Tun Dr. Mahathir Mohamad has a message for investors, economists, and credit rating agencies should Pakatan Harapan (Alliance of Hope) win Malaysia’s 14th General Election (GE14) tomorrow: fret not of a change in government. The opposition pact only wants to patch the leakages in Malaysia’s public finances, and put a lid on the ever-growing government debt.
“The only thing we are planning to tweak is to make sure the powers are less open to abuse. The government will be of the same system – except that we want to clean up certain things,” Mahathir says in an interview with August Man Malaysia. “The change is not that radical.”
A more prudent management of government expenses, he says, would make it unnecessary to fill the RM44 billion void left by the goods and services tax (GST). Pakatan Harapan has promised Malaysian voters that it would eliminate the consumption tax altogether, three years after it was introduced by the government led by Caretaker Prime Minister Dato’ Sri Najib Razak.
“We collect more taxes now than, say, the 1980s and the 1990s – (at least) three times more. So we should have enough money. But the way the governments spends its money is important.
“If you spend your money giving to people with no return, then of course there will be shortage of funds. (The caretaker government) gives free money through BR1M (1Malaysia People’s Aid), wages to fishermen, a lot of allowances for village aid, and people performing the hajj. It’s the disbursement of a bigger amount of money, but the (channels of) disbursement and the way the finances are managed is what causes the shortage,” Mahathir elaborates.
Excluding the GST, the government made revenue of RM176.4 billion in 2017. This compared with the year 2000’s overall revenue of RM61.86 billion.
In its election manifesto, Pakatan Harapan has made various proposals to improve the governance of public finances and increase transparency. This becomes all the more pressing, it says, in the wake of scandals and alleged embezzlements emanating from state-run companies, which put Malaysia in an unfavourable light on the international stage.
Pakatan Harapan hopes that the improved governance would make for a fertile macroeconomic landscape. The rakyat have been feeling the heat of elevated living costs, with urban dwellers getting the brunt since at least 2015 – when the GST first surfaced, the ringgit began to depreciate considerably, and various subsidies sequestered.
Economists and fund managers, however, contend that the opposition’s proposals reeked of populist idealism that could burn a hole in the government’s coffers over the long term. They have questioned how realistic Pakatan Harapan’s manifesto is; from the surface, the opposition seems to want to do more with less revenue.
Apart from the shortage of funds if the GST is decommissioned, executives in the capital markets are spooked by Pakatan Harapan’s considering of scrapping the Chinese-financed East Coast Rail Link (ECRL) and other multi-billion dollar infrastructure projects. And justifiably so, if the government of the day can arbitrarily cancel projects halfway down the line after the private sector has poured in billions of dollars.
The issues Pakatan seeks to rectify
Much of Mahathir’s discontent with Caretaker Prime Minister Dato’ Sri Najib Razak centred on the governance of managing taxpayers’ money, and the soaring debt level. Including the implicit guarantees, the Malaysian government’s liabilities jumped by a whopping 140.8% to RM914.31 billion since Najib took over office in April 2009.
Mahathir, a stalwart of United Malays National Organisation (UMNO), left BN’s strongest component member in 2016 to form Parti Pribumi Bersatu Malaysia (PPBM; United Malaysian Indigenous Party). He began to question Najib and his administration in the latter half of 2014, over the controversies engulfing sovereign wealth fund 1Malaysia Development Bhd (1MDB).
Within five years of its incorporation in 2009, 1MDB racked up RM42 billion in debts, overpaid private sector’s assets, and bought government-held land at dirt-cheap prices. A labyrinth of money trail believed to be siphoned off from 1MDB courted the scrutiny from authorities in 10 countries. The allegedly embezzled funds were either parked in those countries, or used to purchase extravagant items – some of which were gifted to celebrities Leonardo DiCaprio and Miranda Kerr.
Separately, the Najib administration has embarked on projects to lay train tracks on one end of Peninsular Malaysia to the other. While the caretaker government points out that its debt ratio is still below the self-imposed ceiling of 55% of Malaysia’s gross domestic product (GDP), the debt related to most of the new infrastructure projects is parked under the government’s private companies. That category of debt is implicitly guaranteed by the government, so ultimately it will be responsible for the repayment if the private companies have problems with meeting their obligations.
The ECRL courted most of the attention from economists and Pakatan Harapan politicians. The construction cost of RM55 billion makes it one of the single most expensive infrastructure projects in Malaysia. The figure does not include land acquisition cost, which may be exorbitant considering that the rail project stretches 688 kilometres and covers four states.
“I mean… we can’t afford that. We have to think not only of the (feasibility of the) mega projects, but whether they are affordable or not,” Mahathir says.
Even though the caretaker government has dismissed concerns of its ability to repay all the government and implicitly guaranteed debts, the aggressive accumulation since Najib took office has resulted in the debt service charges gradually taking up a bigger chunk of the government’s expenses. In 2009, the government incurred RM14.22 billion for debt obligations and interests, or 8.96% of the year’s revenue. Fast forward to Budget 2018, the value ratcheted to RM30.88 billion, and constituted 12.88% of the projected revenue.
Tony Pua, the Democratic Action Party’s (DAP) Economic Advisor and politician, questions the caretaker government for raising tax collection, but not cutting its expenditure. “Is it much easier to say the caretaker government should just increase its tax revenue to plug the funding shortfalls?”
How Pakatan can trim the government’s finances
Pua admits to August Man Malaysia that removing the GST is a “popular move”, but he adds a caveat: “It is not an irresponsible move.”
“We can do it as long as we check rampant corruption, wastages, contract terms, and ensure transparency in tenders and auctions,” he explains.
However, no one can exactly put a figure on how much Pakatan Harapan can save on the alleged corruption and wastages – simply because they do not exactly crop up in the government’s accounts. Furthermore, with 1.6 million civil servants spread throughout hundreds of offices in Malaysia, how feasible is it to micromanage the crackdowns in every government department, and to do so in the short term?
Thus, August Man Malaysia speaks to Dr. Muhammed Abdul Khalid, the founder and Chief Economist of DM-Analytics. While he personally advocates for the reduction of the 6% GST rate and not removing the tax altogether, he says it is possible for the government to make up for the shortfall in GST revenue.
He argues that it can be done by deploying two prong strategies: reforming the tax system, and optimising the expenditure. He says the biggest source of replenishment should come from cutting the ballooning operation expenditures and re-look again at the development expenditures.
A reduction of a 15% from the operating and development expenditures translates to savings of about RM42 billion, a mere RM 3 billion short of covering the entire foregone revenue of RM45 billion from the GST, Muhammed points out. An overhaul of both the taxation system, to ensure it is progressive, and expenditure is more than enough to cover the shortfall, if the GST was abolished.
In fact, the revenue could be higher, by restructuring those big debts. “The government pays RM30 billion in debt service charges every year. A few of its borrowings come with lumpy repayments, especially those for infrastructure spending. If these debts are restructured, we can save sizable amount of money,” he says.
What can go wrong if Pakatan can’t manage investor expectations?
At stake is investors and credit rating agencies’ confidence in the Pakatan Harapan-led government’s ability to generate revenue and spending within its means. Depending on the degree of pessimism, their views can become a self-fulfilling prophecy that would affect not only the government and businesses, but possibly the man on the street.
Let’s begin with what the investors are investing in first: government bonds. Just like a person seeking a mortgage, a country that wants to make loans is assessed by credit rating agencies, like Moody’s. But instead of going to the bank, a government issues bonds – which are simply IOU papers. Any institution can buy the bonds as a form of fixed-income investment, where it gets returns from the interest paid by the government, which are called coupon rates for conventional bonds and profit rates for sukuk.
The coupon rate hinges on the ratings given by these agencies; with ratings advocated as investible, the government can set rates lower than bonds of lower grades. The low-grade bonds usually have high coupon rates because the issuer wants to lure investors to buy the bonds, so as to make up for the perceived risk of the country’s ability to pay back the loan.
In the worst-case scenario, a mere sovereign rating downgrade can create a chain of events that affect everyday life.
For one, currency investors may be turned off by a country’s economic prospects and sell the currency in droves, which erodes the value in tandem with lower demand. Banks’ interest rates also may have to be raised should there be inflation, hence intensifying the economic malaise. A weaker economy then can affect the government’s revenue collection, and subject the whole country into a vicious cycle. In Malaysia’s case, 79.87% of the government’s revenue comes from taxes.
Malaysia’s sovereign rating has not been downgraded since the late-1990s Asian Financial Crisis, thus a sudden demerit could shock the market.
Moody’s has been rather understanding with the possibility of a change in government, and is taking a wait-and-see approach on how the next government will handle its finances. However, with their money on the line, investors may act first even before credit rating agencies give their say. The investors’ pessimism would create short-term volatility in the stock and currency markets.
As for cancelling projects, this would definitely draw the ire of investors. The ECRL, especially, is a project that is of special interest of the Chinese government, which is looking to form a network of transport for its One Belt, One Road initiative.
Pua acknowledges that Pakatan Harapan has its work cut out if it wins GE14. Not only to restructure the government’s finances, but to also communicate to investors on its budget rationalisation plans. But he is confident that the coalition’s targets can be achieved. “That’s what happened in Penang and Selangor, no?” he says.
 Between April 2009 and September 2017, the government’s debt recognised under its balance sheet more than doubled from RM317.15 billion to RM687.43 billion. The contingency liabilities, or borrowings implicitly guaranteed by the government, went up by 262.97% from RM62.51 billion to RM226.89 billion.
 In an October 2017 interview with BFM, Parti Keadilan Rakyat (PKR) member Wong Chen said Pakatan Harapan estimated the leakages in the government’s budget to be around RM20 billion to RM30 billion. According to him, this figure is derived from the coalition’s calculations of wastages found in the Auditor-General Report.
 The 2018 Budget estimates the operating expenditure to come to RM234.25 billion.
 This section is for the benefit of a certain segment of Malaysians, because according to a Bloomberg article, quoting a political science professor, “The only bond that most Malaysians know is James Bond.”