This article first appeared in Forum, The Edge Malaysia Weekly on July 24, 2023 - July 30, 2023

Weaker for longer. This will likely be the trend of the ringgit in the coming months. A consensus view is that it will be difficult to see the local currency regaining ground to hit RM4 against the US dollar in the next 12 months, if not longer.

On July 18, it closed at 4.5355 against the greenback. It ended the day at 5.9390 against the pound and 3.433 against the Singapore dollar.

An often-cited defence of the ringgit’s weakness is that it is not so much due to weak economic fundamentals but the sharp rise in US interest rates in the last one year and the slowdown in the Chinese economy.

Since March 2022, the US Federal Reserve Board has embarked on a series of 10 aggressive rate hikes, taking the benchmark federal fund rates (FFR) to the 5.00%-5.25% range currently from 0.25%-0.50% in March 2022, to fight soaring inflation.

The interest rate differentials between US and domestic rates have widened to 200 basis points (bps), after Bank Negara Malaysia held the overnight policy rate (OPR) steady at 3% following the July 5-6 Monetary Policy Committee (MPC) meeting.

While the aggressive rate hikes in the US are undeniably a contributor to the ringgit’s continued weakness, the fact of the matter is the local currency has not been a star performer in the region prior to 2022.

Some in the banking industry rightly point this out: The US rate hikes just helped push the ringgit faster down the curve. For sure, most global currencies have suffered the impact of the stronger US dollar. However, compared with its regional peers, the ringgit is one of the worst performers.

Are we missing the forest for the trees if the rhetoric on the weakening ringgit continues to be on the role of external factors and not enough is focused on the real issue, which is the need for economic reforms? The crux of the matter is that strong economic fundamentals are what is needed to keep a nation’s currency stable and strong, even during times of crises. Resilience is key.

Look no further than Singapore. The Singapore dollar, long regarded as a safe haven currency, has remained resilient against the greenback in recent months. For sure, it did lose some ground, but overall, the slide has not been as large as its regional peers and sentiment on the currency remains bullish.

Some of the reasons cited for the Singapore dollar’s resilience are its strong economic fundamentals and a monetary policy that is targeted at the S$ nominal effective exchange rate (S$NEER).

Singapore is also among a very few countries with a Triple A sovereign credit rating. Malaysia’s sovereign credit rating in 2023 by Fitch Ratings is BBB+ with a stable outlook.

The reality is that economic fundamentals and political uncertainty are among reasons for the ringgit’s long-term weakness. High household debt (85% of gross domestic product), weak private investments and a high public debt remain some of the structural issues that have dogged the economy for many years, and these must be addressed for sustainable and strong long-term economic growth.

Piecemeal approaches to economic reforms have proven to be not effective in bringing about economic change. The clarion call is for meaningful and comprehensive reforms to correct the structural issues plaguing the domestic economy. It will not be easy, given the current political climate.

A strong and resilient economy will in turn create a strong and resilient currency. History has also shown that central bank intervention to mitigate a currency’s fall is costly and not sustainable in the long term, a case in point being what happened during the 1997/98 Asian financial crisis.

On the home front, Bank Negara Malaysia has been intervening, off and on, in the foreign exchange market to prevent too sharp a fall in the local currency. More recently, the central bank, while keeping the OPR at 3%, mopped up liquidity in the interbank market to push short-term interbank rates higher.

Bank Negara’s decision to keep the OPR came as a surprise; many in the market were expecting a 25bps hike. Some money market dealers say the mopping up of funds in the money market to push interbank rates higher helped temporarily deter foreign investors in ringgit assets from exiting the Malaysian market in a knee-jerk reaction to the lack of a rate hike.

There is light at the end of the tunnel. Interest rate differentials may start to come down towards the end of the year, thus easing the dilemma faced by the central bank — raising the OPR could stifle economic growth; not increasing the rate could lead to more exodus of funds from ringgit assets, which will weaken the local currency further.

Inflation has started to ease, not just in the US but in other parts of the world. Latest data show that US headline inflation in June fell to 3%, from 4% in May.

Still, while inflation has peaked in the US, there are worries that it could remain sticky in the short term. Which is why analysts expect the US Fed to maintain a hawkish stance, with market players not ruling out another 25bps hike this year, taking the US interest rate to 5.5%. This should be the last interest rate hike by the US Fed. If inflation continues to ease to stabilise at 2%, a view is that the US will see at least five rate cuts in 2024.

The closing of rate differentials may help the ringgit regain some lost ground in 2024. But a real and meaningful strengthening can only happen alongside economic strength and resilience. Put simply, it boils down to fundamentals and a genuine commitment to bring about change.

Anna Taing is a managing editor at The Edge

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