Cut subsidies in stages, economists say [BTTV]

KUALA LUMPUR: Petrol and diesel make up the largest portion of Malaysia's high subsidies bill and therefore cutting these two is the only way to ease the government's subsidies burden, economists said.

However, fuel subsidies contribute to inflation, so any reduction must be done gradually, economists contacted by Business Times added.

They agreed that targeted subsidies are transformative and will be painful in the short term but very much necessary for Malaysia's future economic growth trajectory.

Centre for Market Education chief executive officer Carmelo Ferlito opined that targeted subsidies is a radical change for the economy, which will be painful in the short term but very much necessary going forward. 

"Decades of generalised subsidies have created heavy distortions. Subsidies, which alter the system of relative prices, have become so normal that it is difficult for individuals, households and businesses to imagine a world without them, how prices would be without subsidies.

"Such a distortive mechanism has been in place for so long that it will make it difficult to adjust. So, I do believe that the government should move forward with the rationalisation, but gradually," Ferlito noted.

He added that since the mechanism to be used is still largely obscure, it would be good to start on a smaller scale.

This approach would allow for fine-tuning of the mechanism and adjustment of any potential imperfections before implementing it on a larger scale.

When asked about the timing of implementing targeted subsidies amid warnings from the International Monetary Fund about a weakening global economy, Ferlito remarked that it seems rather inevitable.

He said the real issue is that such a system should have been avoided from the start.

"The fact that people got used to it does not mean it is a good one. It is appropriate to move forward with it," he added.

Ferlito also noted that with targeted subsidies in place, prices will increase, at least in the short run. However, they will reflect the actual structure of the Malaysian economy and better exercise their information transmission mechanism.

"It will take time for the system to adjust but the sooner we start the better," he said.

Economist Dr Geoffrey Williams said cutting fuel subsidies is the only way to achieve a significant impact on the government's subsidies bill.

Putrajaya spent a total of RM62.11 billion in subsidies last year, according to the Auditor General's Report on the federal government's 2022 financial statement. For 2023, Malaysia has projected a total subsidy bill at around RM81 billion.

"The petrol and diesel subsidies should be cut in stages beginning with diesel for non-commercial customers.  This will have the least impact on the economy and inflation," Willams said.

He added that Malaysians may have to wait until later in the year to see how and when the subsidy for RON95 petrol will be removed for the general public.

This might be delayed if oil prices rise due to the current tension in the Middle East. 

"The targeted subsidies can free up RM5.3 billion to RM9.2 billion for extra social spending directed to where it is needed. So this is essential," he said.

Williams stressed that, in some senses, the timing will never be right based on growth alone; the government must consider domestic factors and the very tight fiscal position.

He said subsidies are unsustainable at current levels, so subsidy rationalisation must begin now.

"If the subsidy rationalisation is done in stages, it will have only a small impact on inflation, which has actually been falling for many months. So, any effect should be minimal and gradual, and the targeted subsidies on low-income groups through the Padu database will raise their income and help them cope," he noted.

Putra Business School economic analyst Associate Professor Dr Ahmed Razman Abdul Latiff said it is very important for the government to start managing its fiscal responsibly.

He added that targeted subsidies will allow the government to channel its fiscal towards initiatives that will have long-term impact.

"The government wants to ensure that the people will still have enough disposable income, especially among the affected groups. At the same time, the government can reduce its subsidy expenditures, especially given the potential rising of oil prices due to the Iran-Israel conflict," he suggested.

Ahmed Razman stressed that reducing subsidies will cause inflation to go up. However, since the current inflation rate is very low, the government is willing to take on the risk of rising inflation.

Yesterday, Economy Minister Rafizi Ramli reaffirmed Malaysia's intention to push ahead with its plans to reduce petrol subsidies this year to address its fiscal deficit.

He reportedly said the government was on track to concentrating its aid on helping the poor.

The minister emphasised the need to carefully manage subsidy reductions, especially with inflation risks.

He also highlighted plans to gradually phase out blanket subsidies for RON95 fuel, which consumed a significant portion of last year's subsidy budget.

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