VZCZCXRO6676
RR RUEHCHI RUEHDT RUEHHM RUEHNH
DE RUEHKL #0887/01 3062320
ZNR UUUUU ZZH
R 022320Z NOV 09
FM AMEMBASSY KUALA LUMPUR
TO RUEHC/SECSTATE WASHDC 3357
INFO RUEATRS/DEPT OF TREASURY WASHINGTON DC
RUCPDOC/USDOC WASHDC
RUEHGV/USMISSION GENEVA 1777
RUCNASE/ASEAN MEMBER COLLECTIVE

UNCLAS SECTION 01 OF 03 KUALA LUMPUR 000887 
 
TREASURY FOR OASIA AND IRS 
STATE FOR USTR - WEISEL AND BRYAN 
STATE FOR FEDERAL RESERVE AND EXIMBANK 
STATE FOR FEDERAL RESERVE SAN FRANCISCO TCURRAN 
USDOC FOR 4430/MAC/EAP/BOYD 
GENEVA FOR USTR 
 
SENSITIVE 
SIPDIS 
 
E.O. 12958: N/A 
TAGS: ECON EFIN EINV EPET MY
SUBJECT:  Malaysia: 2010 Budget Calls for Big Spending Cuts 
 
¶1. (SBU) SUMMARY: Prime Minister Najib unveiled Malaysia's 2010 
budget on October 23.  The GOM aims to achieve a dramatic reduction 
in its budget deficit from an expected 7.4 percent of GDP in 2009 to 
5.6 percent of GDP in 2010.  The GOM projects lower revenues due to 
reduced 2009 profits in their oil and gas industry and plans to 
address this by significantly reducing spending in key areas.  The 
forecast 13.7 percent reduction in operating expenses and 4.5 
percent decline in development spending results in a 11.4 percent 
spending cut.  The operating budget includes significant reductions 
in fuel subsidy costs and a huge reduction in the cost of supplies 
and miscellaneous items under the "other expenses" category.  Najib 
announced several new tax measures, most having limited impact on 
the budget except for a tax system change to increase current year 
revenues from upstream oil producers that impacts national oil 
company Petronas and their foreign oil and gas company partners. 
Najib also hinted that the GOM will introduce a general sales tax 
(GST), but gave limited details.  The GOM used conservative 
assumptions to form the budget including improving their forecast 
for 2009 from a 5 percent contraction to a 3 percent contraction, 
projecting 2-3 percent GDP growth for 2010, and assuming oil prices 
remain at $70 per barrel.  Najib also signaled the GOM is reviewing 
acceleration of non-core assets sales in government linked 
corporations and announced numerous incentive programs for 
development in targeted industries.  END SUMMARY. 
 
¶2. (SBU) COMMENT: The 2010 budget is Prime Minister Najib's first 
since he came to power.  The general consensus among our banking and 
finance contacts is that this budget is a responsible effort to 
reduce Malaysia's growing deficit by cutting bloated operating 
expenses, which had increased 30% since 2007. The budget is seen as 
neutral for most U.S. firms, though the new tax on credit cards will 
hit Citibank, along with other major credit card issuers.  Our 
contacts also do not see the spending cuts as contractionary due to 
significant stimulus spending accounted for in 2009 will not 
actually be paid out until 2010.  However, the GOM's overreliance on 
oil and gas revenues to support government spending is coming back 
to bite it.  The GOM plans to achieve deficit reduction by ensuring 
spending cuts outpace revenue declines.  To achieve the 2010 
budgeted cuts, the Najib Administration is committing to long 
overdue but politically difficult reforms in government procurement 
procedures and fuel subsidies programs.  There is significant local 
skepticism that Najib has the political will push through these 
changes.  The restructuring of the upstream oil and gas income tax 
system means current year tax revenues will be highly dependent on 
the price of oil, increasing revenue volatility and giving the 
Ministry of Finance (MOF) minimal time to react if oil prices dive. 
Prime Minister Najib is calculating that the recovery is real, oil 
prices will stay above their $70 per barrel target, and he can get 
the announced reforms passed by Parliament.  If he is correct, the 
GOM will likely meet or outperform a 5.4 percent of GDP deficit, 
otherwise the deficit could surpass 2009 levels, potentially causing 
increased economic hardship.  END COMMENT. 
 
Malaysian 2010 Budget - Focus on Spending Cuts 
--------------------------------------------- - 
 
¶3. (SBU) Malaysia announced its 2010 budget on October 23 trying to 
strike a balance between enhancing fiscal sustainability and 
providing support to the economy. The government improved its 
projection for the 2010 fiscal deficit from a revised 2009 figure of 
7.4 percent of GDP (USD 14.9 billion at MYR3.42 per USD 1) to 5.4 
percent of GDP (USD 11.8 billion).  The GOM proposed to achieve the 
reduction by cutting 13.7 percent from its operating expenditures, 
as well as a 4.5 percent from development expenditures.  The 
operating expense cuts are focused on: reducing fuel subsidies by 
14.7 percent (USD 1.2 billion) and targeting the remaining subsidies 
to the poor; implementing a competitive bidding process in 
government procurement to reduce spending on supplies by 22.2 
percent (USD 1.8 billion); and curtailing discretionary expenditures 
by trimming "other expenditure" 63.7 percent (USD 5.4 billion) over 
2009 levels.  Few details were given on implementation of a more 
targeted fuel subsidy system apart from that it would target the 
poor and utilize the MyKad smart-card system and existing 
infrastructure.  The Prime Minister suggested the politically 
sensitive ethnic Malay-biased government procurement system would be 
reformed to allow competitive bidding.  The "other expenditure" 
category is buried in the footnotes of the Economic Report released 
along with the budget and includes "grants to Statutory Funds, 
public enterprises, international organizations, insurance claims 
and gratuities and others".  There was a large increase in this 
expense category in 2009 and expenditure was budgeted to return to 
near 2008 levels in 2010. 
 
KUALA LUMP 00000887  002 OF 003 
 
 
 
Revenues Slump on Lower Oil and Gas Proceeds 
------------------------------------------- 
 
¶4. (SBU) The GOM projects 2010 total revenues to fall 8.4 percent, 
with reduced income from oil and gas causing the decline.  2010 
Income tax receipts attributable to oil and gas were forecasted to 
fall 28.3 percent from USD 7.9 billion in 2009 to USD 5.7 billion. 
In addition, the GOM forecast and additional USD 3.4 billion lower 
2010 non-tax revenues, due to declining Malaysian oil and gas 
production, in the form of lower dividends from Petronas and other 
government linked corporations (GLCs) as well as lower licensing 
fees paid by foreign oil producers.  Petronas provided 41 percent of 
2009 GOM revenues, which will decline to 38 percent in 2010. 
 
¶5. (SBU) In order to avoid an additional USD 1.2 billion reduction 
in oil and gas income tax revenue, the income tax system for 
upstream oil and gas was changed from a preceding year assessment 
system to a current year assessment system.  This should boost GOM 
2010 tax revenue from oil companies whose 2009 profits slumped due 
to the dramatic fall in oil and gas prices.  Companies will pay 2010 
taxes based on 2010 estimated profits plus their 2009 taxes due in 
increments over a 5-year period, effectively increasing their 
current tax liabilities by 20%.  The tax system restructure affects 
Petronas and international oil companies' upstream operations 
producing in Malaysia.  U.S. oil and gas companies are unhappy about 
the unexpected tax hike, according to Exxon Mobil's Director of 
Business Services.  Exxon Mobil and Murphy Oil are significant 
producers in 2009 and are still working with Petronas to determine 
the extent of the tax increase over previous 2010 projections.  The 
foreign oil companies were not forewarned of an impending change in 
their tax system.  Conoco Philips Malaysia President told us that 
the restructure will not impact Conoco's 2010 taxes as they are not 
scheduled to begin production in Sabah until 2011. 
 
New Tax Increases Offset by New Tax Cuts 
---------------------------------------- 
 
¶6. (SBU) Given the decline in Petronas-based revenues, many 
observers were surprised by a second straight 1 percentage point 
reduction in the top rate of personal income tax to 26 percent and 
increased exempted annual income from USD 2,339 to USD 2,631. To 
offset the personal income tax decrease, the government proposed a 5 
percent capital gains tax on investment property sales.  The GOM 
spun the tax increase as a targeted measure to prevent future 
property asset bubbles.   The GOM also proposed a USD 15 annual tax 
on credit cards and a USD 2,932 fee on automobile import permits. 
Citibank is Malaysia's top credit card issuer and told us that the 
new tax on credit cards will significantly damage their credit card 
business in Malaysia.  Citi dominates the co-branded credit card 
business that offers large discounts at co-branded stores to users. 
Many Citi cardholders have multiple Citi co-branded cards, which 
carry no annual fee, and Citi is concerned that the USD 15 annual 
tax per card will drive consumers to consolidate their cards, 
actually costing consumers the benefit of the discounts they are now 
enjoying.  Citi has reached out to the MOF to negotiate one fee per 
customer per bank rather than per card.  The net effect of the new 
tax measures on the 2010 budget is negligible. 
 
PM Floats GST Trail Balloon 
--------------------------- 
 
¶7. (SBU) Prime Minister Najib announced the GOM is in the final 
stages of completing a study on GST implementation.  Najib noted 
that if the GST were to be implemented, it would replace the current 
tax on services at a lower rate.  There would also be exemptions 
granted to lower income groups.  GST implementation would broaden 
the revenue base away from petroleum and likely be revenue neutral 
in the near term, with benefits felt more in the medium term if GST 
rates were increased. 
 
GOM Asset Divestiture Announced 
------------------------------- 
 
¶8. (SBU) The GOM also proclaimed it will reduce its involvement in 
economic activities and accelerate divestiture of non-core 
government linked companies (GLCs) and other assets owned by 
Ministry of Finance and other agencies, which could augment 2010 
revenues.  The finance ministry announced it will conduct a sweeping 
review of barriers to investment, and plans to attract foreign 
investors to take up stakes in non-core state owned companies.  The 
August 2009 announcement by Petronas that it will continue to 
 
KUALA LUMP 00000887  003 OF 003 
 
 
explore the possibility of publicly listing its core gas and 
marketing subsidiaries is in line with the GOM considering strategic 
divestments.  Since July 2009, the GOM sold small stakes in Malaysia 
Airports Holdings, Plus Expressways and Pos Malaysia (the national 
postal company).  There have been increasing press reports of 
investor interest in such companies as Astro All Asia Networks, 
Axiata Group, Plus Expressways and Sime Darby palm oil plantation 
company.  There are also recent reports the government is marketing 
valuable land holdings in the Kuala Lumpur area.  Bank analysts 
estimate a USD 25-30 billion market value for GOM non-core assets. 
 
 
Growth Incentives Highlighted 
----------------------------- 
 
¶9. (SBU) Prime Minister Najib also announced a variety of incentive 
measures to stimulate growth and assist Malaysia move up the 
development ladder towards a high-income economy. Funds were 
allocated to helping small and medium-sized enterprises and to 
strategically important sectors like agriculture and construction. 
In addition, funds were earmarked for infrastructure development, to 
improve Malaysia's transport networks and production capacity and 
boost Malaysian long-term competitiveness. Further financial sector 
liberalization measures include allowing 100 percent foreign 
ownership of financial planning and corporate finance firms, with a 
clear emphasis on Islamic finance to further cement Malaysia's 
position in this niche market.  U.S. banks operating in Malaysia 
commented that they expect the financial sector liberalization 
measures will have minimal impact on bringing in new financial 
sector investment.  Funds were also allocated to strengthen existing 
social-safety-net programs and promote greater awareness and 
implementation of green technology. 
 
2009 GDP Outlook Upgraded, 2010 Growth Modest 
------------------------------------------- 
 
¶10. (SBU) The Ministry of Finance upwardly revised its 2009 and 2010 
GDP forecasts. It revised its 2009 GDP projection from a contraction 
of 4-5 percent to a contraction of 3.0 percent provided a cautious 
GDP growth range of 2-3 percent for 2010.  Continued buoyant 
construction activity and a resilient service sector led 2009 growth 
expanding 3.5 percent and 2.1 percent, respectively.  In contrast, 
manufacturing was projected to decline 12.1 percent in 2009.  All 
sectors are expected to register positive growth in 2010.  The 
manufacturing sector, 26 percent of GDP, is expected to recover the 
most in absolute terms with 1.7 percent growth, while construction 
and services will rise 3.2 percent and 3.6 percent next year. The 
government expects inflation to remain low at 1.5-2.5 percent in 
¶2010.  The GOM 2010 GDP growth projections are well below our 
banking contacts projections, which range from 3.8 percent to 6.5 
percent. 
 
KEITH