Interest rates: The only way is up

Interest rates: The only way is up
By CECILIA KOK

IT has been a year of “free money”. Well, almost, especially so in developed countries such as the United States and Japan, where interest rates have sunk to near zero levels over the past one year.

In most other countries, including Malaysia, interest rates are nowhere near zero, but they have been hovering at their historical lows. So, in general, money in these countries has been generally “cheaper” than ever as well.

Now, let’s think of interest rates as the price of money and liquidity as the lifeblood of the economy.

From the time governments worldwide began slashing interest rates towards the end of 2008 and early 2009, they have essentially opened the tap for cheap money to flood the economy. They call it a loose monetary policy, and the strategy is to encourage businesses to borrow more to boost investments and households to save less and consume more to help bring life back to an economy seen then to be at risk of sliding down into an unprecedented, deep and prolonged recession.

To a certain extent, the strategy of a loose monetary policy has worked pretty well for most economies. But of course, the strategy wouldn’t have worked as effectively if not for the massive government spending on public projects and various other incentive programmes to stimulate their economies.

Rising stakes

But the stakes are rising, as the global economy gradually returns to a growth path.

For one, the low interest rates are seen to be fuelling the emergence of new asset bubbles, particularly in Asian economies such as China, Hong Kong, South Korea and Singapore, where property and equity prices have surged beyond what their fundamentals would justify.

There is also money chasing commodities, such as gold and crude oil, as investors seek to invest in assets that promise higher returns. And that has resulted in the prices of major commodities rising sharply.

The other concern pertains to the rise of inflationary pressure. The general price level of goods and services could accelerate as total demand in an economy continues to grow with the improving economy or as the rise of commodity and raw material prices continue to push up costs.

While the consensus view is that inflation is still a subdued risk for most economies at this stage, the next few months can present a different story. Already, the United Nations Food and Agriculture Organisation warned that global food prices had bounced back to a 14-month high last November. This could be just one of the signs of rising inflation risk.

The risk of inflation cannot be left unchecked, as it could result in the value of money being significantly eroded, and hence, the purchasing power of consumers diminished. So, amid the rising risk of new asset bubbles and inflation in a more stabilised and improved economy this year, the next sensible move expected of policymakers is to turn off the tap of super-cheap money by raising interest rates before their economies get overheated with other problems.

So far, Australia has been leading the world in raising interest rates. Since October last year, the country’s central bank has raised its benchmark interest rates three times by 25 basis points each to the present level of 3.75%. Local economists are now saying that the next meeting of policymakers at the Reserve Bank of Australia in February could result in a fourth consecutive rise in interest rates.

Most policymakers in other countries, including Malaysia, are still assessing the appropriate time to raise rates by weighing the risks of tightening too soon with remaining loose for too long.

Malaysia’s Monetary Policy Committee (MPC) at Bank Negara will meet at the end of this month to determine the level of the country’s benchmark interest rate, that is, the overnight policy rate (OPR), for the next two months. No change in the OPR is expected out this first meeting of the year.

In general, the MPC meets six times each year to decide on the direction of the OPR based on its outlook of the local economy and inflation expectations for the country. It is noteworthy that while one of the key priorities of the central bank is to ensure general price stability, policymakers do not actually have a targeted rate of inflation to determine the movement of the country’s key interest rates, unlike some other leading economies such as Britain, which has an inflation target of 2%.

The reason for this is that Bank Negara wants to be flexible in terms of providing ample support for economic activities in the country to expand.

One thing is clear at this moment – the pace of Malaysia’s economic recovery is already gaining momentum. Key economic indicators such as industrial output and trade have been showing consistent improvements over the past few months, and the country’s economy is seen to have broken out of recession in the fourth quarter of last year.

(For the first quarter of last year, Malaysia’s gross domestic product, or GDP, contracted 6.9%. The subsequent two quarters also saw a contraction respectively of 3.9% and 1.2%.)

But gauging the risks of rising inflation causing price instability is tougher as various factors come into play. Economists are cautious over the rising pressure of commodity prices as well as the Government’s restructuring of its subsidy schemes this year as part of its economic transformation plans.

Thus far the signal that Bank Negara has been sending out is that the current monetary policy stance is appropriate for the country, as it still believes the risk of inflation this year is modest. And while policymakers have not hinted at any rate change as yet, most private economists hold the view that the OPR is most likely to be maintained at 2% only until the middle of the year before the rate rise sets in in the latter part of the year.

Exactly when and at what rate, that’s anyone’s guess. But when the inevitable happens, the cost of obtaining credit will no longer be that cheap, although the incentive to save money in private banks will improve. For instance, mortgage and hire-purchase rates would rise, and so would savings rates as the fixed deposit rates.

And the uptrend of interest rates could also slow the rise of equity prices – which could be a good thing to prevent equity prices from overshooting beyond their fundamentals.

Certainly, the change in interest rates has a broader implication on the economy as a whole, but as in any case, if any change is necessary, a gradual one is vital to prevent any shock from happening.

The year that will be - We are sunk if we don't transform

The year that will be
A QUESTION OF BUSINESS
By P. GUNASEGARAM

WHILE a lot of us anticipate the New Year with hope, thinking in terms of new, fresh starts and such, there is often much trepidation too – the fear of what 2010 will have in store for us.

This week we have a special pullout with the theme “What lies ahead”. No, we have not quite turned forecasters as such, but we thought it would be useful for readers to have some idea as to what to expect this year and the key issues which are likely to crop up.

I hope you have some fun reading those pieces by our columnists and writers as well as the exclusive articles we have sourced from the world’s leading commentators. This should whet your appetite for information throughout the year, which no doubt you will process to find your way through the year.

Some things seem to be quite obvious at first look. Despite all that talk about a double-dip recession, growth is almost certainly likely to be better this year than last year’s dismal showing.

But that’s probably more than reflected in share prices, and if you think the share market will achieve new peaks, I don’t share your opinion. One of our writers (see the centre pages in the pullout) actually thinks we will reach new heights on the stock market but I prefer to be cautious.

The world will avoid a recession this year for sure, but it is what happens after that which is of greater concern. Further out, in 2011 and 2012, there are likely to be serious concerns about inflation and a readjustment process required to bring some semblance of order and regulation to markets.

With all that money pumped into the system, there is likely to be some inflationary threats sooner or later that will have to be tackled by restricting the supply of money into economies, especially the US economy. What that would do to nascent growth will be a matter of some conjecture. One can only make educated guesses.

For us in Malaysia, unless we can find quickly some sources of good growth, put the resources in to tap them quickly and make moves to sort out a myriad of long-term problems, including corruption and education, we will be pretty much stuck in the so-called middle-income trap.

If we stagnate there for too long while others make huge strides towards increasing their economic growth, which simultaneously increases incomes too, we may well slide downwards in our middle-income rankings.

Much depends on two things that we have embarked on and how successful they will be. They are the government transformation plan (GTP) to improve substantially the way we do things and a New Economic Model (NEM) to expand the economy more rapidly.

Key elements of the GTP have already been unveiled and later this month we should see the book which will reveal the plan in far greater detail. This plan will drive a change in the way we do things and bring results. If we achieve too little here, we are in deep trouble.

The NEM is expected to be released next month and a lot of us are waiting with bated breath to see what is on the cards that will provide a quantum leap for our economy and propel it into a high-income orbit.

Plans are one thing, execution is another. Which is why we need the GTP even if we have the NEM. The government needs to transform and quickly if it is to implement plans. Otherwise, we are all sunk.

In more ways than one, 2010 is a year of reckoning not just for the world but Malaysia as well.

Managing editor P Gunasegaram takes this opportunity to wish readers a very happy and prosperous New Year.

ASEAN chief warns FTA gov'ts against protectionism

ASEAN chief warns FTA gov'ts against protectionism
www.chinaview.cn 2010-01-01 12:13:54

By Cundoko Aprilianto

JAKARTA, Jan. 1 (Xinhua) -- Governments in the Association of Southeast Asian Nations (ASEAN) should resist temptation of protectionist measures by imposing non tariff barriers as the free trade area (FTA) between the region and China takes effect on Friday, the head of the association told Xinhua in an exclusive interview recently.

"Avoid that, in every forum that I have attended on behalf of ASEAN, we talked about the problem of protectionism, protective measures and it was all agreed that it's not going to be good for economic recovery, not good for economic health of any country of any region. Therefore every government will have to resist temptation of protectionist measures," Secretary General of ASEAN Surin Pitsuwan said.

Surin said that indeed the implementation would be a negative impact for people on some industrial and business sectors.

"But over all, protective measures are not going to help in the long run because they are going to do damage than help," he said.

According to Surin, the implementation of the FTA will be gradual so that livelihood and jobs would not be affected.

"We just have to make adjustment. We cannot just complain and not moving, not accommodating, not adjusting. That's not the way of future. The way of future is to be competitive, to be prepared, to open up and to benefit from the open space and open market out there," he said.

Surin said that since the comprehensive economic cooperation agreement was signed in 2002, the economy and trade cooperation between China and ASEAN has improved tremendously.

"In terms of trade alone, it was from about 60 billion U.S. dollars to 192 billion dollars in 2008. That's in five years. And the growth rate is almost 30 percent, which makes China a very quick and fast trading partner with ASEAN, up to number three now and I'm sure it will take over Japan and the European Union soon," he said.

Surin said that aside of goods and services, there would be investment liberalization between both sides.

"So, we hope that there will be more direct foreign investment from China to ASEAN. Together, we have attracted a great deal of investment already from around the world," he said.

Surin said that with a balanced growth, both sides would like to have an inclusive and equitable growth.

"People of China and ASEAN in general will benefit from this growth, rather than the fruit of the growth is being capped among small group of people," he said.

He also said that a closer economic cooperation, bilateral ties between both sides will increase.

"Middle class of China is expanding, which will be good for ASEAN products. Middle class of ASEAN is growing, expanding, which will be good for Chinese export and Chinese services," he said.

He said that East Asia is being expected to be a foremost locomotive for world economic recovery.

"With the coordination, we will make sure that our region will increase its influence around the world, will expand its profile and heighten its contribution to the global economic recovery," he said, adding that the center of growth will be very much anchored in East Asia.

The region is emerging very quick out of the crisis while China's growth in the midst of the crisis have been impressive of more than 8 percent and in 2010, it is expected to be almost 9 percent, said the secretary general.

"Countries of South East Asia are also emerging even though not at the same rate, but 3.4-3.5 percent. That's also very impressive in the midst of global slowdown," he said.

Surin also said that the relationship between China and ASEAN has been comprehensive, not only on economy, politics and security but also on people's health, climate, environment, culture, sport, drugs and other non traditional security issues.