This article first appeared in The Edge Financial Daily on January 26, 2018

KUALA LUMPUR: The ringgit leads the pack in Asia against the US dollar. It continued to regain its strength surging to RM3.8855 versus the greenback yesterday — the highest level in 22 months since mid-April 2016.

The local currency has gained 4.14% to the greenback year to date. Some attributed the strong ringgit to Bank Negara Malaysia’s (BNM) decision on a 25-basis-point hike on its overnight policy rate (OPR) — the first hike in four years.

The rate hike is taken as an indication of the central bank’s confidence of a rather rosy picture of the domestic economy.

However, others attributed the ringgit’s appreciation partly to the current soft US dollar. There could be a reversal of trend when the US Federal Reserve adopts a hawkish policy to raise interest rates.

Since Jan 26, 2016, the ringgit has appreciated 9.498% to the greenback in the past two years. Meanwhile, the ringgit gained 8.84% to 5.5518 against the British pound yesterday, and 0.65% to 2.981 against the Singapore dollar. However, it weakened by 3.74% to 4.8306 against the euro.

Affin Hwang Investment Bank chief economist Alan Tan commented that the strengthening ringgit is a reflection of improving economic fundamentals.

“BNM’s policy that requires exporters to convert 75% of their proceeds to ringgit has played a role in the [strong] local currency. This has been a good move because it has created an increased demand for the ringgit.

“Net conversion between July and November 2017 amounted to US$7.7 billion. We expect net conversion to increase, meaning that demand for the ringgit would rise against the dollar,” he said.

Tan told The Edge Financial Daily that the sustained domestic economic growth would be supportive of the ringgit in the first half of 2018.

“So we see the ringgit hovering at this level so long as the US dollar continues its weak stride,” he said.

However, Tan cautions that if the US tax reform, which is expected to boost growth, were passed, it would be even more likely that the US Federal Reserve would raise interest rates, and hence a firmer US dollar.

On the local front, Tan believes that BNM would maintain its OPR for the first half of 2018 (1H18) and would observe the performance of the local economy before considering another rate hike in the second half of the year.

“The government expects domestic demand to sustain the economy in 2018, hence the rate hike in 1H18. I also don’t think the rate hike would dampen consumption spending.

“While the interest rate increase raises borrowing costs, we believe it would be minimal,” he added.

RHB Research chief Asean economist Peck Boon Soon noted that the softening US dollar has contributed to the strong ringgit.

“If the US dollar weakens further, there would be room for the ringgit to gain. The US dollar’s weak performance is partly due to the US government’s shutdown [on failure to decide on funds for government operations] with investors switching over to Europe where the normalisation of the [monetary] strategy [is  taking place],” he added.

The European Central Bank is pursuing a monetary policy normalisation this year in order to stabilise the economy, a move that is attracting capital flows in Europe, and has been propping up the euro currency.

“The uptrend in the ringgit and other currencies could persist until the new US Federal Reserve chairman comes onboard and decides how US policy rates should go.

“I don’t see any major development in the external market that could weaken the ringgit, and the US dollar does not look like it would strengthen anytime soon,” he said via telephone.

Conversely, Socio-Economic Research Centre executive director Lee Heng Guie said one should not rule out the headwinds on the ringgit as the current uptrend is obviously buoyed by crude oil price optimism and capital fund flows.

“Once the US economy comes back (improves), there would be pressure [on the ringgit] as the dollar would improve. Not everything is smooth [as it seems]. We are taking advantage of the global economy to keep our growth steady,” he said.

He added that the ringgit could expect a near-term hurdle which is the general election, following which the economy would become more stable.