Thursday, 17 November 2016

Mahathir's Guilt-trip

This morning I read with interest Tun Mahathir's latest blog post on the recent Malaysia's deal with China particularly on the East Cost Railway Link project.

From his blog post, I can conclude that public finance and economics knowledge is sorely lacking in Parti Pribumi Bersatu Malaysia (PPBM).

Tun M, is basically recycling his trusted right hand man, Kadir Jasin's points on goverment debt, Malaysia-China relationship, 1MDB etc all of which I have rebutted before.

I won't comment on ECRL cost as it's been answered by our own ministers here and here and the details of the cost have not been finalised yet.

But I feel the urge to comment on other matters that I think he's wrong about specifically on "money" flows, government debt, exchange rate risk, Greece among others.

Tun M wrote giving a contract to a foreign company and borrowing from foreign sources will result in an outflow of money from Malaysia and this is not healthy for any country.

As an open economy which trade goods and services with other countries, funds or capitals are also flowing in and out of Malaysia as investments.

We all know that Malaysia has been receiving investments (FDI and portfolio investment) every year which means foreign companies have been accumulating assets in our country which also means capital has been flowing into Malaysia.

Malaysian companies have also been investing outside of the country which means we are accumulating assets in foreign countries which also means capital has been flowing out of Malaysia.

Foreign companies' assets in Malaysia are our liabilities and vice versa.

As of second quarter of 2016, Malaysian assets abroad stood at RM1.570 trillion and foreigners assets in Malaysia (our liabilities) stood at RM1.575 trillion as stated in the International Investment Position (IIP) published by the Department of Statistics Malaysia (DOSM).

Malaysia's International Investment Position: DOSM

When foreign companies invest in Malaysia, they will earn income or profit here and repatriation of that income back to their country (where their headquarters located) is recorded as Investment Income Paid Abroad in the current account (CA) which is a component of balance of payments (BoP).

On the flip side, when resident/Malaysian companies invest abroad, they will also earn income/profit and repatriation of that income back to Malaysia is recorded as Investment Income Received from Abroad also in the CA which is a component of BoP.

Malaysia's Current Account, Balance of Payment: DOSM

From the third quarter of 2016 Balance of Payment report showed that in the last quarter (July - September 2016), Malaysian companies earned (credits) RM8.134 billion from abroad and foreign companies earned (debits) RM17.603 billion from Malaysia which essentially means in term of investment income flows, Malaysia has a negative net investment income from abroad (investment income received from abroad - investment income paid abroad) which essentially means money was flowing out (in term of investment income) more than it's flowing in to Malaysia.

It has been true since many decades ago, actually since before we gained independence and Malaysia was formed, net investment income from abroad has always been negative which means foreign companies earned more in Malaysia than Malaysian companies earned from abroad which practically means more investment income flowed out from Malaysia than it flowed in.

Below is the chart of Malaysia's net investment income since 1981 until 2015:

Malaysia's Net Investment Income: EPU

That's just the absolute amount, if we compare net investment income relative to Malaysia's economic output or GDP, under Tun M as PM, investment income deficit reached as high as 8.1% in 2000:

Malaysia's Investment Income Deficit

Of course Tun M didn't say it's unhealthy for any country back then when foreign companies earnings in Malaysia flowed out of Malaysia.

Tun M then wrote that 1MDB debt has grown from RM42 billion to RM53 billion because its debt wasn't properly serviced, whatever that means.

Tun M failed to mention or he simply forgot that after selling its power assets (Edra) to the China General Nuclear (CGN) early this year, 1MDB has reduced its debt as CGN also assumed Edra's debt of RM7.43 billion and the proceeds from Edra's sale have been used to repay all 1MDB's bank debt and short term debt (approximately RM7.25 billion).

1MDB is now left with lower debt than RM42 billion that's been always quoted by many people.

Tun M should not be worried about exchange rate risk in RM55 billion loan secured from China (EXIM Bank) as Minister in charge of EPU has clarified that MYR-CNY rate will be fixed throughout the loan tenure.

Also Malaysia's central bank, Bank Negara Malaysia (BNM) and China's central bank, People's Bank of China (PBOC) signed a currency swap agreement in 2009 which had been renewed twice (in 2012 and 2015).

The bilateral currency (RMB180 billion / MYR90 billion) swap agreement between BNM and PBOC reduces the risk of MYR-CNY exchange rate fluctuation as feared by Tun M and facilitate trade (exports and imports) and investment flows between Malaysia and China.

I'm always annoyed when people say something like Malaysia is becoming like Greece as it's been accumulating debt year after year.

Greece problem wasn't just about government debt but also about balance of payment crisis (current account deficit) and also some other structural problems.

Before the global financial crisis in 2008, Greece has run current account (mainly trade) and government (fiscal) deficits since 2000 and the deficits had been financed by foreign capital inflows until the subprime bubble exploded in 2008.

As the capital inflows stopped, Greek government was forced to reduce its deficit and it could not devalue its currency because Greece has surrendered its monetary sovereignty (ability to control its own monetary policy; set interest rate, print own currency) when it joined the Eurozone.

Its government debt to GDP ratio skyrocketed as its GDP contracted and its debt load increased year by year.

Greece was also shut out from financial markets and couldn't borrow from the markets as credit rating agencies downgraded Greek sovereign debt (bonds) to junk status.

As a result, Greek was mired into a prolonged debt crisis and was bailed out by the international agencies by IMF and the European Union (EU).

The key to Greece problem was its decision to join the common currency area Eurozone.

Had it maintained Drachma as its currency and not joined the Eurozone, it wouldn't have stucked in its current state.

It's true when a currency depreciates, its purchasing power will also decrease as cost of imports becomes more expensive but Tun M forgot that when a nation's currency depreciates, its exports become cheaper and exporters of that nation will gain more revenue or at least offset the fall in exports revenue.

As a depreciating currency boosts exports, it also discourages imports and as a result current account (trade) balance will improve and it'll be followed by currency appreciation.

As Tun M once recited a poem titled "Melayu Mudah Lupa", he also seems to easily forget that the sharp depreciation of Ringgit in 1998 helped turning Malaysia's current account from yearly deficits since the 80s to yearly surpluses until today:

USDMYR Exchange Rate 1997-1998: BNM

Malaysia's Current Account Balance: EPU

The current depreciation of Ringgit might not boost exports as much as they did 20 years ago as  exchange rate pass through has progressively decreased over the decades but it'd help offset the fall in commodity exports revenue as I explained in my previous post early this week:

"Since oil is traded in US Dollar, oil producers and exporters sell their oil and gain revenue in USD. They will convert their oil revenue in USD to local currency unit in our case Ringgit. Let’s assume in 2014 oil price on average is USD100 per barrel and in 2015 it drops to USD50 per barrel. In USD term, Malaysia’s oil revenue in 2015 will fall 50% as oil prices drop 50% during the same period.

But how about our revenue in Ringgit (MYR)? Let’s assume USD/MYR on average trading at 3.00 in 2014 and as oil prices dropped, MYR depreciates to 4.00 in 2015. Also assume that oil prices are USD100 in 2014 and USD50 in 2015 like the above assumption. Our oil revenue in MYR in 2014 will be USD100 x 3.00 = RM300 per barrel. In 2015 our oil revenue in MYR will be USD50 x 4.00 = RM200 per barrel. You can see that our revenue in MYR term falls only by 33% (from RM300 to RM200) as opposed to 50% (from USD100 to USD50) in USD term."

Malaysian government's borrowing habit today is not as bad its habit 30 years back when the total government debt outstanding exceeded the size of the economy (GDP):

Malaysia's Government Debt to GDP Ratio: EPU

I know some people will point out the contingent liabilities or debt guaranteed by the federal government.

They will say, the government under Najib Razak has used an accounting trick to hide the actual total government debt.

Yes, as I keep saying again and again, in absolute term, government debt, debt guaranteed by government under Najib will always be higher many times than under Tun M as PM.

But the fair and honest way to look at total government debt or guaranteed debt is to compare them relative to our national income/economy size/GDP.

For the contingent liabilities or debt guaranteed by government to GDP ratio, I got the data from the Federal Government Financial Statements from the archive in the Auditor-General website.

Below is a table from the 1999 Federal Government financial statement

Pinjaman Yang Dijamin Oleh Kerajaan Persekutuan 1995 - 1999: LKAN
From the available data I made two charts showing debt guaranteed under Tun M as the PM and under Najib as the PM:

Debt Guaranteed by Government from 1995 to 2003

Debt Guaranteed by Government from 2009 to 2015

Total debt guaranteed by government during Tun M's tenure as PM grew from RM4 billion to RM16 billion and total debt guaranteed by government under Najib's tenure as PM grew from RM80 billion to RM180 billion.

Like I said, looking at absolute total debt won't do justice to anyone so we look at the ratio of debt guaranteed by the government to our economy size or GDP.

On average after the Asian Financial Crisis, ratios of government contingent liabilities to GDP under Tun M's tenure as PM were quite similar to ratio under Najib's as PM from 2009 to 2015.

Again of course nobody accused Tun M of doing an accounting trick to hide the actual figures of government debt.

Tun M wrote that Malaysia will be reduced to begging for aid and will lose much of its independence because of government's increasing debt.

As I wasn't born yet at that time (1985-1986) when total government debt exceeded our nation's economic output, I have no idea whether we as a nation was reduced to begging for aid and lost our independence.

Maybe Tun M can write his experience managing an economy whose government debt is bigger than its national output.

Did Tun M beg to other nation? Did he lose our nation's independence? I don't know.
"A Bank Negara statement placed Government borrowings at 600 billion Ringgit. Now that the Ringgit has depreciated by 50%, Government’s borrowings now total 900 billion Ringgit."

To tell you guys the truth, I guffawed when I read this para because it's just plain wrong and very misleading.

I hope many people realise Tun M's gaffe here.

It's true that total government borrowings or debt stood at RM600 billion or to be exact RM643.56 billion as of third quarter of 2016:

Central Government Debt: BNM

But RM623.2 billion or 97% of government debt is denominated in local currency, Ringgit Malaysia which will not be affected by the fluctuation in exchange rate.

Even if Ringgit depreciates to 10 for every one US Dollar, this Ringgit-denominated debt (bonds) value will not change, ceteris paribus.

I don't know why Tun M thinks that government debt which is 97% denominated in Ringgit will increase in value if Ringgit depreciates.

But how about government debt in foreign currencies? Will they be affected by the depreciating Ringgit? Of course it will.

Government Debt in Foreign Currencies: BNM

As of third quarter of 2016 total outstanding government debt in foreign currencies (USD, Yen, other) stood at RM20.4 billion down from RM25 billion in the second quarter of 2016.

By law, government external debt in foreign currencies cannot exceed RM35 billion at one time according to the External Loans Act 1963 (revised 1989).

So government debt exposure to exchange rate fluctuation is very limited and only to 3% of government debt which is RM20.4 billion last quarter.

Not to mention that part of current government debt in foreign currencies that we are still servicing today are inherited debt from Tun M's era when Malaysian government at that time borrowed from foreign governments such as Japan, France, Canada and the Asian Development Bank (ADB) to fund for development projects stated below: 

Malaysian Government Debt in Foreign Currencies: ANM

Of course the amount borrowed from those foreign governments are not as high as RM55 billion loan from China but relative to GDP during Tun M's era, it's quite high.

Tun M also wrote that we will never be able to repay our debts.

For Tun M's information, though I think he knew about this, Malaysian government has never defaulted on its obligation whether to service the interests on its bonds or the principals.

Of course we will never be able to repay our debts as long as our own pension fund (KWAP), retirement fund (KWSP), banks, insurance companies and investors, local and foreign demand the safest form of financial asset that is government securities/bonds/debts.

Reduction in government debt means reduction in private sector asset as I explained last month on my FB.

Although I have an idea why Tun M, our former PM resorted to this fear mongering tactic, I'm still puzzled why he writes something that is not just inaccurate but straight up lies.

He sounded so desperate that he confused between government debt and external debt when he gave a speech in one of those ceramahs last month.

A man of his stature should have the gumption to tell the Malaysians the truth not lies.

I can understand if Syed Saddiq resorts to this fearmongering tactic, telling lies, spreading inaccurate facts and numbers, but Tun M himself?

I cannot speak for other people but to tell you the truth, I have lost whatever respect I had for Tun Mahathir.

As for my fellow Malaysians, information on stuffs like government debt, external debt, balance of payments (current and capital accounts) are all publicly available in Bank Negara's, Department of Statistics', Economic Planning Unit's, Treasury's websites.

If you are doubtful and think that those numbers and statistics have been manipulated or doctored by the government, just remember that Tun M has been using government debt figures from Bank Negara just like I used all those data from agencies I mentioned above.

Be very skeptical when someone claims things like these in ceramahs, blogs, social networks.

Verify the numbers and facts, ask the sources or links before you share anything even if it came from someone like Tun Mahathir.

Please click all the sources and links for graphics I posted here. Fact-check me, question me, verify my sources.

Let's be a responsible Malaysian and stop this madness - unproductive viral trend.

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