Malaysia Raises Rate as Faster Growth Eclipses Europe Threat

www.bloomberg.com | By Shamim Adam and Ranjeetha Pakiam

May 14 (Bloomberg) -- Malaysia’s central bank raised interest rates for the second time this year as growth accelerated, judging that risks stemming from low borrowing costs are greater than any impact from Europe’s debt crisis. 

Bank Negara Malaysia increased its benchmark overnight policy rate to 2.5 percent from 2.25 percent, it said in Kuala Lumpur yesterday, a decision that was predicted by 21 of 22 economists surveyed by Bloomberg News. Gross domestic product increased 10.1 percent in the three months ended March 31 from a year earlier, the most in a decade, a separate report showed. 

Asian central banks are pulling back monetary stimulus as the region’s growth outpaces the rest of the world. Malaysia will be able to absorb increased volatility in its markets as a result of the turmoil in Europe, and has the “policy flexibility” to act should global conditions worsen, Bank Negara Governor Zeti Akhtar Aziz said yesterday. 

“The economic upswing looks set to remain strong and Bank Negara needs to tighten further to ensure that inflation stays contained,” said Kevin Grice, an economist at Capital Economics Ltd. in London. “The chance that inflation accelerates significantly in the coming quarters appears a far greater threat than the risk that either local policy tightening or what happens in Europe brings a sharp slowdown in GDP growth.” 

The impact of Europe’s sovereign debt crisis may be muted on Malaysia, Goldman Sachs Group Inc. said this week as it recommended buying the ringgit. Global stocks fell last week on concern the debt crisis in Europe would derail the world’s recovery from last year’s economic slump. 

Ringgit Climbs

The Malaysian currency is Asia’s best performer this year and has climbed 7.4 percent against the dollar. It rose to 3.187 per dollar at 7:46 p.m. local time yesterday, from 3.199 before the GDP data and rate decision were released. 

Malaysia’s ringgit is “retracing back” to previous levels after depreciating “very significantly” in 2008 and part of 2009, Zeti said yesterday. 

Europe’s sovereign debt crisis may increase capital flows to Asia at a time when policy makers are battling rising asset prices and strengthening currencies, according to Standard Chartered Plc. European lawmakers announced an aid package worth almost $1 trillion on May 10 to stem a drop in the euro and avert a default by Greece. 

“At this point, we do not see the risks on our domestic economy rising from these developments in Europe,” Zeti said. “But if this contagion spreads to other parts of the world, including to the U.S. and other developed economies, then we need to reassess the situation.” 

Early Mover

Malaysia was among the first Asian countries to withdraw monetary stimulus this year. The central bank’s rate increase in March was the first in almost four years. 

“By starting early, Bank Negara has the flexibility to move gradually and can amend its tightening strategy if conditions change unexpectedly,” said Grice, who expects rates to be raised to 3.5 percent by mid-2011.

The Bank of Korea left rates unchanged for a 15th month this week. Bank Indonesia has refrained from raising borrowing costs even as its economy expanded at the fastest pace in more than a year last quarter. Still, India and Vietnam have raised interest rates to contain inflation, while China has ordered banks to set aside more reserves three times this year. 

Malaysia’s rate increase is a move “towards further normalization of monetary conditions,” the central bank said in a statement. “The stance of monetary policy continues to remain accommodative and supportive of economic growth.”

Growth Forecast

Zeti said last month the central bank may raise its 2010 economic growth forecast from as much as 5.5 percent as exports and industrial production strengthen. Growth of 6 percent this year is “achievable” and the government is on target to narrow its budget deficit, Prime Minister Najib Razak said yesterday.

Overseas sales jumped 36.4 percent in March on growing demand for goods including IOI Corp.’s palm oil and Intel Corp.’s computer chips. 

“Malaysia can take comfort that its growth looks quite strong in 2010, supported by domestic demand and the outlook for the rest of Asia,” said Rahul Bajoria, an economist at Barclays Capital in Singapore. “We see a further normalization of the policy stance, possibly in the third quarter, but the timing will depend on how global conditions pan out in the coming months.” 

Future rate increases will be more dependent on domestic conditions than international ones, Zeti said yesterday. The economy is expected to improve further in the current quarter from the first three months of the year, she said. 

The central bank said it expects a “gradual rise” in consumer prices this year and overall inflation will probably be “moderate” even as global commodity and food prices increase cost pressures. 

To contact the reporter on this story: Shamim Adam in Singapore at sadam2@bloomberg.net