Friday, 11 November 2016

Of Ringgit, Donald Trump and Irrationality

US Dollar - Malaysian Ringgit exchange rate hit a record high yesterday in the offshore market reaching 4.73 at one point before stabilising back below 4.40:

USD - MYR Exchange Rate -  Investing.Com

Nevertheless in the onshore market on which is traded based on the actual supply and demand of the currency, the USD-MYR movement was fairly stable and less volatile than the offshore market:

USD - MYR Exchange Rate - Bloomberg

The Kuala Lumpur USD-MYR reference rate which is published by the BNM every (working) day at 3:30PM also confirmed that the onshore market didn't get hit as much as the offshore market.

USD-MYR reference rate for yesterday was 4.2899 not as high as 4.3994 in the offshore market:

Kl USD-MYR Reference Rate - Bank Negara Malaysia

But what is the difference between onshore and offshore market for the USD-MYR exchange rate?

The onshore Ringgit market is the place where USD-MYR is traded locally between the banks in Malaysia.

After the Asian Financial Crisis in 1998, the government via Bank Negara introduced capital and currency control measures which I believe most people would remember when the government fixed the USD-MYR rate at 3.80 for every 1 US Dollar.

Other than the pegged exchange rate measure, Ringgit was also prohibited from being traded internationally which means foreign financial institutions were banned from getting Ringgit financing to trade the local currency outside Malaysian market.

This measure has also practically closed all the loopholes for currency speculators to "attack" the Ringgit like how it was attacked before the Asian Financial Crisis unravelled by the end of 1997.

The 3.8 peg was abandoned on the 21st July 2005 but the prohibition on offshore Ringgit trading still remained until today which means Ringgit is a non-internationalised currency.

The only offshore market that still exists today is the non-deliverable forward (NDF) market which is a derivative product (forward) that's used to trade a thinly traded or non-convertible currency like Ringgit and most other emerging market currencies.

In the NDF market, no actual Ringgit is traded between the buyer and the seller and only USD is used as medium of settlement of the forward contract.

According to an overview by the Chief of Monetary Policy Operations of the Federal Reserve Bank of New York, it is estimated that between 60 and 80% of NDF trading is speculative which means the speculators are betting on or against the exchange rate movement to make money from it.

That's the difference between onshore and offshore market of Ringgit.

So what caused the Ringgit to depreciate sharply in the NDF market and reached almost a record high (4.80) set in early 1998 yesterday?

As many of us already know, Donald Trump has stunned the world by beating Hillary Clinton to become the next US President.

Apart from the fact that Trump's campaign was based on racism, sexism and the politics of fear, he also promised to spend heavily on US infrastructure via a fiscal stimulus package worth 1 trillion US Dollar.

The financial markets reacted to the planned stimulus differently across the board.

The stock market particularly financial and industrial stocks rose sharply after Trump's victory while the US government bonds (treasury) took a huge hit as investors reacted to the planned $1 trillion fiscal stimulus. (*When prices of bond fall, the bond yields rise):

The 10-year US treasury yield rose (price dropped) the most in three years as bond investors think that President Trump's infrastructure stimulus will stoke inflation in the US.

Trump has also promised to the Americans that he will pull out from any current and already-planned trade deals or agreements between US and other bloc of countries like the NAFTA, TPP and TTIP because he thought that those trade deals have not benefited and will not benefit the Americans.

He's also accused China of practising currency manipulation by competitively devaluing its currency (Chinese Yuan) to make its exports cheaper and gain a competitive advantage over other countries at the expense of the US exports industry.

He planned to impose a huge import tariffs (duty) on products from China that will make them become more expensive and less competitive.

These protectionism policies are expected to boost US inflation rates faster and will give room for US central bank, the Federal Reserve to raise the interest rate.

Since the global financial crisis in 2008, Fed has only hiked the interest rate once in December 2015 by 25bps (+0.25%) because of the persistently low inflation and slack in the job market.

Trump's expansionary fiscal stance and protectionist stance on trade stoke the selloffs in US Treasury as investors expected faster inflation rates that will lead to the Federal Reserve to hike US interest rate in the near future.

That brings us to the selloffs in other currencies across the globe including our own Ringgit.

On Thursday and Friday we saw almost every currency especially the emerging market's took a hit and depreciated against the US Dollar.

Regional Asian currencies Won (KRW), Rupiah (IDR), Baht THB) and Taiwan Dollar (TWD) depreciated significantly against the greenback: 

Selected Asian Exchange Rates: Investing.Com

Korean Won and Indonesian Rupiah were among the worst hit yesterday as reported by Bloomberg prompted Indonesia's monetary authority to step in and intervene to reduce the volatility in the currency market.

As the Dollar strengthened strongly, commodity prices like oil that's traded in US Dollar were also hit:

Brent Oil Futures Price - Investing.Com

As a result, oil producers' currencies like Australian Dollar, Norweign Krone, Mexican Peso and Russian Ruble plunged sharply against US Dollar yesterday:

Selected Oil Producers Currencies: Investing.Com

It's a double whammy for Malaysia as an emerging market and an oil producer country which saw a very volatile movement in the NDF market for Ringgit on Thursday night and Friday morning.

Bank Negara's Financial Markets Committee issued a statement that they are taking measures to ensure the Ringgit has not been priced excessively and out of sync.

Since then USD-MYR exchange rate has stabilised and despite still depreciating, we don't see an extreme volatile movement like in the morning trading session.

Should we as Malaysians be worried about the depreciation of Ringgit?

Yes and no, depends on the factors or basis of the depreciation.

If US Dollar keeps strengthening and commodities prices such as oil keep plunging, the depreciating Ringgit should be welcomed by us.

The depreciating Ringgit will partly offset the decline in Malaysia's petroleum revenue in USD term as oil is traded in US Dollar.

Since oil is traded in US Dollar, oil producers and exporters sell their oil and gain revenue in USD. They will convert their oil revenue in USD to local currency unit in our case Ringgit. Let’s assume in 2014 oil price on average is USD100 per barrel and in 2015 it drops to USD50 per barrel. In USD term, Malaysia’s oil revenue in 2015 will fall 50% as oil prices drop 50% during the same period.

But how about our revenue in Ringgit (MYR)? Let’s assume USD/MYR on average trading at 3.00 in 2014 and as oil prices dropped MYR depreciates to 4.00 in 2015. Also assume that oil prices are USD100 in 2014 and USD50 in 2015 like the above assumption. Our oil revenue in MYR in 2014 will be USD100 x 3.00 = RM300 per barrel. in 2015 our oil revenue in MYR will be USD50 x 4.00 = RM200 per barrel. You can see that our revenue in MYR term falls only by 33% as opposed to 50% in USD term.

The decrease in benchmark prices for petroleum products was partially offset by the depreciating Ringgit.
Of course there are losers from the effect of depreciating Ringgit such as importers whose finished products have imported inputs/elements, parents who need to send money to their kids who study abroad, frequent visitors to countries which use and pegged their currencies to USD (middle east) and many more.
But overall Ringgit depreciation so far, has benefited us more than it harmed us.
If the Ringgit had not depreciated last year, we would have faced the full brunt of fall in oil prices, our exports revenue would  have contracted sharply which would have led to a deficit in trade balance (imports value exceeds exports value) and a current account deficit which is not favourable at the moment.
Ringgit depreciation should be viewed as an automatic stabiliser to the economy when commodities prices decrease.
When the Ringgit depreciated, the monetary conditions in our condition would be eased without Bank Negara having to step in and cut the interest rates.
Other than the irrationality of Donald Trump, there are also irrational Malaysians who blamed the government for the recent depreciation of Ringgit.
By now, all of us should know that the major contributing factors to the depreciation of Ringgit throughout 2015 were the uncertainties created by Federal Reserve regarding its monetary stance (rate hikes), oil prices that had plunged more than 70%, the sharp and the sudden devaluation of Yuan by China's central bank, People's Bank of China (PBOC).
Of course there were some other internal factors that could have affected investors sentiment in the domestic financial markets but mainly they're affected by the external factors which were beyond government's control like Fed's policy, oil price and PBOC's move on Yuan.
In times like this, some are more affected than the others in different ways.
I'm not saying the depreciation of Ringgit is good for ALL of us, but we have to be rational, we have to learn to understand the real reasons behind it and the (positive and negative) effects to Malaysia as a trading nation and we the people as consumers.
Let's not be like Donald Trump who took advantage over people's negative sentiment towards the government by spewing unsubstantiated lies, inaccurate facts and misleading statements for the sake of winning political points and to the extent of winning the election.

1 comment:

  1. Salam tuan. May I know the effect of the currency fluctuation to the national debt? How does it got impacted? Will our debt raise concurrently with the reduced currency value?