MALAYSIANS may be spared a double whammy of subsidy rationalisation and the Goods and Services Tax (GST) next year as crude oil prices continue to slide. The Organization of Petroleum Exporting Countries’ (Opec) decision last Thursday to maintain the crude oil production ceiling at 30 million barrels a day shook oil prices further as Brent crude slid to a new low of US$72.58 per barrel since the third quarter of 2010.

It was reported that Brent crude could start to test the US$70-a-barrel level soon, implying that oil prices would stay low for a while.

Opec will meet again in June.

This interesting twist of events could be said to have come at an opportune time for the government, which recently announced a managed float mechanism for RON95 petrol and diesel starting Dec 1 — a move that won the approval of economists.

Given the mechanism, which many believe to be akin to the RON97 system come Dec 1, economists opine that oil prices at current levels could result in a moderation in inflation in the year ahead. This is possible because fuel has the highest weightage in the Consumer Price Index (CPI) basket, according to Affin Hwang Investment.

“RON95 petrol and diesel contribute a weight of about 7.75% to the CPI basket, where cost of transport is the second largest single component at 14.9%,” it says.

According to Suhaimi Illias, chief economist at Maybank Investment Bank Research, if crude oil prices remain at current levels in 2015, the upside to inflation from the introduction of GST could be contained.

The implementation of GST is expected to cause a one-off inflation hike to about 4% in 2015, economists estimate. Meanwhile, inflation for the first 10 months of this year stands at 3.2%.

However, the managed float mechanism would introduce more volatility to the transport component of the CPI, hence indirectly impacting inflation calculations, as fluctuations in crude oil prices will affect fuel prices.

“With all fuel prices to be reset monthly under the managed float, the transport component of CPI will be more volatile than before,” says Maybank IB Research in a report.

Economists, though taken by surprise, applaud the government’s move to put RON95 and diesel on a managed float mechanism, saying that it would help the country achieve its fiscal deficit target of 3% of gross domestic product for 2015 through the savings it makes on petrol subsidies.

Budget 2015 allocated a total of RM37.69 million for subsidies. While there is no breakdown of how the subsidies will be spent, Affin Hwang Investment chief economist Alan Tan estimates that the government could save between RM10 billion and RM15 billion in subsidies under a managed float mechanism at current crude oil prices.

“We estimate that the fiscal deficit will improve to between 2.6% and 2.8% of GDP for 2015, from the current projection of 3% of GDP based on oil price averaging around US$85 to US$90 per barrel,” says Affin Hwang Investment in a report.

It should be highlighted that Malaysia derives about 30% of its revenue from oil-related sources. This means that with Brent crude at US$72.58 per barrel, the government’s coffers would see a reduction from June when Brent crude was at US$115 per barrel.

However, oil prices would have to fall to US$65 a barrel before becoming a concern for federal revenue, CIMB Research economist Julia Goh was reported as saying.

Meanwhile, Maybank IB Research’s Suhaimi believes crude oil prices above US$70 per barrel would be deemed a comfortable level.

The last time Brent crude fell below US$70 per barrel was in October 2008. At the time, it was trading at US$69.60 a barrel. It fell to US$38.37 a barrel in late December that year. After that, it took about six months until June 2009 for it to recover to US$68.34 a barrel.

Economists believe that under duress, the government would rather slash development spending than other subsidies.

“There will be a lot of savings from cutting fuel subsidies. I don’t think the government will slash more subsidies for now if it needs to meet the deficit budget. The rakyat will not be able to take it, plus GST will be coming into the picture soon,” Suhaimi tells The Edge.

“What the government could consider reducing is development spending, which saw a 15% increase in Budget 2015. It can focus on the key projects first, if need be. On the operating expenditure side, it can also trim those that are not a priority. The government could also enhance its revenue collection by beefing up efforts to collect taxes that are in arrears.

“It is not just about subsidies. It has to be beyond subsidies,” he adds.

On the other hand, should crude oil prices stage a recovery above US$80 per barrel, the government has said that it could implement a multi-tiered fuel subsidy scheme to ease the rise in petrol prices.

At this juncture, the hows of such a scheme are merely speculation by the public with no clear direction from the government on its implementation method.

This article first appeared in The Edge Malaysia Weekly, on December 1 - 7, 2014.

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