Monday, April 5, 2010

Morgan Stanley’s Reaction To The NEM

Malaysia's New Economic Model: Making the Right Noise

The market's and our expectations for the NEM have been low. However, what surprised us was that the NEM report had by far the most candid and comprehensive outline of impediments faced by the economy. We think that policymakers have properly outlined all the problems. The next step would be effective implementation. We suspect that market participants may want to see more tangible and orchestrated change before believing that a structural turnaround is for real. The fact that general elections are due by 2013 suggests that some measures may be politically difficult to implement. Yet, we think education reforms would be one area that would address the root problem in Malaysia without being politically charged. We would watch out for the extent of change on that front as an important signpost for Malaysia's structural inflexion point.

You can read the rest here.


  1. Dear Hisham H,
    I for one have not a clue what the NEM is neither is worthwhile even spending an iota even discussing it. Actually what business activity can the Government directly influence without incurring additional debt. That itself is going to be a self defeating point of view.

    Lets put some facts on the table.

    Nos 1 the myth that the Government somehow is responsible for some huge subsidy. 1MPM6 mentioned that the "subsidy" is RM 70 billion budgeted for 2010.

    RM 70 billion subsidy? Who is he kidding. The actual subsidy to consumeres was 2 major items, the subsidy for fuel - RM 10 billion, to be shared with the glorious IPPs,allocation for MARA RM 2 billion and the subsidy for interest on the PTPN fund - about RM 1 billion.

    The big ticket items lumped together in this transfer payments mistaken by the PM for subsidy was
    RM 15 billion - interest on debt
    RM 10 billion - Pensions
    RM 6 billion - to the Unis (wonder why our students need to pay fees on top of this, and this is only the Op Budget)
    RM 1 billion - KLIAB

    The balance RM 15 billion was a hodge podge of various accounts with corpratization being a chief culprit.

    So essentially the domestic economy is like a merry go round. Spend today like theres no tomorrow.

    Unfortunately for the gomen, is that short term rates are now starting to spike up. Our debt duration which used to be very much in the long term during DSAI is now 50% in the short - medium term with massive refinancing of debt over the next 3 yes. The gomens weighted interest rate is 3.4ish %, imagine what the "subsidy" for Gomen debt will be in 2012 if interest rates were to spike to 5%, (of course triggered by some currency crisis / short term money flow out.)

    Key thing is BNM's forex reserves. Thanks to the wisdom of Pak Lah we have a sizable cushion. However, for all our supposed current account surplus, the end inc in BNM foreign reserve position has been 0 for the last couple of months owing to the massive "reinvestment in overseas" phenomenon.

    So where JPM fears to tread let I Wenger J Khairy put it succinctly.

    A massive public deficit will reduce the cost of capital which means more and more of bank loanable funds will be used to prop up MGS and GII. 0 credit growth in all sectors except the household sector.

    Any decision by Uncle Sam to start to raise interest rates would put a pressure on BNM to do the same or else pummel the Ringgit.

    Option A- Raise Interest rates
    Public deficit continues to swell touching past RM 500 billion in 2012. This puts the soverign rating of the country at risk, not that local banks have a choice. In the end banks prop up the gomen and no new investment in the industry, which means declining international trade which means a potential decline in the BNM reserves which mean a downward bias on the ringgit (PPP fanboys be forewarned).

    Option B- BNM continues to keep rates low, which means Ringgit gets pummelled on the forex market

    So either way long term I see Soros prediction of 5 to the dollar becoming a reality and a massive inflation spike to hit the country in 2012.

    SO says I Wenger J Khairy

  2. Wenger, nice comments, but I can't do justice in reponse through the comments, so with your permission I'll do a full post to cover the points you have raised.

  3. No probs Hisham H. Your blog is really great for those interested in the reality of the situation and not the brouhaha and spin created by 3 letter acronyms.
    All you have to do is to look at the M2 growth in nominal ringgit. You can nail the number at RM 8 billion per month.

    This number has been exceptionally stable over the last 6 yrs (run a regression on the level of Deposits over months from 2004. High r2 but some pesky little "persistence" effects. A 1st order diff test however turns out quite ugly)

    And how much of this additional marginal liquidity is being used to finance the gomen debt? Forget the NEM - lets perhaps look at some commie state as the model becos by 2012, all marginal credit creation will be the gomen . Businesses and the household will just maintain their original levels.

    The sum of it all is that , I would see the situation wrt to the Gomen deficit akin to the Minksy hypothesis.

    The Gomen is the 'ponzi' unit. Liquidity crunch here we come. 2012. Guaranteed!

    Short bonds if you can!

  4. Details Wenger :)

    Are you running a regression against time? I got 8b for a straight regression and 7.8b after correcting for serial correlation. The latter can be modeled by inserting an AR(1) term as a determinant.

    Technically though, you should be using a log transformation on M2 first, as most economic time series are exponential. This yields a smaller estimate of around 0.76% growth per month after seasonal adjustment.

  5. Thanks HishamH,
    It was a simple linear regression. A "crude and rude" regression sir. Have yet to master the technique of when to use an AR series on the data.

    On a separate matter, I am still quite baffled when you run an exponential regression on the Govts. revenue from 1996 (using BNM's annual data) you get an equation like this:
    y = 51047*exp(0.087041*t) with an R-sqrd of 99.57%.

    Baffled in the sense why is this the case? Is there any economic theory that could explain such a near perfect relationship?

    But I do note that the errors are systematic as opposed to randomly distributed. Its in my level 2 that we should watch out for that, forgot whether this is a sign of heteroskadicity or some other "skadicity"? (Must revise)

  6. Christ, Wenger, stop calling me sir!

    The use of ARMA terms can be guided by looking at the generated autocorrelation (a.c.) and partial correlation functions (p.a.c.) of a regression.

    When you see a pattern of big observation(s) and then a sudden drop in the p.a.c. and big but slowly declining observations in the a.c., that calls for an AR term in the regression - the number of big observations in the p.a.c. shows you the lag of AR terms that you have to use e.g. one big observation in the p.a.c. means using an AR(1), two observations means AR(2). If the pattern is opposite, then you use MA terms with the lag indicated.

    Economic time series are typically AR(1), though some are AR(2). MA data generating processes are comparatively rare.

    You can get approximately (but not quite) the same effect with a lagged dependent variable as an explanatory variable, e.g.:

    y(t) = a + b*(y(t-1))

    ...with or without a time trend.

    I think you misunderstood me about using the exponential - most economic series can already be characterised as exponential, so to use a linear regression as a model you have to transform the series with natural logs which will give you (graphically) a nice straight linear line. e.g.:

    log(y(t)) = a + b*t

    Two further advantages of this is that using natural logs means any percentage change in the original series becomes level independent (i.e. the slope is constant), and second, the coefficient of the explanatory variable can be evaluated as an elasticity. Hence, in the preceding example, the coefficient b would be the estimate of the percentage change of y on changes in t, across the whole range of the sample.

    Functionally, this is little different from the approach you took except assessing the coefficient is quite a bit harder.

    The non-independence of the residuals you detected isn't from heteroscedasticity, it's from serial correlation. Putting in the AR term or using a lagged dependent variable term gets rid of it.

    To try out all this stuff I suggest you download and install this program, and check out my basic tutorials.

  7. Hi HishamH,

    Thanks for the excellent Gretl tutorial. Its really handy and well written.

  8. In the national account, you have private expenditure and private investments. I believe the non-profits entities are also lumped under the private categories. But they are very small relative to the population. Private invetments are equities, houses, but not savings, right? So where are savings placed in?

  9. Alan,

    Savings is calculated as a residual in the national accounts, not a category on its own i.e. its what's left after taking away consumption etc from national income (note: not the same as national product). BTW investment in equities is not investment in an economic sense, and shouldn't be included in the national accounts.

  10. Hishamh,
    Thanks for the clarifications.
    What I am trying to get at is this. If simplistically, Income = Consumption + Savings + Invesments; wouldn't we then be able to calculate Gross Private Income by using values of consumption,saving and investment. Presumably we can use private consumption and private investment from the GNI accounts.
    Problem is - where is the 'private savings' value in the GNI Accounts or within the national accounts?

  11. I see your difficulty. The problem you're having is that you are looking at it from an individual agent point of view.

    In aggregate national accounts, savings is functionally equivalent to investment i.e. S ≡ I, which gives Savings = Income - Consumption. That's why I said that savings is calculated as a residual.

    Why it's treated this way is that when you "save", your "savings" are actually utilised (usually) for investment by someone else. To give an example, if you put RM10000 in a term deposit, the bank's not going to pay interest without doing something with the money, whether putting it in money market instruments or bonds or loans.

  12. So Income = Consumptions + Investments, then?
    So if i use the 2008 GNI numbers where
    Private Consumption = RM 334.1 billion,
    Private Investments = RM 80.6 billion
    Total Household Income would then be = RM 415 billion (okay plus minus the insignificant contributions of non-profits).
    That okay?

  13. If you're trying to get to household income - good luck.

    I've spent some time in the past day or so reading the latest guidelines on national accounts, and my understanding of it means that to get to household income you need to get hold of the detailed breakdown of the national accounts. You won't get it from the reported aggregates.

    Private consumption (i.e. the expenditure approach) is mainly households, but private investment is not. Neither are directly related to household income.

    Approaching it the other way doesn't quite work either, as savings can be under households, corporates or government.

    Read here for further details.

  14. I dont really have to get to household income. It's not critical but wd be nice if we can get it. What's important is to have established that:-
    #1 - Private Consumption is indeed (say 99%) household Consumption or Expenditure (other 1% for non-profits).
    #2 - That Private Consumption is some fraction of Private or Household Income. I think this is also very correct.
    Question is what fraction? I'd guess it in the order of 70% to 80% if based on national aggregate values, whilst by ethnic groups may vary.
    Just need to initially work on ball-park figures - see if the general approach is on the right track.
    Eversince Alan Greenspan's 'hunky dory' diagnosis of US economy (Pre-Subprime) went miles off, I dont mind being a few yards or a few feet off. i'd still come out looking smarter.

  15. At a guess, I would say #1 is correct, but #2 is way too low.

    Note that the national accounts record flows not stocks.

    The household debt ratio has increased steadily over the last decade, which implies that consumption growth is exceeding savings growth i.e. taking a bigger chunk of income.

    That national savings continues to remain relatively high is more a factor of corporate savings rather than household savings.

    You'd still need to look at the detailed accounts to figure out how much households are really saving.