PETALING JAYA: Three years after downgrading Malaysia’s sovereign credit rating, Fitch Ratings keeps its BBB+ ratings unchanged as it cautioned about a “small” gain from Budget 2024’s revenue-raising measures, high debt and the risk of “political considerations”.

Fitch, one of the Big Three independent agencies that assess creditworthiness, also highlighted the country’s rigid operating expenditure, with 60% channelled to payrolls, pensions and debt-servicing charges.

Nevertheless, the ratings agency reaffirmed the stable outlook for Malaysia.

In its latest update yesterday, the ratings agency once again highlighted Malaysia’s low revenue base relative to operating expenditure and political considerations that may hinder long-term policymaking and reform implementation.

However, the weaknesses were balanced by the country’s diversified economy with strong medium-term growth prospects, Fitch said.

Prior to the surprise downgrade in December 2020, Malaysia enjoyed a higher long-term foreign-currency issuer default rating of A-, albeit with a negative outlook.

The outlook was downgraded from “stable” in 2019 to “negative” in April 2020, following the nationwide movement control order that was put in place to combat the Covid-19 outbreak.

Pointing out that Malaysia has limited revenue mobilisation, Fitch said estimated gains from revenue-raising measures are small, at around 0.3% of the nation’s gross domestic product (GDP).

The measures include a capital gains tax on companies’ disposal of unlisted shares and an increase in the service tax to 8% from 6%.

According to Fitch, Budget 2024 remained slightly expansionary with a federal government deficit target of 4.3% of GDP in 2024. This was in line with the estimated 2023 deficit, excluding a 1Malaysia Development Bhd (1MDB) bond repayment from development expenditure.

“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 to 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,” it said.It is expected that gradual fiscal consolidation in Budget 2024 would support a moderate drop in general government debt in the medium term.

Based on Fitch’s estimate, general government debt will slide marginally to 72.3% of GDP in 2023, as compared to 72.8% in 2022.However, this is still higher than the BBB category median of 54.9%.

“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).

“The 1MDB net debt fell to RM5bil after a US$3bil redemption in 2023. We expect the remaining to be serviced by future receivables in the recovery fund,” said Fitch.

Fitch also noted about the government’s efforts to trim its fiscal deficit by phased subsidy rationalisation.

At the same time, the government is careful to 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),” Fitch said.

The government has started cutting electricity subsidies in 2023 and also plans to implement rationalisation of diesel subsidies in phases in 2024. It recently lifted price controls on chickens but kept those on eggs.

Malaysia’s fuel subsidies are particularly costly, representing 2.9% of GDP in 2022, but no details on reducing gasoline subsidies have been announced yet.

Looking ahead, Fitch projected Malaysia’s real GDP growth to moderate to 4% in 2023 and 4.2% in 2024, from the post-pandemic rebound of 8.7% in 2022.

Exports will 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.

“We forecast headline inflation to average 3% 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 Dec 2024, to add 0.2 to 0.6 percentage point to inflation,” it said.

Fitch also pointed out that the government is enjoying greater political stability, with a two-thirds majority in Parliament.

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,” stated Fitch.