Category Archives: Ekonomi & Kewangan

Subsidy Rationalisation: A Question of Priority and Affordability?

The recent announcement by Dato’ Seri Idris Jala of a new “price adjustment” for petrol, diesel, LPG and sugar was expectedly met with mixed reactions – depending whom you speak to. Although the public relations branding of the subsidy rationalisation exercise seems to be working (judging from the public response so far), the announcement broke a few promises made earlier by the administration.

At the beginning of the year, PEMANDU came very strongly with its commitment to reform the energy sector, in particular the massive RM19 billion subsidy borne by PETRONAS each year to keep the natural gas price to TNB and independent power plants artificially low. There was an understanding that PEMANDU would put a high priority for the rationalisation of this subsidy while it pushes for gradual removal of fuel subsidies.

Dato’ Seri Ismail Sabri Yaakob (Domestic Trade, Cooperative and Consumerism Minister) also famously said that there would not be any new price hike on fuel and essential goods after the first series of price hikes in July 2010.

Both commitments were broken, hence the mixed reactions.

I took a particular interest in the question of subsidy rationalisation since 2007 given my professional background in the oil and gas industry. Continuous dependent on artificially low prices of energy is a bad thing for the economy, especially when our oil resources are depleting and the subsidy is extended to everyone. It distorts the real cost (and therefore the value) of fuels and worse, it promotes wasteful consumption habits.

But the issue should also be viewed from a wider perspective. There is also the moral issue of extending state assistance to the group most burdened with escalating cost of living, more so when the bulk of the nation’s income is derived from its hydrocarbon riches. If governing is about ensuring social and economic justice in a society, then we cannot divorce the philosophical issue of a just distribution of the nation’s wealth to the needy, notwithstanding the urgent need to reduce budgetary deficits.

It is in this respect that I defer from the conventional views that subsidy must be removed at all cost. Fuel subsidy is a luxury to those who can afford a certain lifestyle, but a necessity to the households whose disposable income is too small for them to make any spending adjustment.

40% of our households (roughly amounting to about 8 million people) earn on average RM1,500 per month. The bulk of this wage will go to pay for basic household expenditures such as housing (rent, mortgage), food, school expenses, energy (electricity, fuel) and clothing. It is estimated that 80% of household income for such families will go to these expenses, leaving little room for them to manouvre each time the government announces new price hikes on essential goods.

To these families, a 5 sen hike in fuel, a 20 sen hike in sugar and LPG will make a big difference to them as their disposable income will be affected immediately. For them, there is a moral justification that some form of assistance needs to be extended to lessen their burden.

Therefore, I always suggest that we should discuss the issue of subsidy rationalisation from the primary question of affordability. Can the nation afford allocating a sum each year to provide subsidies on essential goods meant for the lower income groups most affected by any price hikes? How much does it cost to do this? How much does the cost for this compare to the total income generated from our hydrocarbon resources?

Previously, it was quite difficult to put the numbers together due to the unavailability of information especially the amount of subsidy for each litre of fuel borne by the government. The credit must be given to PEMANDU which had had no qualm to share with the public that the government bears a subsidy of 40 sen per litre of petrol when crude oil price is in between the USD70 to USD80 per barrel range. This allows for an economic model to be built, assuming that refining cost and refinery margin do not change much over a fixed period of time.

Based on the latest public data provided by the International Energy Agency (IEA), 61% of oil products (from crude and refineries) in Malaysia were consumed for transportation purposes in 2008. Industry usage makes up the second highest consumption at 23%.

For transportation, a total consumption of fuel (by private and industry users) translates to an equivalent of 9.8 billion litre of petrol and 5.3 billion litre of diesel annually (both figures are estimates, taking into account different conversion and estimation methods used). This adds up to an estimated amount of RM7.5 billion of total subsidy for transport fuel borne by government each year.

Going back to the question of necessity and afforability, out of the 15 billion litres of fuels (petrol and diesel) consumed for transportation purposes each year, a significant portion of this is consumed by the private sector and the industry. Since an official figure is not available yet, even a hypothetical estimate of 50% split between individual and private/industry consumption will alter the picture quite radically. I dare say that only RM3.8 billion to RM4.5 billion of the fuel subsidy actually goes to individual citizens for their private use. This does not discount the fact that a great many in our society will not qualify for fuel subsidy, if fuel subsidy is extended only to the needy groups.

So in the end, it boils down to the most basic question which I have repeated in the past: can we afford a fuel subsidy of RM3 billion a year (assuming crude oil price in the region of USD70 to USD80 per barrel), if we were to gradually remove the fuel subsidy for the industry and private sectors (having been convinced that it will have a minimal impact on the inflation)?

Once we stack this magical number against all the other figures, I will leave the conclusion to the readers. RM3 billion against RM19 billion in gas subsidy to the power sector (while some of the IPPs continue to reap huge profits) is a small sum. RM3 billion extended to the most hard-pressed section of our society against an estimated RM4 billion in compensation to toll concessionaires should provide a different perspective in the debate on subsidy removal.

One may argue that the RM3 billion subsidy cost will balloon up as the crude oil price soars in the future. But Malaysia is still an oil producing country with the current production of 650,000 barrels of crude oil each day. An increase in crude oil price will also increase the income to the government. This comes in a few forms such as the oil royalty, supplemental payments (depending on the production sharing contacts/PSCs signed), duties, petroleum income tax, corporation tax and dividends from PETRONAS.

A rough calculation (taking into account the structure of PSCs in existence, reimbursement of cost oil and availability of profit oil as dividends) of income stream to the federal treasury from PETRONAS and domestic oil and gas industry shows that for each USD5 per barrel increase in crude price (on annual average), the government will earn an estimated RM4 billion in extra taxes, royalties, duties and dividends annually.

Thus, not only that the annual income from the nation’s hydrocarbon resources (drawn at an average of RM81 billion each year from PETRONAS for the last 5 years) is adequate to pay for the RM3 billion fuel subsidy targeted at the needy groups, any crude oil price hike should yield additional income that can cover the increase in subsidy cost.

The rest is a question of political will.

Will the Prime Minister continue to push for subsidy removal that affects the masses while being non-committal with the massive RM19 billion gas subsidy given to the IPPs?

Will the Prime Minister continue to tolerate PEMANDU’s failure to come up with a practical mechanism to streamline fuel subsidy to the needy groups, as this should have been the prerequisite before any decision to remove fuel subsidy was made?

The public will expect the government to set its priorities right in managing the gradual removal of the subsidies, so that we do not penalise the groups still dependent on subsidies on essential goods to help make ends meet.

A Malay proverb aptly describes this balancing act as “bagaikan menarik rambut dari tepung, rambut yang ditarik tidak putus, gandum tidak rosak”.

This article was published in my column in The Edge (the published version could have been edited slightly)

Step-Changing The Economy: Education, Education, Education?

This is the final article in a 3-part series published in The Edge on addressing the key constraints of our economy

It is a common observation by most that Malaysia suffers from three acute constraints in step-changing the economy towards a high-income nation.

The first constraint is the relatively lower level of capitals available for enterprises to expand, indicated by a stagnated level of private investments for the last decade and compounded by a severe drop in foreign direct investments. Secondly, the nation has not made a big leap in transforming from a technology user to a technology creator.

My views on these two constraints have been shared in the last two articles.

Fortunately (or unfortunately, depending on which perspective we take later), both constraints have its root in the one issue that arguably has had the biggest influence on the direction of our country and its economy – our education system. The make-up of our society is predominantly influenced by the education system. By extension, the ability of our workforce to drive the big step-change into a high income economy will depend on what kind of educational upbringing they have had so far; to prepare them for the demands of a high income economy on its workforce.

What are these demands? These are well-known and have been articulated well in various economic planning documents for Malaysia released in the last one decade (to the credits of the civil servants who prepared them). A workforce that is productive and creative can subsequently innovate. Innovation (new products, new service, new thinking) drives the economy to a much higher income level.

That is easy enough to establish. What has proven to be the most difficult for our country is to make the upgrade from a workforce designed and trained to man manufacturing facilities (and paid relatively cheaply at that!) to the one which design the manufacturing facilities. Making that journey has proven to be the biggest bottleneck for the last thirty years.

So where should the journey begin?
Fortunately, most of the bottlenecks in the efforts to make this upgrade can be traced back to the education system. An education system that is rigid and too obsessed with structured model of success carries an inherent risk of stifling creativity and innovation. An education system with only one model of answers that restricts the exploration of reasons and ideas beyond the ones approved by the authority can also kill off the creativity altogether. So, if we fix the education system we can say we have progressed well in the journey.

Unfortunately, fixing an education system that has evolved over a century and as diverse as ours, will prove to be a difficult task. What more when the framework of our education system is very much intertwined with the socio-economic and political structure of the country – undoing the make-up, approach and design of the education system is by itself a near revolution because it is akin to undoing the socio-economic and political power structure that has dominated this country for so long.

So I will not attempt to comment on the humungous task of redrawing the education system as this short article will not do justice to the gravity of the task. It is a philosophical question and challenge which will continue to haunt and define our society for many years to come.

However, there are a few radical thoughts on education system that may have a profound impact on the development of our workforce; that can be implemented without the redesigning of the education system framework of the country. I will attempt to explain three such thoughts here.

First thought concerns the school environment that is imprinted in the minds of our future workforce during their formative school years. In general, our school has not been able to become a place where a student’s potential is realised. Interestingly enough, I feel it has failed to do so not because it lacks resources (as often is simplistically argued, each time we discuss the failings of our education system); but because we only cultivate one model of success. In the process, we fail to inspire our younglings and eventually they choose to conform to expectation, even if it does not bring the best out of them.

I came across a case of one Malay student at a top boarding school, who did not do too well comparatively in his SPM. He never liked science stream but had to do science because the whole school was supposed to do science subjects. Not surprisingly, he struggled along the way and his result was not good enough for a scholarship post his SPM. Naturally the system expected him to go to a matriculation as a step to enter into a local university; but he had a different plan in mind.

He chose to do STPM instead and had had a difficult time explaining to the school, teachers and relatives why he chose that route, as many people will only consider STPM as a last resort. Luckily, he scored well in his STPM after he switched to economics; offered a JPA scholarship and now reads economics at one of Australia’s top universities.

It may be a remote case that does not repeat too often; but it exemplified the mentality of conformance that restricts ideas and reduces the boldness of our future workforce to experiment. This conforming, “one model of success” school environment is detrimental to our economy because we need to cultivate a sense of inquisitiveness and risk from the very beginning. Otherwise, our future workforce will continue to fall back to what is being given to them – they won’t be creative because it is outside conformance, let alone being innovative because that can be too upsetting. In the end – from the offices of civil servants to our factory shop-floor, we are a nation of “yang menurut perintah” and “this is how it has been done forever”.

In this respect, I welcome the plan to put more emphasis on school-based assessments and move away from the rigidity of national exams at all levels. However, this is only a tool and will compound the situation (if school heads begin to cut corners to produce better school-based assessments linked to their promotion) unless there is a radical change in our school environment so that we encourage differences, exploration of ideas and some risk taking among our school children. Hopefully they will retain these traits as they grow up – they can do wonders with these traits at work!

The other thought that has tickled me over some time concerns the policy to send top scorers after SPM/STPM overseas for a degree. This must have consumed billions of ringgit in national budget each year; so considerable financial resources that could have gone into our local higher institute of learning ended up as a significant foreign exchange earner for other countries. If the equivalent financial resources are diverted to the local institutions, there can be a significant improvement especially in terms of facilities.

But even the impact of few billions gone is minute compared to the impact of not having the top 3,000 brains each year going into our universities. This is where (I think) there is a taboo when discussing the performance of our local institutions and someone should be bold enough to call a spade a spade, even at the risk of hurting the sentiments.

The fact of the matter is this country has annually sent thousands of its top students overseas, thus depriving the local institutions the necessary infusion of good students as a catalyst for competition and standards among the peers. This is a policy that dates back to pre-Merdeka days and is considered sacred for (strangely) both Bumiputras and non-Bumiputras. Thus, it is not easy to argue against the continuance of the policy.

Yet, the impact of this deprivation comes in many folds.

The local institutions have to grapple with various questions on standards and competitions, as they have to work within a certain sets of constraints to meet their deliverables. The top students going overseas may not necessarily fulfil their potential and achieve the maximum benefit from their overseas stint, because many chose to stick in small circle of Malaysians. This argument can be strengthened further by the fact that the number of Malaysian scholarship recipients admitted into the world top universities is still relatively small.

Even worse, those who did benefit greatly from the overseas experience will realise that the world is their oyster. Many choose not to return and I dare say it is one of the contributors to the brain drain we are facing. By the time they have settled down overseas with good home and good pay, it is very difficult to lure them back (unless you can match the pay, but then how many companies or organisations can do that).
We should question whether there is a case to continue sending top students for a degree overseas since we have the means to cater for their placement at local institutions, unlike the yesteryears when we just do not have enough places locally. Should we not restructure our national scholarship system so that only post-graduate students are sponsored to go to top universities and research centres world-wide – after all this will have a more profound impact on our economy, than producing overseas first degree holders?

Thirdly, if we were to redirect our top students leaving the school system each to local institutions, the latter has to drastically improve its standing to do justice to these students. The ways and changes required to effect this have been discussed greatly elsewhere (and I am running out of space for the column!) so I will not discuss it here.

I won’t fault you if you feel cheated that we end up talking about schools and universities instead of economics and numbers. My belief is we can forget about the high income economy unless we go back to the basics and address the major stumbling block towards that journey.

Cliché as it may sound, the remedy to the economic malaise we are facing may not be economics at all – we can benefit greatly by going back to the New Labour’s cliché of “Education, Education, Education” in 1997 that put them in power for the longest time and presided over the longest boom. We should learn a thing or two from that.

NEM & Subsidy Removal: Proof Of BN’s Double Standard And Flagrant Inconsistency

The 5 sen price hike imposed on RON95 fuel is a second successive increase in 6 months. The announcement made by Dato’ Seri Idris Jala also included subsidy removal on other essential household items such as sugar (20 sen increase), diesel (5 sen increase) and LPG (5 sen increase).

While Barisan Nasional claims the quantum of these price hikes is too small to have an impact on the public, the policy direction that is taking shape cannot be mistaken. Barisan Nasional through PEMANDU has outlined (announced during Subsidy Rationalisation Open Day on 27 May 2010) a subsidy removal plan to impose a 6-monthly price hike on RON95 fuel. The announcement last night confirms that similar price hikes will take place in the future and perhaps at an even bigger quantum as the originally proposed quantum of price hike was at 10 sen per price hike for every 6 months[1].

A similar phased removal of subsidy on other essential household items was also outlined including the removal of gas subsidies extended to wealthy IPPs owned by business elites and cronies of Barisan Nasional. Amazingly, the only hikes implemented so far are on those items that hit directly on the people’s purse; not the cronies’.

PEMANDU estimated that a total of RM1.12 billion could be saved in 2010 if subsidies on gas price to IPPs and non-power sector are reduced. This could have been achieved if gas price to IPP and non-power sector is increased by RM4.65 per mmbtu and RM2.52 per mmbtu respectively. Currently, the government through PETRONAS subsidises the IPPs and industries to the tune of RM19 billion annually as the subsidised gas price of RM10.70 per mmbtu (for IPPs) is remarkably lower than the average market price of imported gas of RM38 per mmbtu (should the country need to import the gas to meet the demand against a shortfall in production).

Therefore, the Prime Minister and his government must answer why it is hell-bent on pushing for subsidy removal on fuel, sugar and LPG that will undoubtedly increase the burden of the lower income group; when similar zeal is not shown vis-a-vis the rich corporate giants?

This is more so when nothing has been done so far (despite promises after promises) to reform the subsidy allocation system. This is pivotal to ensure that the lower income group will continue to benefit from state assistance to counter the rising cost of living. PEMANDU seems to be extremely efficient at pushing for the subsidy removal; yet extremely slow at coming out with a solution to redistribute the subsidy that are meant for the poor.

Thus, I share the scepticism of the public in reviewing the recently announced concluding part of the NEM. Barisan Nasional outlines ambitious ideas and concepts on bringing reforms to the economy, yet its track record at implementing these ideas have been appalling.

Barisan Nasional talks about the necessity to reduce subsidy in order to cut the nation’s deficit as a result of its carefree spending in the last decade. It chases the small change in the form of subsidy removal on household items most widely used by the people, yet it procrastinates on confronting the real subsidy monsters (in the form of the IPPs).

In the end, the RM126 million saved from the 16th July’s 20-sen hike on sugar is not even enough to pay for PEMANDU’s own exorbitant cost as reported by Malaysiakini (3rd December 2010). Where is the moral authority of a government that takes RM126 million from the poor to pay RM66 million to consultants for the set up of a government unit and another RM65 million for its whole operation in 2010?

Hence, I take the recent announcement on NEM with a pinch of salt. Barisan Nasional will continue to hoodwink the public of its intention to transform the public sector, but it quietly  pays the new breed of civil servants in PEMANDU top of the range salaries that will easily beat the private sector.

Its NEM document dedicates a substantial part on promoting competition through liberalisation and deregulation, but behind closed doors it awarded a licence to operate the prized 700 MHz to YTL (yet again) without an open tender, much to the chagrin of the telecommunications industry.

There is a patent of flagrant inconsistency between the public pronouncement and the honesty to carry out the announcement. This is not surprising as the whole machination of this administration is based on the perpetuation of a public image crafted by firms of public relations that are paid by the taxpayers’ money – with the sole intention of buying Barisan Nasional additional time before the people casts their judgement.

The onus is then on Pakatan Rakyat and the people to keep a vigilant eye on each of the decision by this administration. If we fail in this endeavour, we are definitely en route to paying a fuel price at RM2.10 litre within a year’s time.




[1] Please refer to Subsidy Rationalisation Open Day, 27 May 2010

The technology challenge of a high income nation

(This is the second part of a 3-part articles published in The Edge addressing the challenges facing Malaysia in attaining a high income nation, in spite of the blue-print spelled out in NEM, ETP and various documents presented by Barisan Nasional so far)

The national target to achieve a high income nation status is not a new target. From as early as the Eighth Malaysian Plan (8MP) announced a decade ago, Malaysia had set its eyes on high value economic activities. What had changed over the years is the catch-phrase – 8MP introduced “moving up the value chain” and by 2010, this has been packaged to “high income nation”.

Nonetheless the essence is still the same. Malaysia has to move beyond the existing model of a manufacturing hub built on cost competitiveness – essentially cheap labour, cheaper overhead and user of technology – up the ladder to become an economy that creates value. Only through creation and innovation can we command higher prices for the products and services we introduce to the global market. It is a simple truth about technology and product life cycle – those which innovate can charge premium while the technology/product is still a novelty and the premium tapers off once it becomes a household good/service.

While recognising the need to shift from a technology user to a technology provider is straight-forward enough, instituting that shift in our industry and economy has been a painful experience and remains arguably the most challenging transformation Malaysia faces as an economy and a nation. The most futile bit about this challenge is its paramount role in the economic fabric of our country – a sustainable high income nation is a fallacy unless we achieve considerable improvements in the manner we accelerate the research, development and commercialisation (R&D&C) activities in the country.

To be fair to the government, several efforts had been made to step-change our technological capability. Unfortunately, these efforts were short-cuts and measures designed to own technologies rather than to develop and sustain the capabilities that innovate the technologies. Owning a set of technologies is not the same with having the sets of skills cultivated in the right climate and given the right incentives; the former can be bought and sold to the highest bidder while the latter becomes an intrinsic strength of an economy.

So we embarked on a series of large-scale and high profile national projects in the name of technology transfer. We started heavy industries including a highly controversial national automotive project, partly to accelerate the transfer of technology. Eventually it became obvious that what we did was to pay royalty to our foreign partners to use their patents and technology in our locally manufactured goods.

And so we embarked onto a new set of short-cut measures – if we couldn’t develop the technology fast enough in spite of having the industries, we could buy niche technology firms abroad to support the local industries. This was followed by a series of expensive acquisitions of foreign technology firms; some remain in Malaysian control till this very day, a few were later sold at a great loss to the nation.

But we don’t buy technology if we want to reap the benefit of economic premiums attached to technology ownership; we must develop it ourselves.

This is where I was alarmed that throughout the announcements of several blue-prints (from NEM to the recently unveiled 2011 budget), there does not seem to be any major shift in the national game-plan to accelerate the build-up of technology R&D&C capabilities in our quest towards a high income economy.

For a start, the strategy is still heavily reliant on government’s intervention and public institutions to invest in R&D&C.

This is a flawed strategy as the best catalyst for technology development to flourish is profit – Edison did not devote his life to invention so that he could become a dean of a science faculty; he set a target of x number of invention per month to be produced by his research lab because he could sell them for a profit. A strategy that relies heavily on non-profit oriented entities to lead a technology capability build up is bound to fail because it is detached from the very enabler that allows resources to be plunged back into R&D&C i.e. profit motivation.

Hence, I was unpleasantly disappointed when the 2011 budget did not expound on new radical ways that Putrajaya will inject enthusiasm into companies to allocate more resources into R&D&C. Even what was announced was shockingly disappointing – a RM20 million additional allocation to increase the percentage of PhD holders in public institutes of higher learning pales in comparison to the RM200 million allocated for 1Malaysia Training Scheme. The former would have had some impacts on the technology journey of the economy, the latter is a populist scheme meant to train unemployed in sewing and other low value economic activities. There is nothing wrong with any scheme that benefits the people, yet this smacks lack of political will to push through one key component to progress to a high income economy.

The other big announcement related to technology is the creation of UNIK (Unit Inovasi Khas/Special Unit for Innovation) parked at the Prime Minister’s Department, which among others will “draft a legislation to allow for higher degree of commercialisation of researches by public institutions and coordinate the efforts for commercialisation”.

I abhor another set of bureaucracy when the responsibility to foster R&D&C in the country was already given to MOSTI. A new unit in a different department under a different minister means more meeting, more labs, more away-days and more reinventing the wheel (as far the basic process to identify and fast-track commercialisation of a research).

But above all, this does not at all alter our philosophical approach to developing the technology capability vis-a-vis private sector’s involvement. The most pronounced incentive for R&D&C is the double-tax deduction facilities given qualified R&D expenditures incurred by companies. This has failed miserably judging by the fact that we hardly made any leaps in terms of R&D spending as a percentage of GDP compared to competitors.

Based on a statistics produced by MOSTI and UNESCO, Malaysia spent a mere 0.64% of its GDP on R&D in 2008 (latest figure available), compared to 2.39% (Singapore), 3.23% (South Korea), 2.58% (Taiwan) and 3.4% (Japan). In terms of the number of engineers and technical researchers per million population, we were completely out of league at 367, compared to Singapore (5,713), South Korea (4,162), Taiwan (4,159) and Japan (5,148). These indicators are the two most commonly used to indicate a nation’s level of commitment and success in building technology capabilities.

The current and past methods to approach technology development have certainly failed, especially in developing a vibrant research culture among our conglomerates and research companies. Celcom and Maxis may be one of the largest cellular operators in the region, yet they are not known for their technology edge. The same can be said about most of our large corporations.

I personally think the shift has to take place by moving the emphasis from public sector to private sectors. Then, give these corporations enough reasons to invest and build the culture for building and sustaining technology capabilities. When it pays to be innovative and to build the technology capabilities, companies have more motivation to do it.

One of the ways is to set a certain criteria that a company of a certain size and profitability must invest a percentage of its profits into R&D&C activities; similar to a concept of research cess levied on mining and oil & gas operations in some countries. The amount invested is exempted from tax and if the government wants to go a step further, it can exempt the profit stream resulting from a successful commercialisation of a developed technology for a number of years.

This can have two immediate effects. One, it can drastically increase the amount of capital invested in R&D&C in our economy albeit forcefully. Secondly, it provides more monetary and instant incentives for companies to invest compared to the current double-deduction regime when most of the entities set up for R&D do not make profits in the first place.

We can debate until the cows go home on ways to accelerate R&D&C activities in the country. The beauty of it is we do not have to invent because there are plenty of lessons to learn from our competitors and other countries on how they charted their technology journey – all it takes is a bit more of political will and less preoccupation with winning the votes.

And building technology capabilities is a journey and long term by default.

Of new structures and structural reforms for moving the country forward

I waited for the Budget 2011 announcement on Oct 15, more eagerly than I had been in the past. Weirder still, the enthusiasm was not due to the tight deadline I had to manage to dissect and analytically review the proposals on behalf of the leader of the opposition. I actually hoped that this budget would do what it is supposed to do: change the course of our economic and nationhood journey from certain decline that we have experienced since the Asian financial crisis of 1997 and 1998.

Ever since Prime Minister Datuk Seri Najib Razak took office, the  government has embarked on a series of big economic blueprint announcements. All the abbreviations, labs and public relations exercises have the hallmark of consultants’ work and reminded me of similar steps we used to adopt in the corporate world to cascade strategy blueprints to the shop-floor level. Many times this cascading exercise begins with excitement but does not necessarily end with success.

The New Economic Model (NEM) document that analyses the nation, which is stuck in the middle-income trap, was refreshing and provided a glimmer of hope. An admission that all is not well with our economy at this critical juncture is the biggest step made thus far to begin setting the economy on the right course again.

The government also plans to address the three key constraints in our economy that had prevented us from progressing towards becoming a high-income nation. These are the lack of new capital circulating in our economy due to stagnating private investment over the last decade; low-technology applications and developments in the products/services that our economy produces, and a workforce that is unable to cope with the innovative demands that a developed economy requires.

That we are facing a private-investment crisis is a well-known fact. During the boom years of 1991 to 1997, research by professor K S Jomo showed that private investments were growing at a compound annual growth rate of 16.2%; compared with the post-Asian financial crisis rate (between 2000 to 2005) of 1%. The latest figure show this only increased marginally to 2% over the period of 2006 to 2010.

The severe drop in private investment, both domestic and foreign direct investments (FDI), had caused a disproportionately long reliance on pump priming and landed us where we are today — fighting budget deficits and hitting a wall in our efforts to jump-start the economy. In comparison, the economic performance of our neighbours — even including Thailand and Indonesia (not to mention Singapore) — seems better as they have rebounded stronger than us in the economic recovery.

The government’s response to this predicament is a list of mega-project announcements — some to be carried out by government-linked investment companies (GLIC) and agencies. The announcement of a proposed 100-storey tower is already attracting its fair share of criticism and one wonders how a new office and commercial centre will convince private investors to start spending and expanding business again or ensure economic growth is more sustainable on a long-term basis.

The same argument goes for all the other mega-realty developments announced. Yes, these projects will create billions of ringgit worth of work and contracts; yet the economic cake they create is temporary and will only last during the duration of the construction and early years of commissioning. Most of these work and orders will go to big players (mostly government-linked companies, well-connected conglomerates and foreign contractors) and will not effectively trickle down to the groups that we need to cultivate most if we want to jump-start our private investment — that is the strategic and sustainable growth sectors and small and medium enterprises (SME).

In the end, we will be back where we started — with cash rich GLCs and well-connected conglomerates using their profits to invest abroad to seek new investment opportunities and diversification plans — leaving our economy deprived of the desperately needed capital injections. FDI is already hard to come by as most of it is being absorbed by key emerging markets with huge populations like China, India and now, to a lesser extent, Indonesia.

The budget, as in the past, is still centred on meeting growth targets by pump-priming and building unnecessary structures without fixing the root cause of the problems. The only difference is where the funds come from — initially from the state coffers, then relying on the oil and gas revenue and now on the GLCs, GLICs and the EPF.

What we need is structural reforms to shift the course of our growth. What are these structural reforms? These include a new set of policies that are implemented with focus and discipline to shift the engine of growth to a more sustainable group of enterprises and sectors.

One such group is the SMEs, which make up 99% of enterprises in the country (548,267 out of 552,849 as published by the Department of Statistics) and yet they only contributed 31.2% to our GDP in 2009. Some SMEs are actually quite big — manufacturing companies with annual turnover in between RM10 million to RM25 million.

Growing these SMEs is vital in our quest to create a period of sustainable growth without heavy reliance on pump-priming (no matter where the money comes from). It should not be the only strategy towards achieving a high-income economy, but it should be one of the anchor strategies.

In this context, the government seems to lack the perseverance to pursue what could have been a good policy. It has set up venture-capital entities and institutional investors (including Ekuiti Nasional Bhd) that could have gone a long way to work with identified SMEs in expanding their businesses, looking for new markets, and upgrading skills and technology to change the make-up of these SMEs.

This takes time, but we should not miss the chance to really develop this sector. Creating a sustainable engine made up of well-equipped and well-run businesses that do not rely on state contracts all the time is one of the most important steps that has to be pursued diligently.

It is more worthwhile to divert the bulk of the RM5 billion intended for the new tower to more productive sectors. Permodalan Nasional Bhd, the promoter of the project, for example, could identify and select these enterprises, work out a joint management plan or totally buy out and improve enterprises to inject the new capital and technology needed for a move higher up in the value chain. One hundred SMEs developed, modernised and allowed to grow further this way, is better for our economy than building a 100-storey tower.

Rafizi Ramli is the chief executive of the Selangor Economic Advisory Office. This is the first of a three-part series on the economy and progress towards a becoming high-income nation.

This article appeared in The Edge Financial Daily, October 21, 2010