The Malaysian economy has performed well over the past few years and remained resilient despite the challenging global economic environment, said the International Monetary Fund (IMF) in its annual consultation report on Malaysia, which concluded on March 15.
Despite the global commodity price impact and financial market volatility, it said the country's economy remained resilient, owing to a diversified production and export base, strong balance sheet position, flexible exchange rate, responsive macroeconomic policies and deep financial markets.
"While real gross domestic product (GDP) growth slowed down, Malaysia is still among the fastest growing economies among its peers.
"The challenging global macroeconomic and financial environment puts premium on continued diligence and requires careful calibration of policies, going forward," it said.
It added that federal debt and contingent liabilities were relatively high, limiting policy space to respond to shocks.
The IMF also said that risks to the outlook were tilted to the downside, originating from both external and domestic sources.
External risks include structurally weak growth in advanced and emerging market economies and retreat from cross-border integration.
Although the Malaysian economy has adjusted well to lower global oil prices, the IMF said sustained low commodity prices would add to the challenge of achieving medium-term fiscal targets, adding that heightened global financial stress and associated capital flows could affect the economy.
Meanwhile, it said domestic risks were primarily related to the public sector and household debt, along with pockets of vulnerabilities in the corporate sector, adding that although the household debt-to-GDP ratio was likely to decline, household debt remained high, with debt servicing capacity growing only moderately.
The IMF said Malaysia's real GDP growth rate was expected to increase moderately to 4.5 percent year-on-year (y-o-y) in 2017 from 4.2 percent in 2016, with domestic demand, led by private consumption, continued to be the main driver of growth.
"While Malaysia's economic growth is expected to continue in 2017, weaker-than-expected growth in key advanced and emerging economies, or a global retreat from cross-border integration, could weigh on the domestic economy," said the IMF.
As such, the IMF urged vigilance and continued efforts to strengthen policy buffers and boost long-term economic growth.
The IMF also projected that consumer price inflation would rise and average 2.7 percent y-o-y in 2017 on the back of higher global oil prices and the rationalisation of subsidies on cooking oil.
It said the current account surplus would be largely unchanged, as impacts from an improved global outlook and higher commodity prices would be offset by the strength of imports on the back of a resilient domestic demand.
The IMF agreed that the authorities' medium-term fiscal policy was well anchored on achieving a near-balanced federal budget by 2020.
It said the planned consolidation would help to alleviate risks from elevated government debt levels and contingent liabilities, and build fiscal space for future expansionary policy, as needed.
The fund's board concluded that Malaysia's current monetary policy stance was appropriate, and going forward, Bank Negara should continue to carefully calibrate its monetary policy to support growth, while being mindful of financial conditions, as global financial market conditions could affect monetary policy.
It said that the banking sector was sound, overall, and that financial sector risks appeared contained, but cautioned that potential pockets of vulnerabilities should be monitored.
The IMF also stated that it welcomed the authorities' commitment to keeping the exchange rate as the key shock absorber, and recommended that reserves be accumulated, as opportunities arose and deployed in the event of disorderly market conditions.
It also supports Malaysia's efforts in increasing female labour force participation, improving the quality of education, lowering skills mismatch, boosting productivity growth, encouraging research and innovation, and upholding high standards of governance.