VZCZCXRO3221
RR RUEHCHI RUEHDT RUEHFK RUEHHM RUEHKSO RUEHNAG RUEHNH RUEHPB
DE RUEHKL #0723/01 2400835
ZNR UUUUU ZZH
R 280835Z AUG 09
FM AMEMBASSY KUALA LUMPUR
TO RUEHC/SECSTATE WASHDC 3156
RUEHGV/USMISSION GENEVA 1766
RUEATRS/DEPT OF TREASURY WASHINGTON DC
RUCPDOC/DEPT OF COMMERCE WASHINGTON DC
RUCNASE/ASEAN MEMBER COLLECTIVE
RUEHZU/ASIAN PACIFIC ECONOMIC COOPERATION

UNCLAS SECTION 01 OF 02 KUALA LUMPUR 000723 
 
SENSITIVE 
SIPDIS 
 
STATE FOR EAP/MTS FOR DBISCHOF 
STATE FOR EEB/IFD/OMA FOR BSAUNDERS AND AWHITTINGTON 
STATE PASS USTR - WEISEL AND BELL 
STATE PASS FEDERAL RESERVE AND EXIMBANK 
STATE PASS FEDERAL RESERVE SAN FRANCISCO TCURRAN 
SINGAPORE PASS SBLEIWEIS 
USDOC FOR 4430/MAC/EAP/MHOGGE 
TREASURY FOR OASIA AND IRS 
GENEVA FOR USTR 
 
E.O. 12958: N/A 
TAGS: ECON EFIN EINV PREL EXIM MY
SUBJECT: Malaysian Economy Improves - Growth May Resume by Year End 
 
Ref A: Kuala Lumpur 2465, Ref B: 08 Kuala Lumpur 987 
 
¶1. (SBU) SUMMARY and COMMENT: Bank Negara (BN) released second 
quarter 2009 (Q2) economic data August 26 showing a better than 
expected year-on-year quarterly GDP contraction of just 3.9 percent. 
 GOM policy responses since November 2008 to the financial crisis 
including cutting reserve interest rates from 3.5 percent to 2.0 
percent, reducing bank capital requirements, implementing two fiscal 
stimulus packages, liberalizing investment in some service sectors, 
and relaxing discriminatory Bumiputra investment laws have helped to 
stabilize the economy.  Leading local economists project that the 
Malaysian economy is currently at the bottom and will return to 
growth before the end of the year.  Those same economists, however, 
remain concerned with the potential future inflationary effects from 
growing GOM budget deficits, though inflation is low and there 
appears to be strong local demand at present for GOM securities. 
The GOM's real worry is the potential impact on GDP growth of 
dramatically reduced FDI flows and lower levels of domestic 
investment.  We therefore anticipate more GOM reform initiatives 
targeted at stimulating FDI in the coming year, such as additional 
liberalization of the services sector.  END SUMMARY and COMMENT. 
 
Q2 GDP Results not as Weak as Expected 
-------------------------------------- 
 
¶2. (SBU) Bank Negara released Q2 economic data August 26, announcing 
a Q2 GDP year-on-year contraction of 3.9 percent.  This was far 
better than the 6.2 percent decline Q1 2009 GDP and led BN to 
project a cumulative 5 percent decrease in GDP for 2009.  In 
meetings with Econoff, leading Malaysian economists and bankers have 
expressed a similar view that the worst of the economic crisis is 
behind Malaysia and that the economy is now at the bottom of the 
cycle.   Rating Agency of Malaysia Chief Economist Dr. Yeah Kim Leng 
forecasts GDP growth to be zero or slightly negative in the third 
quarter 2009 and to increase to slight positive growth in the fourth 
quarter.  Yeah predicted positive 2010 GDP growth of 2-3 percent but 
noted it would be well below pre-financial crisis levels.  Malaysian 
Deposit Insurance Corp. (PIDM) Senior Economist Kevin Chew added 
that he expected GDP growth to begin to show improvement in Q3 and 
Q4, leaving Malaysia with a cumulative decline of 4.5 percent for 
the year.  Chew also expects subpar growth in 2010.  Malaysian 
Institute of Economic Research (MIER) Executive Director Dr. Mohamed 
Arif forecasts somewhat better cumulative results for 2009 at a 4.2 
percent GDP decline, weak but steady growth for 2010 and 2011, with 
a return to pre-crisis growth levels in 2012. 
 
Rising Unemployment Predictions Manageable 
------------------------------------------ 
 
¶3. (SBU) Malaysia began the financial crisis one year ago at 
essentially full employment with a 3.3 percent unemployment rate. 
As of June 2009, official unemployment reached 4.0 percent but is 
not raising concerns for policymakers because consumption has 
remained strong.  MIER's Arif projected official unemployment will 
peak in mid-2010 at 4.5 percent to 4.8 percent but he does not view 
this level as a major cause for concern.  The 1.2 million legal 
foreign national guest workers in Malaysia, apparently took the 
brunt of lay-offs as export-driven manufacturers cut 7 percent of 
their pre-crisis workforces, according to Arif. Arif added that many 
of those job losses do not appear in official statistics, which only 
include Malaysian nationals. 
 
Exports and Imports Rebounding 
------------------------------ 
 
¶4. (SBU)  Malaysian exports continued their poor performance in Q2 
2009 declining nearly 30 percent from the previous year and 0.7 
percent from the previous quarter.  However, export performance in 
June was an improvement over April and May.  Citibank Malaysia CEO 
Sanjeev Nanavati told us that Citi's exporter customers are seeing 
rapid improvements in orders and deliveries and he expects a much 
improved export performance in Q3.  Because Malaysian imports have 
declined at the same pace as exports, there has been no pressure on 
the balance of payment accounts and GOM reserves improved to 91 
billion dollars, a substantial 9 months of import coverage. 
 
Inflation Plummets in Q2 Spiking Real Interest Rates 
--------------------------------------------- ------- 
 
KUALA LUMP 00000723  002 OF 002 
 
 
 
¶5. (SBU) Arif noted a steep drop in inflation in June caused a spike 
in real interest rates, removing the incentives to borrow and 
potentially derailing the stimulus effects of lower reference 
interest rates.  The core CPI fell from 2.2 percent inflation in May 
to 1.8 percent year-on-year disinflation in June.  As a result, real 
interest rates increased from slightly negative to nearly 4 percent, 
tightening monetary policy in real terms.   BN reported disinflation 
also occurred in July and their Capital Markets Committee announced 
August 25 no change to the BN reference interest rate at 2.0 
percent.   BN cited substantial improvements in both Malaysian 
business confidence and consumer confidence indexes in support of 
its view that disinflation will not last long. 
 
¶6. (SBU) Causes of the disinflation could include lag effects from 
the decrease in manufacturing activity and continuing reductions in 
Malaysia's money supply growth.  M1, M2, and M3 money supply 
indicators are growing at significantly lower rates than prior to 
the crisis and BN announced that M3 grew during Q2 at a lower rate 
than during Q1.  When asked about restricting monetary growth in the 
midst of a financial crisis, BN monetary policy officials responded 
that it is normal for BN to remove excess liquidity in the system 
during economic slowdowns. 
 
Banks Stable and Well-Capitalized 
--------------------------------- 
 
¶7. (SBU)  The Malaysian banking system appears solid and ready to 
lend, according to PIDM Senior Economist Chew.  Banks have better 
capital adequacy and non-performing loan levels are down since the 
beginning of the crisis and were profitable in Q2.  Credit approvals 
and loan disbursements started to grow again in Q2 and Chew 
anticipated single digit credit growth for all of 2009.  Nanavati 
added that Citi's portfolio is strong and its commercial and 
consumer customers initially used cash balances to pay down debt but 
have recently started borrowing again as economic conditions have 
improved. 
 
Fiscal Deficit Possible Looming Problem 
--------------------------------------- 
 
¶8. (SBU) The MOF officially projects Malaysia's 2009 fiscal deficit 
at 7.6 percent of GDP.  Arif and Yeah project a higher 2009 deficit, 
in the 8 percent to 8.5 percent range, and a 2010 deficit in the 9 
percent to 10 percent range or higher unless the GOM substantially 
reduces subsidies or increases taxes, both politically difficult 
options.  The economists expressed concern that the high deficits 
will eventually be inflationary and weaken the Malaysian currency. 
Nanavati, however, asserted that there was great local demand for 
GOM debt and that the government will have no trouble funding its 
deficits.  In support of his view, he cited a recent Citibank-led 4 
billion dollar Petronas bond issue which was four times 
oversubscribed.  Nanavati noted that Malaysia had plenty of 
investable capital with a 40 percent savings rate and Malaysians 
prefer investing in safe GOM securities. 
 
Fall in Foreign and Domestic Investment Causing Real Concern 
--------------------------------------- 
 
¶9. (SBU) While there are mixed views on the growing fiscal deficit, 
Malaysian policymakers are deeply concerned about the precipitous 
fall in both foreign and domestic investment in 2009.  MIER 
statistics show FDI approvals are down 76 percent to 1.2 billion 
dollars for the first five months of 2009 compared to 5.1 billion 
dollars during the same period in 2008.  Domestic investment 
declined 42.7 percent to 1.4 billion dollars from January to May 
¶2009.  Actual foreign investment flows during the first six months 
of 2009 are 90 percent below the first six months of 2008, according 
to MIER.  GOM investment officials fear that once the recovery takes 
hold, foreign investors will bypass Malaysia in favor of lower cost 
options in China or Vietnam. They expressed hope the recent 
investment liberalization measures would bring new investment, but 
have not yet seen any significant new investments since the 
announcement. 
 
KEITH