Out of a quake, into a shock

Standard & Poor’s has cautioned that Malaysia could join India and Japan which may have lower sovereign ratings because they have yet to come out of the 2008 economic meltdown.


JUST when we figured the winds of fury have abated along with the tsunami and earthquake which rattled Japan in March, one of our significant trading and industrial partners, comes another shock.

The reverberations across global equity markets following Standard & Poor’s sovereign downgrade of the US are still being felt and the aftershocks are being expected in the US (depending on how the US Federal Reserve will react next week) and elsewhere.

The US, the world’s largest economy, has been enjoying the prized S&P’s “AAA” rating with the others of its ilk namely France, Germany, the UK, Hong Kong, Singapore and Australia before it slipped one notch to “AA+” because of its government debt, which has soared to US$14.3 trillion (RM42.9 trillion).

According to S&P, one of the three major credit rating agencies in the world, the projected deficits in the years to come do not warrant the prime rating that the US has enjoyed since 1941.

Credit ratings are important for countries as they seek international funding for development and any downgrade would mean higher borrowing costs.

Malaysia enjoys an “A3” sovereign rating from Moody’s while it is ranked an “A-” by S&P.

On Thursday Fitch Ratings affirmed Malaysia’s sovereign ratings with a stable outlook but expressed its concern about the structural weaknesses in the public finances as well as over dependence on petroleum-linked revenues.

In the case of S&P, it has also cautioned that Malaysia could join the ranks of countries like India and Japan, which may have lower sovereign ratings because they have yet to come out of the 2008 economic meltdown.

Just like rating agencies are being hurled accusations at in Europe, S&P is also facing the heat in Washington.

But even if Paul Krugman may question S&P’s credibility after the Lehman Brothers issue, saying the US downgrade should not be taken seriously, there are many immediate effects of the downgrade which will impact the frail economy.

Prospects of a weaker economic growth in 2011 have given rise to the R word in US again, and soothsayers have warned that the bloodletting this time will be worse than before.

Events in the coming days, weeks and months will reveal the degree of the volatility in the financial system following the downgrade and already the prospects of a third quantitative easing (QE3) have been reignited.

One of the domestic rating agencies said a worst-case scenario could mean an extensive capital flight from US-centric assets, which would lead to a decline in the value of the US dollar. Would that lead to hot money entering our shores?

Apart from the US, Asian economies are watching warily Europe’s sovereign debt problems, the impact on financial stability and what gives to investor confidence.

Although Malaysia may have a low percentage of US Treasuries unlike many other Asian economies, the economy is closely tied to that of the US.

One economist estimated that a 1 per cent fall in the US growth would reduce Malaysia’s GDP growth by about 0.8 per cent during a downturn. But the negative impact could also blow up to about 1.6 per cent should the US undergo a recession.
On Wednesday, Bank Negara Malaysia governor Tan Sri Dr Zeti Akhtar Aziz will most likely announce growth numbers which are weaker than the 4.6 per cent which the Malaysian economy saw in the first quarter.

The deceleration is broadly expected. Yet to be confirmed is whether the slower growth in the second quarter would be a trough before the growth curve picks up on domestic economic activities, hence lending stronger growth numbers for the second half of 2011.

Chances are Malaysia will record a growth which is on the lower end of the 5-6 per cent official forecast, on the assumption that many of the projects announced under the Economic Transformation Programme are implemented.

Zeti will also give her take on the impact of the downgrade on the Malaysian financial market scene.

So far, the market has reacted saying it could be a knee-jerk reaction and that the ringgit may see an appreciation to RM2.90 to the US dollar but the central bank is also more likely to intervene to ensure “orderliness”.