The Central Bank of Malaysia

Introduction

As the central bank of Malaysia, Bank Negara Malaysia (BNM) is the monetary authority that oversees Malaysia's financial system by promotes monetary stability and financial stability conducive to the sustainable growth of the Malaysian economy (BNM, 2014). In order to achieve sustainable growth, low inflation rates, BNM carry out monetary policy whereby influencing the interest rates or in other words the Overnight Policy Rates (OPR). OPR does not only acts as the indicator of monetary policy stance, a good predictor of short term interest rates movement (Investopedia, 2014), besides that, it also determines the target rate for the day-to-day liquidity operations of the Central Bank (BNM, 2013). BNM announces the OPR periodically after analyzing the forward inflation rates, exchange rates, growth rates and many other issues. At the recent Monetary Policy Committee (MPC) meeting on 6th of March 2014, BNM decided to maintain the OPR at 3.00 percent, for the 16th time since May, 2011 (Levina, 2014). However, due to the recent and going forward inflation rate, foreign exchange rate and other issues in conjunction with the international environment, it is expected that the continuation of maintaining 3% of OPR may come to an end at the next MPC meeting.

Reasons for adjustments

Issue 1 ? Inflation

Inflation generally is defined as sustained, rapid increase in prices, as measured by some broad index (such as Consumer Price Index, CPI) over months or years, and mirrored in the correspondingly decreasing purchasing power of the currency (The Economic Times, 2014). It has its worst impact on consumers if the inflation rate is high (a 2% to 3% rate is beneficial for a country) as high prices of day-to-day goods make it difficult for consumers to afford even the basic commodities in life. Hence, BNM always strive to achieve a limited level of inflation via OPR. In short words, a high inflation rate, or a high going forward inflation rate will induce BNM to increase OPR.

The inflation rate in Malaysia maintained at 3.50 percent in March of 2014, after accelerating in the previous six months reported by the Department of Statistics Malaysia. (TradingEconomics, 2014).To prove that Malaysia is currently facing high inflation, the latest figures from the statistics department available today showed that CPI rose 3.2% in December, more than double the 1.2% a year ago, and up from the 2.9% registered in November. This is the highest level since November 2011(Nor, 2014). BNM's latest OPR report also addressed that inflation has been gradually rising due to disruptions in supply following adverse weather conditions and increases in domestic costs. (BNM, 2014)

Further elaborate, inflation is rising fast due to administrative measures and the forthcoming goods and services tax (Chong, 2014), the year-on-year inflation for food and non-alcoholic beverages accelerated to 3.9 percent in March, from 3.8 percent in the previous month, while cost of housing, water, electricity, gas and other fuels rose to 3.6 percent up from 3.5 percent. In contrast, transport cost slowed to 5.1 percent from 5.5 percent (TradingEconomice, 2014). Nor, 2014 also added the high inflation rate is because of the consequence of a series of subsidy cuts introduced at Putrajaya, where Datuk Seri Najib Razak targets a 15.6 per cent reduction in subsidies to RM39.4 billion (US$12 billion) in 2014 for items such as sugar and cooking oil. Moreover, the latest inflation rate increase to 3.5 per cent after government raised fuel and power tariffs to rein in the fiscal deficit (TheStar, 2014).

On the other hand, an increasing amount of ‘Bantuan Rakyat' or "people's aid" program dished out by our Government (in form of BR1M, KR1M etc) to combat the rising cost of life by direct unrequited cash transfers with no conditions attached, distributed to millions of targeted household heads and consumers on economy-wide basis, is in fact direct injection of liquidity into the economy. Hence, it has make things worse as it instead of providing economic multiplier effects on the real side of the economy, the aids however pushed CPI to higher levels to 3.5% on 2014 where the CPI is below 2% on 2012 (Zakariah,2014).

Moreover, as mentioned in the MPC meeting on March, it is expected that going forward, inflation is expected to be affected by higher domestic costs (BNM.2014). The Alliance Research, 2014 expected that inflation rate is likely to increase further until September due to further increase in transportation costs would pressure food prices to rise in the near term due to cost-push inflation in view of the expected second adjustment of subsidies on petroleum and other related products.

Thus, in the current environment, inflationary pressures need to be contained so as to preserve the domestic purchasing power especially for the medium and lower income groups (BNM, 2003). In a nutshell, BNM has to consider on this issue and might increase OPR to encourage people to save more, spend less in order to lower the domestic demand and costs and ultimately reduce the inflation rate.

Issue 2 ? Growth rate

Besides inflation, an appropriate OPR adjustment also relies on growth rate. To further elaborate, OPR can either adjust upwards to slow down the growth or vice versa to boost the economy by inducing people to consume/ increase domestic demand. Thus, BNM has to revise or analyses both domestic and global growth to either make adjustments or maintenance of OPR.

Domestic growth rate, measured by the rate of change of a nation's gross domestic products (GDP) from one year to another (Investopedia, 2014). GDP Annual Growth Rate in Malaysia averaged a healthy 4.65 Percent from 2000 until 2013 (TradingEconomics, 2014). In addition, in the fourth quarter of 2013, Malaysian economy accelerated to an annual growth rate of 5.1 percent supported by private sector demand and an improvement in exports, and overall resulting an annual impressive GDP at 4.7%.

BNM, 2014 stated in their latest OPR report that for the Malaysian economy, latest indicators point to further improvement in exports and continued expansion in private sector investment spending. Going forward, this trend is expected to continue. The Malaysian economy is expected to grow 4.9% in 2014, according to the World Bank's East Asia Pacific Economic Update (TheStar, 2014). East Asia would grow by 7.1% this year, largely unchanged from 2013. Despite a slowdown from the average growth rate of 8% from 2009 to 2013, East Asia remained the fastest growing region in the world. In addition, countries in the East Asia-Pacific region would see stable economic growth this year, on the back of recovery in high-income economies. For instance, according to Statistics Department of Malaysia, Malaysia's exports rose 12.2% to RM63.97bil in January 2014. To further elaborate, the increase in trade was contributed mainly by higher trade with China, which rose RM2.18bil and major export products in January were electrical and electronic products, valued at RM20.55bil with a share of 32.1% of total exports.(TheStar, 2014). Moreover, investment activity is projected to remain robust, led by capital spending by the private sector, particularly in the manufacturing and services sectors (BNM, 2014).However, a rise in global interest rates, and increased volatility in commodity prices on account of recent geo-political tensions in Easter Europe as a reminder that East Asia Country like Malaysia may decline their export (TheStar, 2014).Hence, financial market and capital flow volatility brought about by the Fed's quantitative easing tapering, and fragile growth in certain emerging economies may affect Malaysia's GDP (Bernama, 2014).

On other hand, domestic demand is, however, expected to moderate, reflecting the ongoing public sector consolidation and as private consumption growth trends towards its long term average. The Star, 2014 added that higher debt servicing costs and ongoing fiscal consolidation would weigh on domestic demand, causing a slight decrease. As the Government lowers development expenditure this year, public investment is expected to decrease 2.7%. Nevertheless, our domestic demand may grow moderate as private investment to grow 12.7% can offset the decline of public investments projected (TheStar, 2014). New Straits Times, 2014 further explained that due to favorable labor-market conditions, aided by a slew of government initiatives and handouts, our domestic demand can grow in the future.

To conclude this issue, BNM has to take growth rate into account in determining the new interest rate. While domestic demand will continue to be the key driver of growth, improving external demand as seen in the early months of 2014, together with continued strong private investment will see that that BNM's recent growth forecast at 4.5 - 5.5% for 2014 will be achieved. Thus, one can expect in terms of growth rate, BNM may maintained the OPR to ensure stable growth rate.

Issue 3 ? Indebtedness risks

BNM has to pay attention to this issue regarding on adjustments of OPR. Generally, a low interest rate/OPR will induced people to borrow money rather than save, thus, BNM has to achieve the equilibrium in market by making an upward adjustment where there is an increment of loan demand and vice-versa.

Household debt in Malaysia, which reached 86.8% of GDP at end-2013 among the most highly leveraged in Asia, up from 80.5% a year ago and may continue to rise in the near term (Sulhi,2014). The continued rise in Malaysian household leverage is a risk, the rising trend of household debt will increase