The country does not have a track record of practicing fiscal discipline, and in the last two decades or so Malaysia has had federal budget deficits even in times when the economy was registering good rates of growth. Standard & Poor’s also said recently that Malaysia’s continually large government investments, spanning over more than a decade, are a rating constraint. If this was a problem previously, it is likely to be a thornier issue now.
The second quarter was an unhappy one for Malaysia as the manufacturing sector registered a growth rate of 2.1 per cent against a growth rate of 5.5 per cent in the first. Especially hurt here is the manufacturing sector, dealing with slumping demands for Malaysian exports from the US, Japanese and European markets. Global growth rates are expected to drop to a sedate 3.1 per cent for 2011, and China’s growth is also expected to fall, though marginally by 0.2 per cent. Under these circumstances, Malaysia’s decision to increase approvals for manufacturing investment applications to MYR16.4 billion (US$5.1 billion) for the second quarter of 2011 will matter little, though this figure is striking when compared to that of the second quarter of 2010 (MYR7.5 billion/US$ 2.3 billion). But given global uncertainties, high figures for approvals could give a false sense of comfort; what is more important is whether these figures are realised.
Prime Minister Najib remains undaunted. In mid-September he forecasted a growth rate of 5–6 per cent for 2011. But, if the grim global outlook persists, a more realistic range for this year’s growth rate is somewhere between 4–5 per cent. If the external sector cannot be relied on to prompt vibrant growth rates though, how might these desired rates materialise? Many think the Economic Transformation Programme (ETP) will be the wand that will power the economy to the magic 6 per cent growth rate that Malaysia seeks. The burning question is whether the ETP can provide the impetus to drive aggregate demand high enough to compensate for the shortfall from external demand.
A related question concerns Malaysia’s fiscal condition. Having repeatedly used the deficit bullet, even when it need not have, to what extent can this tactic be used again? When Malaysia’s exports have fewer takers in the months to come, the ETP will undoubtedly be a potent weapon in the country’s arsenal. But it will be an instrument to moderate the Malaysian economy against other downward pressures — not an instrument to pull the country out of its middle-income trap.
The consequences of the lack of fiscal discipline will surface should the global economy take a turn for the worse. The first victim will be the federal government deficit. Soon after the 2008 crisis the deficit hit a high of 7 per cent of GDP, at which time there was a genuine need for such a high deficit. But when they are used freely, deficits become a source of worry. The government’s declaration that it wants to balance the books and reduce its continual policy of running deficits obviously cannot be realised under the imminent circumstances. The debt-to-GDP ratio, which was at about 42 per cent in 2007, ballooned after the crisis to about 54 per cent. And it will, in all likelihood, worsen as global conditions deteriorate or even remain as uncertain as they are.
A downturn in developed economies will reveal the cracks in the Malaysian economy. One of the issues that will emerge will be the return to a high value of public debt as a percentage of GDP. There are good reasons to be prudent and conservative in one’s approach to macroeconomic management. The faltering economies in Europe press that point home. When the flame flickers it gives us an opportunity to reflect on lessons that should have been learnt — but were not.
Dr Shankaran Nambiar is an economist who has consulted for national and international agencies.
An earlier version of this article appeared in The Edge Financial Daily.