OVERVIEW

In May, the Consumer Price Index (CPI) growth edged up to 2.0% as compared to 1.8% in April and slightly above market expectations of 1.9%. However, core inflation, which excludes volatile and administered price elements, rose to 1.9% in May, the same rate as recorded in April.

According to BNM, Malaysia's 2024 inflation outlook is expected to remain moderate, with headline and core inflation projected at 2.0% to 3.5% and 2.0% to 3.0% respectively. This outlook relies on the effective implementation of subsidy and price control policies, alongside managing global commodity price and financial market volatility. Nevertheless, we forecast that BNM will maintain the OPR at 3% throughout the year.

House utility costs led the growth in headline inflation

May CPI growth accelerated to 2.0% YoY, partly due to the waning high base effects. This increase was mainly fuelled by the housing, water, electricity, gas & other fuels category, which climbed by 3.2% (April: 3.0%), and the restaurant & accommodation services sector, which also rose by 3.2% (April: 3.5%). Additionally, education saw a rise to 1.5% (April: 1.4%), personal care, social protection & miscellaneous goods & services increased to 3.0% in May, health edged up to 2.2% in May, recreation, sport & culture grew by 1.9% and food & beverages experienced a 1.8% rise in May. Meanwhile, transport inflation inched up to 0.9% in May from 0.8% in April. Notably, the average price of unleaded petrol RON97 surged by 3.6% to RM3.47 per litre in May, up from RM3.35 per litre in May 2023, amid an 8.3% increase in Brent crude oil prices to US$82 per barrel in May.

Underlying inflation gauges the price alterations of goods and services, omitting the fluctuating costs of fresh food items and government-regulated prices. In May, core inflation advanced by 1.9% YoY, mirroring the rate observed in April. Stripping out vehicle fuels (RON95, RON97, and diesel), the inflation rate ascended to 1.9% YoY in May. This uptick was chiefly propelled by the restaurant & lodging services and personal care, social protection & various goods & services categories, which rose by 3.3% and 3.0% respectively.

In May, only four states recorded CPI readings surpassing the national average of 2.0% YoY, specifically Pulau Pinang (3.3%), Sarawak (2.8%), Pahang (2.6%), and Selangor (2.4%). Elevated costs in food and beverages persisted as significant factors in these states—Selangor saw an increase of 3.4%, followed by Pulau Pinang at 2.7%, Perlis at 2.0%, Sarawak at 1.9%, and Pahang alongside Wilayah Persekutuan Putrajaya both at 1.8%. In contrast, other states experienced increases below the national average inflation rate for food and beverages of 1.8% YoY in May.

Weathering Malaysia’s inflation tightrope

Looking ahead for the remainder of the year, inflation is anticipated to maintain a steady path, supported by robust demand factors and muted cost pressures. The inflation outlook is heavily contingent on the successful implementation of domestic policies related to subsidies and price controls, as well as fluctuations in global commodity markets and developments in the financial sector. The recent policy adjustments, including the services tax increase and water tariff hikes, are expected to have a limited impact, exerting only a minor influence on overall inflation trends.

Bank Negara Malaysia's (BNM) projections place headline and core inflation within ranges of 2.0% to 3.5% and 2.0% to 3.0%, respectively, for the year. Recent approvals of diesel subsidy reductions, projected to save RM4bn annually, strategically exempts Sabah, Sarawak, and commercial vehicles to buffer the inflationary impact and alleviate cost-of-living pressures for lower- income groups. This measure is aligned with previous policy goals, and its prompt implementation is expected to deter anticipatory stockpiling prior to price adjustments. However, at the time of writing, we believe that the direct impact on headline inflation is likely to be minimal. Given that diesel's weight in the overall headline CPI is just 0.2%, the potential for significant inflationary effects is low. A straightforward calculation shows that a 1% increase in diesel prices would result in a 0.002% rise in the overall inflation rate. Therefore, floating the diesel price from RM2.15 to RM3.35, representing a 55.8% increase, would lead to approximately a 0.112% increase in the overall inflation rate.

Furthermore, in light of renewed fiscal discipline, the potential introduction of targeted subsidies for RON95 in 2H24 remains under review. Meanwhile, the significant increase in civil servant salaries by over 13%, amounting to approximately RM10bn, challenges fiscal targets and could raise inflationary pressures by heightening wage expectations in the private sector. Simultaneously, the rollout of EPF Account 3, injecting around RM30bn into consumer spending, aims to mitigate sluggish global growth and rising living costs post-subsidy rationalisation, though it may also drive demand-pull inflationary pressures. We maintain our in-house headline inflation projection at 3% YoY, with risks skewed towards the lower end of the official 2.0-3.5% range, contingent on the timing of RON95 subsidy rationalisation. Delaying these reforms until late 2024 remains an option, with further details anticipated during the Budget 2025 presentation. A gradual approach to subsidy reform is essential to prevent abrupt inflationary shocks. Prime Minister Datuk Seri Anwar Ibrahim has recently highlighted that the failure to implement targeted subsidies is one reason for Malaysia's drop in the IMD World Competitiveness Rankings 2024.

These factors present upside risks to BNM’s outlook on the Overnight Policy Rate (OPR). Despite global trends towards rate cuts, we maintain our forecast that BNM will keep the OPR at 3% throughout 2024. Economic signals from the United States suggest a potential slowdown in the Federal Reserve's easing cycle, which could strengthen the USD and exert depreciation pressure on the Malaysian ringgit. Such external monetary conditions could intensify upward pressures on the OPR, necessitating vigilant monitoring and proactive policy measures.

Source: PublicInvest Research - 26 Jun 2024