This article first appeared in Forum, The Edge Malaysia Weekly, on November 23 - 29, 2015.

WHERE is the economy heading? Recent statements by Minister in the Prime Minister’s Department Datuk Seri Abdul Wahid Omar in a national daily offer valuable clues.

Wahid has correctly diagnosed what ails the economy. True, the external environment is hardly supportive. The Chinese economy is going through a bad patch. There is the Chinese stock market meltdown but more importantly, its growth forecasts have softened. That has obvious risks for Malaysia’s export-oriented sectors because China matters a lot to Malaysia’s trade figures.

China’s problems are likely to be long-drawn. The country has been on an aggressive growth path, which cannot be sustained indefinitely. There is much under-utilised capacity that will put a dampener on growth. 

Not that this is the end of China’s growth trajectory. On the contrary, this is an opportunity for China to reconsolidate. The first step in that direction is to undertake domestic reform. The focus of attention is on strengthening institutions and once that is accomplished, it is likely to be the platform for more growth and development. 

But institutional reform may take several years to accomplish. With China’s history running into thousands of years, three or five years of slowdown, for a spurt ahead, is a drop on the long path to global dominance.

Wahid also spoke of the reversal of funds to the US in view of a resurgence in its economy. It is hard to say if the US economy is on the road to recovery. Analysts are divided on that. Firm job figures will confirm any improvement in the economy, followed by a rate hike.

However, the rate hike did not take place the last time. It appears that it might actually happen in December, at least if Federal Reserve chairman Janet Yellen’s hints are to be taken seriously. That will be enough to give the Malaysian economy a kick in the shin. This will trigger a fresh outflow of portfolio funds from Malaysian shores, provoking another drop in the ringgit.

Wahid’s third factor is the downswing in oil prices, which is not working in Malaysia’s favour because it is a net exporter of oil and gas. Despite regular reminders and pious statements that the economy is highly diversified, our dependence on a narrow range of exports is highlighted whenever some product (be it from the oil and gas sector or the electrical and electronics sector) slumps in the global market.

The political economy of oil is complex and getting more intricate in its details. As far as its impact on the Malaysian economy goes, there is a strong possibility that the good news of oil prices rebounding will not be heard in the next two years. Oil prices hit bottom at US$40 per barrel but has risen to around US$50. It will probably be around US$57 next year. This is a far cry from the US$100 or so seen in earlier times.

Oil prices had inched up at the time of writing but things could go bad over the short term. Global demand might soften, driven by lukewarm requirement for oil from China. The threat is more likely to come from shale production. The nominal cost of oil production in Saudi Arabia is put at US$10 per barrel. The Saudis can wait and watch, maintaining market share as their objective rather than price. 

The number of oil rigs in the US has gone down. For the moment, it looks as if the Saudis have won the war but shale production is consolidating with a smaller number of producers. Analysts claim that the US$27 per barrel cost that shale producers now face could go down as the industry gets more productive and efficient. This means the war could go on and the supply of oil will continue to pour. Oil prices could stick at US$55 to US$57 for the next three years or so. The danger of it sinking to US$45 and below keeps lurking in the background. Whichever way it turns, it might be a good 10 years before the market sees anything like US$75 to US$80 per barrel. This means there will be no let-up in the downward pressure on the ringgit for several years.

Wahid’s final point is on domestic sentiment putting a strain on the ringgit.  Here again, he is right but perhaps only partially.  The dynamics involved might be different from what he probably has in mind. The present administration has been under fire for a number of reasons: the prime minister has been criticised for his administration, the 1MDB scandal still hangs in the air and the political climate is divisive. 

The unresolved 1MDB case provides fodder for attack and raises questions about the integrity of institutional processes in government-linked companies. The debates within the ruling party raise the risk of regime change. None of this helps the ringgit. In all likelihood, a fragmented political climate will prevail until the next general election, which implies that political uncertainties will cloud the atmosphere for the next two years or so.

The weak economic sentiment caused by broader elements, particularly external factors, tends to breed domestic political instability. When the economy is doing well, there is little to complain about; a less vibrant economy is taken to imply poor political leadership, even if the government is a mere pawn that is tossed by larger economic forces.

Little wonder then that Bank Negara Malaysia governor Tan Sri Dr Zeti Akhtar Aziz has urged caution. She is reported to have stressed that “to say it is not a challenging period is denial and a lot is beyond our control”. She has also said that those with savings would be able to ride out the challenging period but warned that they would have to manage their affairs carefully. She also remarked that “we need to be in a position to withstand this kind of period”.

The factors that Wahid has adumbrated seem to be determinants that will not vanish by snapping our fingers. They could stretch into the horizon for the next couple of years.

One wonders if the Malaysian economy has hit a new equilibrium, one that is suboptimal, but inevitable.

Dr Shankaran Nambiar is a Senior Research Fellow at the Malaysian Institute of Economic Research. The views expressed in this article are his own.

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