PUTRAJAYA, Malaysia (Reuters) - Malaysia's embattled prime minister looked to sidestep political opponents and temper market jitters by cutting fuel subsidies to beef up the country's fiscal position while pledging more help for poor families.
The widely expected move to cut fuel subsidies for the first time since December 2010 may go some way to lower political and economic risks, analysts say, as investors continue to trim their portfolios in emerging markets.
"The market will be more comfortable if we are able to bring down the fiscal deficit," Prime Minister Najib Razak told reporters at the country's administrative capital of Putrajaya.
Heavy selling of India and Indonesia's currencies and stocks
recently have ignited fears that Southeast Asian economies with weak fundamentals could suffer contagion.
In 2012, Malaysia's budget deficit was at 4.5 percent of GDP, the second highest in emerging markets after India. Ratings agency Fitch cited its high budget deficit as one of the factors when it lowered the outlook on Malaysia's A-/A credit ratings to negative from stable in late August.
Najib, who is also finance minister, reiterated that the government aims to trim its budget shortfall to 4 percent of GDP this year and to 3.5 percent in 2014 before returning to a surplus by around 2020. But he said projects such as the mass rapid transit in the capital Kuala Lumpur will continue.
Ratings agencies have said Malaysia needs to implement various economic reforms to rein in spending, including scrapping of government subsidies.
GRAPHIC on Malaysia GDP and exports: link.reuters.com/fef66s
GRAPHIC on Malaysia inflation and interest rates: link.reuters.com/jem28s
Pump prices for the widely used RON 95 grade will rise by 20 Malaysian sen to 2.10 ringgit per litre. Diesel prices will also go up by the same quantum to 2 ringgit per litre.
The cuts in petrol subsidy, effective from Sept 3, would save the government an estimated 1.1 billion ringgit this year and another 3.3 billion ringgit in 2014, Najib said.
"It will have an effect on inflation. Once implemented we expect the impact to inflation to be significant, but it will be transient and last for 12 months due to the one-off change," said DBS analyst Irvin Seah from Singapore.
"Unless...companies use this opportunity to jack up prices. I won't be surprised if eventually this will become the case; if so the central bank must be ready to act to anchor inflation," he added.
Najib warned businesses not to raise prices of goods and promised to announce higher cash payouts to low income families when he tables the budget on October 25. Currently, poor households receive 500 ringgit each.
Weakened by a poor election performance in May, Najib is keen to improve perceptions of his economic stewardship as he faces a possible leadership challenge in internal party polls in October held before the budget presentation in parliament.
Najib did not go into details over a long-awaited goods and services tax that will expand the government's revenue base but has stirred opposition from members of his party. He only said an announcement on the measure would be made during the budget.
In a nod to the deteriorating growth prospects, the central bank cut its forecast for full-year growth to 4.5-5.0 percent from 5-6 percent.
This came after Malaysia's economic growth accelerated slightly to 4.3 percent in the April-June period from a year earlier, helped by pre-election government spending and a pick-up in activity after the May polls, but fell well short of economists' expectations of 4.9 percent.
The Malaysian ringgit has dropped nearly 7 percent so far this year. The commodity-dependent nation's fiscal shortfall - among the largest in Asia - slowing exports and high foreign ownership of government bonds, has highlighted its vulnerability to market sell-offs amid the present currency rout.
"The ringgit is not giving us undue stress at the time being. The ringgit is a reflection of the external economy and is beyond our control," Najib said. (Additional reporting and writing by Niluksi Koswanage, Al Zaquan Amer Hamzah and Anuradha Raghu; Editing by Jacqueline Wong)