Given the increased risk in Malaysia overall economy, would Fitch change the current sovereign credit profile of A- (stable)

Guarantees, external finances add to Malaysia concerns

November 20, 2012

KUALA LUMPUR, Nov 20 — Malaysia’s public finances are a weakness relative to rating peers and offer limited scope for counter-cyclical fiscal stimulus at the current rating level of ‘A-’/Stable, Fitch Ratings believes. While this has not hindered the public sector’s capacity to contribute to GDP, which grew 5.2 per cent yoy in the third quarter according to Bank Negara Malaysia Friday, the growing provision of guarantees to government-linked borrowers is concerning.

Domestic demand continued to support economic growth in the face of a weak external demand. While private consumption and investment are increasing, public-sector linked activity remains a key support. Public consumption moderated in Q312, posting a 2.3 per cent yoy increase (down from 10.9 per cent in Q212), while public sector gross fixed capital formation increased 22.4 per cent yoy, following a 28.9 per cent increase in Q2. With a general election due in the first half of next year, government and government-linked activity is expected to remain a significant contributor to growth.

Greater drawdown of existing federal government guarantees of debt issued by public sector enterprises suggests increasing use of quasi-fiscal policy to support economic activity and may apply further pressure on the sovereign credit profile. The value of outstanding debt guaranteed by the Malaysian federal government has increased by RM23.4b (USD7.6b), or 20 per cent, between December last year and September. Such debt is now equivalent to 15 per cent of GDP compared with 9 per cent at end-2008, and suggests a growing contingent liability on the sovereign.

Given Malaysia’s lack of fiscal headroom, the increasing reliance on off-balance sheet funding could potentially call into question the meaningfulness of the 55 per cent of GDP federal debt ceiling (debt/GDP had risen to 52.4 per cent at end-Q312). These concerns, coupled with the need for structural reform of the public finances and a credible plan for fiscal consolidation, suggest that Malaysia’s public finances will remain a weakness versus ratings peers, as has been the case for some time.

As Fitch warned when we reviewed the ratings in August, fiscal trends may eventually lead to some form of negative rating action. Other areas of the credit profile including the external finances and level of foreign reserves remain strengths. However, foreign holdings of government debt have continued to increase and now represent nearly 50 per cent of Malaysia’s foreign exchange reserves, up from 36 per cent at end-2011. Fitch looks to see how economic and fiscal policies develop following the elections. —Reuters

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