Riskiness of the East Coast Rail Link

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December 2014 Floods in the East Coast

During last week’s Budget announcement, the Prime Minister announced yet another multi billion ringgit mega-project,  this one involving the construction of a High Speed Rail link from Kuala Lumpur to  East Coast and ending at Tumpat.

Thanks to the Sarawak Report, the intelligentsia has been clued on this project as early as July,  when the portal published a story complete with documents detailing the estimated project cost at RM 27 billion and an alleged  RM 29.8 billion MUTU (Mark Up and Top Up) required for this project. The RM 29.8 billion MUTU was earmarked to assume the indebtedness of remaining 1MDB liabilities.

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Interestingly, Works Minister, Datuk Seri Fadillah Yusof , was quoted as saying as late as the last week of Jul ’16 that “(The East Coast Rai Link) It was never discussed in Cabinet.”  So either the Sarawak Report has a clairvoyant ability to predict what Najib is going to do or the Works Minister is not telling the truth. As glaring as this inconsistency appears given that the Prime Minister announced the project and its allocation during his Budget speech, it is not uncommon or unexpected.

If people took Cabinet Ministers at their words, we would have more than five different competing explanations for the same things, with the only consistency between them being that it is all based on conjecture and bunkum. In fact, sometimes Cabinet Ministers don’t even seem to care whether what they say is even remotely believable, such is the level of disdain they display towards the “sensitive” rakyat, who voted them in.

The cost of RM 56 billion requires some comment. At a railway line 600km long, this works out to RM 93 million per km, or about US $23 million per km. This figure may appear large but it is actually comparable to World Bank estimates for China’s typical infrastructure cost for High Speed railways of about US$17 – US $21m per km. This revelation makes it less likely that the project was artificially inflated in order to bail out 1MDB, no matter how convincing Sarawak Report’s evidence actually is.

However, the Currency Markets still pay note to actual facts, especially if it involves a multibillion ringgit project mooted at the time when the country is facing three major risks or decisions that are not properly thought out.

Firstly, one will have to question the wisdom of building a rail link that traverses places that are flood prone. After all, it was in December 2014 that vast swathes of the East Coast was severely flooded, something that could potentially cause billions of ringgit worth of damage to any planned railway.

The second has to do with the economic rationale. Even though the Government has been keen to moot the concept of an ECRL corridor (these days you can slap the term corridor to almost any place to justify a billion ringgit ticket items), just how exactly a multibillion ringgit high speed rail link will help manufacturing and trade stumps most analysts.

This is because the primary manufacturing industry in the East Coast consists of oil, gas and petrochemicals. Gas travels by pipeline through the Peninsular Gas Utilisation (PGU) system, oil and petrochemicals travel by water. The end terminus of Tumpat, which is a good 1,300 km from the industrial centre of Rayong in Thailand. The only industry that may see a meaningful lift would be Tourism, and that too only for the upper tier of this segment as Rail tickets may cost at least RM 100 – RM 150.

The third has to do with the relatively weaker state of the country’s fiscal position especially with respect to the growing External Short Term debt obligations. Given the poor track record of rail investments and the fact that the local bond market is already digesting multibillion issuances from Danainfra and MRT Corp, the Government intends to seek China’s help to fund for this project.

This is certainly not a problem for the Chinese Government, who regularly funds development projects in African nations as part of its diplomatic and economic expansion efforts. However, this may mean that the entire project will feature a high percentage of import content and result in capital outflows, at a time when the current account balance is weak and the Ringgit is under pressure. The obligation will also be expected to show up as a sovereign development loan or as a Government guaranteed obligation.

Either way, even at a conservative interest rate of 3.00% per annum (100 bps over Treasury), this will amount to interest repayments of about US 400 million per which could further increase stretch the Government’s finances. With this 2017 Debt Servicing Charges at RM 28.9 billion and the Government’s debt load set to continue to increase at a clip rate of RM 30 – 40 billion per year, hiding another RM 50 billion off balance sheet liability through the Non-Financial Public Enterprise (NFPE) route may have ending not unlike that of a Greek tragedy.

 

 

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