8 Jun 2019




1.0       INTRODUCTION                                                                                       3

2.0       NEWS ARTICLE SUMMARY                                                                  3

3.0       EFFECTS OF OPR ON MALAYSIA’S ECONOMIC GROWTH                      5


5.0       SUGGESTIONS TO BOOST ECONOMIC GROWTH USING MONETARY POLICY IN MALAYSIA                                                                        9
            5.1       Rate of Fixed Required Reserves                                                     10
            5.2       Open Market Operations                                                                  10
            5.3       Moral Persuasion                                                                              11
            5.4       Monitoring Bank’s Portfolio                                                            11

6.0       CONCLUSIONS                                                                                         12

1.0              INTRODUCTION
Monetary policy is guidelines that provide the monetary authority of a country in regulating the supply of money and to stabilize the growth of economy (Friedman, 1968). In Malaysia, Bank Negara Malaysia (BNM) conduct monetary policy based on S.22 of Central Bank of Malaysia Act 2009 by influencing the level of interest rates that borrowers have to pay on their loans and depositors earn on their deposits. During the peak of economic overheating and when the threat of inflations high, monetary policy will be tightened by withdrawing fund from the banking system and raising interest rates. The higher interest rates will encourage people to save more and spend less. It would also make it more expensive for people to borrow money. This will cause consumption and investment to slow down to a level that is more sustainable and reduce the prospect for high inflation. Conversely, when economic conditions are weak, fund will be injected into the banking system to reduce interest rates, spending and borrowing would increase. The resulting increase in consumption and investment would stimulate further economic activity, leading to higher income, employment and economic growth.

To give a clear explanation on how monetary policy in Malaysia and its effects on economy growth rate and unemployment rate, this assignment will discuss about one monetary policy in Malaysia by referring to one local news article. The article which is publish in The Star Online, under the title ‘BNM cuts interest rate to 3%’ is reporting about the Bank Negara decision to reduce the Overnight policy rate (OPR) by 25 basis points to 3% in 2016. Important macroeconomics variables will be highlighted in the chosen article and this assignment will also discuss the impact of the monetary policy variables highlighted in the article pertaining to Malaysia’s economic growth rate and rate of unemployment.

2.0              NEWS ARTICLE SUMMARY
As reported by Joseph Chin (2016), in The Star Online on 13th July 2016, Bank Negara Malaysia (BNM) has unexpectedly reduced the Overnight policy rate (OPR) by 25 basis points to 3% at its Monetary Policy Committee (MPC) meeting citing rising risks from Britain's exit from the European Union. This move could see banks lowering their lending rates and making it cheaper and companies to take loans. Correspondingly, the saving rates could also go down.

The overnight policy rate is an overnight interest rate set by BNM used for monetary policy direction. It is the target rate for the day-to-day liquidity operations of the BNM. OPR is the interest rate at which a depository institution lends immediately available funds (balances within the central bank) to another depository institution overnight. The amount of money a bank has fluctuates daily based on its lending activities and its customers’ withdrawal and deposit activity, therefore the bank may experience a shortage or surplus of cash at the end of the business day. Those banks that experience a surplus often lend money overnight to banks that experience a shortage so the banking system remains stable and liquid. This is an efficient method for banks around the world to practice 'Accessing short-term financing' from the central bank depositories. The interest rate of the OPR is influenced by the central bank, where it is a good predictor for the movement of short-term interest rates.

In Malaysia, changes in the OPR trigger a chain of events that affect the base lending rate (BLR), short-term interest rates, fixed deposit rate, foreign exchange rates, long-term interest rates, the amount of money and credit, and, ultimately, a range of economic variables, including employment, output, and prices of goods and services which is the micro and macro factors on the economic. The new base rate (BR) framework encourages greater transparency from banks and will enable customers to make better financial decisions. Previously, calculations of BLR lacked transparency and some banks were lending below the BLR to attract customers and boost loan growth. Under the new system, customers cannot borrow below the base rate. The BLR is usually adjusted at the time in correlation to the adjustments of the OPR which is determined by Bank Negara Malaysia during one its monetary policy meetings. For this case, Monetary Policy Committee (MPC) meetings.

The article also reported the official statement from BNM which justifying the move to reduce the OPR. According to BNM, the action is in tandem with the global economy continues to record growth at a more moderate pace, across and emerging market economies.

BNM also stressed that in Asia, persistent weakness in the external sector has weighed on growth, although demand remains supportive. Looking ahead, there are increasing signs of moderating momentum in the major economies. Thus, the reduce will be the catalyst for Malaysian economic growth amid the decision of European Union (EU), in United Kingdom Brexit.

Lastly, BNM believes that the OPR reduce will bring advantage to Malaysia economy as domestic demand continues to be the main driver of growth. Private companies will be supported by growth in income and employment, and measures implemented will prosper the economic growth.

According to the statement released by BNM in the article discussed above, the OPR was reduced in light of the rising risks from Britain’s withdrawal from the European Union (EU), also known as Brexit. The central bank decided to cut the rate due to the uncertainties in the global environment, which could negatively impact Malaysia’s growth prospects. The rate reduction consequently also lowered inflation forecasts for this year. Inflation forecasts are lowered to 2% to 3% in 2016, compared to an earlier projection of 2.5% to 3.5%, and as expected to continue to remain stable in 2017.

Generally, the news of OPR reduction gave the stock market a boost, especially property counters which had been sluggish in 2016. After the announcement of the OPR cut, the FBM KLCI closed up 6.42 points or 0.39% to 1,660.39, led by UOA Development REIT, which jumped 30 sen to RM2.49 with 7.50 million shares done.

The OPR cut also lent support to the Malaysia Ringgit, which has jumped to 3.96 to the US dollar, and expected to strengthen further to around 3.95.

Against the Singapore dollar, the ringgit rose to 2.9403/9449 from 2.9446/9492, while it improved against the yen from 3.8039/8098 to 3.8015/8081. On the other hand, the ringgit rebounded higher against the British pound from 5.2637/2715 to 5.1967/2049, but eased against the Euro to 4.3940/4008 from 4.3889/3960 in the week when the OPR cut is announced.

Banks will likely be negatively impacted by the BNM’s decision, with the already challenging economic environment. Their margin will be further compressed with the lower benchmark interest rate.

However, according to Kenanga Research, Malayan Banking Bhd (Maybank), AMMB Holdings Bhd (AmBank) and Affin Holdings Bhd are likely to be the least affected by the downward revision in the OPR. These banks are believed to be able to mitigate this impact better, because their fixed rate lending comprises around 30% of their total loan portfolio (versus the industry average of 24%).

Thus, it is not surprisingly to see another OPR cut in the same year as the moves clearly give a boost to Malaysian economy. This is because If economic growth continues to slow more than expected, this may cause the central bank to reduce the OPR by another 25bps in the next meetings.

Though the reduction in OPR comes as a surprise, it does mean more disposable income for consumers. However, with the current uncertain economy in 2016 the OPR cut is seen as justifiable as it is the only measures that can be taken to correct the slow growth of Malaysian economic in 2016.

As the result, Following the OPR reduction, there was an immediate and complete pass-through to interbank rates, with the 3-month KLIBOR (Kuala Lumpur Inter-Bank Offered Rate) declining by 25 basis points the next day. This consequently led to lower lending rates. The weighted average Base Rate (BR) of commercial banks declined by 22 basis points by end-August. Correspondingly, the weighted average lending rate (ALR) on outstanding loans was lower by 15 basis points in the same period.

Since the adjustment, BNM assessed that the monetary policy stance has remained consistent with the macroeconomic outlook and kept the policy rate unchanged for the rest of the year. The domestic economy remained on track to expand as projected for 2016 and 2017. While the baseline estimate was for a slight improvement in global growth in 2017, the downside risks remained elevated following uncertainties over the growth momentum, policy shifts in major economies, unresolved issues post-Brexit and policy uncertainties arising from the outcome of the US presidential election in November. Global financial markets remained susceptible to heightened volatility amid setbacks and shifts in investor sentiments. Nevertheless, the BNM acknowledged that there were signs of positive developments, notably the prospects of a shift towards fiscal support for growth in the advanced economies.

In a country, there will be unemployment. Full employment is difficult to achieve. OPR as a Monetary Policy can be used for achieving full employment. If the monetary policy is expansionary then credit supply can be encouraged. It could help in creating more jobs in different sector of the economy (Amassoma & Esther, 2015). As we all know, the purpose of expansionary is to avoid unemployment by decrease in interest rate in order to make easy credit.

In order to avoid unemployment from raising, BNM will using easy money policy which increase the total supply of money in the economy more rapidly than usual by lowering interest rate in the hope that easy credit will entice business into expanding (Loganathan, Yussof & Kogid, 2012). One of the policy is OPR.

Figure 1: Malaysian unemployment rate.
Source: www.tradingeconomics.com

Following the OPR cut, unemployment Rate in Malaysia decreased to 3.20 percent in February of 2017 from 3.30 percent in January of 2017. Unemployment Rate in Malaysia averaged 3.31 Percent from 1998 until 2016, reaching an all-time high of 4.50 Percent in March of 1999 and a record low of 2.70 Percent in August of 2012. Unemployment Rate in Malaysia is reported by the Department of Statistics Malaysia.

From Bernama, February 21, 2017, Malaysia will enjoy the full employment when its unemployment rate for December last year fell to 2.9% from 3.5% a month earlier. The unemployment rate was also lower than the 3.3% posted in the same month in 2012. The number of employed and unemployed persons recorded a decline of 131,400 and 59,600 persons to 13.55 million employed and 425,000 unemployed persons respectively in December last year. the labor force participation rate eased 1.3% to 13,973,800 persons in December last year from 14,164,800 persons in the previous month. Year on year, it rose by 4.8% from 13,332,100 persons recorded in December 2012.

From the point, other aspects namely foreign workers, Unemployment as damaging issue in Malaysia Economic during times of Asian Crisis, the number of foreign workers in Malaysia has arisen up from an 850,000 people in 2001 to 1, 470, 00 people in 2004 and calculated to be 2,045,000 in 2007 and nowadays it reaches to be 2, 7 million foreign workers. Considering that 1,000,000 of foreign workers in manufacturing sector, which can cover up two thirds of the manufacturing sector 1.4 million work-forces in Malaysia. Its high correlation and presence had become the reason of Malaysia’s low wage architecture within last one decade. However, the existence of foreign labor in Malaysia had successfully kept up and managed the unemployment rate become stable and starkly even lower within last one decade expected range of 3% to 4% annually.

The presence of more than 2.7 million workers in Malaysia had become a pertinent issue which effected the economic growth. According to Firman Shah (2012), he had mention the presence of foreign worker had omitting and smoothening up labor shortages in certain areas of work in Malaysia. They had played complimentary roles to domestic labor in covering up and fulfilling the demand for labor market in Malaysia which help to stable the unemployment rate and fluctuates range between 2.9% to 3.6% per year within last one decade (The Composition of Malaysia Population 2010)

For monetarist, the presence of foreign worker had given effect to the unemployed graduates which later become a worrying trend to Malaysia. However, during financial crisis, the total retrenched workers are total majority workers which argue the displacement of them. 

Monetary policy is guidelines that provide the monetary authority of a country in regulating the supply of money and to stabilize the growth of economy. Thus, in implementing a good monetary policy, there are few factors that can need to be considered.

In this chapter, we will look into how can the government boast our economy by using monetary policy. We will discuss about 4 potential recommendation that are able to help further boast the Malaysia Economy Growth and push the country to achieve more economical success in the future.

            5.1       Rate of Fixed Required Reserves
BNM may require Commercial Banks in Malaysia to hold a fraction (or a combination) of their deposit liabilities (reserves) as vault cash and or deposits with it. Fractional reserve limits the amount of loans banks can make to the domestic economy and thus limit the supply of money. The assumption is that Commercial Banks generally maintain a stable relationship between their reserve holdings and the amount of credit they extend to the public.

When prices are rising, the central bank raises the reserve ratio (Karim, 2012). Banks are required to keep more with the central bank. Their reserves are reduced and they lend less. The volume of investment, output and employment are adversely affected. In the opposite case, when the reserve ratio is lowered, the reserves of commercial banks are raised. They lend more and the economic activity is favorably affected.

In order to stimulate positive growth in the economy the government will have to lower the rate of fixed required reserves, as this rate has an inverse relationship with the total money supply in the market. So, when the rate of required reserves get lower the total money supply in the market will increase. The formula for Money supply under this rate of fixed required reserves is as follows:

Money Supply=  × initial deposit

5.2       Open Market Operations
When BNM buys, or sells securities to the banking and non-banking public (that is in the open market). Aside from Cash reserve, commercial banks are also required by BNM to own liquid asset or securities sell by it. One such security is Treasury Bills. When the Central Bank of Malaysia sells securities, it reduces the supply of reserves and when it buys back securities it will increases the supply of reserves to the commercial banks, hence impacting the supply of money. This requirement was set to help further control and stabilize the Malaysian economy.

Generally, Open market operations is defined as the sale or purchase of securities. As it is known that the credit creating capacity of the commercial banks is dependent upon the cash reserves of that particular bank. Hence, the BNM is capable of controlling the credit in the market as well as the money supply of the market by changing the base of the credit-creation by the commercial banks. If the credit is to be decreased in the country, the central bank begins to sell securities in the open market. This will result to reduce money supply with the public as they will withdraw their money with the commercial banks to purchase the securities. The cash reserves will tend to diminish. This happens in the period of inflation. During depression when prices are falling, the central bank purchases securities resulting in expansion of credit and aggregate demand.

            5.3       Moral Persuasion
The Central Bank of Malaysia is responsible for issues licenses or operating permit to Commercial Banks and also regulates the operation of the banking system. It can, from this advantage, persuade banks to follow certain paths such as credit restraint or expansion, increased savings mobilization and promotion of exports through financial support, which otherwise they may not do, on the basis of their risk/return assessment.

In the recent years, this usage of moral persuasion has become a popular tool of credit control. It is a general term describing a variety of informal methods used by BNM to convince commercial banks to behave in a particular manner that going to generate positive gain for all parties in the society better. The Moral persuasion can take in the form of either Directive and Publicity.

            5.4       Monitoring Bank’s Portfolio
Sometime the problem we have in our economy is that the banks in Malaysia only like to borrow money to certain groups of business man only because of their stable and traditional way of business nature. If this is left it will impact the healthy growth of the nation economy as a whole as other industry such as renewable technology, technology development, online businesses that might only see profits in some years to come cannot progress as they cannot attain loan from bank. That is where BNM come in, the BNM must set the guideline and guide.

To stimulate positive economic growth, the government must direct the commercial banks in the country to provide sufficient money supply across all industries and sectors (Schiller, 2016) so that the Malaysia economy can grow positively with balance. For instance, the agriculture industry would obtain the same growth rate as heavy industrial sector in our economy hence enable it sustain the growing of our overall economy. It is very important that the government can strike this balance among all the sectors in the economy so that our growth can be sustainable and progress further in the future.

Monetary policy play important role to implement in economic growth by stabilizing in influencing through a number of channels. For example, in price stability, by increasing in price level achieve is adjudged substantially to be a monetary phenomenon, monetary policy uses its tools to effectively check money supply with a view to maintaining price stability in the medium to long term. The expectation in economic activities will be higher and contribute to higher consumer spending and attractive companies’ investment by cut interest rate to make the cost of borrowing, resulting higher investment activity and the purchase customer durables.

As discussed in previous chapter, OPR is known as a monetary policy in Malaysia. It also used for monetary policy direction. The OPR is interest rate at which a bank lends to another bank, which is set by BNM. This rate has an effect on the country’s employment, economic growth and inflation. It is an indicator of the health of a country’s overall economy and banking system. The exact mechanics of OPR can be seen on how BNM sets the rate that is consistent with the long-term goals of stable prices (about 3% inflation in Malaysia’s case) and economic growth at full employment. Assuming the OPR is higher than before, than BNM needs to reduce the supply of money in the system. This relative scarcity will increase the market price for overnight deposits.

The OPR can be seen as the right tool to correct Malaysia’s economic growth. It is a sensible tool to adopt the wait-and-see approach if performance of the economy does not stray too far from forecasts.

Amassoma. D., & Esther, F. O. (2015). The efficacy of monetary policy variables in reducing unemployment rate in Nigeria. International Finance and Banking, 2(2), 52-72.

Dogan, T. T. (2012). Macroeconomic variables and unemployment: the case of Turkey. International Journal of Economics and Financial Issues, 2(1), 71-78.

Friedman, M. (1968). “The Role of Monetary Policy”. American Economic Review. 58, pp1-17

Economics Online Websites. (2014). Monetary Policy. Retrieved on from http://www.economicsonline.co.uk/Managing_the_economy/Monetary-policy.html

Joseph C. (2016). BNM cuts interest rate to 3%. The Star Online. Retrieved from: http://www.thestar.com.my/business/businessnews/2016/07/13/bnmcutsoprto3pctatitsmonetarypolicycommittee/

Karim, Z. A. (2012). Interest Rates Targeting of Monetary Policy: An Open-Economy. Star Study of Malaysia, 2 (1059-1073).

Loganathan, N., Yussof, I., & Kogid, M. (2012). Monetary policy and unemployment shocks in Malaysia: do they connect? 3rd International Conference On Business and Economics Research Proceeding. 48-58.

Schiller, B. R., & Gebhardt, K. (2016). The macro economy today. New York, NY: McGraw-Hill Education

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