Week Ended: June 20, 2008

Postcard from Malaysia | Paying More at the Pump

I recently paid my first visit to Malaysia as part of a two-week research trip in Southeast Asia and Australia. The tropical country of Malaysia boasts world-class infrastructure, and the vibrant city life of its capital, Kuala Lumpur, is nothing short of impressive. But one thing that really caught my attention during my stay was the much-talked-about oil prices. As a net oil exporter, Malaysia has heavily subsidized its domestic retail petrol prices. As a result, its residents have paid only a little more than a third of what their neighbors next door pay in Singapore, which adopts a market-linked fuel pricing mechanism. However, the soaring price of crude oil has increasingly made Malaysia’s fuel subsidy regime more costly. Malaysia’s domestic trade minister estimated that at current oil prices the government would be spending 55 billion ringgit (about US$18 billion) on the fuel subsidy alone, equivalent to 31% of its 177-billion ringgit fiscal budget for 2008—a severe strain on the government. Not surprisingly, petrol-related news has dominated local headlines. Recent media reports have focused on various options to revising the subsidy, and have also noted that local gas stations near the Thai and Singaporean borders have stopped sales to foreign-licensed vehicles that have crossed over to take advantage of lower petrol prices.

Just a few days after I left Malaysia, however, discussions took a turn when the government announced it would reduce its fuel subsidy by raising the petrol price at the pump an average of 41%. By doing so Malaysia has joined other Asian economies, including Taiwan, Indonesia, and India, which have recently announced similar measures. For these countries, such a policy move could be perceived as risky in the short-run, as it adds more upward inflation pressure to rising commodity and food prices that are already dampening the region’s economic growth outlook. In addition, public backlash is another consequence for government officials. However, in the long-run, this change is a rather necessary step. By reducing the subsidy, the true economic and social cost of this natural resource is less distorted, which could have positive ramifications. Higher costs give people the incentive to be more conscious of their fuel consumption and reduce energy waste. Businesses would need to improve productivity and become more efficient. As for the government, it could reallocate savings from reduced fuel subsidies to other vital social welfare services, such as education and health care, to achieve an environment for more sustainable economic growth. What is equally important is that by reducing the government’s role as a middleman in the economy the “invisible hand” of the free market can now do its job. From this perspective, bearing the pain now might not be a bad option after all.

Regards,

Yu Zhang
Research Analyst
Matthews International Capital Management, LLC

 

 

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The subject matter contained herein has been derived from several sources believed to be reliable and accurate at the time of compilation. Matthews International Capital Management, LLC does not accept any liability for losses either direct or consequential caused by the use of this information.