FACED with higher costs and expectation of weaker domestic sales, most local manufacturers are generally pessimistic about business conditions in the first half of the year.
Most are generally gloomier than they were in the second half of 2016 but more optimistic than in 2015 and the first half of 2016, going by the latest findings in the biannual Federation of Malaysian Manufacturers-Malaysian Institute of Economic Research Business Conditions Index.
The FMM-MIER index for expected business conditions in the first six months of 2017 fell seven points to 100 (from 107 points in 2H2016) with only 26% of respondents expecting business conditions to improve. Another 26% see a downward trend while the remaining 48% expect things to remain the same.
The headline survey showing is better than the sub-100 points in 2015 and 1H2016 (the 100-point mark is the confidence threshold).
Nonetheless, most manufacturers are noticeably more concerned about production costs rising further in 1H2017 even as domestic sales wane and exports are not expected to increase much.
“It is understandable why manufacturers expect business conditions to be subdued, especially those who cater for domestic demand, which is weak. The gross domestic product for 4Q2016 shows that domestic demand slowed sharply to 3.3% from 4.6% in 3Q2016,” says RHB Research economist Peck Boon Soon.
However, several economists opine that this pessimistic view of business conditions could lift soon. The Nikkei Malaysia Manufacturing Purchasing Managers’ Index, or PMI, for instance, rose to 49.4 in February from 48.6 in January — the highest reading since May 2015.
“Going by recent global indicators, PMI, trade and regional export performance, economic conditions are improving. Also, the way markets are behaving would suggest that despite lingering global policy and political risks, the balance of risks is still seen as tilted towards the upside with wider use of fiscal expansionary measures to lift growth,” says United Overseas Bank (M) Bhd economist Julia Goh.
Meanwhile, the data for January exports came in strong, surprising many. Exports rose 13.6% to RM70.2 billion from a year ago, backed by higher sales of electrical and electronic goods, palm oil and oil and gas-related products.
Affin Hwang Investment Bank economist Alan Tan believes that business conditions should recover in the second quarter of this year. “Business sentiment in 1Q may be weak because it is reflective of what happened in 4Q2016, when there were uncertainties about China’s growth, the ringgit weakened against the US dollar and there was news about US President Donald Trump’s potential protectionist policies, among others. But with economic indicators showing improvements and the export of manufactured goods picking up across Asean, it could mean a healthy Business Conditions Index in 1H2017,” he says.
Peck, meanwhile, opines that as sentiments on business conditions improve, the feeling would gradually trickle down to consumers, thereby lifting consumer sentiment, which has been weighed down for some time now.
Economists see export strength as the “swing” factor for how strongly the Malaysian economy will fare this year. Prime Minister Datuk Seri Najib Razak recently raised the official GDP forecast to between 4.5% and 5% from 4% to 5% last October.
Peck thinks the recent rebound in exports is real and sustainable as it comes on the back of a recovery in US demand while China demand seems to be picking up and growth in Europe is maintaining its momentum.
Nevertheless, economists are waiting to see how US trade policies and fiscal stimulus plans pan out in 2H2017. This could determine how well the Malaysian economy performs this year, in turn deciding whether business confidence improves in the later part of the year.
“US fiscal stimulus, in principle, could boost demand for commodities, which should help Malaysian exports. But if the fiscal easing in the US is accompanied by border adjustment or trade restrictions, the impact on Asian supply chains would not be positive,” says J.P. Morgan chief Asean economist Ong Sin Beng.
“As Malaysia’s manufacturing sector is closely tied to this supply chain, exports would be negatively affected. At the same time, easier US fiscal policy will lead to higher interest rates, tightening global financial conditions. Given that Malaysia continues to depend on foreign portfolio flows, a rise in US rates will slow capital flows and put Malaysian monetary policy in defensive mode.”
Affin Hwang’s Tan says the US will be selective about the tariffs imposed on China goods — they would be product-specific rather than across the board. During his campaign, Trump said he would impose as much as a 45% tariff on China’s exports to the US.
This downside risk aside, economists think the Malaysian economy is in better shape now than last year. “The local economy has turned the corner. The recovery in commodity prices has not only buffered growth but also lessened worries that Malaysia’s current account and fiscal position could head further south,” says UOB’s Goh.
Tan, who recently raised his GDP forecast to 4.4% from 4.2%, shares the same sentiment. The slowdown in domestic demand will be offset by better export numbers, he says.
However, J.P. Morgan’s Ong opines that the medium-term outlook for the local economy remains unclear. Malaysia, he says, is a small, open economy that is directly affected by external conditions and poor global demand. “This makes domestic policy that much more important in mitigating external shocks. Fiscal revenue is also sensitive to global energy prices. This year, we expect some fiscal space being created by higher energy prices, which is likely to be spent on increased infrastructure outlay. China’s participation in the construction of the East Coast Rail Line has also eased funding constraints. While such projects provide a buffer for poor global demand, by the same token, should any of these infrastructure projects stall or be delayed, there would be a knock-on impact on Malaysia’s growth,” he explains.
Ong believes Malaysia’s GDP could grow 4% to 4.5% in the near term but over the medium term, the demographic tailwinds remain positive. “The challenge will be to provide gainful employment for these entrants to the labour force, which will necessarily mean that they are cost and skill-competitive with their regional peers. Thus, education and labour policies will remain key to fulfilling Malaysia’s demographic potential with its knock-on effect on growth,” he says.
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