“This Time is Different: Eight Centuries of Financial Folly” is a breakthrough and eye-opening publication by prominent economists Carmen Reinhart and Ken Rogoff. Reinhart and Rogoff argue that the common belief of today’s economic conditions bearing little resemblance to past disasters is misleading. In fact, crises tend to recur because people have short memories of the past.
There is some truth in their argument. However, despite their powerful and impactful research, there are people who continue to believe that the global economic landscape is slowly changing, and things will not be as they were before.
In the context of Malaysia, “this time is different” could be applied to our 2019 Malaysian Budget, which is believed to be significantly different from its predecessors. News flow has also hinted at the government’s new approach to drafting this Budget that will be unveiled early-November. Indeed, the government has indicated that it will be a ‘tough’ and practical Budget, as expenditures need to be rationalised whilst the government fixes the country’s fiscal position. Hence, this is the Budget where the rakyat must ‘sacrifice’ for the sake of rebuilding the country’s economic strength, which can only be done by reducing the imbalances and excesses that had accumulated over the years.
In the past, people tended to be glued to their TV screens and the Internet to listen to the government dishing out all sorts of ‘goodies’ during its Budget announcement. This time around, things could be slightly different. Some ‘goodies’ will still be given, I presume, but only to those who need them the most. In line with the argument of not favouring the so-called blanket subsidies, the government will likely focus on groups that need the most assistance. Cash assistance and petroleum subsidies, for instance, would likely be targeted at very special groups like the B40.
This, of course, makes good sense, especially as the government is striving to trim the accumulated excesses. In particular, to address the debt level that is now known to be at around RM1 trillion, the government will have to be extra frugal. The rapid growth of its annual operating expenditures, which are now approximating Malaysia’s annual total revenue, will have to be contained (between 2010 and 2017, federal government operating expenditures grew by 5.5% per annum on a compounded annual growth rate or “CAGR” basis). Although government direct debt remains below the self-imposed limit of 55% of Malaysia’s gross domestic product (GDP), other indirect debt and contingent liabilities had been increasing rapidly in recent years. Between 2010 and 2017, contingent liabilities (debt guaranteed by the federal government) grew at a CAGR of 14 per annum%.
With the RM1 trillion estimate, Malaysia’s debt is roughly 70% of its nominal GDP. For the sake of comparison, based on the three-year median statistics of countries rated by major credit rating agencies, the general debt level of A-rated countries (of which Malaysia is one) stood at roughly 51% of nominal GDP.
Expectations of a tough Budget for 2019 also stem from the fact that the government needs to make up for the reduction in revenue due to the abolishment of the Goods and Services Tax (GST) earlier this year. The estimated RM26 billion gap arising from the disappearance of GST revenue will have to be filled up by other sources of revenue and/or further rationalisation in expenditures. Fortunately, high global crude oil prices, averaging at USD73 per barrel until end-September, helped Malaysia to some extent in addressing its budget gap. However, the government is seeking a longer-term solution to enhance its revenue stream in the event of greater volatility in global crude oil prices. So, new alternative revenue sources (i.e. taxes) will likely be proposed in the upcoming Budget.
Although the government will continue to find ways to rationalise its expenditures, it will not likely sacrifice development expenditures as they are critical for future economic growth. Indeed, expenditures on development projects will ensure the future strength of the economy. Past experiences serve as a lesson for the government. Specifically, the annual amount spent for development purposes never really increased in the past decade. In value terms, between 2008 and 2017, development expenditures were about RM5 billion less than budgeted on an annual basis.
Notwithstanding this, the government’s effort to apply soft brakes on public expenditures is also evident. The GDP breakdown for the second quarter of 2018, for instance, showed that public investment contracted by almost 10% on a year-on-year basis. Going forward, this will mean that only the highest-priority projects will be promoted. These would likely be projects that could yield the greatest impact on economic growth.
Against this backdrop, we can assume that Malaysia’s near-term economic growth trajectory would be more benign as expenditures will likely be contained to strengthen Malaysia’s fiscal condition and reduce government debt. By doing this, the government is hopeful that it can lay a stronger foundation for the economy’s long-term health. The experiences of European countries during the Euro crisis reveal that nations that managed to get their debt problem under control recovered swiftly from the economic malaise.
Having said this, however, we need to be cautious of the fact that global economic conditions may not be as favourable in the next year or so. The continuing trade war between the world’s two largest economies, increasing financial market stress, reversal in capital flows from emerging markets and an upward pressure on US interest rates are just some of the factors that could spoil the party currently enjoyed by the global economy and financial markets. In the event of a sharp decline in global economic momentum, an open economy like Malaysia will be adversely affected. And if this takes place in the near term, policymakers will likely face calls from mainstream economists to, once again, consider typical Keynesian prescriptions, i.e. higher spending to avert a sharp deceleration in economic activity.
After all, Herbert Hoover’s mistakes during the US Great Depression of the 1930s serve as an invaluable lesson to economists not to place too much emphasis on addressing a country’s fiscal imbalance at a time when the economy needs crucial public-sector support. Hence, the government may need to relax its fiscal consolidation effort temporarily in order to safeguard the country’s headline economic growth. Admittedly, such a move could affect ringgit temporarily. But then again, it is probably best to do it at a time when the outlook of global crude oil prices remains favourable.
This article was first published in The Edge Malaysia Weekly on 08 Oct 2018 – 14 Oct 2018.