Economics & Strategy

Economy shrinks in 1Q, showdown
on monetary policy looms

Technical View

Brace for further downside this week, but there
will be opportunities for bargain hunting


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(for the week of 1-5 June 1998)

Economy shrinks in 1Q, showdown on monetary policy looms

The Yen's dip to seven-year low against the US dollar at 139.20 sent the regional markets to a crossroad. In Hongkong stocks traded in volatile session over the anticipated contraction in economic growth - officially -2% in the 1Q 1998. Malaysia fared equally bad, with GDP shrinking by 1.8% in 1Q98, leading the KLCI to lower close everyday last week.

Economy shrinks in first quarter: GDP growth slipped into the negative territory, the first since 1985. The country recorded a - 1.8% GDP growth in 1Q98 vs 8.5% growth in 1Q97 and 6.9% growth in 4Q97. All sectors of the economy slackened in 1Q, with agriculture (-2.8%), mining (2%), manufacturing (-2.4%), construction (-10%) and services (2.9%). The central bank remains steadfast that its full-year forecast of 2.5% growth is still within reach. The 1Q98 figures compares with still-robust 1Q97 before the onset of economic crisis. Thus, of immediate concern is the performance in the 2Q. Two consecutive quarters of decline could herald a recession, according to Bank Negara.

The only bright spot is the improvement in the balance of payment with 1Q trade surplus at RM8.8b, up from RM1.7b in 4Q97 and vs RM2.0b in 1Q97. The current account deficit could be wiped out at "close to balance" vs the earlier estimate of 5% of GNP.

Showdown on monetary policy: The economic contraction in 1Q highlights the urgent need to put in place stimulative package to jumpstart productive activities in several crucial sectors. Hampering such efforts is the tight liquidity in the system and the vigour in which banks are squeezing up credit, let alone extend new lines to worthy borrowers. This situation is a direct result of the tight monetary policy and stubbornly "high" interest rates that hallmark the central bank's current thinking. Bank Negara has its twin objectives in combating inflation and finding stability for the battered currency.

That policy has its vocal opponent in the very government itself, which is championing for lower interest rate regime to alleviate the suffering of local businesses. Either way, there is a hefty cost to pay. What might be achieved is a compromise solution from the likely arbitration of the National Economic Advisory Council, which is due to submit its recommendation to the Cabinet this month. Because the composition of the NEAC are largely policymakers of the day, the outcome may be deemed a compromise that could likely impair the independence of the central bankers. We would also be watchful of differences among the top leadership on the same issue.

Transparency still a foreign word despite much hype: The market appears to be rather kind to Proton last week, following its proposed purchase of an additional 16.3% stake in Lotus Group International for RM100m. The cash deal on willing buyer-willing seller terms (after taking into account the initial acquisition cost and holding cost over 22 months) looks detrimental without the accompanying valuation of its worth, as well as the need to preserve internal cash. That block of shares was bought from Citranika Enterprise - a 50:50 JB between the late Yahaya Ahmad and Saleh Sulong.

Why Proton must buy-out the 16.3% block (at RM61.54 per share) in times of uncertainty begs an answer, when it could have done so in October 1996. Then, the 80% block in Lotus was acquired for 51m pounds (RM204m, or RM25.50 per share) and split two-way, with Proton taking 63.8% stake in the famous car maker. Until the actual worth of the Lotus shares can be determined, it appears be a help-out for Saleh Sulong and the estate of Yahaya Ahmad.

Much-maligned Malaysian Airline System (MAS) may be on the mend. Despite producing a poor finals to March 31, 1998, the airline looks set to pacify investors with its chairman's pledge over the weekend. Tajudin Ramli said the (restructuring) exercise is not an attempt to satisfy the business interests of specific groups of shareholders in MAS. " He also gave his pledge and commitment that "all shareholders will be treated on an equitable basis." That promise remains to be delivered. Our view is that investors will still need convincing, though, given the perceived need to restructure his personal debts.

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