Categories
Economics

[2924] Would a rule-based progressive corporate income tax be better than an arbitary windfall tax?

I would think yes. A long answer follows:

Malaysian glovemakers have reaped quite a fortune from the Covid-19 pandemic. Top Glove’s 2020 financial year net profit soared to nearly RM2 billion from RM400 million the year before (approximately 5 times higher). It is not the only one striking gold. Another large glovemaker Hartalega had its half-year net profit for 2020 rising close to RM800 million compared to slightly below RM200 million in the same period last year (about 4 times higher).

The extraordinary profit has made windfall tax a popular notion among some crowd. Member of Parliament Syed Saddiq Syed Abdul Rahman and his party MUDA are lobbying the government to impose windfall tax on Top Glove and other glovemakers.

Top Glove paid nearly RM400 million worth of tax in the 2020 full financial year. For Hartalega, they paid almost RM200 million out of their half-year revenue. A proper windfall tax could easily double that. That is a lot of JASAs that could be funded.

Windfall tax is arbitary and carries corruption risk

I am not all too comfortable with windfall tax. The problem is its arbitrariness and with arbitariness, corruption risk. At the very least, its arbitrary nature creates room for negotiation between businesses under the microscope and the authority exerting the tax. The bigger the business, the stronger the concern for corruption is.

Rule-based approach addresses corruption risk

Assuming we are merely interested in getting that additional revenue only, I think there is a better way to do so. We can possibly design a rule-based approach mimicking windfall tax. That is progressive corporate income tax.

In search of a mimic

Currently, the Malaysian corporate income tax is flat, with rate imposed at 24%. (Well, it is not that simple. Our corporate income tax is somewhat progressive, but only for SMEs. SMEs pay 17% income tax on the first half a million of net income, and then 24% for any profit above that. Yes, two brackets.)

There are some debates on why corporate income tax is flat and not progressive. I will not be going there and it is a whole other debate to be had.

But strictly from tax collection perspective and for the purpose of finding a mirror policy, I would think progressive corporate income tax would be better than an arbitrary windfall tax. Better in the sense that it mirrors windfall tax collection while minimizing corruption risk.

The challenge is to finding such a mimic is this: how could we generalize the brackets and the tax rates so that it could capture supernormal profit across industries fairly, while not punishing the others?

That is a difficult question to answer because each company or sector has its own typical profit level. For instance, a supernormal profit level as currently enjoyed by glovemakers are terrible figures for giants like Petronas during normal times.

In any case, theoretically, a progressive corporate income tax mimicking windfall tax would have a J-curve (or even an L-curve): mostly flat rates for most income brackets, but rises dramatically for supernormal bracket.

Hybrid?

Alternatively, we could add an if-then function to the corporate income tax code: if your yearly net profit is above a certain level and it grows by more than 400% (or some superprofit benchmark) compared to the previous year, then you would face a tax rate higher than 24%. This would be a hybrid between progressive corporate income tax and a windfall tax, and it would still be rule-based.

Categories
Economics

[2922] Malaysia’s Covid-19 type II error crisis

When faced with the unknown, we form assumptions based on what we know from previous experience. In science, it is fancier to call those assumptions as hypotheses. And hypotheses are meant to be tested. Those whom have done sufficient level of statistics will quickly understand this as hypothesis testing and at the very basic level, this is the philosophical foundation of whatever Covid-19 testing that exist out there.

The logical set-up is simple. There is a null hypothesis that a test seeks to reject. A failure to reject based on some benchmark means the hypothesis may have some truth to it, while a rejection means the alternative hypothesis is likely true. In the case of Covid-19 test, the null hypothesis would be “the person is heathy” and the alternative hypothesis would be “the person is unhealthy.”

Notice the use of ‘may’ and ‘likely.’ It expresses possibility. It reflects an element behind any statistical testing method: confidence. Confidence is an important factor because all testing are prone to error. We try to reduce it, but there is a minimum error level we have to tolerate. The errors come in two forms: it is possible to test a healthy person as unhealthy, and as we have witnessed in the past several weeks in Malaysia, it is also possible to test an unhealthy person as healthy.

When we tested a healthy person as unhealthy, that is known as a Type I error. Here, we rejected the null hypothesis when we should not. It is a false positive. As far as Covid-19 is concerned, this is an inconvenience to the person tested falsely. There will be cost involved, but the person will very likely be fine.

When we tested an unhealthy person as healthy, that is Type II error. Here we failed to reject the null hypothesis when we should. It is a false negative. In our Covid-19 context, this has a life-threatening consequence.

Between the two errors, a false negative is clearly the worse mistake to commit.

This is why adhering to strict and fulltime quarantine is important. Based on what we know from public health professionals, 14 days is the reasonable period for a quarantine. Centers for Disease Control and Prevention in the United States for instance stated that any symptom would manifest itself between 2 to 14 days. If we are truly sick, regardless of test results, there is a very high likelihood the truth will be discovered.

In Malaysia, we have ignored the risk of Type II error so that the ruling class could get their convenience. After violating safety and health procedures regarding social interactions during a time of pandemic, too many Malaysians—the politician class generally, the ruling class particularly—were just too happy to rely on testing to determine whether we are free of Covid-19, without understanding the underlying risk.

Worse, the authority was just too happy to short-circuit the process as if there is no error in testing. Whether the local health authority was strong-armed into it, we do not know. What we know is that quarantine time for those coming from high-risk areas in Sabah was 3 days, and not 14 days. Unlike the 14-day period, there is no scientific explanation why 3-day period were appropriate. In fact, a 3-day quarantine period is inconsistent to what we have been informed by health authority about the nature of Covid-19.

Because of the complete ignorant trust in testing method and failure to understand the risk of Type II error by a group of people—ministers no less—we Malaysians now have to suffer a pandemic wave bigger than we had earlier.

We all have sacrificed to fight Covid-19. We went through a severe lockdown. We worked from home. We stopped going out. We wore mask however uncomfortable the experience was. We were successful in flattening the curve, until the selfish men and women undid our success.

These ignorant, arrogant men and women have triggered a type II error crisis in Malaysia. They all should resign to atone for their sins.

Categories
Economics

[2919] Supply-side recovery and demand-side recovery

Despite the deep second quarter GDP contraction for Malaysia, monthly data suggests the economic situation is sitting somewhere between “becoming less bad” and improving. The new monthly GDP (April, May and June 2020) estimates shared by the Department of Statistics suggest the recesssion is becoming less bad from year-on-year perspective (it is impossible to independently verify the Department’s assessment because the monthly series is not available publicly). Industrial data suggests production is returning to pre-crisis level. Unemployment rate is coming off its peak but it is important to state that there is still a long way to go toward pre-crisis average.

The improvement has led to the narrative that we are recovering fast.

But as mentioned before, there are two types of shock at play in this recesssion: supply shock and demand shock. So when we talk of recovery, I think it is important to note that we need to complete two recoveries before we can confidently claim we have come out of the overall economic crisis.

At the moment, we can safely say we are recovering from the supply-side crisis. Some damage has done to the economy from the supply perspective but if things continue to proceed as it is, the overall industrial production would return to its pre-crisis level in the coming months. Somewhat full recovery from the supply-side would likely be possible once the partial domestick lockdown is removed, with the borders opened. The earliest that would happen is likely January 1 2021. Full recovery will depend on our major trading partners aboard, some of which are not doing too well.

In contrast, I think it is much more difficult to say whether we are recovering from the demand-shock, with some statistics possibly becoming unrealiable (a question of quality versus quantity, like the one besetting the unemployment rate calculation). This is where we should turn our attention to now.

To graphically represent that I am thinking about the two shocks, I have produced a chart.

The solid blue region represents the GDP (output), with Point 100 indicating the maximum production under normal times for convenience’s sake. There are 11 time periods from 0 to 10. Period 0 is pre-crisis. For each time period, output depends on two shocks: supply (pink) and demand (yellow).

From the chart at time Period 1, I am showing the GDP contracting due to a massive sudden supply shock. But beginning Period 2, the supply shock begins to be removed from the equation and as a result, the GDP is improving rapidly (for Malaysia, that comes in the form of successfully addressing the Covid-19 infection and lifting the full lockdown). But the supply shock simultaneously generates a demand shock. But the latter shock is more persistent than the supply shock, lasting longer in the following time periods. Our supply shock has a mechanical feeling to it. You know what is going on and if the supply shock gets removed, things would rapid go back to normal. But the demand transmission is more complex and this lies the danger of believing in a V-shape recovery.

One point I want to highlight: while the supply-driven GDP contraction is much, much bigger than the demand-linked contraction, under normal times, such demand-contraction would be considered as serious (with the superlarge numbers we have seen during the Covid-19 crisis, it is easy to lose track of “normal” perspective).

The next critical points for demand-side will be end of moratorium on September 30, and December 31 when the wage subsidy program will expire. I think these two measures have prevented the supply-shock from fully being translated into a demand-shock. The end of the two measures would remove the barriers. Those dates would likely negatively affect income level and unemployment, which would translate to spending.

So, as a summary: the so-called rapid recovery is largely due to the supply shock removal (both successfully addresssing Covid-19 infection and lifting the full lockdown). And it is unclear yet to me if we have begun to undo the demand shock. At the very best, we have only partially delayed it.