The Subsidy Rationalisation Q n A : Economist Explained...

In order to understand economic issues facing Malaysia, WZWH like to turn to blog Economics Malaysia please click here for expert opinion.

Why DS Najib cuts subsidy? The subsidy rationalisation, Qustions and Answers : Economist explained...

Subsidy Rationalisation Rebooted

It’s about time (excerpt):

RON95 goes up by 20 sen

PUTRAJAYA: The price of RON95 petrol and diesel has been increased by 20 sen, as one of the measures to rationalise subsidies by the Government to reduce the country’s fiscal deficit.

Prime Minister Datuk Seri Najib Tun Razak announced the decision, saying that it would save the Government RM1.1bil from September to December this year and RM3.3bil annually.

Before the revision, the price for RON95 was RM1.90 per litre and RM1.80 for diesel. The [sic} price increase for RON95 was in 2010.

Let’s put this into perspective shall we?

That 20 sen cut in the subsidy is a 10% increase in the transportation fuel bill. But the petrol bill for the average Malaysian household is around just 9% of annual expenditure (actually 8.77%). The actual annual toll on household budgets is therefore just 1% per annum.

But of course, no household is “average” – mine certainly isn’t. The subsidy cut will disproportionately effect higher income households, not lower income households which spend a lot less on transportation (15.9% overall versus 12.3% for households earning less than RM3k per month). Strangely enough, rural households will also suffer more than urban households (slightly higher portion of transport costs).

To balance the distributional books even more, the annual savings from the 20sen subsidy cut is enough to almost double next year’s BR1M payout, which would more than compensate lower income households for the higher fuel burden.

This is almost precisely the kind of exit scenario I’ve been envisioning for petrol subsidies, though I would have been a bit more diligent about signalling the policy intent and timetable beforehand. Surprising the voting public is a bad idea, as the Government learned in 2008.

As to why cut and why now, average global crude oil prices jumped 5% in the last month alone, and are 15% higher over a year ago. That’s well above the average the government was planning for in this year’s budget – if the deficit target was to be met, something had to give.

Question 1: I was kinda waiting for your comment on the issues because I can't wrapped my head around the justification of fiscal deficit as argument for cutting subsidies provision. 

The argument is that by cutting subsidies we could save around RM 1.1b this year and a yearly around RM 3.3b which would perhaps be in effect next year. However, since the government decided to increase BR1M gradually to RM 1200. Suppose Starting next year they were to announce an increment of RM 250 of BR1M that would account of up to RM 1.xx billion. Not including additional budget allocation directed to the same group.

It seems to me the spending slash itself would be negated by more spending. Yes it may help those of low income earner but it doesn't really contributing anything to fiscal deficit.

Answer 1: Because the current subsidy for petrol and diesel are "blanket" subsidies, its skewed to higher income households. Overall, only 25% of government funds spent on social assistance actually goes to the bottom 20%. That's enormously wasteful.

Cutting petrol subsidies and diverting them to only lower income households means you can effectively provide the same assistance, but at half the cost or less.

I figure my wife and I are in the top 1% of income earners, yet because of the petrol subsidy, we're effectively getting RM400-RM500 a month from the government. That's public money that could be better used somewhere else.

As for the deficit problem, the government is in a bind. I believe the current hike basically just keeps the status quo as far as the subsidy outlay is concerned, because of the recent increase in global oil prices. Otherwise, there would be no way to meet the 4% deficit target, because this year's budget was built on the assumption of an average oil price per barrel of around USD100. WTI is currently around USD107, Brent crude is even higher.

Qustion 2: About comparing the price of petrol and diesel to per capita income for Malaysia and Singapore? Then one might be able to explain the queues of Singapore-registered vehicles filling up their tanks at petrol stations in Johor Bahru! 

Not just bread-and-butter vehicles, but Ferraris and Lambos, plus dime-a-dozen Audis, BeeEms and Mercs. 

On a more serious note, I wonder why it's taken the government so long to bite the bullet on the subsidies regime? The long-term viability of subsidies was always going to be an issue and a drag on government finances. 

Here, I must add that the Opposition is being both gormless and feckless in opposing the rationalisation of subsidies! 

Plugging the "leakages" is well and good. But that's something that should be done anyway. 

If we can't get it right on subsidies, then the whole issue of "fairness" goes out the window.

Answer 2: Singapore and most other advanced economies sensibly tax petrol, and if I had any say in it, we would too. As for why the government took so long, we appear to have had an election a few months back :)

Question 3: Well higher income household will be affected. But I believe the mostly affected will be the struggling urban middle income household. This is because they are the group that use as much fuel as the higher income and yet less affordable. No wonder we see why the current government failed to attract the urban and middle income voters because they are those who mostly affected by the government policies.

Answer 3: Yes, middle income households are likely to be more affected, though strangely enough, many people who think they are "middle-income" are actually in the high income bracket.