Over the last two weeks, we presented data showing resilience in domestic consumption and the underlying strength in the balance sheets for households and businesses as well as overall stability of the Malaysian banking system.
Our objective was to highlight the fact, supported by hard data, that the situation is not as bleak as the headlines would suggest.
For sure, the economy is going through a huge shock brought about by the Covid-19 pandemic. This is evident not just in Malaysia but the rest of the world as well. The quick actions of governments and central banks have mitigated what would certainly have been massive damage to the global economy.
Similarly, Malaysia has embraced many of the same measures. The government has implemented fiscal stimulus packages worth RM305 billion ($99.6 billion) while Bank Negara Malaysia has cut its policy rate to 1.75%, down from 3% at the beginning of the year, and reduced the statutory reserve requirement by 100 basis points.
Even so, more fiscal stimulus is needed to build on measures already rolled out, which have proven effective in limiting layoffs — the number of employed people fell by only 430,000 (2.8% of the total pre-Covid workforce) at the worst, with 40% of the jobs lost regained since — and keeping consumer confidence and spending on an even keel. As such, we expect Budget 2021, due to be announced in early November, to be an expansionary one. And we think it will be just fine.
An expansionary budget would certainly result in higher fiscal deficit and public debt. Ordinarily, this would trigger caution, likely putting the country on a negative credit rating watch. A downgrade would result in higher future borrowing costs and perhaps even a sharp devaluation for the ringgit.
But these are not ordinary times. Even a hugely expansionary budget will not be out of sync with the rest of the world. In times of crisis, governments must step in to pick up the slack with additional spending — to stimulate demand, bolster confidence, preserve jobs and livelihoods and protect the economy from further damage.
Malaysia is not heavily reliant on foreign funding. There is sufficient domestic liquidity to finance a larger fiscal deficit. Notably, foreign demand for Malaysian bonds has remained strong given that globally, interest rates are going to remain low, even negative, for years to come.
The domestic savings rate, though off the peak, remains relatively high at about 25% of gross national income (GNI). There is a deep pool of accumulated savings in major public institutions such as the Employees Provident Fund (EPF). For instance, EPF’s investment assets totalled RM925 billion at end-2019, of which 30.3% is currently invested overseas.
These public institutional funds could divert part of their assets, which are the savings of the average Malaysian, back home — to assist the country through this difficult period. Such repatriation of money would ensure that Malaysia could finance the necessary fiscal spending without risking higher interest rates or a devaluation of the ringgit.
Additionally, there is room for Bank Negara to purchase more government securities if required. Quantitative easing (QE) has been widely accepted as a legitimate monetary tool during crisis times and embraced by all the major central bankers in the developed world and, increasingly, in emerging countries.
The US Federal Reserve’s balance sheet has ballooned to a huge US$7 trillion ($9.5 trillion) — equivalent to 34.4% of GDP — while total assets for the European Central Bank and Bank of Japan are at 53.1% and 125.7% of their nominal GDPs respectively.
Regionally, central bank holdings of government securities in Thailand and Indonesia are much higher than at Bank Negara. In fact, our central bank has been very prudent and thus, has room to provide greater emergency support.
In short, Malaysia can afford, and should pursue, an expansionary budget, at least for the immediate future. That said, we must also have a credible and executable exit strategy — to reverse the higher fiscal deficit and public debt. For example, there must be concrete plans on ways to raise the government’s revenue base sustainably.
Critically, the expanded fiscal spending must be directed at projects that will raise productivity and enhance Malaysia’s competitiveness globally, which will, in turn, boost future exports — as opposed to, say, wasteful non-targeted subsidies or low-multiplier spending.
The projects must also create high-quality employment opportunities that will raise the incomes, savings and living standards of the average Malaysian.
It is important that we learn from past mistakes. After the global financial crisis, the then government chose the easy fix to boost economic growth — by encouraging Malaysians to take on debt and consume beyond their means instead of addressing the underlying problems.
Debt-fuelled consumption that is not in tandem with rising disposable income is not sustainable — as has been proven. Worse, it compounded the emerging structural issues that led us to where we are today.
A structural overhaul of the economy is urgently required — and there is no better time than right now to do it. We have written about how the country must pivot from consumption to production, by addressing the supply side of the equation in a Special Report dated July 27, 2020 (The Edge Malaysia, Issue 1329).
A previous bad policy to use steroids on consumption is responsible for today’s debt burden on the people
This chart shows very clearly how consumption was used as the primary engine to boost economic growth after the global financial crisis. The then government actively encouraged Malaysians to consume, including fanning a mini property bubble by promoting the developer interest bearing scheme (DIBS). Consumer spending accounted for 43.8% of GDP in 2000 and rose steadily to nearly 60% in 2019.
Actual GDP grew at a compound annual rate of 4.8% between 2000 and 2019. If not for this consumption on steroids, our GDP growth would have been more muted, at around 3% annually on average.
The trouble was, the government’s strategy did not include plans to lift the disposable income of the people. As a result, Malaysians took on record amounts of debt to fund the consumption binge. Household debt as a percentage of GDP rose from 63.9% in 2008 to as high as 89.1% in 2015.
Consumers were then forced to deleverage and tighten their belts amid the rising cost of living. Household debt was pared back to the current 82.7% of GDP, which is still among the highest in the region. Needless to say, this was a very difficult period for the average Malaysian.
Aside from damaging household balance sheets, this strategy also had a serious cascading impact on the economy.
Rising consumption increased the demand for imported goods, which ate into the country’s trade and current account surpluses. Trade surplus peaked in 2008 and fell steadily lower for the next six or so years while the current account surplus continued to drop for another three years before stabilising.
All of the above played a part in feeding the broader weakness for the ringgit against the US dollar — amplifying the inflation in cost of living for Malaysians.
The unsustainable consumption and borrowings rapidly ate into savings — which fell from almost 40% of GNI in 2008 to just 24.9% in 2019. That, in turn, translated into a smaller pool of money for investments. Investments grew at only 5.3% annually from 2008 to 2019, compared with 9.5% from 1980 to 1997 — a period when Malaysia enjoyed rapid industrialisation and urbanisation, per capita income growth and a rise in the standard of living.
The lack of investments — especially in productive capacities, including in automation, research & development and IT — became a heavy drag on the country’s competitiveness and resulted in our inability to move up the value chain.
Productivity slowed and along with it, high-quality employment opportunities and salary and wage growth. In the absence of productivity improvements and with the ringgit depreciating, businesses turned to cheap foreign workers to compete against manufacturers in newly emerging countries. That further suppressed overall wage growth for Malaysian workers.
Such an environment was, clearly, not conducive to innovation and perpetuated the brain drain, which further hindered Malaysia’s progress to become a high-income nation.
In short, the government’s quick-fix strategy, instead of addressing the emerging structural issues, in effect transferred the burden to the people. Even basic necessities such as housing and food became increasingly unaffordable to a growing number of Malaysians. This has been a very costly lesson that we must take heed of and learn from.
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