The ringgit has been in a secular decline, not only against the US dollar but also against the basket of currencies of Malaysia’s main trading partners. And this is due mainly to the country’s falling relative competitiveness in the global market. We articulated this in great depth a couple of weeks back and demonstrated mathematically how lagging productivity growth inevitably led to a weaker ringgit, for the country’s exports to remain competitive.
This is clearly a structural problem, the unintended cumulative result of decades-long poor government policies. To reverse the effects too will require structural reforms to specifically address the decline in the country’s long-term relative competitiveness. What must be done — to strengthen the economy, and raise the country to high-income nation status, in a knowledge-driven digitalised world — is a subject that has been very well-research and articulated, including by Bank Negara Malaysia and the World Bank. We have summarised some of the main points in Table 1.
We too have written on these issues in many of our previous articles. What we want to focus on, in this article, is the more immediate, short term. Yes, structural reforms are an absolute necessity. But any result, even if actions are taken today, will only unfold over the longer term. For politicians, these actions are often too long term for their attention and serious interest. The depreciation of the ringgit, however, is an urgent problem that must be addressed right now.
There are genuine concerns. For one, a weak ringgit raises the cost of imports, for goods (consumer and capital equipment) and services, generating inflation that hurts the purchasing power — and standard of living — of every Malaysian, to varying degrees. Perhaps more importantly, a confidence crisis triggered by a sliding ringgit must be avoided.
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Bank Negara’s intervention in the foreign exchange market is a non-starter. The country simply does not have sufficient forex reserves to defend the ringgit. It will exhaust what reserves we do have right now, enriching only market speculators. Bidding government-linked companies (GLCs) and government-linked investment companies (GLICs) to repatriate foreign earnings can work, but how much is available and how long can it be sustained, especially going against the tide?
Yes, GLCs and GLICs can increase their local investments over a short period of time at the request of the government — raising the ringgit exchange rate in the process — but this is clearly not sustainable and quite pointless. As we saw last week, local institutions bought RM1.42 billion ($404 million worth of equities. Foreign investors sold almost the equivalent amount of RM1.51 billion for the week. And as they get paid and take their money out of the country, there will be the equivalent outflow. The net effect is we end up taking out the foreign investors at a higher price than it would have been otherwise. (See Flashback)
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And mind you, it’s the investments overseas that are generating the higher profits now, enabling high dividends to Malaysians and the government, such as the recent Employees Provident Fund’s (EPF) dividend announcement. The returns on Bursa Malaysia-listed companies averaged only 1% a year over the last 10 years.
Although the headline Bank Negara forex reserves are stable after peaking in December 2021, reserves after taking into account foreign exchange swaps and foreign currency loans — that is, short-term borrowings — have fallen sharply. These short-term borrowings are counted as part of forex reserves, until they are repaid. Falling net reserves indicates steady capital outflows considering Malaysia continues to run a current account surplus, which should increase forex reserves (see Chart 1).
Very briefly, a foreign exchange swap is a money market tool used by central banks to affect domestic liquidity. It is a financial transaction between two parties — in our case, Bank Negara and another central bank or commercial bank — to exchange specific amounts of two different currencies and repay the amount of the exchange (principal plus interest) at a future date. In other words, Bank Negara is borrowing foreign currencies — to provide additional foreign currency liquidity in the market and prevent excessive forex movements when demand is greater than supply. These borrowings are short-term capital inflows — as at end-January 2024, about 62% of the total US$38.9 billion liabilities was to be repaid within the following three months and the balance within the year.
Meanwhile, foreign currency deposits in the domestic banking system have continued to rise (see Chart 2). Rising deposits show that Malaysians, including exporters, are keeping their money in foreign currencies such as the US dollar instead of converting to ringgit. Yes, some would have done it to take advantage of the prevailing interest rate differentials. But this cannot be the only, or indeed the main, reason since foreign currency deposits have been trending up for years (when US interest rates have been near zero). The logical explanation must therefore be a lack of confidence in the ringgit — and prevalent expectations that it will continue to depreciate.
Fact: the ringgit is depreciating and net forex reserves are falling — due to rising foreign currency deposits and even more so, capital outflows — despite the “positive signs” articulated by the government and Bank Negara. For instance, Malaysia expects to approve 8%-10% more investments in 2024 from the record high of RM329.5 billion last year, which would underpin the stronger gross domestic product (GDP) growth of 4%-5% this year. These positive developments would imply the ringgit is “undervalued”. Why then is the ringgit not strengthening?
For more stories about where money flows, click here for Capital Section
We are going to be blunt here — considering that there are already too few who are willing to call a spade a spade — Malaysia is just not selling the right stories! There is no coherent, comprehensive and well-articulated story — at least not one that makes economic sense, is rational, logical, believable and executable. What do we mean?
The wrong stories so far …
A lot of effort has gone into pushing forward a progressive wage policy (PWP), subsidy rationalisation and numerous new and higher taxes.
There is no question that wages are low in absolute terms and must grow faster, to break the country out of the “middle-income trap” and towards developed, high-income nation status and better living standards. However, forcing wages growth beyond productivity gains will not only have negative implications for domestic business profitability and inflation, but it would also cause the ringgit to depreciate faster — we explained this with simple maths two weeks ago. (If you missed that article, scan the QR code.) It is putting the cart before the horse — productivity must rise first, then wages. Plus, the PWP in its current form is convoluted and too expensive to be successful. Businesses know this. The market knows this.
As we have also previously noted, Japan recently introduced a simple and direct tax incentive scheme to encourage higher wage growth in the economy. It has worked. So much so that Japan may finally abandon its negative interest rate policy to stimulate growth due to wage inflation. There is no shame in copying good policies from others.
Yes, subsidy rationalisation and increased taxes will improve the fiscal deficit over time and boost the value of the ringgit — but only in the longer term, and only if all goes to plan. However, it is causing the cost of living to rise even more rapidly today.
There are quite simply too many tax increases over such a short span of time. The increasing of the sales and service tax (SST) from 6% to 8% and the widening of services that are subject to the tax — now including delivery and logistics services, brokerage for non-financial services, maintenance and repair services as well as electricity bill for domestic users on additional consumption over 600 kWh per month. There is the new 10% low-value goods tax on all online imports of less than RM500 and the 5%-10% luxury goods tax, all of which will result in lower spending power and falling savings, weaker consumption (that is the main driver for economic growth), higher inflation — and lower ringgit.
The introduction of capital gains tax (CGT) on disposal of unlisted local shares by companies and on repatriated gains from disposal of all foreign assets, in particular, is seen as a precursor to an eventual widening of the CGT net, including possibly, estate duties. The result? Yes, you guessed it — capital outflows. At the very least, Malaysians would not be sending back their foreign currencies.
In short, all of the above has provided very little incentive for people to hold the ringgit and ringgit assets. Like we said, it is all a matter of confidence and expectations. And the stories we are selling so far are quite simply, not convincing. In fact, almost all the policies/actions lead to a lower ringgit in the near term. How do we change the prevailing narratives — and persistent expectations that the ringgit will continue to weaken? What are the right stories?
The right stories that are missing …
Clearly, there should be greater focus on initiatives that will result in actual forex inflows to the country.
The low hanging fruit is tourist dollars. Every country understands this and is competing intensely for a greater share of the global tourism pie. Malaysia must be more proactive — and imaginative — in promoting the country as the preferred tourist destination in the region. Case in point, we have all read about how Singapore secured exclusive rights to host Taylor Swift concerts in the region. According to news reports, the six concerts are set to bring in up to S$500 million in tourism receipts, including air travel, hospitality, F&B, retail and less tangible but equally, if not more important, burnishing Singapore’s standing in music tourism and reputation.
We have the attractions, the infrastructure and the facilities — we just need to draw the tourists. The forex inflows would be immediate. The average spending per tourist in Malaysia was about RM3,300 pre-pandemic. This figure is far lower than that in neighbouring Thailand, of roughly RM6,500 equivalent (see Chart 3). This is because some 40% of our tourist arrivals are from Singapore, a significant number of whom are day-trippers. In other words, the average spending by non-Singaporean day-trippers should be substantially higher than the average figure. Assuming Malaysia can attract six million additional non-day-trippers spending say, RM6,000 per person, total additional tourist receipts would amount to a whopping RM180 billion over five years.
Another initiative that can boost short-term foreign currency inflows with comparatively modest effort is the Malaysia My Second Home (MM2H) programme. Malaysia is routinely polled to be one of the best places to retire in the world due mainly to its low cost of living relative to quality of infrastructure and services, including healthcare. The MM2H programme, which originally offered foreigners the chance to live in Malaysia for up to 10 years subject to certain wealth and investment requirements, had approved some 57,000 applications in the first 16 years from its launch in 2002. Since 2018, however, the scheme has been under a constant state of “evaluation”, and was suspended altogether in 2020 during the Covid-19 pandemic. Although the programme was revived in 2021, tightened regulations require applicants to have a monthly offshore income of at least RM40,000 — a requirement that is meaningless. It is wealth and spending that is relevant, not income, as many participants are retirees. Raising the bar on income simply priced most retirees out of consideration. As a result, application numbers have fallen sharply, by a reported 90%.
The MM2H programme was revised again in December 2023 into three tiers but the status of the offshore income requirement remains unclear (see Table 2). Clarifying and rejuvenating the programme is a relatively simple task for the government. And one that will be very rewarding. Assuming 5,200 applicants per year (the average number in 2017-2019), each bringing in an average of RM2 million for housing, as bank deposits and to cater to their living costs, will generate RM52 billion in forex inflows over a five-year period.
Boosting tourist arrivals and rejuvenating the MM2H programme could potentially bring in an additional RM46 billion in forex inflows per year, on average, based on our simplistic math (see Table 3). Will it move the needle? For some perspective, actual FDI (not approved investments) in 2023 was RM37.6 billion and current account surplus totalled only RM22.8 billion. The two years (in the last 10 years) when foreign fund flows into Bursa Malaysia was positive, the net inflows were RM4.4 billion and RM10.8 billion in 2022 and 2017 respectively. (Yes, foreign fund flows were negative in all the other years.)
Most critically, the key here is marginal demand, that is the additional or incremental demand for the ringgit generated by the increase in tourist numbers and MM2H applicants — given that there currently remain huge gaps compared with previous levels. Remember, prices, including exchange rates, are determined by marginal demand and supply, that is the rate change (positive or negative), not absolutes.
For example, the increase in total tourist arrivals in 2019 from the year before was only 300,000 (26.1 million, from 25.8 million in 2018), compared to the six million gap we can close by boosting current arrivals to pre-pandemic levels (26.1 million, from 20.1 million). Applications for MM2H have already fallen by 90%, which means the recovery in applicant numbers would represent a significant increase.
In short, we are convinced that recovery in tourist arrivals and MM2H applications can move the needle for the ringgit. In fact, it can triple our current account surplus. And if we are convinced (and if you, our readers, are too) then so will others — and when that happens, expectations will change. For starters, we think those deposits in foreign currencies will start getting converted into ringgit — since a strengthening ringgit will lead to forex losses for these holders.
Foreign exchange deposits now stand at nearly RM250 billion. If half of these get converted into ringgit over, say, the next five years (in reality, it will be much faster if perceptions change) — that’s another RM125 billion in incremental demand for the ringgit or RM25 billion per year. Added to the increase from tourism and MM2H, we can potentially see additional forex inflows totalling almost RM360 billion over five years. That will double Bank Negara’s net forex reserves (after taking into account foreign currency swaps and short-term loans). That’s a 100% increase (see Table 3).
Let us be crystal clear. These are short-term measures that we think will be very effective in lifting demand for and therefore value of the ringgit. But they are not the cure. Malaysia must implement all the prescribed structural reforms to raise productivity — to be competitive in the global market and reverse the secular decline in the ringgit. There is great urgency in this, as all countries will seek to continuously boost their productivity. We cannot be complacent and risk falling even farther behind.
For a start, the government could embark on Privatization 2.0 for GLCs and GLICs — via open tenders for full transparency (no more piratisation). This will improve efficiency and raise productivity in the many government-owned entities. For that matter, large funds like Permodalan Nasional Bhd (PNB), EPF and Kumpulan Wang Persaraan (KWAP) should aim to reduce their holdings in Bursa-listed companies. As we highlighted in our previous article titled “Why some stock markets perform and others don’t … and ideas to improve” (published in The Edge, Dec 11, 2023), the presence of GLCs and GLICs on Bursa is too dominant, for instance, compared with Singapore and the US. It is stifling liquidity and likely contributing to depressed valuations. Some volatility is actually good and often a necessity to ensure vibrancy in stock markets.
The privatisation of Time dotCom is a very good example of how the private sector can effectively improve productivity and even turn around previously unprofitable companies. The company was in the red for most years prior to 2008, until Khazanah Nasional privatised it via a special purpose vehicle, Pulau Kapas Venture, and management control was handed over to Afzal Abdul Rahim, its current CEO. The company grew rapidly, expanding broadband services within the Klang Valley, focusing on strategic locations such as commercial business districts and high-rise multi-dwelling properties. Time dotCom has been consistently profitable since 2008 and its success is reflected in its market cap, which has risen steadily higher to nearly RM10 billion currently (see Chart 4). Time dotCom is a success story for privatisation, of how the government can create value and increase bumiputera entrepreneur participation in the corporate sector.
Malaysia needs a holistic strategy to transform the current structure of the economy, which is stuck on low cost, low skill, low value and low wages. We have written extensively on this subject, and we will not rehash all of it in this article. Briefly, for sustainable productivity gains, human capital is critical. We must, therefore, depoliticise and improve the quality of the public education system and training programmes for upskilling and reskilling of the workforce.
As the example of Time dotCom proves, Malaysia has the talent and entrepreneurs who can create value given greater equality of opportunity — dismantle state capture and remove rent-seeking. The “trickle-down economics” that favours a small group of elites does not work. Instead, expand SME financing to encourage entrepreneurship and innovation, and improve their ease of doing business by reducing restrictions, licensing as well as excessive regulatory approvals. Grow the small businesses, which are also the largest employers in the country and often the most innovative with greater flexibility and capacity for incremental value creation. Legislate into laws what is required to effectively build a digital ecosystem, to aid in this objective. Digitalisation is Malaysia’s best chance to catch up in global competitiveness.
The Malaysian Portfolio gained 1% for the week ended March 13. The top gainers were Insas-WC (+9.8%), UOA Development (+2.2%) and DBS Group Holdings (+0.7%). There was no loser while Insas traded unchanged for the week. Total portfolio returns were lifted to 191.7% since inception. This portfolio is outperforming the benchmark FBM KLCI, which is down 15.9%, by a long, long way.
Disclaimer: This is a personal portfolio for information purposes only and does not constitute a recommendation or solicitation or expression of views to influence readers to buy/sell stocks, including the particular stocks mentioned herein. It does not take into account an individual investor’s particular financial situation, investment objectives, investment horizon, risk profile and/ or risk preference. Our shareholders, directors and employees may have positions in or may be materially interested in any of the stocks. We may also have or have had dealings with or may provide or have provided content services to the companies mentioned in the reports.
