Written by Ashley Boncimino

To some, it just does not add up; relatively untouched by the recession, flush with oil money and third-largest recipient of foreign direct investment in 2012 in the region, Malaysia’s government should not have one of the highest debt-to-GDP ratings in Southeast Asia. Yet the region’s third largest economy reported holding MYR 519.3 billion in sovereign debt last October, equal to 53% annual GDP. While less dire than advanced economies, Malaysia’s fiscal situation has already caused a credit downgrade by Fitch Ratings, which demoted the country’s economic outlook from stable to negative last July.

“Malaysia’s public finances are its key rating weakness,” according to the company, pointing to the country’s “worsened” prospects for budgetary reform and fiscal consolidation along with its widening budget deficit. However, Fitch, for one, does not think it will get better any time soon. “The latest budget contains three key announcements which are potentially constructive or Malaysia’s sovereign credit profile,” the ratings agency noted. “But a track record of budget management remains key to limiting further credit pressure on the sovereign rating.”  Malaysia’s problem is simple in explanation but complicated in practice: The country spends more than it earns and dramatically overshoots its budget estimates despite also underestimating its annual revenue. This practice has pushed debt to 53.3% of GDP at the end of 2012, up from 51.6% at the end of 2011 from 39.8% at the end of 2008. The government has gone over-budget by anywhere from MYR 164 million to nearly MYR 19 billion in the last four years compared with its estimates, while overshooting its revenue target by between MYR 11 billion to over MYR 20 billion for four of the last five years. In other words, the country has not only overspent, but has done so drastically. In its 2014 budget announcement in October, Malaysia said it would address its fiscal situation in three ways: reducing its deficit, reducing subsidy expenditures, and implementing a 6% goods and services tax, effective April 1, 2015. None of these measures is new.

Cutting subsidies is nothing new, as the country committed to saving MYR 103 billion back in 2010 by reducing subsidies for fuel (petrol, diesel, liquefied petroleum gas), gas, electricity, toll roads and food (sugar, flour, cooking oil). Malaysia currently spends about a fifth of its budget on subsidies, MYR 24.8 billion of which are allocated specifically for fuel. Already, the country has withstood subsidy cuts for sugar and petrol by 34 Sen per kg and 20 Sen per litre, respectively. However, subsidy cuts are never popular, particularly with other cost-of-living components like housing costs are on the rise. The cuts have already caused headaches for the government in the form of New Year’s Eve protests and public gripes via social media. Subsidy cuts also disproportionately affect low-income groups, and Malaysia’s proposed one-time cash assistance programs will only partially offset the cost and tax increases for these households. The elephant in the room, of course, is its refusal to slow its own growth, which has been strangling its efforts towards responsibility for the past several years. While the government touts subsidy cuts, responsible budgeting and taxes to boost revenues, the government itself cannot reign in spending on itself. The budget for the Prime Minister’s Office (PMO) has doubled from 2008, rising to MYR 14.6 billion in 2013 from a mere MYR 7.1 billion in 2008. Projected federal expenditures have only increased by around 50% in that same period, to MYR 168.8 billion in 2013 from MYR 248.6 billion in 2013. Cutting its own spending, however, would result not only in a loss of political power and enforcement capability, but would reduce the government’s ability to procure investment and invigorate other economic ventures.

Nevertheless, even if the government stood by its 2014 budget, one more insidious element lurks on the horizon with the power: the country’s faltering GDP growth. Nominally, GDP growth has been on the decline since the end of 2012, only beginning to recover in the second half of 2013. Thus, the government would have to reduce its debt by more than the target in order to keep its debt-to- GDP ratio under the self-imposed 55% limit. While the country’s fiscal future is certainly left unwritten, the country’s own economic policy think-tank predicts a “challenging” year for Malaysians due to high inflation and rising living costs. While not in itself dangerous, Malaysia’s sovereign debt could very well poison it and its own economic future in years to come. The only thing left is to wait and see.

By Ray