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Uncertain days for Malaysia's oil industry

The surprise victory of the opposition alliance in Malaysia could lead to a new relationship between the government and Petronas

Malaysia's new prime minister, Mahathir Mohamad, has moved quickly to make good on an election campaign pledge to scrap a goods-and-services tax (GST) blamed for rising living costs. Speculation is now mounting over whether state-controlled oil and gas giant Petronas could be tapped to fill any resulting hole in the country's finances.

The 6% tax, which is to be abolished on June 1, was introduced by the coalition government led by Mahathir's predecessor Najib Razak in 2015 in an effort to counter falling government income from Petronas, at a time when the firm's revenues were hit by the oil price collapse. However, GST ramped up costs right along the supply chain from manufacturers to consumers, so its demise will be little mourned by a swathe of Malaysians, even if it did shore up public finances and broaden the tax base.

Mahathir's government also plans to reintroduce some previously removed fuel subsidies, particularly where price rises have hit the poorest Malaysians hardest-fuel for small vehicles is one such area. It also wants to increase the minimum wage.

All this will cost money—the GST is estimated to have raised some $11bn in 2017—and Petronas is an obvious place to look for a quick fix. With its finances now underpinned by a partially recovered oil priceBrent hit $80 a barrel on 17 Maya raid on the company's coffers could look attractive.

In March, the oil company announced an increase in fourth quarter 2017 net profit to 18.2bn ringgit ($4.6bn) from 11.3bn ringgit a year earlier. Revenues rose almost 14% to 61.8 billion ringgit. While chief executive Wan Zulkiflee Wan Ariffin has talked of "premature exuberance" over the oil price recovery, he's also said the company is in a stronger position to "execute its long-term growth agenda and that it would explore new business areas, such as speciality chemicals and new energy". The purse strings have already been loosened, with capital forecast expenditure in 2018 of some 55bn ringgit, some 23% higher than last year.

Sovereign wealth fund mooted

But, as yet, there is no indication as yet of how the government's relationship with Petronas will pan out. There has been speculation that the victorious Pakatan Harapan (Alliance of Hope) coalition may take a more hands on approach with Petronas than the previous government, and its pre-election literature did suggest it could establish a sovereign wealth fund (SWF), run along the lines of the world's largestNorway. That idea has yet to be fleshed out and in, any case, establishing an SWF wouldn't necessarily give the government carte blanche to raid it to meet short-term spending commitments.

According to Wood Mackenzie, a consultancy, the change in government could affect Petronas by potentially leading to greater state influence on budgets and finances, especially for future investments and exploration and less autonomy and more governance over the management of the company.

Analysts have been quick to point out the dangers of becoming overly reliant on Petronas to underpin the government spending, leaving the country's financial well-being to the vagaries of oil and gas price fluctuations once again. Mahathir will have to tread a fine line between creaming off cash from Petronas and stunting the firm's ability to realise its growth strategy. He will have a good knowledge of the risks, being not only a former prime minister, but, more latterly, an advisor to Petronas until his dismissal by the previous government in early 2015.

Of concern to the wider oil sector operating in the country will be the uncertainty caused by the change of government, which marked the first defeat for the Barisan Nasional (National Front) and its antecedent coalition since British colonial rule ended in 1957. While 92-year-old Mahathir is a familiar face, having led the country under the Barisan Nasional from 1981 to 2003 before falling out with the grouping, many of his alliance partners are not.

While the Barisan Nasional had a reputation for opaque dealings with the oil industry, and fell from power amid a welter of corruption allegations, they were the people the international oil companies were used to doing business with. Now, some new relationships will have to be forged.

Clarity needed

The IOCs will be keen to see clarity brought to oil sector operations as fast as possible. A case in point is how hydrocarbons blocks in Sabah and Sarawak, that are home to much of Malaysia's oil and gas resources, will be run. Government officials have suggested that the two states on the island of Borneo could be given more autonomy over oil exploration and be allowed higher royalties to plough into their economies. With a new licensing round underway, the government will need to reveal its plans soon to assuage investor concerns.

Malaysia's relationship with China is another area of uncertainty. Mahathir has expressed concerns over the growing role of Chinese companies, which accounted for some 7% of total FDI in the country in 2017. Any problems between the two nations could risk inflaming a dispute over Chinese claims to disputed areas of the South China Sea, which include some Malaysian oilfields off Sabah and Sarawak.

The new government will have some tough choices to make, faced with stimulating an economy that, while hardly in the doldrums, has just experienced two consecutive quarters of slowing growth, expanding at 5.4% in the first quarter of 2018.

The oil industry will be watching closely to see how the balance between pragmatism and populism will play out in the new Malaysia.

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