THE global economy is currently facing a severe surge in oil prices.
This extreme volatility is heavily driven by intensified geopolitical military conflict between the United States and Iran, reviving memories of the 1970s-style energy supply shock that led to widespread economic disruptions and stagflation risk.
The International Energy Agency called it the biggest energy security threat in history, as its intensity is much larger compared with the two oil shocks (1973 to 1974 and 1978 to 1979) and the 2022 Russia-Ukraine war.
In both 1970s oil crises, the world lost five million barrels of oil per day (bpd), while the Ukraine war has resulted in a total loss of 75 billion cubic m of gas, or roughly 628 billion barrels.
In the current Middle East conflict, the world is losing about 13 million bpd and a total of 100 billion cubic m of gas.
The International Monetary Fund (IMF) has warned that a protracted conflict in the Middle East, elevated oil prices and supply chain disruption would have a heavy economic toll.
Assuming a relatively short-lived war, the IMF expects global growth of 3.1% in 2026 (estimated 3.4% in 2025).
Under the more severe scenario of a longer-lasting conflict, in which oil and natural gas prices spike 100% to 200% relative to January 2026 and stay at that level into 2027, global economic growth would come in at only 2% in 2026.
Economic growth below 2% would amount to “a close call for a global recession”, which has happened only four times since 1980.
Even with a quick resolution to the war, the full restoration of oil facilities and supplies is projected to take months to more than a year, elevated oil prices and supply shortages could remain for some time, with significant “economic scarring” expected to last throughout the year.
Governments around the world are rewriting their economic playbook at speed, implementing initiatives and measures to reduce fuel demand, protect consumers and businesses, especially micro, small and medium enterprises (MSMEs).
The measures are ranging from austerity in public spending because of tightness in government budgets, work-from-home, mandated price caps, targeted subsidies, fuel tax relief, fuel rationing or consumption restrictions as well as encouraging energy-saving measures, including accelerating green initiatives.
Malaysia is now operating in crisis mode, with the government convening weekly meetings (sometimes every two days) of the National Economic Action Council, to discuss urgent short and medium-term measures, setting priorities within a critical level supply of essentials.
Malaysians are reminded to prepare for a “second wave” of the crisis, shifting from initial fuel price shocks to broader supply chain disruptions affecting production and increasing prices of daily necessities.
The pressure pain points are expected to emerge in second quarter of financial year 2026.
The government is focused on three main strategies.
First, ensuring an uninterrupted supply of basic needs such as food (chicken, eggs, rice and vegetables), fuel and medicine. Second, prolonging our supply, including subsidised fuel through prudent demand management.
This entails strengthening control and intensified nationwide enforcement to prevent fuel subsidy leakages and smuggling.
Third, mitigating the impact of the oil shock and supply chain disruptions (raw material shortage and increasing input prices) on businesses.
Targeted fuel subsidies are currently shielding individuals and households from rising global oil prices.
Notably, 80% to 85% of the individuals and businesses are sheltering under Budi Diesel and Sistem Kawalan Diesel Bersubsidi.
It is crucial to get it right, and the time for decisive action is now. Malaysia’s oil shock economic playbook must reflect a broader shift in policy thinking over the medium-term, that is, away from somewhat “comprehensive and differentiated” support towards more selective, resilience-focused intervention, targeting the most impacted and vulnerable sectors and households.
Dealing with an oil-induced supply shock requires careful policy calibration to avoid worsening the economic impact, as broad stimulus can lead to long-term economic scarring and persistent inflation.
Balancing immediate consumers’ and businesses’ protection with the necessity of economic adjustment to high prices requires a multi-faceted approach.
Alternative sourcing through diplomatic and strategic negotiations is actively pursued by the government to secure additional supplies of critical inputs to support manufacturing, packaging, healthcare products and agriculture.
These include naphtha and resin, helium, ammonia, ethylene, and phosphate rock, which is crucial for fertiliser production.
Countries involved in this form of “barter trade” negotiations are China and Australia, and the government and Petroliam Nasional Bhd or PETRONAS are also seeking outreach to energy suppliers from third countries such as Canada, South Africa, Latin America and the Balkans.
Cash flow tightness easing measures and financing facilities were implemented to ease the financial burden of MSMEs.
These include a RM5bil financing guarantee under Syarikat Jaminan Pembiayaan Perniagaan for targeted sectors (construction, agriculture and agro-food, logistics and transportation, and tourism), a 12-month extension for e-invoicing transition; and interim tax relief on re-imported Malaysian goods affected by global supply chain disruptions.
Targeted repayment assistance offered by the financial institutions is strongly encouraged.
The current targeted and disciplined fiscal support over broad stimulus is deemed appropriate during a supply-driven oil shock.
By stimulating demand when goods are scarce or production is disrupted by the shortage of raw materials and higher prices, added spending can worsen the supply crunch, drive up prices further, and risks worsening inflation without increasing output.
This risk creates stagflation, a combination of slower economic growth and high inflation.
The government should resist “overspending” to shield consumers from high energy prices given the limited fiscal space.
Fuel subsidies act as an implicit stimulus for consumption by keeping domestic fuel prices artificially low.
Fuel subsidies, while intended to alleviate living expenses, come with economic costs.
It not only causes fiscal unsustainability but also “over-consumption” and prolongs the dependency on the fossil fuel system that caused the shock in the first place.
Keeping fuel prices at artificially low levels through subsidies can discourage energy efficiency and stall the adoption of renewable alternatives.
Fuel subsidies have ballooned tenfold to RM7bil per month from RM700mil before the oil shock.
The still-evolving volatile oil price environment makes a recalibration of the Budget 2026 challenging, contingent on the scenarios regarding the scale, intensity and duration of the war and oil shock.
The average price of Brent crude oil has increased by 25.5% to US$86.75 bpd as of April 20, 2026 from US$69.14 in 2025 (Budget 2026’s assumption of US$60 to US$65 bpd).
Soaring oil prices simultaneously strain fiscal balances through high subsidy costs and dampen economic growth, forcing governments to cut non-essential spending or reduce development spending to manage deficits.
Bank Negara Malaysia should look through a temporary supply-driven oil shock to avoid choking-off growth but must be agile to anchor inflation expectations.
Monetary policy proves ineffective to address supply constraints.
Lowering interest rates during an oil shock to support growth and boost aggregate demand could lead to “demand-pull” inflation, which compounds existing cost-push pressures from higher energy prices, risking fuelling inflation further.
The government must focus on balancing immediate economic pain relief with long-term fiscal sustainability, spending prudently, targeting support more precisely and building an energy system that can withstand future global instability shocks.
We need sustainable and future-proof policies that reduce fossil fuel dependence and expand renewable-centred energy systems, making our economy more stable, our businesses and communities more resilient and strengthening cushioning against the risks of future oil shocks.
The challenge is not simply how to absorb today’s oil shock, but how to prepare for the next one.
Key strategies include accelerated investment in renewable energy (such as solar, hydro), encouraging renewable energy adoption, efficiency, and electrification of transport, scaling electric vehicles (EVs), investing in grid infrastructure, and shifting industrial processes toward renewables.
Consumer behavioural changes are crucial to shift from high consumption of fuel to efficiency and alternatives, leveraging price signals, promoting eco-driving vehicles, and enhancing infrastructure for alternatives.
Key strategies include a gradual weaning off fuel subsidies and supporting EV adoption.
They also involve effective traffic congestion planning in urban areas, such as implementing peak-hour pricing and using artificial intelligence for traffic management, as well as optimising driving habits.
Other measures include adopting transit-oriented development and shifting liquefied petroleum gas usage for cost efficiency and lower carbon emissions.
Improving public transport is another priority, aimed at reducing reliance on private vehicles through better, more connected transit options.
It is a good move for the Transport Ministry to provide significant incentives to boost public transport usage, including a 30% discount on KTMB Electric Train Service and Ekspres Rakyat Timuran tickets for Monday to Thursday travel, in addition to continued support for the My50 unlimited travel pass.
While the government’s fuel subsidy reform, shifting from blanket to targeted fuel subsidies, albeit still comprehensive, has provided leeway to implement demand management through fuel consumption quota adjustment, the mechanism can be enhanced to achieve better targeting of fuel subsidies.
Adopt a three-year gradual reduction of fuel subsidies by introducing regular, small increases to the subsidised price, bringing it closer to the market price, with a six-month review cycle.
Ultimately moving to a fully floated market price, paired with direct cash assistance for vulnerable groups, ensuring a smoother transition.
Utilise comprehensive and central databases such as Pangkalan Data Utama or Padu for targeted identification to accurately identify households based on income level and the needy ones, using means-testing to exclude the high-income bracket group.
Embarking on a gradual, phased removal of fuel subsidies is more receptive and least disruptive when the oil price environment is low and less volatile.
A stable and low-price period offers a strategic “window” for reform.
When the price gap between the subsidised domestic price and the market price is smaller, gradual and small-step price increases reduce the shock to consumers.
Lee Heng Guie is the executive director of the Socio-Economic Research Centre. The views expressed here are the writer’s own.
