3Q 2010 Exchange Rates Review

This is about a week late but as they say, better late than never.

One of the funny things about the commentary about the Ringgit’s movements is that the focus is almost exclusively on the USD exchange rate. But with total trade with the US averaging just 10% of Malaysia’s total trade over the past year, that gives an incomplete and highly misleading picture of the Malaysia’s trade competitiveness.

To wit (effective exchange rate indexes; 2000=100):

The “Great Appreciation” of the Ringgit has been no more than recovering the ground lost since the beginning of the recession. More to the point, we’re actually not talking about a great deal of movement, except against certain select currencies particularly those which have a formal or informal link to the USD. Against the base year of 2000, on a trade weighted basis the Ringgit has in fact barely moved at all – 2%-4% appreciation over a decade is hardly worth getting excited about.

Against the currencies of Malaysia’s major trade partners (about 63% weightage in the indexes), we see a split in movements with the Ringgit gaining the most ground against the epicentre of this past crisis i.e. the US and to a lesser extent the EUR (log difference since 2005:07):

Note the close correlation with the CNY and SGD in the post float period after 2005, a link that broke down at the onset of the recession as capital flight to safe havens drove down the Ringgit’s value, and appears to be returning over 2010. I suspect that the SGD link will remain close, mainly for technical reasons – as the Monetary Authority of Singapore manages the republic’s monetary policy via the exchange rate (instead of the more common interest rate target), and since Malaysia is one of Singapore’s biggest trade partners, the MYR-SGD cross-rate will feature pretty highly in MAS’ reckoning. That isn’t the case with China, so you might see the CNYMYR rate continue to move upward.

For the rest (log difference since 2005:07):

…since the float, the Ringgit has risen against nearly all the currencies of our other trade partners except for the AUD, PHP and THB, though for this year the gains have been concentrated against the VND, HKD and the TWD – all of which are either formally or informally linked to the USD.

It’s interesting to see that despite claims of currency manipulation in East Asia, the only currencies which are close matches to the USD are the HKD (which is based on a USD currency board), and the TWD. The KRW has lost ground on both USD and other East Asian currencies, but the rest have almost all appreciated.

I don’t know of you can fault central bank management of exchange rates in East Asia to any great degree – for the most part, intervention has been to limit volatility and appreciation rather than to keep a hard link to the USD. There’s probably more concern over the problem of a sudden stop reversal of capital flows, than any angst over loss of export competitiveness – a hard lesson learned from 1997-98.

Technical Notes:

Exchange rate data from Pacific Exchange Rate Service