This article first appeared in The Edge Financial Daily on April 20, 2020

KUALA LUMPUR: Governments around the world are expected to sizeably raise borrowings for necessary expenditures to battle the ill effects of the Covid-19 pandemic and its economic consequences, pushing budget deficits and public debt ratios well above levels last seen during the global financial crisis.

Global debt is estimated to increase 13.1 percentage points to reach 96.4% of gross domestic product (GDP) in 2020 from 83.3% in 2019, data appended in the International Monetary Fund’s (IMF) latest issue of Fiscal Monitor showed.

Emerging markets and middle-income economies, meanwhile, are estimated to see debt rising 8.8 percentage points to 62% of GDP in 2020 from 53.2% in 2019.

With the pandemic having “elevated the need for fiscal policy action to an unprecedented level”, the IMF expects the world’s overall fiscal balance to slip from -3.7% in 2019 to -9.9% in 2020, with most governments hit in both revenue and expenditure — more so for oil exporters.

The average overall deficit of emerging markets and middle-income economies is projected to slide to 9.1% of GDP from 4.8% in 2019, reflecting the recession, lower commodity prices, tighter financing conditions and policy reaction to the Covid-19 pandemic, it added. The IMF report noted Malaysia’s fiscal response to Covid-19 at 2.8% of GDP.

Malaysia has thus far announced a stimulus package totalling RM260 billion, of which RM35 billion (about 2.3% of GDP) require direct fiscal spending. It is understood that close to two-thirds of the RM35 billion are counted as development expenditure (which can be debt-funded) and only about one-third is operating expenses (which must be funded by revenue).

Despite the sizeable additional spending, the budget deficit will reportedly only widen from the initial estimate of 3.2% to 4.7% of GDP this year — below the 6% levels seen in 2009 — owing to revenue enhancement measures that include dividends from government-linked institutions.

The government is expected to borrow about RM20 billion more than initially planned this year, economists said. Last Thursday, RAM Ratings revised higher its projection of the government’s financing requirement this year.

The credit rating agency now expects Malaysian Government Securities (MGS)/Government Investment Issues to reach RM135 billion to RM145 billion compared with RM115 billion to RM125 billion previously.

Malaysia — which expects to lose roughly RM8.1 billion in oil-related revenue with the Budget 2020 oil price assumption cut from US$62 (RM270.94) per barrel to US$35 to US$40 a barrel on top of lower tax collection from deferments, incentives and recessionary pressures from necessary social-distancing policies — has said the stimulus spending is temporary, it will maintain fiscal prudence and would not breach its self-imposed direct debt ceiling of 55% of GDP, while making sure the necessary aid reaches the people and businesses. Direct federal government debt stood at RM793 billion or 52.5% of GDP as at end-2019.

“At this time, we do not believe that the cumulative effect on the government’s fiscal settings is likely to persist beyond 2020. However, if we perceive that Malaysia’s new government is more likely to deviate from a path of fiscal consolidation over the next three-to-four years, or that the effects of weaker global commodity markets and economic activity will persist well beyond this year, then additional downward pressure on ratings could emerge,” S&P Global Ratings wrote when affirming Malaysia’s ‘A-’ rating on March 26.

To be sure, there is sizeable domestic liquidity, not just within the banking system but also at institutions like the Employees Provident Fund, Permodalan Nasional Bhd, Retirement Fund Inc, Khazanah Nasional Bhd and Petroliam Nasional Bhd (Petronas).

So why does Malaysia need to give due consideration to sovereign credit ratings and foreign investors that have pulled out tens of billions of US dollars from emerging market stocks and bonds in recent weeks in search for safer assets?

“The current crisis will ultimately blow over and a country cannot isolate itself from the rest of the world permanently. The issue is priority. Sovereign rating matters to international investors and traders as it affects their perception on the ability of the counterparty to repay. This is then priced into the cost of borrowings with foreign parties and the currency,” a seasoned economist explains. “Prioritising the people and sovereign rating may not be in total conflict if due consideration is taken into account.”

Put another way, a country stands to benefit from timely and clear communication that are key to building and maintaining public trust as well as consumer and investor confidence — internationally and at home.

Despite dovish monetary regimes globally, the IMF noted that the cost of borrowings had spiked in emerging and less developed markets in the flight to safety.

Yields for 10-year MGS, which closed at 2.82% as at end-February, rose as high as 3.58% on March 23 before easing to 3.35% as at end-March. Yields for 10-year MGS closed at 3.06% last Thursday, central bank data show.

Last Wednesday, Petronas raised US$6 billion from a multi-tranche senior bond issuance — US$2.25 billion from 10-year conventional notes priced at 3.65% (290 basis points over 10-year Treasury), US$2.75 billion from 30-year notes at 4.55%, and US$1 billion from 40-year notes at 4.8%. The bonds were 6.2 times oversubscribed, with order books reaching US$37 billion at the time of pricing, a testament to strong demand for the issuer rated  “A2” by Moody’s and “A-” by S&P with a stable outlook.

When it last issued papers in March 2015, Petronas raised US$5 billion: US$1.25 billion five-year papers at 2.707%, US$750 million seven-year papers at 3.223%, US$1.5 billion 10-year papers at 3.605% (150 basis points over 10-year Treasury) and US$1.5 billion 30-year papers at 4.576%. At the time, Petronas was rated “A1” by Moody’s and “A-” by S&P.

Malaysia needs to maintain its rapport, given the need to prepare for additional fiscal spending that could become necessary during the period between the easing of the various degrees of lockdowns and success in finding a proven vaccine, which experts say could take some 18 months.

“The size of the initial fiscal support in response to the pandemic and financing constraints will determine the scope for additional fiscal action in the recovery phase. Once the Covid-19 crisis is over, high-debt countries should, in general, pursue fiscal consolidation supported by growth-friendly measures. However, the size and pace of adjustments would need to be carefully recalibrated, taking into account the full impact of the pandemic on the economy and the extent of debt vulnerabilities,” the IMF said.