People are asking me if the Malaysian government’s new 3.2% deficit ratio target is achievable.  I have read in the news that several politicians are skeptical about the target. I do not remember who said that but I can think the sentiment is shared by many.

But the only way to really answer this objectively is to run a sensitivity analysis.

It is relatively easy to do a sensitivity analysis and I have done one last week under the assumption of no expenditure cut. That one shows how the deficit ratio would react if the government had not changed its budget under a range of NGDP and revenue assumptions. I think it somewhat presents the realistic worst-case scenario. The government said its fiscal deficit would have gone up to 3.9% of GDP in 2015 without any expenditure cut. I think that would come close to my expectation (4.0%-4.1%), which is based on no revenue growth (not unreasonable) and at about 4%-5% NGDP growth. I am not reproducing the table here because I do not want to confuse the readers. If you are interested in that sensitivity analysis, you should revisit the post.

But that sensitivity analysis does not indicate whether the new 3.2% target is realistic. To answer that, it requires a bit more moving parts added into it. One additional dimension is required to be exact.

I am doing that here by showing 3 cases of revenue change under a range of NGDP and expenditure assumptions (note the not-so-small difference from the above model). To cut through the graphics, I think the 3.2% fiscal deficit ratio target is achievable if revenue grows by about 2% (I said about because I am too lazy to run a differential equation).

Before that, some legends for the three charts at the bottom. The yellow-highlighted cells describe the would-be situations if the expenditure was not cut (yes, it is a funny coincidence that the government had planned to increase its expenditure by 3.2% from 2014 in the original budget). The red-highlighted cells show the deficit ratio under the January 20 revised budget expenditure figures (Under revised budget, expenditure would still grow 1.2%. So, please do not call this austerity).

Here is the deficit ratio if revenue does not change. Achieving 3.2% target seems impossible under this scenario (I wrote impossible because it would require a very strong NGDP growth at a time the GDP deflator appearing weak. If government revenue is flat this year, then my projection for the deficit would be about 3.6%):

No revenue change

Things would look a bit better if the government revenue would grow by 1% this year, which it would miss the deficit target still because 9% NGDP growth is beyond our reach, given current constraints:

Revenue growth 1%

Under 2% revenue growth case, the 3.2% deficit ratio looks achievable:

Revenue increases 2%

So, after reading through this, do you think the 3.2% deficit is achievable?

Ultimately, your answer must rely on revenue and NGDP growth. I think the reasonable NGDP growth assumption is about 4%-5%. As for revenue, I am unsure at the moment. There are just too many moving parts that require further investigation but the original budget had it grown at 4.5%. It will definitely be lower than that this year.

Hearing voices announcing something over the loudspeakers in public spaces makes me uncomfortable. It gives me the feeling that somebody is watching me and worse, the unknown person is giving me an order. The automatic reaction by the libertarian in me is to question and resist, even if the announcement makes sense.

Most announcements in KL Sentral, Kuala Lumpur’s Grand Union Station with its wide atrium, are harmless. Please let the passengers on-board get off the train first. Please watch your belongings. Please watch your step.

Judging by how some people refuse to wait for others to get out of the train before getting in, it feels like I am not the only trying to resist the announcement…

But from time to time it gets a little suspicious. Come join us for the F1 racing this weekend in Sepang! Drink this coffee.

No, I do not want to watch the F1 under the tropical sun. No, I do not like your coffee.

Yes, they are advertorials telling you to buy something that you do not need.

One time in a train car, a “refresher” would spray a scent of a particular brand of quick canned coffee into the enclosed air. There was no way for me to run, except getting out of the train. The advertisement campaign assaulted not only my eardrums but my olfactory organ too.

I learned to identify which train cars were installed with the horrible refresher and refused to ride on it, preferring to wait for better smelling train sets. It was not hard to know which was which. Oh, that is the car with the horrible smell of coffee. Oh, that is the coffee Wonda train car! I will let the train go for a better smelling one.

The PA system does have it uses. Sometimes, when the trains break down, the announcement helps. But at other times, all the gentle reminders – in London, I think it is “Mind the gap”; in New York, “Stand clear of the closing door, please” or was it in California with its BART? I do not remember; in Paris, well, the Parisian Metro is unique with its chime “na-na-na-na” – are definitely a hint of paternalism. It is a kind of soft paternalism that almost everybody ignores but at its heart is that suffocating authoritarian worldview.

The cavernous badly lit KL Sentral exacerbates, as with any cavernous building would, the sensation with that slight echo that follows the initial sound wave.

Growing up Malaysia, I quickly associate loudspeakers and echoes with Islam. The calls to prayer, the azan, are familiar and with so many mosques around, it can be maddeningly incomprehensible and downright annoying. In this country, expressing dissatisfaction against the competition between mosques for the loudest azan prize can bring trouble as the overly sensitive conservatives ignore comprehension of the azan recital in favor of noise. The louder the azans, the sermons, speeches and readings, the louder will the echoes be.

The echoes give the idea that god the supreme being is speaking to you. This is not just me feeling it and writing crap theory. Switch on the TV or the radio when an Islamic program is up in the air and you can hear how the editors use the echo effect whenever a verse from the Koran is read. In a more adventurous unorthodox Islamic program – I think it was Imam Muda where judges look for the best “Islamic idol” (just like the American Idol!) – an echo would accompany the contestants when he or she read a Koranic verse. So, there is something holy about the echoes.

My travels across Southeast Asia have made me realized the role of echoes in depicting something as holy is not limited just to Islam. I stayed for a week in an alley in Mandalay, Myanmar. At the top of the short alley is the Ein Daw Yar Pagoda. The Buddhist chanting I heard every morning and in the evening through its PA system was, forgive me for the neologism, echorized. It sounded like a prerecorded mantra chanting. I could hear the word amitaba through the artificial echo and among the unrecognizable words. And there was also echo in traditional Christian chanting from the mediaeval times as they sang in their tall cathedrals.

Religion, either god himself (herself for the feminist?) or the institution is an authority, I suppose sociologically, rightly or wrongly. The echo is a signifier of holy authority.

Holy and authority. Those are two of my favorite things.

And so I come back to KL Sentral with its banal announcements along with its echoes.

The libertarian is clenching a fist, but with only four fingers closed.

The Prime Minister announced the government’s plan to slacken its 2015 deficit target from 3.0% of GDP to 3.2%. While it is an easier target, it is still a cut from the expected 3.5% last year. I think we can relax it further but the revision is in line with my sentiment although not fully. There are several measures which I disagree, especially after the PM mentioned the phrase “import substitution” but I will not go into that.

The budget revision involves a number of expenditure cuts and other, I guess, less orthodox measures.

But what if there was no cut to expenditure?

I have made a simple calculation showing how the deficit ratio would react based on changes in the NGDP and government revenue. The original 2015 budget had the NGDP growing at 9% while revenue increasing at 4.5% from 2014, as I have highlighted in yellow below.

20150120Budgetrevision2015Malaysia

I suppose I could add a range of expenditure cuts too, but a 3-dimensional table or chart makes my head spins without the proper software at hand.

Also, I think it is good to use those figures and compare it with historical ones, just for the context:

20141013MalaysiaDeficitNGDP

I have been supportive of the government’s attempt at closing the deficit. I do celebrate the significant fiscal progress made over the past five or six years.

In retrospect, it was easy to back the cuts because the times were generally good. After a recession in 2009, the Malaysian economy grew quite well almost every quarter and that made tough policies easier to swallow.

But times are changing and what was swallowed easily yesterday will be tough today. Those tough policies will be hard on almost everybody now if executed too religiously.

The situation has changed so fast that I feel almost nobody ― at least as far as I can see in the financial market ― still believes the original deficit target of 3.0 per cent to GDP for 2015 is credible anymore. It will be challenging to meet the target and if the government insists on meeting it anyway, something has to give and that something will be overall economic growth.

Growth here is not merely an economic figure appearing in someone’s spreadsheet. It is people’s livelihood which is at stake.

Partly in my effort to be pragmatic and partly from observing from afar the horrible European experience arising from the wrong timing of its austerity program, I have come to believe in having a counter-cyclical policy. We commit to tough reforms making the economy more efficient during the good times and then we give it a slack when things are not so sunny and cheery.

What I am saying here is that the government here in Malaysia should be flexible with its deficit target for the time being.

I sincerely believe we can afford to do so because we have done serious fiscal reforms recently. Petrol and diesel subsidies are no more after years of gradual cuts and we are finally implementing the goods and services tax after years of contemplating it. I think the long term trajectory from the initiatives has already set the right direction.

My only disappointment is that these reforms were not done sooner due to political concerns. Everybody was so concerned about their political prospect that they forgot or even ignored the country’s future. For months, the government went on autopilot and the subsidy cuts themselves were put on hold for quite some time as the government prepared for the 2013 general election. We lost valuable policy time and now the window is closing.

But what is done is done and perhaps, that is just the cost of maintaining a democracy, however flawed ours is. If we believe in countercyclical policy, we should now switch our focus from fiscal tightening to some kind of relaxation.

In fact, with this framework in mind we should target the deficit within an economic cycle instead of the Gregorian calendar and I think, again, with the reforms done, we should be able to close the gap in the long run.

And we ― when I use the pronoun we here particularly, I mean the government; after all, we elected the government regardless whether we like those sitting in Putrajaya spending our money ― do honestly have a legitimate requirement to spend this time around, which runs contrary to keeping the what seems to be an impossible deficit target to meet.

No, it is not about saving 1Malaysia Development Berhad ― a beast which we will have to address ― or paying thousands of ringgit for a set of screwdrivers, or even giving more free money to suspicious grantpreneurs and selecting winners in the economy. It is about helping fellow Malaysians.

Pictures of devastation from the recent floods are heartbreaking. As fellow citizens, it is our duty to lighten their burden and the government is our primary agent to do so. Not some political parties, not some NGOs, not some volunteers. It is good to see people helping out but our agent is the government. We pay taxes and we expect the government to provide the basic infrastructure that the country needs to go forward. It is the basic role of a government.

These infrastructures from water to bridges to schools in the east coast need repairs. We need to spend for the repairs and in many cases, for reconstruction altogether.

That spending would probably hit the deficit figures but it is for a good cause. The deficit can wait for another day.

Mohd Hafiz Noor Shams. Some rights reserved Mohd Hafiz Noor Shams. Some rights reserved Mohd Hafiz Noor Shams. Some rights reserved
First published in The Malay Mail on January 17 2015.

The government is getting a lot of flak for its decision to adopt the dirty float mechanism in determining petrol and diesel prices. Pakatan Rakyat, Rafizi Ramli especially, is attacking the government by highlighting the fact that the government is not passing the full saving from the falling crude oil prices to the consumers and pointing out that consumers are effectively being taxed for consuming petrol and diesel.

Politically, I am enjoying the show because Barisan Nasional politicians and their supporters are so fond of asking others to be thankful to the BN-led government for providing subsidies. Now that the government is actually taxing fuel consumption, the politicians and their supporters are trapped by their own rhetoric and suffocating logic. There are people like Tan Keng Liang who is trying to defend the government but his messages are incoherent and uninformed. So, he is not doing the government much favor and I dare say he is hurting the government instead.

But beyond the politics, I prefer that we tax both petrol and diesel and then completely float it. That would leave retailers to set the prices, and hopefully compete with one another rather than having the government sets the prices from above. So, in some ways, I do approve of Rafizi’s action because I see his campaign ending up pressuring the government towards a better floating system, regardless whether that is his intention.

But I think it must be said that the current dirty float system is better than the old one. It is still inefficient, but it is more efficient than before. There has been significant policy progress in the past year or two and I think we have to be fair to the government for having the political will to do so.

On to the dirty float system itself, while the current mechanism has its weaknesses, it also has its strengths. In fact, its weaknesses are its strengths depending on the direction of the price change, from consumer perspective. Its lagged nature does provides some kind of stability to consumers.

I will not describe the current system in full, but in summary, it uses the average market prices from the last period as the reference retail price for the current month. The information that the system uses is lagged by a month.

I have drawn a chart to illustrate this:

Dirty float

From the consumer perspective, in time of falling crude oil prices (I label as actual market prices), the dirty float is not ideal. This is because saving from the current difference between market and retail prices goes to the government. The government would pass some saving to the consumers eventually but as you can see, the saving passed is only a fraction of total saving the consumers would have gained under a pure floating mechanism. The area colored red is actually the taxes paid by consumers.

But in time of rising prices, consumers would prefer to have this lagged pricing exactly because the situation is reversed. Consumers will also pay less, essentially enjoying a subsidy, as represented by the blue area. Of course, right now, this scenario is a hypothetical. When prices rise, you can bet the rhetoric will be different and wanting this kind of system instead.

But this also highlights that the dirty float mechanism does not really do away with the subsidy regime despite all the hoo-ha that Malaysia has finally abolished petrol and diesel subsidies. The truth is that the government has changed its system from that which always subsidizes consumption to that which would subsidize it only when prices are rising (and taxing it when prices are falling).

I would like to see the abolition of subsidy. That means a complete floating system where retail prices correlate almost completely with market prices, with a slight tax on it. That imposition of tax should be considered alongside the cash transfer policy.

Mohd Hafiz Noor Shams. Some rights reserved Mohd Hafiz Noor Shams. Some rights reserved Mohd Hafiz Noor Shams. Some rights reserved
p/s — I have additional thoughts on the matter.

Apart from free-floating the prices to keep retail prices closely following the market prices with the view of passing the saving to the consumers, another way of improving the dirty float mechanism is to shorten the lag period.

Right now, the retail prices are dependent on the average prices of the previous month. What we could do is that make it dependent on average prices of the last two weeks, or the last week. The shorter lag would ensure the effective tax and subsidy be smaller than what it is right now. Here is another chart to show what I mean:

20141217DirtyFloatMalaysiaShorterLag

Here, I have added a new dirty float retail price with a shorter lag, superimposed on the first chart. You can see the amount taxed or subsidized is smaller compared to the original case. For clarity, area A+B is the total tax enjoyed by the government with the original month-long lag. With shorter lag, the total tax is just the area B.

It is also worth noting that if market prices are completely random, the total tax and subsidy would cancel out each other.

I also want to take this chance to clarify my ideal policy, i.e. free float with a slight tax on it. I figure the next chart will deliver my message crystal clear:

Free float taxed

I am showing a fixed tax version. There are other ways to do this, like through ad valorem, which is how the GST would do.

I think Malaysia needs Jokowi. When I write so, I do not mean Malaysia needs Joko Widodo the man per se as our prime minister. Instead, I am thinking about the idea of him the outsider. It is about having a Malaysian prime minister who comes from outside of the feudal circle.

Most of our national leaders over the years have come from mostly the same pool of elites with close ties to the old Malay feudal structure. Malaysia’s first prime minister Tunku Abdul Rahman was a prince from Kedah. His successor Tun Razak came from a noble Pahang family. The third prime minister, Tun Hussein Onn, came from a family of Mentri Besars from Johore at the time when democracy was unheard of in matters of state administration.

Mahathir Mohamad and Abdullah Ahmad Badawi are the only prime ministers that we have had who come from more modest backgrounds. But with Abdullah’s grandfather formerly the state mufti for Penang and with the father being a prominent ulama himself, I would think it is arguable that the fifth prime minister belongs to the same feudalist system.

Penang does not have a sultan but religion and the Malay monarchy are so intertwined: both play a large role in creating the old Malay feudal society and sustaining its vestiges in this modern Malaysia. Today, while the Malays of Malacca and Penang as well as those in the Federal Territories and Borneo have no sultan, they have their Agong, who incidentally is the head of Islam for the whole of Malaysia. So, it is hard to think the mufti office as separate and independent from the feudalist circle. It is part of it.

As for the current prime minister Najib Razak, he is son of the second prime minister and he inherits his father’s nobility.

To strengthen the idea that our prime ministers have come mostly from the feudalist pool, one of the next prime ministerial candidates is the current office bearer’s cousin, Hishammuddin Hussein, who is also the son of the third PM. So not only does our leadership mostly come from the same feudalist pool, we risk turning a democratically-elected office ― the highest in the land no less ― effectively into a dynasty.

As far as I can remember and I am happy to be corrected, only Mahathir has the courage to challenge the past by confronting the men at the top of the feudalist pyramid. In 1993, his government removed legal immunity formerly granted to all of the royal Malay houses. The move eroded the feudalist power in our society and more importantly, it set the tone that the monarchy needed to change. It set the way for a more equal society. Mahathir of course damaged other Malaysian institutions like the judiciary and the press while trying to preserve his power. I am under no illusion that he is an angel but as far as bringing modernity to Malaysia by beating feudalism into the background, he deserves credit.

The rest of the office bearers did little to keep the old feudalists in check. I think that was so because they were and are part of the old feudalist elites. They have little interest to fight it because they benefit from it. After all, notwithstanding the Mahathir era, Umno itself clings to a feudalist heritage to give the grand old party its purpose: Malays must have their sultan (and his religion) and without it, it would be the end of the Malays, or so they argue. Already in the current political climate, any criticism against the sultan is taken as seditious by the state and that sets the stage for the further rise of feudalist forces. Whatever progress Mahathir made, I feel it is being undone.

I fear that if we continue to have the same pool of elites running our country, our democracy would be weakened ― and it is already imperfect ― to enhance the feudalist aspect of our society.

My ideal Malaysia is one where we strive towards equality for all. The feudalist structure does exactly the opposite by elevating certain groups.

Jokowi, to me, represents a break from Indonesia’s past. The break is not as clean as it should be with former President Megawati Sukarnoputri standing behind the curtains ― I am sure other vestiges of the old regime would challenge him soon enough ― but Indonesia has made significant progress in the last 10-15 years, rising up from a dictatorship to becoming a beacon of democracy in the region. Each step Indonesia takes is yet another break from the chain of history, leaving it freer to move ahead without too much baggage.

I am envious of Indonesia because of that.

It is in that sense that I think Malaysia needs a Jokowi. The Indonesian Jokowi breaks our southern neighbor from its ugly military past. We need a Malaysian Jokowi to break our excessive link to our feudal past.

Mohd Hafiz Noor Shams. Some rights reserved Mohd Hafiz Noor Shams. Some rights reserved Mohd Hafiz Noor Shams. Some rights reserved
First published in The Malay Mail on November 21 2014.

With only about 200 pages , finishing The Colour of Inequality was easy. Written by Muhammad Abdul Khalid, the book is priced at MYR40, which is much more affordable and easier to read than the thick Capital in the 21st Century by Thomas Piketty. Just for the fun of it, I calculated that the Gini coefficient between the two is 30.7. For books discussing inequality, they are off to a good start. Capital, by the way, cost MYR167.

But more seriously, The Colour of Inequality has attracted the eyes of both sides of the political divide in Malaysia quite positively. Both Anwar Ibrahim in the Parliament and perhaps more ominously by Muhyiddin Yasin during the recent UMNO general assembly as a slow poke against Najib, gave the book a mention. I think in some ways this book will provide the ammunition to force Najib to make a u-turn from his more open policy in the past. Pemandu, which I take as the symbol of that openness drive despite whatever its flaws are, is already taking a backseat in local politics. I do hear less and less of Pemandu these days and furthermore, it is already branching outside of Malaysia to Tanzania, South Africa and India, in what appears to me a search for relevance and independence.

Coming back to the book, the extremely good part is the data shared especially those pertaining income and wealth ownership during colonial and early post-independence period in Malaya and Malaysia. The stress on the difference between income and wealth inequality is gold because whenever there is public discussion on inequality, not too many understand the difference and then mix the two up. As the book goes the mass market, hopefully it will help address the confusion that exists.

I would guess from the relatively heavy footnotes, these data are those you can find only by reading local academic papers, which can be tedious. The first chapters are full of these and the first half acts an overview or a summary of early labor, income and wealth studies in pre-1970s Malaya/Malaysia. There is a heavy focus on Malay ownership and so, I should really put it Malaya/Peninsular Malaysia instead. Sabah and Sarawak are largely, if ever, on the periphery of the author’s concerns.

Khalid puts a lot of blames on the British colonialists for creating inequality in Malaya. He zeroes in on the importation of foreign labors from China and India who worked on the most productive sectors in the economy while the Malays was left focused on the least productive ones, mostly agriculture.

He also blames the colonial government for focusing on developing urban areas populated mostly by non-Malays while ignoring the rural areas where the Malays (and Bumiputras) were. With all the facilities built in the cities, the infrastructure facilitated income and wealth growth, rocketing the well being of urban populations above their rural counterparts.

While the two factors (productive sectors and urban development) did contribute to the Malay/non-Malay gap, I am unprepared to blame the British for focusing on urban development. Even today, agglomeration remains a powerful drive for development. It is far more economical to build an MRT line in a city of more than 5 million than in a town of 100,000, for instance. The logic should hold 100 or 200 years ago while the British were developing Ipoh, Kuala Lumpur, Penang or Singapore instead of Pekan or Rantau Panjang, as it holds now.

From time to time, the thesis of The Myth of the Lazy Natives by Syed Hussein Al-Alatas appears, just to give you how strongly the author thinks of colonialism as the cause of inequality then. The thesis was the Malays refused to be manipulated by the colonial capitalist machines and thus remained rural, and largely outside the development of the modern Malayan economy. Regardless of the truth of Syed Hussein’s thesis, with the Malays remaining a rural society with a still agrarian economy that is less productive compared to other sectors (mining and cash crop like rubber) as Khalid mentioned, it contributed to the gap. Khalid also showed that the British prevented the Malays from participating in cash crop sector to protect the colonialists’ monopoly. There is a hint of Syed Hussein’s argument that the colonialists came and destroyed the Malay capitalist class by force and thus contributing to the Malays’ inability to compete in highly productive sectors.

For those who have never heard of The Myth of the Lazy Natives by Syed Hussein Alatas, it is one of those books you have to read if you want to understand Malaysian politics, Malay politics especially, better. I would think that particular Syed Hussein’s book is the Malaysian version of Edward Said’s Orientalism. I even think you should read Orientalism and The Myth side by side. That would make Syed Hussein’s criticism much sharper than you would realize rather than reading it alone. One particular idea I gathered reading The Myth and Orientalism together was that UMNO under Mahathir times (The Malay Dilemma and Revolusi Mental come to mind) imported various Orientalist caricature of the Orientals and specifically the Malays – laziness is one – and then used that generalization as the basis of UMNO’s policy to “modernize” the Malays. I do not necessarily agree with all written in The Myth and sometimes, it does appear Syed Hussein was just making capitalism a scapegoat for far too many things beyond reasons, but he did make powerful criticism against colonialism and bringing in context into modern Malaysian politics.

Now, back to The Colour, the chapter on pre-independent Malaya-early Malaysia sets the stage for the New Economic Policy era. After a largely uncontroversial overview of history, the next chapters have a few to offer.

The author clearly sees the NEP as a success. He criticizes several works critical of the NEP along the way. Some criticisms make sense. By the end of it, the author laments what essentially the end of the NEP and advocates for a new one, in some fashion.

In supporting the NEP, Khalid makes a few points which I find hard to swallow.

One is how NEP has no negative impact on growth. This is a big assertion because he refuses to admit there is a trade-off between redistribution policy and economic growth. He argues despite the redistributive NEP, Malaysia continued to registered high growth together with its neighbors among others right up to the 1990s (if you have the book by your side, this happens on page 107). But the fact that Malaysia grew as fast as its neighbors says nothing about the efficacy of the NEP. In fact, it raises the question on the commonality between Southeast Asian countries and you can bet that not too many countries have their own NEP.

The no negative impact on growth story is also problematic because it does not consider the counter-factual. The counter-factual is that without the NEP, Malaysia could have grown faster and that the NEP caused Malaysia to grow only as fast as experienced. This counter-factual is as valid as his conclusion without further investigation. What Khalid did here is merely arguing by assertion. So, I do not think Khalid can write when he wrote with too much confidence. It requires more investigation at the very least.

His point about NEP has no negative impact on growth is complicated by his criticism against Tony Pua’s belief that the NEP discouraged foreign direct investment into Malaysia. Khalid replies on page 105 by highlighting that in the manufacturing sector, the government does not impose any Bumiputra equity requirement and allows 100% foreign ownership. This does blunts Tony’s point and the FDI did come in but it complicates Khalid’s own point on how the NEP does not impact growth. If he believes that the redistributive policy does not have any impact on growth, I would think it is unnecessary to raise this point. If there is no trade-off, there would have been no need for the exemption. The exemption did encourage manufacturing investment in Malaysia. It contributed immensely to Malaysian industrialization, which, was quite successful.

Perhaps I misunderstood his point, with his point being that the NEP is not as expansive as a lot of people thought it was and there were exemptions that avoided the NEP from becoming too much a barrier. If this is the case, then, yes, that would be a fair point. But he does not spend enough time and space in exploring these issues.

The point on manufacturing is relevant in other part of the book, which I think works against one of Khalid. And that point is about NEP’s success in cutting poverty down. I do believe the NEP did cut poverty down but my issue is that the author attributes the entire drop in Malaysia’s poverty rate to the NEP (page 92 and others) while ignoring other factors that might be as big as the NEP: the industrialization of Malaysia (remember the exemption of Bumiputra equity ownership in manufacturing) and Southeast Asia (this returns to my point that cross-sectional comparison of Southeast Asian national growth says nothing about the efficacy of NEP by itself).

Since manufacturing was exempted from the NEP, I am interested to know how much of the drop was due to the NEP and how much from industrialization that has little to do with the NEP since it was exempted. The industrialization aspect is particularly important because there were at least two events in Asia that contributed to Malaysian growth. One was China’s disastrous Great Leap Forward and Cultural Revolution that pushed capital and people out of China to Southeast Asia (and elsewhere), along with the appreciation of the Japanese yen in the 1980s that encouraged Japanese corporations to go out and establish bases in Southeast Asia, especially in Malaysia and Thailand, to cut cost and become more competitive. As a side point, Singapore gained tremendously from the events in China and that contributed to the rise of Singapore; it is not all about Lee Kuan Yew (or Mahathir). There was great transformation in Asia at that time yet, I think the book is giving the NEP all the credit for poverty reduction and essentially implicitly leading lay readers to believe that the Malaysian economy worked in vacuum when clearly, Malaysia has been a beneficiary of globalization.

Talking about poverty, there is also room for counter-factual which the author does not address. On page 111 and 112 among others, Khalid showed that the economic growth for the Bumiputras, Chinese and Indian communities were high and used that as an argument that the NEP does not hurt growth for other communities. But like how the NEP affected GDP growth, how did he know that the NEP did not lower non-Bumiputra growth to its recorded level? If there was no NEP then, what the growth would be? He cannot make his conclusion without answering those questions.

As you can see, I am quite skeptical of his argument that redistributive policy has no impact on growth. I think Malaysia can afford to commit to some redistributive policy but there is always some cost. The Colour is written in a way redistributive policy – the NEP – was cost-free and will be cost-free.

Because of these points, I feel the middle part of the book is an apologist work for the NEP rather than a critical evaluation. This of course does not negate the value of the first and the last parts of the book. The first part raises the value of history to provide context to the current situation and the latter about wealth gap and Khalid’s proposals to address it.

What I think the book does more convincingly is explaining the current wealth gap in Malaysia. The roles of inheritance, labor market discrimination, failure in the education system and the tax structure are pretty much uncontroversial and deserve the attention of the government. There is an econometric model at the end which results are in line with my expectations and other models that I have seen before. The model gives a sense of each factor contribution to income and wealth of a person and becomes the concrete basis of various proposals that the book has.

I have my own thoughts about the proposals but I figure I will write about that later.

I do have complaints about various government policies but I do see improvement on this front at the federal level in the past few years. Two policies I am largely in agreement with and am advocating are the subsidy cuts and in its place, the cash transfer program.

After all the progress made however, my fear is that the government is losing its focus and it is taking a step backward. I will take such reversal as a betrayal to the earlier promise of economic reforms.

I write so because the government plans to introduce a complicated quota system for subsidized petrol and diesel in place of the current blanket subsidy regime, which given the current global crude oil prices, is at the brink of elimination. The prospect of elimination is good news but now the government wants to maintain the subsidy instead. It just cannot make up its mind.

Under the new convoluted system, each person would get some quota of subsidized fuel based on his or her income in the name of targeted policy: the higher your income, the fewer quotas you would get. Any consumption above the quota would be charged at market price. Full details have not been released yet but during the tabling of the federal government’s budget, the Prime Minister said he would announce the mechanism soon.

What makes the situation worse is that the government also plans to limit the cash transfer program we all know as Bantuan Rakyat 1Malaysia (BR1M) by restricting items that can be purchased by the program’s beneficiaries. The government is supposedly concerned that the recipients would abuse the cash from the program by buying luxury goods, like an iPhone 6 that a certain Minister is using now. After all the speech about the-days-of-government-knows-best-is-over by the Prime Minister when he first took power, here, the minister Ahmad Maslan is showing the government’s paternalistic side by attempting to dictate a person’s consumption pattern right up to the minute details.

I disagree with both proposals because they are bad policy. I would prefer the government to stick with a superior pure subsidy cut-cash transfer mix instead.

Quotas and coupons are inferior policies

The only way I can think of to make such consumption control as preferred by the minister possible is by converting the cash under BR1M into some kind of coupons. I am struggling to think of any other way to make such paternalistic policy possible. Maybe that is my imagination failure, but I would think any other way would be unnecessarily more complicated than the coupon setup, which is already complicated, risking abuse.

Why? The recipients can sell the coupons at a discounted price to get cash instead of buying items meant to be bought by the coupons. And what prevents them from using that cash to buy luxury goods? As you can see, it is a complicated system that reduces the potential amount received by the targeted person through leakage and does nothing to address the minister’s paternalism, assuming his paternalism is right in the first place.

By leakage, I mean the benefits meant for specific groups get leaked to the unqualified others through the discount. The coupon purchasers who are not meant to get the coupons get to enjoy the benefits of the coupons. How about a concrete example? It has happened with the 1Malaysia Book Voucher program where students did exactly that: they sold their vouchers at a discount for cash to a third party.

The same argument is also applicable to the quota system for subsidized fuel. What prevents a quota holder for selling his or her fuel to others at some price higher than the subsidized price but lower than market price? There is nothing “targeted” about it.

Monitoring might be the key to the success of such system but with the government trying to balance its budget, does it make sense to create a whole new bureaucracy to police the effectiveness of the complicated regime?

Furthermore, the coupon system would require distributors. Just who will distribute the coupons, one might ask? The government would likely outsource it to someone else in private sector given that there are millions of households already benefiting from the cash transfer program BR1M. And with all the complicated supply chain of vouchers, who knows what would happen. Something can go wrong. Why creates an opportunity for corruption in the first place?

If  you want a clean targeted policy, then you would only need to wire in the necessary cash directly into the recipient’s account. It is precise, easy and clean. If the person has no account, establish one for him or her. This way, no third party gets to handle the cash, leaving little room for abuse. And we already have that system in place. Why change things that work?

A regression of policy

Subsidy cut and cash transfer work charmingly and that is enough. The proposed quota-coupon policy will instead undo the successes of the subsidy cut-cash transfer policy by complicating everything.

If indeed the quota-coupon policy mix will be implemented, then I would see it as a regression. It is a policy U-turn. The maintenance of the subsidy system will preserve the very inefficient system that the government wanted to get rid in the first place while the introduction of a coupon system introduces other kinds of new inefficiency.

We are already on the path to a superior policy mix compared to the one we had before. I would go further by arguing that the logical end of the current mix is the best one given the objectives of creating a more efficient market, lowering the fiscal deficit and at least preserving – it can even be enhancing – the welfare of Malaysian most affected by the cuts and elimination of subsidies.

Remember the cash transfer rationale

It must be remembered that both subsidy cuts and cash transfer should be seen side by side. They are not independent of each other. The cash transfer is meant to address the negative impacts of subsidy cuts, making the cuts more palatable to the low-income households. The cuts meanwhile finance the cash transfer.

If the government reduces the efficacy of the cash transfer by taking the cash element away, then whatever remains of it will be unable to play its role as a cushion at its greatest potential for the financially weakest households. At the same time, if the subsidy is being maintained, then we should not increase the cash transfer. I would even say that the maintenance of subsidies calls into question the existence of the cash transfer program in the first place.

The Prime Minister during the budget suggested that the revenue raised from the goods and services tax will finance BR1M in 2015. That is a really a dangerous statement that upends the ties between the subsidy cuts and the cash transfer. Maybe this is a sign that the government is getting itself confused about the rationale for the cash transfer, which can explain why we are starting to see economic reforms losing steam as various inferior policies proposed at the expense of superior ones.

Don’t fix it if it ain’t broken

My advice to the government is to press on with its earlier promised economic reforms. Ditch the inferior quota-coupon mix. Maintain the current policy. Press on by floating all fuel prices. We can move on to LPG subsidies once the business with petrol and diesel is done. Maintain and improve the cash transfer program. Do not change the cash nature of the program. Increase it whenever subsidy cuts save more.

Just no to quota. No to coupon. And no to Ahmad Maslan’s paternalism.

The government has all the political capital it needs to press on with the reforms. The general election is still so far away. All the political criticism against BR1M can easily be dismissed. And BR1M is a cheaper and better kind of populism backed by good economics compared to the old subsidies and all those complicated policies. What is not to like?

It would be a great shame if by 2017-2018, all the political capital the government has now is wasted on half-measures.

Mohd Hafiz Noor Shams. Some rights reserved Mohd Hafiz Noor Shams. Some rights reserved Mohd Hafiz Noor Shams. Some rights reserved
First published in The Malay Mail on October 21 2014.

There are a lot of discussions about federal-state relations, especially with respect to Sabah and Sarawak. But I find those discussions and the points stressed are really hard to pin down in terms of numbers. So, I am putting the following chart up, mostly for my own purpose, and perhaps, also for the make benefit for glorious people of the benefit of others interested in the debate.

Here is a chart presenting all the federal grants paid by the federal government to all the 13 states in Malaysia:


20141017FederalGrantToStates

I obtained them from the federal government’s Anggaran Perbelanjaan Persekutuan 2015 document that was released on Budget Day last week. If you are interested in it, the figures can be found in Annex E of the document.

I apologize for the colors.

I have to highlight that this chart contains only grants. Things like petroleum royalties are not included because those are paid by Petronas, not the federal government.

And this of course presents only one side of the story. It would be interesting to collate all of government spending as well as income that went to/came from each state. Then we can calculate the balance. By doing so, we can know which state is the net recipient or contributor in this federation of ours. That perhaps could back any argument with some kind of data rather than merely strong beliefs. The exercise may sound simple, as if it involves just going through the government accounts. But federal spending can be so distributed among ministries and various bodies that essentially are linked back to the government that tracking them can be a real challenge.

That said, the relationship we maintain in this federation goes beyond fiscal matters. Just do not be too fixed on the economics. I think it is safe to say that economics is not nearly everything there is in life.

I am sure you have seen this before but just in case…

20141013MalaysiaDeficitNGDP

And the surplus was not because of Anwar Ibrahim. It was something bigger than him. It was the Roaring 90s.

Just a short remark: the recession of the late 1990s was the worst Malaysia has ever experienced, but it is interesting that in terms of government finance, it was the recession of the early 1980s.

277 pages