Malaysia: 2021 Article IV Consultation—Press Release; Staff Report; and Statement by the Executive Director for Malaysia

2021 Article IV Consultation-Press Release; Staff Report; and Statement by the Executive Director for Malaysia

Abstract

2021 Article IV Consultation-Press Release; Staff Report; and Statement by the Executive Director for Malaysia

Pre-Covid-19 Context

1. Malaysia entered the pandemic from a robust economic position, amidst a political transition. Diversification had supported a strong economic performance in recent decades as the economy weathered well both external shocks and internal challenges. Real per-capita GDP had been growing at an annual pace of 3¾ percent after the Global Financial Crisis, in the context of low inflation and unemployment, and inequality and poverty had declined since the mid-1970s. Following a surprise resignation of PM Mahathir Mohamad in February 2020, the King asked Mr. Muhyiddin Yassin to form a government. Early elections may be held as soon as the pandemic is under control.

2. Policies have been in line with past Fund advice, with some exceptions. The government’s plans for fiscal consolidation and structural and governance reforms have been broadly consistent with Fund recommendations but implementation has been delayed, recently because of the COVID-19 crisis. The monetary policy stance has been consistent with Fund advice and remained data dependent. The central bank continues to prioritize the development of domestic financial and foreign exchange markets, an objective supported by staff, but disagrees with staff on the role that capital flow management measures should play in the policy toolkit.

Economic Impact of the Covid-19 Crisis

3. Malaysia has been severely hit by the pandemic. The initial, relatively muted, wave of infections in March 2020 was successfully contained as a nationwide Movement Control Order (MCO) was implemented, mandating closures of all non-essential businesses, schools, and borders (Appendix I). In May, less stringent measures saw economic activities resuming under Standard Operating Procedures. A more severe outbreak in September prompted the authorities to impose localized MCOs and conditional MCOs. By late-January 2021, Malaysia had recorded about 180 thousand cases, but only 0.4 percent fatalities.

Contributions to Real GDP Growth

(In percentage points; year-on-year)

Citation: IMF Staff Country Reports 2021, 053; 10.5089/9781513574202.002.A002

Sources: CEIC Data Co Ltd, and IMF staff calculation.

4. The economic toll has been significant. Growth is estimated at -6 percent in 2020 (2019: 4.3 percent), with private consumption, the main driver of growth in recent years, declining sharply. Economic losses were most pronounced in 2020Q2. The economy rallied in 2020Q3 supported by policy stimulus and the resumption of non-essential business operations. Exports also rebounded driven by strong demand for health-related and electronic equipment.

5. Unemployment has declined from a historic high in 2020Q2 but this improvement masks weaknesses. Unemployment fell to 4.8 percent in November from 5.3 percent in May 2020 but remained relatively high for both youth and women. Over 60 percent of job losses in the private sector in the year to December were in jobs earning under RM3,000 per month.1 The pandemic has also unexpectedly displaced higher-skilled workers, with 39 percent of job losses concentrated among managers and professionals while three-quarters of new placements were in jobs earning under RM1,500 per month.

Confirmed COVID-19 Cases In Malaysia

(Number of cases confirmed-to-date; Log Scale)

Citation: IMF Staff Country Reports 2021, 053; 10.5089/9781513574202.002.A002

Sources: Johns Hopkins CSSE, European Centre for Disease Prevention and Control (ECDC), Ministry of Health of MalaysiaNote: Dates follow ECDC Reporting Dates; MCO=Movement Control Order; CMCO=Conditional MCO; RMCO=Recovery MCO.

6. Inflation has been muted. Headline inflation declined to -1.1 percent in 2020 (2019: 0.7 percent), reflecting lower fuel prices, wage contraction, and an electricity tariff rebate during April-December 2020. Core inflation remained broadly stable at 1 percent (2019: 1.1 percent).

7. The policy response has widened the federal government deficit. Five COVID-19 relief packages were announced in 2020, totaling RM305 billion (21¼ percent of GDP). Given limited fiscal space, the budgetary component was 3.8 percent of GDP, with greater reliance on monetary and financial support (Appendix II). The rollout of the measures and their implementation has been gradual, responding to changing economic conditions. By year-end, the estimated total COVID-related fiscal spending was RM38 billion (2.6 percent of GDP); the rest is planned to be spent in 2021. Higher crisis-related spending and a revenue shortfall of 2.6 percent of GDP were partly offset by additional dividends from government-related agencies, bringing the federal government deficit to an estimated 6 percent of GDP in 2020, 2.8 percent of GDP above target.

Stimulus Measures by Recipient and Type 1/

(Percent of GDP)

Citation: IMF Staff Country Reports 2021, 053; 10.5089/9781513574202.002.A002

Federal Budget Balance: Budget target vs. Actual

(Percent of GDP)

Citation: IMF Staff Country Reports 2021, 053; 10.5089/9781513574202.002.A002

8. The central bank’s substantial support has underpinned financial market stability. Bank Negara Malaysia (BNM) deployed its ample policy space with a cumulative 125 bps cut in the overnight policy rate (OPR), a 100-bps cut in the statutory reserve requirement (SRR), allowing government securities’ holdings to count towards the SRR, regulatory flexibility and enhanced support to SME lending. In addition, the BNM’s open market operations, including the purchase of government securities (RM 6.9 billion in April 2020), supported the bond market amid significant capital outflows. Consequently, domestic financial conditions eased significantly.

9. Banks entered the pandemic on a strong footing, and their financial indicators have remained above regulatory levels. Aggregate banking sector total capital ratio and the liquidity coverage ratio stood at 18.5 percent and 150 percent, respectively, in November 2020. While profitability has been adversely impacted by increased provisioning, net impaired loans remained low at 0.84 percent of total loans in 2020Q3, supported by government relief measures and debt moratoria.

10. Capital flows have stabilized following the March 2020 global risk-off episode. This episode triggered net non-resident portfolio outflows of $6.3 billion in 2020Q1, largely driven by debt outflows. The swift and substantial actions by central banks including in advanced economies and Malaysia helped stabilize markets, and portfolio flows into Malaysia resumed. As a result, nonresident holdings of government securities had increased by 8.2 percent by end-2020 compared to end-2019.

Nonresident Holdings of Conventional Government Securities (MGS)

Citation: IMF Staff Country Reports 2021, 053; 10.5089/9781513574202.002.A002

Sources: CEIC Data Co Ltd, and IMF staff calculation.

11. The current account surplus has increased, largely due to pandemic-related factors. It is estimated to have widened to 3.7 percent of GDP in 2020 (2019: 3.4 percent of GDP). A larger travel balance deficit due to international travel restrictions was offset by a stronger goods trade balance, reflecting increased external demand for health-related and electronic equipment, and weak imports.

Outlook: Recovery but with Downside Risks

12. The economy is expected to recover in the remainder of 2021, with inflation and the current account balance normalizing over the medium term. Growth is projected to rebound to 6.5 percent in 2021, driven by a strong recovery in manufacturing and construction, and the impact of the vaccination rollout expected to begin in February (Appendix I). The recovery would be uneven across sectors, with persistent weakness in high-contact industries. On the demand side, government spending and a recovery in both domestic and external demand would underpin growth. The current account surplus would decline to 3 percent of GDP, as demand for pandemic-related equipment recedes and the rebound in domestic demand raises imports. The travel balance deficit would persist as international travel restrictions continue through 2021H1. Inflation would recover to 2 percent as electricity tariff rebates expire and energy prices rise. Over the medium term, growth would converge to 5 percent, inflation stabilize at 2 percent, and the current account surplus return to its downward pre-pandemic path.

13. An intensification of the pandemic or realization of other risks could derail the recovery (Appendix III). The current wave could be protracted or could be followed by another severe wave, prompting the authorities to lengthen the duration of the MCOs. This would intensify the supply-side constraints on economic activity, and further dampen domestic demand. In this case, the recovery in 2021 would be significantly weaker. Also on the downside, Malaysia’s highly open economy is vulnerable to escalating trade actions and weaker-than-expected trading partner growth. Domestically, fiscal risks from contingent liabilities could materialize while domestic policy uncertainty could dampen business confidence and investment. Faster-than-expected deployment of COVID-19 vaccines represents an upside risk.

14. Malaysia’s external position in 2020 is assessed to be stronger than warranted by fundamentals and desired policies. This assessment takes into account the transitory nature of pandemic-related shocks (Appendix IV). Although the current account surplus helps reassure investors, it nevertheless represents a gap of 3.6 percent of GDP that cannot be fully explained by Malaysia’s fundamentals and desired policies and is partly driven by relatively lower spending on social safety nets in Malaysia. Going forward, policies which strengthen social safety nets and continue to encourage private investment can help facilitate external rebalancing.

15. Malaysia’s external debt remains high but manageable (Appendix V). External debt increased to 67.5 percent of GDP by end-September 2020 (63.4 percent in 2019) partly driven by higher nonresident holdings of ringgit-denominated debt instruments. The share of external debt denominated in foreign currency stands at about two-thirds of the total, which is low relative to peers. Gross official reserves are adequate ($107.6 billion at end-December 2020), at 126 percent of the Assessing Reserve Adequacy (ARA) metric for a floating exchange rate regime. When adjusted for net forward positions, reserves are at 117 percent of the metric.

External Debt by Currency Denomination

Citation: IMF Staff Country Reports 2021, 053; 10.5089/9781513574202.002.A002

Authorities’ Views

16. The authorities broadly agreed with staff’s assessment of the outlook and risks. They saw growth at 6.5–7.5 percent in 2021, with inflation rebounding to about 2 percent. Growth would be primarily driven by robust external demand, and a rebound in investment as significant infrastructure projects resume. Ongoing stimulus measures would also continue to support the economy. The authorities agreed that risks to the medium-term outlook were tilted to the downside, with resurgences of COVID-19 cases representing the largest risk, but early vaccine availability posing an upside risk.

17. The authorities expressed reservations regarding the external balance assessment. They noted that external debt remains manageable given mitigating factors: (i) the share of external debt “at-risk”2 (8.8 percent of total) is low and has been stable and (ii) banks’ and corporations’ intragroup borrowings (around two-fifths of FX external debt) are generally stable, with the remainder of FX external debt being largely subject to prudential and hedging requirements. The authorities continued to see limitations in the EBA model and expressed doubts regarding its ability to capture transitory effects, even with the staff-proposed adjustors. They are pursuing reforms to strengthen social safety nets and to encourage private investment and productivity growth.

Policies to Secure the Recovery

18. Policies should buttress the recovery while facilitating the post-pandemic economic transformation. Synchronous monetary, financial and fiscal policy support helped prevent worse economic outcomes to-date. Targeted fiscal support should continue until the recovery takes hold, with reliance on accommodative monetary and financial policies given fiscal space at risk. Fiscal reform plans should be prepared to return to fiscal consolidation over the medium term. Governance and other structural reforms should continue to support the economic transformation impelled by the pandemic and technological change.

A. Fiscal Policy

19. The fiscal policy response is helping alleviate the effects of the pandemic. With fiscal space at risk, the authorities’ direct fiscal response has been relatively limited, with monetary and financial measures playing a larger role. The fiscal response in 2020 included 1.1 percent of GDP in cash transfers to households and vulnerable groups; 1.0 percent of GDP in support to firms through wage subsidies; and 0.2 percent of GDP in grants to SMEs. The authorities also allocated 0.2 percent of GDP from the COVID-19 fund for small infrastructure projects. The cash transfer amounts were modest but reached over one-third of the population and wage subsidies were limited to lower-paid workers. The reliance on standing programs facilitated the delivery of support.

20. The 2021 budget strikes a balance between protecting the economy and the vulnerable and initiating a gradual fiscal consolidation. It allocates RM17 billion (1.1 percent of GDP) for cash transfers and wage subsidies, and an additional RM0.5 billion for medical equipment. Support will be front-loaded under a sixth package announced in January 2021 in response to the ongoing severe outbreak. Spending is planned on social and labor market programs, and on support for SMEs and firms operating in states under the MCO. A significant increase in development expenditure is budgeted to rekindle infrastructure investment. Notwithstanding the additional spending, a recovery-driven revenue increase should help reduce the fiscal deficit to 5.4 percent of GDP in 2021.

21. Additional budget support may be needed if the pandemic continues to intensify. Under an adverse scenario of a protracted pandemic, the authorities would need to raise health spending and use scarce fiscal resources to provide additional targeted support to the economy, particularly to households facing prolonged unemployment. These measures would need to be appropriately calibrated as a complement to additional monetary and financial easing, where wider policy space remains, to overcome a larger downturn. Additional spending could be financed with borrowing under the COVID-19 fund, utilizing available space under the parliament-approved ceiling of RM65 billion.

22. Malaysia’s public debt remains sustainable, but the temporary increase in the statutory debt limit underscores the need to improve the fiscal framework (Appendix VI). To accommodate higher spending, the authorities raised the domestic debt limit from 55 to 60 percent of GDP effective through end-2022. Limits on offshore borrowing and conventional Malaysia Treasury Bills remained unchanged, implying a new overall debt limit of around 63 percent of GDP. Staff expects federal government debt to increase to 61 percent of GDP in 2020 and, under unchanged policies, to remain close to 62 percent of GDP over the medium term. To better prepare for changes in the debt limit and better anchor public finances, the authorities should accelerate the preparation of the Fiscal Responsibility Act (FRA).3 In line with past Fund advice, the FRA should allow temporary breaches of the debt limit in response to large shocks and define requirements to bring debt back on track after such breaches occur.4

23. Once the economy recovers, gradual fiscal consolidation is called for. Under unchanged policies, the fiscal deficit would average 4.7 percent of GDP over 2021–23, leaving fiscal space nearly exhausted. The authorities’ target of 4.5 percent of GDP average deficit over 2021–2023 would only minimally increase fiscal space. A faster pace of adjustment, once the recovery is entrenched5, would help rebuild necessary fiscal buffers. A modest additional fiscal effort of 0.5 percent of GDP per annum would help create fiscal space but would likely not suffice to lower debt below the previous limit of 55 percent of GDP by 2025. A larger effort of about 1 percent of GDP annually would bring debt below the previous fiscal anchor. Such consolidation could be achieved by a combination of spending rationalization and new revenue measures.

24. Social protection reform to improve efficiency and coverage would help achieve Malaysia’s social objectives. The social protection system, including since 2018 unemployment insurance, covers a large share of the population and has helped reduce inequality and poverty over past decades. However, benefit levels are low, a non-negligible share goes to households in higher income deciles, and the unemployment and pension insurance exclude a large share of workers (Appendix VII). Consolidating and streamlining benefits would help improve the efficiency of their delivery; and increasing the share benefiting the most vulnerable population would help improve outcomes. The authorities’ plans to review the social protection system are welcome.

25. Renewed efforts towards government revenue mobilization are needed over the medium term. Malaysia’s government revenues are low compared to peers and OECD countries. Revenue mobilization would help finance priority spending, including on social protection, thus supporting inclusive growth and facilitating external rebalancing. Work on a medium-term revenue strategy initiated with IMF support before the pandemic should resume swiftly. At the same time, an evaluation of specific revenue options should proceed expeditiously to allow a timely roll-out of revenue-enhancing measures when the economy recovers. The authorities are considering various welcome options, including a carbon or pollution tax and reintroducing the GST, and IMF staff stand ready to support these efforts through technical advice.

Tax Revenue: OECD and ASEAN-5. 2019

(In percent of GDP)

Citation: IMF Staff Country Reports 2021, 053; 10.5089/9781513574202.002.A002

Authorities’ Views

26. The authorities noted their policy response helped contain the crisis while the 2021 budget aims to support a continued recovery and build resilience. They viewed the policy response as well tailored to the economy’s needs, with cash transfers representing the largest share of direct fiscal support. They have adjusted stimulus measures throughout the year to respond to changing needs of the economy and population. Fiscal support going forward will be increasingly focused on reskilling/upskilling, and on the most-affected sectors.

27. The authorities reaffirmed their commitment to medium-term fiscal consolidation. They noted that progress, temporarily delayed by the pandemic, would promptly resume in 2021. They will advance on the medium-term revenue strategy and consider new sources of revenues once the recovery is entrenched. They also reiterated their commitment to finalizing the FRA. Finally, the authorities noted that they are looking into options to reform social protection policies with a focus on improving protection for children and the elderly and consolidating service provision.

B. Monetary, Exchange Rates, and Financial Markets Policies

28. The BNM’s proactive policy response to the crisis and the accommodative monetary policy stance have improved economic outcomes. The BNM’s response helped cushion the macro-financial impact of the crisis and sustain annual credit growth at around 3.8 percent as of November 2020. At 1.75 percent, the OPR stands at a record low. With one-year-ahead inflation expectations stable, the effective real policy rate is close to zero. There are no signs of liquidity strains, and both short- and long-term real interest rates suggest that domestic financial conditions are appropriately accommodative. Looking ahead, monetary policy should remain data dependent; if downside risks materialize, the BNM has comfortable space to further ease policy.

Banking Sector Liquidity Placed with BNM

(In RM bn)

Citation: IMF Staff Country Reports 2021, 053; 10.5089/9781513574202.002.A002

Source: BNM.

Policy Rate, Reserve Requirement and Base Lending Rate

(In percent)

Citation: IMF Staff Country Reports 2021, 053; 10.5089/9781513574202.002.A002

Source: Haver Analytics.

29. The authorities appropriately allowed the exchange rate to depreciate in response to the economic shock. The BNM’s gross international reserve levels have remained stable around $100 billion and the authorities have not faced excessive financing pressures. Following a decline in March-April 2020, the monthly FX market turnover has returned to pre-COVID levels. The authorities should continue to allow the exchange rate to depreciate if downside risks materialize. In case of an inflow surge, some reserve accumulation would be appropriate while still allowing the exchange rate to adjust as a first line of defense.

30. The authorities have retained their focus on domestic financial market reform. A number of measures were implemented at end-April to enhance FX market functioning and improve efficiency,6 including exempting exporters from the requirement to convert FX goods export proceeds below RM200,000 per transaction7 and allowing hedging of foreign loan obligations up to the duration of underlying tenure (previously limited to 12 months). The BNM has also recently launched pilot programs to (i) facilitate selected FX forward trades without underlying assets to nonresident index-tracking investors, and (ii) allow selected licensed onshore banks or Appointed Overseas Offices to enter into ringgit-denominated interest rate swaps with non-resident financial institutions without underlying commitment. IMF staff is working with BNM staff upon their request to analyze the role of the exchange rate in Malaysia’s economy and explore further options to deepen FX markets. The authorities’ commitment to push ahead with this agenda is welcome. In this context, staff advise that the authorities gradually phase out existing CFM measures with due regard to market conditions.8

Authorities’ Views

31. The authorities agreed with staff’s assessment of monetary and financial markets policies, with some reservations. They noted the unprecedented support measures implemented to counter the crisis. With the OPR at a record-low level, they viewed monetary policy as highly accommodative and intend to maintain such accommodation until the recovery is firmly entrenched. Looking ahead, monetary policy will remain data dependent. Should the outlook significantly worsen, there is space to make monetary policy even more accommodative, closely coordinating with fiscal policy and other government support. Continued efforts to deepen domestic FX markets have bolstered the exchange rate’s shock absorber role, and the level of the exchange rate will continue to be market determined. The authorities noted continued difference in views with staff on the recommendation to phase out the FX market development measures that staff classify as CFMs. They view the measures as necessary to deepen the onshore market, to manage contagion risk from opaque offshore markets, and to underpin Malaysia’s long-standing policy on non-internationalization of the ringgit.

C. Financial Sector Policies

32. BNM’s policies helped cushion the macro-financial impact of the pandemic. The loan moratoria, SME financing facilities, and encouragement of prudent loan restructuring and appropriate regulatory flexibility supported financial sector performance. The automatic loan payment moratorium through September 2020 provided relief to 95 percent of households and SMEs. With financial conditions improving, around 85 percent of borrowers had resumed payments by October. The BNM’s long-standing support of financial innovation and digitalization has also contributed to increased use of e-payments during the pandemic (Appendix VIII).

33. Strong capital and liquidity positions, combined with policy support measures, should enable Malaysia’s banks to absorb possibly large losses from the crisis. The BNM’s most recent macro stress test, using both top-down and bottom-up approaches, suggests that banks would remain resilient;9 the implied rise in overall impairments to just above 4 percent of total loans by end-2021 would lead to a 2 percentage points decline in banks’ aggregate capital ratio, easily accommodated with existing buffers. However, with IMF staff’s baseline pointing to continued stress on the banking system, and given downside risks, the BNM should update its stress tests and scenario analysis frequently to closely track evolving financial stability risks. Continued vigilance regarding commercial real estate sector exposures is notably warranted, given continued weakening in that sector against a backdrop of pre-existing oversupply.

34. Household debt requires continued close monitoring. Household debt increased to 87.5 percent of GDP by June 2020 (2019: 82.9 percent). Household assets (190 percent of GDP at end-2020Q2) cushion this risk and loan moratoria have provided relief. Nonetheless, BNM stress tests suggest that low-income households remain vulnerable: borrowers with monthly income below RM3,000 account for 66 percent of borrowers who would default by end-2021. Although associated loan impairment may not pose large systemic risks—these borrowers only hold 17.1 percent of total banking system household debt, as at end-June 2020—as the debt moratoria gradually end, banks and supervisors should stand ready to address a possible rise in household loan impairments.

35. The corporate sector entered the crisis with pre-existing vulnerabilities. Non-financial corporate debt increased to 108 percent of GDP by end-June 2020, from 99 percent at end-2019. About a quarter of this debt is externally held, with the remainder largely in the hands of domestic banks and institutional investors. IMF staff research suggests that the share of debt-at-risk at end 2019 was relatively high.10 Corporates’ non-performing loans, especially in sectors adversely affected by the pandemic, could rise significantly. As the automatic loan payment deferment programs did not include large corporates, banks have been supporting restructuring requests on a case-by-case basis. Financial conditions for the corporate sector are expected to remain challenging in 2021, and supervisors should continue monitoring credit developments and reviews to support efficient reallocation of credit from non-viable to viable firms. The unwinding of support measures should be calibrated to the pace of the recovery and start only after activity improves durably.

36. The debt resolution framework, established following the Asian Financial Crisis, has recently been enhanced. The authorities have refined operational procedures for the Corporate Debt Restructuring Committee, the out-of-court mechanism that handles larger corporates. The Small Debt Resolution Scheme, which handles SME’s out-of-court debt restructuring, has been transferred (effective September 2020) from BNM to a specialized agency, the Credit Counseling and Debt Management Agency, whose resources were also increased. This agency now serves as a one-stop platform for individuals and SMEs seeking debt restructuring and provides financial education and advisory services. These enhancements are timely, and the authorities should stand ready to further increase resources allocated to debt resolution as needed.

37. The BNM is promoting inclusion objectives through digital bank licensing. Following a 6-months public consultation, BNM has issued on December 31, 2020, a policy document on the licensing framework for digital banks. Applications are due by end-June 2021, and the BNM plans to notify the granting of licenses to up to five applicants in the first quarter of 2022. The digital banks will operate under a simplified regulatory framework during a foundational phase, reducing regulatory burden for new entrants, while ensuring stability of the financial system. License approvals will prioritize value propositions to enhance access in financially underserved areas through innovation and digitalization, a welcome step in the context of e-payments’ increased importance during the COVID-19 pandemic.

38. The authorities are working to strengthen the framework for assessing climate change risks in the financial sector. In 2020 the Joint Committee on Climate Change (chaired by BNM and the Securities Commission) continued to meet regularly, with focus on (i) risk management; (ii) governance and disclosure; (iii) product and innovation; and (iv) engagement and capacity building. BNM is finalizing a Climate Change and Principles-Based Taxonomy, which aims to provide a common language to categorize economic activities based on their impact on climate change and to facilitate financial flows to activities that support the transition to a lower-carbon economy. BNM is currently focusing on strengthening its surveillance and supervisory frameworks to incorporate climate change risk, leveraging on its involvement in the Network of Central Banks and Supervisors for Greening the Financial System. Looking ahead, the lack of data needed to support risk management and product solutions remains an important challenge that would need to be addressed.

Authorities’ Views

39. The authorities broadly shared staff’s assessment of the financial sector. They agreed that the financial sector entered the pandemic with sizeable buffers. The impact of the pandemic on banking sector asset quality has been limited to-date, aided by the debt moratoria. While non-performing loans may rise in the coming year, banks have the necessary buffers to cope. Supervisory vigilance will be maintained, and greater reliance placed on institution-specific stress tests jointly conducted with banks, which provide granular insights to complement BNM’s macro stress tests. Continued policy support may be needed to avoid pro-cyclical bank lending behavior. The insolvency regime has been enhanced in anticipation of corporate sector difficulties and more resources could be provided in that area if the need arises. On financial structural issues, the authorities noted their continuous focus on enabling financial innovation to reach financially underserved segments through the planned licensing of digital banks and on testing the banking system’s operational resilience, including to climate change risks.

Structural Reforms

40. Further progress on governance reforms is needed to underpin a sustainable economic recovery and rekindle consumer and investor confidence. Around a quarter of the initiatives outlined in the 2019–2023 National Anti-Corruption Plan (NACP) had been implemented as of end-December 2019. An asset declaration system for members of government and parliament was introduced in 2019, and monthly income and total asset data have been published.11 The planned introduction of laws under the NACP to govern detailed asset declarations (including beneficially owned assets) should be done to bring Malaysia in line with international best practice. Further reforms to strengthen the Malaysia Anti-Corruption Commission are needed to ensure independent appointment of its Chief Commissioner and to clarify their service and resignation/termination rules. The establishment of the Ministry of Finance LAKSANA unit to report on COVID-19 spending is welcome and should be enhanced by a publicly accessible database that tracks spending for each initiative. Notably, beneficial ownership information of companies awarded with procurement contracts should be published, to safeguard misuse of funds. Reforms delayed by the pandemic and the change in government should promptly resume, including legislative initiatives on procurement reform, freedom of information, and establishment of an Ombudsman.

Progress on Implementation of NACP Measures

(Percent of total NACP measures)

Citation: IMF Staff Country Reports 2021, 053; 10.5089/9781513574202.002.A002

Note: Measures implemented as of December 31, 2019.Source: Malaysian authorities.

41. The authorities should continue to enhance the effectiveness of the AML/CFT framework. Recent legislative steps to increase the transparency of beneficial ownership are welcome and need to be effectively implemented to ensure availability of accurate and up-to-date beneficial ownership information. Considering the main ML/TF risks for the financial sector, supervisory authorities should continue to focus on enforcing measures for politically-exposed-persons. Legal and implementation measures to regulate virtual assets are on track, and authorities seem well attuned to technological developments.

42. The authorities’ structural reform agenda is appropriately focused on gaps highlighted by the COVID-19 crisis. The Twelfth Malaysia Plan’s (12MP) focus areas are welcome. Improving healthcare, inclusion, upgrading the digital infrastructure and greening the economy, will help strengthen the economic recovery. The authorities should articulate specific policies, including a medium-term public investment program, to help achieve these goals.

Authorities’ Views

43. The authorities reaffirmed their commitment to improving governance and noted that their reform program will help address the fallout from the pandemic. They underscored that progress on governance reforms has been temporarily delayed by the pandemic, but broad engagement with stakeholders will resume to help advance reforms including on freedom of information, political financing and establishment of an Ombudsman. The Mid-Term Review of the NACP is expected to be submitted to parliament in 2021Q1. The authorities also underscored that the newly established LAKSANA unit is ensuring transparency of all COVID-19 fiscal spending. Regarding structural reforms, the authorities expect to launch the Twelfth Malaysia Plan (12MP) in 2021. The plan will help revitalize the economy. Sectoral priorities include services and agriculture. Another immediate focus will be improving digitalization, which will help bolster government services and enhance online education.

Staff Appraisal

44. The authorities’ robust policy response to the pandemic has cushioned the blow to Malaysia’s economy, and vulnerabilities remain manageable. Activity plunged in 2020Q2 as measures were taken to limit the virus’ spread; but the economy rebounded in 2020Q3, supported by a significant and coordinated monetary, financial and fiscal policy stimulus. Sizable pre-existing buffers are mitigating the macro-financial impact of the crisis, and external debt, although high, remains manageable. Malaysia’s external position remains stronger than warranted by fundamentals and desired policies.

45. Macroeconomic policies should remain supportive until the recovery is fully entrenched. Staff’s baseline scenario of a strong rebound in 2021 is subject to considerable downside risks, until the pandemic is brought under control in Malaysia and globally. Should these risks materialize, additional fiscal and monetary policy stimulus would be needed.

46. The authorities’ commitment to fiscal consolidation and reform is welcome and should be followed through after the economy picks up. Adjustment through spending rationalization and revenue-increasing measures, once the recovery is cemented, would help rebuild fiscal buffers. Preparations for such measures should proceed without delay. Completion of the Fiscal Responsibility Act would help better anchor public finances. Strengthening the social protection system would improve efficiency and coverage and help facilitate external rebalancing.

47. The accommodative monetary policy stance is appropriate and financial supervisory authorities should remain vigilant. Indicators suggest that liquidity is appropriate, markets are functioning smoothly, and the banking system is financially sound. Supervisors should remain alert to the continued stress on banks in the near term. High household debt would also require close monitoring as borrowers will likely face increased stress with the gradual phasing out of loan moratoria. The authorities’ enhancements to the debt resolution framework are welcome.

48. The authorities’ initiatives to deepen domestic FX markets are welcome and should continue. Recent actions have appropriately improved efficiency and expanded available hedging instruments. The authorities should continue to allow the exchange rate to cushion shocks to the economy.

49. The authorities’ focus on inclusion and climate change in the context of financial structural reforms are promising. Prioritizing, when approving digital bank licenses, value propositions that enhance access in financially underserved areas is a welcome step in the context of e-payments’ increased importance during the COVID-19 pandemic. Incorporating climate change risk in reforms to the financial sector surveillance and supervisory framework is an important step towards a climate resilient economy.

50. Further progress on governance reforms is needed. The commitment to transparency, including regarding COVID-19 related spending, is welcome. The authorities should follow through on the initiatives outlined in the National Anti-Corruption Plan. Reforms delayed by the pandemic and the change in government should promptly resume, including inter alia legislative initiatives on asset declaration, procurement reform, freedom of information, and establishment of an Ombudsman.

51. It is recommended that the Article IV consultation with Malaysia be held on the standard 12-month cycle.

Figure 1.
Figure 1.

Malaysia: Growth and Exports

Citation: IMF Staff Country Reports 2021, 053; 10.5089/9781513574202.002.A002

Figure 2.
Figure 2.

Malaysia: Inflation and Domestic Resource Constraints

Citation: IMF Staff Country Reports 2021, 053; 10.5089/9781513574202.002.A002

Figure 3.
Figure 3.

Malaysia: Monetary Developments

Citation: IMF Staff Country Reports 2021, 053; 10.5089/9781513574202.002.A002

Figure 4.
Figure 4.

Malaysia: Capital Flows

Citation: IMF Staff Country Reports 2021, 053; 10.5089/9781513574202.002.A002

Figure 5.
Figure 5.

Malaysia: Fiscal Policy Developments

Citation: IMF Staff Country Reports 2021, 053; 10.5089/9781513574202.002.A002

Figure 6.
Figure 6.

Malaysia: Financial Sector Developments

Citation: IMF Staff Country Reports 2021, 053; 10.5089/9781513574202.002.A002

Figure 7.
Figure 7.

Malaysia: Financial Soundness Indicators

Citation: IMF Staff Country Reports 2021, 053; 10.5089/9781513574202.002.A002

Figure 8.
Figure 8.

Malaysia: Household Debt

Citation: IMF Staff Country Reports 2021, 053; 10.5089/9781513574202.002.A002

Figure 9.
Figure 9.

Malaysia: House Prices

Citation: IMF Staff Country Reports 2021, 053; 10.5089/9781513574202.002.A002

Table 1.

Malaysia: Selected Economic and Financial Indicators, 2016–25

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Sources: Data provided by the authorities; CEIC Data Co. Ltd.; World Bank; UNESCO; and IMF, Integrated Monetary Database and staff estimates.

Based on data provided by the authorities except for 2015 data which is estimated using splicing methodology by IMF.

Cash basis. The authorities plan to adopt accrual basis by 2021. For 2019, overall and primary balance includes the payment of outstanding tax refund (arrears) amounting to RM37 billion.

Tax refunds in 2019 are allocated for payment of outstanding tax refunds.

Consolidated public sector includes general government and nonfinancial public enterprises (NFPEs). General government includes federal government, state and local governments, and statutory bodies.

Based on data provided by the authorities, but follows compilation methodology used in IMF’s Integrated Monetary Database . Credit to private sector in 2018 onwards includes data for a newly licensed commercial bank from April 2018. The impact of this bank is excluded in the calculation of credit gap.

IMF staff estimates. U.S. dollar values are estimated using official data published in national currency.

Based on a broader measure of liquidity. Credit gap is estimated on quarterly data from 2000, using one-sided Hodrick-Prescott filter with a large parameter.

Revisions in historical data reflect the change in base year for nominal GDP (from 2010=100 to 2015=100).

The decrease in short-term debt by remaining maturity in 2017 was partly due to the implementation of an improved data compilation system that corrected previous overestimation.

Includes receipts under the primary income account.

Table 2.

Malaysia: Indicators of External Vulnerability, 2016–20

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Sources: Haver Analytics; CEIC Data Co. Ltd.; data provided by the authorities; and IMF, Integrated Monetary Database and staff estimates.

Latest available data or IMF staff estimates.

Gross debt. General government includes the federal government, state and local governments, and the statutory bodies.

Based on data provided by the authorities, but follows compilation methodology used in IMF’s Integrated Monetary Database.

Kuala Lumpur interbank offer rate.

Based on balance of payments.

IMF staff estimates. U.S. dollar values are estimated using official data published in national currency.

Includes offshore borrowing, nonresident holdings of ringgit-denominated securities, nonresident deposits, and other short-term debt.

Includes receipts under the primary income account.

Table 3.

Malaysia: Balance of Payments, 2016–25 /1

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Sources: Data provided by the authorities; and IMF staff estimates.

Information presented in this table is based on staff estimates using official data published in national currency.

Based on IMF staff estimates of short-term external debt by remaining maturity.

The decrease in short-term debt by remaining maturity in 2017 was partly due to the implementation of an improved data compilation system that corrected previous overestimation.

Export and import volume growth in 2015–2018 is calculated using official export and import volume indices (2010=100).

Table 4.

Malaysia: Illustrative Medium-Term Macroeconomic Framework, 2016–25 /1

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Sources: Data provided by the authorities; and IMF staff estimates.

Period ending December 31.

IMF staff estimates. U.S. dollar values are estimated using the official data published in national currency.

IMF staff estimates are used 2015 onward.

The decrease in short-term debt by remaining maturity in 2017 was partly due to the implementation of an improved data compilation system that corrected previous overestimation.

Table 5.

Malaysia: Summary of Federal Government Operations and Stock Positions, 2016–25

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Sources: Data provided by the Malaysian authorities; and IMF staff estimates.

Cash basis. The authorities plan to adopt accrual basis by 2021.

The authorities established a dedicated COVID-19 trust fund where they channeled proceeds from borrowing needed to finance the additional spending on COVID-19 relief measures. All such expenditures are appropriated through the fund.

Net acquisition of nonfinancial assets include lending and loan repayment to and from other government related entities. In 2020, it includes RM4bln of COVID-related projects.

Tax refunds in 2019 are allocated for payment of outstanding tax refunds.

Structural (primary) balance removes one-off revenues and tax refunds in 2019, while nonoil and gas primary balance does not exclude tax refunds in 2019.

General government includes federal government, state and local governments, and statutory bodies. Public sector includes general government and nonfinancial public enterprises.