Excerpt from the thestar.com.my
The ringgit, which has weakened along with other emerging market currencies against the US dollar, has all the strength to bounce back, said Second Finance Minister Datuk Johari Abdul Ghani.
“We should not panic,” he said.
I believe majority of the Malaysian citizen are worried, otherwise why the reassurance from the Ministry of Finance? I believe we should not panic, but maybe we can look at the facts and decide for ourselves. I am just thinking at what level should I start to panic? What do the indicators currently show?
The first thing in mind when I think of panic is fire. So thinking in a fire parallel:-
- How big is the fire? An inferno, a bush fire, or a little candle flame that we can control?
- What are the contributing factors to the fire?
- Is the fire being controlled or the fire is controlling us?
Lucky for us, we can look at economic indicators instead of furthering the fire analogy as thinking of fire makes me worry. I am trying to work out the answer for myself and sharing for you to form your own opinion.
According to Investopedia, the exchange rate is one of the most important determinants of a country’s relative level of economic health. Based on that, it is worth mentioning the 6 factors that influence the exchange rate.
Differentials in interest rate
The current key interest rate is 3%. From the above chart, we can see that we have room for interest rate adjustment. In the recent economic turmoil during the 1997-1998 Asian Financial Crisis, interest rates were almost reaching 14%.
Differentials in inflation rate
Higher inflation tends to increase the value of the currency over time. In view that developed economies like United States aim for 2%, Malaysia looks like it is in a comfortable position. However, inflation rate is not the only criteria. Investments in the emerging economies should provide an incentive which mean a higher real return on investment for foreign investment.
Therefore, all emerging economies are pressured to deliver more than the stable US Dollar Treasury interest rate. That is why all eyes are on the US Federal Reserve interest rate hike. On the other hand, if Malaysia’s economy is delivering strong growth, which investor would pull out?
Currency account deficits
World Bank expects Malaysian current account surplus to drop from 4.4% in 2014 to 3% in 2015. The forecast for 2016 is 2.1%. We do have a currency account surplus, it is just trending lower.
Moody’s Investor Service said Malaysia has higher external debt to GDP ratio at 66%. This is larger than other economies in the region. In contrast, neighboring Thailand is at 32% and emerging Europe is at a higher 78%. According to Moody’s, emerging market economies are becoming increasingly vulnerable to external shocks after decade(s) long debt build up. Is Malaysia’s public debt increasing or decreasing?
Terms of trade
Excerpt from Investopedia
A ratio comparing export prices to import prices, the terms of trade is related to current accounts and the balance of payments. If the price of a country’s exports rises by a greater rate than that of its imports, its terms of trade have favorably improved. Increasing terms of trade shows greater demand for the country’s exports.
Referring to the index points for terms of trade. To obtain the index points, the export value is divided by the import value. At 100%, the values of import and export are equal. For index point above 100% would mean that more capital is coming into the country. Similarly, for index point below 100% would mean that more money is spent on import than money accumulated from imports.
Were the high terms of trade index point during 2009 corresponding to the stronger RM vs USD? In 2016, it appears that we are trending below 100%, there is room that the situation could improve.
Political stability and economic performance
Foreign investors would pour in money to stable political climates and draw out money when there is perceived unstable political climate. I would say perception is key. I believe we have ample coverage for you conclude on your own.
Economics is definitely complicated and I believe the central bank have been proactive in introducing policies to support the Malaysian Ringgit. Sit tight and do not panic.
- Will ringgit bounce back?
- When will the ringgit bounce back?
- When is it time to panic?
You tell me and I certainly would not count on the central bank to issue an official statement on that.
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With more informed citizens, will the government take more tactful action to improve the financial system?