This article first appeared in The Edge Financial Daily on May 18, 2018

KUALA LUMPUR: Malaysia should not be concerned about any potential downgrade in credit rating due to the implementation of the zero-rated goods and services tax (GST), as the increase in oil revenue for 2018 and cut in government expenditure are expected to offset the GST revenue loss, according to Prime Minister Tun Dr Mahathir.

“You shouldn’t be worried, because we have reduced government expenditure, at the same time, we will earn more from petroleum because Budget 2018 was made when the petroleum price was at US$52, now it is US$70 (RM229.90) [and above], and so we stand to gain some more profits from petroleum,” he told reporters after chairing the Pakatan Harapan presidential council meeting yesterday.

Dr Mahathir said the offsetting revenue mechanism had been taken into account when the government decided to lower the GST rate from 6% to a zero-rated tax, effective June 1.

He also said the fluctuations in oil prices, which would impact government revenue, had also been factored in when deciding to reintroduce the subsidies for petroleum.

“Of course, what we have decided is that there will be no more changes or fluctuations in the value of petroleum, which has been changed every week.

“This is destructive to business, both [to] the buyers and sellers. So now the price will remain static, but if we have to subsidise, then we will subsidise,” he added.

International rating agencies, namely S&P Global Ratings, Moody’s Investors Service and Fitch Ratings, said the zero-rated GST would constraint government income should there be no revenue-raising measures.

AmBank Research chief economist Dr Anthony Dass said Pakatan’s manifesto to switch from GST to the sales and services tax (SST) and introduce electricity and fuel subsidies could see the deficit ballooning to RM51 billion, which translates into a fiscal deficit of -3.5% of the gross domestic product (GDP).

However, with the focus on transparency, financial prudence, reduction in wastages, efforts to curb corruption and better public services, as evident in the Penang and Selangor state governments under Pakatan, Dass said a 5% reduction in operating expenditure could be expected.

“If we assume the new administration is able to save 5% of its operating expenditure, which is estimated at RM239 billion to RM242 billion, after incorporating the subsidies and assuming there are no additional taxes, the revenue will be around RM233 billion to RM235 billion, the deficit will be around RM39 billion to RM40 billion for 2018,” he wrote in a report yesterday.

“With no change to our GDP growth of 5.5% for 2018, the budget deficit is expected to be between -2.7% and -2.8%,” Dass added.

However, CIMB Research economist Michelle Chia opined that the projections to eliminate operating expenditure of up to RM15.8 billion appear a bit too stretched to her.

“Aiming for low-hanging fruits like trimming the fat from bloated ministries and agencies, such as the Prime Minister’s Department, and eliminating duplication of functions among ministries and agencies could reasonably slash RM5 billion to RM6 billion in operating expenditure,” she wrote in a report yesterday.

Both CIMB Research and Maybank IB Research estimated a revenue shortfall of RM25.6 billion from the GST potential collection. This is equivalent to 1.8% of GDP deterioration in budget deficit, according to Maybank IB Research.

Maybank IB Research said the mitigating factor here is the upside to Budget 2018’s oil-related revenue forecast of RM37.7 billion amid the rising crude oil price.

“Our sensitivity analysis is that every US$10 bbl (barrels) rise in annual average crude oil price will boost oil-related revenue by RM7 billion to RM 8 billion,” it wrote in a note yesterday.

But with the reintroduction of the fuel subsidy, CIMB’s Chia estimated the directive to freeze retail fuel prices indefinitely will cost the government about RM2 billion to RM3 billion in 2018.

According to AmBank’s Dass, the reintroduction of the electricity and fuel subsidies is expected to add RM2 billion and RM4.6 billion respectively to the RM26.5 billion overall subsidy budgeted for 2018.

Besides rising oil prices, further mitigation of the GST revenue loss should come with the eventual reintroduction of the SST which previously earned the government RM17.2 billion on a full-year basis, according to Maybank IB Research.

However, Chia argued that the implementation of the SST needs parliamentary approval which may take up to September, limiting revenue contribution to an estimated RM7.6 billion.

Maybank IB Research is of the view that the biggest beneficiary of the zero-rated GST will be the consumer-related sector.

Affin Hwang Capital chief economist Alan Tan said the zero-rated GST will unlikely have an adverse effect on international rating agencies to caution Malaysia’s sovereign rating outlook in the near term. This, he said, is because Malaysia’s economic fundamentals remain sound, as reflected in the steady economic outlook, and sustainable current account surpluses, as well as steady increase in foreign exchange reserves.

“With a 0% GST and a reinvigorated middle-income segment, we believe the propensity to spend on big-ticket items, particularly on passenger vehicles, will likely give a boost to consumer spending,” Tan added.

Dr Mahathir also said he had been made aware of the many flaws in the figures on the country’s financial position.

“I may need some time to study all the matters that are being briefed to me. With regard to financial position figures, I was made aware that many of these figures are fake. Hence, we have to determine how far it [the previous government] went beyond what was permitted,” he said.

Dr Mahathir was responding to a question on whether the new government would have a new set of forecast on the country’s economic growth this year.

Earlier yesterday, Bank Negara Malaysia announced that the economy grew by 5.4% year-on- year in the first quarter of 2018 (1Q18), slowing from 5.9% in 4Q17.

Meanwhile, the finance ministry in a statement yesterday said the nation’s fiscal reform initiative is already underway and the shortfall from the GST will be cushioned by specific revenue and expenditure measures that will be announced in due course.

It said the SST will be reintroduced while expenditure reduction will begin with rationalisation, efficiency measures and reduction in wastages.

“Of significance, oil prices have been higher than the US$52 per barrel estimated for Budget 2018. This provides fiscal buffers for the immediate future. Fiscal responsibility, transparency and governance will be a paramount consideration in rolling out the fiscal reform,” it added.