Malaysia's banking industry faces a convergence of structural pressures stemming from recent fiscal policy shifts. The expanded sales and services tax (SST), increasingly significant utility rate hikes and mandatory EPF contributions for foreign workers have compressed corporate margins, particularly among Small and Medium Enterprises (SMEs).

Bank Negara Malaysia's latest Financial Stability Review reveals that the median cost of goods sold continues to rise steadily, touching 75.4% compared to 74.9% in December 2024. Of more concern is the uptick in SME gross impaired loans which rose from 3.4% in 2H2024 to 3.6% in 1H2025, while the broader corporate sector managed to hold steady at 3.1%. With SMEs accounting for over 20% or RM401.8 billion of banking sector loans and 51% of business lending, this disproportionate deterioration bears closer attention.

The erosion in credit quality coincides with largely decelerating growth dynamics.

While system-wide loan growth has continued growing, coming in at 5.4% in August and 5.5% in September 2025, analysts project a contraction to 5.1% by the year’s end, sliding further to 4.6% in 2026. Deposit growth meanwhile remains stagnant at 3.1% — well below historical averages — suggesting generally constrained funding capacities.

While the financial sector as a whole is still in the black, net interest margins (NIMs) and non-interest income remain under pressure across the sector, prompting Bank Negara Malaysia (BNM) to lower the Statutory Reserve Requirement by 100 basis points earlier this year in order to bolster overall liquidity.

Macroeconomic tailwinds have also since weakened, leading BNM to issue a revised 2025 GDP estimate of 4.0-4.8%, down from the earlier 4.5-5.5%. Despite the ringgit's exceptional yearly performance — especially against Asean currencies — equity markets have experienced some RM16.4 billion in foreign outflows through September — a clear signal of investors’ larger read of Malaysia’s country risks.

These challenges precede any meaningful assessment of the impact of US tariffs nor of the agreement on reciprocal trade (ART) signed recently — both of which could materially affect export-oriented corporates and, by extension, the sector’s overall asset quality.

It is increasingly clear that a strategic consolidation of the banking sector must be given serious consideration in the coming months. The efficiencies of scale, diversified portfolios and enhanced capital buffers it would bring will help better position our institutions in navigating existing and coming uncertainties while preserving its larger stability, thus providing an anchor for Malaysia's competitiveness in an increasingly fragmented global economy.

Mazli Noor is a fellow of the Institute of Corporate Directors Malaysia (ICDM) and serves on the boards of several public and private companies.