THE government faces an exceptionally difficult balancing act. Budget 2023 is set against a backdrop of turbulence in global financial markets (equities and bonds) and foreign exchange markets, as well as a rising risk of global recession in 2023, amid the strengthening of the domestic economy.
Budget 2023 sets a course for sustaining economic recovery amid a small effort to resume the fiscal consolidation path for restoring the health of public finances.
It will extend short-term fiscal and financial assistance support to the immediate needs of vulnerable households and selected sectors that need time for a full-fledged recovery.
While the budget contains elements of populist measures with handouts to create a feel-good factor ahead of the 15th General Election, which may be called soon.
But it lacks bold structural reforms, which are critical for ensuring a sustainable future, inspiring investor and public confidence, and improving Malaysia’s growth trajectory.
Vulnerable segment
The budget seeks to prioritise the allocation towards expenditures in infrastructure, climate change-related projects, the adoption of environmental, social and governance (ESG), healthcare, transportation, skills development, education, digital infrastructure, facilitating domestic and foreign investments, and supporting the vulnerable segment of the population.
After a deficit averaging 6.1% of gross domestic product (GDP) in 2020–2022, the budget deficit is targeted to narrow marginally to 5.5% of GDP (RM99.1bil) in 2023 from an estimated minus 5.8% of GDP (RM99.5bil) in 2022, indicating a baby step in fiscal consolidation due to limited room for manoeuvring in spending.
After taking into account the budget’s measured net revenue loss of RM1.3bil, the overall deficit still remains at 5.5% of GDP in 2023.
A total allocation of RM372.3bil, or 20.5% of total, is allocated for the 2023 budget, of which operating expenditure (OE) will be allocated RM272.3bil (73.1% of total), and RM95bil, or 25.5%, for development expenditure (DE).
The remaining RM5bil is for outstanding payments on the Covid-19 Fund commitments made in 2022.
While the federal revenue and OE are budgeted to decline by 4.4% and 4.3%, respectively, in 2023, the Finance Ministry (MoF) has budgeted a new record high of RM95bil for DE (25.5% total expenditure and 5.2% of GDP), marking a substantial increase of 32.3% from the estimated RM71.8bil in 2022.
The higher allocation of DE is for the construction of highways and railways, water and sewerage treatment plants, medical and education facilities, as well as a sum of US$3bil (RM13.9bil) for the redemption of 1MDB’s maturing bond in March 2023.
The question is why is the redemption of the 1MDB bond not treated as an operating expenditure?
Multiplier impact
While we reckon that an extraordinarily higher allocation of DE is to help cushion the domestic economy against the risk of global recession in 2023, our concern is not only the implementation capacity of the ministries and agencies but also the effectiveness of projects and projects implementation as well as the leakages and misappropriation of public funds.
The real multiplier impact of the DE projects is questionable. It would depend on how fast the allocation is disbursed and how effectively the planned projects and programmes are being carried out.
In 2021 and 2022, when the DE was increased by between 11.7% and 26.3%, public investment declined by 11.3% in 2021 and only increased by 2.2% in 2022, indicating the weak fiscal impulse.
There are risks to the fiscal plan stemming from weakening economic growth and high inflation, which could affect tax revenue collection, continued subsidies, higher contingency expenses, as well as calls for permanent increases in spending that exceed available resources.
Downside risks
The treasury expects the Malaysian economy (real GDP) to grow by 4% to 5% in 2023, slowing from an estimated 6.5% to 7% in 2022.
This is in line with our estimates of 6.5% in 2022 and 4.1% for 2023, reflecting the impact of weakening global growth and a normalisation of domestic demand as the consumption booster effect fades.
We caution that growth risks in 2023 are skewed to the downside given the considerable risks to the global economy, especially a recession risk in the United States and Europe, strong inflation pressures, the continued military conflict in Ukraine, and the negative spillover disruption effects on the domestic economy from higher US interest rates.
Domestic demand
The worst-case scenario is that real GDP growth could be around 2% to 3% in 2023 if there is a deep global recession and domestic demand pulls back sharply.
The MoF estimates slower private consumption growth to 6.3% in 2023 from an estimated 8.7% in 2022, while private investment will improve moderately to 3.7% in 2023 from 3% in 2022.
These estimates are higher than the Socio Economic Research Centre’s (SERC) estimates (private consumption 5.9% in 2023, private investment 3% in 2023).
Continued increases in inflation and the cost of living, as well as interest rate hikes, would reduce consumer spending power.
The unemployment rate will ease slightly to 3.5% to 3.7% in 2023 from an estimated 3.8% to 4% in 2022.
The continued payment of Bantuan Keluarga Malaysia totalling RM7.8bil to benefit 8.7 million households and individuals and other financial assistance, including a reduction in personal income tax rate by 2% for the chargeable income band between RM50,000 and RM100,000, resulting in income tax savings between RM250 and RM1,000, is expected to help relieve households’ financial burden.
This will release RM800mil disposable income.
Financial assistance
Government servants too will get a special salary increment costing RM1.5bil, special financial assistance of RM700 (RM1.3bil), and 2023 Aidilfitri special financial assistance of RM600.
Private investment will remain cautious due to rising costs, a labour shortage, external uncertainties, and domestic political uncertainty.
The proposed reduction in the preferential tax rate to 15% from 17% currently for small and medium enterprises on the first chargeable income of RM100,000 is expected to result in tax savings of RM2,000 for 150,000 tax payers.
We concur with the MoF’s assessment that exports are expected to slow markedly to 2.2% in 2023 from an estimated 17.4% in 2022.
SERC is more cautious about exports estimated 1.8%, reflecting the dampening impact of weakening global demand, easing prices of energy and commodities, as well as being challenged by the high base effects.
Brent crude oil is expected to average US$90 (RM418.50) per barrel in 2023 (it is expected to average US$100 or RM465 per barrel in 2022), while crude palm oil is expected to average RM4,300 per tonne in 2023 (it is expected to average RM5,000 per metric tonne in 2022).
Inflation is estimated to range between 2.8% and 3.3% in 2023 (estimated 3.3% in 2022), which is in line with SERC’s estimates of 3.5% in 2022 and 2.5% to 3.3% in 2023.
This is to factor in a gradual move towards a targeted subsidy mechanism amid easing energy and commodity prices.
Structural reforms
Faster implementation of structural reforms would bolster confidence and economic recovery and also ensure the economy is fit and better able to realise its growth potential in a balanced and competitive way.
The Fiscal Responsibility Act is expected to be tabled in Parliament by the end of 2022 to deliver better fiscal outcomes and enhance governance, accountability, and transparency in financial management.
However, we are disappointed that the budget did not commit to wholesale tax reform to broaden the tax base as the current narrow tax base is unsustainable.
Due to soaring crude oil prices, the government has implemented a piecemeal approach such as the windfall tax, the prosperity tax, or turned to Petroliam Nasional Berhad as its last resort banker in times of revenue shortfall.
Public healthcare
But once the high crude oil prices fizzle out, the challenges of having a sustainable revenue stream to meet high committed obligations and expenditure remain.
There’s going to be sustained pressures on the budget for public healthcare, education, social community services, and fiscal support for the ageing population.The debt service charges bill at 16.9% of total operating expenditure (RM46.1bil) in the budget is under pressure in relation to total revenue of 16.9% (15.1% of revenue in 2022), which is higher than the 15% threshold in accordance with international best practices.
If the level of debt is not stabilised, the interest bill will rise significantly given the rising bond yield.
Hence, the government has to move forward with a tax reform system fit for purpose that takes on board all the pressures on the federal budget.
It is critical to anchoring expectations for a sustainable fiscal and debt level.
Malaysia has incurred an unbroken 26 consecutive years of deficits, resulting in an accumulation of RM1.04 trillion in federal government debt, or 61.0% of GDP at the end of June 2022.
Overall debt is projected to be around 65% of GDP while statutory debt is at 63% by the end of 2023.
To ensure a smooth implementation of the 12th Malaysia Plan (12MP), the government may extend the statutory debt limit of 10% of GDP in the medium term after the expiry of Act 830 on Dec 31, 2022.
As of the end of June 2022, the federal government’s total debt and liabilities were estimated to be RM1.42 trillion, or 82.9% of GDP.
The bloated subsidies and financial assistance of RM58.9bil, or 20.7% of total operating expenditure in 2022, have forced the government to implement a gradual subsidy rationalisation, moving towards a targeted regime based on needs and income from a blanket approach.
Subsidies and social assistance are expected to be reduced by RM16.9bil to RM42bil, or 15.4% of total operating expenses in Budget 2023.
That said, the targeted subsidy mechanism was not announced in the budget. Subsidies come with a “opportunity cost” to society.
It reduces the fiscal capacity as the huge financial resources spent on subsidies have diverted the budget’s allocation from other sectors such as education, healthcare, infrastructure and housing.
Subsidy programmes encourage waste and degrade the environment.
The implementation of the subsidy reform must have three important principles. These are the 3 “Cs” – credible, compensation, and communication.
Lee Heng Guie is executive director of the Socio Economic Research Centre (SERC). The views expressed here are the writer’s own.
