A REPORT BY OCBC BANK ON MALAYSIA'S REVISED DEFICIT TARGET:
As we listened to PM Najib’s address earlier, a quote by John M. Keynes unwittingly surfaced:
“When the facts change, I change my mind. What do you do, Sir?”
Since the PM, who is also Malaysia’s Finance Minister, tabled the 2015 Budget in October last year, a lot has changed especially on the global front. None more so than the price of crude oil. The original assumption of US$100 per barrel for Brent was not a stretch when it was trading at around US$90 at that time, but looks positively pie-in-the-sky given where prices have been bouncing around lately. Fortunately, however, rather than sticking to the increasingly unrealistic assumption, the budget has been revised today based on a more grounded US$55 per barrel.
As a result of that oil price revision, oil-related revenue is slated to drop by RM13.8 billion compared to the original version of the budget. Compared to the RM67 billion or so that the government received in 2014, which was equivalent to about 30% of total revenue, there will also be a drop in the share of contribution of oil-related revenue to just around 23% this year.
Given the magnitude of the drop, Malaysia’s fiscal deficit would have ballooned to 3.9% of GDP this year, compared to 2014’s 3.5% and the 3.0% originally targeted for 2015 – if there are no countervailing measures, as the PM himself pointed out this morning. That would have been a prospect that would enliven concerns about potential credit rating downgrade.
Thankfully, riding into the rescue is the government’s pre-emptive fiscal subsidy cutback on Nov 21 last year, with a savings of RM10.7 billion in expenditure which was not reflected yet in the original 2015 budget, but will now feature in the revised version. As much as oil price’s drop has been giving the government a big headache with regard to revenue shortfall, it has nevertheless offered an opportune moment for the government to rid itself of the subsidy burden once and for all – and indeed provided it with a chunky savings to help buffer lower oil-related receipts. Life is fair that way.
Additionally, the revised budget has also slashed the operating expenditure by RM5.5 billion. At RM223.4 billion previously, this portion is the biggest part of government expenditure before and is a natural choice for cutbacks. In terms of breakdown, a significant cut is taking place on the so-called “Supplies and Services” portion. The PM in particular noted that as much as RM1.6 billion can be saved if the government can “optimise…overseas travel, events and functions and use of professional services.” Meanwhile, RM3.2 billion is due to be saved from a review of transfers and grants to state boards and government trust funds.
Overall, such actions are slated to help cushion the drop in oil revenue. Indeed, in aggregate, the combined effect of savings from November’s fuel subsidy removal and upcoming cutbacks on government’s unnecessary expenditure will keep the budget deficit to 3.2% of GDP. To be sure, this is not as ideal as the 3.0% originally pencilled in, but would nonetheless represent a reduction from 3.5% of 2014. The relatively small net increase in deficit would also go a long way in countering concerns about potential uptick in government bond issuances that is needed to cover the shortfall.
Apart from highlighting the ways in which the government is planning to counter the hit of oil price’s drop on fiscal balance, the Prime Minister also spent considerable time speaking on issues pertaining to the broader economy. For one, he has slashed the government’s forecast of growth for 2015 from 5-6% previously to now 4.5-5.5%.
Outside of that, he spoke about the need for Malaysia to maintain its current account surplus status with a few measures. These range from efforts to boost exports of goods (via promotion of “Buy Malaysia” products overseas) and services (by waiving visa fees for China’s tourists), to measures to limit imports. At a time when market players may get increasingly antsy about the risk of potential capital outflows ahead of Fed funds rate hike, this is not a big surprise. Nonetheless, his emphasis may well be an attempt to pre-empt market concerns about the possibility that Malaysia might be experiencing double deficit on both fiscal and current account fronts.
Overall, the country’s exports will ultimately be helped by a weaker Ringgit, especially since manufactured goods make up the vast majority of shipment. Still, we are revising growth forecast for this year from 5.1% to 4.8% to reflect the effects of fiscal consolidation efforts as well as cutback in business investment activities, including those within the oil & gas sector.
In the near term, lingering uncertainties about oil price and the impact on Malaysia’s growth may continue to weigh on sentiment. However, today’s announcement of a more realistic budget outlook should offer some help eventually.