Malaysia Budget 2018: Preparing for future: Investing in economic growth and innovation

Agenda

• 2018 Budget orientation
• Budget 2018: Revenue and spending priorities
• Budget 2018 highlights
• Analysis of key tax, incentives and initiatives
• Commentary and conclusion

2018 Budget: Overall commentary and conclusion

Overall Budget stance

• It is a pro-growth Budget for sustaining economic growth and building for future. The Budget laid the groundworks for a much needed boost to Malaysia’s productivity and innovation by investing in the pillars and drivers of quality growth such as digitalization, e-commerce, skills, entrepreneurship and infrastructure.
• Clearly, the Budget has to find a fine balance between short-term priorities and longer-term needs. Targeted interventions in the form of cash handouts, financial assistance, and tax cuts were needed to ease cost of living pressures, address housing affordability, accessibility of public transport.
• Medium-to longer term, it was welcome to see proposed investments to build accessibility and connectivity (rails, ports, airports and broadband networks), incentives to draw domestic investment in new areas of growth (medical tourism, digital economy, logistic, Halal industry, ecommerce), as well as incentivize SMEs to adopt Industrial Revolution 4.0.
• The Government has clearly signaled that it aims to re-position Malaysia for the future by building an innovative and connected economy. Our companies must develop and build deep digital capabilities, embrace innovation and scale up to compete in global marketplace.
• Investment in human capital formation and skills enhancement with the proposals of providing cross-skilling, upskilling and reskilling programs is a welcome emphasis, to prepare and equip our young people for the future world of work with the relevant skills and knowledge put our workforce and academic pathways on more equal terms.

Economic growth and budgetary operations

• The Ministry of Finance’s economic growth estimates of 5.2-5.7% this year and 5.0-5.5% for 2018 are in line with our estimates (2017E: 5.5%, 2018F:5.1%). What could cause these estimates off tangent are: i) unsustainable global growth inflicted by the impact of the Fed’s interest rate hikes and shrinking of balance sheet; and ii) consumer spending succumbs to rising cost of living while private investment lost growth traction due to increased cost of doing business and ahead of the GE14.
• Going by the pace of fiscal consolidation, it is unlikely to meet a near-balanced fiscal target (- 0.6% of GDP) by 2020. Hence, the fiscal stability program must be continued when the economy is a position of strength.
• While maintaining pro-growth fiscal consolidation, making impact where it matters in terms of sectoral allocation has never been more relevant. As such, the Government should resolve to curtail leakages and wastage spending as well as curb excessive growth in non-core and recurrent areas. Prioritizing of expenditure is a must. A system of financial control on budgetary allocations to ensure expenditure is not incurred in excess of the budget allocation.
• Federal Government’s contingent liabilities (RM219.4bn or 16.3% of GDP at end-June 2017 (RM187.3bn or 15.2% of GDP at end-2016) and Malaysia’s external debt (RM877.5bn or 65.2% of GDP at end-June 2017; end-2016: RM916.1bn; 74.5%) must be closely monitored.
• For operating expenditure, the elephant in the public spending war room was what to do about the two big areas of spending – emoluments and retirement charges. How long will it be before they become unsustainable?
• While the Budget gives recognition to 1.6 million public servants or 11.1% of total employment, it is rightfully to deliver an efficient public delivery service while keeping a lean size, supported by the E-Government services. Expedite the full-fledge E-government services mean better productivity and processes efficiency as well as an optimal size of civil service. Public sector’s agility to cope with future changes alongside a focus on delivering better.
• Between 2011-17, emoluments grew by 7.8% pa, pushing its share of total revenue to 35.8% of total operating expenditure in 2017 from 27.5% in 2011. In 2018, the budgeted emolument is RM79.1 billion, excluding the special payment of RM1,500 to public servants and RM750 to pensioners, which may cost about RM3 billion.
• Other expenditure restraint measures are the phased implementation from a defined-benefit to a defined-contribution of public sector pension (retirement charges increased by 10.8% pa to reach 10.8% of total operating expenses in 2017 from 7.4% in 2011. The retirement charges are budgeted to rise by 3.8% to RM24.6 billion in 2018); continued stringent enforcement of competitive tendering of public supplies and services; reprioritizing of expenditure in non-core areas and a review of grants to statutory bodies.

Budget initiatives and measures

• Overall, the proposed measures and initiatives are expected to support the growing economy, elevate the cost competitiveness via better accessibility and connectivity as well as draw investment into high impact industries, namely petroleum, logistics, aerospace, rail, robotics and automation, and export-oriented industries.
• The services sector, which contributed 54.5% of GDP; 17.6% of total exports of goods and services, and 8.8 million employment is given a wide range of incentives and non tax initiatives to accelerate the expansion of sub-sectors, namely tourism, medical and healthcare tourism.
• A substantial allocation of the Budget is given to the SMEs to scale up their technological advancement, embrace Industry Revolution 4.0, automate production processes as well as to strengthen exports capability, including expanding export markets.
• Affordable houses remain in focus. With the households’ income growth not catching up in pace with house prices, making median home prices unaffordable to the low-and medium-income home buyers, both the public and private sectors must increase more supply of affordable homes. The Government should consider measures to lower the cost of construction, including a review of charges, namely high capital contribution and compliance costs that developers have to bear when developing a project; and a wider adoption of IBS.
• Higher budget allocation for the healthcare sector is deemed necessary to provide better and affordable healthcare services. Besides encouraging more involvement of private healthcare services, a feasible study on a National Healthcare Scheme could be considered.

What's missing from the Budget 2018

• The 2018 Budget is short of announcing a roadmap to lower the corporate income tax rate so as to align Malaysia’s tax structure with its regional peers. The worldwide trend is to move towards a simpler and more competitive tax rate. Even the advanced countries are jumping on the bandwagon to lower their corporate tax rates. This shows a growing consensus against the disruptive and detrimental impact of excessive direct taxation.
• In Budget 2017, the company income tax rate was reduced by 1% to 4%, based on percentage increases in chargeable income (between 5% and 29%, or more) compared with the immediate previous year of assessment. This new tax rate structure applies for the years of assessment 2017 and 2018. However, the incremental impact is less effective.