The following is the speech by First Finance Minister of Malaysia Daim Zainuddin regarding the efforts taken by Malaysia to achieve full economic recovery at the CLSA Global Emerging Markets Malaysia Conference, which was held at the Mandarin Oriental Hotel in Kuala Lumpur on 8 March 1999.

Let me quickly thank CLSA the organizers of this forum for inviting me to participate in the one day forum which has as its theme "What Lies Ahead?". I have been asked to talk on what we are doing towards economic recovery. What I hope to do is perhaps give some insights on certain aspects of the Malaysian economic recovery program of possible interest to all of you in particular the foreign exchange controls and the recapitalization of the banking system. In addition, I will touch on some of the signs that are emerging that point to the possibility that recovery is underway.

As we quickly approach the next millenium and the attendant challenges of the next century, it is of utmost importance that we reinstate the Malaysian economy back to the path of sustainable economic growth. This is our most important task. It is particularly critical because the next millenium will be even more challenging, and the Malaysian economy will have to face intense global competition and ever changing markets. That is why the Government is so single-mindedly implementing the National Economic Recovery Plan which is aimed not only at addressing the crisis and its impact, and resuscitating the economy but also addressing structural economic weaknesses. Among others, the economic recovery measures include a fiscal stimulus package to boost aggregate demand, a loosening of monetary controls which had been tightened earlier but which did not seem to have the desired results, corporate restructuring and strengthening the financial and banking sector which is currently weak. The broad thrust of the above measures is to restore business confidence and turnaround of the economy.

At same time, the Government is committed to tackling the inefficiencies in the economy and structural issues that hamper the efficient and effective functioning of our economy. The economy must be able to breathe free again if it is to function better in the new millenium. In this connection, the issues we will have to tackle include the efficiency of capital and labour, the balance of payments and the maintenance of price stability. Although the Government's policy objective in the current Seventh Malaysia Plan was productivity-driven growth, alas it was not the case. Capital and labour inputs rather than productivity seemed to drive growth during the years preceding the crisis. This was manifested in low contribution of total factor productivity (TFP) and an increasing incremental capital output ratio (ICOR), both of which reduce the economy's long-run competitiveness.

The services account of the Balance of Payments where we have a persistent deficit in the services account also needs to be addressed. The Government will need to look into the Government's implementation capacity too, since we have seen how despite the best intentions of fiscal expansion, there was a substantial development expenditure shortfall in 1998. Government funds will also have to be cost-effectively spent, an issue which was not apparent in the times of boom when money was aplenty.

The Government recognizes that in order to restore market confidence and the sustainability of the economy, fundamental issues that have affected market confidence will have to be rectified. In this respect, we are taking steps to improve transparency and the regulatory framework. There is also a perception of inadequate corporate governance. This will be readdressed.

As you will see, we are serious about addressing the structural issues that face the Malaysian economy so that the recovery is not a superficial one. We are hopeful that there will be success, although when the recovery will actually come seems to depend so much on what happens elsewhere given the volatility of financial markets all over the world, and most recently in Brazil. In addition, greater uncertainty has unfolded with the strengthening of the Yen vis-a-vis the US Dollar which would erode the competitiveness of the Japanese economy, reduce its exports and slow down its recovery, thereby stalling the pace of recovery of the "Asian crisis" economies.

In a way the effects of the Brazilian crisis could be averted by Malaysia given the presence of the currency controls which were instituted on September 1 of last year as well as due to the lack of strong economic and investment linkages between Brazil and Malaysia. Nevertheless, we need to monitor the situation really closely as there still remains much uncertainty as to its effect on the global economy and the scale of the crisis. The outbreak of the Brazilian crisis underscores very much what the Malaysian Prime Minister has been saying so long and which has been resisted so much, that is the need to have in place a global mechanism to regulate the flow of short-term capital and oversee the role of hedge funds which have the capacity to wreck even strong economies. This I hope will be the central challenge for world economic and financial leaders in the remaining year before we reach the next millenium.

That is why Malaysia had no choice but to institute what has become the famous or if you like infamous "currency controls" on September 1 1998. Currency controls is an issue which I feel continues to require clarification as even to this day I read some confusing and negative reports about it by individuals, analysts and investors. I must say that our capital control measures do not warrant such harsh treatment that it has been subjected to. Ours is actually selective exchange controls which are not in any way intended to affect the normal conduct of economic activity. They are not aimed at preventing the free flow of foreign capital. Rather it is aimed at containing speculation on the Ringgit and minimizing the vulnerable impact of short-term capital flows. By this way we hope to create an environment that is conducive for the restoration of investor confidence. It also provides the country breathing space to undertake economic stabilization measures.

In fact, those consulted including foreign and local companies agree that the capital controls have been mild and helpful. Only the fund managers and certain media seem to have taken opposite views. I sincerely wish you would rather take a longer term view. The Government has been receiving feedback regularly about the fear that come September 1999 there will be a massive exodus of capital from Malaysia which will have adverse effects on the economy (the so-called September 1 Syndrome). This it has been said will put the recovery at risk. We are aware of this issue and the Government is instituting an exit levy which will help portfolio investors repatriate their funds before the 12 month lock-in period. The Government is always flexible in implementing its policies.

On a more positive note, I do not foresee really massive outflows of funds after the one year moratorium. There is still a lot of profit to be made here. The stock market is improving and the economic recovery process is in place. The economy is moving again and the real economy is responding to the Government's measures. The 1998 third quarter numbers did indicate some bottoming out of the economic slowdown and we are expecting that the fourth quarter results will confirm the beginnings of an upswing. The November 1998 trade statistics showed that there was a strengthening of export volume during the period September to November 1998. This is a significant development as prior to that we experienced a few months of strong exports due to primarily valuation gains from a weaker Ringgit rather than increased export volume. A trade surplus of about RM 51.5 billion was also registered in the first eleven months of 1998. We have also been getting positive feedback from traders and businessmen that they are better able to plan with the certainty provided by the fixed exchange Ringgit. And the implementation of exchange controls has provided Bank Negara with the flexibility to bring the cost of funds down, inject more liquidity into the system, and enhance the intermediation process to support economic recovery. External reserves have increased to about US$ 27.4 billion as at end December, which is sufficient to provide 5.8 months of import cover. Prices on the KLSE have also improved. In fact, the KL Composite Index which was hovering around 262 points on September 1, 1998 has now shot up by more than 100%, to around 600. This is indeed a psychological booster for the economy.

The strong linkages between the financial system and the real economy cannot be overemphasised. The setting up of Danaharta, Danamodal and the Corporate Debt Restructuring Committee (CDRC) to a large extent are a recognition of this. In the absence of loan growth, the prospects for economic recovery would be weaker. That is why measures had to be taken to restructure the banking sector, remove non-performing loans from the system, recapitalize banking institutions and facilitate debt restructuring.

I am now glad to tell you that we are making good progress in addressing weaknesses in the financial system. With respect to Danamodal, as of now a total of 9 banking institutions (BIs) have received capital injection totalling close to RM5 billion. This will raise the capital asset ratios of these banks. Danamodal is also developing a blueprint for the Malaysian banking industry, which is expected to be finalised by February 1999. A total of RM21.8 billion of NPLs have been taken over by Danaharta to date. Both Danaharta and Danamodal will now be moving into the next phase of activity. Danaharta will look into the management of the assets it has acquired, while Danamodal will meet the challenge of restructuring the financial institutions to make them stronger and more competitive.

The financial turbulence has badly affected our corporate sector. Corporate Restructuring is a critical component in enabling viable businesses to continue to function and support economic recovery, the Corporate Debt Restructuring Committee (CRDC) was established to complement the roles of Danaharta and Danamodal to accelerate the pace of economic recovery by providing an approach to banking institutions to play a greater role in the financial rehabilitation of the corporate sector. The Steering Committee of the CDRC has so far received more than 30 applications involving more than RM 9.0 billion.

The Government believes that in addition to measures taken to restructure and strengthen the banking system, banks should also assist the recovery process by providing credit where possible and to projects that are viable. To this extent, Bank Negara Malaysia has requested banks which have the capacity to lend to increase credit for the purchase of houses, cars and shares. Although the banks expect loans growth to up to 8 per cent by the end of 1998, we would like to emphasize that banking institutions will have to continue to observe sound banking principles and ensure that prudence is never compromised.

There are some early signs that things are improving. The private sector as well as the banking system have recently had the benefit of more liquidity and lower interest rates. This has permitted an increase, albeit small, in bank lending. Some sectors are registering increases in the demand for their products. Our external reserves position has improved and the current account of the balance of payments during the first 6 months of 1998 has registered a strong surplus of RM15 billion. This surplus will help further strengthen the foundations for macroeconomic stability by boosting national savings and, thereby, reducing the need for external financing.

The economic outlook for 1999 will depend largely on the extent to which the economy and the economic actors respond to and take advantage of the Government's stabilization measures undertaken thus far. Of course Malaysia being an open economy, our economic performance will also hinge greatly on external developments, particularly the performance of regional economies and OECD countries, which have significant trade and investment links with Malaysia.

The Government is forecasting that in 1999, the economy will recover, albeit mildly, and achieve a positive real growth of 1 per cent. Of course, the main source of growth is expected to come from domestic demand and to a lesser extent the external sector as we envisage the resurgence of imports in line with the recovery. In addition, there still remains uncertainty with respect to the health of the world economy. Any weakening or deflationary situation in the markets of our exports will have negative consequences on our external position. From the supply side, all sectors save for the construction sector are expected to show positive growth although not at the rates we have been used to before the crisis.

I want to assure you that Malaysia's growth strategy in the next millenium will continue to be private sector-driven. The private sector will remain the growth locomotive. I can assure you that the Government will spare no efforts in creating a conducive business and investment environment to stimulate private sector activities. The private sector (both local and foreign) will have to continue to play its critical role in spearheading and sustaining growth in the future. With the increasingly competitive global environment, private sector initiatives will have to be directed towards continuous re-investment efforts to expand and upgrade their existing operations, and diversify into more value-added activities. The Government will push hard towards realizing the objectives of the Second Industrial Master Plan to strengthen the manufacturing sector and the New Agriculture policy announced recently which aims at revitalising agriculture and preparing the sector to play a vital role as a future source of growth. The services sector will be new growth sector creating new value for the economy.

CONCLUSION

Let me express the view that participants at this conference of fund managers have a central role to play in the economic recovery of Malaysia. Your confidence in the fundamentals of the Malaysian economy and the advice you give to your clients can influence the return of funds to Malaysia. Thus it is important to see Malaysia in the right perspective.

The measures we are implementing are certainly aimed at strengthening the macro-economy and improving the financial and corporate sectors. At the same time, concerted efforts are being made to improve transparency, corporate governance and the regulatory environment.

The economy is beginning to show signs of pick-up, and I can assure you there is money to be made in Malaysia. We are confident that as we approach the next millenium our economic problems will be resolved and we will be able to work in unison towards shaping the new economy of the 21st century.

Monday, 8 March 1999

The speech was sourced from the National Economic Action Council.

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