Historic victory of Malaysia for an opposition coalition

Malaysia’s 14th general election resulted in a surprise victory by the opposition coalition, Pakatan Harapan (PH), led by former Prime Minister Mahathir Mohamad. The Election Commission reported that PH has won 121 seats in Parliament, over the threshold (of 112 seats) to form a government, compared with 79 seats for the incumbent Barisan Nasional (BN) coalition and remaining 22 seats from other smaller opposition parties.

The election marks the first defeat for the ruling UMNO party and its coalition (BN as well as its predecessor, the Alliance) since Malaysia’s independence in 1957. Dr. Mahathir will likely be returning to the PM post after 15 years, but policy uncertainty may rise as Malaysia awaits its first major transition in government. Dr. Mahathir, who is 92 years old, served as the Prime Minister from 1981 to 2003, including during the Asian Financial Crisis and is well known for introducing capital controls together with a currency peg at 3.8 against the USD in September 1998. While he had expected to be sworn in on May 10, latest press coverage suggests that the Palace has not scheduled the ceremony yet. Once sworn in by King Muhammad Vwas, the new PM will appoint cabinet members. Dr. Mahathir has indicated that he will be appointing the current leader of Parti Keadilan Rakyat (PKR) party, Wan Azizah Wan Ismail as Deputy PM .

The surprise win bears significant macro implications in our view, mostly for fiscal policies . This could lead to net revenue losses, at least in the short term, in our view, given the relative efficiency of GST administration and the previous vulnerability of SST to collection loopholes. After its introduction in 2015, GST accounted for about 20% of total government revenues and 3.4% of GDP in 2016.

Despite a possible revenue slippage from a GST abolishment, government spending needs may rise. As part of the 10 election pledges, PH also promised to raise the minimum wage with half of the increase subsidized by the government . More broadly, PH has called for more social spending and infrastructure development, as well as a possible revival of fuel subsidies. While details on the subsidy plan have not been disclosed, fuel subsidies cost some RM20bn (US$5bn, or around 2% of GDP) per annum before their abolishment in November 2014. Given that the government needs to operate under a public debt ceiling of 55% of GDP, not far from the current public debt level of 50.9% of GDP, more spending would imply some combination of tax hikes, improved tax administration, or a potential breach of the debt limit.

We think MYR might see weakening pressures in the near term. The typical post-election pattern  is a factor that could repeat this time as well. Fiscal implications of PH’s election promises, notably the GST repeal, reintroduction of oil subsides, and subsidized minimum wage hikes, could affect sentiments of bond investors although it remains to be seen how the election promises are implemented. While higher oil prices will help improve government revenues , windfall energy revenues may not be sufficient to offset the pressure for larger fiscal deficits arising from the implementation of election promises. Foreign holdings of government securities increased to around 45% of the market at end-March 2018 up from 38% in April 2017, boosted by some US$7bn foreign inflows over the 12-month period (Exhibit 2). Therefore, bond yields and the MYR could be sensitive to fiscal news and broader sentiment on the new government’s policies; our USDMYR forecast is under review given the increased near-term uncertainties. Fiscal expansion at a time of above-potential growth could add to inflation pressures. A minimum wage hike, if implemented within the first 100 days of government formation as promised, should also show partial pass-through to consumer prices. We maintain our view that the  policy rate hike will take place in 1H of 2019 given currently low core inflation and sequential moderation in growth later this year. That said, a possible rise in inflation expectations or significant weakening in the MYR could may tilt the BNM towards a more hawkish direction in the coming months.