Budget 2019 and its impact on economic outlook

The 2019 Malaysian Budget will be presented on 2nd November 2018, where the proposals will be seen as a follow up to the directions and strategies set out in its mid-term review of the Eleven Malaysia Plan (11MP). This will also reaffirm and establish Government’s commitment towards new policies and reforms, such as enhancing the wellbeing of the people, especially the bottom 40% of the household income group (B40), as well as achieving inclusive growth through promoting and accelerating innovation (such as Industry 4.0, among others), boosting productivity, and moving up the value chain of manufacturing industries.

There are currently too much pessimism by investors on the Malaysian economic outlook and the Ringgit performance. We believe economic growth will be sustained at the higher end of the range between 4.5-5% in 2019 (5% in 2018). We expect the current account surplus to remain substantial, and continue to be a feature of economic fundamentals in Malaysia, together with a healthy international reserves level. We expect the Ringgit to appreciate gradually against the US$, strengthening to RM4.00-4.10/US$ by end-2018 (RM4.18/US$ currently) and by RM3.80-3.90 by end 2019.

Factors supporting economic growth
1) With the abolishment of GST, the current Government is foregoing close to RM43bn in GST revenue a year, while the SST tax collection is targeted to generate about RM24bn a year. As a result, the difference of about RM19bn shortfall in revenue collection from indirect taxation (projected for 2019) will add to household disposable income, by putting money into the pockets of Malaysian consumers, therefore supporting consumer spending next year.

2) Recall that the current Government announced RM35bn in unpaid tax refunds that were notdisclosed by the previous government (about RM16bn in income tax and real property gainstax and about RM19.4bn in unpaid Goods and Services Tax (GST) claims to businesses). MOFassured that the tax refunds would be repaid to the companies and individuals, either nextyear or in following years, which may be one-shot settlement or staggered payment. Forexample, when businesses receive the tax refund, this would also be a direct stimulus on the economy, especially on capital expenditure.

3) Due to the abolishment of GST and reintroduction of SST, we believe most businesses will now have an improved cashflow, as they will no longer have to pay for the consumption tax and wait for input tax refund if the input tax is higher than the output tax. The improved cashflow by businesses will lead to a better business condition and should further increase the expansion capacity of the private sector. This will eventually boost hiring activities and
increase job opportunities in the market, ultimately leading to a higher private consumption and investment activity.

4) Most of the operating expenditure will be channelled for emoluments, pensions and debt service charges, and likely to continue to increase on an annual basis. Federal Government spend about RM8bn a month on emoluments and pension payments (roughly about RM96bn a year), and with marginal propensity to consume (MPC) out of disposable income for Malaysian households, especially civil servants and pensioners, remained high and be
supportive of private consumption.

5) Under the previous Government’s Budgets,since 2012, eligible groups/households were given cash assistance (such as RM1,200 to households with a monthly income of below RM3,000), (Bantuan Sara Hidup or People’s Living Aid), which we believe will be restructured in Budget 2019. The current Government has mentioned previously that they are likely to review and restructure the scheme to ensure the fund are properly channelled to those in needs. Number of recipients to benefit will likely be reduced, compared to about 7m recipients before.
Therefore, the allocation will be less than RM6.8bn, but will remain substantial to support private consumption.

6) In the Mid-Term Review of 11MP, the allocation for development expenditure’s ceiling over the five-year periods from 2016-2020 has been cut by RM40bn from its original plan target of RM260bn to RM220bn, which will translate to an average spending of RM44bn per annum vs. RM52bn p.a. in the original plan. Although the cap amount is reduced, it is still higher than the average actual development spending in 2016-2017 at RM43.4bn. We believe all this amount will be spent, and if Government expedites implementation of projects towards 2019,
and at RM44bn per annum, we believe that development expenditure still plays an important role to sustain the country’s economic growth, especially on investment.

7) Current government acknowledged that small and medium enterprises (SMEs) are an integral part of the economy in terms of production, employment generation and facilitating equitable distribution of income. For Budget 2019, we believe key areas of focus will likely remain on these five categories i.e. financing, marketing, human capital, infrastructure and business premise development and technological advancement. We expect budget allocation for SMEs for training programmes, grants and soft loans.

8) In an effort to boost the economy and encourage higher value-added investment activity, we believe there will be a restructuring exercises on the tax incentives given by Government to provide stimulus for the development of strategic sectors in the economy. Sectors relating to the fourth industrial revolution, from digital to sharing economy are likely to be the main beneficiaries of the new tax incentives while sectors that are becoming obsolete is likely to
see abolishment in the tax incentives.

Government fiscal deficit target may likely be ‘reset’ to higher level. Government already noted that the fiscal targets will be flexible to shore up growth, where the fiscal deficit is expected to be above the initial fiscal target set by the prior Government before reverting to the fiscal consolidation path. Taking into consideration the unpaid tax refund and revenue foregone from the abolishment of GST, based on our own estimate, the Federal Government will likely
incur a larger revised budget deficit of 3.6-3.8% of GDP estimated for 2018, and a deficit of 3.3-3.5% of GDP projected for 2019. Measures will be taken to strengthen the Government’s medium-term fiscal position, among others by strengthening the management of public debt and accelerating institutional reforms. Thus, the Government is targeting its fiscal deficit to be at 3% of GDP by 2020.

Following the possible reset in the country’s fiscal deficit target to a higher level, we believe thecurrent Government need to be committed to fiscal discipline and to ensure that the country’s budgetary position will not get larger due to possible shortfall in tax revenue receipts, especially from direct taxation. Revenue sources from direct taxes are vulnerable to external influences and can fluctuate in response to the ups and downs of world economic situation.
As a result, we expect no reduction in corporate tax rate in 2019 Budget given the budget constraint.

Digital tax and change in tax incentives could possibly be announced. In the Mid-Term review of the 11th MP report, the Government had highlighted that it may be considering imposing a tax on online transactions involving e-commerce and sharing economy activities. Digital tax is mainly focused on overseas service content providers, where if implemented, the digital tax will likely tax foreign suppliers on digital platforms amid the expanding presence of
foreign service providers ranging from search, social networking, online advertising, ride-and accommodation-sharing services as well as digital music streaming. We believe this may help to expand the tax base to include customers of foreign suppliers of digital goods and services who do not pay for corporate tax or SST. Currently Malaysia has a withholding tax of 10% on services rendered by a non-resident taxpayer to a Malaysian resident, including online advertisements.

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