The 2009 Budget, which will be presented in Parliament on Aug 29, is the most challenging one in recent years, being formulated under tough macroeconomic conditions. The Malaysian economy is grappling with the unwelcome combination of persisting global uncertainties (threat of a US-led global recession, ongoing financial market stress, rising inflation) and domestic-induced risks (mounting inflation risks, weak domestic demand and political flux).
The convergence of these two restraining forces is expected to have a larger dampening impact on the domestic economy if the internal engine of growth pulls back sharply. Rising inflation as fuel prices and electricity tariffs rise sharply and political headwinds could slow down growth over the next 12 months.
Rising downside risks to growth outlookAlthough the Malaysian economy held up pretty well in 1H08, higher energy costs and soaring food prices will sap the purchasing power of households and restrain consumption over the coming quarters.
This, together with the declining values of equities and higher consumer price inflation, has taken a toll on household balance sheets. MIER’s consumer sentiments index (CSI) slumped to a reading of 70.5 points in 2Q08 (115.5pts in 1Q) — its lowest since the 1997/8 financial crisis as deteriorating household income heads the list of minuses in the consumer outlook.
In the business sector, firms remain concerned about the difficult operating environment, including sharply rising material costs.
The reduced profits and margin compression will lead to lower investment and the firms are likely to adopt a cautious approach towards capital spending given lingering concerns over the political situation.
Overall, the government has scaled back this year’s gross domestic product (GDP) growth estimate to 5%, which is at the lower end of the 5%-6% target range. Our GDP growth estimate is a shade higher at 5.3%.
For 2009, we expect the government to project a realistic growth range of 5%-5.5% as the lagged impact of price hikes and external uncertainties continues to flow through. Our baseline growth estimate is pegged at 5% for 2009 and there are downside risks to the baseline forecast.
In the current turbulence, Malaysia will face slower growth and high inflation, but will escape recession. The country is more resilient now compared to the 1997/98 financial crisis, with stronger corporate balance sheets and banking system, a strong current account position, lower debt and far larger foreign reserves.
The 2009 Budget strategyWe expect the economic issues that the economy is facing now to become even more of a challenge over the next 12 months. We strongly advocate prudent financial management and the right mix of fiscal and monetary policies to ease the strain of inflation on the wallet of the man-in-the-street and help ensure a reasonable pace of growth in 2009/10.
We expect the 2009 Budget’s broad strategy and direction in the short term to be:
• Sustain “moderate” growth, supported by selective government spending;
• Ease the burden of rising costs and inflation on the household and business sectors;
• Encourage usage of alternative fuels; and
• Stabilise the prices of essential goods and services.
Judicious government spendingIn the past, the government always countered the adverse effects of an external slowdown through counter-cyclical measures. It cannot continue these counter-cyclical measures indefinitely without straining its finances.
Although the bumper oil revenue collection from Petronas (42.7% of total Federal revenue and 8.9% of GDP in 2008) comes in handy in part-financing the deficit spending, government expenditure has to be restrained despite the strong demand for more public spending. The government’s financial position remains under strain as fuel and food subsidies rise and project costs increase due to escalating building material costs.
The government needs to rebalance its fiscal priorities even though this may compel some rescheduling or deferment of projects. Going forward, it needs to demonstrate financial discipline in its spending programme, in line with the available financial resources. Bear in mind the windfall oil revenue does not last forever.
Malaysia needs to adopt a two-pronged strategy to contain the growth of development and operating expenditure:
• public spending should be carried out carefully and selectively and the allocation to each ministry needs to be tied to spending efficiency; and
• further restraint in operating expenditure (OE) is critical, especially for supplies and services as well as administration expenses, which account for 19.8% of total OE.
Fiscal deficit is projected at 4% of GDP in 2009The government will remain in a fiscal deficit for the remaining years of the Ninth Malaysia Plan (9MP). The fiscal deficit was brought down from 5.3% of GDP in 2002 to 3.2% of GDP in 2007 but is projected to widen to 3.5%-4% in 2008-09, reflecting largely higher operating and development expenditure. Malaysia is going to tolerate for a couple more years deficit budget spending, which has been the case since 1998.
In the Mid-Term Review of the 9MP (2006-2010), the government raised the spending ceiling by RM30 billion to RM230 billion from the original target of RM200 billion.
A sum of RM76.4 billion, or 33.2%, of the total RM230 billion has already been spent in 2006-07 and with an estimated RM43 billion to be spent in 2008, this leaves a balance of RM110.6 billion to be spent in 2009-10. Hence, we expect a budget allocation of RM51 billion or 6.7% of GDP for 2009, compared to an estimate of RM43 billion or 6.1% of GDP in 2008.
Prima facie, this is positive to the construction sector. However, we would caution that the increased allocation does not mean the roll-out of additional new projects but largely to make up for the increased costs of existing projects. It was reported that the government will revise existing government contracts, taking into account the rising cost of construction.
From the policymakers’ comments in recent weeks, we gather that national socio-economic programmes and people-centric projects will be accorded top priority. Spending focus will be on the food security programme, housing, utilities and transportation, healthcare, education and human capital development.
The measuresThe following is a broad outline of measures and strategies that we envisage in the 2009 Budget:
A. Provide partial relief measures to ease the burden of rising costs on the household and business sectors.• Lower the Employees Provident Fund contribution rate by 2% (to 9% from 11% currently) for a period of 12 months on a voluntary basis.
• Reduce the road tax for private and commercial vehicles.
• Reduce personal income tax rates by 1%-2%. The Ministry of Finance appears to apprehend the need for a reduction in personal income tax as the starting point for taxable income is already high.
An unmarried individual needs to pay income tax only if the monthly income is above RM2,950 while a married worker is subject to tax only if the income is above RM3,200.
Of the 10.5 million workers, only one million pay tax. Of the figure, only 31,000 individuals are taxed at the top marginal rate of 28%.
We argue that the lowering of marginal tax rates would reward greater work efforts, boost productivity and retain talent. Income tax collection from individuals amounted to RM11.7 billion in 2007 or 8.3% of total federal revenue. Hence, a 1%-2% reduction in the marginal tax rate would result in revenue loss of RM420-840 million per year.
• As an alternative to (iii), increase the tax relief for taxpayer and child, or allowances for education and medical expenses.
• Provide direct financial assistance in the form of food and transport vouchers for the targeted poor households, which did not benefit at all from the cash rebates of RM150 for motorcycle and RM625 for car owners.
B. Price stabilisation and moderating price pressuresIt is necessary to encourage greater competition in domestic production and further liberalisation of imports, including licensing and permits to increase local supplies and restrain price increases.
The government has lifted the price controls on cement and steel while reducing import duties to increase supply and help stabilise building material prices. Nevertheless, building material prices are still soaring and the construction industry has to bear the escalating costs of construction, ranging from 20% to 30%.
It is proposed that the import duty, sales tax and excise duties on the following items be reviewed:
• Food items such as vegetables, spices, meat and margarine;
• Inputs which are used in the agriculture sector such as fertiliser; inputs used in the construction sector such as heavy equipment; and inputs used in the manufacturing of food;
• Household items; and
• Widen the list of price-controlled items for a stipulated period.
C. Measures to sustain the property sector include:• A waiver or reduction of stamp duty for houses costing RM300,000 and below, which helps to reduce consumers’ burden;
• Reduce the holding cost of property developers by allowing the early release of unsold bumiputera units after six months from a project launch; and
• Reduce the withholding tax on dividends received so as to boost the real estate investment trust (REIT) market. The current withholding tax rates for individuals and foreign institutions in Malaysia are 15% and 20%, respectively.
In comparison, Singapore’s REIT investors are exempted from withholding tax but foreign institutional investors and corporations are subjected to a 10% withholding tax. In Hong Kong, the withholding tax system no longer exists.
D. Incentives to encourage the conservation of energy as well as fuel efficiencyIt is proposed that tax deduction be allowed for expenditure for the purpose of energy savings, as well as a reduction of import and excise duties on hybrid cars.
E. To promote private savings and to protect savers under a high-inflation environment, the following measures are proposed:• Issuance of a RM5 billion national savings bond carrying a 5%-5.5% coupon rate to all Malaysian citizens;
• Increase the level of tax exemption of withholding tax on interest income earned on savings and fixed deposit accounts of up to RM200,000, instead of RM100,000 currently, or abolish the withholding tax of 5% on interest income earned.
F. Revenue-enhancing measuresAs in previous years, higher duties should be imposed on cigarettes to promote a healthy lifestyle.
By The EDGE Malaysia (by CIMB Economic Research Team)
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