The Greenback and Malaysian economy

This post is written for my column i malaysian Insider, whcih was published today. I will post the revised version here.

Malaysian Insider

From the Greenback to Malaysian Economy

SEPT 4 — The signs are there that the US dollar is making a comeback. The US economy has been sluggish and badly affected by the sub-prime fiasco. However, many economists believe that the effects of a US economic slowdown would not affect the rest of the world as much as before, especially with China being the new growth engine — this is what is called “decoupling” in economic terms.

In actual fact, when the US sneezes, the rest of the world still catches a cold.

Signs are there that Eurozone is slowing down. In Germany, according to one report, industrial orders dropped almost 3 per cent in June this year; and Germany accounts for a third of Eurozone’s output.

In the UK, the economy is slow and at best sluggish. The latest IMF forecast revises the growth rate to 1.1 per cent from an earlier forecast of 1.7 per cent in 2009.

New Zealand is also facing the prospect of consecutive quarters of negative growth, pushing it into official recession. In Australia, consumer spending is sluggish, and the central bank cut interest rates on Sept 2 by 0.25 percentage point to 7 per cent, making it the first cut in interest rates in seven years.

What this means is that with the slowing down of the US economy, the rest of the industrial world, including the UK and Eurozone, is on the brink of a recession.

If the rest of the world is in recession, demand for goods manufactured in China will decrease. Inventory in China will inevitably build up and China will be facing a slower growth too.

In order to stimulate growth, the UK and Eurozone, like Australia, may have to lower interest rates. This will lead to a scenario where the interest differentials between US and the rest of the industrial world will narrow, making US dollars more attractive again.

That is why the US dollar has been strengthening against the euro and the pound sterling the past few weeks, and this trend will most likely continue.

On the other hand, with the slowing of the world economy, demand for commodities and crude oil will likely fall, making crude oil and commodities cheaper.

What has this got to do with Malaysia?

Well, chances are the US dollar will most likely strengthen against the ringgit too. As a result, it is likely that imported goods, most of them denominated in US dollars, will be more expensive, making our inflation worse.

While crude oil prices may come down, Malaysia, being a net exporter of oil, would not benefit much, as our revenue will decrease with the decline in crude oil prices. A decrease in commodity prices would also have an impact on our economy, and revenue from this would likely decrease.

So, brace yourself for a lower ringgit. Without wanting to sound cynical, it is a fact that Malaysians are used to seeing our currency drop lower and lower — the classic case is the ringgit versus the Singapore dollar, we have been on a straight-line decline since the Seventies — and if we are not careful, we may see our currency dropping further.

What props up a currency has a lot to do with the economic health of a country.

The recent unveiling of Budget 2009 reveals certain worrying trends that we are facing. Our operating expenditure for 2009 will be RM154.2 billion while a comparatively lower amount of RM53.7 billion is earmarked for development.

The operating budget is too huge and increasing at too fast a rate for comfort. From just about RM80 billion in 2004, it has almost doubled in just four years. If this trend is not checked, we will soon run out of money to develop our country.

The increase in spending results in a deficit budget. A deficit budget for a short period is acceptable to help jumpstart the economy. But for Malaysia, we have had a deficit budget for 13 years in a row now, which is too long a period for comfort. In layman’s terms, we are in fact spending borrowed money and living beyond our means. We would only be passing the burden to our children, who would be the one servicing the repayment in later years.

What is needed urgently is to stress efficiency and productivity in the civil service, cut down on unnecessary wastage in running the government, and tackle corruption and abuses in the administration.

Otherwise, in the near future, when our oil runs out, we will not only be having a worthless currency but would also be staring at poverty and possibly bankruptcy. And that day may come sooner than we all realise.