Fitch Ratings has affirmed Malaysia’s Long-Term Foreign-Currency Issuer Default Rating (IDR) at ‘BBB+’ with a Stable Outlook.
In a report released today, the ratings agency said Malaysia’s ratings balance a diversified economy with strong medium-term growth prospects against high public debt, a low revenue base relative to operating expenditure, and political considerations that may hinder long-term policymaking and reform implementation.
The 2024 budget remains slightly expansionary with a federal government deficit target of 4.3% of GDP in 2024, in line with the estimated 2023 deficit, excluding a 1MDB bond repayment from development expenditure. The authorities expect development and operating expenditure, excluding subsidies and social assistance, to rise by 17.1% and 6.4%, respectively. Estimated gains from revenue-raising measures, such as a capital gains tax on companies’ disposal of unlisted shares and raising the service tax to 8% from 6%, are small, at around 0.3% of GDP.
Operating expenditure (15%-16% of GDP) is rigid with 60% channelled to payrolls, pensions and debt-servicing charges. The authorities are seeking to reduce broad-based subsidies and compensate the low-income groups with targeted cash assistance. The government projects subsidies and social assistance to decrease by 17.9% to about 2.6% of GDP in 2024 (2023 estimate: 3.3% of GDP).
The government has started cutting electricity subsidies in 2023 and also plans to implement rationalisation of diesel subsidies in phases in 2024. The government recently lifted price controls on chickens but kept those on eggs. Malaysia’s fuel subsidies are particularly costly (2022: 2.9% of GDP), but no details on reducing gasoline subsidies have been announced yet.
Gradual Medium-Term Fiscal Consolidation: The medium-term fiscal framework projects an average federal government deficit of 3.5% in 2024-2026 and the recently passed Public Finance and Fiscal Responsibility Act mandates the federal government deficit to fall to 3% of GDP in the next three-to-five years. We project the federal government deficit to further decline to 3.5% in 2025 amid further subsidy rationalisation and the rollout of the global minimum tax.
In addition, we forecast the general government deficit to narrow to 2.8% of GDP in 2025 from an average of 5.2% of GDP in 2020-2022. We expect fiscal adjustments such as a broad and immediate removal of subsidies and the introduction of broad-based consumption taxes to be politically challenging in the near term, as the government balances interests within the ruling coalition and seeks to garner support from voters.
High Debt: Gradual fiscal consolidation in the 2024 budget supports a moderate drop in general government debt in the medium term. We estimate general government debt to slide to 72.3% of GDP in 2023 (2022: 72.8%), although higher than the 54.9% ‘BBB’ category median. Our debt figures include committed guarantees on loans taken by government-linked companies that are serviced by the government (12% of GDP at end-June 2022). 1MDB net debt fell to MYR5 billion after a USD3 billion redemption in 2023. We expect the remaining to be serviced by future receivables in the recovery fund.
Growth Driven by Domestic Demand: We expect real GDP growth to moderate to 4.0% in 2023 and 4.2% in 2024, from the post-pandemic rebound of 8.7% in 2022. Exports will still face headwinds from weak global demand and trade restrictions. Wages and expansion in investment activity should underpin resilient domestic demand. The authorities have introduced several development initiatives guided by the Ekonomi MADANI framework, including an industrial policy masterplan and energy transition roadmap, but it is still early to assess the projects’ implementation and impact on growth.
Upside Risks on Inflation: Price controls and subsidies have kept year-to-date inflation contained at around 2.7%. We forecast headline inflation to average 3.0% in 2024, which is subject to upside risks from more substantial subsidy rationalisation than we expect, higher global commodities prices, as well as exchange-rate depreciation pressure. The authorities recently announced a pilot project planned for June 2024 on a yet-to-be finalised progressive wage policy and expect a full rollout of the programme, likely after December 2024, to add 0.2pp-0.6pp to inflation.
Improved Political Stability: The formation of the unity government with a two-thirds majority in parliament has led to greater stability over the past year, helped by an anti-hopping law that prevents members of parliament from switching parties. However, the coalition partners’ interests vary and the anti-hopping law allows parties and blocs to collectively change their allegiance. We expect political considerations to continue to weigh on the prospects of any controversial reforms, particularly related to public finances.
Current Account in Surplus: Malaysia has recorded current account surpluses for more than two decades and we expect the current account to remain in surplus in the medium term, despite near-term external challenges. We forecast the current account surplus to narrow to 2.6% of GDP in 2023 from 3.0% of GDP in 2022. Malaysia is well-positioned to benefit from the global supply-chain diversification with its competitive manufacturing sector, and FDI inflows have picked up noticeably since the reopening of the economy in 2022.
External Liquidity Relatively Weak: The low share of foreign-currency debt, at about 2% of total government debt, supports Malaysia’s external finances. Malaysia’s exposure to foreign financing risk mainly arises from high short-term debt (more than 25% of GDP), although a significant portion is stable intra-group borrowings. Non-resident holdings of domestic government bonds are high (22% of total as of 3Q23) but mostly stable, partly reflecting the deep and well-developed domestic bond market. Liquid external assets were 96.4% of liquid external liabilities, below the 2022 ‘BBB’ median of 152.2%.
ESG – Governance: Malaysia has an ESG Relevance Score (RS) of ‘5[+]’ for both Political Stability and Rights and for the Rule of Law, Institutional and Regulatory Quality and Control of Corruption.
Malaysia has an ESG Relevance Score of ‘4[+]’ for Creditor Rights as willingness to service and repay debt is relevant to the rating and is a rating driver for Malaysia, as for all sovereigns. As Malaysia has track record of more than 20 years without a restructuring of public debt and this is captured in Fitch’s SRM variable, this has a positive impact on the credit profile.
