Monday, October 7, 2013



Subsidy Rationalization

The Barisan Nasional GE13 honeymoon came to an abrupt end when Prime Minister Dato Seri Najib Tun Razak announced on 2nd September 2013 an increase by 20 cents of RON 95 and diesel bringing the price to RM2.10 and RM2.00 a liter respectively. The Prime Minister said that subsidy rationalization is back on the table when Budget 2014 is unveiled this coming October. I raise, in the recent parliamentary session, that removing fuel subsidies and providing targeted subsidies such as BR1M is a failed neo-liberal policy. Deputy Finance Minister Datuk Ahmad Maslan in reply repeated that subsidy rationalization is needed to address the fiscal deficit and the Government prefers providing targeted subsidies to the poor through programmes such as BR1M than universal subsidies that benefit the rich. He unfortunately did not respond to the issue that neo-liberal policies had failed.

Some quarters believe the Government is correct to remove subsidies because of increasingly high global market price of petroleum and that targeted cash subsidies is more efeective. Dr Lim Teck Ghee issued a timely reminder that subsidies have an important role to play in providing a safety net to vulnerable groups. He said in pushing for a free market system without due attention to the structural defects of our political economy, proponents of the neo-liberal ideology run the risk of throwing out the baby with the bathwater.[1] I like to add that shifting to targeted cash subsidies does not reduce poverty. Only a redistributive policy can do this. Removing fuel subsidies and providing targeted cash subsidies has its own challenges including problems of identification of the target group, high administrative costs, inflationary effect on prices following fuel increases, increase speculative activities and less market stability. We should learn from the bitter experiences and sufferings of those who implemented the neo-liberal policies by rejecting them.

IMF and World Bank Recommendations

The Government is repeating the International Monetary Fund (“IMF”) and the World Bank arguments for subsidy rationalization. IMF has often said and recently repeated in an article dated January 28 2013, that while fuel subsidies are aimed at protecting consumers, subsidies aggravate fiscal imbalances, crowd-out priority public spending, and depress private investment, including in the energy sector. IMF said that subsidies also distort resource allocation by encouraging excessive energy consumption, artificially promoting capital-intensive industries, reducing incentives for investment in renewable energy, and accelerating the depletion of natural resources. According to IMF, most subsidy benefits are captured by higher-income households reinforcing inequality. Even future generations are affected through the damaging effects of increased energy consumption on global warming.[2]

The Washington Consensus and Neo-Liberal Policies

I have read several articles and comments that because the Government’s subsidy rationalization is adopting IMF and the World Bank policies, subsidy rationalization must therefore be good for Malaysians. It is not necessarily true. In order to understand the impact and effect of the subsidy rationalization policy I have carried out some research on this matter. I like to share this research. I believe it is necessary for Malaysians to understand and know the objectives and policies of IMF, the World Bank, the US Treasury and other institutions in Washington known as “the Washington Consensus” and the experience of those that implemented the neo-liberal policies. I like to share the views of those who believe the Washington Consensus and Neo-Liberal policies are responsible for the poverty and inequality increase in the countries that implemented them. The Washington Consensus forced these governments to implement the neo-liberal policies as part of the conditions for loans given. Critics blame these neo-liberal policies for the misery and dislocation suffered by the unfortunate citizens of these countries.

The term “Washington Consensus” was coined in 1989 by John Williamson. It was introduced in a period when the Keynesian dominance in economic theory and policy had collapsed and neo-liberalism was promoted by Reagan and Thatcher administrations in the US and UK. Williamson summarizes these neo-liberal policy prescriptions in ten propositions:-

1.      The imposition of fiscal discipline;
2.      The redirection of public expenditure priorities towards other fields;
3.      The introduction of tax reforms that would lower marginal rates and broaden the tax base;
4.      The liberalization of interest rate;
5.      A competitive exchange rate;
6.      The liberalization of trade;
7.      The liberalization of inflows of foreign direct investment;
8.      The privatization of state-owned economic enterprises;
9.      The deregulation of economic activities;
10.  The creation of a secure environment for property rights;[3]

The theoretical foundations of these proposals are those advanced by the neo-liberal economic theory. According to this theory, economies are in crisis because of impediments to the free operation of the market. The impediments came from the overinflated interventionist Keynesian state and its expansionary and redistributive policies that deformed market data and signals. The solution, according to the neo-liberal mantra, would be the withdrawal of the state from the economy and the reinstatement of the unhindered operations of the market. Therefore, fiscal discipline should be imposed on public activities and a return to the balanced budgets (as opposed to the Keynesian deficit and expansionary budgets). The now limited public budget expenditure should be directed towards fields that cover its costs (possibly through the imposition of compensation payments) and would support private entrepreneurship instead of paying for public works and redistributive policies. Subsequently, the tax system should be reformed so as not to hit hard business profits and the incomes of the upper strata, which were conceived as the locomotive of the economy. Additionally, the operation of the financial system should be liberated from the state and be left to the free operation of the market forces. Thus, the interest rate should be determined more or less competitively. The withdrawal of the state from the economy required, also, the privatization of all activities and enterprises that were state-owned and directed, the limitation to a minimum of all state regulations and adequate guarantees that there would not be violations of property rights (as it had happened previously with nationalizations).

The second generation neo-liberal theory emphasized the opening of economies, the liberalization of international trade, capital movements and financial activities. Thus protectionist measures had to be abolished and free trade movements had to be secured. Last but not least, international financial transactions and primarily, the exchange rate of the currency had to be set according to market prerogatives and not by state policies.

Neo-Liberal Policies Criticized for Increased Poverty and Inequality

It has been said that many developing nations are in debt and poverty partly due to these policies of IMF and the World Bank. Their programmes have been heavily criticized for many years for resulting in poverty. In addition, for developing or third world countries, there has been an increased dependency on the richer nations. This is despite the IMF and World Bank’s claim that they will reduce poverty. Following neo-liberalism the Washington Consensus spearheaded, Structural Adjustment Policies that were imposed to ensure debt repayment and economic restructuring. However, the way it has happened has required poor countries to reduce spending on things like health, education and development, while debt repayment and other economic policies have been made the priority.[4]

After the first years of implementation of the Washington Consensus policies and reforms there was a growing sense, among friends and foes, that it failed its promises. More specifically, from the late 1990s and onwards, the Washington Consensus was facing major difficulties regarding a number of issues, which were not included in its declared objectives but are crucial for the development process. It was criticized by UNICEF for failing to implement adjustment process with a “human face”, and thus, for causing social upheavals.[5] Additionally, it was criticized for failing to deliver significant advances in performance, let alone development. Several studies argued that its policies led to an increased in poverty and inequality both between developed and developing and less developed economies and within themselves. Additionally, the apparent inability of developing and less developed economies to catch-up the level of growth of the developed ones and, in many cases, the increase of the gap between them were attributed also to the policies instigated by the Washington Consensus.

Neo-Liberal Policies view Poverty and Inequality as of Secondary Order

For almost all critics, Washington Consensus and the inability of the neo-liberal policies to address issues of poverty and inequality lay on its analytical perspective. The Washington Consensus held the view that poverty and inequality were problems of a secondary order, which more or less would have been alleviated once the market was free to operate undisturbed by the impediments, then the free operation of capital, domestically, but mainly internationally will provide all the stimulation and the efficiency necessary for feasible development. Against this market-fundamentalist presumption, most of the critics point out during the last twenty years of the 20th century after implementation of the Washington Consensus neo-liberal policies and structural changes there was a marked increase of poverty and inequality.[6]

Washington Consensus Accepts Shortcomings

The Structural Adjustment Policies were indeed a contraction policy. According to Ali Dini and Victor Lippit, a visiting scholar and professor respectively of the Economics Department of University of California-Riverside, the consequences of these policies were falling capital accumulation due to falling public expenditure and rising poverty mainly due to liberalizing food prices and falling real income.[7] World Bank and IMF in a joint study in 1989 pointed out[8]:

“Declining per capital incomes accompanied by worsening social indicators, particularly sub Saharan Africa and Latin America… Some of the poor did benefit, but many vulnerable groups were hurt by measures associated with adjustment. By the mid-1980s, it became clear that given the time and effort required to turn deeply troubled economies around, it would be morally, politically and economically unacceptable to wait for resumed growth alone to reduce poverty”

In 1990 Michael Camdessus, managing director of IMF, accepted:
“..the recognition that macroeconomic policies can have strong effects on the distribution of income and on social equity and welfare. A responsible adjustment program must take these effects into account, particularly as they impinge on the most vulnerable or disadvantaged groups in society”[9]

IMF and the World Bank thereafter responded to these criticisms by proposing the removal of subsidies with cash subsidies to the targeted poor to compensate for the negative effects of the Structural Adjustment Programmes. Scholars argued that the Structural Adjustment Programmes with cash subsidies to the poor is insufficient and state intervention is necessary to provide public goods including health, education and job creation.

The need for state intervention was confirmed during the 2006 to 2008 world food crisis. People in some developing countries died because of their inability to pay the high food prices due to their fixed nominal income. According to FAO at least 100 million people suffer the risk of hunger. In the words of Josette Sheeran (2008) the head of the UN’s World Food Program:

“This is the new face of hunger… There is food on the shelves but people are priced out of the market. There is vulnerability in urban areas we have not seen before. There are food riots in countries where we have not seen them before”

The world food crisis confirms that markets including food markets have to be governed and state intervention is necessary.

 Legacy of Neo-Liberal Policies and the Arab Spring

On New Year’s Day 2012, Nigeria joined Guinea, Cameroon, Ghana and Chad to remove fuel subsidies in accordance with a directive from the IMF. Much to the dismay of the population of these nations, the prices of fuel and transport nearly tripled over night, causing widespread violence on the streets.[10] Neo-Liberal Policies pushed by the Washington Consensus on Ben Ali of Tunisia and Hosni Mubarak of Egypt stoke the fires of Arab Spring. In both Tunisia and Egypt, the neo-liberal policies of the pre-revolutionary period fueled the social protests. Privatization adopted by Hosni Mubarak threw hundreds of thousands in Egypt out of work into impoverishment. Cuts in public health and education, galloping food-price inflation sparked bread riots in 2008. The lightning rod for the Tunisian revolution was the death of Muhamed Bouaziz- a young man driven to suicide by economic hardship and state harassment. The uprising which followed brought down the dictatorship of Ben Ali.

In August 2012 the Mohammed Morsi government approached the IMF for a US4.8 billion loan. Getting the loan was critical. If Egypt could raise the funds, it would be in a better position to borrow from other sources. IMF calculated Egypt needed at least US 10 to 12 billion to survive another year. With more than 40% of the people living on less than US$2 a day and prices of essential goods had risen by 25% on average a year, IMF insisted on deep cuts to subsidies for fuel and bread. Egyptian workers saw this as a betrayal of the revolution’s demand for “Bread, Freedom and Social Justice” and launched a series of strikes and protests against the subsidy cuts.[11] The rest as they say is history.

Malaysians Must Take Heed

Malaysians must take heed that the Washington Consensus neo-liberal policies have missed the mark. Jeffrey D. Sachs, economist and director of Earth Institute at Columbia University and the United Nations Millennium Project said economists have learned a great deal during the past few years one is the need for good governance[12] and:

“The other major insight is that although the most powerful mechanism for reducing extreme poverty is to encourage overall growth. A rising tide does not necessarily lift all boats. Average income can rise, but if the income is distributed unevenly the poor may benefit little, and pockets of extreme poverty may persist (especially in geographically disadvantaged regions). Moreover, growth is not simply a free-market phenomenon. It requires basic government services: infrastructure, health, education, and scientific and technological innovation. Thus, many recommendations of the past two decades emanating from Washington–that government in low-income countries should cut back on their spending to make room for the private sector-miss the point. Government spending, directed at investment in critical areas, is itself a vital spur to growth, especially if its effects are to reach the poorest of the poor.” 

Malaysians have the good fortune to learn that the neo-liberal experiment has failed and should not repeat the mistakes as Jeffrey Sachs said:

“The whole thing was based on the idea that if you take away the government for the poorest of the poor that somehow these markets will solve the problems… But markets can’t step in and won’t step in when people have nothing. And if you take away help, you leave them to die”

Let’s not throw out the baby with the bathwater.

William Leong Jee Keen
Member of Parliament Selayang




[2] Energy Subsidy reforms- Lessons and Implications; IMF Policy Paper; January 28, 2013
[3] Reform, reform the reforms or simply regression? The ‘Washington Consensus’ and its Critics
[4] Structural Adjustment-a Major Cause of Poverty – Global Issues
[5] UNICEF report “Adjustment with a Human Face” 1987
[6] Reform, reform the reforms or simply regression? The ‘Washington Consensus’ and its Critics
[7] Food Subsidies, Growth and Poverty A Critique on Neoliberal Institutional Structure Ali Dini Visiting Scholar at Economics Department of University of California-Riverside and Victor Lippit Professor at Economics Department of University of California-Riverside.
[8] IMF/World Bank Report quoted from IMF Survey 3 April 1989
[9] Camdessus M “Speech to US Chamber of Commerce 26 March 1990
[10] The IMF and US African Command (AFRICOM) Join Hands in the Plunder of the African Continent by Nile Bowie Global Research 6 January 2012
[11] Mena Solidarity Network
[12] Can Extreme Poverty Be Eliminated by Jeffery D. Sachs 2005 Scientific American Inc.