'NO' TO GST when 40% of our wealth is held by 10% of the population - Umno & cronies!

The task of the taxing authorities is to "so pluck the goose as to obtain the largest amount of feathers with the least amount of hissing." We the taxpayers, of course, are the geese. - Jean-Baptiste Colbert

The highlight of our Budget 2014 is the long anticipated introduction of the 6% GST or Goods and Services Tax. Under the current tax regime we pay 10 % sales tax (mainly manufacturing goods) and 6% service tax (mainly on F&B).

To illustrate how the operations of a company in Malaysia will be impacted by the implementation of the GST we will use the following scenario.

By April 2015, a company operating in Malaysia will have to have to pay tax to its supplier which is also known as input tax. When the company sells its end product to the consumers or other businesses, it will have to impose a tax known as output tax. To calculate how much tax to pay the authorities it will have to add up its output tax and minus the total input tax or,

GST payable by the company = Total Output Tax – Total Input Tax

Why GST is implemented?

There are many reasons for the implementation such as:

1. To widen the tax base rather than relying on current corporate and personal income tax.
2. Our income tax level has reached its political limits currently hence our government will have to look at other alternatives.
3. Government Deficits has to be financed through an alternative source that will not increase our Government debt burden.

To see why our tax base is very narrow I present to you below the chart for our country’s income distribution. Malaysia can be considered to have one of the worst income disparities in the world and certainly tops in Asia.

As can be seen form the chart below, the top 10% of the population controls 38.4% of our country’s wealth while the bottom 10% controls only 1.7%. I suppose this explains why only 10% of our population pays income tax!!

The second chart displays Malaysia being on top spot in Asia’s richest/poorest 10% disparity chart. This clearly shows that our tax limit has already been reached and further hike in taxes will surely infuriate the top 10% of the population.

By now you should know who made up the top 10% which is none other than the cronies or the special interest group (UMNO) plus their relatives and friends. In order not to cause further resentment to this group the government had no choice but to find an alternative taxing method.

Secondly, our Government is currently running a budget deficit to the tune of 4.5% to GDP as shown by the graph below. A Budget deficit is a situation where it spends more than it received.

To finance its spending our Government needs to either raise money through money printing, taxes, royalties, levies and other sources or through borrowing. The problem is that currently our Government’s debt is at 53.1% to GDP and capped at 55%.

Since its Debt/GDP is nearing the ceiling, our Government will have limited options to raise funds other than increasing taxes or reducing subsidies. These measures will fall into the non-monetize or deficit financing category. As its name suggests Non-monetize does not increase our Government’s debt because it will not increase the existing money supply.

The reason why non-monetize activities does not increase the money supply is because it mainly involves a shuffling of money. Or put it in layman’s term it is the shifting of money from the left pocket to the right.

To illustrate, we take an example from our petrol or sugar subsidy. When our Government reduces their subsidies, money will be transferred from the public to the Government coffers because the public is paying higher price for them. The existing money supply is the same but our Government now has a bigger share of it and hence money to spend.

Similarly when our Government implement the GST it also resulted in the transfer of money from the public to the Government. Since the GST is proportionally taxed meaning everybody, including the 90% that didn’t pay taxes will also be affected.

Hence by shifting money from the left pocket (public) to the right pocket (Government) our Government is expected to add about RM16 – RM20 Billion to its coffers.

What are the shortcomings?

As a result of the implementation of the GST, it is not going to be a smooth ride. There will be repercussions from it and I present them below:

1. A rise in corruption. Since every company is subjected to the authority’s scrutiny hence is obliged to keep an orderly and tedious account. They have to report all their incomes, expenditures and the amount of tax to the authorities. As empirical evidence emerged from European countries with experience with VAT, companies tend to over-inflate their expenditures and hence reduce their value added.

Discrepancies are bound to happen and this will give an opportunity for the powers to be to abuse their power and hence corruption. In the end it helped flourishes a brand new industry and that is faking invoices.

2. Increase in disparity because GST will apply to everybody irrelevant of their income level and hence also known as the proportional tax system. So how is the GST going to affect the poor more?

To illustrate, we have two individuals, A with an annual income of RM30,000 and B with an annual income of RM80,000.

In a Progressive Tax system A is paying a 5% tax or RM1,250 for his RM25,000 income and B is paying 20% tax or RM16,000 for his RM80,000 income. In this respect the poor man pays only RM1,250 for his taxes while his richer counterpart pays RM16,000 for his taxes.

In a Proportional Tax system everyone pays the same rate or 15% tax in this case. A with an annual income of RM25,000 will be paying RM3,750 while B with an annual income of RM80,000 will be paying RM12,000.

So, obviously the poor man is going to have less (RM21,250) after the tax deduction whereas the wealthier man still has much left (RM68,000).

Similarly, with the implementation of the proportional GST of 6%, who is going to pay more in monetary terms? Hence, will the low and middle income or the high income group suffer more?

3. Risk of Recession or slowing down of the economy.

This will be caused by the Crowding Out effect on the money supply. When our Government raise funds through non-monetize deficit financing activities such as cutting subsidies or broadening the tax receipts through GST, it will have the effect of Crowding Out or displace the consumer and private business credit.

This is because our Government is soaking up the money from the economy, money that would otherwise be used by the consumer to spend and the business to invest. At the end of the day this could reduce both private consumer and business spending and thus will lead to lower economic activity and worsen the recession.

Our Government should also know that by soaking up money from the existing money supply will lead to lower economic growth and hence might cause a recession. A recession means lower future tax revenue from both the private consumers and businesses.

What is our Government going to do next when tax revenues collapse? Increase the GST from 6% to 10% and further rationalising of subsidies? Or further monetize its debts by increasing its borrowings by raising the Debt ceiling?

4. Increase in prices.

In understanding how taxes affect the prices of goods and services we must understand the two concepts of taxes.

Firstly, we must know that taxes impacts the prices of goods and services in two ways namely tax incidence and tax impact. Tax impact refers to the initial point of the tax or the impact on a company or consumer. Tax incidence refers to the final resting place or the burden of the tax where it ended. As for GST the first impression is that it will be levied fairly to everybody since it is proportional. Thus it also gives the impression that the initial impact will be on the companies.

However companies are able to shift the tax burden backwards to the suppliers or forward to the consumers. In economics this is called the shifting thesis.

How do they do it? To reduce the impact of GST, companies can shift the tax burden backwards by pressuring suppliers to reduce their prices by a couple of percentage. With the current slowing economic conditions, I am sure most suppliers are willing to oblige. Thus the initial impact of the GST has already been taken cared because of price reduction from suppliers.

Another method is to shift the tax burden is to cut wages. Since buying more machineries will have some tax advantage and hiring more people doesn’t give any tax advantage, employers can then threaten employees to accept lower wages or risk being fired. This is because the company can now afford to hire less workers by automating their production processes.

Now to shift the tax burden forward to the consumers by increasing the price by 6% or they can reduce the portion (as in F&B).

Hence, in the end the companies will be better off in two ways, first by paying 6% GST on the back end but receive price reduction from suppliers and second from reduced wages and hence more profit. On the front end consumers will be charged higher prices (6% GST) but a smaller portion may be served (as in F&B).

The poor consumers will be hit by the full brunt of the price increase because they cannot shift their tax burden either forward or backward.

In wrapping up

At the end of the day it will certainly create two groups of people where one is the recipient while the other is the payer to the state coffer. The group that pays consist of the middle and lower class while the recipients are from the rich whose members include the politicians and their cronies, friends and relatives.

Moving forward I reckoned that the disparities between the rich and poor in Malaysia will be further widened. This is because by further rationalisation of subsidies followed by price increases, the lower and middle income group will be more affected due to their inability to absorb further increases in the cost of living.

How will the extra funds be utilized?

Our next problem is what is our Government going to do with the extra funds? From records, I don’t think much can be expected because we are still going to pay for road tolls, education, expensive and inefficient public transport, expensive public utilities and communications.

In other words there is no genuine effort to help us reduce our costs of living other than dolling out some money through the Bantuan Rakyat schemes. Again much of the funds will be spent on projects that will benefit their cronies.

It seems there is not much being done to strengthen our comparative advantages such as abundant natural resources and labour force, good weather and strategic location.

Companies in the past have access to the abundance of cheap labour as it is one of our comparative advantages. However this has almost disappeared because they are now being replaced by cheap foreign labour. Without them many of the products manufactured locally will not be competitive in the Global Market space. We have in fact lost many firsts such as being the biggest tin, rubber and now palm oil producer to the rest of the world.

In view of past industrialization efforts, we are yet to produce any ‘Emerging market Multinationals’. A good benchmark on how successful and influential that a company command is getting listed in the Fortune 500 Global Companies. The Fortune 500 Global is the ranking of the top 500 companies around the world as measured by revenue.

Throughout the years the only Malaysian company that consistently listed in the Fortune 500 is Petronas. The virtue on why Petronas is listed in the Fortune 500 Global is because it is a GLC or Government-Linked Company.

Singapore has two corporations listed in the Fortune Global 500 and they are Flextronics and Wilmar International which is controlled by Malaysian tycoon Robert Kuok. The following is the ranking list of countries with the most Global 500 companies.

China was virtually unrepresented 15 years ago, today has 89 corporations listed and ranked second place. Similarly South Korea whose economy was devastated during the Asian Financial Crisis has 14 corporations listed and ranked 7th in the world. Other Asian countries that have done pretty well are India, Taiwan and Singapore.

After more than 20 years of industrialization modelled after the Japanese during our ‘Look East’ policy, we have yet to achieve commendable results. Even with the financial and technical assistance provided by the various Government agencies such as MITI (modelled after Japan’s MITI), Sirim, EPU and others, we have yet to produce any world class companies.

So, I reckon our Government owe us some explanations to the following questions:

1. How are we going to address our widening income disparity?
2. Are we doing anything to make our economy more sustainable?
3. Are we doing anything to address the current issue in our education system where science and mathematics are not given top priorities?
4. What steps are we taking to enable us to move up the competitive ladder?
5. How about issues on equal opportunity and corruption?
6. Are we doing anything to capitalize on the Chinese and Indian diaspora to help us build our economy as what happened in China and India? China’s current achievement being the ‘World Manufacturing hub’ and India’s reputation being the ‘World Service Centre’ are made possible due to the contribution of their overseas Chinese and Indians.
7. When are we going to stop discriminating other races from holding top positions in GLCs and the Government? As Deng Xiaoping quoted “it doesn’t matter whether the cat is white or black as long as it catches the mice”
8. Why Malaysia as a resource rich country is doing worse than countries like Singapore, Hong Kong, Taiwan, and Switzerland that have no natural resources?
9. How about our Talent development? Any idea where are we heading in the next 10, 20 or 30 years from now?

Either not smart to think ahead or too busy pocketing from national coffers

As long as no efforts are taken to address the above fundamental problems, it will be a herculean task to take our economy to the next level to compete with the rest. This despite the many corridors and hubs that have been implemented, we have yet to attract many Global technology companies to invest and create a critical mass in our Research and Development.

Why? Because we are under-funding our research in physical sciences and thus lagged publications in these areas. Our politicians have yet given a thought on what Malaysia want to be in the next twenty to fifty years. Reason being our politicians haven’t “Got it” as those politicians in China and India.

Many of their top officials are trained engineers and they ‘Get it’ because they understand the linkages between technology development to manufacturing, university and infrastructure Eco-system.

Malaysia Chronicle