GDP Forecast Revised Due to Weak Global Outlook

5 July 2016 MONTHLY ECONOMIC REVIEW Jun 2016 GDP Forecast Revised Due to Weak Global Outlook Exports were down by 0.9%yoy in May, while trade balance moderated to RM3.2 billion. This was largely due to decrease in prices of refined petroleum which declined by 14.9%mom and imports of six aircrafts for the month. We are revising our exports forecast to -0.5%yoy for year 2016. Due to weak external factors, we perceive BNM will need to stimulate domestic economic activity via easing monetary policy in order to support Malaysia economy. We are now expecting BNM to cut the OPR by 50 bps this year, specifically by 25 bps each in September and November 2016. Inflation has been generally in line with our expectation; hence we are keeping our inflation forecast for year 2016 at 2.6%. Leading indicator fell deeper into the red, shrinking by 2.6%yoy. Overall, the global economic outlook is becoming dimmer due to various economic and political uncertainties. It is expected that many businesses will opt a wait and see approach, leading to stagnancy in the economy. We are revising our GDP forecast for year 2016 from 4.4% to 4.0%. Exports shrunk for the second time in 2016. Exports contracted for the second time in 2016, declining by 0.9%yoy in May, while imports increased by 3.2%yoy. Exports slipped by 0.9%yoy to RM59.9 billion in 2016 from RM60.5 billion in 2015. This means, exports had declined in 4 out of 5 months on month-on-month basis during the year. Meanwhile, imports rebounded to gain by 3.2% after contracting in the past two months. The uptick during the month was supported by the increase in the capital imports and consumption goods which both rose double-digit. In line with the global development, our exports forecast for year 2016 has been revised to -0.5%. Fed rate hike is no longer on the table. The Fed has made it clear in the past that they are not going to increase their interest rate during market volatility; as such we are revising our expectation that the Fed is not going to conduct any rate hike this year from our previous expectation of one rate hike. However, due to uncertainties and high volatility post Brexit, any forecast longer than the 6 months period will have to wait for further developments emerging from this Brexit saga. Revising Ringgit forecast due to revised expectation of Fed rate hike. Recall that last year, Ringgit has been depreciating against USD as investors were expecting the Fed will begin increasing its benchmark interest rate last year. Although the pace of rate hike has been slower than what was initially expected, the expectation that US Federal Reserve would tighten their interest rate gradually remains. However, since the EU Referendum decided on a Brexit, traders are no longer expecting the Fed to increase their interest rate this year. We believe investors will once again rebalance their portfolio into emerging market economies, leading to appreciation of Ringgit. As such, we are revising our year-end Ringgit forecast to RM3.95/USD. KINDLY REFER TO THE LAST PAGE OF THIS PUBLICATION FOR IMPORTANT DISCLOSURES

Chart 1: GDP and Leading Indicator 15% 15% 10% 10% 5% 5% 0% 0% -5% -5% -10% -15% GDP (%yoy) Leading indicator -10% -15% Jan, 1993 Dec, 1993 Nov, 1994 Oct, 1995 Sep, 1996 Aug, 1997 Jul, 1998 Jun, 1999 May, 2000 Apr, 2001 Mar, 2002 Feb, 2003 Jan, 2004 Dec, 2004 Nov, 2005 Oct, 2006 Sep, 2007 Aug, 2008 Jul, 2009 Jun, 2010 May, 2011 Apr, 2012 Mar, 2013 Feb, 2014 Jan, 2015 Dec, 2015 Source: DoS, CEIC, MIDF Research Leading indicator dived deeper into the rate, shrinking by 2.6%yoy. The leading indicator has performed well in predicting the economy two quarters ahead. At the moment, Malaysia s leading indicator continues its downward decline into negative territory to a level similar to the pre-recession level in 1997, 2000 and 2008. However, the main difference lies with the gradual decline as compared to the sharp decline seen in the previous crisis. We believe that a prolonged economic slowdown is likely; hence we are revising our GDP forecast for 2Q16 from 4.2% to 3.9% and for the full year 2016 from 4.4% to 4.0% May inflation meets our forecast at 2.0%. Inflation in May slipped marginally to 2.0% following higher figures of 2.6% and 2.1% in April and May respectively. The initial price shock due to GST implementation last year continue to fade while unchanged pump price in May kept inflationary pressure on the lid. FNAB fell to 4.1%, moderating for the third consecutive months due decline of fresh fish prices which had drop for 2 successive months while personal care products prices and garments slid by -0.3%mom and -0.1% respectively. We note that price for fresh vegetable continued to be on the rise, registering strong increase of 4.8%mom following 1.7% last months. This can be reasonably attributed to tight supply and weaker Ringgit. As bulk of the vegetables were imported, weaker Ringgit lead to higher prices while prolonged heatwave keeps yield of vegetables supply repressed. We are maintaining our inflation forecast for year 2016 at 2.6% Due to uncertainties arising from Brexit, we are expecting two rate cuts in September and November 2016. We have previously expected one rate cut by 25bps in September 2016 by BNM, as the weak global trade activity could warrant BNM to support domestic economy via easing monetary policy. However, as Brexit is likely to cause further slowdown in the global economy, we are revising our OPR forecast to 2.75% by year-end 2016, reflecting two rate cuts in September and November 2016 by 25bps each. 2

(YoY%) unless stated otherwise 2014 2015 2016f 1Q16 2Q16f 3Q16f 4Q16 Real GDP 6.0 5.0 4.0 4.2 3.9 4.1 3.9 Private consumption expenditure 7.1 5.5 4.5 5.3 Government expenditure 4.4 4.7 4.5 3.8 Gross fixed capital formation 4.8 3.4 0.2 0.1 5.0 4.8 2.7 3.3 4.2 6.6 4.7-0.3-3.6 Exports of goods and services 5.1 0.6-1.8-0.5 1.3 Imports of goods and services 4.2 1.2-2.0 1.3 2.2-3.6-4.6-4.6-6.7 Net exports 12.8-3.3-0.5-12.4-5.5 3.6 12.2 Nominal GDP 8.6 4.5 4.1 4.7 4.4 4.3 4.2 Exports of Goods (f.o.b) 6.3 1.9-0.5 2.2-1.6-2.3 0.9 Imports of Goods (c.i.f) 5.3 0.4 1.3 2.3 0.6 1.7 3.1 Trade Balance RMb 82.5 94.3 81.9 23.9 16.4 14.4 27.1 Consumer price index 3.2 2.2 2.6 3.4 2.0 2.3 2.4 Current account RMb 47.3 34.0 25.0 - - - - Current account - % of GNI 4.8 2.8 2.5 - - - - Fiscal balance - % of GDP -3.5-3.2-3.1 - - - - Federal government debt - % of GDP 52.7 54.3 53.8 - - - - 2014 2015 2016f 1Q16 2Q16f 3Q16f 4Q16 Brent Crude Oil (Avg) 99.4 53.6 45.0 - - - - Crude Palm Oil (Avg) 2,415 2,168 2,450 - - - - USD/MYR (Avg) 3.273 3.907 4.050 - - - - EUR/MYR (Avg) 4.347 4.336 4.400 - - - - JPY/MYR (Avg) 3.096 3.228 3.500 - - - - SGD/MYR (Avg) 2.583 2.840 2.950 - - - - Brent Crude Oil (End of) 57.3 37.3 50.0 39.0 49.0 50.0 50.0 Crude Palm Oil (End of) 2,297 2,200 2,500 2,600 2,378 2,500 2,500 USD/MYR (End of) 3.497 4.294 4.100 3.900 4.000 3.970 3.950 EUR/MYR (End of) 4.251 4.691 4.300 4.446 4.500 4.400 4.300 JPY/MYR (End of) 2.922 3.572 4.000 3.464 3.970 4.000 4.000 SGD/MYR (End of) 2.647 3.040 2.950 2.895 3.000 2.950 2.950 Yield on generic 10-year MGS (%) 4.15 4.19 3.65 3.77 3.85 3.70 3.65 3-month KLIBOR (%) 3.86 3.84 3.20 3.71 3.65 3.40 3.20 Overnight policy rate (%) 3.25 3.25 3.00 3.25 3.25 3.00 3.00 3

Jun Key Economic Events 3 Jun 2016: US Created 38,000 Jobs in May vs 162,000 Expected. US labour market deteriorated in May, with jobs added into the economy went as low as 38,000 versus 162,000 expected by economist consensus, the lowest since September 2010. At the same time, March and April figure were revised downward from 208,000 to 186,000 and 160,000 to 123,000 respectively. Despite unemployment rate improved significantly to 4.7% from 5.0% in April, most of the increase was due to the falling participation rate, which fell to 62.6% from the peak of 63.0% in February 2016. 15 Jun 2016: Fed Maintains Interest Rate in June, Optimism Softened. In line with our expectation and all economists surveyed by Bloomberg, Fed decided to keep the fed fund rate (FFR) unchanged at 0.50% in June FOMC meeting. In the longer run, FFR was revised lower to 3.0% from 3.3% in March projection, while it had been significantly reduced for 2018 projection from 3.0% to 2.4%, which reflects that the Fed no longer thinks that they will be able to achieve their long term interest rate target by year 2018.. 24 Jun 2016: UK Votes for Brexit, the World is at Risk of Global Recession. Leave faction wins the EU Referendum by 51.9 48.1%, as the majority of the Brits voted for UK to leave the EU by 1.27 million majority. The turnout ratio was one of the highest in UK election history at 72.2%, the highest since 1997 election which was at 71.4% and significantly higher as compared to last year s UK general election of 66.1%. David Cameron has announced that he will resign as he hints that UK should be now led by someone who is inclined towards Brexit. 9 Jun 2016: Bank of Korea Surprises With a Rate Cut. Bank of Korea (BOK) cut its benchmark interest rate by 25 bps yesterday, a move which was widely unexpected by the market which caused Korean Won to plummet. Last year, BOK cut the interest rate twice in March and June by 25 bps each, leaving the benchmark rate at 1.75% level. Most of the economists surveyed by Bloomberg were not expecting the rate cut yesterday, where only 1 out of 18 economists anticipated the cut. South Korea, a country which trade activity contributes a significant amount to its overall GDP, was hit by slowdown in global trade activity. 16 Jun 2016: Bank Indonesia announces 4th rate cut this year following Fed decision. Indonesia's central bank cut its policy rate for the fourth time this year to 6.5%, the first change in the rate in three months. This is the fourth time the bank has cut its policy rate this year. The latest cut means the bank has slashed the rate by 100 basis points since January. Bank Indonesia said the Fed's decision, spurred by discouraging U.S. job employment data, gives it an "opportunity" to continue with its policy easing -- as Indonesia's gross domestic product grew less than projected, at 4.92% in the first quarter. 28 Jun 2016: Ratings agencies downgrade UK credit rating after Brexit vote. The move to downgrade United Kingdom s credit rating has been expected, as the uncertainty that looms from Brexit put the world s fifth largest economic direction at risk for both the short term and the long term. Moody s is currently placing UK one notch below the highest level at Aa1 while both S&P and Fitch evaluate UK at two notch lower from the highest grade at AA. All three of the rating agencies downgraded their outlook for the country from stable to negative. 4

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