Economics – US: Expecting A Soft Recovery In 2H09

December 1, 2008 at 8:56 am Leave a comment

United States – Federal Reserve expects the economy to shrink until June 09, before recovering in 2H09. This is generally in line with our forecast that the economy would reach the trough in 1Q09 and gradually recover from 3Q09 onwards. The central bank lowers its real GDP growth projection further and this
indicates that economic statistics for the next few months may surprise on the downside.

The minutes of the Federal Open Market Committee meeting held on 28-29 October 08 brimmed with gloom and doom. It does not come as a surprise, for a number of adverse financial developments had influenced the economic and financial market conditions over the inter-meeting period. They included the bankruptcy of Lehman Brothers Holdings, the financial deterioration of the American International Group and Wachovia Corporation, and the closing of Washington Mutual, to name but a few.

The minutes of the meeting highlighted that economic conditions had deteriorated in recent months. The labour market weakened further, as private payrolls fell at a faster pace. Industrial production declined, although the drop was largely due to hurricanes and a strike at an aircraft manufacturer. Consumer spending declined, as real income stagnated and credit tightened. The housing market remained weak, with construction activity, new home sales, and home prices falling further. Business spending shrank further as well.

Considering the worsening economic situations, the Federal Reserve lowered its projection for economic activities in 2H08, as well as in 2009 and 2010. Indicators pointed to another decline in real GDP in 4Q08. The central bank expected that real GDP would continue to contract somewhat in the first half of 2009 and then rise in the second half next year. All in all, real GDP would be about unchanged for next year. In 2010, the Federal Reserve expected real GDP growth to pick up to near the rate of potential growth, as restraints on household and business spending from the financial market tensions ease and contraction in the housing market comes to an end.

Based on the latest economic assessments by the Federal Reserve, it is not surprising that both the housing starts and the building permits for October 08 continued to slump. The yo-y change in the housing starts dipped from -27.6% in September 08 to -40.0% in October 08, while that in the building permits fell from -37.0% to -40.1% during the period (see Figures 2 and 3). This is not only an indication of a worsening private
consumption expenditure in the United States, but also a sign of pessimism about the near-term prospects for the housing market among the home builders. Be that as it may, a sharp decline in both the housing starts and the building permits suggests that the supply of new houses in the country is diminishing substantially. This offers hope that the falling home prices in the America may reach the bottom sooner than

Malaysia – There is little reason for Bank Negara Malaysia not to slash the Overnight Policy Rate to moderate the impending slowdown in the Malaysian economy. First, a significant cut in the forecast of economic growth for 2009 from 5.4% and 3.5% by the government suggests an urgent need to loosen monetary policy. Second, high inflationary pressure in the domestic economy will be a thing of the past soon. Third, given a high public budget deficit, the total fiscal stimulus package that the government can come up with will be quite limited. Fourth, as the export sector will be slowing to a crawl, the local consumer spending is the only catalyst to achieve the growth target.

We all are waiting with bated breath for the outcome of the Monetary Policy Committee meeting today. Some expect that the Overnight Policy Rate to remain unchanged, while some think that Bank Negara Malaysia will budge on the benchmark interest rate this time. We hold the view that the central bank would slash the Overnight Policy Rate by 25 basis points to 3.25% today.

Based on the Consumer Price Index for October 08, one can safely say that inflationary pressure in the domestic economy is no longer a concern for Bank Negara Malaysia. The Consumer Price Index trended down from 8.5% in August 08 to 8.2% in September 08, and to 7.6% in October 08 (see Figure 4). Given the current global market prices of mining and agricultural commodities, it is only natural to expect inflationary pressure in the country to continue to ease off into next year. As the Malaysian economy
runs the risk of slowing down substantially, there is every reason to expect the central bank to lower the benchmark interest rate in the last Monetary Policy Committee meeting for this year.

The fact that the government significantly cuts its forecast of the Malaysian economic growth for 2009 from 5.4% to 3.5% implies that there is now a strong reason for Bank Negara Malaysia to slash the Overnight Policy Rate. While the government has come up with the RM7bn Economic Stimulus Package recently, the impact arising from a fiscal stimulus package alone will be quite limited. If both fiscal and monetary policy measures could be implemented together to pump prime the economy, the multiplier effects would be undoubtedly greater and broader. Especially with a high government budget deficit as a percentage of GDP of 4.8% estimated for 2009, the government is not likely to come up with another fiscal stimulus package of the same scale anytime soon. Therefore, it is crucial that both fiscal policy and monetary policy are carried out in tandem so as to maximise the potential economic impacts arising from them.

It is actually a foregone conclusion that the growth of the export sector of Malaysia will be quite discouraging over the near future, given that half of the world economy is now in recession. The only growth pillar that can expand the Malaysian economy by a moderate rate of about 3.0-4.0% next year is the domestic-based consumer spending. Therefore, it is reasonable to expect Bank Negara Malaysia to gradually loosen monetary policy to keep private consumption expenditure in the country growing steadily going forward.


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Construction Weekly Review: 17th – 23rd November 2008 Oil & Gas Weekly Review: 17th – 23rd November 2008

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