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Sunday, October 25, 2015

Minimum Wage

Last Friday (23rd Oct 2015), Datuk Seri Najib Tun Razak had announced the Budget for 2016. Of all items in this budget, I noticed 1 item which I would like to highlight for its long term implication. That 1 item is minimum wage policy.

A background to the Minimum Wage in Malaysia
Minimum wages policy for Malaysia was first announced by DS Najib during the 2010 Budget announcement. It was only in 2012, that the Minimum Wage policy is to take effect. Set at RM900 for Peninsular Malaysia and RM800 for Sabah and Sarawak, the policy was met with anger by business owners as it had resulted in their operating cost to increase significantly.

The idea for minimum wage did not come from the government. Minimum wage was long fought for by the opposition, especially those with socialist ideology (Labour Party, Parti Sosialis Malaysia and Democratic Action Party). Therefore, the credit is due to them.

While business owners raged against the additional cost, opposition had decried that it was too low, much lower than the RM1,200 they had asked for. The intention was good, but the increase is too much that it would shock the economy as a whole.

There were also cries of inequality; the minimum wage set for the 2 states were lower by RM100.

Friday's announcement showed that the policy was not set in stone and subject to review. Minimum wage in Peninsular would be raised by RM100, while Sabah and Sarawak would see an increase of RM120. This in turn would lessen the shock to the economy as a whole, compared to the one fought for by opposition.

What is Minimum Wage Policy?
Minimum wage policy is a policy that defined the lowest amount payable to an employee. Ideally, this should refer to basic pay.

However, when minimum wage was introduced in Malaysia, this includes  overtime pay. I'm not sure about today though. It also excludes foreign workers. Bear in mind too, that minimum wage applies only for permanent employees, not casual workers.

Minimum wages has its roots in socialism. The idea that all employees should have at least equal or minimun pay comes from the socialist ideal that all employees should be paid equally.

Despite its socialist origins, implementation of minimum wages elicits a very capitalistic effect to the economy.

What Happens When Minimum Wage is Raised?
With minimum wage policy, this forces the jobs with lowest pay being forcibly increased. These are usually menial jobs. But do not be taken surprise that some glamorous jobs are also paid very low. My examples is outdated, but these would give you an idea.

Back in 2007, audit firms (non-Big Four) in Penang were paying RM1,000 to newly graduated accounting degree students. Medium-sized firms paid RM1,200 to RM1,600. In Sarawak, it was lower, between RM600 to RM800. In banking industry, the starting pay for a messenger/despatch was at RM500 (this was before the upgrade after the new collective agreement was signed.

I'm not sure about the current pay today, but what I can say is that the 2012 minimum wages were set based on 2009 data, which isn't that far from 2007.

With pay for menial jobs increased, this creates an upward demand push for salary and wages increment in all other slightly less menial jobs. An newly graduated accounting degree holder would definitely do not want to get a pay equivalent to a janitor. The accounting graduate would definitely look for something that pays better.

As audit firms find it difficult to fill up entry level posts, they will be forced to:
  1. increase entry level pay. Not only the entry level pay will increase, pay for existing employees would also increase. This shift will force the employer to give a slightly higher pay boost to current staff so they would not feel peeved that their juniors has equal pay or at least bigger pay jump than them.
  2. audit firms will also be forced to increase their audit fee. Audit firms usually undercut competition by charging a lower fee. With auditees always pressing for a lowered fee, this has caused the fee to stagnant rather long. This itself will lead to 2 possible outcomes; 
    • audit fee is being increased industry-wide. The industry will no stay stagnant. Audit fee will be determined by market equilibrium. 
    • smaller audit firms will be forced to either merge or close down. This will result cost savings in terms of fixed cost. Which in turn can be translated to audit fee being maintained. Soon, audit firms will begin to max out their organisational capacity and would need to charge higher more in order to higher new employees. With fewer audit firms around, cost undercutting will slowly evaporate and upward revising of cost will come into the picture. All in all, the end game is similar.

The above of course is theoretical in nature. Allow me to share another example where minimum wages has had brought about improved pay package across the board.

Banking Industry - How Unionised Environment Pushed Up Salaries
Banking sector in Malaysia is an example where upward push of pay in lower level employees resulted in increased pay across the board.

Banking sector employees are divided into 3 distinct groups;
  1. management executives. They are part of the management and get the best perks out of the 3 groups. Most of them are at least degree holders, though a smattering of them may be STPM/Diploma/SPM holders who came up from rank and files. 
  2. clerical. They are non-executives who get to be members of unions. They are largely represented by 3 unions; National Union of Bank Employees (NUBE), Sarawak Bank Employees Union, and Sabah Bank Employee Union.
  3. non-clerical employees. Made up of messengers. They are also part of union body. 
Back in 2007, NUBE had managed to negotiate for an improved pay package for their members. This had resulted in many union members having pay that was slightly above the pay received by a low-level executive. This in turn resulted in union members who were identified for promotion to executive level choose to forgo their promotion as their current post require them to do less work and getting union protection at the same time (unions often made representation on behalf of their members in the event their members get into trouble with management). The upward mobility in status had lost its luster. 

To fill up lower level executive positions with suitably candidates from clerical, bank management had to revise their pay package. This resulted in an across-the-board salary adjustments for executive levels. In one bank, the bank had adjusted its pay by at least RM600. And all it needs is to have just 1 bank management to adjust the pay and the other banks have to follow; other banks can't risk to have their executives to jump ship into the better paying bank. 

In 2011, a new collective agreement was signed again. This time, the same bank had increased its entry level pay to another RM400, thus upgrading the entry level pay from RM2,800 to RM3,200.  

Therefore, every time a new collective agreement is signed, a new pay package needs to be introduced to executives, even though executives are not part of the union.  

Minimum Wage - Would it Work in Malaysia?
Despite the example that I had just shared, the effect of introducing minimum wage in Malaysia is not as clear cut as say, in the banking industry. In most industries, the flood of foreign workers had resulted in an artificially low cost of production in Malaysia. This had allowed some employers to ensure lower production cost by hiring foreign workers only as wages for foreign workers are not covered under the minimum wages. Although companies need to provide justification on why they need to hire foreign workers instead of local workers, they usually managed to get about it by creating conditions that are less conducive for locals to work.  

Another feedback that I received on how employers tried to circumvent this is by hiring foreign expatriates. One friend had seen how an accounts position in a certain company had been usurped by the hiring manager who happens to be a foreigner too by hiring an accounts executive from Sri Lanka.  

To close this loophole, I would suggest the Govt look into covering foreign workers' wages as part of the minimum wages policy. No doubt this will cause production cost to run very high in our manufacturing sector, but this will in turn close the gap that weakened minimum wages. Concurrently, this will help to minimize manipulation of foreign workers. 

Why Increase in Minimum Wage instead of Increase of Take-Home Pay? 
Take-home pay can also be increased using other methods; ie reducing income tax, reducing statutory EPF contribution. These methods do increase take-home pay nominally, and it has been proven to improve the economy.  

Reducing EPF Contribution
Back in 2008, employees were allowed to select to deduct 8% EPF contribution from their own pay instead of the then-mandatory 11% for the year 2009 to 2010. It was painless to the employers, and employees get to bring back more money.  

However, while the move did help to reinvigorate the overall economy, it did not help the workers. In 2014, EPF announced that almost 70% of employees at the age of 54 have less than RM50,000 in their EPF account for retirement (you can read that here). Assuming the monthly pay is RM2,000, this translates to RM60 per month. Working another 6 years in Malaysia, this translates to a retiree having less RM4,320 for their retirement as these had been spent earlier on.

Reducing Tax
Tax reduction is another method to increase take-home pay. However, this can only be manifested after tax refunds are made to employees. Reducing monthly payable tax to the Income Tax is also not a one-size-fits-all solution as this is largely dependent on the dynamism of the employee. Plus, a large part of Malaysian employees do not even pay income tax. Out of 30 million plus population, only 1 million are paying tax

Therefore, tax reduction does not help much other.

Reducing GST
GST had just been introduced in April this year.  Thus, it is premature to reduce GST by end of next year.  

Minimum Wage - The Way Forward
Therefore, you have it.  What seems to be a small inconsequential move has a long term effect that would change the structure of Malaysian economy.  A measure that would weed out the weak and inefficient, but strengthen the economy as a whole. 

I hope my explanation is sufficiently clear enough.  Please note I don't have CGPA of 3.85.  I graduated from USM Bachelor of Accountancy with CGPA of 2.90 who happens to love to write.

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