Malaysia’s 1MDB Scandal: Political Intrigue, Billions Missing and International Scrutiny

Wall Street Journal
Oct. 23, 2015

Investment fund is under investigation in five countries

HONG KONG — A scandal involving a government investment fund in Malaysia is drawing world-wide attention and has led to calls at home for the ouster of the country’s prime minister. It is also affecting U.S. diplomacy in a strategically important part of Asia. The fund, 1Malaysia Development Bhd., or 1MDB, is under investigation in five countries.

It is a story of political intrigue, backroom politics and billions of dollars in missing money. At the center of it all is Prime Minister Najib Razak, who founded 1MDB. A Malaysian government probe found that nearly $700 million moved through banks, agencies and companies linked to 1MDB before being deposited into Mr. Najib’s alleged private bank accounts ahead of a close election. The source of the money is unclear, though in August, Malaysia’s anticorruption body said the funds were a donation from the Middle East. The donor wasn’t specified.

Here’s a primer on Malaysia, 1MDB and the scandal that has drawn the interest of investigators from around the world.

The Scandal

Mr. Najib set up 1MDB in 2009 and almost immediately, the fund caused controversy. It was supposed to borrow money so it could attract investment and stimulate Malaysia’s economy. Instead, it amassed $11 billion in debt, invested in overseas energy ventures, bought power plants and laid plans for big real-estate projects that didn’t get off the ground.

The fund faces accusations about billions of dollars in missing money and that it was indirectly used to boost the ruling party’s campaign during a tight election in the spring of 2013. Mr. Najib’s office didn’t respond to specific questions about the fund’s activities and a senior official from the ruling party didn’t reply to a request for comment. 1MDB didn’t respond to a request for comment.

Wall Street bank Goldman Sachs Group Inc. reaped hundreds of millions in fees for its work with 1MDB, according to fund documents and people familiar with the matter, leading critics to say the fund overpaid for the bank’s services.

The Gulf emirate of Abu Dhabi has been deeply involved with 1MDB. It guaranteed 1MDB-issued bonds in 2012 and more recently, it helped to shore up the fund’s finances. Abu Dhabi officials recently said they haven’t received roughly $2.4 billion in payments that 1MDB said it sent to them. 1MDB didn’t respond to requests for comment.

No one has been charged by investigators looking into the scandal. Mr. Najib has denied wrongdoing or taking money for personal gain. He says the accusations are an attempt by political opponents to unseat him. The original source of the funds that allegedly went into Mr. Najib’s accounts was unclear, and the government investigation didn’t detail what happened to the money.

1MDB has said its investments were all proper, its finances are in good shape and it would cooperate with any investigations. Goldman has said its fees were higher than usual to compensate for the risks it took to execute the deal quickly and sell three bonds totaling $6.5 billion.

Now, 1MDB is trying to dig itself out of debt by selling off assets.

The Country

Malaysia is located just north of the equator and sits adjacent to the Strait of Malacca, the main shipping channel between the Indian and Pacific oceans. The former British colony has a population of 30 million, which is divided among an ethnic Malay majority and significant Chinese and Indian minorities.

Malaysia has been dominated by a single party since independence, though it lost the popular vote in the last national election in 2013. The party, however, managed to cobble together a majority in parliament.

The country is a major producer of natural resources and it exports oil, natural gas, palm oil and rubber. Malaysia is also a major exporter of electronics, with global companies such as Intel Corp. and Texas Instruments Inc. manufacturing in the country. Economic growth has averaged nearly 6% a year for the past five years.

But a recent world-wide fall in commodity prices and rise in debt levels in the country have hit the economy. Malaysia’s currency, the ringgit, has fallen more than 20% this year, making it the worst performer in Asia. The uncertainty around the 1MDB scandal has contributed to the decline, which has put additional pressure on Mr. Najib.

Malaysia is now stuck in what economists call the “middle income trap.” Its wages are higher than in neighboring countries like Vietnam, making it hard to attract investment in lower-end electronics. It has failed to grow higher-end industries and service businesses. Gross domestic product per capita, a typical measure of wealth, stands at $10,000.

The Prime Minister

Mr. Najib, 62, became prime minister in 2009 and started 1MDB to fuel new industries like information technology, renewable energy and high-value services. It was also designed to wind down a system where ethnic Malays got preferential treatment over Chinese and Indians. The name 1Malaysia was meant to bring the country’s ethnic groups together by creating jobs and raising living standards.

Mr. Najib’s family played an outsize role in the days after Malaysia gained independence in 1957. His father became Malaysia’s second prime minister and an uncle was its third. When his father died in 1976, Mr. Najib took his seat in parliament.

By the time Mr. Najib came to power, minority communities of Chinese and Indians, complaining of discrimination, had started to gravitate to the opposition. Critics say the ethnic-preferences system—which was established to help ethnic Malays catch up with ethnic Chinese and Indians in areas such as wealth and education—had become a font of corruption. The ruling party’s coalition had scored its worst-ever showing at elections in 2008.

Why Does This Matter?

Malaysia plays an important role in Asia as a moderate Muslim country with strong economic, diplomatic and cultural ties to the broader region and the Middle East. When U.S. President Barack Obama made a pitch early in his administration to “pivot” the U.S. toward Asia, he focused on Malaysia as a counterbalance to China’s rise in the region.

At the same time, Mr. Najib talked of building a more inclusive country and made efforts to reach out to the West. Mr. Obama responded and in 2014, he became the first U.S. president since the 1960s to visit Malaysia. Last Christmas, the two leaders played golf in Hawaii. Mr. Obama will visit Malaysia again in November during a meeting of Southeast Asian nations.

One risk is that the 1MDB scandal destabilizes the Malaysian government, leading to a revival of the ethnic strife that plagued the country in its early years. Another is if the government fails to deal with the economic challenges facing the country, including low commodity prices, high debt levels and slowing economic growth.

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