From Asiaweek
4th May, 2001
FOC: Half-Measures Won't Save Malaysia
It's time to bite the bullet and abolish capital controls
By ASSIF SHAMEEN
What are we supposed to make of the fact that the Kuala Lumpur
Composite Index on Wednesday moved up 26.92 points, or 4.6%, to
611.42? Does it mean the good times are coming back? Should we be
popping the bubbly? I don't think so. The move was a knee-jerk
reaction to the decision by the Malaysian government to finally
dismantle the last barrier to the repatriation of stock market funds -
the 10% exit levy on stock profits that are moved out within one year
of investment. That brings Malaysia in line with rest of Asia.
In my view, the move is no more than a desperate bid to shore up a key
pillar of capital controls that Prime Minister Mahathir Mohamad
introduced two and half years ago when he fired his deputy Anwar
Ibrahim and closed much of Malaysia for overseas investors. I am
talking about the currency peg, which anchors the ringgit at 3.80 to
the U.S. dollar. The disappearance of the exit levy, as welcome as it
is, does not mean that Mahathir has suddenly grown fond of foreign
portfolio investors. He still blames the likes of George Soros for
precipitating his country's economic slump. It's not that there has
been a sudden change of heart or change of policies in Malaysia. It's
just that things are so bad on the economic front that Mahathir has
been forced to play his last card.
While its true the 10% levy has kept many foreign portfolio investors
away, its removal won't bring them rushing back anytime soon. Capital
controls were first imposed in early September 1998. Since February
1999, Malaysia has fine-tuned the levies several times to attract
foreign investors. But, instead of coming in, they have using the
relaxations to bolt out of the market.
Mark Mobius, the emerging-markets guru for the Templeton group of the
U.S., seems to think it's still not time for investors to dip their
toes into Malaysia. "They still have a problem with corporate
governance, transparency, crony capitalism," says the man who manages
nearly $12 billion in funds globally. Moreover, with 74-year-old
Mahathir facing angry members of the Malay community around the
country, Mobius believes "political risks" for investors in Malaysia
are growing not receding. There is more. Mobius outlines a weakening
economy, lackluster corporate profit growth, the danger of the ringgit
peg collapsing and an ensuing huge devaluation hanging over the
country. "Really, if you want to invest in emerging markets and want
to make money, there are other more attractive markets around," he
says. Having been burnt in Malaysia several times before through his
investments in politically connected companies, Mobius says he'll be
sitting on the sidelines until he sees changes such as improved
corporate governance.
Malaysia has a weighting of about 9% in the Morgan Stanley Capital
International (MSCI) Asian benchmark index, which large international
institutions use as a guide for their international portfolios. The
MSCI will next week re-calibrate its index - the first time since it
announced that indices will be weighted according to tradability of
shares rather market capitalization - and most analysts say it could
bring Malaysia down to no more than 4%. The beneficiaries will be
Northeast Asia and India. One more reason for foreigners not to invest
in Malaysia.
But, as I said, the reason Mahathir abolished the 10% levy wasn't to
get people like Mobius back in as minority shareholders in troubled
but politically connected firms such as Renong, UEM, and TRI. The aim
is to defend the ringgit peg to the dollar. The softening of the yen
and other regional currencies in recent months is making Malaysia
increasingly uncompetitive because of the overvalued ringgit rate.
Moreover, Malaysia's foreign exchange reserves, which back the peg,
have been falling - from $34 billion last July to just over $26
billion currently. Nearly a billion dollars worth of foreign portfolio
investments have flowed out of the country in the past four months.
Some analysts argue that if the yen remains weak and the U.S. economy
struggles for another few months, Malaysian reserves could drop to
just $21 billion by year-end. At that level, something would have to
give. It could be the ringgit. Asian currency analysts in Singapore
believe that a devaluation of between 15% and 20% is likely.
Malaysia doesn't need half-measures such as the abolition of the exit
levy. It needs to get rid of capital controls completely and let the
ringgit float again. There might be short-term pain, but the long-term
benefits would outweigh everything, with the floodgates reopened for
foreign direct investments in higher value-added industries and
services. Mahathir may lose a few political points, but his country
will reap huge gains. When he first came to power, he was known as a
pragmatist and a visionary. What he needs to show the world now is
that he has not lost that skill.
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