Malaysia: New government but same issue – Lower revenue but sticky spending; the good news is funding cost will stay low

The new Malaysian government may differ from the previous one on the management of IMDB and infrastructure projects with China, but it confronts a similar challenge – how to boost economic growth without punching a large hole in the fiscal deficit as revenue sources weaken. And the latest growth figures, whether GDP or the PMI, show that the economy needs help, even as consumption rises thanks to the removal of GST and the addition of fuel subsidies. In other words, weak revenue generation means that its room to raise fiscal spending is limited should it choose to have a more sustainable fiscal deficit. Slower economic growth, driven by both oil prices as well as weak investment, means Malaysia’s fiscal revenue is expected to fall from 21% of GDP in 2013 to 16.8% in 2018. And it is not just petroleum tax income that is worse – non-tax oil revenue in the form of dividend also declined as earnings from oil declines. The GST was introduced by Prime Minister Najib to offset some of this decline but even that was not enough to reverse the decline. As such , GST did not fully offset weaker oil revenue and its removal will make it worse. Given the scrapping of the GST and the decline of petroleum tax revenue, the key offsetting factor for government income in 2019 is increased oil dividend, as per the assumption of the budget proposed. Therefore , Malaysia does not have much fiscal wiggle room as the budget deficit is expected to widen to 3.6% of GDP in 2019 even as expenditure stays flat as a share of GDP. The good news is that Malaysian has very weak inflationary pressures, and that means the central bank can keep interest rates low to help with funding costs. For example, government debt burden of Malaysia has not increased materially even as the deficit rises. Indeed, our ASEAN Corporate Monitor shows that Malaysian corporates have good debt r epayment ability. Moreover, Natixis Monetary Condition Index (NXMCI) shows that Malaysia has both room on the real interest rate as well as currency side to support the economy as other currencies have weakened much more. In short, the narrow scope for fiscal support and already positive real rates suggest that any easing will have to come from the monetary side, which means Malaysia’s monetary policy will continue to diverge from the Fed.