External Reserves - It grows amid shrinking current account surplus - 9 Jan 2013

HIGHLIGHTS

The external reserves of the Malaysian central bank increased to RM427.1b at the end of December 2012. That is an equivalent of US$139.7b. The reserves level rose by RM3.8b from RM423.4b in December 2011. The high December 2012 reserves level is able to finance 9.5 months worth of retained imports and 4.2 times worth of short-term external debt.

The reserves level rose despite shrinking current account surplus. Throughout the year, exports struggled to grow as external demand remained weak while a resilient domestic demand fueled imports growth. The dichotomy between external and domestic demands had pushed net exports and thus the current account surplus down. In the first ten months of year 2012, Malaysia registered a total of RM77.8b worth of trade surplus only. In the same period in  2011, it was RM106.5b. The same trend is reflected in the current account: the first three quarters of 2012 saw a surplus of RM80.0b; the same period in 2011, it was RM107.0b. The shrinking current account surplus is reflected in the rate at which the reserves rose in 2012, which is slower than in 2011.

Apart from current account components, the reserves also grew due to foreign direct investment inflow and portfolio capital. According to the Bank Negara Malaysia (BNM), this was partly  offset by investment abroad by Malaysians. There was also an  unrealized foreign exchange revaluation loss as the Malaysian  ringgit strengthened against several major currencies. As at end of December 2012, the ringgit stood at approximately 3.0580 against the US dollar, reflecting a 3.5% gain year-to-date. Against the euro, the ringgit appreciated by about 1.5% for the whole of 2012. But the ringgit was strongest against the Yen, up by 13.8%.  The three currencies represent the bulk of the foreign exchange reserves held by the BNM.

Outlook 

The reserves level may increase at a measured pace in 2013. Trade surplus may improve as the European economy somewhat recovers. This is especially so given that there is a growing consensus that the fiscal austerity embarked by various European governments is too harsh. The loosening up of austerity program across Europe may encourage external demand growth, which may improve Malaysia’s current account and hence, the reserves as well. Resolution to the socalled fiscal cliff in the US may create further room for improvement in the current account surplus. A possible more expansionist Japanese monetary policy only adds up to the possibility of increased reserves.

However, the reserves may increase if the political status quo remains.  While external factors are important, domestic consideration has a big role in the determination of the reserve. A change in national leadership may create short-term uncertainty and prevent the reserves from growing. A possible leadership change may encourage some outflow of funds from Malaysia as investors seek some security from possible change in policy. Nevertheless in the case of power change, the money may return once the dust settles which may happen only in the second half of the year. The election must be held in 3Q2013 the latest.

Source: Kenanga