Saturday October 3, 2009

A tough balancing act


THE budget season is upon us again.

And as part of the annual ritual, in the days leading to the announcement of the upcoming national financial plan, practically every corporate and business entity, as well as the man on the street, will be looking for hints on what kind of goodies (and baddies) to expect from the Government.

The national Budget 2010, scheduled for Oct 23, will be tabled for the first time by Prime Minister Datuk Seri Najib Tun Razak in his capacity as Finance Minister. There is a notion – rightly or wrongly – that because this is his first budget, he may bring some cheer to the public.

"High volatility in global oil prices may affect the Government’s coffer in future" NOR ZAHIDI ALIAS OF MALAYSIAN RATING CORP BHD

In addition, taking cues from Najib’s recent bold measures, many believe that he would continue to act decisively and aggressively to cement reforms needed to put the country on the path to become a high-income nation. Already, he has promised that spurring the country’s economy towards high-income base, with the services sector being a major growth driver, would be the one of the main focuses of Budget 2010.

Being a precursor or a platform for the 10th Malaysia Plan (2011-2015), Budget 2010 is supposed to lay a solid foundation for the long-term sustainable growth of the country’s economy.

Based on the hints thus far, it would be safe to say that Budget 2010 will be a tough balancing act for the Government. On one hand, it has to manage its depressed revenue collection due to the impact of the global recession while on the other hand, there is a pressing need for continued spending to reinvigorate the lethargic economy.

"»One thing that could stop the recovery in its tracks is a premature exit from stimulus spending"- LEE HENG GUIE OF CIMB INVESTMENT BANK

Towards recovery and growth

It is widely anticipated that Budget 2010’s key thrust will be to support the country’s economic recovery.

In addition to the two stimulus packages – that is the RM7bil spending announced in November last year and the RM60bil spending under the Mini Budget announced in March – Najib has committed an extra RM1bil per month until the end of 2010 to pump-prime the domestic economy. The move is to lend additional crutch to the local economy to find growth.

“The year 2010 is a recovery year … if the recovery is strong, we may find ourselves achieving even higher growth with the additional government spending,” RAM Holdings Bhd chief economist Dr Yeah Kim Leng rationalises. Malaysia’s gross domestic product (GDP) is expected to contract between 4% and 5% this year, before returning to a moderate growth of 3% to 4% next year.

For the first and second quarters of 2009, Malaysia’s GDP contracted 6.2% year-on-year (y-o-y) and 3.9% y-o-y, respectively. The local economy is expected to return to positive territory only in the fourth quarter of the year.

Over the week, Bank Negara governor Tan Sri Dr Zeti Akhtar Aziz told reporters that Malaysia’s GDP projection for 2009 would likely be revised upwards, in line with the consistent, though gradual, improvement in the outlook of the global economy. The revised estimate would be released during the budget.

"The critical challenge remains in the Government spending efficiency and effectiveness"- YEAH KIM LENG OF RAM HOLDINGS BHD

CIMB Investment Bank, in its report, reiterated the importance of policymakers to focus on spurring growth through continued spending while maintaining fiscal discipline.

“One thing that could stop the recovery in its tracks is a premature exit from stimulus spending,” explains its chief economist Lee Heng Guie.

The challenging global economic conditions aside, the country cannot afford to lose its focus on sustaining a respectable growth rate so that it can achieve its Vision 2020, says Malaysian Rating Corp Bhd chief economist Nor Zahidi Alias.

Spending efficiency is crucial

The financial crisis that started in the United States has indiscriminately affected countries worldwide, including Malaysia, by causing a deep slump in global trade. Although a gradual recovery has been noted recently, global trade is expected to continue languishing over the medium term.

Henceforth, domestic demand is expected to pick up the slack to sustain the country’s economic growth.

While government spending can stimulate the domestic demand by driving consumption and private investment, Yeah says the critical challenge remains in its spending efficiency and effectiveness.

"It is important fot the Government to incentivise foreign investors"- SUHAIMI ILIAS OF MAYBANK INVESTMENT BANK

“The Government has to maximise its spending efficiency by focusing on areas that can generate growth for the long term,” Yeah explains.

Segments such as construction and infrastructure, green technology, education, tourism and healthcare are among those that economists think can generate long-term growth for the economy; hence, these sectors are likely to receive more attention from the Government.

It is important for the Government to introduce measures, be it under Budget 2010, or other upcoming spending programmes, that can provide catalysts to the private sector and improve confidence so as to revive the shrinking private investment, both by local and foreign investors.

Already, many multinational corporations (MNCs) are looking at consolidating their overseas operations to reduce costs and survive the global slowdown. And Malaysia is facing stiff competition from its regional peers, not only in terms of attracting foreign investments, but also in retaining them.

Money doesn’t fall from sky

In this respect, Maybank Investment Bank Bhd chief economist Suhaimi Ilias thinks it is important for the Government to think of incentivising foreign investors, so that the new ones are attracted to invest here and the existing ones would choose to remain operational in the country.

But with all the expenses required to run the country’s economy, the next key essential for the Government is tackling its growing fiscal deficit. The Malaysian government has been running on a persistent fiscal deficit since 1998 when it had to pump-prime the country’s ailing economy as a result of the Asian financial crisis.

The Government’s budget deficit is expected to hit 7.6% of GDP this year, up from the projected 5.1% of GDP last year. These deficits are financed mainly by domestic borrowings, such as through the issuance of bonds.

And with revenue collection expected to remain depressed over the next two years due to the global economic slowdown, the Government is expected to face more budget constraint.

Currently, the Government derives over 40% of its income from the oil and gas sector; and this is a cyclical source of revenue, as prices of the commodity fluctuate according to global market forces.

As it is, the prices of oil have already fallen from their historical highs last year. They are currently hovering around US$70 per barrel, compared with more than US$100 per barrel for the most part of 2008.

“The issue of Malaysia’s sources of revenue should be addressed as the economy relies heavily on petroleum income,” Zahidi says.

“While high petroleum prices have been a boon for the economy in the past few years, high volatility in global oil prices may affect the Government’s coffer in the future years,” he explains.

Furthermore, the expected depletion of oil reserves in the country sends an urgent need for the Government to seek alternative sources of revenue. By the end of 2015, Malaysia could likely be a net oil importer. At the moment, tax collections contribute around 35% to the government kitty, while non-tax revenues contribute less than 25%. Tax collections this year are most likely going to be much lower compared to previous years, as income of businesses and individuals have been affected by the current economic slowdown and poor labour market conditions. (more on taxes in side story on taxes).

But in terms of non-tax revenue, Suhaimi says, the Government can consider monetisation of its assets by way of selling its prime land for development or disposing of its shares in private-sector companies, as well as enhancing its efforts in collecting outstanding payments such as unpaid traffic summonses and other forms of loans.

Fiscal consolidation

All said, however, it is heartening to know that the Government is mindful of its rising budget deficit. Najib, over the week, announced the Government’s commitment to slash the country’s fiscal deficit to less than 4% of GDP by 2015.

With that, the Government is expected to be more prudent with its spending starting from 2010.

For instance, the operational expenditure under Budget 2010 is expected to be cut by 15% by reducing the number of official trips overseas and certain government purchases.

This was announced last month by Finance Minister II Datuk Seri Ahmad Husni Hanadzlah, who added that any savings resulting from its expenditure cut would be channelled into sectors that promote economic growth.

Additionally, the Government is mulling over a move to cut its development spending for the 10th Malaysia Plan (10MP) of 2011-2015 to RM180bil, compared with the total development spending of RM200bil under the 9MP.

The Government’s concern about rising fiscal deficit is due to a possible downgrade of the country’s sovereign ratings, which could exacerbate the problem of shrinking foreign investment in the country.

But economists point out that the Government should not be overly concerned about the view of international rating agencies.

Zahidi explains that given the current challenging global economic environment, the Government is expected to make some trade-offs between short-term macro-management and long-term objectives.

In particular, the need to shrink the Government’s fiscal deficit can be back-loaded to ensure that growth momentum can be sustained, so as not to burden the rakyat during these difficult times, Zahidi says.

It has been reported that there could possibly be a review of incentives and subsidies in the upcoming budget, as the Government wants to ensure that such goodies are channelled to the targeted and deserving group.

In Malaysia, a number of essential items such as fuel, energy and food products, are subsidised by the Government. These subsidies, besides causing market distortions, have been a huge cost burden to the Government for many years. Another problem is that the inefficient management of government subsidies have been benefiting groups who do not deserve such assistance.

So, the review of the subsidy scheme is a positive move, as the Government can possibly recuperate a substantial amount of savings.

As Maybank-IB’s Suhaimi puts it, it is a structural reform that can benefit the economy in the long term, regardless of whether the review of subsidies is welcomed by the rakyat or not.

As for government incentives, economists think that such goodies should be directed towards areas that encourage innovation and research and development in the private sector. This can help move the local economy up the value chain.

Indeed, against the backdrop of a challenging environment, it is an uphill task for Najib to put the domestic economy in order. Budget 2010 is a time for him to prove his mettle, display his wisdom and give substance to Najibnomics.

Related Stories:
Budget 2010 wish list
A taxing issue
Timely boost for market?

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