Bank Negara said that rising prices of fuel, commodities and food will see headline inflation for the year rise to 2.5-3 per cent from 2.0 per cent in 2007.

'In 2008, the external environment is expected to deteriorate with the continued unfolding of the financial crisis that has erupted in the United States,' central bank governor Zeti Akhtar Aziz said.

'Against this background, the Malaysian economy is expected to expand by 5-6 per cent in 2008. Growth will continue to be supported by strong domestic demand, in an environment of weaker external demand.'

The central bank chief said that domestic demand was expected to come in at 5.6 per cent this year, from 10.5 per cent last year.

MsZeti said Bank Negara has prepared measures to spur the economy by 0.5-1.5 percentage points if growth was in danger of falling below 5.0 per cent.

'(They) can be implemented to provide sustained consumption expenditure, provide more incentives for increased efficiency in the private sector and provide a conducive investment climate for investors,' she said.

'This could be implemented in the event of any significant slowdown, which we do not see on the horizon at this point in time.'

Ms Zeti said that while domestic demand and increased trade among Asian countries will sustain the economy, a slump in the US - Malaysia's largest trading partner - and other big economies would hinder global trade.

In the year ahead, public spending including on massive infrastructure projects aimed at boosting Malaysia's regions 'will reinforce growth,' she said.

Malaysia's manufacturing sector which accounts for a third of gross domestic product is expected to slow to 1.8 per cent from 3.1 per cent in 2007, on an expected decline in demand for electronics and electrical goods.

Mining is tipped to expand by 6.0 percent after ending two consecutive years of contraction and rebounding to 3.2 percent last year, on increased output of crude oil and natural gas which are enjoying high prices.

The construction sector is set to grow by 5.5 per cent from 4.6 per cent last year due to the the government's development projects.

'The services sector is expected to lead growth with expansion of 7.7 per cent supported by increased consumption, tourist arrivals as well as impetus to new growth areas,' Zeti said.

Private investment is expected to significantly contract to 6.3 percent from 12.3 per cent last year, while public investment is also set to see its lowest level of growth in the last three years, to 0.5 per cent from 8.0 per cent.

Wan Suhaimi Saidi, an economist with Kenanga Investment Bank, said the central bank forecast reflected volatility on the market and economic fronts which explained the wide range of the growth target.

Recent elections which saw the ruling coalition suffer unprecedented losses, including five states and a third of parliamentary seats ceded to a resurgent opposition, have also raised question marks, he said.

'Apart from the external factors, to some extent I think the recent shocking election results might have also influenced the less sanguine outlook as it may affect fiscal spending,' Wan Suhaimi said.

However, Ms Zeti said the political earthquake had no impact on the economic outlook.

'The political development has demonstrated a democratic process taking place, furthermore the economy is on a solid foundation, with strong underlying fundamentals,' she said. -- AFP