This article first appeared in The Edge Financial Daily on November 4, 2019

KUALA LUMPUR: Malaysia’s manufacturing Purchasing Managers’ Index (PMI) climbed to a six-month high in October, thanks to trade diversion. However, economists need more than that to be optimistic about the manufacturing sector and the domestic economy.

The improving manufacturers’ sentiment on production, which is measured by the PMI, could be due mainly to trade diversions benefiting only the export-oriented companies, economists said.

The latest data released last Friday showed that the PMI was at 49.3 in October, compared with 47.9 in September, indicating that the underlying trend in the domestic manufacturing sector gained traction at the start of the fourth quarter (4Q), according to IHS Markit.

RHB Research Institute chief Asean economist Peck Boon Soon explained that the improvement may only apply to manufacturers that are focusing on exports as they are benefiting from trade diversions caused by the trade war between the US and China.

“Exporting is not too bad now, but the domestic market is still subdued,” he told The Edge Financial Daily. “Business people have been telling me that it is not so good on the ground,” Peck added.

United Overseas Bank (M) Bhd’s (UOB) senior economist Julia Goh, meanwhile, pointed to some signs of a temporary trade truce between the US and China in October. For instance, US President Donald Trump has been observed to be more open to trade negotiations with China.

This may explain why manufacturing firms have an upbeat perception about the future of trade activities, as news flow surrounding the trade talks has gotten positive so far.

“Another possibility is that businesses were restocking ahead of further tariffs,” she added.

Goh explained that her team would consider various other indicators, including business and consumer sentiment, as well as loan applications, to get a better gauge of the manufacturing sector in order to indicate that it is, in fact, going through a recovery.

She also noted that despite the October pickup, the manufacturing PMI remains below the 50-point level and signals contracting activity.

“At best, it signals that conditions have not deteriorated and some segments are experiencing higher orders in part due to a diversion in trade. Based on our channel checks, manufacturers remain cautious as trade uncertainties linger going into 2020,” Goh said.

Interestingly, the improved reading of Malaysia’s manufacturers’ sentiment coincided with China’s shrinking of its factory activity for the sixth straight month in October. The contraction was bigger than expected.

China’s PMI fell to 49.3 in October, versus 49.8 in September. Reuters reported last Friday that the world’s second-largest economy is facing heightened risks from slowing global demand and the Sino-US trade war, adding pressure on policymakers to roll out more stimulus to avoid a sharper slowdown and bigger job losses.

New export orders fell for the 17th month in a row in October, with the sub-index down to 47.0 from 48.2 in the previous month in China.

Total new orders, which includes those for export and domestic use, fell back to contractionary territory and erased September’s fleeting growth, suggesting continued weakness in demand at home.

In contrast, Malaysia’s rising PMI was attributed to new orders and output, with both indicators showing signs of improvement.

In the report on Malaysia’s PMI data, IHS Markit Chief Business Economist Chris Williamson said welcome signs of manufacturing turning a corner started to appear in October, hinting that the pace of economic growth could accelerate in the 4Q.

In fact, IHS Markit suggested that at current levels, the survey’s output index is broadly indicative of the economy growing at an annual rate in excess of 5%.

However, both RHB’s Peck and UOB’s Goh hold a more conservative forecast compared with Williamson. Goh has an economic growth estimation of 4.6% in 2019, while Peck said a more realistic projection would be around 4.5%.

Note that the World Bank has projected that Malaysian gross domestic product (GDP) would grow 4.6% for the whole of 2019, while the government itself is estimating a 4.7% growth.

It is also worth noting, however, that Malaysia’s economic growth accelerated to 4.9% in the 2Q of this year versus 4.5% in the 1Q — making Malaysia among the few countries in the world which recorded stronger expansion in the first half of this year.