During 1Q10, the global economy improved further with developing Asia as the leading engine of growth. This was made possible through sustained domestic demand and better global trade conditions. In tandem with regional economies, GDP growth strengthened to +10.1% yoy in Malaysia. The recovery was led by a strong revival in the manufacturing sector, especially export-oriented industries. The industrial production index (IPI) increased to +12.5% yoy in May 2010, despite a slowdown in the rate of growth of gross exports. On a mom basis, IPI advanced +3.3% (-3.8%: April 2010). Gross exports decelerated to +21.9% yoy in May 2010 due to weaker demand for electrical and electronic (E & E) products and the effect of a stronger ringgit. On a mom basis, exports increased marginally by 0.5% (-12.4%: April 2010). Overall CPI was up +1.6% yoy in May 2010 following a recovery in domestic demand. On a mom basis, it was higher by +0.3% (+0.0%: April 2010). Meanwhile, core CPI was sustained at +1.2% yoy in May 2010.

The banking system’s outstanding loan growth expanded further to +11.7% yoy in May 2010, following a recovery in domestic demand. Household loans growth sustained at +12.5% yoy, while business loans rose to +6.1% yoy. The 3-month net NPL ratio rose to 2.0% in May 2010 (due to technical adjustment for the adoption of FRS 139), while the risk-weighted capital ratio (RWCR) maintained at 15.0%. These measures indicated that asset quality remained healthy and capital base of the banking system strong. The growth rate of broad money (M3) up +9.5% yoy in May 2010, on account of stronger credit extension by banks to the private sector and larger government spending. Narrow money (M1) accelerated by +12.1% yoy.

However, sentiments have turned sour recently. The sovereign debt crisis in Europe has led to doubt on the sustainability of global economic recovery. Furthermore, continued policy-tightening measures by China have sent adverse shocks to economic agents worldwide. News flow from BP’s accident in the Gulf of Mexico and Australia’s proposed Henry Tax also heightened uncertainty among global investors. Other risks include possible implications from the US financial reforms and capital issues from the proposed Basel III banking sector regulations. Collectively, these developments have negatively affected sentiments towards numerous sectors, particularly the exporters.

In the recent G-20 summit on June 26, world leaders agreed to halve deficits by 2013, stabilise their debt-to-GDP ratios by 2016, and pursue higher capital requirements for banks by end 2012. The G-20 also pledged to maintain existing stimulus plans and take concerted actions to sustain global growth. Measures to reduce deficits and promote recovery will be country-specific. To confront these issues, measures were proposed under the 10th Malaysia Plan based on strategies articulated earlier in the Government Transformation Program (GTP) and the New Economic Model (NEM) to sharpen the competitive edge of Malaysia. These along with further liberalisation efforts in the services sector will attract greater investor participation in the long run. In terms of addressing the burgeoning fiscal deficit problem, subsidies will be reduced progressively and the tax base widened over the next five-year period.

Against this background, MIER will be revising upwards its 2010 GDP growth rate to +6.5% yoy from +5.2% previously. Economic growth is forecast to reach +5.2% yoy in 2011. This is supported by consumer and business confidence that remains firm, as measured by MIER’s Consumer Sentiment Index (CSI) and MIER’s Business Conditions Index (BCI), at 110.4 pts and 119.6 pts respectively in 2Q10. All sectoral indices recorded mix performances during this period, however. Private consumption advanced +5.1% yoy in 1Q10 due to strengthening consumer confidence and labour market prospects. Consumer confidence as measured by MIER’s Consumer Sentiment Index (CSI) fell 3.8 pts qoq in 2Q10; indicating cautious finances and employment opportunities. Household loans remained resilient at +12.5% yoy in May 2010. The number of retrenched workers continued to fall to 1,714 in 1Q10. Another indicator of private consumption, sales of passenger cars rose by +15.1% yoy in May 2010. This was also confirmed by MIER’s Automotive Industry Index (AII), which up 11.4 pts qoq in 2Q10 suggesting recovery in the sector. Accordingly, MIER expects private consumption to accelerate by +5.4% yoy in 2010 and further to 6.8% yoy in 2011.

Gross investment eased to +5.4% yoy in 1Q10 following weaker private sector outlay. Moreover, this was supported by a lower MIER’s Business Conditions Index (BCI) of 119.6 pts in 2Q10. In contrast, the Vistage-MIER’s CEO Confidence Index (CEO) settled higher at 129.1 pts in 2Q10. While recent measures such as the New Economic Model and the 10th Malaysia Plan contain some positive initiatives, execution risks and political determination will continue to drive the success in boosting the attractiveness of Malaysia as an investment destination. With stabilising domestic and external conditions, MIER anticipates gross investment to grow by +5.0% yoy in 2010 and be further elevated to +5.5% yoy in 2011. Following strong economic expansion, the fiscal balance to GDP ratio improved to -5.6% in 1Q10. Efforts to maintain this level throughout 2010 may prove to be difficult, especially given recent impediments in the proposed fuel restructuring as well as goods and services tax (GST) schemes. Furthermore, uncertainties from Europe which may cripple global recovery might require extended government pump-priming measures in Malaysia. Hence, MIER forecasts public consumption growth to decline by 0.9% yoy in 2010. Public consumption will then revert back to a positive rate of expansion of around 2.7% in 2011.

During 1Q10, both exports and imports of goods and services accelerated by +19.3% yoy and +27.5% yoy respectively, due to better global dynamics and trade conditions. The rates of expansion in both gross exports and gross imports have somewhat stabilised in April 2010 to May 2010 to +24.2% yoy and +30.5% yoy respectively (1Q10: +30.7% and +35.1% respectively). Moreover, the WTO has predicted a +9.5% yoy growth in global trade in 2010 (-12.2%: 2009), and the Transpacific Stabilisation Agreement recently projected cargo growth of 6.0 – 8.0%. Accordingly, MIER forecasts exports and imports of goods and services to rise by +9.8% yoy and +13.8% yoy respectively, in 2010. Growth rates will then normalise in 2011, to +8.8% yoy and +9.4% yoy respectively.

In tandem with economic recovery and higher global commodity prices, overall consumer price inflation is expected to grow by +2.2% in 2010. MIER anticipates the Overnight Policy Rate (OPR) to remain at 2.75% by end 2010. This is especially useful in assessing the effects of previous rate hikes as well as the repercussions from the European sovereign debt problem. Firmer economic expansion will also help to further lift the OPR to 3.25% in 2011.