1. What is brain drain and why is it significant?
Brain drain is used to describe the emigration of high skilled labour. Malaysia aspires to be a high income nation by 2020. However, the lack of talent is impeding growth and making Malaysia’s transition to a knowledge and innovation based economy more difficult. The World Bank’s report in 2011 shows that brain drain is increasingly serious. If the brain-drain issue is unaddressed, this will cause Malaysia to be left with a small stagnating pool of talent. Besides, a lack of talent will result in certain sectors of the economy not being able to innovate and to move up the value chain; and might have to rely on low-skilled immigrant labour. The World Bank defines “brain drain” as those who do not reside in Malaysia, have tertiary education and is more than 25 years old. The estimated number of high-skilled emigrants from Malaysia is 309,000 thousand individuals in 2013.
It is important to understand the economic costs or perhaps benefits conferred on Malaysia as a result of high-skilled emigration so that the right policies with the appropriate resources can be dedicated to this issue.
Our research fills this gap and has two equally important parts: 1) evaluate the economic costs and benefits of brain drain; and 2) review the key policy implemented in Malaysia to tackle brain drain and to lure high-skilled Malaysians to return – the Returning Experts Programme (REP).
2. The economic costs and benefits of brain drain
First, we seek to quantify the impact of high skilled emigration on a developing country. We do this by looking at the following three channels where the results of brain drain have manifested itself economically:
1) Net Income Impact to high-skilled emigrants: Benefit or cost by emigrating from Malaysia in terms of income due to wage differentials
2) Remittances Impact: The monetary value of the income share sent by the emigrant back to Malaysia
3) Fiscal impact to the source country: The benefit or cost to the government due to high skilled emigration
2a. Emigrants earn substantially more in all overseas countries and in all occupations. The average net income gain after tax is RM 46,800 per year.
A World Bank survey in 2011 found that “low wages” is the third most common reason for high-skilled emigration from Malaysia. We investigate the magnitude of income gains by comparing the average annual income between Malaysia and the fifteen most popular host countries of high-skilled Malaysians.
Our calculations show that on average, a typical high-skilled emigrant from Malaysia can enjoy annual income gain after tax of RM 46,800 (US$ 24,600) after controlling for purchasing power parity i.e. different cost of living.
After controlling for variation in income taxes and different living costs across countries, our results prove that emigrants generally earn higher income working overseas. Besides, our results are realistic because we assume: 1) emigrant Malaysians would work in the same occupations in Malaysia, as they did overseas; and 2) emigrants are treated like locals abroad and receive local average wages in their respective occupations.
2b. Remittance outflow overwhelms inflow, resulting in net remittances outflow of RM 11.4 billion per year.
Emigrants working overseas with a higher salary and subsequently remitting money back to their original country have been found to provide additional income for households to fund their expenditures. The World Bank (“Migration and Remittance Flows: Recent Trends and Outlook 2013-2016”) forecasts that total remittances are three times the size of official development aid and is even larger than the amount of private financial capital flowing to developing countries. So, perhaps high-skilled emigration benefits Malaysia via the remittance inflow?
Our analysis shows that in 2012, Malaysia had an annual remittance inflow of RM 2.40 billion (US$ 1.27 billion), and an outflow of RM 13.8 billion (US$ 7.25 billion). This gives us an annual net remittance outflow of RM 11.4 billion (US$ 5.98 billion). Our data was sourced directly from the World Bank, which did not segregate remittances between high-skilled and low-skilled emigrants.
Malaysia is not just a migrant sending country but a receiving one as well. Out of a population of about 30 million, there are more than 2 million immigrant workers, of which 95% is low-skilled. Hence, ignoring the outflow of remittances from the country would produce a gross overestimate of remittance flows in Malaysia.
2c. Net Fiscal Impact is between a cost of RM 8.40 billion and a benefit of RM 2.04 billion
Malaysia has suffered fiscal deficits continuously since 1998. We examine the fiscal impact of brain drain. Similar to remittances, our analysis of fiscal impact need to also consider immigration as well as emigration.
As immigrants and emigrants do not have the same entitlement to public services (e.g. immigrant workers are not entitled to subsidized public sector health care compared to citizens), we include or exclude certain government expenditure in our analysis. Besides, we also take into account the tax revenues that might be raised from income and consumption taxes from brain drain and immigration. Lastly, we also include the levies that the government collects from foreign labour.
Our analysis show that the annual total fiscal impact resulting from brain drain is between a cost of RM 8.35 billion (US$ 4.39 billion) and a benefit of RM 2.07 billion (US$ 1.09 billion).
3. The lure of the Returning Experts Program (REP) is not strong
By ascertaining the economic costs and benefits of brain drain in terms of net income gain, remittances and the fiscal effect, we can review the efficacy of the Returning Experts Programme (REP). The REP is the key policy implemented in Malaysia to tackle high-skilled emigration and to lure high-skilled Malaysians to return. The REP offers several incentives, one of which is a flat 15% income tax rate on chargeable employment income for 5 years continuously.
Our research shows that the REP can only lessen the income loss that the returning emigrant has to sacrifice by coming back to Malaysia. This is because to really make high-skilled emigrants indifferent to working in Malaysia or in overseas from an income perspective: 1) the REP has to offer negative income tax rates, meaning high-emigrants have to be compensated monetarily to return; or 2) local wages have to rise multiple folds to equalize the income that is being earned overseas (e.g. income for professional to increase 2.5 times to match those in Singapore). Therefore, the REP is not attractive enough.
4. The REP has the unintended consequence of encouraging more high-skilled emigration
Instead, we find that the REP has the unintended consequence of encouraging more high-skilled emigration. This is because the income tax rate payable for some local high-skilled talent is higher than the REP’s 15% income tax incentive. Given that working overseas offers much higher income after controlling for income taxes and cost of living, high-skilled emigrants will be tempted to emigrate since they can always enjoy the REP incentives if they subsequently choose to return. Of course, the emigrant can continue to remain overseas, but this option to return can be decided at a later stage.
For example, a professional such as a Human Resources director with a Bachelor’s degree can earn RM 20,000 per month in Malaysia according to Kelly Services’ Salary Guide 2013/2014. If this talent moves to Singapore for 8 years and returns to Malaysia under the REP for 5 years, the gain over the course of 13 years (using a discount rate of 3%) is RM 239,520. This can be broken down to:
• RM 429,100 gain from 8 years of earning higher income after tax and after controlling for cost of living
• RM 220,995 loss for sacrificing 5 years of higher wages in Singapore to return to Malaysia
• RM 31,415 gain in tax savings due to paying REP’s 15% tax rate for 5 years instead of 18.76% tax rate without REP when the talent returns to Malaysia
5. Mitigation remedies – embrace meritocracy, reduce income taxes and adopt the World Bank’s suggestions
To mitigate this specific unintended consequence of encouraging high-skilled Malaysians to emigrate with the option of earning the 15% flat tax incentive upon returning, we looked into a few possibilities:
1) Imposing a government directed policy to raise local wages for high-skilled labour, thereby narrowing the wage differential. However, this is not a realistic option and has many negative economic consequences such as creating wage inflation, reducing business competitiveness etc.
2) Increasing the REP tax rate (i.e. the 15% flat tax rate), thereby making the option to return to Malaysia after emigrating less attractive. However, this sends a negative signal to the high-skilled Malaysians who might want to return.
3) Cutting Malaysian income tax rates, thereby minimising the incentive to emigrate by narrowing the net income differential. On balance, this might have the best effect and might even generate higher innovation and taxes through the Laffer curve effect.
We also suggest that meritocracy be embraced wholeheartedly, given that the second top reason for emigration from Malaysia according to the World Bank (2011) is a sense of ‘social injustice’ felt by some Malaysians. As can be seen in the case of Taiwan (which also suffered from brain drain in 1980s), high-skilled emigrants are willing to return even with a pay cut as long as the country welcomes them and the environment is conducive with good career prospects. Tackling the brain drain phenomenon requires more than a single policy and the World Bank has made many valid suggestions as well.
On the 5th July 2014, this topic will be brought to Swiss Gardens Hotel and Residences Kuala Lumpur from 9.30am to 12.00pm to be discussed with important stakeholders in panel discussion, namely Mr Johan Mahmood Merican, CEO of TalentCorp, Mr Mark Rozario, CEO of Agensi Inovasi Malaysia, and Mr Wan Saiful, CEO of IDEAS. We trust that a panel of such high quality will help to inform the issue further. – July 2, 2014.
*This article was written and researched by members of think tank Penang Institute. They are Dr Lim Kim Hwa, chief executive officer and head of economics; Yap Jo-yee, economics research assistant; Dheepan Ratha Krishnan, economics research analyst.
*This is the personal opinion of the writer or publication and does not necessarily represent the views of The Malaysian Insider.