Falilou Fall
OECD Economic Surveys: Malaysia 2024
Abstract
Malaysia faces significant climate change risks, which require bold policy action both in the areas of mitigation and adaptation. Phasing out untargeted fossil fuel subsidies and moving towards carbon pricing will be key for this. While a carbon tax or an emission trading scheme is the economically most efficient approach to reduce emissions, mitigation efforts should rest on a mix of pricing and regulations. Decarbonising energy, industry and transport calls for a substantial increase in renewable energy supply coupled with measures to raise energy efficiency. Promoting renewable energy sources like solar and bioenergy will demand investments in energy storage solutions, upgrading the transmission grid, and promoting electrification, including in transportation. Developing a national adaptation strategy would mitigate the fragmentation of current adaptation policies across various sectoral policies and ministries. Enhancing disaster risk management and preparedness will bolster prevention efforts and diminish existing disaster risks by addressing and managing hazard conditions, exposure, and vulnerability. Establishing a framework for disaster risk financing and flood insurance is necessary to enhance the financial resilience of all stakeholders through ex-ante funding or the transfer of residual risk.
Malaysia faces escalating climate hazards, including floods, droughts, heatwaves, and storm surges, with profound impacts on the economy, communities, and infrastructure. Since 1975, over 80 natural disasters have occurred in Malaysia, with floods being the most frequent (Figure 3.1. ). Floods are typically associated with extreme rainfall events and rising temperatures.
Natural Disasters in Malaysia between 1975 and 2020
Source: CRED, EM-DAT: The International Disaster Database, Brussels, http://emdat.be
Projected changes in temperature and precipitation patterns in Malaysia are expected to exacerbate these climate risks. The El Niño-Southern Oscillation (ENSO) significantly influences interannual temperature variations in Malaysia, leading to warmer weather across all regions. The current mean annual temperature stands at 25.4°C, with Peninsular Malaysia experiencing a surface mean temperature increase of 0.14°C–0.25°C per decade over the period 1970–2013 (UNFCCC, 2015[1]). By 2040–2060, average daily temperatures are projected to rise by 0.9 to 1.6 degrees Celsius, depending on emission scenarios. While precipitation projections carry high uncertainty, all emission scenarios include a small projected increase in average annual precipitation by the 2090s.
More frequent and intense heatwaves are expected as a result of these climate changes. Heatwaves, defined as periods of three or more days with temperatures above the long-term 95th percentile, are projected to become increasingly common. The median probability of heatwaves in a given year is forecasted to rise from 2% currently to 93% by 2090 in the most adverse scenario. Consequently, annual daily maximum temperatures may increase from 33°C to 34–37°C by the 2090s across various emissions pathways. Heat stress adversely affects human health, labour productivity, and increases energy consumption for cooling systems. Heatwaves and droughts also accelerate the degradation of transport infrastructure.
Malaysia is also expected to experience more frequent droughts in the future. Although the current probability of drought is relatively low, it is expected to double by the end of the century. The Inform 2024 Risk Index suggests that Malaysia's exposure to droughts ranks in the median range compared to neighbouring countries, with a ranking of 100 out of 191 countries (Table 3.1). Regions such as the Kelantan River Basin are particularly susceptible to severe droughts, often occurring during El Niño events, leading to reduced agricultural productivity and freshwater supply.
Note: 1. For the sub-categories of risk (e.g. “Flood”) higher scores represent greater risks. 2. DRR stands for Disaster Risk Reduction. 3. INFORM is a collaboration of the Inter-Agency Standing Committee Reference Group on Risk, Early Warning and Preparedness and the European Commission. The European Commission Joint Research Centre is the scientific lead of INFORM.
Source: INFORM. 2023. INFORM Risk Index 2024. https://drmkc.jrc.ec.europa.eu/inform-index.
Malaysia faces significant exposure to flooding, with both river and coastal flood risks being high (Table 3.1). The frequency and severity of flood events have been on the rise in recent decades, and this trend is expected to continue with ongoing global warming. This could lead to an increased incidence of flash floods and associated hazards such as landslides. Projections indicate that by 2035–2044, the population affected by extreme river floods (90th percentile) could increase by approximately 102 290 people, representing a 140% rise from the population exposed to extreme flooding between 1971–2004.
In December 2021, several Malaysian states were struck by devastating floods, forcing over 400 000 people to evacuate their homes and resulting in overall losses amounting to MYR 6.1 billion or 0.4% of the country’s nominal GDP. Since 2000, Malaysia has experienced an average of 1 to 2 large-scale flood events per year, with more frequent occurrences approximately once every seven years (World Bank and Bank Negara Malaysia (BNM), 2024[2]). Notably, large-scale floods have become more frequent since 2020. Historical data indicates that floods have been the most prevalent natural disaster in Malaysia, surpassing storms (7% of all disasters) and landslides (6%).
Coastal zones, urban areas, and transport infrastructure are increasingly vulnerable to rising sea levels. Historical data indicates an average sea-level rise of approximately 3.3 mm per year in eastern Malaysia and 5.0 mm per year in the west between 1993 and 2015 (World Bank Group and Asian Development Bank, 2021[3]). Projections suggest a rise of 0.4–0.7 meters by 2100, with Sabah-Sarawak facing greater risks (Ercan, Bin Mohamad and Kavvas, 2013[4]). These rising sea levels pose significant threats to agriculture in Malaysia's coastal zones. About six percent of palm oil production and four percent of rubber production are currently at risk. The effects of climate change are causing significant economic losses for Malaysia, which could be reduced by raising preparedness through better adaptation measures. The health impacts of observed ambient air pollution in Malaysia were estimated to result in an annual economic cost of 20% of GDP in 2019 (CREA, 2022[5]).
Looking ahead, Malaysia will need to do more both with respect to mitigation and adaptation strategies to address the challenges that come with climate change. Global mitigation efforts, and Malaysia’s success in reducing its own emissions, will be key to rein in global warming, while adaptation efforts can make the economy more resilient to adverse climate events and reduce future losses. Policy success will hinge on achieving more coherent sectoral policies and finding the most effective policy mix. Phasing out energy subsidies will be a first important step, on which mandatory carbon pricing policies can build, while compensating low-income households through targeted transfers. Carbon pricing can be complemented by regulatory measures and sectoral policies. Developing a national adaptation strategy would mitigate the fragmentation of adaptation policies across various sectoral policies and ministries.
Greenhouse gas emissions have increased
Greenhouse gas (GHG) emissions have been rising in Malaysia in recent years. Energy usage remains the primary source of GHG emissions, accounting for approximately 80% of emission (Figure 3.2. ). However, land and forestry practices absorb CO2, helping to mitigate net emissions.
Note: IPPU: Industrial Processes and Product Use; LULUCF: Land Use and land Use Change and Forestry
Source: Ministry of Natural Resources, Environment And Climate Change , Malaysia (2022), FOURTH BIENNIAL UPDATE REPORT
Malaysia's CO2 emissions remain high compared to peer countries. Emissions per unit of GDP showed improvement up to 2017, but since then, they have plateaued at a high level (Figure 3.3, Panel A). The decline in per capita emissions, which was observed until 2017, has reversed (Figure 3.3, Panel B).
Source: IEA Greenhouse Gas Emissions from Energy.
For an economy that is experiencing rapid growth like Malaysia’s, strong energy demand and an increase in associated emissions should come as no surprise. Energy demand typically increases as activity expands and incomes rise (Figure 3.4, Panel A) and there is a strong correlation between a country’s income level and energy use (Figure 3.4, Panel B). Sustaining Malaysia’s high economic growth will require further increases in energy supply, while supply bottlenecks would constrain economic growth (Stern, 2011[6]). This underscores the need for Malaysia to transition to a greener energy mix to ensure that future growth does not exact an irreversible toll on future generations.
Source: OECD Green Growth Indicators; and World Bank World Development Indicators.
The largest source of emissions are energy and transport. GHG emissions from these sectors have shown continuous upward trends over the past twenty years (Figure 3.5). Within industrial activities, mineral and metal industries stand out as significant sources of emissions (Ministry of Natural Resources, Environment And Climate Change , Malaysia, 2022[7]). Waste management is also an important emission source, notably through industrial wastewater treatment and discharge, as well as solid waste disposal.
Greenhouse gas emissions, Tg CO2 equivalent
Source: Ministry of Natural Resources, Environment And Climate Change , Malaysia (2022), FOURTH BIENNIAL UPDATE REPORT
Malaysia has made significant progress in its climate commitments. In its revised Nationally Determined Contribution (NDC) submitted in July 2021, Malaysia increased its mitigation ambition aiming to reduce carbon intensity against GDP by 45% by 2030 compared to the 2005 level. This unconditional target represents a substantial improvement from the initial NDC, which had an unconditional emissions reduction target of 35%, with an additional 10% conditional on external support. The revised NDC expands the scope to cover seven greenhouse gases, compared to the three considered in the first NDC. Although the NDC does not explicitly mention a net-zero target, the Twelfth Malaysia Plan for long-term economic and sustainable development has set the goal of achieving net-zero GHG emissions as early as 2050. Future updates of the NDC could align carbon emissions reduction with the net-zero objective. As of November 2023, 37.4% of countries, including Thailand, have incorporated absolute emission reduction targets into their NDCs (Table 3.2).
Source: UNFCCC, NDC Registry.
Effectively transitioning to net-zero GHG emissions requires implementing robust mitigation policy strategies. In this context, a long-term low emissions development strategy (LT-LEDS), as recommended in the Paris Agreement, can play a pivotal role by ensuring coherence among various sectoral policies and instruments. Malaysia has developed a National Energy Transition Roadmap and a Renewable Energy Roadmap to guide energy policies aimed at mitigating climate change. The Malaysian government is currently developing an LT-LEDS, presenting an opportunity to consolidate and align policies addressing various emission sources. Malaysia’s LT-LEDS should prioritise the transition to low-carbon energy sources, incentivising industries to reduce emissions, and promoting the protection and conservation of forests, as well as reforestation and afforestation.
Phasing out fossil fuel subsidies
Large energy subsidies remain perhaps the most salient obstacle to pricing GHG emissions in line with achieving mitigation targets. Subsidies also lead to significant policy inconsistencies, as they pull in the opposite direction of raising carbon prices or other mitigation efforts such as promoting electric vehicles. Subsidies are predominantly directed towards the transport sector for fuel consumption and amounted to 3.0% of GDP in 2023 (Figure 3.6). Liquefied petroleum gas (LPG) cylinders, widely used for cooking purposes, also benefit from subsidies. In addition, electricity tariffs in Malaysia remain among the lowest in comparison to neighbouring countries, with residential usage cross-subsidised by the commercial and industrial segments.
Although they helped to maintain relatively low inflation amid escalating global energy prices as of 2022, these subsidies have discouraged energy efficiency efforts and distorted consumption patterns towards more energy use. At the same time, energy subsidies fail to achieve one of their stated objectives, which is to protect the purchasing power of low-income earners, as those with high incomes benefit more from these subsidies than those in need of support (Chapter 2).
Central government spending on subsidies
Source: Bank Negara Malaysia, Department of Statistics, CEIC.
While the negative economic effects of energy subsidies are widely understood, the political economy of getting rid of them is often difficult. The economic incidence of these subsidies is often poorly understood, with many people wrongly thinking that subsidies are an effective social policy tool. At the same time, those who consume large amounts of energy find it convenient to maintain them. Neighbouring Indonesia is an example of a successful reduction of energy subsidies, albeit also with a few ups and downs (Box 3.1). The experience of Indonesia may be instructive for Malaysia’s efforts to phase out subsidies. Strong communication, including about what the newly gained fiscal space could finance, may also help to convince wider parts of the population of the need to phase out subsidies.
Malaysia currently plans to convert energy subsidies into targeted support for low-income households and has started an initiative to construct a single administrative database called PADU (Pangkalan Data Utama), which encompasses individual and household data for citizens and permanent residents of Malaysia, consolidating different sources of government data. While stronger targeting of subsidies would certainly be an improvement over the status quo, a better approach would be to phase out subsidies altogether and make any targeted transfers independent of energy consumption, while integrating them into broader and coordinated efforts to strengthen the social safety net (Chapter 2).
Until the mid-2010s, Indonesia subsidised fuel and electricity prices to keep energy affordable for the poor and to raise their purchasing power. In the early 2010s fuel subsidies were absorbing over 20% of government spending. But the subsidies did not work as intended, as 40% of subsidy benefits went to the top income decile and less than 1% reached the poorest. Fuel subsidies were reduced in June 2013 and again in November 2014. At the beginning of 2015, the government grasped the opportunity offered by falling world oil prices and abolished the petrol and diesel price-setting regime. Both domestic petrol and diesel prices were linked to world prices through a semi-automatic formula, with only diesel getting a fixed subsidy of IDR 1 000 (at the time, USD 0.08) a litre. In the original formulation, the 2015 budget earmarked more than 13% of total government expenditure to fuel subsidies, but the share was eventually whittled down to 5% (Figure 3.7).
The subsidy cuts were matched by a substantial increase in spending on other areas of the state budget linked to social protection and infrastructure. Most of the sectors that received increased funds are associated with higher economic growth and rates of employment than fuel subsidies. A key positive outcome is that the budget has become much less vulnerable to fiscal risk following the reform, largely because smaller fuel subsidies made the budget less prone to unpredictable variation as a result of world oil price fluctuations and currency changes.
Source: Ministry of Finance Indonesia.
In March 2018, the government increased the subsidy again to keep oil prices stable over the following two years. The subsidy-related government budget saw a 39% rise for the year 2021, reaching IDR 243 trillion. In 2022, the soaring cost of this measure led policymakers to redirect the fuel support component to low-income consumers, with:
IDR 9.6 trillion towards 14.6 million workers with monthly wages below USD 230.
IDR 12.4 trillion as cash assistance to 20.7 million households, each receiving USD 10.
IDR 2.2 trillion for public transport assistance, online bike taxi assistance and fishermen.
In 2023, the subsidies reached IDR 211 trillion for fuel, LPG and electricity to cushion the volatility of commodity prices, but the direct cash assistance towards low-income households was not renewed.
Indonesia still spends USD 110 million to support coal and USD 3.2 billion to support the oil and gas sector and faces challenges in terms of transparency, commitment, and the implementation of subsidies. Only the electricity subsidy policy for low-income households is well targeted, as households are categorised according to their scale of consumption when electricity prices are set. It is mainly upper-middle income households that benefit from subsidies for fossil fuels.
Moving towards mandatory carbon pricing
Implementing a positive carbon price to drive GHG emission reductions efficiently would be a natural next step. Most countries, including less developed countries, already have some form of positive carbon rates (Figure 3.8). These can result from an explicit carbon tax or an emission trading scheme, but in fact, the most common source of positive carbon rates is simply a fuel excise tax that raises the price of fossil fuels at the pump. Malaysia is an outlier in this regard, given that it has no positive carbon rate at all, not even a fuel tax, as highlighted in the 2021 OECD Economic Survey of Malaysia (Table 3.3).
Carbon pricing can take the form of a carbon tax, which typically requires lower administrative capacities but may face more political challenges, or an Emissions Trading System (ETS), which demand more sophisticated monitoring but may encounter fewer political barriers. Hybrid approaches are also possible, with some sectors covered by an ETS while some of the remaining sectors may be covered by carbon taxes. If well engineered, such a hybrid solution can generate a largely uniform carbon price across the economy, which would equalise abatement costs across different mitigation options and would be an economically efficient approach. The government has recently initiated a feasibility study on carbon pricing, which considers both a carbon tax and an emission-trading scheme.
Malaysia developed a voluntary carbon market inaugurated by the capital market regulator, Bursa Malaysia, in December 2022. This market allows firms to produce, purchase, and trade carbon credits, aiding them in fulfilling their climate commitments and targets. It serves as an initial platform for discovering carbon prices and could pave the way for the implementation of a domestic emissions trading scheme or a carbon tax. The average price of carbon credits in the voluntary market was approximately USD 3.8 per ton of CO2e in 2021. The government is extending financial support for the development of this market, allowing expenses for measurement, reporting, and verification related to carbon credit projects to be deducted from revenues obtained from carbon credits traded on the voluntary market, up to MYR 300 000.
Implementing proper carbon accounting is crucial for raising awareness and enabling credible monitoring, reporting, and verification of GHG emissions. Accurately measuring carbon emissions is essential for fair pricing based on emission targets. The GHG Protocol offers a standardised method for companies to measure and mitigate GHG emissions in accordance with the Paris Agreement, categorising emissions into three scopes: Scope 1 (Direct Emissions), Scope 2 (Indirect Emissions), and Scope 3 (Value Chain Emissions). While many companies in Malaysia have started tracking emissions under Scope 1 and 2, few have progressed to monitoring Scope 3. Tracking emissions is particularly vital for large companies involved in global value chains. Mandating carbon accounting, beginning with large corporations, and establishing a classification and metric framework can significantly impact GHG emissions reduction efforts.
Source: OECD (2023), Effective Carbon Rates 2023: Pricing Greenhouse Gas Emissions through Taxes and Emissions Trading, OECD Series on Carbon Pricing and Energy Taxation, OECD Publishing, Paris.
As high prices of fossil fuels and carbon-intensive goods and services entailed by carbon pricing could disproportionally affect low-income households, it is crucial that fiscal revenues from carbon pricing are available to support those who would be affected (D’Arcangelo et al., 2022[8]). Large income inequalities may hinder the green transition through low public support, which could particularly be the case in emerging market economies like Malaysia. In emerging market economies, consumption of fossil fuels typically has a larger share in total expenditure for high-income households than for low-income households due to differences in car ownership rates and availability of traditional biomass, such as firewood (Dorband et al., 2019[9]). This would give carbon pricing a more progressive footprint, although the impacts may differ across countries and fuels (Steckel et al., 2021[10]). The negative effects on low-income households could be exacerbated by associated increases of food prices as food accounts for a large share of low-income households’ spending.
Support could go beyond households. Switzerland, for example, recycles most of the revenues of its carbon tax on fossil fuels introduced in 2008. Two thirds of the tax revenue are redistributed to households on per capita basis and to businesses based on payroll and the rest is used to an energy efficiency programme and a technology fund (Hintermann and Zarkovic, 2020[11]). Singapore introduced a CO2 emission tax on the energy and industrial sectors in 2019. Although not directly linked to the carbon tax revenues, the Singaporean government at the same time provides strong support to business investments in energy efficiency, especially to SMEs, recently raising the grant rate from 50% of the investment costs to 70%. Part of the revenues from carbon pricing can also be used for other purposes, such as to smooth the job transition of those whose jobs are expected to disappear as the economy shifts away from high-emission activities. Recycling revenues from carbon pricing does not necessarily require earmarking these revenues, as long as they are allocated to the above-mentioned purposes.
Applying stricter standards and regulations
Standards and regulations can drive technology adoption axnd emission reduction as a complement to price signals. A balanced mix of pricing and regulation proves cost-efficient in curbing GHG emissions. Policies promoting green technology development complement those fostering business dynamism, facilitating the adoption of low-carbon technologies (D’Arcangelo et al., 2022[8]). Measures like emission quotas, green certifications, and technology mandates effectively restrict high-emitting activities. They address challenges such as household non-responsiveness to energy price changes and coordination issues in the retrofitting of dwellings. Combining carbon pricing with emission norms and regulations, especially in high-polluting industries, can equalise emission reduction costs across sectors and bolster compliance in Malaysia.
Tighter environmental regulations could help Malaysia reduce GHG emissions. One example for this is regulations on air pollutants. While high-pollution sectors will be penalised by more stringent environmental regulations, many highly dynamic sectors and firms would likely fare well despite strict regulations (OECD, 2021[12]). At the macro level, the adverse effects of more stringent environmental regulations on economic activity would likely be modest. Moreover, regulations, such as strict pollution standards, could induce innovation and stimulate demand for innovative products (OECD, 2011[13]). As energy-related air pollutants and CO2 emissions often stem from the same sources, an integrated approach to tackle both would be highly beneficial (IEA, 2021[14]).
In this context, assessing Malaysia’s current environmental regulations can be a useful starting point. The OECD has developed an Environmental Policy Stringency index that aims at capturing rigidity and intensity of a country’s environmental policy from three dimensions: market-based policies such as carbon price measures through taxes or trading schemes, non-market based policies including regulatory measures and technology support policies including for the expansion of renewable energy sources (Box 3.2). In particular, the indicators compile information and allow comparisons on some major policy tools, including pollution standards and taxes.
Calculations prepared for this chapter suggest that Malaysia’s environmental policies could be made more stringent across several dimensions. At present, Malaysia’s policies are less stringent not only than OECD countries but when compared to China, India, Indonesia and Thailand (Figure 3.9). While the lack of positive carbon rate makes Malaysia’s market-based EPS indicator the lowest in the sample, the non-market-based EPS indicator suggests that Malaysia also has room to do more on the regulatory dimension of environmental policies.
Environmental Policy Stringency (EPS) Index, scale 0 (least stringent) to 6 (most stringent)
Source: (Ministry of Science, Technology and Innovation (MOSTI), 2022[15]), OECD, OECD Environmental Policy Stringency Index; OECD calculations.
There is a growing interest in cross-country comparisons of environmental policy instruments as many countries are setting environmental targets to tackle climate change. The cross-country comparison can help evaluate the impact of environmental policies on pollution as well as their economic and social effects, which is crucial for finding the effective policy tools and identifying relevant sectors. Given that quantifying diverse environmental policies with a single index is not simple, the OECD developed the Environmental Policy Stringency (EPS) indicators based on selected environmental policy measures with a focus on climate and air pollution. Introduced in 2014 and revised in 2021, the indicators serve as a comprehensive index and enable the comparison of environmental policies across 33 countries in the periods of 1990 and 2020.
The EPS indicators are widely used in empirical studies and policy recommendations as one of the key benchmark indices on the stringency of an environment policy. Stringency is defined as the degree to which environmental policies place explicit or implicit costs on pollution or environmentally harmful behaviour. For example, new taxes on pollutants will directly raise the costs of polluting firms, and would be counted as more stringent environmental policy. New subsidies to R&D or price support to renewable energy can also be interpreted as more stringent environmental policy in a sense that such subsidies will increase the opportunity cost of polluting. The index aggregates market-based policies, non-market-based policies, and technology support with simple weighting of scores from 0 (no policy) to 6 (most stringent).
The Index for market-based policies, accounting for one third of the overall index, consists of six sub-indices including, for example, taxation on CO2 emissions. Based on the threshold, each sub-index has a score range from 0 to 6. The non-market-based policies index uses the emission limit value (ELV) of four kinds of pollutants as a benchmark to estimate stringency. The technology support index reflects the R&D expenditure to GDP ratio as well as adoption support proxied by the level of price support for solar and wind energy technologies.
Like any composite index, the EPS only covers a partial set of policies. The EPS focuses on policies aimed at curbing greenhouse gas emissions and local air pollution, and within this group of policies, it does not capture regulations for some specific sectors. For example, policies that regulate emissions from agricultural production are not included (Frohm et al., 2023[16]). The technology support index includes support for solar and wind energies, but Malaysia’s public support for wind energy is zero due to the low wind speeds and the resulting limited potential of wind energy in Malaysia (Koons, 2023[17]).
The energy sector remains Malaysia’s largest emitter of GHG emissions. Energy usage and transportation stand out as primary contributors to these emissions (Figure 3.5). The current energy matrix, characterized by its emissions profile, underscores the need for decisive actions to accelerate a just energy transition.
In 2020, four energy sources dominated the national total primary energy supply mix. Natural gas held the largest share at 42.4%, followed by crude oil and petroleum products at 27.3%, with coal close behind at 26.4% (Figure 3.10). Meanwhile, renewables, encompassing hydropower, solar, and bioenergy, accounted for a mere 3.9% (Ministry of Economy, 2023[20]). Notably, three-quarters of all oil supply was directed towards the transport sector, while industry, including non-energy uses, consumed 17% of the total oil supply (IRENA, 2023[21]). Furthermore, over half of the natural gas supply served industry needs, with electricity generation utilising another 40% of the total.
The heavy reliance on high carbon-emitting energy sources can be traced back to the historical abundance of fossil fuels, particularly oil and natural gas. As of 2019, Malaysia possessed significant reserves, including 4.7 billion barrels of crude oil and condensate, along with estimated natural gas reserves totalling 9.9 trillion standard cubic feet (tscf) of associated gas and 69.3 tscf of non-associated gas. Additionally, Malaysi’'s coal reserves amounted to 276 million tonnes across various types (IRENA, 2023[21]).
Transitioning to net-zero emissions by 2050 calls for increasing the use of electricity as an energy source and transitioning to greener electricity sources. Electrification plays a pivotal role in key sectors such as transportation and specific industrial sub-sectors. As of the end of 2021, Malaysia's total installed electricity generation capacity stood at 33 GW connected to the grid. Coal and natural gas remain the primary sources of electricity, accounting for approximately 70% of the total installed capacity. Renewable sources contribute around 22%, including a mix of large and small hydropower, biomass, and solar PV.
Total energy supply by source, share %
Source: IEA, World Energy Balances.
The government has formulated a strategy to transition towards low-carbon systems and has developed several sectoral policies aimed at promoting the use of renewable energy as a first step in transitioning to a low-carbon economy. This strategy encompasses initiatives such as the Malaysia Renewable Energy Roadmap (MyRER), the National Energy Policy (NEP), and the National Energy Transition Roadmap (NETR), introduced in 2021, 2022, and 2023 respectively. The MyRER outlines strategies to increase the share of installed renewable energy capacity to 31% by 2025 and 40% by 2035. Furthermore, the National Energy Policy complements these efforts by targeting a total installed renewable energy capacity of 18.4 MW and aiming to reduce the capacity share of coal to 18.6%.
The government's identified transition path entails replacing coal and fuel by natural gas as a primary source of energy and electricity. Coal is slated for a nearly complete phase-out, while the share of renewable energy in total energy supply is projected to rise from 4% in 2023 to 22% by 2050 (Ministry of Economy, 2023[20]). The share of natural gas in total energy supply is expected to increase to 56% by 2050. Renewable energy will progressively scale up to constitute 70% of the installed capacity in the electricity mix by 2050. While natural gas is anticipated to play a pivotal role during the transition phase, its scale should be limited by 2050 to achieve a net-zero emission economy.
Boosting solar energy
Malaysia possesses vast untapped renewable energy sources that offer affordable alternatives to fossil fuels. The country boasts substantial renewable energy resources, with an estimated 290 GW of technical potential nationwide. Currently, the installed capacity of renewable energy stands at 8 GW (Sustainable Energy Development Authority (SEDA) Malaysia, 2021[22]).
Accelerating the development of renewable energy and increasing electricity usage will be pivotal in transitioning to a low-carbon economy. As recommended by the OECD (OECD, 2021[23]), continuing the reform of the electricity market and further opening the grid to independent producers and renewable energy producers will be crucial for this transition. The power generation market in Malaysia has been gradually deregulated since the early 1990s. Electricity is generated by Tenaga Nasional Berhad (TNB), Malaysia’s largest formerly state-owned electric utility company, and by independent power producers (IPPs). Independent power producers in Peninsular Malaysia are licensed by the government and sell power under the terms of power purchase agreements (PPAs). Currently, TNB is responsible for electricity transmission and distribution.
Experiences from OECD countries, such as Portugal, demonstrate that unbundling transmission, distribution, and generation can promote renewables (OECD, 2019[24]). In September 2019, the Malaysian government approved the 10-year Malaysia Electricity Supply Industry (MESI) 2.0 master plan to diversify the market, enhance competition, improve flexibility, and empower consumers. Implementing key measures of the MESI 2.0, such as allowing generators to source their own fuel, transitioning from power purchase agreements to capacity and energy markets, establishing a third-party access framework and network charges for the grid, and facilitating green energy producers and consumers, is essential. These reforms have the potential to create a more efficient electricity market, with prices reflecting costs and incentivising renewable electricity development.
Solar energy emerges as the most significant renewable energy source, with an estimated potential of 269 GW (Sustainable Energy Development Authority (SEDA) Malaysia, 2021[22]). Despite rapid growth in installed solar photovoltaic (PV) capacity, only 2.6 GW was installed by the end of 2020. Over the past decade, the government has implemented numerous policies to promote solar energy development. The feed-in-tariff (FiT) scheme, initiated in 2011 (excluding Sarawak), required large electricity consumers to pay an additional fee to finance renewable electricity development. Utility companies were mandated to purchase renewable electricity at a premium price, whereby the price difference is funded by this additional fee. As solar generation gained momentum, the provision of premium buy-back tariffs under the FiT scheme was discontinued. The Net Energy Metering (NEM) scheme, launched in 2016, allowed all electricity consumers to produce solar electricity for personal use and offset excess electricity for up to 24 months. The first phase's entire 500 MW quota was exhausted by the end of 2020, with an additional 500 MW quota allocated for the second phase (2021-2023), featuring an enhanced peer-to-peer energy offsetting system. Furthermore, a competitive bidding process for large-scale solar projects (above 30 MW capacity) commenced in 2016, known as Large Scale Solar, resulting in declining solar costs (Figure 3.11).
Taking the development of solar capacity to the next level requires a more streamlined and supportive framework. The current fragmented approach and lengthy permitting processes inflate fixed development costs, hindering the potential contribution of Large-Scale Solar projects to renewable energy efforts (Ministry of Economy, 2023[20]). Moreover, access to land remains challenging and time-consuming. Policy programmes aimed at boosting solar energy should address regulatory and licensing obstacles. Additionally, fostering a more flexible grid capable of accommodating solar energy, particularly small-scale supply, would support solar energy development.
Large Scale Solar bid in Malaysia and lowest bid prices
Source: IRENA (2023)
In contrast with the potential of solar energy, Malaysia's potential for wind energy is limited. Its average annual wind speed of 1.8 m/s is less than the recommended 4 m/s for small wind turbines to become economically viable using current technologies, and significantly below the 5.8 m/s wind speed for a utility-scale wind turbine. As a result, only niche uses for wind energies may be viable in select areas, in the absence of major technological progress.
Further developing biomass and hydrogen as sources of energy
Bioenergy already plays a significant role in Malaysia's energy mix and holds substantial potential for further development. Bioenergy encompasses biomass, biogas, and biofuels. Biomass, with an estimated potential of approximately 2.3 GW, constitutes the largest resource in Malaysia. Additionally, biogas and municipal solid waste show promising potential, with a total of 736 MW and 516 MW respectively (IRENA, 2023[21]). In 2019, bio-based products contributed 1% of the total primary energy supply, comprising 648 kilotonnes of oil equivalent (ktoe) of biodiesel, 204 ktoe of biomass, and 118 ktoe of biogas (Ministry of Economy, 2023[20]).
The production of biofuels has expanded over the years, primarily driven by oil palm plantations, which covered a total of 5.9 million hectares in 2021 (Ahmad Parveez et al., 2022[25]). Biofuel, primarily in the form of biodiesel, is widely used across the transport industry. However, further development of biofuels based on food crops like palm oil raises concerns regarding land competition and food security. Non-food biomass sources, such as agricultural waste residue, forest residue, livestock waste, fisheries waste, used cooking oil (UCO), as well as municipal solid waste (MSW), hold the most promising potential for bioenergy. Biogas, mainly derived from municipal solid waste, food waste, cattle manure, sewage, and palm oil mill effluent (POME), also offers significant potential.
The National Energy Transition Roadmap aims to leverage Malaysia’s robust bioenergy potential, focusing on two key segments: agriculture-related bioenergy and non-agricultural waste, such as used cooking oil and municipal solid waste. Palm oil-related residue and municipal solid waste are significant and growing sources of bioenergy. The NETR sets the objective for increasing biorefinery capacity to 3.5 billion litres by 2050 and biomass and biogas power generation capacity to 1.4 GW by 2050. Improving the management of municipal solid waste, as recommended by the OECD (OECD, 2021[23]), would facilitate the collection, sorting, and utilization of these wastes for biogas production. Ensuring the regular functioning and collection of palm oil-related residue is crucial to attract investment and develop the sector.
Developing hydrogen presents a promising alternative to natural gas across various sectors, including industry, transportation, and power generation. The NETR proposes several targets for hydrogen development, including phasing out the use of grey hydrogen as a feedstock by 2050, producing up to 2.5 Mtpa of green hydrogen by 2050 from renewable sources like hydroelectric power and solar, and establishing one low-carbon hydrogen hub by 2030, with an additional two hubs by 2050.
Malaysia is advancing on two projects to produce green hydrogen in Sarawak, namely the H2ornbill and H2biscus projects, in collaboration with Japanese and South Korean partners, respectively. The H2ornbill project aims to generate up to 75MW or 10 000 tonners per year capacity by 2025 (Malaysian Science and Technology Information Centre (MASTIC), 2023[26]).
Despite the potential of hydrogen, policy support has been weak, and there is a lack of defined standards and regulations governing hydrogen. To accelerate hydrogen production development, Malaysia needs to establish a comprehensive policy and regulatory framework, including defining standards and introducing hydrogen-specific regulations for transportation and storage. Streamlining permitting processes for hydrogen projects is also essential. Additionally, efforts are required to enhance local technical capacity and reduce the cost of electrolysers using renewable energy sources such as solar and hydro.
Other policies to reduce emissions
Improving energy efficiency is crucial for reducing energy intensity and CO2 emissions. Malaysia's 10-year strategy launched in 2015 aims to cut electricity demand by 8% by 2025, a target it is on track to achieve according to the NETR. The forthcoming Energy Efficiency and Conservation Act (EECA) will broaden energy-saving policies beyond electricity to include thermal energy, with goals of achieving 21% savings by 2040, including 15% in residential and 22% in industrial and commercial sectors. Increasing awareness and access to energy-efficient appliances, expanding Minimum Energy Performance Standards (MEPS), and implementing a national standard for building energy intensity will further reduce emissions.
Transportation emissions are the second-largest source of GHG emissions in Malaysia. Land transport, primarily private passenger vehicles, accounts for 85% of total transport emissions. To reduce these, Malaysia has set ambitious goals, aiming for a 60% public transport modal share and 80% electric vehicle penetration in the vehicle fleet by 2050 (Ministry of Economy, 2023[20]).
To reduce transport emissions, improvements in public transport infrastructure and support for electric vehicle adoption are imperative. Investing in public transport networks and discouraging private vehicle use can help to encourage public transit usage. Abolishing fuel subsidies and introducing carbon pricing on fuels could be instrumental in promoting greener choices. Developing the electric vehicle fleet will require tax incentives, continued funding for public charging stations, and streamlining regulations for private charging infrastructure. Additionally, enhancing the grid to accommodate renewables will facilitate electric vehicle charging. For example, Sarawak's grid modernisation plans will be essential for efficient and sustainable electric vehicle infrastructure.
Malaysia initiated a biodiesel blending program in 2006 under the National Biofuel Policy. By 2010, biodiesel blending for road transport began, reaching a 7% blending rate within five years. Malaysia's biodiesel serves both domestic and export markets, with a B10 (10% biodiesel) blending mandate for road transport and B7 for industrial use. Although a B20 blending target was planned for 2020, supply chain issues, compounded by the COVID-19 pandemic, delayed its implementation. Further incentivizing biofuel blending, such as through reduced taxation, can mitigate transport emissions.
Forests are vital carbon sinks, absorbing up to 75% of carbon emissions in Malaysia. Combating illegal deforestation remains crucial for forest preservation, as recommended by the 2021 OECD Economic Survey of Malaysia (OECD, 2021[23]). Malaysia has a target to keep 50% of its land mass forested and this includes efforts to regulate the sustainability of the palm oil sector through certification schemes (Tang, 2019[27]). Adequate financing for conservation efforts is essential to ensure the sustainability of domestic sinks. Additionally, sufficient resources should be allocated to law enforcement to effectively protect forests.
Malaysia can do more to prepare against the risks and damages from natural disasters, particularly those exacerbated by climate change. The economic case for this is strong as reducing risks is typically less expensive than repairing the damages once they have occurred. Although Malaysia has numerous policies, frameworks, and entities tasked with disaster coordination, their focus predominantly lies on response and recovery, rather than disaster risk reduction and climate change adaptation.
A first step for better adaptation policies is to improve coordination and elaborate a comprehensive, publicly available National Adaptation Plan. Adaptation policies are currently fragmented across various sectors and ministries, hindering effective coordination and governance of climate change risk management. The mid-term review of the 12th Malaysia Plan identifies the formulation of such a plan as a top priority. This plan will concentrate on five key areas: public health, agriculture and food security, forestry and biodiversity, water resources and security, and infrastructure and cities. The National Adaptation Plan aims to streamline disaster response coordination, develop readiness policies, and address economic activities vulnerable to climate change impacts. This includes ensuring infrastructure, particularly transportation infrastructure, is resilient to climate change effects.
Malaysia relies heavily on surface water flows, which contribute 97% of its water supply, with reservoirs serving as the primary storage source (World Bank Group and Asian Development Bank, 2021[3]). However, changing precipitation patterns, prolonged dry spells, and rising temperatures are expected to significantly affect water availability. To address these challenges, the government is finalising a National Water Policy emphasising integrated water resource and basin management, alongside nature-based solutions. Degraded basin ecosystems can worsen drainage rates, leading to increased downstream flooding. Additionally, urban expansion into flood-prone areas heightens flood impacts and reduces natural flood buffers. Adaptation strategies in the water sector include expanding irrigation, dam construction, and sanitation infrastructure. Moreover, preservation policies, such as implementing water and land conservation measures within rural micro-basins, play a crucial role in mitigating these impacts.
Revising land occupation plans and authorisations along coastal zones is imperative considering the projected sea-level rise. The rapid urbanization has led to construction in vulnerable areas like floodplains and steep hillsides, making urban residences and public infrastructure particularly susceptible. Preparing for the displacement of agriculture land in vulnerable coastal areas may also be part of an adaptation strategy, but this may require financial support for affected subsistence farmers.
Integrating adaptation considerations into infrastructure planning and urban mobility systems will be another potential line of action. This requires comprehensive planning of land use, settlement patterns, and infrastructure projects that consider climate risks. For example, the construction of Kuala Lumpur’s SMART tunnel included an additional tunnel for drainage, which can divert flood water away from the city (Sanghi, 2022[28]; Pugacheva and Mrkaic, 2018[29]). Investing in resilient mass-transit infrastructure can mitigate risks for commuters. Future public transport infrastructure expansion plans in Malaysia must incorporate climate change risk assessments and allocate responsibilities for climate-related risks. OECD guidelines for building climate-resilient infrastructure, covering design, institutional frameworks, and public-private partnerships, can inform these efforts (OECD, 2018[30]).
Improving the functioning of insurance markets is another way to prepare for climate risks. Flood risk insurance remains limited in Malaysia, primarily covering losses for commercial businesses, homeowners, and vehicles (Box 3.3). Comprehensive flood risk insurance faces obstacles due to significant gaps in flood-related information. Reporting on flood exposures and vulnerabilities from both businesses and public sources is limited. Moreover, the complexity of quantifying flood risks due to uncertain climatic and natural processes poses challenges. Policy uncertainty, fragmented responsibilities, lack of coordination, and insufficient implementation capacity at the government level further hinder effective disaster risk management. Consequently, financial institutions in Malaysia struggle to accurately price, monitor, manage, and diversify flood risks. These challenges restrict the potential for risk transfers, such as to insurance and reinsurance companies.
At the national level, the Department of Statistics Malaysia (DOSM) estimates that damages caused by the flood events in December 2021 and January 2022 alone at around USD 1.35 billion or 0.4% of GDP, with business premises, manufacturing, and the agriculture sector accounting for USD 330 million or 25% of total damages. In addition, the federal government allocated about USD 260 million in financial aid and other forms of relief associated with the flood events. In addition, Bank Negara Malaysia established the Disaster Relief Facility with USD 110 million to alleviate the financial burden on micro, small, and medium enterprises (MSMEs) affected by the floods. Additionally, several financial institutions offered loan moratoriums on housing or property financing, car financing, credit cards, and personal financing of up to six months to flood victims.
About a third of the losses, equivalent to USD 490 million, were covered by insurance. About 82%of the gross insured losses were from the commercial sector, mainly from large corporates with high insurance coverage for commercial premises. Residential homes accounted for another 11 percent of the insured losses. The 2021 flood events led to the largest claim payout in Malaysia’s insurance and takaful industry for flood events in the past decade. Despite the large payout, the losses incurred by insurers and takaful operators (ITOs) did not pose risks for the industry because ITOs had sufficient liquidity and part of the risks had been transferred to re-insurance/re-takaful operators.
Solutions may imply more active support by the public sector to further develop the flood insurance segment. The risk diversification capacity of the insurance industry can be strengthened by broadening the pool of insured assets through mandatory requirements for insurance uptake across all risk-levels of businesses and households. This may be essential to ensure the financial viability of a flooding insurance scheme. For instance, in France, compensation to cover the costs incurred by a natural disaster is paid out of a special fund, paid into by insurance companies and the government (Box 3.4). More specifically, a disaster risk fund financed through fees on all insurance contracts can provide the degree of pooling of risks and financial capacity needed to cover flood damages.
A comprehensive Disaster Risk Financing and Insurance (DRFI) strategy should prioritise frameworks for collecting and making flood-related data available to support flood risk assessments. Detailed flood risk mapping is an essential initial step in this process. Additional policy actions should include establishing standards for adaptation investments and enhancing flood risk monitoring by the financial sector to promote accountability and ensure effective risk management. Specific analyses and action plans are necessary to align the financial interests of institutions, including insurance companies, with those exposed to flood risk.
Developing a DRFI strategy would help to address Malaysia's high flood risk, considering the difficulties that private insurance markets can face in providing adequate insurance cover. DRFI aims to enhance the financial resilience of stakeholders by pre-arranging funding or transferring residual risk. Financial instruments like reserve funds, contingent budget lines, and market-based solutions such as insurance and catastrophe bonds are key components (Norris et al., 2023[31]). At the national level, public funds play a vital role in assisting those affected by floods. For instance, in 2021-2022, the federal government allocated MYR 1.2 billion (about USD 260 million) in financial aid and relief efforts. Additionally, Bank Negara Malaysia established the Disaster Relief Facility, providing MYR 500 million (USD 110 million) to support micro, small, and medium enterprises affected by floods (World Bank and Bank Negara Malaysia (BNM), 2024[2]).
France operates a system where compensation for costs incurred due to a natural disaster is drawn from a dedicated fund, financed through contributions from insurance policies held with insurance companies and the government. The eligibility for natural disaster compensation arises only upon official declaration of a natural disaster by the government in the respective commune.
Natural disaster insurance, known as "assurance catastrophe naturelle," provides coverage for damages caused by natural disasters such as earthquakes, floods, droughts, landslides, etc., primarily pertaining to property damage. This insurance is typically included in all multi-risk home insurance policies, as well as all-risk vehicle and professional building insurances. Insurers are mandated to include natural disaster coverage in insurance plans, and refusal to do so can be contested through the Bureau Central de Tarification (BCT) within 15 days of refusal. However, subscribing to an all-risk insurance policy is not obligatory.
Therefore, to receive compensation under natural disaster insurance, inclusion of this coverage in the insurance plan is necessary, as mandated, along with the publication of a government decree declaring a natural disaster in the area.
A disaster is officially declared after the municipality affected by the disaster submits a request for recognition to the prefecture, which serves as the local representative body of the state. A national-level commission, led by the Ministry of the Interior, ultimately decides on the classification of natural disasters.
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