June 24 (Bloomberg) -- Malaysia's inflation may accelerate to a nine-year high amid higher fuel and other costs, though this isn't a ``major challenge'', Second Finance Minister Nor Mohamed Yakcop said today.

``I don't see a major challenge in inflation and interest rates,'' Nor told reporters in Kuala Lumpur, predicting inflation may reach 4.5 percent to 5 percent this year, up from 3.8 percent in May. He stuck to the official forecast of growth of as much as 6 percent in 2008, saying expansion may be ``slightly'' affected by higher prices in the second half.

Inflation in Malaysia is being driven by higher costs and not rising demand, so higher interest rates won't necessarily work to cool price increases, Nor said. The central bank next meets to review borrowing costs on July 25.

``In cost-push inflation, if you raise interest rates, it may not be so effective,'' said Lee Heng Guie, an economist at CIMB Investment Bank Bhd. in Kuala Lumpur. ``Already costs are rising. If you raise interest rates it would add to costs and fuel inflationary pressure more.''

Bank Negara Malaysia Governor Zeti Akhtar Aziz on June 5 raised the central bank's 2008 average inflation forecast to 4.2 percent from a March estimate of as much as 3 percent, causing some economists to predict a rate increase as early as July. Inflation may reach a nine-year high of 5 percent this month after a 41 percent increase in retail gasoline prices, Zeti said.

The Philippines, Indonesia and Vietnam have already raised borrowing costs as soaring oil and food prices led to faster inflation in Asia. Singapore has allowed its currency to strengthen to tame prices.

Bond Yields

Benchmark government bonds haven't traded today, according Bursa Malaysia Bhd.'s electronic bond exchange. Ten-year notes have slumped in the past six weeks, pushing yields to 4.9 percent yesterday, the highest since July 2006.

Malaysia's central bank will decide on the country's interest rate policy, Nor said today.

``The philosophy is that the central bank is independent within the government, it's not independent of the government,'' he said. ``Bank Negara has said that the policy will always be in the context of the national policy of growth and development.''

To contact the reporter on this story: Soraya Permatasari in Kuala Lumpur at soraya@bloomberg.net

Last Updated: June 24, 2008 02:24 EDT