Finally, A Sensible Cost Of Living Study - An Important Posting

This is a reposting from October 2009 of what is still quite a relevant piece. Enjoy.

(click on image to enlarge)

There have been many cost of living studies which somehow does not get it quite right. In many cases, it is skewed towards the expatriate lifestyle. The flamboyant CLSA has come up with a highly interesting piece on Asian living standards, with comparisons as well to US, UK and Australia. The basket of 27 items were well selected as reflective of a middle class lifestyle maintenance. It also looked into the currency effects, which will give a true purchasing power parity comparison.

The items selected:
1) Nokia 3600
2) Mobile phone monthly bill
3) Monthly broadband bill
4) Apple iPod
5) Acer laptop Aspire
6) Levis jeans
7) Louis Vuitton handbag
8) TV- 37" Sharp Aquos
9) Sony Playstation PSP
10) DVD (err...)
11)Movie ticket price
12) Coca-cola
13) Canned beer
14) Champagne
15) Marlboro Lights
16) Chicken
17) Rice
18) Eggs
19) English Newspaper
20) Economist magazine
21) KFC meal
22) Lowest price for new car
23) Toyota Camry 2.4
24) Petrol
25) Taxi flag down rate
26) Private doctor consultation
27) Private school fees per month

Taking the US living cost as the 1.00 benchmark, then one can assess the relative disparity. The table showed that India is at 0.59. Relatively speaking, one can buy the same items 41% cheaper in India and so on. Followed by Indonesia at 0.60, China at 0.69 and then Malaysia at 0.72... surprisingly on par with Taiwan at 0.72. It is more expensive in Thailand, coming in at 0.79. HK is there but at a surprisingly mild 0.93. It is more expensive/costly to be living in Australia, UK, Singapore and Japan, coming in at 1.14, 1.14, 1.15 and 1.57 respectively.

The fun part is here, dissecting the report and data. Interesting facts, if buying an iPod, best to go to the US, HK or Indonesia where is is less than $150. In the Philippines and Thailand, its double that. Same for the laptop, the Acer Aspire 10 inch screen cost$330 while its $400-500 in Asia, and a stupid $785 in the UK. The Sharp Aquos TV sells for $500 in the US, Malaysia, Singapore and Thailand but is double that in China, Japan, Korea and Taiwan. Its even more than double in Australia and the Philippines.

The usual 20 Marlboro Lights cost $1-$2 in most of Asia, but is $8 in Singapore and most other Western countries. Guess what, as governments try to alleviate the health care cost side, the $1-$2 will gravitate towards $5 within 5 years.

The figures on its own are meaningless in PPP UNLESS you divide it by the annual median income. One would not mind so much living in Singapore compared to Malaysia (the PPP being 1.14 vs 0.72 if one's pay reflects that disparity - e.g. if you earn $30,000 in Malaysia a year, you should be equally well of earning $47,500 in Singapore. (1.14 /0.72 x 30,000).

Basket Shortfall: The basket of items missed out on a few critical items. If you are going to reflect on PPP vs median income, a proper Cost of Living study must include rental/mortgage costing as that should easily be the #1 cost item in most households. Another is, owning a car is one thing, maintaining, running, parking, tolls are another - people in HK and Singapore can tell that those are major considerations. The other would be the tax considerations. It is not clear but one should take the net disposable median income for a more meaningful analysis.

A better measure: I am surprised CLSA did not do this. One should just take the cost of purchase for the basket of items and divide them by the annual median income for each country. That would yield a better value add measure. It is no point if you are living in India with the lowest cost factor at 0.59 if your income is way lower than everybody. So, I have taken the median annual income and divided by the cost of living for each country. The higher the figure the better as that is basically how many multiples of the annual expense of the basket of items:
1) US 4.9x
2) Australia 2.9x
3) Japan 2.5x
4) UK 2.2x
5) Korea 2.0x
6)Taiwan 1.5x
7) Singapore 1.47x
8) HK 1.3x
9) India 0.9x
10) Malaysia 0.8x
11) China 0.3x
12) Indonesia 0.2
13) Thailand 0.15x
14) Philippines 0.11x

From the table above, despite being more expensive, one is still much better off living and working in Singapore, the UK, the US and Australia, and even Japan. Of course some caveats, the annual median income is skewed if your population is predominantly labour intensive or have a large proportion of rural folks. Hence if you are living and working in executive positions in countries such as Indonesia, Malaysia, India or China, your income should be a lot higher than your country's median income, thus making them quite liveable and actually higher in the rankings.

The Malaysia Problem: The PPP can act as a basic argument on overvaluation and under valuation of the local currencies vis-a-vis the USD. For instance, the Sing dollar is technically 14% overvalued while the ringgit and renminbi are 28% undervalued. But of course there are other more pertinent factors as to why some currencies will stay undervalued substantially vs the USD for the longest time: one is reliance on cheap currency for export competitiveness; two, cheap currency to make it an attractive destination for foreign direct long term investment; three, a high subsidy mentality towards essential goods and services; four, how "open" is the central bank in allowing the free flow of the currency in circulation; five, global acceptance and unencumbered circulation of currency; six, political risk ... etc.

It can be said that countries such as Taiwan, China, Malaysia are all registering strong surpluses and have a more than adequate foreign reserves. Why then are the governments there not allowing their currencies to appreciate - my thesis is that these currencies are NOT ALLOWED to appreciate by their own governments and central banks, rather than the global markets stopping these currencies from rising - they are more concerned with making sure their industries stay competitive, preserve jobs. Singapore can allow their currency to appreciate because they are not tied to exports, they have made services as their major economy cornerstone and thus brought in expertise and high value added industries to their economy. You need to continually move up the industry value chain. Granted, Singapore is also a financial center, something Malaysia cannot easily aspire to become, but we must be aware of these gaps and at least narrow the gaps. You cannot and should not use the cheap currency as the driving force of your economy as that will put things on the backfoot and forever end up with industries that are either sunsetting, labour intensive or low value add. That will forever lock us in low pay, low value add, low income environment.

The problem will be cyclical as well when your currency is cheap and your industries are low value add and labour intensive as that will bring forth the need to maintain relatively low wages but also a lot of subsidy on essential goods in order to maintain the equilibrium. Why do you think Malaysia has over 2m legal foreign workers and probably another 2m illegal ones - its to keep the wages low. It may not be a deliberate policy but one that is brought on by our low cost environment. In the end, our subsidy on essential goods and services will come to a highly significant amount that we no longer can tolerate.

Have a masterplan to dismantle the subsidy, have a schedule. Eventually that will mean that only companies and industries that are globally competitive (without subsidies) can survive, with the exception of a few critical sectors. For example, why are petrol, gas and electricity the same for companies and the public? Why are we subsidising the companies as well? If there are certain industries that cannot compete once we remove the indirect subsidies, then we will be better off. We do not need steel plants or cement plants if we can buy them cheaper elsewhere.

We can still play this game as we are a resource rich country, but we all know that those resources are being depleted rapidly. Petronas provides a huge chunk of our country's spending budget. Imagine if Petronas can only give half of what they have been giving for the past few years - we cannot even pay for the civil service.

Lessons From The Current Oil Shock

I came across one of the smartest article in Newsweek (31/10/05) written by Ruchir Sharma (co-head of global emerging markets for Morgan Stanley Investment Management) on the present oil shock. Many are confounded by the lack of calamity owing to the recent surge in oil prices. Sharma cited some clever insights and I would like to add to them:

a) The present oil price bull market is due to demand-surge factors and supply growth that could not cope. This is very different from previous oil price rallies which were more likely due to supply shocks (e.g. wars, embargos, cartel behaviour). What this means is that a very strong global economy is pushing demand for oil, and the usage of oil is more for production of goods which has an end market demand. Hence oil consumption is largely for "productive means". The higher cost of oil is more easily absorbed or passed on along the production and consumption processes.

b) It used to be that higher oil prices meant that we are lining the pockets of OPEC nations at the expense of non-OPEC nations. Back in the mid 70s, the additional revenue from jumps in oil prices stayed mainly with OPEC nations and was not recirculated back to the global economy. Sharma cited UBS economic research as saying that back in 1974 only 27% of petrodollars was recycled back into the global economy. Now OPEC nations are more involved with the global economy by consuming as much as 83% of oil revenues. An example would be the aggressive purchasing of US Treasuries by OPEC nations which lowers the global cost of capital, thus allowing the major economies to chug along without higher interest rates cutting off economic activity.

c) The present oil shock has also magnified countries that have been subsidising the cost of oil in their country (namely Malaysia, Indonesia). These oil price surges have reinforced the growing amount of subsidy, which could have been better spent to revitalise other areas of their economies. Malaysia, correctly surmised that they should reduce the level of subsidy. In fact, one can safely say that countries engaging in subsidising oil prices are gradually lowering their subsidy from here on. It is not prudent to artificially sustain a country's competitiveness and purchasing power via the subsidy method. The political will to act on the subsidy is stronger this time around because many are recovering well from the 1997 financial implosion, and is more acutely aware of bad economic policies. It is better to reduce the subsidy from a position of strength.

d) Consumption patterns have also changed owing to the present oil price rally, but isn't that the case every time there is an oil price shock? Drops in sales of SUVs (four wheel drives) and increase in purchase of hybrid cars are evident. The only difference is that the consumer is generally pretty pissed off with the magnitude and arrogance of the oil price rally over the last 12 months. There is a growing sense of the consumer not wanting to be an idiot victim of future oil price hikes, and also a warming appreciation of global warming and conservation issues.

e) Oil companies and refineries are also taken aback by the present oil price rally. Though they are all recording supernormal profits, many felt that they were caught unawre by the rally. These companies and governments have stepped up efforts to speed up on oil exploration and refineries have charged along to increase capacity.

The above factors would indicate that the price of oil will stay stubbornly high over the next 12 months at least as demand is still genuine, and supply is still not able to catch up that fast. Extra capacity and supply will come along only after a couple of years.

What is important here is that governments have generally wised up to the need to adapt quickly, either by reducing subsidy on oil prices or change in consumption patterns or increase activity in exploration - this should reduce the price volatility in the next oil price shock, and also indicate that future oil price shocks is more likely to be determined by demand factors again rather than supply constraints.

The final lesson here is that it used to be the trade surplus countries are subsidising the ballooning US budget deficit. Though naysayers have been plenty and more vocal over the last 10 years on the need to bring down the US budget deficit (and they should), the end for the US dollar is still a bit further away as there is sufficient petrodollars providing extra support for the deficit. Hence I would only really start to worry about a collapse in the US dollar and US economy if Japan and China stops registering trade surpluses or OPEC nations NOT making real money anymore, as it is not in anyone's interest to allow the US dollar and US economy to collapse. Having said that, I would think that certain US government officials are not too perturbed by the present oil price shock. In fact, it could work out better to further sustain the US budget deficit.