[2907] No time for dry powder

With extreme social distancing in place, severe movements restriction and work disruption, it is unclear to me the role of economic stimulus. At the very least, its function to stimulate the economy is becoming irrelevant. There is little to stimulate with the supply-side frontier collapsing.

Moreover, the earlier stimulus must have been rendered inadequate. It is designed to address externally driven supply-side shock. It is not designed for domestically driven supply shock, which is essentially the whole economy running aground.

As I have written recently, Malaysia is experiencing its ultimate supply shock in terms of drastic labor supply cut. Given the massive shock we are facing domestically, there is a strong case for the stimulus to be enlarged quite significantly.

You could keep your powder dry a month ago, but the situation has changed so much since then. In fact in the last day or two, this incompetent government has botched the restriction order so much that a third wave is likely: a policy that was meant to restrict public gatherings ended up created massive public gatherings at the borders, at KL transport nodes and at police stations among others. I am suspecting a longer restriction period beyond 2-week to fight the likely third wave.

And so, if we are not already in recession, this government’s poor handling of our case is ensuring a deep one will happen.

Hence, this is the time for radical policy. We desperately need one.

Examples include: SMEs in particular will need hard cold cash, if they are to hoard labor and preserve their potential. One of my favorite ideas involving the central bank is for Bank Negara to buy SMEs’ assets like account receivables through repo facility. This essentially means the bank injecting cash into SMEs in return for SME account receivables. The whole exercise could be unwind in a year’s time. More assets could consider in fact.

Fiscal policy will also need to play its role. I have heard suggestions for withdrawal from EPF account 2. That is doable without hurting government finances. A more flexible borrowing scheme by the government is also necessary, especially given yields are so low these days. The deficit can wait. An A- sovereign credit rating is not the hill I would want to die on.

If our powder is still dry, we are just not doing enough.


[2800] What is the fiscal deficit status now?

Back in January, the official deficit projection for 2015 was revised up by the government to 3.2% of GDP from 3.0% due to the falling energy prices. I concluded then the new target was achievable if government revenue would increase by at least 1.2% YoY. It was a reasonable target eight or nine months ago.

Unfortunately, a lot of things have happened since then and that 1.2% YoY revenue growth does not look easy anymore. That means, the current deficit target seems incredible now.

I have updated my sensitivity analysis. I think the fiscal deficit this year will likely be around 3.5%-3.9% of GDP. I did a tighter projection for work but I can afford to cast a wider net here.

Below is a table of deficit-to-GDP, dependent on revenue and NGDP changes this year. I have highlighted several cells in red corresponding to my expectations.

2015 Fiscal deficit sensitivity analysis

The assumptions (projections?) are:

  1. 0%-2% revenue contraction
  2. 4%-5% NGDP growth.
  3. For government spending growth, I imputed 1.2% YoY into my model, which is the exact increase the government announced from its budget revision back in January. I do not expect any spending cut due to… hmm… some political imperatives and I suppose, Keynesian tendencies within the government. I am unsure how the Monday announcement would affect spending as details are scarce so far but my gut feeling says it will not matter.

The weaker revenue is mostly due to depressed petroleum tax collection, lower petroleum royalties and lower dividend. I am a bit unsure how other taxes, especially company and individual income taxes, will change. But what we do have is the first half data and individual income tax collection is already down by 33% YoY, partly, I guess, because of the earlier tax cuts. Company income tax collection rose strongly however, increasing 43% YoY but judging from earning reports so far, I think the second half will be very different.

The 1MDB Minister Prime Minister Finance Minister will table the government budget on October 23. We will know more then.

Mohd Hafiz Noor Shams. Some rights reserved Mohd Hafiz Noor Shams. Some rights reserved Mohd Hafiz Noor Shams. Some rights reserved
p/s — It would be interesting to compare current assumptions with past ones:

  1. My current expectation is based on 1.2% spending growth, 0%-2% revenue contraction and 4%-5% NGDP growth. These are part of the three assumptions listed above.
  2. Back in January 2015 during the revised budget, the assumptions were 1.2% spending growth, 1%-2% revenue growth and 4%-5% NGDP growth.
  3. The original 2015 official projection, shared in October 2014, was 3.2% spending growth, 4.5% revenue growth and 9% NGDP growth.

You can see the drastic change in projections and assumption since October 2014. Maybe a table will be clearer for comparison:

Malaysian deficit ratio target change


[2763] Is the new 3.2% deficit target achievable?

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 feel 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 2015 revenue does not change from last year. 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, but it would miss the deficit target still as 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.


[2761] What if there was no expenditure revision?

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.


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:


Conflict & disaster Economics

[2760] The deficit can wait

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.