This article first appeared in The Edge Malaysia Weekly on March 16, 2020 - March 22, 2020

THE timing is clearly wrong. With the world looking at additional stimulus measures to counter the possibility of a global recession, now is not the time to reintroduce the Goods and Services Tax (GST). Bringing back something that is unpopular with the rakyat as the country battles the Covid-19 outbreak with a newly minted government not only risks political suicide but will also prove to be counterproductive for the economy if consumer and business sentiments are further hit.

Reintroducing GST at a lower rate that does not bring additional revenue for the government will defeat the purpose and can be unnecessarily disruptive for businesses, which had switched from GST to the current expanded Sales and Services Tax (SST) regime only 19 months ago. If GST at 6% nets RM40 billion, a 3% rate will bring in less than the RM28.3 billion estimated SST collection for 2020. Moreover, SST covers only 38% of the Consumer Price Index (CPI) basket compared with 60% by GST.

There is also the RM7.8 billion in outstanding GST refunds as at February, which was pending field audits by the Customs Department — an issue that needs to be ironed out for businesses to have confidence in seeing their refunds not being delayed again.

Yet, it is little wonder that talk of the reintroduction of GST has resurfaced.

Not only are GST proponents a part of the new ruling Perikatan Nasional coalition, Brent crude oil prices have plunged to the US$30 levels again — far short of the US$62 a barrel used to draw up Budget 2020. Every US$1 fall in oil prices removes about RM300 million from government coffers, going by an old official guidance that some economists reckon to be substantially understated.

The figure should be closer to US$140 million or around RM590 million, OCBC Bank Research economist Wellian Wiranto writes in a March 10 note. If he is right, a US$30 difference from the Budget 2020 price assumption of US$62 will translate into a RM17.6 billion drop in oil revenue if Brent averages at US$32 a barrel for the whole year. That shortfall of 1.1% of gross domestic product will push Malaysia’s fiscal deficit from 3.4% to 4.5% of GDP, “in the unlikely event that no change is done to expenditure to compensate for the drop in revenue”, he says. More on this later.

Global oil prices had to contend with weaker demand for transport and fuel owing to the Covid-19 pandemic, even before the supply surge shock that followed the March 6 collapse of the so-called Opec+ production-cutting alliance sealed in December 2016. Even as tensions escalated between Russia and Saudi Arabia last week, Goldman Sachs warned that Brent prices could dip to US$20 in the coming weeks after trimming its forecast to US$30 a barrel through the third quarter.

Morgan Stanley’s forecast is US$35 per barrel. Moody’s Analytics economists told market participants to “get ready for the US$30s” and the likelihood of low oil prices for the rest of 2020 (see cover story).

Touted by former prime minister Datuk Seri Najib Razak as “the saviour of the nation’s economy”, GST income had come in just in time (from April 2015) to cushion the impact of the decline in oil-related revenue for the government when Brent prices skidded precipitously from above US$100 a barrel in September 2014 to below US$50 a barrel in January 2015. Brent reached the US$27 levels in early 2016 before retracing some losses, but further price support only came with the Opec+ deal.

Last Wednesday, Prime Minister Tan Sri Muhyiddin Yassin told reporters that the new government “will look into everything”, including tax policies such as GST and SST, as it considers more ways to counter the economic headwinds and reduce the burden of the high cost of living for people hardest hit by it.

While this year is “not the right time to introduce any major tax policy changes”, UOB Malaysia senior economist Julia Goh reckons that the government is rightly studying them for the medium term.

“That actually helps to reaffirm the new government’s commitment to improving Malaysia’s fiscal resilience and strength,” she says.

“GST is a broader-based tax and is positive for fiscal strength, but if introduced at the wrong time can be more damaging for consumer sentiment and the economy.”

Singapore, for instance, in February postponed the 2% hike in GST rate to 9%, which was supposed to take effect as early as 2021 to expand its fiscal space to meet social spending necessary for a rapidly ageing population.

The newly formed Economic Action Council, which Muhyiddin chairs — and whose members include Finance Minister Tengku Datuk Seri Zafrul Tengku Abdul Aziz, International Trade and Industry Minister Datuk Seri Azmin Ali and Minister in the Prime Minister’s Department (Economy) Datuk Seri Mustapa Mohamed — will examine, with the view of expanding, the RM20 billion stimulus package presented by the then interim prime minister Tun Dr Mahathir Mohamad on Feb 27 to counter the impact of the Covid-19 outbreak on individuals and businesses.

As it is, the RM20 billion headline number was achieved with less than one-fifth of actual fiscal spending and, thus, was only expected to increase the fiscal deficit by 0.2 percentage point to 3.4% of GDP.

The stimulus package includes RM10 billion in potential consumption boost from a four-percentage-point reduction in the statutory Employees Provident Fund (EPF) contribution rate for employees to 7% that assumes full take-up. Only 43% of EPF members opted for the three-percentage-point reduced contribution rate of 8% in 2009 and 45% opted for it in 2010, but the actual amount released to boost consumption is unknown. About 50% of EPF members reportedly opted for the reduced contribution rate of 8% from March 2016 to December 2017.

An updated version of the stimulus package will be presented in one to two weeks’ time, Muhyiddin said on March 11.

Recalibrate Budget 2020 and stimulus

With global stock markets witnessing another Black Monday on March 9 and further selling last week amid the Covid-19 pandemic and surprise oil price rout, there is indeed a need for Malaysia to reassess not only the adequacy of the stimulus measures but also Budget 2020, which was prepared with Brent prices at US$62 a barrel.

Brent was below US$33 a barrel at the time of writing, which translates into a shortfall of about RM9 billion in government revenue using the simplistic guidance of every US$1 fall being equivalent to RM300 million.

The reality could be harsher, even though normal dividends from Petroliam Nasional Bhd (Petronas) — which formed 37% to 57% of oil-related revenue and 7% to 16% of total federal government revenue in the past decade — remain intact.

Petroleum income tax (PITA) fell from RM27 billion in 2014 to RM11.6 billion in 2015 and RM8.4 billion in 2016 before recovering to RM11.8 billion in 2017 and RM20 billion in 2018. PITA is estimated at RM17.9 billion in 2020, same as 2019. Export duties from petroleum also fell from RM1.6 billion in 2014 to RM989 million in 2015 and RM673 million in 2016 before recovering to RM1.5 billion in 2018. It is estimated at RM1.3 billion for this year.

There is also the possibility of lower tax receipts due to weaker economic conditions. Targets for corporate and individual tax collections are at a record high, despite GDP forecast for 2020 being revised lower from 4.8% of GDP to 3.2% to 4.2% of GDP on Feb 27 — and that was before oil prices tumbled.

Weaker liquefied natural gas (LNG) and crude palm oil (CPO) prices may deal another blow to exports and the economy.

A saving grace here is that only RM438.8 million (RM319.2 million for RON 95 and RM119.6 million for diesel) of the RM2.2 billion allocation for fuel subsidies has been utilised to date, leaving RM1.76 billion that can be redirected for other uses, should the blanket subsidy be replaced with a targeted mechanism.

Deft recalibration of Budget 2020 is necessary, and should preferably not see the government forced to cut necessary development expenditure just to pay the usual operating bills and, worse, mere populist spending.

Reduced spending by the government may further dampen consumer and investor sentiments, shaken by uncertainties clouding the economy and job market. Conversely, clear communication and cleverly targeted fiscal spending will demonstrate strong policy response that is necessary to shore up confidence.

When Budget 2016 was revised, the Brent price assumption was US$30 to US$35 a barrel, down from US$48, and was said to remain intact even if prices slipped further to US$25 — price levels that a recalibrated Budget 2020 should reflect. Malaysia also revised Budget 2015 to reflect a much lower oil price assumption of US$55 a barrel versus US$100 when it was tabled in October 2014.

Money, money, money

Even with the overnight policy rate (OPR) at 2.5% after three cuts in the past nine months, Bank Negara Malaysia still has room for further monetary stimulus with inflation likely to remain low this year from low fuel prices, possibly even lower than last year’s CPI reading of 0.7%. In a March 9 note, CGS-CIMB Research economists cut their 2020 inflation forecast from 1.9% to 0.6% after revising downwards their Brent price assumption from US$63 a barrel to US$48, and by extension, its estimate of RON 95 and diesel retail prices.

The consensus among economists is for more monetary easing, given the government’s limited fiscal room, with the budget deficit already at 3.4% even before oil prices dipped.

“At a time when fiscal stimulus is sorely needed, the little space to do so has now been robbed by the slump in oil prices … While successive Malaysian governments have been attempting to reduce the dependence of government revenue on oil and gas receipts, the fact of the matter is that — in the absence of concrete revenue streams such as GST — it had been an uphill struggle. It was all well and good when oil prices were steady and better still when they were climbing, but a lot less so when they are plunging,” says OCBC’s Wiranto, who expects another 25-basis point OPR cut to 2.25% on May 5.

“A lot, however, will hinge on whether the global market sentiment, especially on the currency front, is stable enough in the next two months.”

A 1% change in the exchange rate will impact the overall CPI by 0.337% — higher than the 0.112% impact from a 1% change in crude oil prices, 0.094% impact from a 1% change in the external debt/export ratio and 0.073% impact from a 1% change in indirect tax per capita, according to an article appended to the Ministry of Finance’s Economic Outlook 2019 report.

Calling GST “too hot a political potato to touch anytime soon”, Wiranto reckons that policymakers will have their hands full finding ways to stimulate the economy and “working out a more sustainable revenue source than the fickle petroleum”.

“At most, the fiscal deficit can be pushed to 3.6% to 3.8% of GDP, depending on the severity of the global situation, before the ratings agencies baulk,” he says.

Pushing the fiscal deficit from 3.4% to 3.8% will translate into an additional RM6 billion, a back-of-the-envelope calculation shows — almost double the RM3.5 billion fiscal outlay for the Covid-19 stimulus package but far short of the RM67 billion stimulus package (RM7 billion in 2008 and RM60 billion in 2009) to counter the effects of the global financial crisis.

The second stimulus package in 2009, which accounted for 9% of GDP back then and spanned two years, included a RM15 billion fiscal injection, RM25 billion in guarantee funds, RM10 billion for equity investments, RM7 billion for private finance initiatives and RM3 billion in tax incentives. Malaysia’s budget deficit rose from 4.8% of GDP in 2008 to 7% in 2009, the year the country recorded negative growth.

A 9% boost to GDP today will require about RM140 billion, with RM60 billion translating into about 3.8% of GDP — still sizeable.

Tapping Petronas for stimulus

Can Malaysia justify sizeably larger fiscal spending to stimulate the economy, if deemed necessary?

As it is, dividends from Petronas are pencilled in at RM24 billion for 2020, the same as 2019, excluding the RM30 billion special dividend to repay the RM37 billion in owed tax refunds. Petronas had RM622 billion assets and RM82 billion net cash as at end-2019.

S&P Global Ratings may assess a weaker stand-alone credit profile if Petronas’ debt-to-Ebitda ratio exceeds one time and it generates substantial negative discretionary cash outflows with no prospect of improvement. “This could materialise if annual negative discretionary cash flows exceed RM40 billion per year for more than two years and would most likely occur if the company’s spending or dividend distributions are together substantially higher than the RM80 billion we anticipate,” S&P said when affirming its rating on Petronas on Feb 28.

UOB’s Goh does not rule out the possibility of more dividends from Petronas, should there be a need for a second stimulus package that requires significant additional fiscal pump-priming by the government.

“This should only be in a scenario where risks are tilted towards a recession, meaning it is necessary to support the economy,” she says, noting that official forecasts do not currently flag recession risks, unlike Singapore where official forecasts actually consider the possibility of negative growth.

It remains to be seen if Malaysia will revise the 2020 GDP guidance of 3.2% to 4.2%, which is down from the previous forecast of 4.8%, but may not have accounted for Brent prices at US$30 a barrel.

Bank Negara’s forecast for the economy on March 25, in conjunction with the release of its 2019 annual report, will be keenly watched.

While some countries in the West are struggling in their efforts to address the pandemic, there is hope that China may lead global recovery. Apple, which shuttered in China early last month in the wake of the Covid-19 outbreak, reopened all 42 stores on March 13, albeit on reduced hours.

Last Thursday, China said the peak of the Covid-19 outbreak in the country is over.

Investor confidence will likely grow when more Chinese firms, factories and retailers are back in business, without seeing any resurgence in the outbreak. Malaysia will be among the beneficiaries if China resumes its consumption of goods and services. A stronger economy where most people no longer complain about the high cost of living will likely be a prerequisite for GST to see a second chance, whoever runs the government.

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