Exporting grey matter: What is the brain drain costing us?

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Can there really be any benefits to the persistent brain drain out of Malaysia? The numbers seem to say so. But knowledge and skills are intangible commodities that are the basis of innovation – commodities that we are rapidly losing as more and more high-skilled Malaysians emigrate.

As of 2013, 308,833 high-skilled Malaysians are working abroad1.

The World Bank defines the brain drain population as those who are 25 years old and above, hold a tertiary-level degree and do not currently reside in their country of birth. The fact that Malaysia is losing these people when it already has a narrow skills base at home aggravates the problem of its Middle Income Trap. Our estimation places the high-skilled emigration rate at 9.66% of the total skilled workforce2 .

Brain drain is found in both developing and developed countries, although it is the former that tends to get hit the hardest. Citizens in developing countries flock to the developed world in droves, and the developing countries, being unable to retain their local talent in the first place, are usually incapable of attracting foreign talent to compensate for this. They simply have too little to offer.

For developing countries, human capital is key to achieving high income per capita. This is because these countries need to move up the value chain and start producing high value goods and services. The goal is to create – and not only replicate – innovative products and services. In short, high-skilled human talent is the future of the economy.

Like any production factor, human capital has an economic price. Our study sets out to discover the economic costs and benefits of the brain drain from Malaysia. The research revolves around the after-tax income gain or loss to emigrants, net remittances to the country and the net fiscal cost to the country.

Source: World Bank; Author’s own calculations.

Hosts for Malaysia’s brain drain

Our study is based on the top 15 countries to which high-skilled Malaysians have emigrated. The details are shown in Table 1.

Traditional academic literature on high-skilled emigration has often taken the view that the departure of these individuals causes human capital levels to fall and impedes economic development3 – in essence, a net loss to the countries losing talent.

On the other hand, recent research tends to focus on the possibility of a net gain. One of the studies suggests that emigration encourages more people to educate themselves4 , but some have found this idea to be unviable5 , arguing instead that if the demand for education rises, there would naturally need to be more funds to spend on education. Not only that, more time spent on education means less time for work, which translates as lower tax revenues. To cope with lower tax revenues, the government would have to increase taxes and reduce educational subsidies or other public expenditures in order to spend more on education.

Unfortunately, none of these options provide favourable outcomes to the migrant-supplying country. Increasing taxes will decrease disposable income, and as this decreases, the demand for education will also fall. Reducing educational subsidies will make education less accessible to the public, in turn lowering demand for education. Although decreasing public expenditures for other sectors will not directly impact education, it creates adverse consequences for those areas where expenditure has been reduced.

Earnings and the emigrant

Measuring net income gain or loss is crucial to capturing the benefits or costs to the emigrant, in addition to providing data with which to analyse fiscal impacts and evaluate the relevance of government policies. To calculate the net income gain or loss, one has to take note of several effects, i.e. the differences in cost of living across countries and the varying income tax rates of each country. Net income gain or loss is computed from gross income, minus local income tax and then converted to US dollars using purchasing power parity exchange rates. High-skilled emigrants can potentially command higher wages abroad by taking the expatriate package, but due to limited reliable data, we will assume that emigrants are treated as local employees overseas and are paid local wages, working in similar occupations as they would have done in Malaysia.

An immigrant worker in the vegetable farms of Cameron Highlands, Pahang. Low-skilled immigrants working in Malaysia greatly outnumber Malaysians abroad.

After adjusting for income tax and cost of living, high-skilled Malaysian emigrants seem to enjoy a higher net income. On average, based on the 15 countries, a high-skilled Malaysian emigrant makes a net income gain of US$24,900 annually overseas. Aggregating all the high-skilled emigrants from Malaysia, we find that, each year, Malaysian emigrants earn an extra US$5.89bil in total by working abroad.

Although the majority of high-skilled Malaysians (64%) work in top-tier occupations abroad, a surprising 15% of tertiary-level educated Malaysians work in low-skilled occupations. Despite their occupations, the annual net income gain of these low-skilled workers is still somewhere between US$10,000 and US$24,000.

We can conclude that Malaysian wages are relatively low compared to these 15 countries. Therefore, high-skilled emigrants stand to gain extra income if they work in occupations abroad which are similar to the ones they would have in Malaysia, even if they only received average wages in the host country. This large income gap is important because it reinforces the point that there exists a powerful incentive to migrate, especially for those in top-tier occupations.

Remittances and the emigrant

In the debate of the brain drain, remittance has long been regarded as one of the benefits of emigration and is one of the best documented aspects. Remittances are frequently thought to be crucial because they mitigate the negative effects of high-skilled emigration by contributing positively to the recipient country’s current account, becoming a source of tax revenue as well as education fund for dependents back home.

Source: World Bank, based on methodology by Ratha and Shaw (2007).

Other prior studies regarding brain drain usually only consider inflows because they tend to focus on African countries and other low income developing countries where remittance outflows are insignificant. However, this is not the case for Malaysia – perhaps due to the brain drain, Malaysian businesses rely less on capital and machinery, employing low-skilled foreign workers as substitutes instead. This is particularly prevalent in some subsectors of the manufacturing industry. In fact, low-skilled immigrants working in Malaysia greatly outnumber Malaysians abroad (both low-skilled and high-skilled). Therefore, we cannot ignore the impact of remittance outflows in our study.

Our analysis uses the latest available data from the World Bank as of 2012, which includes remittances from both high-skilled and low-skilled migrants. That is, we compare inflow of remittances from the Malaysian diaspora and outflow from foreign diaspora in Malaysia, without segregating them based on migrants’ skill levels. This is because the World Bank’s data does not categorise the remittances according to skill level, and it would be extremely difficult (if not impossible) to segregate them ourselves since highskilled and low-skilled migrants have different remitting patterns. Additionally, as mentioned earlier Malaysia compensates for its brain drain with a large number of low-skilled immigrants. There are a total of two million foreigners in Malaysia as of 2012, and 95% of them are low-skilled. Moreover, the huge outflow of remittances from low-skilled immigrants is many multiples that of high-skilled immigrants. We need to account for the outflow of remittances from low-skilled foreigners, and not just from the high-skilled ones.

An immigrant worker rehydrates himself. The Malaysian government collects US$515mil worth of annual levy placed on low-skilled workers.

According to the World Bank, the inflow of remittances to Malaysia in 2012 is US$1.27bil. Singapore remitted US$927mil, equivalent to 73% of the inflow. Australia came second and remitted 7.7% of the total. The smallest remitters were emigrants living in India, with each individual sending home an average of US$474 in 2012. Malaysians residing in Singapore remitted the most per capita, US$2,289 annually. This is significantly more compared to their counterparts in OECD countries who remitted approximately US$800 per year. It is very possible that individuals who migrate to Singapore have done so in order to take up jobs and provide for their families. Hence, they would be motivated to remit more money to Malaysia.

Be that as it may, any policy that tries to rely on high-skilled emigrants to remit money and thus power the local economy is simply misguided. Studies have found that emigrants with tertiary-level education tend to remit less, in terms of absolute value and as a proportion of income6 .

Remittance outflow, on the other hand, was six times the inflow. In 2012, immigrants in Malaysia sent a whopping US$7.252bil back to their home countries, the biggest share of which went to Indonesia. In terms of remittances, Malaysia effectively suffered a net outflow of US$5.982bil in 2012. This huge outflow of remittance substantiates the extent of the country’s reliance on low-skilled foreign labour – Malaysia’s Labour Report (2012) shows that 95% of registered foreigners occupy low-skilled jobs in Malaysia. Not only is Malaysia losing its high-skilled talent, it is substituting it with low-skilled foreign workers.

Importantly, innovations are still key to bringing Malaysia to a high income level; and low-skilled workers can only develop the economy to a limited extent.

Source: Department of Statistics, Malaysia; Author’s own calculations.

Fiscal implications

As with net remittances, the number of foreigners in the country and their impact on the Malaysian economy are too large to be ignored, which is why we have included them in our calculations. Since high-skilled and low-skilled immigrants are brought in to compensate for the brain drain population, their fiscal impact is part of the brain drain’s fiscal costs and benefits. But unlike net remittances, we do not account for the entire Malaysian diaspora and will focus on just the highly skilled emigrants.

There are several aspects to fiscal analysis. Firstly, the government loses income and consumption taxes when emigrants go abroad, but it gains from the foreign immigrants coming to Malaysia. Secondly, the government collects consumption tax on expenditure resulting from the remittances of Malaysian emigrants. Thirdly, due to the asymmetric nature of the entitlement of government benefits for citizens versus non-citizens, the government will save or incur additional government expenditure depending on the migration pattern.

Surveys show that remittances are unlikely to be spent on investments, and as much as 80% are consumed7 . Combining information from several sources, we can estimate the amount of consumption tax collected by the government from remittances8 . It is important to note that these are just first order fiscal effects, and do not account for second order ones such as the multiplier effect9 .

Malaysia loses US$271 in income tax and US$300 in consumption tax for each high-skilled Malaysian who emigrates overseas each year. The total income tax and consumption tax adds up to US$135mil in lost tax revenues from these high-skilled emigrants annually.

However, offsetting this loss of tax revenue are two benefits: consumption tax revenue gained from the spending of remittances sent home by Malaysian emigrants comes up to US$11mil, and Malaysia saves an estimated US$88mil in public expenditure savings annually10 – arguably because of the sizeable 300,000 or so high-skilled Malaysians residing abroad who do not use our public utilities, security, transportation, communications and health.

However, because of the huge population of foreign labour in Malaysia, we have to examine its impact on government expenditure. The total annual income and consumption taxes that the Malaysian government receives from immigrants are US$24mil and US$175mil respectively. Nevertheless, the Malaysian government also collects annual levy placed on low-skilled workers, which comes to US$515mil annually. As for government expenditure incurred attributable to foreign workers, we estimate this to be US$217mil. This estimation includes internal security costs and unpaid public hospital bills11 .

Source: Department of Statistics, Malaysia; Author’s own calculations.

Source: Author’s own calculations.

Table 6 shows that although emigration causes an annual net loss of US$36mil to the government, Malaysia experiences a net fiscal benefit of US$496mil from immigration into Malaysia, mainly due to the large total of the annual levy. Summing up fiscal effects from emigration and immigration, our study shows that there is an annual net fiscal gain of US$461mil.

The net income gain for the individual emigrant is very significant, with an average of US$24,900 per high-skilled emigrant per year and a total of US$5.89bil annually. This comparison is based on average local wages and that the emigrants would work at the same jobs as they would in Malaysia. In terms of remittances, Malaysia experiences a large net outflow mainly due to its sizeable population of low-skilled immigrants. There is a significant positive effect to the government’s fiscal balance, to the tune of US$325mil.

We would like to highlight that our analysis is based on first order effects and do not include any positive nor negative externalities.

Reversing the brain drain

To design the right policy, it is important to first understand the causes. In 2011, the World Bank reported that economic, social and political reasons caused highskilled Malaysians to migrate.

The Returning Experts Programme

The Returning Experts Programme (REP) managed by TalentCorp is one of the key efforts implemented to curb the brain drain phenomenon. Among the incentives provided by the programme is an optional 15% flat income tax rate for five years12. Any returnee who signs up for the scheme has to meet the criterion of earning at least the equivalent of RM20,000 per month abroad.

If a high-skilled emigrant returns to Malaysia and earns RM20,000 per month, he would have a higher takehome pay (after paying income tax using the normal Malaysian rates) by working in Malaysia compared to working overseas. Thus the REP’s lower 15% flat rate will boost their take-home pay even more and serve as a strong incentive.

However, if the high-skilled emigrant returns to Malaysia and earns the average Malaysian wage, they will find that it would be better to stay abroad. Not only would they enjoy a larger income gain overseas, but the benefit derived from the 15% flat rate would no longer be applicable – by earning the average local wage, the effective tax rates using Malaysia’s normal income schedule is much lower than 15%. Hence, the REP would not be attractive.

Source: World Bank Survey, 2011.

Therefore, based on our assessment, we can conclude that the REP acts as a bonus rather than an incentive for return migration and would only be attractive if the high-skilled emigrant manages to secure an above-average salary in Malaysia. To be fair, it is unreasonable to expect the REP to address the brain drain – a programme or two will not sufficiently tackle issues such as career prospects, social injustice and higher wages all at the same time.

Improving career prospects: Taiwan’s case

Since the 1960s, Taiwan has faced high emigration rates of its high-skilled workers13. Recognising the problem, it diligently sent officials to Silicon Valley in the 1960s and 1970s, and soon developed the Hsinchu Industrial Science Park. Combining research institutes with venture capitalists, the project eventually took off with success in the 1990s and encouraged the return of emigrants specialising in semiconductors and technology, who either were then quickly absorbed into the workforce or began their own enterprises.

Taiwan had several policies similar to the REP – there were travel subsidies for returnees and their families, efforts were made to help people get jobs and business investment assistance was readily given. In the 1990s, 40% of these returnees were in managerial ranks, contributing their technical skills, international connections and managerial knowledge14. The mass influx of returning emigrants served to catalyse development in the Taiwanese economy and bridge the technology gap between Taiwan, Japan and the US. In this case, knowledge transfer played a significant role.

A busy intersection in Hsinchu, Taiwan. The mass influx of returning emigrants served to catalyse development in the Taiwanese economy and bridge the technology gap between Taiwan, Japan and the US.

The need for meritocracy

Social injustice is the second top reason for talent leaving Malaysia, as documented by the World Bank. To alleviate the brain drain, Malaysia needs to recognise that talented individuals want to be judged by their capabilities. Therefore, a system strictly based on merit should be implemented, as only under meritocracy would the highly skilled feel that their talents and capabilities are assets which will propel them to success in life.

Productivity to increase wages

The third top reason cited by World Bank is low wages in Malaysia. As our study has shown, Malaysia’s wage level indeed lags behind other countries. But wages are controlled by supply and demand, and to artificially push up wages (e.g. by setting a high minimum wage) will only result in unemployment and possibly lead to an even greater brain drain.

"We Want Change!" At Pakatan's mammoth rally in 2013. Economic, social and political reasons cause high-skilled Malaysians to migrate.

Thus, although low wages are a major push factor, it is not seen as the top reason for emigration. After all, Taiwan’s return migrants were willing to accept pay cuts because they were able to contribute more by coming home rather than staying abroad. Instead, productivity should be the focus, and obtaining a critical mass of high-skilled workers would increase productivity, causing wages to adjust upwards over time.

Time for a change

For decades, Malaysia has relied heavily on its natural resources as well as lowskilled labour to drive the economy forward. However, the country now needs to change its approach in order to move to the next level – innovation and productivity are key to moving up the value chain.

Malaysia needs to value its talents and provide them with an avenue to contribute. Creating a meritocratic system and providing a conducive environment for talent to thrive will brighten career prospects for talented individuals. This will serve the nation well and help Malaysia escape the Middle Income Trap. After all, the grass is greener where you water it.

 

1 The full research paper is available at www. penanginstitute.org/braindrain
2 Skilled workforce according to the Department of Statistics Malaysia.
3 Bhagwati and Hamada (1974), Journal of Development Economics.
4 Easterly and Nyarko (in Brookings Global Economy and Development, 2008) argue that because only a certain proportion will actually emigrate, the rest that stay behind will raise the country’s human capital quality. In a nutshell, emigration (or rather, the idea of it) indirectly increases the talent pool in the home country as it motivates people to educate themselves.
5 Schiff (2005), World Bank Policy Research Paper 3708.
6 Niimi, Ozden and Schiff (in ADB Economics Working Paper Series No 126, 2008) argue that high-skilled emigrants tend to come from well-off families whose demands for remittances are lower. Besides, the emigrants are likely to have gained legal immigration status and are able to bring their families to their destination countries, thus eliminating the need to remit money back.
7 Gibson and McKenzie (2012), Economic Journal.
8 Firstly, an Asian Development Bank report shows that the families of the emigrants from Malaysia who have remained in the country tend to earn 1.5 times the national average, hence they are from the upper middle class. Secondly, using a Bank Negara’s study which documented the marginal propensity to consume across different household incomes, we can estimate that 41% of remittances will be consumed by households. Thirdly, using the latest Household Expenditure Survey 2009/2010, we compute the amount of consumption tax revenues collected as a result of spending from remittances.
9 In other words, our study does not account for subsequent fiscal effects after the government spends the tax revenue or what impact it has on interest rates, national income, investments and so forth.
10 Public expenditure savings are estimated based on government expenditure in 2013.
11 The Health Ministry announced that in 2010, unpaid hospital bills by foreign workers throughout Malaysia stood at RM18mil. Between 2005 and 2009, the unpaid bill was RM64mil, 19% of which was incurred at public hospitals.
12 Aside from the 15% flat rate, the REP offers PR status for foreign spouses and children, and tax exemption on one car as well as personal effects. These benefits are subject to applicants meeting several criteria, such as cumulative working experience abroad and salary level. Between 2011 and 2013, REP has approved approximately 2,500 applications from high-skilled return migrants.
13 Saxenian, AnnLee (2001), Stanford Institute for Economic Policy Research. From the 1960s till the 1980s, Taiwan saw a mass exodus of students to the US. The government then began investing heavily in research and education, and soon formed policies to develop and transfer technology to the private sector. Combined with connections to the Taiwanese community in Silicon Valley, the country saw rapid growth during the 1990s and 2000s, particularly in the semiconductor industry.
14 Saxenian, AnnLee (2001), Stanford Institute for Economic Policy Research.

Lim Kim-Hwa, PhD, is the CEO and head of the Economics Section at Penang Institute. He is also a fellow in Finance and Financial Reporting at the University of Cambridge, and an associate chartered accountant of the Institute of Chartered Accountants in England and Wales.



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