Can Malaysia ever move away from the middle-income trap?

By emphasising institutional reform, economic competitiveness and talent development, Malaysia would be able to move up the global value chain and escape the middle-income trap.

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Published in Focus Malaysia, Astro Awani & Biztech Asia, image from Focus Malaysia.

ALTHOUGH the proclamation of Emergency would not affect the economic and industrial chain activities in the public and private sectors, the spike of COVID-19 cases in the country coupled with the relatively slow progress of adoption of the Fourth Industrial Revolution (4IR), insufficient research and development (R&D) spending, continuous political turmoil, ageing population and reduced fiscal space might prevent Malaysia to establish as a high-income nation – not too far away from the middle-income trap.

A middle-income trap usually refers to countries that have experienced rapid growth and quickly reached middle-income status but they failed to overcome the income range to further catch up with developed countries.

Despite both South Korea and Malaysia being classified as lower-middle income countries in 1969, South Korea attained upper-middle income status in 1988 and high-income status by 1995.

Due to South Korea’s heavy investment in technology, education and R&D spending, South Korea’s gross domestic product (GDP) per capita rose tremendously in four decades, which was from US$1,715 in 1980 to US$31,762 in 2019.

Compared with South Korea, Malaysia has a relatively paced economic growth, greater income inequality and a lower share of high-skilled employment. These factors led Malaysia unable not to achieve the US$12,535 threshold (by July 1, 2020 as the stated goal), which refers to high-income nation status.

As only a gradual increase in GDP per capita is shown over these four decades (from US$1,775 in 1980 to US$11,415 in 2019), Malaysia remains as an upper-middle income country since 1996.

Although the World Bank is optimistic Malaysia would experience a successful transition from an upper middle-income economy to a high-income economy within this decade, the level of industrialisation might hinder Malaysia’s progress to transform as a knowledge-incentive economy and in turn, falling into the middle-income trap.

Despite Malaysia’s manufacturing sales in November 2020 standing at RM119.9 billion – growing at 2.1% as compared with the previous year – the Department of Statistics Malaysia (DOSM) revealed that there is a fall in total employees engaged in the manufacturing sector and a drop in salaries and wages paid.

As of November 2020, total employees engaged in the manufacturing sector was 2,195,488 persons, a decrease of 2.2% as compared to 2,245,373 persons in November 2019. In terms of salaries and wages paid, it amounted to RM7,190.3 mil, dropping by 1.3% or RM91.8 mil in November 2020 compared to the same month of the preceding year.

Former Prime Minister Najib Razak also quoted the data released by Bank Negara Malaysia (BNM) that the average wage of employees in the manufacturing sector had dropped to RM3,275 a month, a decrease of RM600 or 20% compared to RM3,863 in December 2018.

As Malaysia had experienced the Sheraton Move that led to a change of Government and the imposition of the movement control order (MCO) to control the COVID-19 outbreak earlier last year, Fitch Solutions Country Risk and Industry Research indicated in mid-2020 that the ongoing political tension in the country would eventually lead Malaysia falling into the middle-income trap as average real GDP growth is predicted to drop by almost half to 3.4% in the next 10 years, compared to an average of 6.4% over the past decade.

This can be seen when major tech firms decided not to set up their regional headquarter office in Malaysia. Apple and Samsung choose to create their production lines in Vietnam whereas Amazon plans to build three data centres in Indonesia’s West Java province by end of 2021 and early 2022.

In addition, the recent World Bank report “A Silver Lining: Productive and Inclusive Aging for Malaysia” shows that more than 7% of the country’s population will be aged 65 and above in 2020. The demographic change in Malaysia becomes a real concern because it is progressing at a much faster rate than that of many other countries.

By 2044, those aged 65 and above will represent 14% of its population, and by 2056, Malaysia will become an advanced aged nation with 20% of its population are aged 65 and above.

As an additional RM15 billion Malaysian Economic and Rakyat Protection Assistance Package (Permai) was introduced on Jan 18 to ease the financial burden among Malaysian citizens during MCO 2.0, the Government may need to increase the recently raised debt ceiling of 60% of GDP to approximately 65%, according to Malaysian Rating Corp Bhd (MARC).

Given the relatively high stock of Government debt, it is challenging for Malaysia’s economy to be at the pre-pandemic level again. Based on the estimates by CGS-CIMB Research, every two weeks of the MCO would shrink a 0.7 percentage point from its 2021 GDP forecast of 7.5%.

Despite more stringent COVID-19 measures are being implemented in the whole country for more than one week, there is no sign of recovery – 4,029 cases recorded on Jan 16, 3,339 cases recorded on Jan 17 and 4,008 cases on Jan 20.

The consistent rise in the COVID-19 infections right after the Sabah snap election on Sept 26 last year till now which is already more than one week into the MCO could mean the MCO would be extended for another two to four weeks.

Perhaps, the National Vaccination Plan that is scheduled to kickstart in February provides light at the end of the tunnel but it would take at least two years for the whole Malaysian population to be vaccinated for the economy to recover.

Therefore, for Malaysia to escape from the middle-income trap, EMIR Research has several policy recommendations for the government to consider:

  1. Develop targeted special incentives to attract foreign direct investment (FDI) so that Malaysia would not be left out from regional competitors such as Singapore, Indonesia, Vietnam and the Philippines;
  2. Enhance the technology-based procurement system (e-perolehan) by adding restrictive functions towards procurement as safeguards to ensure compliance to financial procedure. By incorporating technology to deploy cutting-edge procurement practices, it helps to optimise processes and minimise leakages and wastages;
  3. The Ministry of International Trade and Industry (MITI), Ministry of Finance (MOF), Ministry of Human Resources (MOHR), Ministry of Higher Education (MOHE), Malaysian Investment Development Authority (MIDA), Economic Planning Unit (EPU), Malaysia Digital Economy Corporation (MDEC), Human Resources Development Fund (HRDF) and TalentCorp Malaysia could synergise together to develop more high-skilled jobs, attracting more high-skilled talents in Malaysia. These ministries and government agencies could collaborate with industry players to ensure that the newly created jobs would match the current industry needs in the country.
  4. MOHR could partner with the private sector in giving the local workforce the opportunity to reskill, upskill and cross-skill and in turn, this could reduce the huge number of foreign workers in the country.

By emphasising institutional reform, economic competitiveness and talent development, Malaysia would be able to move up the global value chain and escape the middle-income trap.

Amanda Yeo is Research Analyst at EMIR Research, an independent think tank focused on strategic policy recommendations based on rigorous research.

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