My Analysis on the Minimum Wage Policy in Malaysia Part 2

The second part of my analysis on the minimum wage policy of Malaysia will only focus on three issues: inflation, unemployment and productivity. Many think minimum wage will cause relative rise in the rate of inflation and unemployment in Malaysia in the coming months / years. Many argue that Malaysia labour simply do not have the productivity required for such wage (RM 900 for peninsula Malaysia and RM 800 for East Malaysia), thus discriminating firms operating in Malaysia especially small and medium enterprises (SME). Some even suggest that the policy will distort Malaysia competitiveness in the international trading. Not many people (that I know of) objectively praise the latest labour policy of Malaysia government.


First of all, as mentioned in my previous analysis (PTPTN issue part 1), GDP of Malaysia is RM 766 billion and GNI of Malaysia is RM 740 billion. With a population of 28.25 million, annual per capita GDP and GNI is at RM 27,115.04 and RM 26,194.69 respectively. That's RM 2259.58 and RM 2182.89 monthly per capita GDP and GNI. That's well above the minimum wage set by government. As we all know, setting minimum wage below equilibrium wage will not cause significant unemployment, but only eliminate imperfect information in labour market. However, this may not be the case for Malaysia and we shall investigate.

RM 900 set is just 25 percent above the poverty line of Malaysia (RM 720). Although 25 percent is a significant number, 25 percent above the poverty line is not significantly overpriced. In any part of Malaysia, RM 900 is barely enough for daily expenses, even for the most remote places in peninsula Malaysia.

However, according to a report from Human Resource Ministry of Malaysia, around 34 percent of labours in Malaysia earned less than RM 700 per month, lower than the RM 720 poverty line. The wage rate has only grown 2.6 percent over the past 10 years. That's around 43 percent lower than the average annual GDP growth for the same period (4.5683 percent). The main cause of the problem is the change in labour structure of Malaysia which foreign labour is considered as perfect substitution for unskilled labour in Malaysia. Hence, most firms do not demand unskilled labour if their wage is above the wage rate of foreign labour.

So, for our first issue: will minimum wage policy cause hike in inflation rate: yes, in short run. However, the hike will not be significant as the minimum wage is well below our average income. Slight increase in labour wage rate will not significantly increase the general price level of Malaysia. In the long run, inflation rate will not move at all by the minimum wage policy as expectation of labours adjusted to the level of minimum wage.

Second issue: unemployment. Yes, I agree with most people. Minimum wage policy alone will cause significant number of unemployment in the short run. Since 34 percent of labours are below significantly below the level of minimum wage, a 28.5 percent increase in wage rate (from RM 700 to RM 900) significantly increase the production costs of firms that employ these unskilled labours especially SMEs. 28.5 percent increase in labour costs means that total costs of SMEs could rise as much as 20 percent, well enough for them to change adjust their labour cost structure. Firms will either resort to more cheap foreign labours or simply lay off labours and force the remaining labours to work for longer hours. If firms were to maintain the same level of total costs, it means that as much as 9.69 percent of labours could be substituted with cheap foreign labours. 9.69 percent rise in unemployment rate is disastrous for Malaysia economy.

For that, Malaysia government need to accompany the minimum wage policy with other labour market policy especially foreign labour policy. Adjustment to the structure of Malaysia labour market is needed in order to effectively increase the wealth distribution of Malaysia.

Third issue: productivity. As mentioned before, many argue that the rate of productivity of labours in Malaysia may not increase to the level of minimum wage. However, this is not true. For the past 10 years, rate of increase in productivity outperform rate of increase in wage level by around 40 percent. In other words, labours should earn more. So productivity is not an issue. After all, RM 900 merely means around RM 5 per hour.

So from this relatively simple analysis, minimum wage policy will not cause significant increase in inflation rate and will not have issue on insufficient rate of increment in productivity. The real issue faced by Malaysia under such policy is the structure of labour market. The minimum policy alone might cause relatively severe hike in unemployment rate without the interference of government in handling the foreign labour issue, at least in the short run. In the long run however, this may not be a problem as Malaysia transiting to developed economy.