This article first appeared in Forum, The Edge Malaysia Weekly on October 7, 2024 - October 13, 2024

For the first time since 2007, the deposit level in Malaysia’s foreign currency account (FCA) saw a significant drop in the month of August.

Based on Bank Negara Malaysia’s data, the deposits declined by RM11 billion to RM246 billion in that month. Prior to August, deposits in the FCA, which are primarily the proceeds brought back into the system by Malaysian exporters but not converted into ringgit, always rose.

Bank Negara’s historical data shows that the FCA level was only RM21.4 billion in January 2007. Ten years later, it had swelled to RM146 billion in January 2017. In January this year, the amount stood at RM247 billion and rose in the next few months before tapering off.

FCA deposits have dropped before, especially when the global economy slowed and the US dollar was weak. One instance was a few months in 2016, when the US-China trade war erupted. However, the quantum then was not as large as the RM11 billion recorded this August.

Generally, the deposits in the FCA have risen because exporters tend to keep their proceeds in US dollars for ease of taking the money out with minimal Bank Negara approvals. As such, the sharp decline in August does not indicate a trend.

But going forward, exporters are likely to convert more of their proceeds into ringgit considering the weakening US dollar.

According to one exporter, Bank Negara played a role in encouraging exporters to convert their proceeds in the FCA. It is learnt that the central bank gave assurances of easy approval for the ringgit to be converted back into foreign currency should there be a need to do so.

The weakening US dollar, Malaysia’s political stability and Bank Negara’s action in encouraging exporters to convert their proceeds are among the main reasons for the ringgit’s strengthening against the greenback.

The dollar’s weakness is a reflection of the slowing US economy, which has prompted the Federal Reserve to cut interest rates. The Fed lowered rates by 50 basis points last month and is expected to reduce them further to a band of between 4.5% and 4.75%.

The ringgit has been the best performer among emerging market currencies so far this year, appreciating almost 10% against the US dollar.

The writing was on the wall for the weakening US dollar in March. Nevertheless, the speed at which the ringgit gained strength against the greenback caught even the most optimistic of exporters off guard.

Among those already feeling the impact are firms in the electrical and electronics sector, oil and gas companies and selected manufacturers. The sharp rise of the ringgit will show in their results in the next few months.

What’s ironic is that while the local currency’s appreciation against the US dollar is generally welcomed by Malaysians and is a positive for the government, it will hurt the economy in the long term. This is because Malaysia’s export sector plays a large part in the country’s economic growth.

In the second quarter, the local economy recorded a growth rate of 5.9%, among the highest in Asia. The strong second quarter growth has prompted some economists to forecast a full-year economic growth of 5%.

One of the reasons for the strong growth is the buoyant export sector, which grew 8.4% in the second quarter, compared with 5.2% in the first.

If the ringgit continues to rise at the current pace, it could have an impact on the economy a year from now. And regulators, in particular Bank Negara which is the guardian of the ringgit, know that. Towards this end, currency traders say the central bank has been buying dollars in exchange for the ringgit to stabilise the local currency at current levels.

Does this mean the ringgit’s appreciation against the US dollar has reached its peak for now? In all probability, it has.

If anybody is expecting the ringgit to continue to strengthen and return to the RM3.80 level against the US dollar, they will have to wait much longer.

Going forward, everything points to the ringgit appreciating further in the next one year, unless there is a change in the local political landscape.

Sentiment on the dollar is weak due to the slowing US economy. Another reason is the US presidential election. Donald Trump advocates a weak dollar to export the US out of a slowdown and if he wins, the fear of a global trade war is real.

The ringgit should also appreciate in the longer term as Malaysia is fast becoming a draw for foreign investments. Another reason is the government’s commitment to fiscal reforms. There is no denying that Prime Minister Datuk Seri Anwar Ibrahim has been the best salesman for Malaysia since 2018, and he has maintained good ties with both the US and China.

Malaysia has also carved a niche as a neutral place for investments for companies that want exposure to both the US and China.

There are reports of the ringgit reaching RM3.55 against the US dollar by the end of next year. Nobody should be surprised if that happens as in 1996, the exchange rate was RM2.50 to the US dollar.

But the appreciation of the ringgit should be a gradual process in line with the growth of the economy, reforms in government policies and growth of higher-value export items. A sharp appreciation, such as that witnessed in the last six weeks, is not healthy for the economy.

M Shanmugam ([email protected]) is a contributing editor at The Edge

Save by subscribing to us for your print and/or digital copy.

P/S: The Edge is also available on Apple's App Store and Android's Google Play.