By John Berthelsen
Asia Sentinel
September 14, 2015

Najib says this should do It

Rising economic and political problems could render Najib’s moves ineffective

Malaysian Prime Minister Najib Razak’s announcement that a revived government equity investment firm intends to pour RM20 billion (US$4.6 billion) into shoring up the country’s stock market may face serious headwinds in a flagging economy.

“Malaysia’s market is much thinner than China’s so RM20 billion could make quite a bit of difference. On a fundamental basis the ringgit is grossly oversold and probably Malaysian equities are too,” said a Hong Kong-based financial analyst who covers Malaysia. “The problem is that fundamentals fly out of the window when there is growing concern about the probity of the political elite and the direction of policy. Malaysia has to resolve the 1MDB debacle before the market and the currency can stabilize and recover. That was supposed to happen in January and we are still waiting, which reflects entirely the poor economic and political management of the country.”

So far in 2015, on somewhat better fundamentals, vast reserves and a stable currency, the Chinese have poured US$236 billion into attempting to shore up the country’s stock markets and US$440 billion – US$90 billion in August alone—to defend its currency. Whenever the money spigot turns off, China’s markets go back into free fall. It depends on how precarious Malaysia really is.

Najib also announced that the manufacturing sector would be exempted from import duties until the economy recovers, but did not specify which specific sectors would be affected. Bursa Malaysia, the benchmark stock market, reacted by closing up 2.2 percent although it fell back after hitting a peak of 1645, to 1639 at the close.

Malaysia’s problem is a structural one as commodity prices for the country’s exports – crude oil, liquefied natural gas and palm oil – have fallen sharply as the global commodities cycle has turned and the economy of the world’s biggest export customer, China, has started to flag. Consumer confidence, damaged by the implementation earlier this year of a 6 percent goods and services tax whose introduction critics say was botched, has fallen sharply as well.

The ringgit has fallen by more than 25 percent to RM4.31 to US$1, the lowest rate in 17 years despite attempts by Bank Negara to prop up the currency, spending at least US$50 billion of its international reserves to buy back the currency. It was the rapid decline of the ringgit that forced the creation of an economic task force to try to figure out how to restore confidence in the marker.

“The ringgit’s decline is not expected to have an adverse impact on government debt as 97 percent of the debt is denominated in ringgit and mostly funded by domestic sources,” Najib told a press conference. As he did in August, he repeated that there are no plans to introduce capital controls to stop the ringgit’s slide. However, the descending currency has driven up the cost of exports dramatically, adding to the already steep cost of living rise.

Najib is also faced with falling confidence in the economy because of the year-long political crisis over 1Malaysia Development Bhd, the state-backed development fund which is mired in US$11 billion of debt, a large portion of it apparently unfunded. The markets have also been rattled by allegations that Najib received an unexplained RM2.6 billion (US$602.4 million at current exchange rates) in his personal bank account from mysterious overseas sources. Capital outflows accelerated in July on Najib’s apparent inability to answer where the funds had come from, or what they were used for.

Investors have pulled at least US$3.3 billion out of the Malaysian stock market in 2015. Foreign direct investment, which had started to pick up during Najib’s reign as prime minister, has plunged. In August, according to International Trade and Industry Minister Mustapa Mohamad, FDI was down by 41.8 percent in the first half of the year although some of that was because of a higher base effect from the first half of 2014.

The vehicle for investment in the market is Value Cap, a defunct equity fund put in place in 2002 by former Prime Minister Mahathir Mohamad that almost immediately came under fire on allegations it was created to prop up flailing government-linked companies, which the government denied. The fund was conceived as a Malaysian version of Hong Kong’s Tracker Fund, a powerful device to support the market – although the Hong Kong fund amounted to US$30 billion, more than six times as much as the current Malaysian one. The state holding company Khazanah, the pension trust fund KWAP and the government fund management arm, Permodalan Nasional Bhd (PNB) were tapped to prop up the fund. It is difficult to see how far its recapitalization with US$4.6 billion will take it, since the total market capitalization of Bursa Malaysia is more than RM2 trillion.

Although Najib described Value Cap’s operations as “effective as it managed to stabilize the stock market,” it ran into serious problems in making payments on its bonds, and in any case Bursa Malaysia, like the rest of the global markets, was caught on a rising wave of optimism. In 2003 and 2004, Value Cap did generate strong returns, of 27.7 percent and 17.7 percent respectively, doing better than the Kuala Lumpur Composite Index, which gained 22.8 percent and 14.2 percent respectively during both years.

However, Value Cap was hardly a paragon of clarity during the period when it was operating. In 2011, the company was attacked in parliament by the opposition because of its refusal to answer questions about having to extend the maturity date of its US$2.7 billion in bonds. A query by Asia Sentinel at the time was met with a response by then company secretary Husna Hafiza Mohamad that “We have strict instructions against disclosing pertinent information of the company. We would not hesitate to take any legal action against you … for any misrepresentations made.”