This article first appeared in The Edge Malaysia Weekly on October 10, 2022 - October 16, 2022

MALAYSIA’s economy has grown back to pre-Covid-19 levels and the government is projecting decent GDP growth of 4% to 5% in 2023. That is in line with projections of slower global growth, even though it is a moderation from a better-than-expected 6.5%-to-7% growth for 2022 (but an upward revision from the 5.3% to 6.3% seen in March as well as the 5.5% to 6.5% projected more than a year ago). Malaysia’s GDP growth last touched 6% in 2014 (see Chart 1).

While direct federal government debt grew to RM1.045 trillion (61% of GDP) as at end-June this year from RM979.8 billion (63.4% of GDP) as at end-2021, the 2023 Economic Outlook Report shows an improvement in the debt-to-GDP ratio — thanks to a bigger denominator. The ratio would have exceeded 67% of nominal GDP had the economy not grown, back-of-the envelope calculations show.

The bigger GDP size is also why the fiscal deficit is below, and not above, 6% of GDP — 5.8% of GDP for 2022 and 5.4% of GDP for 2023 — even though the absolute size of the deficit is some RM15 billion larger at RM99.48 billion (2022p) and RM99.07 billion (2023b) compared with the RM84.84 billion (2022b, or 6% of GDP) shown when Budget 2022 was tabled in October 2021 (before Russia attacked Ukraine) and had expected only RM31 billion in subsidies (see Chart 2).

The revised 2022 budget — which is the largest federal government budget to date at RM385.3 billion — has worked in RM77.7 billion in subsidies, according to Finance Minister Tengku Datuk Seri Zafrul Abdul Aziz, when tabling Budget 2023 on Oct 7. He says the subsidies bill remains sizeable at RM55 billion for 2023, without going into specifics on how subsidies will eventually be better targeted among Malaysians besides enforcement officers making sure subsidised goods are not smuggled outside the country (see Chart 3).

The seemingly rosy headline ratios notwithstanding, those paying attention would know that 2023 is the fourth straight year in which the federal government’s revenue is not expected to be enough to cover operating expenses — and that is despite pencilling in RM35 billion in dividends from Petroliam Nasional Bhd (Petronas) in 2023 (see Chart 4).

This is largely due to spending under the Covid-19 fund of RM105 billion between 2020 and 2022 that will rise to RM110 billion in 2023 when the last RM5 billion is spent (see Chart 5).

For 2022, the fiscal strain is further felt as the subsidies bill surged to RM77.7 billion, 60% of which was unexpected when Budget 2022 was tabled in October 2021. The additional RM46.7 billion subsidies bill shored up operating expenditure for the revised Budget 2022 to the largest on record (see Chart 6).

From RM77.7 billion or 27.2% of federal government revenue in 2022 (revised), the subsidies bill of RM55 billion for 2023 is 20.2% of the projected revenue for next year. It should be noted, however, that under operating expenditure, subsidies had been revised to RM58.9 billion (20.7% of revenue) in 2022 and RM42 billion (15.4% of revenue) in 2023. The exact difference in the headline figure and the subsidies under operating expenditure are not immediately known but the RM58.9 billion alone is the highest to date (see Chart 7).

For the record, even though the RM35 billion dividend from Petronas for 2023 is smaller than the RM50 billion for 2022 and RM54 billion in 2019, it is the largest on record at the point of tabling. Dividends from Petronas were pencilled in at RM25 billion when Budget 2022 was tabled last October and RM24 billion in 2019, before an additional RM30 billion was asked for to help repay excess taxes owed to individuals and businesses that had not been returned by the Inland Revenue Board (IRB), owing to lack of allocation.

The cash-flow strain from allowing expenses to grow much faster than revenue and funding excess spending with debt since 1998 was already showing back then — a factor that resulted, in part, in a bad experience in the implementation of the Goods and Services Tax (GST) for smaller businesses, whose cash flow was strained when excess taxes were not refunded to them in a timely manner.

Similar strains on cash flows — seen from the fact that Malaysia chose to use in 2023 the “remaining RM5 billion” headroom from the RM110 billion ceiling for the special Covid-19 Fund, which was supposed to end this year, instead of reallocating the sum to electricity subsidies, which came in RM6 billion more than initially expected — point to the fiscal constraints faced (see Table 1).

We know that the government has said it would guarantee up to RM6 billion in debt taken by Tenaga Nasional Bhd, whose receivables surged RM8.62 billion in the first half of this year to RM19.17 billion as at end-June 2022 on the back of sizeable outstanding receipts from the government. Petronas Dagangan Bhd, which operates the country’s largest petrol station (with RON95 and diesel subsidised for consumers), has also seen receivables triple over six months to RM10.3 billion as at end-June.

We also know that Malaysia, which normally cannot borrow to fund operating expenses, was allowed to do so in 2020 to 2022 with the special Covid-19 Fund during the pandemic, can no longer do so (apart from the RM5 billion next year) unless laws are changed.

If that RM5 billion for social assistance were to come under operating expenditure (opex), the federal government would need to cut other opex or tap Petronas for more dividends. That is because opex — even without the RM5 billion under the Covid-19 Fund — is already RM272.34 billion in Budget 2023, which means the federal government has only RM230 million in revenue left over after deducting opex, despite the sizeable RM35 billion dividend from Petronas.

As such, most of that RM5 billion as well as the record-size development expenditure of RM95 billion in Budget 2023 would have to be covered by debt.

The Edge has previously written about how Malaysia has been meeting all its debt obligations by taking on new debt. Half of the country’s existing debt papers are likely to be rolled over at higher rates within five years unless there is an about-turn in the direction of global interest rates (see QR code below).

Little wonder, then, that, following the tabling of the federal government’s 2021 financial statements in Parliament on Oct 6, Auditor-General Nik Azman Nik Abdul Majid told reporters there was a need to find a long-term solution to improve the country’s finances, as the government could not continue to have half of new debt being used to pay off old debt, as was the case during the pandemic.

In just 12 years, debt service charges, which made up 8% of federal government revenue in 2008, rose to 16.3% in 2021. Debt service charges of RM46.1 billion for 2023 mean that RM16.90 out of every RM100 earned by the federal government goes to interest payment (see Chart 8).

Including this year’s estimate of RM46.1 billion, Malaysia would have spent RM514 billion on interest payments for its debt alone since 2000. Together with RM90.8 billion in civil service emoluments and RM29.08 billion in civil service pensions, they make up some 61% of the RM272.57 billion federal government revenue for 2023, which includes the RM35 billion dividend from Petronas. These three items, which made up more than 50% of federal government revenue since 2015, reached as high as 64.4% in 2020 when the dividend from Petronas was RM34 billion as other revenue receipts declined during the pandemic.

Last Thursday, Public Accounts Committee chairman Wong Kah Woh also raised concerns about government finances, noting that 16 sen out of every RM1 earned by the federal government went to interest payments in 2021 even as direct federal government debt ballooned RM100 billion annually to RM979.814 billion (63.4% of GDP).

Another RM65 billion in debt had been added to the tally in the first half of 2022, shoring up direct federal government debt to RM1.045 trillion as at end-June this year, but the debt-to-GDP ratio is lower at 61%, owing to a larger denominator, but could end the year close to 63% of GDP again, back-of-the-envelope calculations show (see Chart 9).

The debt-to-GDP ratio could reach 65% by end-2023, based on projections used in the 2023 Economic Report, because the federal government looks set to add another RM100 billion in debt annually this year and next, especially given that some RM8.1 billion in principal and interest for a maturing US dollar bond issued by 1Malaysia Development Bhd (1MDB) is due this month and RM14.4 billion will be due by May 2023, assuming an exchange rate of RM4.50 to the US dollar.

Even though the statutory debt ratio (MGS+GII+MTB), which was 57.8% of GDP as at end-June this year, is expected to reach only 63% of GDP by end-2023, the government admits in the 2023 Economic Report that debt there was a “noticeable increase” in federal government debt during the pandemic and says it may “extend the statutory debt ceiling of 65% of GDP in the medium term” beyond the current expiry of end-2022 instead of reverting to a lower ceiling of 60% of GDP.

“The increased debt level will heighten borrowing cost and refinancing risk. Therefore, the government is fully committed to gradually reducing the debt level while balancing the fiscal needs in ensuring growth momentum in the medium term and mitigating the impact from inflation. The prudent fiscal and debt management will ensure the government’s fiscal position is sufficient to face future crises as well as improve debt affordability,” the report reads.

Whatever one may think about that statement, there is no denying that Malaysia is extremely fortunate to be blessed with natural resources.

The RM35 billion dividend from Petronas makes up 9.4% of total Budget 2023 of RM372.34 billion, which is being 26.6% funded by debt. The RM50 billion dividend from Petronas funds 13% of the revised Budget 2022, which is 25.6% debt funded. These numbers show a sizeable revenue gap to cover spending that had been racked up by an outsized blanket subsidies bill. That size of spending is obviously not sustainable (see Chart 10).

Federal government revenue for 2023 is RM12.65 billion smaller than the revised figure for 2022, largely due to a smaller dividend from Petronas next year (see Chart 11).

We know for a fact that Petronas is no longer ranked a notch ahead of the country’s sovereign rating after being tapped for outsized payments in 2019 but, fortunately for Malaysia, its coffers are being refilled from higher prices for crude oil as well as liquefied natural gas (LNG), which is the cleanest of fossil fuels.

To rebuild fiscal space to be able to fund a wider social safety net, prepare for future crises and invest for growth, the government needs to do a lot more than tap Petronas to channel RM2 billion into the country’s natural resources fund, National Trust Fund (KWAN), from which RM6 billion had been withdrawn for vaccine and related expenses under an emergency ordinance during the pandemic in 2021.

For the record, Budget 2023 — which comes ahead of the 15th General Election (GE15) — is only RM13 billion smaller than Budget 2022, which had a RM28.8 billion allocation under the Covid-19 Fund (versus RM5 billion in Budget 2023) (see Chart 12).

The RM94.3 billion for development expenditure in Budget 2023 is the largest sum tabled so far, RM22.5 billion more than the RM71.8 billion under the revised Budget 2022 (down from RM75 billion when initially tabled). The country would benefit if the amount were indeed used for development instead of paying down old debts or used as opex pretending to be development expenditure.

Whether or not Budget 2023 is passed by Parliament before it dissolves for GE15, whoever wins Putrajaya needs to ensure that the country’s finances get the reset it needs to sustainably fund development for the long haul.

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