Author: Hafiz Noor Shams

With the liberalization of the retail fuel market is making headlines on almost daily basis, the volume of liberal-friendly announcement has been dizzying. I am happy of the trend seen within the local retail fuel market of course but I fear the rate of change may be too fast for it to last for long.

Subsidy, as always, suffers from deadweight loss and that is the crux of any objection to it from mainstream economics. Other factors include over-consumption and externality: rather than internalizing externality, certain subsidies only make the matter worse. Affordability has been cited as a reason too but trade-off is a far better reason to oppose subsidy. Nevertheless, both reasons call for at least a reduction of subsidy, if not elimination.

The most neutral argument against subsidy, at least within the current Malaysian context, is the distribution of subsidy. If subsidy is a must, then I think some liberals would be happy to see some improvement in the subsidy delivery system. Typical economic tools which are superior to blanket subsidy ranges from cash transfer to tradable coupons to tax cuts.

After countless criticism aimed at the badly designed subsidy policy, it is heartening to observe that the government has finally endeavored to undertake targeted mechanisms and has actually considered money transfer — the most efficient of all welfare policy as proven by the Second Fundamental Theorem of Welfare Economics^[0] — rather than relying on blanket subsidy which is always a blunt tool to help the poor while ruining the economy. If appeal to liberalism fails, then appeal to economics should do fine.

The direction of policies regarding retail prices of fuel is a cause for all liberals — the original liberals, I must add — to jump up and down until the floor gives way and then hold an all night long party in the basement. The speed at the current administration pursuing the matter is something else altogether. The political sustainability of the policy is a matter of concern.

Yes, it is a great tragedy that politics is not necessarily aligned with economics. What good in politics is not necessarily good in economics and vice versa. A sudden elimination of subsidy has a high chance of creating a backlash which may be detrimental to liberal policies. It has been reported that retail fuel prices will be floated to market prices in one go^[1]and it is definitely not hard to imagine the kind of opposition such abrupt policy could garner from the public.

What we need are sustainable policies, both economically and politically. A sustainable economic policy without political sustainability is perhaps as useless as an unsustainable economic policy. A policy has to survive considerable amount of time for it to offer noticeable change. A one-time policy which in many ways mimics unsustainable policy only provides a short-term euphoria and may as well suffer from something to the effect of Ricardian equivalent.

Shock therapy may cause revulsion and eventual rejection and we do not need that. The best way to promote liberal economic policy within a heavily welfare-based society is through incremental approach. Gradual liberalization offers liberal policies the political sustainable we need to achieve economic sustainability. I would personally prefer a scheduled gradual reduction of subsidy that will eventually achieve parity with the world market price. Such measured liberalization has a better chance of weathering destructive populism.

There may be something behind this sudden fad of liberalization within the current administration. The magnitude of change is too large to not to attract suspicion. Perhaps, this is an act of desperation. Perhaps, the economic sustainability of the flawed subsidy policy has become too great for the administration to shoulder that political sustainability of the policy is entirely ignored

^[0] — In short, the Second Fundamental Theorem of Welfare Economics states that any efficient outcome could be achieved through lump sum transfer of wealth. See Fundamental theorems of welfare economics at Wikipedia for more explanation.

^[1] — KUALA LUMPUR, June 3 (Reuters) – Malaysia will scrap fuel price controls in August and allow pump prices to rise in line with market rates under government plans to cut it’s burgeoning subsidy bill, the domestic trade minister said on Tuesday. [Malaysia to scrap fuel price curbs, use market rate. Reuters. June 3 2008]