Malaysian central bank holds firm on rate cuts

It cited strong domestic demand and robust investment spending as providing enough buffer against the growing global financial turmoil.

Emboldened by bullish forecasts of the Malaysian economy, the central bank is expected to keep the overnight policy rate at 3% for the rest of the year, according to OSK-DMG, but inflation risks could force its hand to some emergency easing.

Here's more from OSK-DMG:

As expected, BNM held the Overnight Policy Rate (OPR) steady at 3.00% today. The OPR has been unchanged at 3.00% since May 2011. The rationale to hold the policy rate steady was not dissimilar from its previous decision in May. Like in May, today’s decision was also underpinned by concerns that global headwinds originating from the ongoing crisis in the Eurozone could not only increase volatility in the financial markets but also dampen demand for the region’s exports.

The central bank continued to be upbeat regarding the Malaysian economy, pointing to resilient consumption and investment spending. This is not surprising given the record RM233b budget laid out by the government for spending on transfers to the people and expenditure on infrastructure projects. As a result, healthy domestic demand should provide a buffer against external weaknesses. In addition, inflation remains on a moderating trend and is likely to average 2.7% this year. However, the central bank did warn that upside risks to inflation could still emerge should commodity prices jump as a result of supply disruption (possibly from geopolitical tensions in the Middle East).

We continue to hold to that a rate cut is unlikely this year and any moves to lower rates would take place only if the global environment deteriorates significantly such that it impacts Malaysia’s growth negatively. Given the strong growth expected of at least 5% this year (our forecast is for 5.2% real GDP growth), there could be a build-up of inflationary pressure in the economy by year-end. Thus, while the central bank is likely try hold the OPR steady for the most part of the year to support growth, a pick-up in inflation pressure from strong domestic demand in the latter part of the year could result in a pre-emptive move by the central bank to tame these pressures. For the moment, we expect the central bank to hike the OPR by at least 25 bps to 3.25% sometime in the latter part of 2H12.