Economy-wide impacts of removing cooking oil subsidies in Malaysia : a computable general equilibrium approach

Abstract

The implementation of the palm cooking oil subsidy aims to lower the market price of this commodity, particularly for low-income households. With the amount of subsidy approved by the Malaysian government, the supply of subsidized cooking oil in the market exceeds the total demand from households. However, there is currently a shortage of this supply in the market. This situation is likely due to the misuse of this untargeted subsidy, leading to smuggling or leakage to higher-income groups, as well as industrial and commercial entities. Therefore, there is a need to remove the cooking oil subsidy. However, the main concern is its impact on related sectors and household welfare, especially among the poorest. Hence, this study aims to conduct a quantitative assessment of the economy-wide impacts of removing the cooking oil subsidy. To analyze its impact on specific sectors and their interactions, this study develops a static Computable General Equilibrium model that includes household disaggregation and the expansion of the oils and fats sector into several other sectors, based on the 2019 Malaysian Input-Output Table. Households in this study are categorized into ten income groups: low income (B1, B2, B3, B4), middle income (M1, M2, M3, M4), and high income (T1, T2). Meanwhile, the sectoral disaggregation has expanded the input-output (I-O) table from 124 subsectors to 126 subsectors. The oils and fats sector has been disaggregated into three separate sectors: palm cooking oil, other palm oil, and other oils and fats. To assess the economy-wide impact of subsidy removal, this study conducts five scenarios: complete subsidy removal, subsidy removal with targeted cash transfers to low-income households, cash transfers to low- and middle-income households, investment in the palm oil industry, and investment in the education sector. Results indicate that subsidy removal negatively affects macroeconomic variables, industrial output, and the welfare of low-income households. However, compensatory measures can mitigate these adverse effects to varying degrees. Compensating the oil palm industry demonstrates the most significant positive impacts on economic growth, followed by compensating low-income households. From a household perspective, subsidy removal, compensation to the oil palm industry, and investment in education marginally negatively affect low-income households but marginally positively affect middle- and high-income households. However, compensating the low-income households yields greater welfare gains for this group than other scenarios but results in marginal welfare losses for middle- and high-income households. Investing in the education sector could partially offset the negative consequences of subsidy removal. Therefore, removing subsidies appears feasible due to relatively minor projected adverse impacts. Cash transfers to low-income households are more recommended when considering both the macroeconomy and the welfare of vulnerable households. However, it's crucial to note that these mitigation measures may not effectively reduce the government's financial burden as intended. They could also introduce new economic distortions, such as over-investment in certain sectors, dependence on government support, and inefficient consumption patterns.