This article first appeared in Forum, The Edge Malaysia Weekly on September 30, 2019 - October 6, 2019

A recent Bank Negara Malaysia statement indicated that the country’s household debt-to-GDP ratio was an alarming 82.2% in the first half of the year. And whenever the household debt number is discussed, it is always followed by another — that of aggregate household financial assets — which was 2.2 times total household debt.

These two numbers, the high aggregate household debt and the even higher aggregate household financial assets, are the starkest reminders of inequality in Malaysia. The same Bank Negara statement said that while risks to financial stability are contained, lower-income borrowers are more leveraged and remain susceptible to financial distress. Of course they are.

Borrowers in the lower-income group are highly leveraged because they are tempted by various schemes to accept consumption credit and buy property. People in the higher-income group borrow as well — and much more — but the fact that their financial assets are more than twice their debts suggests that they are not highly geared.

This group is able to not only enter the real estate market and benefit from capital appreciation but also hold financial assets that can appreciate and yield returns. They are much less leveraged and have the cash flow to sustain their borrowings.

The highly skewed ownership of unit trust schemes, such as Permodalan Nasional Bhd’s Amanah Saham Bumiputera (ASB), where less than 10% of the unitholders own 80% of the fund, and the fact that most retirees do not reach the targeted minimum savings set by the Employees Provident Fund (EPF) testify to the inequality we have in this country. Many schemes to broaden wealth sharing, such as ASB, and retirement plans such as EPF, do not benefit the sizeable lower-income group, given the country’s relatively low median household income.

The reason for this disparity is that income is generally low in the absolute sense and that the income of the lower half of the population is relatively low compared with that of those in the opposite end of the distribution. Without sufficient income, neither surplus nor entry into the asset markets is possible. The income difference is great and people in the lower-income group live precariously, especially if they are also in debt.

The overall level of income is the consequence of two things. First, the ownership of the factors of production. How much land and capital one owns determines one’s income. Notwithstanding the distribution of the ownership of these factors of production, the second determinant of income is how these factors are employed. The level of income earned from these factors is determined by how they are employed, which is basic economics.

With these in mind, we can attempt to answer two key questions: why is income generally low, and why, despite that, is income disparity wide?

To answer the first question, we must look at what we have been doing to generate growth and income as an economy. Evidently, what we have been doing to generate growth has not generated sufficiently high income and the distribution of the income is skewed towards a few.

Plantations, still a dominant sector of the economy, are an example of an economic activity that does not yield high income overall and distributes the income mainly to owners of capital and land who are far less numerous than labour. We kept increasing the acreage of plantations to increase output but did not change the economics. Productivity and, therefore, wages stagnated or declined as output increased purely from an increase in input. Income distribution actually worsens as the sector is expanded without higher adoption of technology and an increase in productivity.

The services sector that has grown in the last two decades is mainly domestic and the tradable services related to tourism are creating mostly low-paying jobs. The influential construction sector sees income accruing mostly to a small segment of the industry — owners of capital and land — while the overall level of income is low. The same can be said of the manufacturing sector, where a lack of automation and capital intensity in the production process means that production floor wages are low.

An exception would be the oil and gas sector, which is capital-intensive. Here, the income levels are commensurate with the levels of capital intensity. In the services sector, financial and professional services that are defined by their specialised levels of human capital are the exception where income is generally higher.

Why there is a wide income disparity is the easier question to answer. Regardless of what the production function of the economy is, owners of factors are rewarded by the quality of the latter.

To begin with, a sizeable portion of households only has labour or human capital to offer. Thus, that segment of the population that owns only labour is handicapped. The disparity in how labour is compensated is a function of its value in the production process. The abundance of low-skilled workers resulted in the depression of wages for this segment while the shortage of highly skilled workers resulted in slightly inflated wages, aggravating the inequality.

Income and wealth inequalities are well-known features of the economy. One of the pillars of the New Economic Model launched in 2009 was inclusivity and the recently announced Shared Prosperity Economy put the issue squarely in the centre — juxtaposing the growth agenda with inclusivity. Neither this diagnosis nor the ambition for inclusivity is novel; we know the problem and the end state that we aspire to but the problem persists.

One of the reasons for this is the posture we adopt when we claim to address the problem. We come up with these plans during crises: during the 1997/98 Asian financial crisis, the 2008/09 global financial crisis and now, in the midst of a change in government and an external economy that has lost both the certainty and stability of its dynamics. The departure points of these plans during crises are not about reforms but about growth or the lack of it. These junctures in time reveal the issues of inequality whose root causes are structural in nature but we aim to address, in the main, the growth trajectory of the economy.

As a result, we tend to focus on getting growth instead of focusing on the underlying nature of that growth.

While land and capital remain important factors of production and their endowments are starting points of inequality, the great leveller in modern economics is that labour or human capital, in particular, is the key factor of production. In that sense, income levels depend primarily on human capital levels. There will be friction in the labour market and some spatial adjustments but an economy that possesses a high level of human capital will not only have the resilience to absorb the shocks but also have a production structure that obtains equally high income and distributes it more evenly.

It should come as no surprise that an economy that is able to consistently produce high levels of human capital will not just grow but grow sustainably. The societal values and institutional factors that produce high-quality human capital are absent in many economies. To have good effective schools and training institutes as well as research excellence are obvious solutions but getting those outcomes will not be easy. Many things need to be right.

If we take a non-crisis perspective and recognise that low income and inequality, not growth rates, are the problems to be solved, we would focus on getting our human capital institutions right. It is both an end in itself and a means to competitiveness and obtaining higher levels of income.

The fact is that our school system and tertiary institutions are in need of serious reforms but we waver or are distracted to undertake reforms that will fundamentally change these institutions. Mediocrity breeds resistance to change and we can see it manifesting itself in fear-mongering. These fears extend beyond the educational spheres and into society at large, making change even more challenging. In the meantime, those with the means opt out of the national system to develop their human capital, thus resulting in further inequality.

It seems an obvious argument to link the quality of education to low income and inequality as it is education that determines the level of human capital. With the right levels of human capital, an economy will figure out what it can do with the resources it has at its disposal and the opportunities it faces. It is able to learn from and compete with others and it administers and manages itself well.

Dr Nungsari A Radhi is an economist and the views expressed here are not related to any of his organisational affiliations

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