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Economist: Slight rise in debt-to-GDP ratio to have "neutral" impact on economy

13/08/2020 11:17 AM

By Nurul Hanis Izmir

KUALA LUMPUR, Aug 13  -- A slight increase in Malaysia’s debt limit to 60 per cent of gross domestic product (GDP) from 53 per cent last year would likely have a “neutral” impact on the domestic market as economies worldwide are facing large deficit spending caused by the COVID-19 pandemic, said an economist.

Sunway University Business School economics professor Prof Dr Yeah Kim Leng said the higher debt limit, if approved, would also remain in line with international norms for developing economies although developed nations have much higher debt levels that currently exceed 100 per cent.

A paper published by the International Monetary Fund titled ‘Debt and Growth: Is There a Magic Threshold?’ stated that countries with a debt-to-GDP ratio of 90 per cent and above could experience a dramatic decline in economic growth.

“The higher counter-cyclical spending due to the pandemic combined with lower revenue will widen Malaysia’s fiscal deficit for this year and the next.

“Therefore, to finance the estimated deficit of between six and seven per cent, the government will need to increase its borrowings beyond the self-imposed debt ceiling of 55 per cent of the GDP,” Yeah told Bernama.

He said the self-imposed limit on direct debt does not affect the country's total debt load as analysts consider both direct and indirect debt obligations in assessing the country's debt sustainability.

In addition, the debt-financed spending is unavoidable due to the unprecedented twin public health and economic shocks and the ensuing global recession.


Raising debt limit to 60 per cent of GDP


Finance Minister Tengku Datuk Seri Zafrul Abdul Aziz was seeking to raise the country's statutory debt limit to 60 per cent of the GDP from 55 per cent currently.

Tabled for the first reading in the winding-up debate on the royal address at the Dewan Rakyat for his ministry last week, he said the proposal was aimed at, among others, revising the self-imposed debt ceiling.

The higher debt amount is to finance the deficit, taking also into consideration the implementation of the economic stimulus and recovery packages through direct fiscal injection, Tengku Zafrul stressed.

Elaborating further, Yeah said rather than viewing it as expansionary or austerity driven, the increase in government spending is counter-cyclical in nature to mitigate the economic shocks and even out the growth cycle as part of its role in ensuring macroeconomic stability.

“The government is not expected to face difficulties in borrowing for the deficit spending given ample domestic liquidity and surplus savings, and given its low external debt and prevailing near-zero global interest rate environment, the government can also have access to low cost foreign borrowings,” he said.

 Importantly, the projected increase in government borrowings is not expected to cause a crowding-out of the private sector in the domestic debt capital market.

Malaysia had raised its debt limit during the global financial crisis from 40 per cent in June 2008 to 45 per cent and to 55 per cent in July 2009. 


Self-imposed statutory debt level explained


In layman's term, the self-imposed statutory debt limit refers to a form of financial discipline to ensure that the government would not borrow excessively.

“It also gives a sense of responsibility and transparency as the government would need to explain why they exceed the debt limit to parliamentarians.

“This is good from the governance stand point which would put a lid on possible abuse of wastage. In some ways, it could boost confidence too in the eyes of the public, businesses and investors,” Bank Islam Malaysia Bhd chief economist Dr Mohd Afzanizam Abdul Rashid said.

He said most of the government’s borrowings are ringgit-denominated, which is about 96 per cent, so in that respect, its ability to repay its borrowings are assured as it can always raise capital via the issuance of debt instruments such as the Malaysian Government Securities (MGS), Malaysian Government Investment Issues and Treasury Bills.

These instruments are highly sought after by pension funds, insurance companies, banks, and asset managers due to its high quality and are long-term in nature, as well as very liquid.

“We could see the appetite for these instruments are very positive given that they continue to receive an overwhelming response from investors, judging from the oversubscription rate.

“Furthermore, the foreign ownership of these instruments is also quite sizeable, with foreign investors accounting for about 38 per cent ownership in MGS. Therefore, the government has the flexibility to raise ringgit-denominated borrowings and there are ready buyers for such instruments,” he stressed.


Back-up plans 


Mohd Afzanizam said the government may need to have a clear strategy to reduce the budget gap when the economy fully recovers from the pandemic especially with respect to its communication to the public.

Reducing the budget gap will involve raising the revenue and reducing expenditure, or a combination of both.

“Typically, such moves to reduce the fiscal deficit or budget gap are never popular, so the government really need to think of a strategy of how they could communicate their plans to reduce the budget (gap) when the time comes (full economic recovery)."

Asked on the rating outlook for the country, he said that it should be stable judging from the five-year credit default swap (CDS) spread which is currently around 54 basis points compared with 194 basis points when the Movement Control Order was enforced on March 18.

“The lower spread means the lower the probability of default. What the CDS is trying to tell us is that investors are quite comfortable with the government’s ability to repay its debt,” he added.

Mohd Afzanizam also said that the government should also kick start infrastructure projects such as the Mass Rapid Transit, Pan Borneo Highway, High-Speed Rail and the like in order to revitalise the construction sector which has direct links with other supporting industries such as manufacturing and services.

At the moment, the economy is flush with liquidity and promoting the construction sector could ensure the money would be put to good use.


Time to revisit the agricultural sector


The chief economist opined that the agricultural sector, especially agrofood, is worth a revisit and is poised for a revival.

He stressed that the country has always been a net importer of food which can be bad for the ringgit and domestic prices.

“The self-sufficiency level for mutton, beef, chilli, round cabbage, fresh milk, and rice stood at 11.2 per cent, 23.9 per cent, 31.9 per cent, 38.7 per cent, 61.3 per cent, and 70.0 per cent respectively as of 2018.

“This clearly shows our dependency on food imports are quite dire. Anecdotally, we have been hearing those who are out of jobs have ventured into this line.

“Perhaps, what is needed is government assistance not just in the form of monetary aid but also technical expertise,” Mohd Afzanizam said, adding this could facilitate the transition for the those who are affected by the coronavirus seamlessly.

 The sector would also need to be rebranded and given a new approach especially in the context of Industrial Revolution 4.0 wherein the proliferation of technology could boost crop production more efficiently.

 The trade deficit for agrofood stood at RM17.4 billion last year from just RM1 billion in 1995.




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