DATA RESPONSE
Course: AS - Year: 2020 - Serie: October/November - Version: 3
(a) The Malaysian ringgit (RM) has depreciated against the US dollar over the period July
2013 to July 2017. Indeed, 1 US dollar could buy 3.2 RM in July 2013 and 4.3 RM in July 2017
so the price of 1 RM in terms of US dollar has decreased.
(b)
(i) I would expect a negative relationship between the foreign exchange rate of a country and
its balance of trade in goods and services. That is, an appreciation in the foreign exchange
rate makes exports less competitive and imports more competitive, so it should move the
balance of trade in goods and services towards a deficit. On the contrary, a depreciation in
the foreign exchange rate makes exports more competitive and imports less competitive, so it
should move the balance of trade in goods and services towards a surplus. However, the
overall impact of a change in the foreign rate on the balance of trade in goods and services is
ultimately determined by the Price Elasticity of Demand (PED) for imports and exports (see
Marshall-Lerner Condition).
(ii) Overall, the information available in Fig 1.1 and Figure 1.2 does not confirm the relationship
previously described.
From July 2013 to Jan 2014, Malaysia’s trade surplus has increased from RM14,000
million to RM30,000 million whereas the foreign exchange rate has remained roughly constant
at 1 US dollar = 3.2 RM. This suggests that other factors where responsible for the change in
trade balance.
From Jan 2014 to Jul 2016, Malaysia’s trade surplus has decreased from RM30,000
million to RM16,000 million whereas the ringgit has depreciated from 1 RM = 0.31 US dollar
to around 1 RM = 0.24 US dollar. This invalidates the relationship described above.
From Jul 2016 to Jul 2017, Malaysia’s trade surplus has increased from RM16,000
million to RM23,000 million whereas the ringgit has slightly depreciated from to 1 RM = 0.24
US dollar to 1 RM = 0.23 US dollar. This confirms the relationship previously described, even
though the change in the foreign exchange rate is relatively small over that period.
(c) The current account balance is the sum of 4 components: (i) the balance of trade in goods,
also known as the visible or merchandise balance, (ii) the balance of trade in services, also
known as the invisible balance, (iii) the income balance, also known as the net primary income
balance, and (iv) the current transfers balance, also known as the net secondary income
balance. In July 2017, Malaysia’s balance of trade in goods and services was RM22,045
million and its current account balance was RM9,642 million, which indicates that the sum of
the income balance and the current transfers balance was negative and equal to RM9,642
million - RM22,045 million = - RM12,403 million.
(d) First, Malaysia’s increasing balance of trade in goods and services surplus from July 2016
to July 2017 may have been the result of an increase in the range of goods produced in
Malaysia. As indicated in the extract, Malaysia’s economy has gradually moved from one
based primarily on “the production of basic raw materials such as rubber and tin” to one that
has become the “leading exporter of electrical appliances, electronic parts, petroleum and
natural gas”. Gaining expertise in the production of a wider range of skill-intensive goods has
allowed Malaysia to compete internationally in more differentiated and lucrative industry
segments, which can be expected to have boosted export revenue. At the same time, product
diversification has reduced dependence on foreign energy sources and high added-value
products, which can be expected to have reduced import expenditure.
Second, the increasing trade surplus may have been the result of economic growth in
Malaysia’s major trading partners, particularly in China. As indicated in the extract, “China is
[Malaysia’s] biggest export market, accounting for 16% of total exports in 2016”. China’s real
Gross Domestic Product (GDP) grew by 7.6% that year, and a fraction of the extra income
earned by Chinese households has leaked in the form of additional imports of consumer goods,
including those produced in Malaysia. Besides, as Chinese companies needed more
resources for them to produce a greater level of output, they may have turned to the Malaysian
market to import raw materials and intermediate goods.
(e) On the one hand, persistent surpluses in Malaysian’s balance of trade in goods and
services can be beneficial and should not alarm the government. Indeed, trade surpluses
stimulate Aggregate Demand (AD) and lead to a higher level of real GDP. The higher level of
national income is likely to improve consumer and business confidence and trigger additional
spending (i.e. multiplier effect), to stimulate investment and innovation leading to future gains
in productivity, and it will also allow the government to collect more revenue from both direct
and indirect taxes. Besides, a higher level of production is often associated with lower
unemployment so the government will save on unemployment benefits. The improvement in
the government budget balance will enable the funding of new and improved infrastructure
such as public transportation, schools or hospitals, which will foster economic development
and improve living standards in the long-run.
However, persistent trade surpluses in Malaysian’s balance of trade in goods can be
worrisome. Indeed, rising trade surpluses are associated with an increasing AD that leads to
demand-pull inflation, especially if the economy operates at or close to full capacity. Inflation
causes a number of problems for an economy, including unit-of-account, including menu costs,
“shoe-leather” costs, unit-of-account costs, lower international competitiveness, lower
investment, etc. Besides, if Malaysia’s trade surplus accounts for a large fraction of its GDP,
then the government should be concerned about the vulnerability of its economy to changing
economic conditions and political priorities in its major trading partners, especially if most of
the Malaysia’s export revenue comes from a limited number of countries. Namely, an
economic downturn or the introduction of protectionist measures, such as import tariffs or
quotas, in one or several major trading partner would have a significant negative impact on
the Malaysian’s economy as a whole.
Overall, the Malaysian government should be concerned about its persistent trade
surpluses if the benefits of economic growth they bring about (i.e. lower unemployment,
improved government budget balance, higher living standards, etc.) are believed to be
outweighed by the rising risk of inflationary pressure and by the exacerbated dependence on
Malaysia’s major trading partners.
