Pass the hat…
When, during his prime minister tenure, Abdullah Badawi scrapped or put on hold some of the billion ringgit federal projects initiated under Mahathir Mohamad’s reign, the latter fumed beneath his tongue. “It’s not that we don’t have the money,” Mahathir reportedly said, but softly. “We have the money.”
Of course, ‘they’ have the money: Mahathir should know, for he speaks from experience after all. But he was also speaking from retrospect, that is, at a point in the past, his past, when the oil wells of the South China Sea never seemed to cease flowing, so US dollar money came in by the barrels to ‘his’ government, and also because Putrajaya need not pay for many of the public tasks of infrastructure works. Infrastructure works passed on to private companies were ways, other than tax, to make everybody pay for sewerage (good for Indah Water), road (good for Proton, UEM), and all social goods. Malaysia Inc. was, thus, god-sent: money in, little money out.
Spared of the expenditures, what to do with government money? With a country at his feet and with many tongues to appease – thus, new towns, new ports, and so on – the splurge would never stop. It wasn’t just with the NEP; it was the NEP’s administrator that began spending on crutches, the name to which have two Ps. They are called petroleum and privatization. (The oil and gas off Trengganu are pumped, literally, into Putrajaya; there is such a pipeline network.)
Total revenues to Putrajaya (aka Umno-Barisan Nasional) is going to total 148 billion ringgit in 2010, down 8pct from 162 billion this year (see Treasury 2010 accounts data; warning, PDF). In the global scheme of things, these figures are paltry. Yearly revenues at Wal-Mart, the US retailer, exceed 350 billion, US dollars (or roughly 1,300 billion ringgit), and that without it relying on a drop of oil.
Of federal government revenues, Petronas is singularly critical. Dividend itself provides 30 billion ringgit in 2009, royalty gave 5 billion, for a total 21 pct share of federal revenues. Count in other oil companies (Shell, Esso, etc), petroleum taxes added another 27 billion, or 16 pct. All in (adding things like customs duties), the oil business gave four of every 10 ringgit that the government bilks as income.
Dependence on petroleum isn’t such a bad thing in itself even if the thing greases; the Anglophile legacy among the St John’s types always manages somehow to associate money with morality. No, evil has roots not in money but in Eden, specifically a tree there. (When oil prices rose beyond USD100 a barrel, oil companies that were fearfully of inundating banks with their cash – recall all deposits are liabilities on the balance sheet – promptly redistributed the surplus money. For example, an oil platform technical staff paid 10,000 ringgit receives instant gratification, no questions asked, upwards of 3 times the month’s pay). So, the dilemma with oil money comes with its uses, not collection.
Using money is hardly a profound idea, for there are many ways to skin the cat. How will the money build future productive capacity? Create more jobs? These are vital matters because increased capacity and more jobs will also mean, to the government that’s on the other side of the national income equation, future streams of revenue. In tax jargon, this is widening the tax base and redistributing it away from the finite thing called oil.
Mahathir, licensed as a doctor with only a taximan’s understanding of economics, build monuments on oil. His approach to governance and politics was as a salesman of snake oil, not as junzi 君子 to whom public service must be a philosophical exercise in proven human virtues. So you could get away with peddling to an oil snakeman from spinning stories of gold-paved roads and mansions in heaven. Mahathir was always gullible without him knowing it, so his coterie of advisers, whispering into his ears, came in largely from the streets – imagine, for a moment, speaking on the phone to the likes of VK Lingam, Eric Chia, Musa Hitam, et al. Banal. Mismanagement and incompetence (with fraud) thrown in assured failure in billion dollar projects that Badawi, wise enough, gave up – think of the crooked bridge.
More ominous that the use of oil money, Mahathir conveniently ignored, or was not told, about oil’s aftermath not just on the government tax base but on party and national politics. Reduce by half the Petronas annual dividend, the tax collected in 2010 falls by 8 pct or 15 billion ringgit. In the national scheme of 160 billion, that sum is still nothing to shout about. A remedy to the shortfall is to cut the expenditures (especially “development” projects), borrow more, and/or raised taxes elsewhere.
But the problem is far deeper, and it is also political and demographic. Cut what expenditure, if Umno still sustains its political fortunes on redistributing oil money as largesse? Tax what, when the most important business activities – infrastructure especially – were made of crutches of rusting oil well shafts? (Off Terengganu, the principal explorer Exxon has completely abandoned its wells leaving Petronas to scrape the well bottom for leftovers.)
Then there is the entropy of time to deal with: against finite resources time does not heal. Rather it brings into collision the opposing forces of resource use and availability. Umno’s capacity to spread the oil largesse depends on ever increasing flows of money, but it faces an expanded and expanding constituency. This could only mean less money to more. As the Malay population expands (again thanks to Mahathir), the greater is the demand for the NEP (National/New Economic Policy) to be expanded. Umno’s factions splintering into cliques, some defecting to PKR, others to PAS, have their roots in this collision of opposing material and financial demands on the party and the government. So, it is no coincidence that the Asian financial debacle in 1987/88 brought out the Anwar Ibrahim’s forces that were expelled from Umno.
Those post 1998 events were in fact a manifestation of the government, probably without realizing it, having turned half the population not only into recipients of state treasury but a political class wedded to itself and to oil. Mahathir centered the fortunes of Umno on oil and its privatization thereof. This is why he would tell Badawi, “We have the money.” Mahathir had to. Besides it was true; the money is still out, but always there?
Other than from oil, the government could even print currency if it is so desperate, and this, like Zimbabwe, will what it will have to do at some point. All government debts are bank notes printed by other means. The bond issue of 4 billion ringgit on the PKFZ project has to be returned in currency to lenders eventually. All debts of the GLCs, previously insolvent as private entities were, like the PKFZ, underwritten by the government. The exchange of land for a building that is the MITI convention center is the monetization of property. This property of land has to be turned into collateral. On that collateral is a debt, loan, bond or equity issued. When that land loses its appeal or when debt fails to be repaid in time or in full, as is the case with PKFZ, something breaks – typically a fresh debt is incurred. This is what happened to numerous privatization projects, the companies of which were turned into GLCs, in turn supported by government underwriting. Mahathir’s privatization was the issue of government infrastructure debt deferred, except that it was fronted by private conglomerates.
Figure 1: Data source World Bank
See how in Figure 1 debt service spiked from 8 pct of export incomes to about 30 pct in the early years of Mahathirism. Some sane economists must have driven into Mahathir’s head that such rate jumps were unsustainable so that it wasn’t until the 1990s that the debt service fell back to single digit levels. This does not mean that government borrowings fell in absolute terms. Plausibly, as Treasury records show, the government switched from short to long term borrowings, typically in rolling tranches of 10 to 20 years. Which then explains why, despite Badawi’s efforts to rein in on borrowings in the years 2004 to 2008 (Figure 2), public debt for every man, woman and child continues to climb, tripling in the last 12 years.
Figure 2: Data source EIU
In itself debt isn’t such a bad thing if you were confident to repay. Most rich countries, including Japan, have a debt load exceeding their GDP size. Ability to repay requires the economy or its people to have the productive capacity, in terms of factories, roads, ports, and so on. That productive capacity is what the debt is for, or should be intended for. This is known as capital formation: debt turned into investments. There was a period in the 1990s when Malaysian capital formation exceeded Singapore’s (Figure 3), suggesting that a rash of government borrowing produce cars, steel, cement and so on – if only the world wanted them. Today capital formation has fallen back to the levels thirty years ago, about 20 pct of GDP. Why? What then of future debt repayment?
Figure 3: Data source World Bank
The answers to the ‘why’ are varied: some causes lay outside Malaysia – lenders going to China for example – other causes are internal to its economy. Of the latter, there is both the lenders’ view and that of the borrowers’ (Malaysian government’s) ability to repay. If oil is going to stop to underwrite, at some point, future debt, then something or somebody else will have to. Governments can go bankrupt; Iceland is a most recent case in point; Latin America, further back.
Against, therefore, a political constituency – half the population – making endless demands on party and government; against falling oil revenues; and, against rising operating expenditures and expanded demographics, the government will find itself back against the wall. Has it reached that point? Probably not yet, but the shadows of a crunch are forming on the wall so that it is no accident Najib Razak has recently called for a “second wave of privatization”, despite its abject failure as policy and its corrupting effects – Malaysian politicians are notoriously inapt at handling money; no, money is not the root of all evil.
Other than debt and tax – the only two ways to raise money – privatization will, in accounting terms, spare the government of expenses, as it had done under Mahathir. The MITI convention center revisits Mahathirism, thereby adopting even a tried and tested method: exchanging land for facility and monetizing property. Like MAS, like Proton, like the commuter trains, the thing left now is only to wait for its eventual redemption.
A convention center like MITI’s supports the economic “development” part. But it does not solve a more fundamental problem: raising money for purposes as mundane as paying salaries and buying submarines, say, ten years later. Thus, when either Najib or his deputy finance minister talks of restructuring the tax base, the ultimate intent is, in effect, to find ways of getting money to replace oil dividends quick, as soon as five, ten years from now.
Two new tax items – the capital gains tax and the goods and service tax (GST) – are clear throwbacks into a situation wherein government finance has painted itself into a corner. For a government that has pivoted its existence as a political party on wealth redistribution (one class only), it is instead going back to its people for money. That’s GST. Then, in the future, any Umno district-level boss meddling in transfer pricing, buying and selling to each other parcels of land or pieces of company assets must pay a tax – unless he cheats on the reporting. All this will wear off Umno’s raison d’etre as state material distributor, but for the moment this wear and tear is remedied with loud yelling of Ketuanan Melayu and displays of a crooked dagger.
Of the two new tax items, the GST is the more pervasive – and regressive. It reaches up and down to everybody and anybody, making no distinction between poor and rich, bumi and non-bumi. The government’s promise to lay it down “gently” won’t matter in the end. Tax exemptions for things like rice and flour will also not matter. A poor family subsisting on 800 ringgit a month spends nearly all 100 pct of that income on food, clothing, rent and transport; a same size family with 3,000 ringgit income living on the same terms will spent only 30 pct (900 ringgit). Add 4 pct in GST, that is, 32 ringgit (800 ringgit x 0.04), the poor family will have either to cut the amount of meat in the meals or borrow money. For the wealthier family the tax has no statistical significance; 32 of 3,000 ringgit is only 1pct.
The GST will not make up for dwindling oil revenues. In its existing form, narrowed to sale of some (mostly imported) goods and services in some economic areas (McDonald and hotels), the 10 pct sales and 5 pct service taxes (SST) bring in only about 12 billion a year, or no more than 9 pct of government revenues. Replacing this SST with a uniformed 4 pct GST, although offering a wider and deeper tax coverage, adds another 1 billion ringgit a year, which is the government’s projection.
|The goods and services tax (GST) in multiple forms|
|VAT||Profit||VAT||Price with||Present SST price|
|add 10%||add 20%||price||4% GST||w/out VAT/GST|
|1. While VAT is billed on the entire good/service in the beginning (supplier stage), it is billed|
|only on the margin, the gross profit layer, subsequently.|
|2. One-time 5 pct SST (sales & service tax) is charged only at retailer end.|
|Hence: 1.33 (with 20 pct profit)+ 1.33×0.05 SST = 1.40|
|3. Cost ignored between layers|
|4. Profit is gross at 20%, even for all|
But 1 billion is a beginning, not only for individuals and families. For the government, the GST is the seed of the value-added tax, or VAT (see Figure 4). Take a McDonald’s ice-cream cone selling at 1.33 ringgit. Add 4 pct GST, you pay a one-time sum of 05 cents more, totaling 1.38. Under 10 pct VAT, you may pay 1.49, 18 cents more. This is because there are a series of in-between taxes that goes with and into making and selling you the ice-cream cone: the cone itself, the ice-cream, and all the little things that go with the service, napkins, refrigerator, dispensing machine and the like, that are sold individually to McDonald. GST is one time single sum, at the consumption end. VAT is GST in an invasive form, worked backwards, a multi-layered tax structure on the varied stages of production (hence, value-added), in essence a cascading set of consumption tax.
As a general, overarching tax category, a consumption tax is the single largest source of public revenue for most affluent countries. Denmark’s VAT, at 25 pct, accounts for also 25 pct of public revenues. The consumption tax in one form or another was 13 pct of total tax collected in Australia, 17 pct in Germany, 20 pct in South Korea but only 9 pct in Japan.
Figure 5: Source Economist
There is no correlation between an economy’s prosperity and the GST, but the unwritten deal is this: the greater the tax burden, the greater is the necessity of the government returning monies to its population, in the form of free health care, education, employment and other services. When last year’s financial collapse in America reached Taiwan where VAT is 6 pct, soon to be 7 pct, the government distributed NT$3,000 to every man, woman and child, no questions asked.
But, the Malaysian government has a miserable record of looking after its people, unless one is Malay and an Umno member – a fact Mahathir and other ministers have made plain and clear. Soon, with GST and without oil dividends, it has another argument of the NEP in refashioned form: tax the whole and return those sums to half the population, scholarships, subsidies, and all the usual goodies. That, along with the “second wave of privatization”, Umno has reason, therefore, to continue its kind of politics for another 50 years. As to the accumulating debts, that’s a problem for another time, another government. Why worry?