes Argentina, Turkey and Tunisia. However, at the same time there is a limited space for the government to support the economy during a downturn.

“What concerns us with regard to debt is Malaysia does not have much fiscal space. If some of these risks materialised and there was a need for a fiscal stimulus to support growth and protect the poorest [people] from the impact of a shock, there is not much space to do that,” World Bank lead economist for Malaysia Richard Record said.

This makes it all the more important for the government to diversify revenue, lower the deficit and to build fiscal buffers now, he said. “In other words, fix the roof while the sun is shining,” Devarajan added.

On rating agencies, Record opined that transparency and clarity on policy choices are best in maintaining certainty for investors. “The reality is the Malaysian government has to balance a very fine line between [accounting for] slowing global growth and external drivers on the export side, as well as moderating debt and bringing down the fiscal deficit.”

Record said although the government is on the right track, this could take several years to get where it needs to be in debt management and revenue diversification.

Devarajan suggested that Malaysia look to several other countries for inspiration, such as Norway and Chile having used “countercyclical fiscal policies” to help maintain fiscal resilience.

“In Norway, when oil prices go down, national income actually goes up even though it is a major oil producer,” he said. This is because Norway’s sovereign wealth fund, the largest in the world with over US$1 trillion (RM4.11 trillion) in assets, has invested heavily in green energy and non-oil-dependent sectors.

Chile, with an independent fiscal policy in the same way most countries have independent central banks, is another example. “When there is a boom in copper, the law [states] a certain percentage of revenue has to be saved ... that ties the finance minister’s hands,” Devarajan said, noting this prevents the government of the day from splurging on handouts during, say, elections. “That is exactly the right thing to do — save for a rainy day.”

With Malaysia’s economic growth expected at above 4% this year and a recession not on the cards just yet, the government still has an open but narrowing window of opportunity to do that.