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Ringgit - Role & TOC

 

BNM's Role in Maintaining Price Stability

BNM is mandated by law to promote monetary stability conducive to the sustainable growth of the Malaysian economy. In other words, we aim to preserve the value of money, which is naturally eroded by inflation, while encouraging economic activity through adjusting interest rates and influencing the supply of money. This allows households and businesses to plan their spending and investments and encourages long-term investment in Malaysia.

Though BNM does not target a specific level for the exchange rate, our monetary policy can indirectly affect it.

  • When interest rates in Malaysia are lower compared to interest rates in other countries (all else being equal), investors may seek higher returns outside of Malaysia, reducing demand for assets in Malaysia (and hence, for the ringgit).

  • Lower interest rates typically result in a lower exchange rate, making foreign goods and services more expensive compared to those produced domestically. This helps to increase foreign demand for domestic goods, thus boosting exports and domestic activity as it becomes relatively cheaper but may also contribute to inflation because imports become more expensive.

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However, interest rates are only one factor which affect the value of the ringgit. There are many other factors which also influence the level of the ringgit. Refer to the section on Factors Influencing the Exchange Rate below.

The exchange rate is one of the monetary policy transmission mechanism channels, which help to achieve the ultimate objective of maintaining price stability. Read more on this at our Monetary Stability page.

Ringgit ER - Policy Trilemma

The Policy Trilemma

Central banks around the world have to choose between having free flow of capital, a fixed exchange rate and independent monetary policy (the three corners of the triangle in the diagram). Only two of the three options are achievable at a given time.

  • Side A: If the country fixes its exchange rate and allows free capital flow across its borders, it cannot have an independent monetary policy.
  • Side B: If a country chooses free capital flow and wants an independent monetary policy, it cannot have a fixed exchange rate.
  • Side C: If a country fixes its currency value and has an independent monetary policy, it cannot allow free flow of capital across its borders.

To visualise this, BNM sets monetary policy independently (i.e. taking into account Malaysia¡¯s growth and inflation) and we allow investors to invest or withdraw money from Malaysia (Side B). Imagine a scenario where we fix our exchange rate, by pegging the ringgit to the US dollar at a rate that is lower (i.e. stronger) than the prevailing ringgit exchange rate. At the same time, given the domestic economic outlook, BNM sets the policy rate at a level that happens to be lower than the policy rate in the US. This would cause foreign capital to leave Malaysia in search of higher returns in the US. This would reduce demand for the ringgit which would eventually erode the sustainability of the exchange rate peg. On the other hand, if the domestic economic outlook requires the policy rate to be set at a level higher than in the US, it would attract capital into the country and the ringgit would strengthen. It is not possible to achieve all three sides of the triangle, which is the policy trilemma of monetary policy.

So, countries need to choose which side of the triangle they want to be on. Currently, Malaysia allows significant flow of capital and sets interest rates independently (in accordance to our mandate and the Central Bank of Malaysia Act 2009). Hence, a flexible exchange rate is the most suitable for Malaysia. Read more on the cost of pegging the ringgit in the FAQ below.

Ringgit ER - Regime

Our Flexible Exchange Rate

Malaysia, like many other countries, adopts a flexible exchange rate regime. This means the ringgit is market determined - depending on the supply and demand for it. Fluctuations in the ringgit should be expected from time to time - strengthening, or weakening against other foreign currencies, in response to changes in the economic and financial environment, globally and domestically.

In a nutshell, there are 3 main benefits of having a flexible exchange rate:

1

In bad times, the flexible ringgit helps cushion the impact to our economy from changing global conditions, by adjusting the relative prices of our goods and services. While it will make the prices of imports more expensive, a weaker ringgit also makes our exports more competitive and domestic goods and services more attractive, as it becomes relatively cheaper. This helps to support jobs and incomes in export-oriented industries and helps prevent a sharp decline in spending by households. On the other hand, a stronger ringgit raises consumption of imported goods and services as they become relatively cheaper.

2

With orderly financial market conditions, where there are no large and disruptive swings in the exchange rate, a flexible exchange rate serves as a shock absorber ¨C not a shock amplifier ¨C to the domestic economy. This helps businesses plan and undertake business and investment decisions with more certainty, which will support a more sustainable recovery.

3

A flexible exchange rate allows the Monetary Policy Committee to set the policy rate independently, based on Malaysia¡¯s domestic growth and inflation outlook. If the ringgit is pegged, Malaysia will need to follow the monetary policy movements of the currency that the ringgit is pegged to.

BNM does not target or advocate any specific exchange rate level. Rather, our policy aims to ensure orderly market conditions for the ringgit and prevent sudden or large swings in the value of the ringgit, which can be very disruptive to the economy. BNM uses various policy tools to ensure this outcome:

  • Intervene in the foreign exchange market by buying or selling foreign currency when the ringgit market movements are not orderly and to ensure there is enough liquidity in the banking system
  • Prudential foreign exchange measures to protect the ringgit against excessive risk-taking by banks or corporates that could impact the economy during periods of external shocks

We also encourage more stable, long-term foreign investors in Malaysia to minimise volatility of capital outflows during periods of stress.

Ringgit ER - Factors Influencing

Factors Influencing Exchange Rates

As an open economy, the ringgit is affected by both domestic and global developments. Domestically, stronger economic prospects will attract more demand for the ringgit while global developments including interest rate differential and terms of trade will affect demand as well. Just like most of the goods and services we buy or sell, the ringgit exchange rate is based on how much foreign investors, businesses and individuals demand the ringgit in the FX market, for a given supply.

Among the factors which affect the value of the ringgit:

Interest rate differentials

If the interest rate in Malaysia is lower compared to other countries, investors will shift their assets from Malaysia to gain higher returns abroad. This reduces the demand for the ringgit, which will lead to a weaker ringgit.

Inflation relative to other countries

If goods and services in Malaysia are more expensive compared to in other countries, demand for Malaysian goods and services will decrease. This lowers the demand for the ringgit which will lead to a weaker ringgit.

Terms of trade

The terms of trade measures the ratio of export prices to import prices. If Malaysia¡¯s exports prices rise by a greater rate compared to imports, demand for the ringgit increases which will lead to a stronger ringgit.

Economic stability

If the Malaysian economy is viewed as safe and sound then more people will want to invest in Malaysia, which will lead to more demand, hence a stronger ringgit.

Global growth outlook

If global growth outlook weakens, external demand for Malaysia¡¯s goods and services also declines, resulting in a weaker ringgit.

Ringgit ER - Measuring ER

Measuring Exchange Rates

There are many ways to measure an exchange rate.

Bilateral exchange rate

The most common way is quoting a bilateral exchange rate, which is the value of one currency relative to another. We constantly see the ringgit compared to the US dollar, as it is the most traded currency globally. For example, the MYR/USD exchange rate gives you the amount of ringgit that you will receive for each US dollar that you convert. This means a MYR/USD exchange rate of 4 will get you 4 ringgit for every US dollar.

Cross currency rates

Meanwhile, we use cross currency rates to calculate the exchange rate between two currencies that are both valued against another currency. For example, if we know the value of the euro against the USD and the value of the ringgit against the USD. How do we find out the value of the ringgit against the euro?

As seen below, in October 2022, the exchange rate of the ringgit against the USD was 4.7, while the euro against the USD was 0.97. To get the cross rate of the ringgit to the euro, we divide the value of the ringgit to the USD with the euro to the USD ($4.7/$0.97 = 4.85). So the cross rate of the ringgit to the euro is 4.85.

We can go one step further and look at the relative movements across the currencies. The value of the ringgit weakened against the USD in 2022 (by 11.4% from 1 USD = 4.2 ringgit in Dec ¡®21 to 1 USD = 4.7 ringgit in Oct ¡®22). However, the value of the euro weakened more against the USD compared to the ringgit in the same period (by 14.5% from 1 USD = 0.88 euro in Dec ¡¯21 to 1 USD = 1.03 euro in Oct ¡¯22). This means that when we compare the ringgit against the euro, the ringgit has actually strengthened against the euro.

Nominal effective exchange rate (NEER)

As a net exporting economy, we should not only compare the ringgit to the US dollar but take a broader view and compare against other currencies, in particular our major trade partners. For this, we can use an indicator called the nominal effective exchange rate (NEER). The NEER considers movements of the ringgit against a basket of currencies. The value of foreign currencies in the basket are normally weighted according to the value of trade with the domestic country. This could be export or import value, the total value of exports and imports combined or some other measure.

When the ringgit value increases against the basket of currencies, NEER is said to appreciate. When the ringgit value falls against the basket, the NEER depreciates.

Ringgit ER - Resources

Ringgit Resources

Statements & Publications

Interviews & Speeches

Ringgit ER Policy - FAQ

Frequently Asked Questions

  • The ringgit has strengthened since the depreciation witnessed in the early part of 2024. Despite some volatility from time to time, market developments and correction in the second half of the year, the ringgit remains the top performer compared to other regional currencies this year.
  • The ringgit is market-determined. Global factors may contribute to fluctuations in global financial markets, including emerging market currencies and ringgit.
  • However, it is important to look beyond short-term currency dynamics. Malaysia¡¯s positive economic prospects and domestic structural reforms, complemented by ongoing initiatives to encourage flows, will continue to provide enduring support to the ringgit.

A weaker or stronger ringgit will benefit some and affect others.

A stronger ringgit:

  • is good if your business needs a lot of imports, or you are shopping or travelling abroad
  • is bad if your business depends on exports, or for tourists coming to Malaysia

A weaker ringgit:

  • is good if your business depends on exports, or for tourists coming to Malaysia
  • is bad if your business needs a lot of imports, or if you are shopping or travelling abroad

While the US dollar plays a dominant role in global markets, it is important to emphasise that the ringgit¡¯s performance against the US dollar alone is not a reflection of the state of the economy. The exchange rate is only one indicator among many.

Moreover, we should not only compare the ringgit to the US dollar, but also against our diverse trading partners. This is the purpose of the nominal effective exchange rate (NEER), which accounts for the changes in the ringgit against the currencies of our major trading partners.

Dollar (or any foreign currency) strength will raise the cost of imported goods, including food prices. However, imported inputs account for less than 20% of production cost. Although the exchange rate impact to inflation is not one to one, it partly contributes to the rising cost of living as higher commodity prices and supply disruptions affect domestic prices. Various measures are being implemented to lessen the impact of this increase in prices. These include social assistance, stabilisation of prices and access to discounted necessity goods.

BNM continually manages the risks arising from both domestic and external developments. While we do not target any level of exchange rate, our role is to ensure movements in the exchange rate are orderly. By that, we mean that there are no sudden or large swings in the value of the ringgit, so as not to disrupt economic activities.

We are ready to use the tools at our disposal to ensure these outcomes. This will enable the exchange rate to serve as a shock absorber ¨C not a shock amplifier ¨C to the domestic economy, helping businesses plan and undertake business and investment decisions with more certainty, which will support more sustainable growth.

Daily onshore foreign exchange transaction volume and bond market activity remain healthy. Reforms to deepen the domestic bond market have helped strengthen the fundamentals of the economy by enabling businesses to meet their funding needs more effectively.

The Government is also committed to creating a conducive investment climate which has led to reforms in the country¡¯s investment ecosystem to strengthen Malaysia¡¯s growth potential. In particular, the implementation of domestic projects under the New Industrial Master Plan 2030 (NIMP) and National Energy Transition Roadmap (NETR) will improve Malaysia¡¯s competitiveness. The recently announced Budget 2024 continues to highlight the Government¡¯s commitment to fiscal consolidation and will improve investor confidence in the medium to long term.

  • Changes in the OPR help foster the right conditions for sustainable economic growth with price stability. This in turn improves investors¡¯ sentiments on our economy and supports the ringgit exchange rate over time.
  • There are many other factors that also influence the ringgit exchange rate. Of note, we are currently in a strong US dollar environment, due to a few reasons. These factors include the large rate hikes by the US Federal Reserve to contain US inflation, which have led to higher returns, and thus demand for US dollar assets among investors globally.
  • As such, we should not just compare the ringgit movements against the US dollar.
  • Instead, we should take a broader view and compare it against other currencies. This is where the nominal effective exchange rate (NEER) comes into play. The NEER takes into account ringgit movements against the currencies of Malaysia's trade partners. This is often a better measure of general trends in the exchange rate rather than any one bilateral exchange rate (e.g., ringgit against the USD). For example, the ringgit could be depreciating against the US dollar but appreciating against other currencies.

If Malaysia were to peg the ringgit, there would be significant trade-offs and costs involved.

  • Malaysia will lose independence of our monetary policy as we need to follow the monetary policy of the currency that the ringgit is pegged to. For example, if the ringgit is pegged to the US dollar, we will need to raise the OPR whenever the US Fed raises their interest rates, even though Malaysia is at a different stage of economic recovery and inflation level. In this case, Malaysia won¡¯t be able to set our own monetary policy and the people will have to bear high financing costs even though our economy has not recovered to the same level as the US economy.

  • In order to maintain a peg, we need a significant amount of international reserves, or capital control measures need to be imposed to prevent or counter speculative pressures on the ringgit. Selective exchange control measures were an important factor contributing to the success of the fixed exchange rate regime in 1998. However, the negative impact from these measures on investor confidence, if introduced now would be extremely costly and could affect capital flows as we have a much larger capital market now compared to 1998.

Proponents of repegging the ringgit often cite our experience during the Asian Financial Crisis. Although pegging and selective foreign exchange control measures worked for Malaysia in 1998, it is not the right solution for the challenges we face today. We are now a very different Malaysia, and our economy has come a long way since the 1990s. The Malaysian economic and financial system are in a much better position today to withstand global financial market volatility and exchange rate movements. Our external position is also strong, given our positive net external creditor position and sizable foreign currency assets that far exceed our foreign currency liabilities. Our international reserves are adequate while our banking system is also now much better capitalised. A peg will no longer work for us. What¡¯s best for us now is a floating exchange rate.

 

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