Much Ado About Deflation

This week will see the release of Malaysia’s March’19 inflation data due on Wednesday. After dipping into deflation in January this year, will we see price pressures picking up again? Gan Eng Peng, Director of Equities Strategy & Advisory of Affin Hwang Asset Management offers some perspective on the data and strategies for investing in a deflationary environment.

1) Malaysia has experienced its first deflation in January this year since 2009, according to news reports. Can you tell us what is the difference between the deflation in 2009 and today?

The 2009 deflation was caused by a meltdown of financial markets which choked off credit and created a global crisis. Malaysia was not spared.

The current deflation is a function of retail oil prices declining by 10%, following the reinstatement of the weekly retail fuel price mechanism from January 5. Retail oil prices had been held static after the last general election.

This adjustment should have a temporary effect – while the economy is slow we are clearly not in a crisis driven deflationary environment.

2) As deflation is a rare occasion in today’s world and investors are not familiar with such environment, could you tell us what does it means to you as a fund manager and investors? What signals does it send to you?

In theory, deflation means lower cost of living for Malaysians as price of goods and services are lowered – this is what the Rakyat has been asking for. But that is only half the equation, as in reality, it comes with a very slow or recessionary economy – which means wealth effect is poor, job insecurity and balance sheet erosion. If the government keeps focusing on lowering the cost of living without correspondingly driving economic growth, we can end up in such a situation.

A deflationary environment is bad. Asset prices are generally dropping. As a result, people have less propensity to invest as they can get assets cheaper later. Wealth might still be intact but the velocity of money is slowing. Animal spirits would be slaughtered. This creates a negative feedback loop towards a slower economy. Hence the need for government stimulus in the form of less restrictions or tax, more spending or easier monetary conditions (lower interest rates).

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