The First 100 Days

I’ve had multiple requests to comment on this, but haven’t had the time. To be honest, I didn’t read either side’s political manifesto too closely, as most election promises are so hedged with operational realities that the likelihood of full implementation was never going to be very high, when political idealism meets unyielding economic realities. However, now that we have some clarity on the direction forward, it’s time to seriously assess Pakatan Harapan’s manifesto.

I won’t go over the whole thing, just the 10 items that were promised for the first 100 days, and even then only those that are economics related. So, no comment on investigating scandals or the stature of Sabah and Sarawak.

One by one:

1. Abolish GST

I’ll be diplomatic here, since this is first and foremost a political decision, not an economic one. From an economic and fiscal perspective, abolishing GST or replacing it with the old SST is simply not a very good idea, given the medium term fiscal imperatives Malaysia will be facing. There are three good reasons for the shift to GST in the first place:

• GST is a more efficient and less distortionary system than the Sales and Service Tax system it replaced. It’s also harder to cheat – you can still defraud a GST system, but its much harder than under the SST.
• Consumption taxes are more stable than other forms of taxation, so we reduce the risk of having to cut expenditure on essential services like healthcare and education during a downturn. The fact that both had to be cut in 2015-2016 underscores the fiscal challenges the government faced during that period. The drop in oil & gas revenue was pretty fierce.
• Speaking of healthcare and education, if we want to have an inclusive society that protects the vulnerable, we’ll need far more fiscal resources than we currently have. Malaysia’s social protection system is full of holes, and far too many are vulnerable. I was hoping for example, that GST could fund a universal social pension, which we currently don’t have.

I’d also add that I had hopes for GST as a mechanism for revenue sharing with the States, which could replace the current inefficient property based taxes and fees (see here). Be that as it may, what are the likely consequences of removing GST? The two questions I’ve been asked the most over the past two weeks are, can the government cover the shortfall in revenue? and, will prices fall?

The answers are Yes (for now), and Not Really.

A replacement of GST with SST would result in a revenue drop of RM25 billion or so, but that’s on an annual basis. There’s no problem covering that this year, because:

• We’re only talking about half a year, so only half the shortfall needs to be covered (RM12-RM13 billion).
• Higher oil prices will cover roughly half that amount; current prices are more than USD20 per barrel higher than the current budget assumes.
• In economic upturns, such as we have now, MOF is notorious for being too conservative with their revenue estimates. I’d expect both corporate and personal income tax collection to grow strongly enough to more than cover the remainder, and still have money left over.

So getting rid of GST is doable over the short term, and won’t overly impact the country’s fiscal position. However, it’s over the medium to long term where I think this move will prove most problematical. For one, it increases our reliance on oil & gas revenues, which have proven to be volatile (there’s also the argument about the proper use of natural resource revenue). Secondly, it increases the pro-cyclicity of fiscal policy, which makes the economy more prone to boom-bust cycles. Third, quite frankly, we need the money to address structual and social issues, especially those related to ageing.

As for prices, many have blamed the GST for the rise in the cost of living since its inception. I don’t agree, especially with respect to food. I did some digging of primary agriculture prices over the last few years – both butter and milk prices have doubled since 2015, at source (for example, at New Zealand butter auctions). Other food commodity prices have had similar trajectories. Abolishing GST and reinstituting SST simply won’t make much of a difference to retail prices, because the underlying costs have increased.

At best, and this is assuming retailers play nice and just maintain their margins, the impact will be a reversal of the increase in the price level when GST was introduced – 1.8% overall. The biggest effect will be on those items that were not taxed under SST, but included under GST (most medicines for example). Services prices will not change much at all, since the old rate of 6% would remain. Car prices will go up – the opposite of what happened under GST. Furniture is the interesting case – the whole industry should be audited, because prices should have fallen under GST, but went up instead.

One alternative that I can support (with great reluctance and holding my nose), is a cut in the rate to 4% from 6%. It will achieve roughly the same revenue and price level impact as a return to the SST, without the disruption of changing systems and the law, since this would primarily be an administrative measure. This also has the virtue of keeping the advantages of the GST system, and the future option of raising the rate when necessary. There’s also the possiblity of raising the eligibility requirements, which is currently RM500,000 in annual revenue, which would help SMEs and enterprises. The GST’s effect on cash flow is one of the main drawbacks of the system.

I’ll sum up by saying that I can’t support this move, and we should be looking for other alternatives.

2. Targeted petrol subsidies

I guarantee this will leak…badly. It’s also not a good way to support the poor and vulnerable, because petrol subsidies are inherently regressive, and targeting mechanisms are hopelessly inaccurate (as the World Bank has recently admitted, albeit in a roundabout way). Then there’s the environmental and health impact – I will continue my stand that petrol should be heavily taxed.

I can’t recall if I’ve ever disclosed this, but there was a similar taregted subsidy proposal within the BN government back in 2014. They looked at it hard, trying to find a way that was workable and sensible. It didn’t make sense then, and it doesn’t now.

Targeted subsidies (or needs based assisstance if you prefer) run up against the reality that identifying who needs what is really hard. The PH proposal appears to be limiting subsidies to a certain number of litres per month, subject to limits on engine size and proof of identity. How is this going to be administered? Through the pumping stations or by the petrol dealers? How will the verification be done? Through an IC reader, or by showing the petrol attendants? The irony of having to prove you are a poor Malaysian by showing your IC to what is likely to be  foreign worker shouldn’t be lost on anyone. Will verification slow down the whole process of buying petrol? Will it also stigmatise claimants? Lots of issues here as you can see.

But if PH is determined to put this into place, I’d beg of them not to come up with a new system. BR1M already has a backend verification of income system in place. That should be used instead, because the necessary investment and linkages with relevant agencies have already been made.

3. Debt of Felda Settlers

I honestly don’t know the issues here, so I won’t comment on this

4. EPF contributions for housewives

No comment here either, as this would violate my code of conduct. All I can say is that it’s being looked at.

5. Equalising and raising the Minimum Wage

Unlike some, I have no issues here, barring the ability of SMEs in Sabah and Sarawak to manage the increase. As long as the increases are phased in, this shouldn’t represent a problem. It might cost the government more than they expected because of the co-pay element though.

My viewpoint is based on the level of the minimum wage relative to the overall wage level. The initial implementation of the minimum wage at RM900 saw wage growth at the bottom of the distribution surging, an effect that cascaded up all the way to the top 40 percentile. However, the 2016 revision from RM900 to RM1000 barely caused a ripple. My hypothesis for why this happened is that in the 3 year interim, wage growth was strong enough that wages near the bottom were either already at or above the minimum wage level. Hence, no impact.

I suspect something similar will happen with this year’s planned review – an increase can be absorbed, because wage growth in the interim is likely to have met or exceeded that level already. An RM200 increase this year, with the government bearing half increase, will neither result in an unmanageable increase in labour costs, nor budge the wage distribution much. The fiscal cost however might be considerable – by my count, there are roughly 4x more workers earning at or below the minimum wage than PH estimated under their alternative budget. There’s also the impact of a higher minimum wage pulling in workers from the informal sector. This will bear watching.

6. Suspend PTPTN repayments for those earning below RM4000

We need to have a whole public conversation about how to finance tertiary education, so this is really an interim measure aimed at supporting household finances. I can attest that people have been running down their savings to pay off their student debt. There are pros and cons for this proposal, but the bottom line is that this will cost money, though I haven’t estimated how much. PTPTN is already on annual life support.

Skipping 7 (RCI on scandals) and 8 (Sabah and Sarawak), and moving on to:

9. Skim Peduli Sihat

RM500 for the B40 to access medical care at qualifying private health institutions. As with PTPTN above, we need a rethink and a public debate on the best way forward with healthcare. This proposal is really a bandaid, and we might be better off putting that money into expanding and supporting the public system, rather than having public money supporting the private healthcare system. A national Skim Peduli Sihat should be temporary, until we can decide, as a nation, what the best way forward should be.

10. Review all mega projects

This is very obviously aimed at only two of these projects, not all – the ECRL and the HSR. Both are in the very early stages, and can potentially be postponed/renegotiated. Many are sceptical over the ECRL, and frankly I can’t see the point either. HSR is slightly different, as the economic argument is stronger and a buildup of the KL-Singapore corridor is feasible (network effects and agglomeration). But timing and cash flow is an issue, considering the costs of both. I’m ok with letting either of them go – one of the things I was concerned about with the spate of infra projects is that you build up too much capacity too soon, and end up with a recession after they’re done. Spreading them out reduces the risk of over-capacity and over heating.