This article first appeared in The Edge Malaysia Weekly on August 31, 2020 - September 6, 2020

MALAYSIA, which celebrates its 63rd year of independence on Monday, went through the Japanese Occupation during World War II (1941 to 1945) but has never had to finance an expensive war like it needs to today — the “war” to prevent permanent economic damage brought on by the Covid-19 pandemic. The expected rise in public debt and fiscal deficits around the globe attest to just how expensive it is to protect lives and livelihoods, including ensuring that businesses continue to be viable and able to pay salaries.

Even the 1997/98 Asian financial crisis pales in comparison to the mounting challenge today, which has already warranted stimulus packages totalling RM295 billion, or 20% of GDP, under what it calls the short-term National Economic Recovery Plan (Penjana) and the Prihatin Rakyat Economic Stimulus Package (Prihatin). Of this, RM45 billion, or about 3% of GDP, requires direct fiscal spending, and Parliament approved a law allowing a temporary raising of its self-imposed debt-to-GDP ceiling from 55% to 60% until end-2022.

The federal government is also temporarily giving itself the ability to foot the operating expenditure bill via borrowings, givin it more fiscal flexibility in the face of possible revenue shortfalls as it gives people more time to pay taxes and provides investment incentives. Previously, the government could only borrow to fund development expenditure but not operating expenditure.

While the state’s key role in the war is to prevent permanent economic damage as a result of Covid-19 — it can arguably trump all other near-term obligations — any right or wrong decision on the country’s finances and debt today will affect its future capacity to aid the people and businesses. With that in mind, we take a look at the government’s RM500 million Sukuk Prihatin launched on Aug 18 under Penjana, where the proceeds will be channelled to Kumpulan Wang Covid-19 to finance measures announced in the economic stimulus packages and recovery plan in response to the Covid-19 crisis.

“Examples of the initiatives or programmes announced in the economic stimulus packages and recovery post-Covid-19 include but are not limited to medical expenditure related to Covid-19, financing grants for micro-enterprises and enhancing connectivity to rural schools, which will also act as hubs to connect to nearby villages,” reads the “statement of purpose” in the knowledge pack for Sukuk Prihatin, which is to be issued on Sept 22 and will mature on the same date in 2022. Subscription closes on Sept 17.

The two-year paper with an annual 2% fixed yield (payable quarterly starting from Dec 22) was above the 1.84% yield for the 3-year Malaysian Government Securities (3.48% coupon) on Aug 27, according to data on Bank Negara Malaysia’s website. The yield was also above the 1.85% a year offered by Malayan Banking Bhd for fixed deposit tenures of 12 to 35 months since July 9, according to its website at the time of writing. Maybank is the primary distribution bank for the sukuk.

Bank Simpanan Nasional’s BSN Deposit-i, which requires a minimum deposit of only RM500, has been offering a profit rate of 2.2% a year for deposits of 12 months and 2.1% for deposits of 15 to 60 months since July 15, its website shows. For senior citizens, BSN offers a slightly higher rate of 2.15% for deposits of between 15 and 60 months and 2.1% for 12 months.

RM500 is the minimum investment amount for Sukuk Prihatin, which does not have a maximum amount and can be purchased by Malaysian individuals and companies.

It remains to be seen whether Bank Negara’s monetary policy committee (MPC) will choose to pause or continue the trimming of the key overnight policy rate (OPR) at its Sept 10 meeting. At all four MPC meetings this year, from Jan 22 to July 7, the OPR was trimmed a total of 125 basis points to a record low of 1.75%.

At least 12 economists expect another 25bps cut to the OPR, to 1.5% by the third quarter of this year, compared with seven who reckon that interest rates will remain at 1.75% until year-end, according to Bloomberg data as at Aug 19. Only one economist polled, Capital Economics Ltd, expected to see the OPR fall to 1% by 2Q2021 versus two that believe rates could revert to 2% by 2Q2021, the data shows.

Touted as a risk-free government-backed investment with tax exemption on profit, Sukuk Prihatin is the first fully digital sukuk that can be subscribed via the JomPAY or DuitNow e-payment platform.

Investors can choose to waive the principal — basically donate to the government the sum paid to buy the sukuk— in return for a tax exemption on the size of the waiver or donation in the assessment year that the sukuk is redeemed at maturity on Sept 22, 2022. The tax benefit can be claimed using their last sukuk e-statement. The waived or donated amount “will be used for any Covid-19 pandemic-related expenditure approved by the government”.

As the sukuk is non-tradeable and non-transferable, it is “suitable for investors who wish to diversify their investment portfolio and are comfortable taking short-term risk with a minimum return on investment”, according to the information pack. Investors will be reminded in their 21st monthly e-statement that they have 45 days to make a final decision on whether to waive the principal amount in full or in part.

Lee Heng Guie, executive director of the Socio-Economic Research Centre (SERC), highlights the difference between Sukuk Prihatin and fixed deposits (FDs) with banks. He says: “It is a form of bond-saving instrument, backed by a 100% government guarantee. Investors must understand that, when buying Sukuk Prihatin, they can withdraw their funds only after the two-year tenure ends, while the interest amount (2% a year) is paid quarterly. This is different from FD placed with financial institutions, where investors can withdraw the principal at any time should the need for liquidity arise, but no interest rate shall be paid on any immediate premature FD that has not completed its full tenure period.” He also notes that the OPR can still go lower if the central bank’s MPC needs further monetary easing to lift the green shoots of recovery.

When launching the sukuk in Putrajaya on Aug 18, Prime Minister Tan Sri Muhyiddin Yassin said the government had received “many offers from honest and sincere people who want to support efforts to revive the country’s economy” and described the debt paper as a form of “bottom-up assistance” launched “on the back of overwhelming support from the public and corporates to show solidarity to fellow Malaysians affected by the Covid-19 pandemic and movement restrictions”.

Even without the donation element, a 2% fixed yield helps keep the government’s borrowing cost down — a factor that watchers of the government’s fiscal data monitor because of the 15%-to-revenue ceiling for debt servicing charges. The average finance cost for the country’s direct debt of RM823.8 billion (as at end-June) is not immediately known, but it was estimated at about 4% when Budget 2020 was announced last October — however, that was before the 125bps cut to the OPR so far this year. The yield for the 10-year MGS (coupon 3.885%) was 2.55% as at Aug 27, according to central bank data.

Although the government said it intended to issue up to RM500 million worth of Sukuk Prihatin, expectations are that more similar papers could be issued if there is overwhelming response and demand for the maiden tranche themed “Forwarding the Nation’s Future Together”.

The nationalistic and patriotic elements touted by Sukuk Prihatin to rally Malaysians to participate in the rebuilding of the economy and the nation in the wake of the Covid-19 crisis are not dissimilar to the way the US government counted on the patriotism of American citizens when it sold low-yielding “war bonds” to help fund the outsized military bill from World War II. At the time, the US government reportedly told its citizens how their purchase of, say, US$100,000 of war paper helped buy a specific number of fighter jets or bomber-tankers for the US Army.

The proceeds from Sukuk Prihatin (and possible similar issuances in future) in Malaysia’s “war” against Covid-19 could well be for a specific number of personal protection equipment for the medical frontliners or computers to enable e-learning for a specific number of school children living in low-income public flats.

“We think the government can consider making regular issuance of MGS/GII to individuals through retail-dedicated savings bonds, similar to Indonesia and Singapore. This can serve two purposes: provide retail investors with an alternative medium/long-term savings option; and allow the government to tap an additional pool of domestic liquidity. Longer-tenor savings bonds are feasible if individual investors are given a flexible redemption option, where return rates are structured in advance based on the forward rates of existing MGS/GII,” says Winson Phoon, head of fixed income research at Maybank Kim Eng Securities in Singapore, in an Aug 23 note.

Should there be future issuances, SERC’s Lee says the government can also consider offering slightly higher interest rates “to reward pensioners and savers” switching from FDs to government-issued paper. “To ensure a wider reach of subscribers, the investment amount should be capped for inclusiveness,” he adds.

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