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Monday, January 21, 2013

Fiscal Cliff and its impact on Malaysian Economy

In this global economy, we are affected by events across the world. We've seen examples of turmoil in the Middle East affected to the price of petrol; climate change in Vietnam, Thailand and India on price of rice and other food products, bird flu epidemics on tourism sectors; and problems of Financial Institution in European Countries and United States on export and import of our manufacturing products.

One of the biggest economy issues in the world is the debt increases. Debt increases will caused the budget deficit in one single country. Budget deficit is a financial situation that occurs when an entity has more money going out than coming in. The term "budget deficit" is most commonly used to refer to government spending rather than business or individual spending. When it refers to federal government spending, a budget deficit is also known as the "national debt." National debt is the sum of all past deficits, minus the amount the federal government has since repaid. Every year in which the government runs a deficit, the money it borrows is added to the federal debt. The size of a budget deficit in any given year is determined by two factors: the amount of money the government spends that year and the amount of revenues the government collects in taxes. Both of these factors are affected by the state of the economy as well as by the tax and spending policies made each year in the federal budget process. A budget deficit policy, rather than perceiving it as interventionist and viewed negatively, a government’s involvement in the economy through fiscal policy manipulation could also be catalytic to the development of the economy. This arises when government has socioeconomic development responsibilities to fulfill. For instance, a government may decide to promote investment in the service sectors such as tourism and education by expending more on infrastructure development and providing fiscal incentives to firms to motivate them to invest in this sector. This could promote employment, area development and hence alleviate poverty.

The debt affects the deficit in three ways. First, the debt actually gives a better indication of the true deficit each year. Second, the interest on the debt is added to the deficit each year. Third, the debt can decrease tax revenue, thereby further increasing the deficit. As the debt continues to grow, creditors can become concerned about how the government plans to repay it.

In financial year 2013, the US Federal budget deficit is projected to be $901 billion. That’s because US government spending is budgeted at $3.803 trillion, while U.S. government revenue will only be $2.902 trillion. Although this deficit is huge, it is lees than the budget deficits in each of the past four year, whereas in year 2012 $1.327 trillion, year 2011 $1.3 trillion, year 2010 $1.3 trillion and year 2009 $1.4 trillion. The U.S. government normally practising budget deficits for three reasons: First, the more the government spends, the more it stimulate economy; Second, there are many other countries, like China, Japan and Middle East countries willing to lend U.S. government the money; and Third, politicians get elected for saving jobs. They lost elections for allowing unemployment to continue or raising taxes.

A more pressing concern among economists is that the tax increases called fiscal cliff. The "fiscal cliff" is a term used describe a bundle of momentous U.S. federal tax increases and spending cuts that are due to take effect at the end of 2012 and early 2013. In total, the measures are set to automatically slash the federal budget deficit by $503 billion between FY 2012 and FY 2013, according to the most recent Congressional Budget Office (CBO) projections. If these numbers are converted to calendar year 2013, however, this contraction would be substantially higher, close to 4 percent of GDP. The abrupt onset of such significant budget control in the midst of a still-fragile economic recovery has led most economists to warn of a double-dip recession and rising unemployment in 2013 if Washington fails to intervene in a timely fashion. Generally, from academic point of view, the US federal government can be regarded as being increasingly prudent in managing its fiscal position.

In the United States, the fiscal cliff is the sharp decline in the budget deficit that could have occurred beginning in 2013 due to increased taxes and reduced spending as required by previously enacted laws. The amount of deficit by which government spending exceeds its revenue was projected to be reduced by roughly half in 2013. The Congressional Budget Office (CBO) had estimated that the sharp decrease in the deficit would have likely led to a mild recession in 2013 with the unemployment rate rising to roughly 9 percent in the second half of the year. The previously enacted laws leading to the fiscal cliff had been projected to result in a 19.63% increase in revenue and 0.25% reduction in spending from fiscal years 2012 to 2013. Those laws included the expiration of the 2010 Tax Relief Act and planned spending cuts under the Budget Control Act of 2011. Under the fiscal cliff scenario, some major programs like Social Security, Medicaid, federal pay (including military pay and pensions), and veterans' benefits, would have been exempted from the spending cuts. Spending for federal agencies and cabinet departments would have been reduced through broad, shallow cuts. It’s mean some allocation will be reduced to achieve this budget control policy. Impending increase in tax burden, consumers may instead decide to trim their current consumption in favor of higher savings. The reduction in private spending will slowing the the economy for the short period.

The Congressional Budget Office estimates that allowing certain laws such as increasing the tax would cut the 2013 deficit approximately in half and significantly reduce the trajectory of future deficits and debt increases for the next decade and beyond. However, the 2014 deficit reduction would adversely impact the economy in the short-run. On the other hand, if Congress acts to extend current policies (the alternative scenario), deficits and debt will rise rapidly over the next decade and beyond, slowing the economy over the long run and dramatically increasing interest costs. The Congressional Budget Office (CBO) estimates that if the baseline scenario is allowed to take effect in 2013, it would reduce federal spending by $103 billion and increase tax revenues by $399 billion through September 2013.

Fiscal cliff going to create a huge impact to US and others countries if this were to happen. In 2013, Malaysia could experience a slower economic growth of between 3% and 4% if the US fiscal cliff was kicks this year. The fiscal cliff will create a recession in the US where its economy will likely contract by 0.5% and this may lead to a bigger than expected recession in the euro zone. The spill over effects may lead to global trade falling quite significantly. Malaysia has favorable trade balance with U.S. Between year 2010 to 2012 we have trade surplus more than U.S. $11 billion per year. For Malaysia, which is a trading partner with U.S. and European countries, it will impact Malaysian trade. Even though the economic growth would be supported by Malaysia's investment growth, which was more than 20% for the first three quarters of 2012, and strong positive momentum in private consumption growth, but the 20% investment growth would not recur in 2013 but it would still expand by close to double digit, at least in the first half of 2013 as the Government was expected to continue spending on infrastructure development such as North-South double railway and Iskandar area development projects.

1 comment:

Anonymous said...

Given the situation of US economy,
roughly how long does it takes for them to recover?

Other than that, does this affect the investment in Equity and bond fund of Hong Kong and asia region?

Thank You Sir for the informative content on US economy situation and the impact of Malaysia.