Walking Malaysia’s Oil Shock Tightrope: Assisting Society While Stewarding Deficits

Malaysia’s fiscal consolidation can be a formidable task against global energy shocks. The Madani government has reduced the deficit for the past three years with subsidy rationalisation, but this added fiscal space is being squeezed by the oil shock triggered by the US and Israel’s war against Iran. The Malaysian government’s fiscal policy is on a tightrope: it needs to maintain subsidies to ease the rakyat’s burden, while controlling the fiscal deficit amid soaring oil prices inflating the subsidy bill.

Subsidies and cash transfers have been important fiscal instruments but Malaysia’s fiscal position has been significantly strained by the former. Post-pandemic in 2022, the government forked out RM80 billion (USD20.18 billion), which included cash transfer assistance, in an unprecedented subsidies bill. The government has moved away from blanket subsidies to targeted ones, reducing its fiscal deficit. In September 2025, for 95-octane petrol, the government rolled out BUDI95 with a fixed pump price of RM1.99/litre (USD0.50) with a 300-litre monthly limit per household. The government also adopted a targeted approach for diesel subsidies, with a subsidised price in East Malaysia for commercial transport, while floating the price in Peninsular Malaysia with targeted cash transfers for farmers, smallholders and low-income vehicle owners.

At the time, the Brent crude price was USD65 per barrel, with subsidies roughly at USD700 million per month, including for diesel. The conflict in Iran has caused crude oil prices to surge past USD100 per barrel. Malaysia’s status as a net crude petroleum importer and net exporter of petroleum products and liquefied natural gas (LNG) means its domestic economy is vulnerable. The situation will likely cause cost-push inflation to ripple more widely in Malaysia, so cushioning the impact is crucial. Although the shock may be temporary, the IMF has warned of stagflation, should the war be prolonged. Bank Negara Malaysia projects GDP growth of four to five per cent and inflation between 1.5-2.5 per cent, but this assessment may be too rosy. A prolonged Iran war would disrupt energy supply, making fuel, transport, production and import of food-related costs elevated. This would weaken household purchasing power and soften domestic demand. Heightened uncertainty tends to slow trade and investment, as businesses delay decisions before committing to new spending and expansion. 

Mitigating the impact requires a mix of targeted strategies, like time-limited support while reducing a deficit explosion. The Madani government has rationalised subsidies, but it can do more to temporarily contain cost-shock, especially as the monthly subsidy bill (RON 95 & diesel) has surged from RM700 million (USD177 million) to RM4 billion (USD1.01 billion). While maintaining household support, the government cut the BUDI95 quota from 300 litres to 200 litres per month but left the price at RM1.99/litre. This is a pragmatic adjustment to reduce the fiscal burden without fully withdrawing support from households, while creating room for savings to be channelled into more targeted social assistance, including helping small and medium-sized enterprises (SMEs). The lower quota may encourage more prudent fuel consumption.

The government has implemented a work-from-home (WFH) policy to reduce Malaysians’ petrol usage, a practical measure to reduce workers’ daily commuting costs including fuel, tolls and other transport-related expenses. It can slightly lower workplace energy expenditure, but raises a concern over higher electricity consumption at home.

This shows a concerted effort from federal and state governments to cushion the global energy shock.

A policy option worth considering is to subsidise an additional 100 litres after the 200-litre threshold at a slightly higher price of RM2.05 per litre (USD0.52) as suggested by the World Bank. The government may want to review the Time of Use (ToU) tariff structure and Energy Efficiency Incentives, which offers cheaper tariff during off-peak hours between 10pm–2pm on weekdays; the government may want to include weekends. Under the non-domestic Energy Efficiency Incentive, low voltage users consuming 200 kWh and below receive incentives for lower electricity bills. The government can perhaps raise the eligibility threshold up to 600kWh, to help maintain lower bills and encourage energy saving for SMEs. 

Refined diesel prices have soared to USD250/barrel. Unlike RON95, diesel consumption is less broad-based, as its main users are logistics operators, public transport providers, commercial vehicle owners, farmers and agricultural smallholders. Hence, subsidies could be better targeted through the BUDI diesel mechanism based on eligibility criteria and regional considerations. When diesel pump prices peaked at RM6.72 (USD1.69) before dropping to RM5.97 (USD1.51), the government let ‘pass-through’ pricing happen, while providing additional RM400 (USD100.9) cash assistance per user under BUDI diesel. In East Malaysia, the diesel price is kept at RM2.15 (USD0.54), with purchase limits set according to vehicle tonnage and category. The government imposed these temporary capped purchase limits from April 2026: 50 litres per transaction (light vehicles), 100 litres (commercial vehicles up to three tonnes), and 150 litres (heavy vehicles). While the two East Malaysian states have different economic realities, both are geographically sparse, logistically underdeveloped and heavily rely on diesel-powered transport. The perennial price disparity between West and East Malaysia raises living costs in the latter, especially for food. Sabah pays more for food and has the highest poverty rate and lowest real wage in the country. Thus, floating the diesel price can disproportionately impact East Malaysians.

The government could consider additional measures such as temporarily relaxing excise duties on selected imports, particularly energy-related products and agricultural inputs such as fertiliser. Lowering excise duties on a time-bound basis can stabilise prices, or the government can introduce a temporary windfall profits levy on energy providers that earn higher energy prices. This would tax only some profits earned above a defined price threshold, rather than ordinary business earnings. To minimise resistance, the levy should be narrowly targeted at genuinely extraordinary profit and include a sunset clause that end the tax once the energy market stabilises. The government should be transparent in showing that the revenue generated is channelled to support affected lower-income groups, farmers and small businesses.

State governments could step up. While not all states can respond at scale, where resources permit, state governments may provide targeted support for temporary electricity tariffs or water bill discounts for industry and agriculture, rental relief or additional cash transfers for vulnerable groups. Sarawak provides a useful example: the government provides a 25 per cent discount on electricity bills for domestic users, alongside a 50 per cent rental reduction for SMEs operating in government and statutory body premises, both running until end-2026. This shows a concerted effort from federal and state governments to cushion the energy shock. With cost-push inflation, the primary challenge remains balancing society’s burdens against limited fiscal resources. Malaysia need not raise its relatively low interest rates while extending assistance to firms through credit lines or guarantees. However, subsidy rationalisation must not be the enemy of low-income groups who are most vulnerable to cost shocks.

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