KUALA LUMPUR — These days there is somewhat of an upbeat economic mood in Malaysia, although it is still far from a booster shot to the Malaysian economy in general. The Malaysian ringgit has been wallowing in the doldrums over the past year, sauntering close to or even beyond its lowest exchange rate against the US dollar (during the Asian financial crisis at the end of the last century), with a somber forecast for its currency value.
But almost all of a sudden, the ringgit swung up strongly against the dollar by almost 10 percent. This recent appreciation in the value of the ringgit is viewed quite positively by many circles in Malaysia and beyond. But to put it more squarely, the ringgit rise mainly reflects the weakness of the US dollar, rather than significant progress in structural reforms in the Malaysian economy. More generally, the so-called fluctuations in the value of various currencies around the world are mostly relative to the US dollar, which is the world’s leading trading currency. The recent appreciation is not exclusive to the ringgit; many currencies in emerging markets have also risen. In other words, it is not as if the ringgit is unique in its recent appreciation.
After all, the strength or weakness of the US dollar, especially relative to other overseas currencies, still follows the basic rules of a market economy. That is, if the supply of US dollars in circulation overseas is less than the demand for dollars (low supply, high demand), the value of the dollar will rise. Conversely, if dollar supply overseas exceeds demand (high supply, low demand), the value of the dollar will decline. Over the past few years, the US Federal Reserve (equivalent to its central bank) has maintained a policy of relatively high domestic interest rates, causing much of the “hot money” that was originally circulating overseas to flow back to the United States. The money then supposedly either gets deposited in American banks to earn higher interest rates or flows into the American domestic financial markets for investment (or speculation).
Although in the eyes of many US investors, so-called emerging markets like the ones in our region may offer higher returns on investment as compared to their American counterparts, they also come with corresponding risks, such as political instability, rampant corruption, and the presence of hidden (or “explicit”) rules that violate the principles of a market economy. Therefore, when US interest rates rise, a lot of these overseas dollar funds are drawn back to the US. As a result, the supply of dollars outside the US decreases, but the global demand for the dollar remains strong at all times. So, naturally, the value of the dollar rose at that time, while the currencies of emerging economies, like the Malaysian ringgit, fell accordingly.
And so, what is it with the current situation? Well, as the saying goes, every action has a corresponding reaction. The Federal Reserve’s high interest rate policy to combat inflation in the US, supposedly based on modern American economic experience, comes at the cost of slowing American economic growth. With such high interest rates that propagate down the money chain and permeate into each and every nook and corner of the American economy, American businesses are understandably less inclined to borrow from financial institutions for expansion, and American consumers prefer to save their money in banks to earn higher interest rather than spend it. Naturally, a market hit by this double whammy of reluctance to expand and low consumption becomes sluggish. For instance, the latest US employment data has fallen short of expectations, and manufacturing growth is also less than ideal.
The Federal Reserve has only very recently awakened from its self-imposed obsession of “bringing the inflation rate down to 2 percent at all costs” and has belatedly noticed these signs of a weakening US economy. Although the Federal Reserve didn’t lower interest rates as many in America and beyond had hoped during its most recent policy meeting, the minutes released from the meeting suggest that they might lower rates in the next round of policy meetings in September. Some even believe that the Federal Reserve might lower rates by 0.75 percent all at once to give the US economy a much-needed strong boost. Well, I can only say that we will have to wait and see about that.
In any case, the main point remains that the US market and investors have both sensed a slowdown in the US economy, at least in the short term, and they are also anticipating that the Federal Reserve will lower interest rates. As a result, there emerges once again a subtle trend of US capital gradually flowing overseas, especially into emerging markets in search of higher returns. When the supply of US dollars outside the US increases, its value correspondingly declines to some extent. And the converse is then, of course a seeming appreciation in the values of a number of overseas currencies, especially those from emerging markets. It remains to be seen how long this latest trend of a weakening dollar will last and whether the rise of these foreign currencies can be sustained without meaningful and fundamental structural reforms being undertaken in these foreign economies. Enjoy the party while it lasts.
