PETALING JAYA: The Malaysian economy may feel the “heat” if the United States enters a recession next year, assuming more interest rate cuts by the US Federal Reserve (Fed) backfire and instead dampen its economy amid ongoing geopolitical risks.
Recall that between June 1999 and May 2000, the Fed raised interest rates to combat a 5% to 6% inflation rate.
Despite the dot-com bubble bursting and a 35% correction in the Nasdaq from March to April 2000, the Fed did not cut rates throughout that year.
It wasn’t until December 2000 that the central bank began to lower rates but by then, it was too late, and the United States economy slipped into a recession from March to November 2001.
At its latest Federal Open Market Committee meeting last week, the Fed announced an interest-rate cut of 50 basis points – the first reduction in over four years – due to slowing inflation and cooling of the job market.
Economists and analysts opine that while the United States’ potential recession could impact Malaysia, the latter’s open economy could remain resilient if the government implements appropriate reforms and initiatives.
Mohd Afzanizam says Malaysia is in a sweet spot now despite heightened external uncertainties.Despite various headwinds, economists project local economic growth of 4% to 5% for next year, with a similar forecast for 2024.
Gross domestic product (GDP) rose by 5.9% in the second quarter of 2024 (2Q24), up from 4.2% in 1Q24, underpinned by stronger private consumption and further recovery in exports amid a global tech upcycle.
Economic growth was further supported by greater capital formation activity from capital investments and construction works.
Bank Muamalat Malaysia Bhd chief economist Mohd Afzanizam Abdul Rashid forecasts the local economy to grow by around 5% next year, noting that despite the heightened external uncertainties, Malaysia is in a sweet spot now.
“We have seen net purchases by foreign investors in our equities and bonds in July and August. This may continue in September in light of the positive reviews by the credit rating agencies and global investment banks, which resulted in improved conviction among foreign investors.”
He said the government needs to remain steadfast in implementing its reform agenda and finding the right balance in sequencing the measures.
The government has rolled out a multitude of fiscal consolidation measures and it is acceptable for them to “take a breather” in order to take stock of what has been accomplished, he noted.
“If they can do right in implementing reforms, it will help boost their credibility and result in better buy-in from the rakyat. I suppose, with the right communication, foreign investors can eventually place a higher premium on Malaysian financial assets.
“The timing and order of the reform measures are crucial to prevent any economic disruptions.”
In addition to fiscal reforms, Mohd Afzanizam highlighted the importance of upcoming initiatives like the medium-term revenue strategy to minimise revenue leakages and to broaden the tax base, expenditure optimisation measures and the Government Procurement Act. These reforms are vital to ensure the economy remains strong, he added.
Ferlito: An easy monetary policy can cause a boom and bust cycle similar to the 2007-2008 global financial crisis.Carmelo Ferlito, Centre for Market Education (CME) chief executive officer and a faculty member at Indonesia’s Universitas Prasetiya Mulya, warned that an easy monetary policy can cause a boom and bust cycle, similar to the dot.com bubble and the 2007-2008 global financial crisis.
Additionally, excessively low interest rates can mislead investment decisions, driving the economy toward inflation.
“It is what is happening now with the tech bubble, not because of low interest rates, but because of excess money in circulation created by fiscal policies during the Covid-19 lockdowns.”
If a recession occurs, he said it would primarily stem from those expansive fiscal policies and near-zero interest rates, as he predicted back in 2021.
“My fear is that, if a recession comes, interest rates will be again driven down to near-zero, making the situation worse and blocking the deflation process, which is required every time there is excess money in circulation,” Ferlito noted.
RAM Rating Services Bhd senior economist Woon Khai Jhek said the agency has pencilled in a growth forecast of 4% to 5% for next year as the economy enters a more stable growth phase after several years of turbulence.
He noted that the economy is expected to benefit from the carry-over effects of the stronger momentum in 2024.
However, he cautioned that escalation of geopolitical conflicts would pose a risk to Malaysia’s growth prospects.
“Tensions between major economies, such as the United States and China, or China and Europe, could disrupt global supply chains, creating uncertainty for businesses dependent on cross-border trade.
He also highlighted that volatility in global commodity markets, exacerbated by instability in the Middle East, could dampen global demand.
“Disruptions in trade might lead to increased price volatility in key imports, elevating the risk of imported inflation and adding pressure on domestic producers and consumers.
“The unpredictable geopolitical landscape introduces downside risks to Malaysia’s export outlook, with spillover effects on the domestic economy,” Woon said.
Meanwhile, UCSI University Malaysia associate professor of finance Liew Chee Yoong said a potential interest-rate cut by the Fed could indeed increase recessionary risk in 2024 and 2025, depending on the context.
He explained that if the Fed cuts rates in the fourth quarter of this year, it could be a sign of concern about a slowdown in the US economy, as rate cuts typically aim to stimulate growth when economic activity softens.
Liew: The key challenges will be maintaining domestic growth momentum while navigating external headwinds.However, if inflationary pressures persist, cutting rates prematurely might lead to higher inflation while the economy is still slowing, leading to stagflation –characterised by high inflation and slow growth.
Liew emphasised that while rate cuts may aim to ease financial conditions, they could ultimately lead to an economic downturn, as US consumers and businesses may perceive the Fed’s action as indicative of economic weakness.
He pointed out that this risk is further compounded by global uncertainties, including geopolitical tensions and trade disputes.
“For Malaysia, the key challenges will be maintaining domestic growth momentum while navigating external headwinds. Policymakers will need to focus on strengthening resilience through fiscal policy, diversifying trade relationships and boosting domestic industries.
“A focus on sustainability, digitalisation and regional integration will be crucial for Malaysia’s long-term economic prospects,” said Liew, who is also a research fellow at CME.
OCBC Bank senior Asean economist Lavanya Venkateswaran said the house view is for the US economy to experience a soft landing with steady growth of 2.4% year-on-year (y-o-y), down slightly from 2.5% in 2023,
She expects a slowdown in domestic activity likely in the second half of the year, as a cooling labour market dampens consumption strength.
“The United States is one of Malaysia’s largest export markets and is also a key source of foreign direct investment.”
However, she noted that their forecasts account for potential reductions in US interest rates and some weakness in China.
According to Lavanya, the outcome of the US presidential elections and escalation in US-China trade tensions remain a risk to her forecasts.
For 2025, OCBC continues to expect GDP growth of 4.5% y-o-y for Malaysia, supported by the bottoming out of the global electronics export downcycle, higher investment spending catalysed by progress in the government’s medium-term economic development plans, as well as resilient household spending buoyed by strong labour market conditions.
