A tough balancing act

  • Business
  • Saturday, 29 May 2010

DAMNED if you do, damned if you don’t.

“This is the most unpopular decision the Government has to make since independence,’’ Minister in the Prime Minister’s Department Datuk Seri Idris Jala, who is also CEO of Performance Management and Delivery Unit (Pemandu) admits.

“We don’t want to be another Greece,’’ he warns. If the rate of government debt were to grow 12% per annum, the country would be bankrupt by 2019 as total debt would soar to a crushing RM1.16 trillion by 2019. Coercive, indeed.

Jala communicated this bleak Morton’s Fork message to the public during an open day over the week, to drive home the point that the Government’s move, while unpopular, is necessary to cut deficits. The open day was held to gather public opinion on a plan that calls for wide-sweeping changes to transform the nation.

Backing his remark is the gargantuan size of subsidies in the country, from staple food items like flour and sugar to energy costs and services such as health care and education. To be exact, in 2009, government subsidies totalled RM74bil – RM42.4bil for social services including education and healthcare, RM23.5bil for fuel and energy and RM4.8bil for infrastructure (think lower rates for toll roads).

For long, Malaysians have benefited from these subsidies that have kept a lid on the price of these goods. But all of that is set to change – very soon.

If Pemandu has its way with the subsidy rationalisation plan, the Government would be able to save RM103bil in five years.

The big public buy-in

Realisation is one thing, acting on it, quite another. Making it even more challenging is that cutting back on subsidies is politically speaking, not a populist move.

Taking note of that point, economist Datuk Dr Zainal Aznam Yusof says there is a wide room to work on when it comes to engaging the public over the move to cut subsidies.

He feels that the public needs to be constantly made aware of the drawbacks and dangers of continuing the unsustainable subsidy bill incurred by the Government.

“It’s almost like an entitlement now. It’s a huge national crutch and we have been living under the illusion that what we are paying is the natural cost of resources,’’ he says.

As it stands now, it appears that the government machinery is quite set on pooling public opinion on the issue as, otherwise, it could have a major backlash.

“The question is whether we want benefits for the long term or whether we should keep it at status quo, which will expose our country to certain risks,” said Prime Minister Datuk Seri Najib Tun Razak on Thursday after chairing the Umno supreme council meeting in Kuala Lumpur on Thursday.

“We want the people to know the different implications from the decision made on the subsidies. This will be a transparent process because it’s a huge issue.”

Judging by the initial response to an SMS and online poll conducted by Pemandu on whether or not subsidies should be removed, 61% of Malaysians said yes, while 66% felt it should be done between 3 and 5 years.

During a panel discussion held at the open day on Thursday, Petaling Jaya Utara MP Tony Pua said that notwithstanding the leading questions on subsidies, the other side of the poll showed that a large percentage of Malaysians actually wanted subsidies retained.

As to the duration of cuts, it would also appear that a third of Malaysians wanted to have a big bang approach where subsidies are cut within a year.

But would the outcome of the poll remain the same if the public knew exactly where the cuts were going to come from and how that would impact the affordable cost of goods and services they have long enjoyed as well as taken for granted?

Pumping it up

While social services is the largest component of the subsidy bill, the fastest and most significant cuts can be obtained from the fuel subsidy.

According to data from the Finance Ministry (MoF), the Government has forked out between RM5bil and RM15bil per annum in fuel subsidies between 2004 and 2009. Given the sticky nature of the price of fuel internationally, where the good old days of cheap fuel may soon be consigned to the history books, subsidies are expected to remain high if current high oil prices persist.

Based on the MoF projections, the subsidy bill for fuel is expected to soar to a whopping RM200bil between 2010 and 2020.

Adding fuel to that is that, assuming status quo, the cold hard fact is that Malaysia will soon become a net importer of fuel.

Toss in the fact that Malaysians are big consumers of fuel, about 450 litres a day, and the push for change becomes even more compelling.

Such a per capita consumption rate puts Malaysia way ahead of neighbours Singapore, Thailand and Indonesia and even larger countries such as China and India. The high consumption rate in Malaysia is largely attributed to the relatively cheaper fuel price. On the other hand, it also makes Malaysia one of the fastest growing nations in terms of carbon emissions.

“It’s because the price is cheap,’’ says Petrol Dealers Association president Datuk Hashim Othman, referring to Malaysian’s high fuel consumption. But he expects consumption to fall once fuel prices rise which was clearly evident when the latter was raised overnight by 70 sen to RM2.70 a litre in 2007.

This is because consumers tend to be more prudent in their consumption and waste less with higher prices.

While the pockets of the man-in-the-street will be hit from the rise in petrol prices, he says the concerns are overblown.

“Ultimately the public has to adjust,’’ says Hashim.

Under the road map for the removal of petrol subsidies, Pemandu has proposed that the price of RON95 fuel at the pump be raised by 15 sen a litre for petrol and 10 sen a litre for diesel by year-end.

From 2011 to end-2012, the price of petrol and diesel will be increased by a small quantum half yearly and Malaysians can expect to pay market prices for petrol and diesel by 2013 and thereon.

Against that backdrop, the Government’s savings on fuel subsidy alone is projected to reach 69% by the start of 2011, 93% in 2013 and 99% by 2016. A small subsidy for fleet card holders and fishermen will remain.

Keeping the lights on

Another huge subsidy involves gas which has till now, kept electricity cost at comfortable levels.

Having fixed the gas price to the power sector in 1997 and the non-power sector from 2002, the gas subsidy bill in 2009 stood at RM12bil, of which RM8.2bil was for the power sector and RM3.8bil for the non-power sector.

The cumulative gas subsidy bill between 1997 and 2009 was RM108bil, according to data from Pemandu.

The subsidies for the power sector were mainly used to keep the price of electricity low by managing power tariffs.

Of the RM12bil bill in 2009, independent power producers were subsidised to the tune of RM4.5bil, TNB by RM3.7bil and for the non-power sector, the subsidy for Gas Malaysia Sdn Bhd and Petroliam Nasional Bhd customers were RM2.1bil and RM1.7bil respectively.

Tariff subsidies have also kept the price of electricity in Malaysia at 31.31 sen per kWh, lower than most countries in the region with Vietnam and Indonesia having the lowest at just over 22 sen per kWh.

Under the gas subsidy rationalisation plan, the price of natural gas will be first raised by RM4.65 per mmbtu for the power sector and RM2.52 per mmbtu for the non-power sector.

The electricity tariff will be hiked by 2.4 sen per kW/h and thereafter the price of natural gas will be increased by RM3 per mmbtu every six months and with fuel costs being passed through, the price of electricity will also rise by 1.6 sen per kWh every six months.

Pemandu said 56% of Malaysians will not feel the pinch if they consume below 200 kWh a month but for industries, the hike could prove to be a painful one, according to former president of the Federation of Malaysian Manufacturers Tan Sri Yong Poh Kon.

At the panel discussion during the open day, Yong said the staggered increase in electricity tariffs would see businesses start paying 53.8 sen per kWh in 5 years and at that rate, the price of electricity would be much higher than what businesses in Thailand, let alone Indonesia and Vietnam which are now in competition for valuable foreign direct investment money, will be paying.

“We cannot just pass the cost on to manufacturers. Higher prices will affect our competitiveness,’’ he said.

The argument he is making is that electricity producers in Thailand are paying market prices for natural gas, and their tariffs at the moment are comparable with Malaysia which is generating electricity using heavily subsidised prices.

However, the disparity in electricity tariffs between Malaysia and Thailand based on the same price of natural gas reflects the huge profit margins independent power producers (IPPs) currently enjoy in the country.

A suggestion from the panel is that the Government spend tens of millions of ringgit in legal fees, if needed, for an expert legal team to re-look and re-negotiate the lucrative contracts enjoyed by the country’s IPPs as the outcome could in fact involve substantial savings.

Yong pointed out that while manufacturers would have to adjust over time to higher energy charges, the benchmark of costs of power would have to be re-looked in order to source gas at cheaper prices than the current benchmark for domestic usage.

Another aspect that bears keeping in mind is the correlation between energy prices and growth. Should the price of electricity rise dramatically, consumption theoretically will drop and so could economic growth.

For industries, especially high consuming industries such as steel producers, higher tariffs in both electricity and gas will put pressure on margins.

“It’s possible such companies will cut back on investments if subsidies are removed. But in the end, the Government cannot just subsidise industries and not households,’’ said a head of research of a local investment bank.

Rice bowl

In 2009, the entire food subsidy bill was RM3.4bil, of which paddy was the largest recipient with RM1.34bil. Palm oil, in the form of cooking oil mostly, was RM850mil and sugar was RM720mil. Flour subsidy amounted to RM140mil. About 70% of the cooking oil subsidy is borne by the cooking oil subsidy scheme in which the oil palm planters contribute to.

Apart from paddy, subsidies for other foodstuffs normally encounters the largest amount of leakages as money paid to keep the price of such basic foodstuff low is not only enjoyed by foreigners who buy such essential items but also by restaurants who earn a profit from selling food to customers using subsidised goods.

Leakages in the form of cooking oil alone is costing the Government RM246mil annually as households use 49,500 tonnes of cooking oil per month compared with the allocation of 70,000 tonnes.

Pemandu aims to withdraw subsidies for cooking oil in 5 years and sugar over 2 years. The flour subsidy will be removed over a two-step price increase.

If that is done, the cost of subsidies would see its biggest fall from 2011 onwards when the Government will cut RM1.3bil from its current food subsidy cost.

By 2015, when subsidies for cooking oil, sugar and flour are cut, the savings will rise to RM2.8bil.

While subsidy removal will be met with trepidation from certain quarters, a uniformed voice from the panel discussion at the open day along with that from the floor from the general public is that sugar subsidies could be done away with immediately.

“As far as sugar is concerned, we should remove the subsidy completely. There is no need to wait and give rebates for sugar,’’ says Consumer Association of Penang vice-president Mohideen Abdul Kadir.

Of toll rates and social subsidies

Another grating point for many Malaysians has been toll rates. To manage the costs and to keep a lid on them rising faster than what is stipulated in the concession agreements, the Government has been forking out significantly over the years.

With almost all the highway operators staring at a toll rate increase in the next 4 years, the cost of subsidising toll rates is set to grow in line with the higher toll charges.

Between 2010 and 2013, the subsidy is expected to reach RM3.2bil.

One popular suggestion has been to nationalise the highways in the country. Pemandu estimates it will cost the Government RM383.3bil to do so and that cost would have to be borne by taxpayers in future maybe through higher taxes.

Pua, however, disagreed with that assessment, saying there are break clauses in the contracts of highway operators and the actual cost would be far less as the Government already has sizeable stakes in those highways, especially PLUS.

He said that by privatising highways, toll rates could be capped naturally and the period for a payback would be less costly and lengthy for the taxpayer.

Pemandu’s preferred solution is that toll rates take effect as per concession agreement except for highways that have no alternative routes such as the LDP and the Grand Saga highways.

Together with the rebate for heavy users of Touch’n Go cards, the savings over the next 4 years could come up to RM2.7bil, with RM477.8mil being spent to reduce the toll burden.

As for social subsidies such as medical and education, the Government in 2008 spent RM9.4bil on medical services and recouped 2% of that via cost sharing with the public.

Presently, it is looking at co-payments to claw back some of the growing costs of medical services and aims to review inpatient and outpatient fees which could be marginally raised. Foreigners, who now enjoy the same low cost of medical services, would also have to pay more.

Some of the increases will come via co-payment schemes and a prescription charge for outpatient services. Medical services, however, are still expected to remain heavily subsidised, but analysts have argued that such a cost should not be viewed as a subsidy as medical services are deemed as public good.

Another potential reduction in overall costs would come via a national insurance scheme, a plan favoured by the Health Ministry but one that could be several years away from implementation.

Education account for 15.6% of the 2010 Federal Budget of RM191.5bil as Malaysia is the 7th largest spender on education as a percentage of total government expenditure in the world.

The non-obligatory expenditure for compulsory education and higher education was RM2.9bil and RM4.6bil respectively.

To reduce such non-obligatory expenditure, the Government will review its spending on meals for hostel accommodation and have parents of children who can afford to pay ante up. The other is on tuition fees.

As for higher education, gone will be the days where fees of foreign students are subsidised. Fees charged for local tertiary students will be increased and study loans under the National Higher Education Corp Fund (PTPN) scheme would be tweaked to cover study fees only.

By having foreign students pay full fees, increasing the fees for local students and giving full loans only to those in the lower income bracket, the Government could save RM446mil by 2015.

The adoption of the ICLR (income contingent loan repayment) model would also see the repayment rate of PTPN loans increase to 80% from the current 50%.

The pressing issues

The rationalisation of subsidies is quite clearly being fervently pursued by the Government because of the escalating costs it involves which if left untapped, could have a debilitating impact on the economy.

This calls for a more holistic approach and it should also plug the weakness, excesses and wastage in the system.

Mohideen says that a comprehensive review is needed and calls for the Government to tackle another major cost factor - corruption.

Jala, the chief steward of the transformation plan, concurs that the process should be holistic. He has promised that the poor and needy will be taken care.

As Pua put it, the Government needs to deal with the legacy issues that have long been entrenched in the system:

“By trying to adjust prices without dealing with the source of the problem, that will have long-lasting impact on our economy.”

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