Economic activity will go down further but there is a quite a likelihood that money supply in the system will rise. For those who study finance and economic, as money goes up and economic activity goes down, the result can be described as a reduced velocity of money, which is a typical response to recessions and uncertainty. Ratio of M2 to nominal GDP, which is a proxy for demand for money – the amount cash and cash equivalents that you want to hold as a percent of your annual income, has increased from an average of 5.06 times since 2016 to 5.34 times in 1Q2020. That is a lot of money being stockpiled, mainly because this has been a rather crazy period in history. In another word, velocity of money - the number of times a Ringgit Malaysia is spent every year, will decline accordingly.

Money supply expansion to accommodate the increased demand for money is the right thing that Bank Negara Malaysia has been doing. The relatively stability in inflation expectations, Ringgit Malaysia and industrial commodity prices in the past couple of weeks is a testimony of such a good policy moves.

What comes next? According to the Austrian school of thought, inflation is always a monetary phenomenon. As we are working towards greater economy reopening, it's quite likely that the demand for money will begin to decrease as confidence slowly returns. Money that has been socked away in bank accounts is increasingly going to be spent on goods and services. Coupled with supply-side constraints, will it lead to rising inflation, assuming that we have seen the worst of the Covid-19 crisis and reversal of oil prices? At April 2020, consumer prices declined 2.9% YoY due to drop in prices of transport, housing, water, electricity and fuel - lowest rate of change recorded since 2010. Average price of RON95 fuel in April 2020 was at RM1.27 per litre compared to RM2.08 a year ago.

Checking with several supermarkets in last few weeks shows that shoppers are having to contend with higher prices on many common food items, including vegetables, fruits, meat, dairy products and eggs. Prices of pantry staples also shared similar experience as more people have turned to baking. Prices are not expected to fall as economy reopens because everyone — from farmers to producers to processing plants to grocery stores —have to make huge investments in personnel and product safety. On the farm and food processing side of things, worker social distancing protocols are part of new operating procedure. Supermarkets are already investing in increased sanitation procedures and additional staff and security guards to limit customer capacity in stores.

I won't be surprised to see restaurants reopening with higher prices on the menu. The government is mandated that the supply of restaurant tables be limited. With such scenario, higher prices are almost inevitable. Especially since few if any restaurants can be profitable at much lower occupancy rates than they have enjoyed in the past— occupancy mandates will force restaurants to raise prices. But not everything will be supply-constrained. Airlines are going to have a huge surplus of seats for a long time. Hotels will have vacant rooms galore. Malls and stores won't be full until the fear of contagion and crowds disappears.

If we already seen the worst of Covid-19 crisis, there is a likelihood that Bank Negara may reverse its monetary expansion sooner than expected as the demand for money begins to decline.

Chee Seng, Wong
CIO, Athena Advisors
wong-chee-seng@outlook.com