This article first appeared in Forum, The Edge Malaysia Weekly on July 6, 2020 - July 12, 2020

My medical consultant was recently concerned that my “bad” cholesterol (LDL) was slightly above the optimal level, considering my age. But he changed his mind after looking at the level of my “good” cholesterol (HDL).

“HDL is like a detergent. It washes your bad cholesterol away. So, even if your bad cholesterol is a bit more than usual, it is alright. Looking at one number alone (LDL) does not tell you the whole story,” he explained in layman terms.

That is true enough. Looking at one number alone is insufficient to see whether things are going in the right or wrong direction. This is the same from an economics point of view, when one looks at budget deficit and debt statistics.

Like many other countries, Malaysia’s fiscal deficit and government debt are surging with the Covid-19 pandemic having wreaked havoc on the global economy since the end of the first quarter of the year. In trying to keep economies afloat, many governments have increased spending and driven their fiscal deficits up dramatically. Malaysia is not alone. Even a country like Singapore, well known for churning out consistent fiscal surpluses in most years in the past few decades, is now seeing its budget deficit soar to 15.4% of gross domestic product — its highest since the nation’s independence, according to the government’s estimate.

The negative budget gap raises alarm among some quarters, and deficit hawks are quick to point out that it will become a burden to the economy, especially when it starts to push up government debt. They scored some points when arguing on this issue. However, many points are missing — just like my medical consultant pointed out, “one number alone” does not tell the whole story.

First and foremost, the fiscal deficit itself is not the real “monster” that we have to fear. Granted, the negative numbers look scary, especially when this happens year after year. However, the real issue is not the deficit itself but how it is being financed. This makes all the difference. History tells us that investors fear seeing negative fiscal statistics as some countries (for example, those in Latin America) had financed deficits via money printing. That pushed up prices and caused hyperinflation. Eventually, it led to capital flight and the collapse of their currencies. But if a country never monetised its deficits, this concern would be blown out of proportion.

Secondly, financing via borrowing is said to push up interest rates and, of course, standard economics textbook believers are quick to point to the “crowding out” effect of private investment. But again, this could be misleading, at least according to Nobel laureate Joseph Stiglitz. Global central banks have dramatically slashed interest rates to spur demand. Rhetoric from major central banks, for example the US Federal Reserve, also suggests that they will maintain low interest rates for a considerable period.

The “crowding out” effect can only happen when an economy is in full employment and capital is fully utilised. But during times like these, when the global economy is reeling and the domestic economy is struggling to stay afloat, such an effect should not result. In fact, it is possible to even argue about the “crowding in” effect of private investment, Stiglitz said.

The next question is what kind of spending the government will undertake. The common approach so far has been to spend on high multiplier-

effect activities (to do this, economists would normally study the input-output table produced by the Department of Statistics). And, of course, to ensure that public money is not wasted, the critical thing for the government to do is to control leakages.

As for Malaysia, the more important point to consider when discussing its budget deficit is the country’s plan to diversify its revenue base in the medium to long term. This is easier said than done. In some countries, like Russia, a “stabilisation fund” created by the government is utilised to smooth out the country’s fiscal performance when the budget gap widens.

In other countries, a consumption tax, which is often defended as a good source of income, is used to lessen the government’s fiscal burden. Whatever it is, the medium-term plan to sustain a certain level of budget deficit is key to the government’s future economic planning. It is not surprising then that there are rumours of the Goods and Services Tax (GST) being re-introduced sometime in the future.

The positive thing about Malaysia’s fiscal deficit is that it is financed mainly by domestic resources. Out of the total federal government debt of RM824 billion at the end of the first quarter of the year, the foreign currency portion accounted for only 3%. This makes a significant difference from investors’ point of view as it limits foreign exchange risks for the government.

While total debt is rising, the focus should be on the country’s debt-servicing capacity, which, again, relates to the amount of revenue the country generates every year. Malaysia’s debt-

service charges are expected to exceed 14% of revenue this year, inching closer to the upper limit of 15% specified under the administrative fiscal rules.

But as we can see, revenue — which, of course, relates to Malaysia’s economic growth — is a critical parameter when assessing future debt-servicing capacity. This is where fiscal spending, though criticised at times for being the cause of Malaysia’s budget deficit, is necessary to ensure productive capacity can be sustained. This creates a stable future economic growth trajectory, which ensures a healthy revenue stream for the government.

There is that common argument about higher government debt sparking fears among the population, inducing them to save more to pay for future debt rather than spend to stimulate the economy (economists normally use the jargon Ricardian equivalence for this). But historical experience in the US seems to contradict this, especially during the George W Bush administration (at least according to Stiglitz). In fact, debt created through extra government spending increased future growth capacity and stimulated the economy, which then induced consumers to spend rather than save.

Having said this, higher deficits and debt are to be expected in times like these. The only question is, will there be consistent efforts to bring them back down to more sustainable levels once the pandemic subsides, or will the debt level be permanently raised again this time? Only time will tell.

Nor Zahidi Alias is chief economist at Malaysian Rating Corp Bhd. The views expressed here are his own.

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