THE BUDGET FOR 2011: eulogy for the new economic model and a relaunch of the Mahathir economic model

ARCHIVES 2010

By MT Webmaster On Oct 18, 2010

What is becoming clear is that the Government is embarked upon a dangerous path of massive borrowing and spending. The spending is directed and channeled towards projects and activities that will not contribute to either enhancing the productive or the competitive capacity of the economy. The key beneficiaries are likely to be a small coterie with links to the Barisan.

Lim Kit Siang

The Budget presented by the Prime Minister was a eulogy for the death of the New Economic Model. It provides a clear confirmation that this Government is incapable of living up to the rhetoric of reform that it had vigorously promoted over the past year.

The slogans and feel good speeches crafted by highly paid spin doctors have not been translated into clear action programs. The divided and weak BN Government remains mired and has now demonstrated its inability to deliver upon its promises of change.

The Budget marks the return to failed economic policies of the past. The Mahathir Economic Model built around mega projects, crony capitalists as key players, bailouts and handouts is once again alive and returns to haunt the nation.

The Budget yet again demonstrates that this administration is incorrigibly incapable of drawing lessons from the past and persists with policies that have entrapped Malaysia in the middle income trap.

The Budget for 2011 has all of the attributes of a blunt tool for distributing public funds to UMNOputras, BN cronies, and vested groups that constitute the vote bank of the Barisan.

The distribution of public resources is to be achieved by way of granting mega projects to UMNOputras and cronies, new and additional perks to the 1.2 million public servants and party hacks that feed at the public trough.

The timing is indeed not a coincidence as it is ahead of the impending General Election. In brief, the Budget is more than just a throwback to the discredited Mahathir era of mega projects, bailouts, piratization of public assets and rampant corruption.

The Budget will not only return the nation to that tragic era of bad governance but put it on a path to economic disaster in the medium term.

Underlying Budget Strategy

The Budget provides in rather stark terms confirmation of the fact that the Prime Minister is indeed consistent.

After having used the technique of dishing out grants and “projects” in recent by-elections in a desperate attempt to win, he is now resorting to the use of the same methods to win the GE 13.

The only difference is that what was practiced at a “retail” level is now being translated into a “wholesale” activity to blatantly buy the next election.

The announcement of multiple mega projects with little economic rationale, and the handing out of perks to particular constituencies and interest groups is nothing but a magnified and enlarged game plan to win the next election at all costs. Party interest is placed ahead of the national interest.

The Prime Minister stated in his speech that the “era of Government knows best is over” and referred to the so-called consultations in the formulation of the Budget. These consultations were nothing but process-driven and largely concentrated on the identification and confirmation of projects of benefit to UMNOputras and BN cronies.

No consultations were held with the State Governments. Neither the BN nor the Pakatan state governments were engaged in a dialogue, giving a lie to the statement that the Federal Government no longer takes the position that it knows best.

The much promoted NEAC analysis and recommended policy reforms under the rubric of the New Economic Model have been totally ignored in the formulation of the budget for 2011. Indeed, the only reference to the NEM is in this preamble to the speech.

The Budget presented on Oct 15th is singularly silent on the issue of key reforms needed to restore competitiveness, provide the basis for the private sector to assume the lead role in spearheading economic growth and transformation, and place Malaysia on a path that would permit it to escape the middle income trap by the end of the next decade.

Recent Economic Performance & Prospects

In the formulation of the Budget for 2011, the Prime Minister made the claim that the Malaysian economy had recovered from the global economic recession.

In an act of self congratulation, he attributed this to the proactive measures taken by the Government through the RM 67 billion stimulus package. He however failed to acknowledge that other countries in the region had performed equally well or even exceeded Malaysian performance.

The statistics he cited refer to the short term and are soothing. However, he made no mention of the challenging issues that will determine the medium term performance of the nation’s economy.

He appears to be suffering from a bout of amnesia about the need to address the issue of subsidies and to achieve fiscal balance.

He appears to have chosen to sweep under the carpet the entire issue of needed fiscal and structural reforms which were highlighted by the International Monetary Fund during the 2010 annual Article IV consultations.

The consultations had stressed the need to take steps to support the recovery and the priorities for structural reforms over the medium term. On the issue of Fiscal Policy, the Fund argued that “budgetary gains would prove transitory, however, if the broader agenda of fiscal reforms remains unfinished.”

The IMF report touched on the various steps announced by the Government – the 1Malaysia program, the Government Transformation Program, the Economic Transformation Program built on the New Economic Model, (NEM) and the Tenth Malaysia Plan, (10MP).

It is most significant that the IMF was blunt in stating its assessment. It stated: “Development policies have been dressed in rhetoric before but the sense of urgency seems higher now than in the past.” This is a rather remarkable and blunt statement and points to a question about the credibility of the Government.

The Prime Minister projected optimism about growth prospects in the year ahead based on the recovery in the global economy coupled with private investment and consumption expanding by 10.2% and 6.3% respectively.

These assumptions are highly speculative when account is taken of the continuing fears about a double-dip in the global economy.

The Prime Minister has chosen to ignore the IMF’s assessments. The Fund in its report is pessimistic about a pronounced recovery in the year ahead in private investment, given still unused capacity. The Fund had noted that capital expenditure of public enterprises is expected to pick up.

Thus, the prognosis is for government induced investment rather than the private sector providing the impetus for growth. These trends are indicative of the fact that public investment is likely to be the dominant factor as in the past.

It is significant that the Prime Minister did not deal with the issue of declining FDI flows and how he proposes to reverse these trends.

Looking ahead, the IMF report mades the following comment: “The outlook for the medium term depends on the scope and speed of the government’s own economic transformation program”.

Further comments in the report suggest that the Fund does not have much confidence in full and speedy implementation of reform measures. This interpretation is supported by the fact that the Fund sees the external imbalance reflecting impediments to investment and high precautionary savings, which current policies address only partially.

The ostrich-like approach adopted by the Government in reacting to these issues in the formulation of the Budget for 2011 is further magnified by the fact that no attempt has been made to acknowledge the critical issues the economy faces, inter alia : continued weaknesses in FDI flows, significant capital flight, loss of human capital and policy paralysis brought about by the demands of reactionary vested interest groups opposed to reforms.

In his speech, the Prime Minister stated: “To attain developed nation status, we cannot remain complacent. We must change our mindset. Business is not as usual. Success demands drastic changes, not incremental. It requires a quantum leap. The choice before us is clear. Change is not an option but an imperative. We must change or risk being left behind.”

These are fine words. There can be no disagreement with this statement. However, the speech offers no evidence of this rhetoric being transformed (to use a rather fashionable term that has entered the Government’s lexicon) into actionable programs.

The Prime Minister, for instance, has gone totally silent on the issue of subsidies and the broadening of the tax base and gaining control over unsustainable budget deficits.

Indeed, new subsidies and numerous handouts have been incorporated into the Budget.The Government has yet again ignored the opportunity to seriously address the need for measures that would result in economies that would result from improved procurement as well as cuts in discretionary spending and transfers.

In a speech of 34 pages there is not a single reference to these issues. It is appropriate to ask: Why this deafening silence? How is this consistent with the Prime Minister’s rhetoric about not being caught in the business-as-usual syndrome?

The report made the following pointed criticisms of Government fiscal policies:

• “Fiscal risks in Malaysia have grown over the years. Policy has been pro-cyclical in good times, setting the stage for unprecedented deficits when budget support was necessary during the crisis. Increased dependence on oil revenue further undermines the public finances.”

• “Consolidation is needed to reconstitute room for maneuver and forestall market concerns”.

• “Budgetary gains will prove transitory, however, if the broader agenda of fiscal reforms remains unfinished.”

• “Savings can be achieved by rationalizing subsidies and tax structures. Political realities suggest that subsidy reform needs to be gradual but sustained. The sooner it starts the better. The broad approach under consideration—centered on periodic reductions of key subsidies with compensatory cash transfers to the most vulnerable groups—seems broadly appropriate, provided that reform fatigue does not set in.”

It is legitimate to ask the Prime Minister how and when he proposes to deal with these issues.

The Pivotal Role of the Private Sector

Much was made in the ETP presentation about reinvigorating private investment, with 92% of the total projected investment of US$444 being investment by the private sector. These expressions are repeated in the Budget Speech. However no details have been provided as to how this target is to be achieved.

The speech tantalizingly offers the suggestion that the Government will intensify the Public-Private Partnership to “… enhance private sector involvement in economic activities” To this end the Government proposes to invest RM 1 billion from the Facilitation Fund in support of several infrastructure projects.

On the one hand the formulation is built upon the notion that the private sector will be unleashed; and yet the ETP is in reality a top down creation. PEMANDU is seemingly picking “winners” and it would imply that Malaysia is about to embark upon a new form of central planning to get to highly untenable targets.

The approach contradicts the very notion that the private sector will be freed to make investment decisions without interference from the Government. A grave omission in the ETP is the singular lack of an articulation of changes in the policy regime to arrest corruption, increase competitiveness and transparency in procurements, introduce meaningful safety net programs, rationalize labor market policies including the adoption of a minimum wage policy and the abolition of anti-competitive measures, e.g. APs.

The PPP modality appears to be a thinly-disguised mechanism to overcome certain obstacles. The mechanism will enable GLCs and crony corporations to gain approval of mega projects. These entities will then receive government guarantees (as in the case of the PKFZ project) to borrow from the government controlled commercial banks and other financial institutions such as the EPF and Khazanah Nasional . It is patently clear that even the largest private sector firms are not in a position to go ahead with the projected mega projects on their own.

The private sector investment program has been woefully inadequate. Private investment grew only 2 per cent on average between 2006 and 2010 but is projected to be 10.8 per cent of GDP this year and 11.3 per cent of GDP next year The so-called private sector driven investment remains a mirage; it is the GLCs and crony corporations that will be the main players acting on behalf of the Government. This is akin to a ponzi scheme and the end result will be the Government assuming large off budget contingent liabilities. These hidden liabilities will permit the Government to claim that the budget deficit is under control.

It is becoming increasingly apparent that there is no intent to adopt a true New Economic Model. The path being taken, to put it simply, is one that represents a return to the era of mega infrastructure and “feel good” projects undertaken by the Government in an indirect manner via GLCs and crony corporations.

Much has been made of several mega projects. The MRT project, projected to cost RM 40 billion, will if the past is any guide, cost considerably more with massive cost overruns. This will indeed be the case in respect of all of the other construction and infrastructure projects.

Again based on history, the operators of the system will receive firm government guarantees or be subsidized from public funds. Much the same can be said about the Hi-Speed Rail link to Singapore. It is highly questionable that there is an established economic viability for the project. The Sungei Buloh project represents yet another construction project that will utilize public funds and contribute to further congestion in the Klang Valley.

The Warisan Merdeka development scheme has been much derided by the public. It represents a gross misuse of much needed capital. This together with other commercial development of real estate in the Klang Valley will inevitably create a huge glut in real estate space. Asset bubbles of these kinds inevitably lead to crisises.

Revitalization of the financial sector will demand more than what the Prime Minister outlined. It is time for privatization of banks. The sector is dominated by government owned banks thus permitting directed lending to GLCs and friends of the BN. Small and medium sized enterprises are disadvantaged. If the private sector is to prosper, finance for these SMEs is critical and yet the Budget makes little or no provision.

True divesting by GLCs is unlikely as the existing GLC holdings are shuffled around. A case in point is the deal associated with PLUS wherein EPF and Khazanah acquire the former.

The Prime Minister’s announcement that GLICs will increase investment in overseas markets is at odds with national objectives. The intent to increase the EPF’s overseas investments from 7% to 20% is a strong endorsement and official support for capital flight. It is illogical to send capital abroad at a time when resources are needed to upgrade the capacity of the domestic economy and improve its competitiveness.

The intent to enhance and upgrade the Electronics industry is laudable and long overdue. However, the approach taken is merely throwing money at the activity. This approach is unlikely to yield the desired outcome. What the industry needs is a strong injection of skilled workers.

As the domestic educational system is incapable of churning out a sufficient number of workers, and Malaysians acquiring such skills overseas are unwilling to return, the only option is to liberalize the hiring of high skilled foreign workers at internationally competitive wage rates.

It is time we emulate and learn from the practice of Silicon Valley firms who attracted skilled professionals from East and South Asia. It does appear that the Government has an overall and integrated policy. The much hyped Cyberjaya project continues to languish after more than a decade in part because of shortages of skills.

The Prime Minister announced a slew of tax concessions and incentives to advance the adoption of Green Technology. The practice of including tax and other incentives in the Budget has become an annual ritual.

If the past is any guide, there is hardly any assurance that investors are attracted into investing on the basis of such inducements. The overall investment climate, government policies, the creation of a competitive environment free of corruption constitute important factors that enter into investment decisions.

The failure to act upon these aspects is a negative factor that plays a major role in investment decisions. Furthermore, the fiscal cost of these incentives and tax breaks weighs heavily on fiscal stability. It is time that the Government reviews the entire strategy of giving generous incentives which do not have the requisite outcomes.

For invigorating the agricultural sector, vast sums are to be allocated. Here again, it is pertinent to ask why the public sector needs to intervene. This is inconsistent with the notion of letting the private sector taking a lead.

The multiplicity of expenditure proposals announced by the Prime Minister in sector after sector is indicative of the overwhelming role Government proposes to play. For instance the proposal to construct hotels and resorts in remote areas is clearly something the Government does not need to undertake. Such projects are best left to the private sector. An approach that leads to government interventions of this kind will stifle private sector initiatives and lead to the creation of a command economy overseen and managed by bureaucrats. These actions are clearly in contradiction to the highly trumpeted goals encompassed by the NEM that envisage the private sector leading the growth effort.

The intent to provide funding for replanting oil palm plantations and to support oleo derivatives is a highly questionable use of public financial resources. These allocations are tantamount to the provision of subsidies to producers or the granting of corporate welfare payments. By acting in this manner, the Government is placing Malaysia in danger of attracting WTO sanctions.

Among the other proposals that the Prime Minister unveiled, mention must be made of the intent to amend the Bankruptcy Act of 1967 by introducing “ … provision relating to relief mechanism for companies and individuals with financial problems.” This would appear to be an opening of the door for future bail outs for cronies of the BN.

Among the few tax measures announced in the Budget was the raising of the service tax from 5% to 6% and its application to television broadcasts. This sly tax effort is nothing but a meek effort to introduce the much debated GST by stealth. The Government appears to want its cake and eating it at the same time.

The announcement that toll charges on the PLUS operated highways shall be frozen appears generous to consumers on the face of it. In reality PLUS will continue to be compensated by the Government at the tax payers’ expense. The appropriate step that the Government needs to take is to renegotiate all existing toll concession agreements with the respective operators.

Human Capital Issues

The allocations announced in the Budget for human capital development are indeed impressive. However, the question arises if the nation will get value for its money. There can be no denial of the fact that the Malaysian educational system is in disarray.

Standards have fallen dramatically. Our universities turn out graduates who lack rudimentary skills demanded by employers thus contributing to low productivity and loss of competitiveness. Our secondary school system is in disastrous shape.

Those who are charged with educating the next generation of Malaysians to be responsible citizens are more interested in promoting race hate as recent episodes of misbehavior by teachers highlight.

The lack of an adequate reaction from the top echelons of the Government has sent a strong signal to others in the educational system to project the message of hate that BTN promotes with impunity. These despicable acts and patterns of behavior give credence to the notion that the 1Malaysia slogan is nothing more than a catchy slogan devoid of meaning or sincerity.

Creating a skilled, innovative and knowledgeable work force demands a major revamping of the existing system. The Prime Minister gave no indication that a rethinking is contemplated.

The fact that the country is entrapped in the middle income trap can in large measure be attributed to the fact that the current educational system and labor market policies have been inappropriate. It is clear that without a fundamental change in these areas the country faces the prospect of remaining a middle income country.

The Prime Minister made much of the fact that efforts are being made to attract Malaysians working abroad to return to the land of their birth. The establishment of a Talent Corporation has been announced with great fanfare. It is far from clear how and what it will do.

There is hardly any recognition of the fact that Malaysians migrate partly in search of a better quality of life and higher incomes. What is becoming increasingly evident is that race polarization and increasing intolerance are emerging as negative factors that encourage migration and discourage a return to Malaysia. It is most sobering to note that the Government has yet to acknowledge the need for addressing the root causes.

The Prime Minister made reference to the fact that 375 native English speaking teachers will be hired to enhance the teaching of English. This proposal is somewhat laughable as the number involved is minute in relation to the demand.

If the Prime Minister and his Deputy, the Minister for Education are sincere and acknowledge the role English plays in commerce and industry and the modernization process, there is a need to mount a crash program.

The Government should promptly hire 1000 lecturers to train existing secondary school teachers in the teaching of English as a second language. Other steps worthy of consideration would be to making a pass in English in the MCE a requirement; all undergraduates be required to pass a course in English.

Again large allocations have been made for programs for Intensifying Training and Skills. A new program (1Malaysia Training Program) has been added. There is no indication that these multiplicities of programs have had a favorable impact. There is a clear need to review and evaluate these programs and to ensure that they are effective in meeting new goals and objectives of national policies.

The proposed establishment of a National Wage Consultation Council as the main platform for wage determination represents a modest and belated attempt to bring greater equity in the determination of wages.

For far too long the Government has indulged in policies that favor employers. Its labor market policies favoring the inflow of low wage migrant labor have contributed to a suppression of wage levels and pushing many working Malaysians to below poverty income levels. These distortions have become serious and require rectification. Time will tell if the new Council will contribute to correcting these anomalies.

The ad hoc setting of wage levels for different occupations such as security guards, postmen etc that the Prime Minister cited raise an issue of equity. It is hard to rationalize why there should be different minima for different occupations and these minima are either close to or even below the poverty line. In setting a minimum wage, it is imperative that wage levels be not near or below the poverty line.

Budget expenditures

The Budget for the year ahead calls for an expenditure of RM 212 billion and is 2.8 percent higher than in 2010. There is however little doubt that the final outturn will exceed by a sizable margin the budgeted amount when customary Supplementary Allocations are taken into account. The projected reduction in the deficit to 5.4% from 5.6% is not likely to be met. It is also important to note that expenditure increases of the order of 2.8% are unrealistic when account is taken of likely inflation in the range of 2 to 2.5%. That expenditure in real terms will increase by only 1% stretches credibility to the limit.

It is to be noted that the expenditure proposals generously allocate funds to Federal Government controlled projects. The Prime Minister’s speech was eloquently silent on the amounts that are to be transferred to the various State Administrations. Federal revenue sharing in the face of major structural changes appears to be wholly ignored.

The revenue projections call for an increase of 2.3% in current price terms. Several comments are in order. Firstly, it is most odd that revenue growth will be slower than GDP growth. GDP at current prices is likely to be of the order of 7 to 8 percent. It implies that tax revenues will not keep pace and point to large leakages in tax collections. That expenditure growth will outpace revenue growth is most telling. It signifies that prudent budgeting principles are being set aside in the interests of short term expediency. The much touted goal of bringing the deficit under control is thus unlikely to be achieved. The Mahathir model of large deficits continues to drive economic policy.

The fiscal picture presented in the Prime Minister’s speech is far from transparent. No indication is given of the large hidden off budget transactions. Nor is there even a hint of the increase in contingent liabilities that the Government will assume via the granting of loan guarantees. The lessons from the PKFZ fiasco have yet to be learnt.

What the Prime Minister failed to disclose in his speech was that net domestic borrowings by the federal government would rise to RM51.1 billion in 2011, from RM36.5 billion in the current year. A 40% jump in net borrowing and the lack of disclosure of this fact in the Budget Speech is not an oversight or non-disclosure of a fact of insignificance. The concealment is a clear example of lack of transparency and accountability. The nation is being misled and lulled into a false sense of wellbeing.

Conclusion

Short term political objectives are being placed ahead of the long term needs of the nation. A weak and divided Government is being driven to adopt failed and disastrous policies of the past. Reforms are being obstructed by vested interests whose narrow agenda is without vision. The nation’s path to the future and its destiny cannot and must not be set by yesterday’s men. If this path is pursued, Malaysia tragically is headed towards the same situation as faced by Greece in its recent economic crisis. A crisis of that nature will result in deep austerity, a falling of living standards and the destruction of wealth.

Malaysia must move away from that path to the precipice and must instead embrace reforms that will lead the country to a higher plane.