COUNTRY REPORT

Malaysia Brunei At a glance: 2000-01

OVERVIEW Political divisions in have widened since the November 1999 general elections. The prime minister, Dr , is having little success in bolstering the moderate, progressive Islamic credentials of the United Malays National Organisation (UMNO), the dominant party of the coalition. The deepening split in the Malay ethnic community could result in political and racial polarisation and undermine Malaysia’s stability. Economic growth is slowing but also becoming more stable. Year on year GDP growth of 11.9% in the first quarter was followed by 8.8% in the second quarter. Real GDP growth will continue to be heavily dependent on private consumption and capital investment, and is forecast to reach 8.6% this year, slowing to 7.3% in 2001. Key changes from last month Political outlook • Dr Mahathir looks more likely to crack down on the increasingly popular opposition Parti Islam sa-Malaysia (PAS), a move which could easily prove counter-productive. Economic policy outlook • The budget for 2001, to be revealed towards the end of October, is likely to contain incentives to stimulate investment and consolidate the impressive economic recovery. Economic forecast • A pick-up in foreign investment applications around the middle of the year and a sharp rise in capital investment recorded in the second-quarter GDP figures suggests that our GDP growth forecast of 8.6% this year and 7.3% for 2001 may be conservative.

September 2000

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ISSN 0269-6703

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Contents

3 Summary

Malaysia

5 Political structure

6 Economic structure 6 Annual indicators 7 Quarterly indicators

8 Outlook for 2000-01 8 Political outlook 9 Economic policy outlook 10 Economic forecast

13 The political scene

17 Economic policy

21 The domestic economy 21 Economic trends 24 Oil and gas 25 Industry 27 Agriculture 28 Financial and other services 31 Infrastructure

33 Foreign trade and payments

Brunei

35 Political structure

36 Economic struture 36 Annual indicators 36 Quarterly indicators

37 Outlook for 2000-2001

39 The political scene

42 Economic policy and the economy

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List of tables

11 Malaysia: international assumptions summary 12 Malaysia: forecast summary 19 Malaysia: performance of the ringgit 20 Malaysia: applications received for establishment of manufacturing projects 22 Malaysia: real gross domestic product 25 Malaysia: industrial production 28 Malaysia: loan approvals, disbursements & loans outstanding 34 Malaysia: current account

List of figures

12 Malaysia: gross domestic product 12 Malaysia: Malaysian dollar real exchange rates 18 Malaysia: credit card balances 22 Malaysia: quarterly gross domestic product 23 Malaysia: consumer and producer prices 25 Malaysia: industrial and manufacturing production 26 Malaysia: sales of passenger cars 28 Malaysia: loans extended by banking system 29 Malaysia: non-performing loans

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Summary

September 2000

Malaysia

Outlook for 2000-01 Dr Mahathir Mohamad, the prime minister, may be planning a crackdown on the increasingly popular opposition Parti Islam sa-Malaysia (PAS), the main gainer from the November 1999 general elections, which could prove counter- productive. The deepening split in the main ethnic community could result in political and racial polarisation and undermine Malaysia’s stability. Since the previous Country Report, we have raised our real GDP growth forecast for 2000 from 8.3% to 8.6% but lowered the outlook for 2001 slightly from 7.4% to 7.3%. The decline in the current-account surplus, which reached 16% of GDP in 1999, will be faster than previously forecast, dropping to 9% in 2000 and 4% in 2001, compared with previous forecasts of 11.6% and 7.5%.

The political scene Political divisions in Malaysia have widened since the November 1999 general elections, in which almost half of the ethnic Malay voters supported opposition parties but the ruling (BN) coalition, nonetheless, retained its two-thirds majority in parliament. Dr Mahathir has had little success in bolstering the moderate, progressive Islamic credentials of the United Malays National Organisation (UMNO), the dominant party of the coalition.

Economic policy The government is intending to consolidate the impressive economic recovery and will continue the expansionary monetary and fiscal policies. There is unlikely to be a change in the pegged exchange-rate regime in the near term. Important strategy documents are being prepared, such as the Eighth Malaysia Plan (2001-05) and a knowledge-economy masterplan, which will set out the longer-term economic course.

The domestic economy Foreign investment applications picked up sharply around the middle of the year. GDP expanded by 8.8% year on year in second-quarter 2000 after growing by 11.9% in the preceding quarter. Investment growth accelerated sharply. Petronas posted an 85% increase, to M$12.6bn (US$3.3bn), in net profit for the 12 months to end-March 2000. Manufacturing production remained buoyant, rising 25.2% year on year in the April-June period. Electrical and electronic products were Malaysia’s largest export category, taking 57.8% of total exports during the first six months of the year, increasing 20.3% year on year, slightly ahead of total export revenue growth of 19.5% during the period. National carmaker, Proton, will not be allowed to be taken over by a foreign car manufacturer. The Association of South-East Asian Nations (ASEAN) will permit Malaysia to defer scheduled duty reductions on motor vehicles from 2003 to 2005. The glut of crude palm oil is getting worse. The government is working on a plan to streamline natural rubber production. Bank lending growth has remained low but the government is sticking to its year-end target date for

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consolidation of the banking sector. The Stock Exchange (KLSE) has been hit by a bout of profit-taking; regulatory changes, such as shortening of the settlement period and easing of chain listing requirements, have been announced. The foreign shareholding in Malaysian Airline Systems (MAS) may be raised.

Foreign trade and Malaysia’s trade surplus has begun to decline as imports continue to accelerate payments and export growth slows. Capital goods imports rose 50.7% year on year in June. A sharp widening of the income deficit reduced the current-account surplus in the fourth quarter of 1999.

Brunei

Outlook for 2000-01 The sultanate faces a delicate balancing act: how to reduce the overdependence on oil and gas-financed government spending, while maintaining firm control over Brunei’s citizens. Planned cuts in social services, new income taxes and increased privatisation are unlikely to be balanced by robust private-sector growth. Economic growth, officially estimated at 3% this year, is being boosted by the high oil price; the official 5-6% GDP target for 2001 does not look achievable.

The political scene The Prince Jefri case has been settled out of court, removing the prince from the public eye and preventing further damage to the government’s reputation. With the case closed, the government appears to have retreated back from greater openness.

Economic policy and the Petroleum production has been increased by 25% to help refill the Treasury, economy seriously depleted by Prince Jefri’s actions. The government has announced a new series of economic reforms and has re-affirmed its ambitions to set up a regional financial centre which will focus on Islamic banking. .

Editors: Frans Jonkers (editor); Graham Richardson (report checker) Editorial closing date August 31st 2000 All queries: Tel: (44.20) 7830 1007 E-mail: [email protected] Next report: Full schedule on www.eiu.com/schedule

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Malaysia

Political structure

Official name Federation of Malaysia

Form of state Federated constitutional monarchy

The executive The king appoints a prime minister and, on the prime minister’s advice, a cabinet

Head of state The Yang di-Pertuan Agong (king or supreme sovereign) elected by the Conference of Rulers from one of the nine hereditary rulers

National legislature Bicameral federal parliament. The Senate () has 70 members, 30 of whom are elected from the state legislatures and 40 appointed by the king. The House of Representatives (Dewan Rakyat) has 193 directly elected members. The Senate serves a six-year term of office and the House of Representatives a five-year term

State government There are state governments in each of the 13 states, in nine of which the head of state is a hereditary ruler. Each state has its own constitution, a council of state, or cabinet, with executive authority and a legislature that deals with matters not reserved for the federal parliament

National elections November 29th 1999; next election due by January 2005

National government The Barisan Nasional (BN), the governing coalition, the main component of which is the United Malays National Organisation (UMNO) Baru, won 148 of the 193 seats in the Dewan Rakyat in the 1999 general election. The BN has the two-thirds majority required to pass constitutional amendments. The cabinet was reshuffled in December 1999

Main political organisations Government—the main parties in the Barisan Nasional are UMNO Baru, the Malaysian Chinese Association (MCA), the Malaysian Indian Congress (MIC), Gerakan, Parti Pesaka Bumiputera Bersatu (PPBB) and the National Party (SNAP) Opposition—Parti Islam sa-Malaysia (PAS), the Democratic Action Party (DAP), Parti Keadilan Nasional (PKN), Parti Bersatu Sabah (PBS) and Parti Rakyat Malaysia (PRM)

Prime minister Dr Mahathir Mohamad Deputy prime minister & home affairs minister

Key ministers Agriculture Defence Najib Abdul Razak Education Energy, communications & multimedia Finance Foreign affairs Housing & local government Human resources Information Khalil Yacoob International trade & industry Primary industries Public works Transport

Central bank governor

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Economic structure

Annual indicators

1995a 1996a 1997a 1998a 1999a GDP at market prices M$ bn 222.5 253.7 281.9 284.5 299.2 GDP US$ bn 88.8 100.9 100.2 72.5 78.7 Real GDP growth (%) 9.8 10.0 7.3 –7.4 5.6 Consumer price inflation (av; %) 5.3 3.5 2.6 5.3 2.8 Population (m) 20.7 21.2 21.7 22.2 22.7 Exports of goods fob (US$ m) 71,767.0 76,881.0 77,881.0 74,123.4 83,933.2 Imports of goods fob (US$ m) –71,871.0 –73,055.0 –74,005.0 –55,908.7 –61,160.8 Current-account balance (US$ m) –8,470.0 –4,596.0 –4,791.0 9,816.8 12,605.8 Foreign-exchange reserves excl gold (US$ m) 23,774.0 27,009.0 20,788.0 25,559.0 30,588.0 Total external debt (US$ bn) 34.3 39.7 47.2 44.8 42.0b Debt-service ratio, paid (%) 7.0 9.0 7.5 7.2 6.9b Exchange rate (av) M$:US$ 2.50 2.52 2.81 3.92 3.80

August 30th 2000 M$3.80:US$1

Origins of gross domestic product 1999 % of total Components of gross domestic product 1999 % of total Agriculture 9.3 Private consumption 43.7 Mining 7.3 Public consumption 12.4 Manufacturing 30.0 Gross fixed capital formation 27.0 Construction 3.6 Stockbuilding 0.2 Electricity, gas & water supply 3.4 Exports of goods & services 110.2 Services 46.4 Imports of goods & services –93.4 GDP at factor cost 100.0 GDP at market prices 100.0

Principal exports 1999c US$ bn Principal imports 1999c US$ bn Electronics & electrical machinery 51.3 Manufacturing inputs 24.5 Petroleum & LNG 4.1 Machinery 4.7 Palm oil 3.8 Transport equipment 3.5 Chemicals & chemical products 2.9 Metal products 2.8 Textiles, clothing & footwear 2.5 Food 1.8 Wood products 1.8 Consumer durables 1.3 Total incl others 84.5 Total incl others 60.1

Main destinations of exports 1999 % of total Main origins of imports 1999 % of total US 21.9 Japan 20.8 Singapore 16.5 US 17.4 EU 15.7 Singapore 14.0 Japan 11.6 EU 11.6 Taiwan 4.5 Taiwan 5.3 Hong Kong 4.1 South Korea 5.2 South Korea 3.0 Thailand 3.8 a Actual. b EIU estimates. c Customs basis, imports cif.

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Quarterly indicators

1998 1999 2000 3 Qtr 4 Qtr 1 Qtr 2 Qtr 3 Qtr 4 Qtr 1 Qtr 2 Qtr Federal government finance (M$ m) Revenue 14,434 14,414 13,133 15,041 14,574 15,927 11,219 n/a Expenditure 9,351 14,770 9,198 10,058 12,158 15,285 7,805 n/a Balance 5,083 –356 3,935 4,983 2,416 642 3,414 n/a Output GDP at constant 1987 prices (M$ m) 45,590 45,452 44,695 48,151 49,491 50,458 50,004 52,364 % change, year on year –10.1 –11.2 –1.4 5.0 8.6 11.0 11.9 8.8 Industrial production index (1993=100) 143.7 144.9 142.1 155.0 164.1 170.9 175.5 185.6 % change, year on year –10.5 –10.9 –2.4 6.6 14.2 17.9 23.5 19.7 Prices Consumer prices (1995=100) 112.3 113.1 114.6 114.8 114.9 115.4 116.3 n/a % change, year on year 5.6 5.4 4.0 2.7 2.3 2.0 1.5 n/a Producer prices (1990=100) 135.1 132.8 129.0 127.6 129.3 133.1 134.0 n/a % change, year on year 13.9 4.0 –4.1 –5.0 –4.2 0.3 3.9 n/a Financial indicators Exchange rate M$:US$ (av) 4.06 3.80 3.80 3.80 3.80 3.80 3.80 3.80 M$:US$ (end-period) 3.80 3.80 3.80 3.80 3.80 3.80 3.80 3.80 Interest rates (av; %) Deposit 8.7 5.9 5.6 3.8 3.8 3.3 3.3 n/a Lending 10.9 8.2 8.0 7.4 6.9 6.8 6.8 n/a Money market 8.4 5.9 5.3 3.1 2.6 2.6 2.6 n/a M1 (end-period; M$ m) 56,396 58,522 56,813 62,876 65,616 75,602 n/a n/a % change, year on year –30.6 –29.4 –17.3 –3.7 16.3 29.2 n/a n/a M2 (end-period; M$ m) 264,782 271,066 274,103 298,968 310,000 316,851 n/a n/a % change, year on year 2.8 –1.4 3.6 13.2 17.1 16.9 n/a n/a KLSE composite index (end-period; 1977=100) 373.5 586.1 502.8 811.1 675.5 812.3 974.4 833.4 % change, year on year –54.1 –1.4 –30.1 78.0 80.8 38.6 93.8 2.7 Sectoral trends Electronic and electrical products index (1993=100) 165.2 167.2 163.8 189.9 203.4 218.5 237.8 268.2 % change, year on year –12.7 –12.6 –1.6 10.6 23.1 30.7 45.2 41.3 Mining index (1993=100) 120.4 127.0 124.2 115.0 118.1 121.5 122.2 118.0 % change, year on year 3.0 –0.2 –1.4 –4.9 –1.9 –4.3 –1.6 2.6 Foreign trade (M$ m) Exports fob 73,310 76,004 69,260 77,864 83,649 90,409 84,412 n/a Imports cif –57,034 –56,204 –53,696 –57,702 –64,871 –70,602 –68,223 n/a Trade balance 16,276 19,800 15,564 20,162 18,778 19,807 16,189 n/a Foreign payments Current-account balance (M$ m) 12,211 13,153 10,798 12,340 14,056 10,708 10,710 n/a Reserves excl gold (end-period; US$ m) 20,702 25,559 27,140 30,571 31,134 30,588 33,626 33,666 Sources: Central Bank of Malaysia, Monthly Statistical Bulletin; IMF, International Financial Statistics.

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Outlook for 2000-01

Political outlook

Domestic politics Political divisions in Malaysia have widened in the months since the November 1999 general elections, in which almost half of the ethnic Malay voters supported opposition parties but the ruling Barisan Nasional (BN) coalition, nonetheless, retained its two-thirds majority in parliament. The prime minister, Dr Mahathir Mohamad, is having little success in bolstering the moderate, progressive Islamic credentials of the United Malays National Organisation (UMNO), the dominant party of the coalition. Dr Mahathir is painting the increasingly popular opposition Parti Islam sa-Malaysia (PAS) as a dangerously fundamentalist party, and may be planning a crackdown, which could prove counter-productive. The deepening split in the main ethnic community could result in political and racial polarisation and undermine Malaysia’s stability.

Malaysia’s much-vaunted stability will be increasingly strained if, as seems likely, Dr Mahathir continues to resist the forces of change threatening his political survival. These include now vocal reformists within his UNMNO party, disgruntled members of allied parties in the ruling BN coalition and the ever more popular opposition led by PAS, as well as a whole range of special- interest groups emboldened by the apparently irreversible transition to a more genuine democratic order. Nonetheless, we believe Dr Mahathir will remain in office throughout the forecast period. He is still, at 74, the country’s most astute politician, with a keen instinct for self-preservation. He may make some concessions to his many critics, but not enough—at least in the short-term—to irreparably undermine his position.

Abdullah Badawi, Dr Mahathir’s deputy in UMNO and the government—and now the clear front-runner in the succession stakes—can be expected to assume a more prominent role in the running of the administration’s day-to- day affairs. This would help deflect some adverse attention away from the prime minister, and enable the heir apparent to carve out the more distinct political personality needed to boost his support base in UMNO ahead of an eventual takeover. Yet other would-be prime ministers in the dominant party, perceiving the Mahathir era to be coming to a close and Mr Abdullah as a less than acceptable—or capable—successor, may also seek to assert themselves, amplifying its divisions. But they would do so discreetly, given the prime minister’s reputation for ruthlessness towards anyone suspected of coveting his job. There is speculation that an early July arms seizure and bloody hostage- taking, officially attributed to an obscure Islamic sect called Al-Ma’unah, was contrived in part to discredit the ambitious defence minister, , the number three in the party hierarchy.

The main target of the bizarre episode, many Malaysians believe, is PAS, which now constitutes the biggest threat to UMNO’s once seemingly invincible dominance of the political landscape. A possible crackdown on PAS and other critics would be an effective admission that a more moderate strategy stands

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little chance of reversing the drift in Malay support from UMNO to PAS. But large-scale repression, if it materialises, risks being wholly counter-productive, because the government is weaker than ever and the opposition correspondingly stronger. The August 8th conviction of the former deputy prime minister, , to a further nine-year jail term on a charge of sodomy could also aggravate simmering tensions, as many Malaysians are convinced he is the victim of a high-level conspiracy.

International relations The decline in South-east Asian regional safety and the rise of Islamic extremism are increasingly affecting Malaysia. The July arms seizure by the Al- Ma-unah Islamic sect may have been inspired by events in the Philippines and Indonesia. Relations with the Philippines were soured after Filipino Muslim rebels seized tourists as hostages from a resort island off the eastern Malaysian state of Sabah. The Islamic insurgence in Indonesia’s Aceh state is within easy reach of Malaysia. Growing administrative and military disorganisation in Indonesia are beginning to have an effect abroad. Malaysia and Indonesia have quarrelled over border violations, illegal logging and pollution from forest fires. The incidents have the potential to develop into larger conflicts. Plans to create an Association of South-East Nations (ASEAN) Free Trade Area (AFTA) by 2003 received a setback with Malaysia’s refusal to lower tariffs on automotive imports before January 2005. The concession, insisted on by Malaysia to protect the national car company, Proton, could lead to requests for exemptions by other countries, undermine the liberalisation process and discourage new investment into the region.

Economic policy outlook

Policy trends Economic policy continues to aim for the consolidation of Malaysia’s impressive economic recovery. To that end, the easy fiscal and accommodative monetary policies will be continued to achieve a high pace of economic growth. The economic expansion is likely to slow in the second half of this year when the impetus of the recovery wears out. While exports and private consumption will continue to grow strongly, Malaysia can only return to pre-crisis real GDP growth rates of 8-10% if investment, which used to contribute two-thirds of GDP growth before the crisis, bounces back. The government is pursuing structural change of the Malaysian economy in which the encouragement of private investment and a rise in productivity play a crucial role.

The government is acutely aware of the threats and opportunities posed to Malaysia’s competitiveness by globalisation and technological change. It will set out its strategy later this year in the Eighth Malaysia Plan (2001-05), a knowledge-economy masterplan, and the revision of the National Development Policy. Interventionist policies and exchange controls are likely to continue.

Fiscal policy The 2001 budget, to be presented to parliament on October 27th, will focus on raising domestic spending and industrial investment to maintain the economy’s momentum. The government will be reluctant to abandon the stimulative fiscal policy entirely, and it will want to support those parts of the

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economy that have been left behind in the recovery. The budget for 2000 forecasts a fiscal deficit of M$13.4bn (US$3.5bn), equivalent to 4.4% of GNP, but this was based on an official growth forecast of 5.8%, compared with our forecast of 8.6%. A significantly higher increase in public revenue than the government predicts could reduce this year’s deficit to around 2% of GDP. Additional development spending is expected to delay fiscal consolidation until 2002.

Monetary policy The Bank Negara Malaysia (BNM, the central bank) is likely to pursue an accommodative policy, aimed at a stable supply of liquidity, and keeping interest rates low for as long as inflation remains below 3%. A small rise in interbank rates in late July, achieved in conjunction with an increase in deposit rates by 25 basis points, was the first indication by the BNM that interest rates should reflect the changing inflation expectations as well as the greater resilience of the economy. Lending rates continue to decline as competition between financial institutions picks up. Malaysia’s large—but declining— current-account surplus remains the basic source of the high liquidity and low interest rates in the economy. An increase in real rates is not expected to take place until 2001.

Broad money growth should pick up in the second half of the year. The increase in money supply M3, at 3.7% year on year in July, has remained weak, there has been little growth (only 2.7% year on year at end-July) in total loans outstanding as loan repayments have remained high while loan approvals and disbursements are rising. The broadening of the economic recovery, the high levels of private consumption growth and resumption of private capital investment as spare capacity is used up, will lead to a pick-up in the demand for credit. The ringgit’s fixed link to a strengthening US dollar has a slight tightening effect on policy, while reducing imported inflation.

Economic forecast

International assumptions The global economy will remain strong during the forecast period, notwithstanding a US policy-induced slowdown which will reduce OECD GDP growth to 3% in 2001 from 4.1% this year. Malaysia is strongly influenced by the performance of the US economy, its largest export market, particularly for the electronic and electrical goods which comprise 60% of Malaysia’s exports. The drop in US growth in 2001 to 3% from 5.2% will not harm Malaysia unduly. World trade will continue to expand rapidly, increasing by an expected 7.9% in 2001 after a forecast rise of 9.7% this year. Growth in Asia (excluding Japan), at 6.9% this year and 6.3% next year, is expected to show little sign of slowing while the recovery in Japan, at 1.6% and 2% respectively, continues to strengthen.

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Malaysia: international assumptions summary (% unless otherwise indicated) 1998 1999 2000 2001 GDP growth US 4.4 4.2 5.2 3.0 OECD 2.4 2.9 4.1 3.0 EU 2.7 2.3 3.4 3.0 Exchange rates (av) US$ effective (1990=100) 119.3 116.4 118.7 113.7 ¥:US$ 130.9 113.9 106.3 104.0 US$:¤a 1.12 1.07 0.95 1.03 Financial indicators US$ 3-month commercial paper rate 5.34 5.18 6.39 6.55 ¥ 2-month private bill rate 0.72 0.27 0.13 0.38 Commodity prices Oil (Brent; US$/b) 12.8 17.9 27.1 22.0 Gold (US$/troy oz) 294.1 278.8 285.7 290.0 Food, feedstuffs & beverages (% change in US$ terms) –13.9 –18.6 –2.5 6.1 Industrial raw materials (% change in US$ terms) –19.6 –4.3 15.3 6.9 a Ecu before 1999. Economic growth The major changes to be expected in GDP growth this year are a sharp decline in net exports (as imports surge and exports slow) and the start of a strong recovery in capital investment. The high growth of private consumption will begin to slow. Domestic demand will provide almost the entire growth stimulus this year, contributing 8.2 percentage points to GDP growth of 8.6%. Net exports will contribute 0.4 percentage points this year but deduct 1.1 percentage points in 2001, when GDP growth is forecast to reach 7.3%. The expected recovery of private capital spending remains controversial, but is likely as capacity utilisation increases and business confidence grows. Total gross fixed investment is forecast to rise by 10.3% in 2000 and 14% next year.

Second-quarter GDP growth was slightly lower than expected at 8.8% year on year after 11.9% in the first quarter. This was in part due to the negative impact of a powerful 24% rise in imports. Export growth was strong at 15.5% but well below the 20.2% first-quarter rise; exports grew also much more slowly than imports. Capital investment rose 25.8% and private consumption 13.9%. Growth in the first six months of 2000 was 10.3% higher than the same year- earlier period. Growth has peaked and a slower pace is likely in the second half of the year, as the recovery gradually loses momentum.

Inflation Inflation will bottom out in the second half of the year, as higher fuel costs feed through, household and corporate demand continues to strengthen and spare capacity in the economy dwindles. The annual rate of consumer price increases rose to 1.4% in July from 1.3% in June, after rising by 1.5% year on year during the first six months of 2000. Producer price inflation reached 7.3% year on year in June after a rate of 5% in May, largely because of higher fuel costs, but remained at 1.2% year on year when commodities are excluded. Petrol prices are to rise for the first time since 1990 as the government is no longer willing to bear the rising cost of price stabilisation. Consumer prices are

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expected to rise by an average 2% this year and by 2.7% in 2001, ending the year at 3.4%.

Malaysia: forecast summary (% unless otherwise indicated) 1998a 1999a 2000c 2001c Real GDP growth –7.4 5.6 8.6 7.3 Agricultural production growth –3.3 3.3 3.0 1.0 Gross fixed investment growth –42.9 –5.8 10.3 14.0 Unemployment rate (av) 3.2 3.0 2.8 2.7 Consumer price inflation Average 5.3 2.8 2.0 2.7 Short-term interbank rate 10.6 7.3 6.8 7.4 Government balance (% of GDP) –1.3 –3.2 –2.2 –0.8 Exports of goods fob (US$ bn) 74.1 83.9 95.5 108.9 Imports of goods fob (US$ bn) –55.9 –61.2 –77.4 –94.7 Current-account balance (US$ bn) 9.8 12.6 8.1 3.8 % of GDP 13.5 16.0 9.0 4.0 Total foreign debt (year-end; US$ bn) 44.8 42.0b 41.8 45.4 Exchange rates (av) M$:US$ 3.92 3.80 3.80 3.80 M$:¥100 3.00 3.34 3.58 3.65 M$:¤ 4.40 4.05 3.60 3.92

a Actual. b EIU estimates. c EIU forecasts.

Exchange rates The ringgit’s fixed link to the US dollar at M$3.8:US$1 is becoming something of a mixed blessing as the US currency continues to strengthen. Since the start of the year, the ringgit has appreciated moderately against the yen and euro and more strongly against the currencies of its main regional competitors, but not by enough to wipe out the sizeable depreciation since the imposition of exchange controls on September 1st 1998. The ringgit’s undervaluation, never very large, is becoming smaller and there is even less reason now to expect a change to the fixed currency regime this year or next, given the official belief in the benefits of stability against the US dollar.

The government is satisfied that the exchange rate remains at a level which benefits economic growth and in particular, exports and inward investment. It believes it can cope easily with any negative consequences, such as inflation or speculative capital inflows, which an undervalued currency may have. The dollar peg and remaining capital controls are also considered symbols of Malaysia’s economic recovery and, as such, not easily discarded.

External sector First-quarter balance-of-payments data show a M$10.7bn (US$2.8bn) current- account surplus, barely changed from the same year-ago period, and an increased trade surplus (M$20.3bn against M$18.8bn). Strong world demand for electronic and electrical products has greatly benefited Malaysia and slowed the inevitable decline in the trade and current-account surpluses that follows economic recovery. Given the enormous size of the current-account surplus,

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which peaked in the third quarter of last year, it will probably take another three years before a deficit is recorded. Strong domestic demand growth is producing a surge in the imports of goods and services.

Merchandise imports during the first six months of 2000 grew 29.4% year on year, well in excess of the 19.5% increase in exports. The first-quarter services deficit widened to M$7.8bn from M$6.9bn a year earlier because of larger shortfalls on investment income and freight and insurance. We forecast a fall in the current-account surplus from 16% of GDP in 1999 to 9% in 2000 and 4% in 2001. In the short term, the current combination of a moderate pace of reduction in the trade surplus, slowing export and rising import growth is expected to continue.

The political scene

Dr Mahathir continues to Now into his 20th year as prime minister, Dr Mahathir Mohamad has resist pressure for change continued to resist pressures from pro- and anti-government forces for a more genuine democratic order. The strength of the campaign for change was underlined by the outcome of triennial elections in May for senior posts in his United Malays National Organisation (UMNO), with voters rejecting many of the candidates he preferred in favour of others perceived as less likely to do his bidding. The dissent was especially evident in the results of the poll for 25 of the 35 seats on the supreme council, which saw the elevation of several outsiders deemed to be more attuned than their predecessors to the wishes of a disconsolate local party grassroots. In late June, exercising a prerogative he enjoys as party president, Dr Mahathir chose the council’s ten remaining members, but disappointed many by naming, for the most part, staunch loyalists. The one possible exception was Azlina Othman Said, an outspoken 36-year-old lawyer and women’s rights activist. Also appointed was the ambitious veteran, Razaleigh Hamzah, who nearly unseated Dr Mahathir in the 1987 presidential contest but failed to garner enough nominations to mount a second challenge this year.

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The finance minister is Dr Mahathir’s reputation for uncompromising single-mindedness was keen to leave the cabinet reinforced by persistent reports of a serious rift with his long-time confidant and chief economic strategist, the finance minister, Daim Zainuddin. The prime minister has pulled rank on Mr Daim several times during the past year. He toned down a plan for a far-reaching consolidation of the banking industry, rejected the minister’s nominee for the governorship of the central bank, and killed a deal that was to have seen Singapore Telecommunications buy into Time Engineering, a unit of the UMNO-linked Renong conglomerate.

The MCA president The prime minister’s unwillingness to give ground was also a source of tension threatens to resign within the Malaysian Chinese Association (MCA), the second largest party in the ruling Barisan Nasional (BN) coalition. On May 22nd the MCA president, Dr Ling Liong Sik, announced that he was planning to quit the government after 14 years as transport minister. The threat was triggered at least in part by strong criticism from within the MCA over his failure to capitalise on the party’s solid performance in last November’s parliamentary elections by securing more cabinet posts. UMNO, whose representation in the national assembly dropped to 72 from an effective 94, should have been obliged to surrender portfolios to the MCA, which won 28 seats, down from 30, the reasoning ran. But Dr Mahathir stood firm, arguing that it would be unfair to other BN parties if the MCA was given responsibility for more than four ministries. The prime minister’s lack of support for the MCA’s campaign to secure the chief ministership of predominantly Chinese Penang state—to which it felt entitled having won more seats in the local assembly than any other party—also reflected badly on Dr Ling. On June 6th, after a series of often emotional appeals from MCA luminaries and grassroots groups, he said he would stay on in the government. Indeed the threat of resignation was widely interpreted as a ploy to silence his critics and reassert his authority within the party. Yet the episode demonstrated that UMNO’s diminished mandate could adversely affect the stability of allied parties, and therefore of the coalition it dominates.

Dr Mahathir: the next PM Dr Mahathir caused a stir by declaring during a speech to the MCA’s annual could be a non-Malay general assembly on June 17th that the next prime minister could be a non- Malay. Parti Islam sa-Malaysia (PAS), the biggest gainer in the November elections by virtue of the sharp swing in Malay support away from UMNO, somewhat disingenuously responded to the suggestion by accusing Dr Mahathir of threatening to sell out his race. While UMNO’s main priority is to woo back the Malay voters it has lost, that of PAS is to hold on to the defectors and build on its recent advances. To this end, PAS has continued seeking to strike a delicate balance between the pursuit of the Islamic agenda that accounts for much of its support in rural areas and the perceived need for a more secularist approach to appease urban Malays and members of the minority communities. During the party’s general assembly in early June, its president, Fadzil Noor, duly stressed that Malaysia was now part of a “global village”, and made clear that PAS would have to co-operate with non-Muslims to realise its ambition of displacing UMNO and forming a government at the centre. But PAS conservatives had their say too, inter alia denouncing the idea of admitting non-Muslims as associate members of the party.

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Government tightens UMNO also continued to tread a fine line, seeking to bolster its Islamic mosque supervision credentials while portraying PAS as dangerously fundamentalist. The deputy prime minister, Abdullah Ahmad Badawi, announced that the committees overseeing the country’s mosques, seen to be increasingly reflecting PAS views, would henceforth be appointed by state governments rather than chosen locally. The minister in the federal government responsible for Islamic affairs, Abdul Hamid Othman, said in early June that Muslim civil servants would be required to attend officially organised religious classes in place of “unauthorised” lectures that often imparted “deviationist” teachings.

Bizarre arms seizure raises Although Dr Mahathir’s attempts to equate PAS with Islamic deviationism in many questions the popular perception have done UMNO more harm than good, at least among Muslim Malays, he stepped up the campaign following a bizarre arms seizure and hostage-taking in early July. According to the official version of events, 15 men posing as high-ranking military officers conducting surprise inspections seized some 100 assault rifles, 60 mortar shells and thousands of rounds of ammunition from two army camps in Grik in northern Perak state early on July 2nd. They then took four hostages—two police intelligence personnel, an army ranger and a fruit picker—before holing up in nearby jungle. The security forces surrounded the gang and a four-day stand-off, during which there were sporadic exchanges of fire, ensued. The impasse was brought to an end on July 6th when a senior military officer supposedly disarmed the group’s leader—later named as Amin Mohammed Razali, a 30- year-old former army private dishonourably discharged and imprisoned for a drugs offence—with supporting commandos accepting the surrender of 26 followers. Two of the hostages, a policeman and the army ranger, were said to have been executed by their captors.

Al-Ma’unah labelled a The authorities said the 27 belonged to Al-Ma’unah—the Brotherhood of Inner terrorist movement Power—an obscure fundamentalist Islamic movement claiming some 1,000 Malaysian members and an ability to imbue its adherents with supernatural powers. More than 30 other members of Al-Ma’unah, among them serving and former army officers, businessmen, bankers, teachers and other professionals, were subsequently picked up in raids across the country, most under the Internal Security Act (ISA), which allows detention without trial. Dr Mahathir labelled the movement as “terrorist”, claimed it wanted to topple the government, and suggested it was a product of a “hate campaign” being waged against his administration by PAS. The official explanations left many unconvinced. Malaysians wondered, for example, how 15 men could have managed to transport such a large amount of arms in three four-wheel drive vehicles, and why they decided to go to ground so close to the scene of their crime. Many concluded the group had inside help, and indeed had been infiltrated by military intelligence. Referring to the killing of the two hostages, Ruslan Kassim, a senior member of the opposition Parti Keadilan Nasional (PKN), described the episode as a staged drama that did not fully follow its script. Lim Kit Siang, chairman of the opposition Democratic Action Party (DAP), likewise voiced the feelings of many by denouncing the decision to have the Ministry of Defence investigate the incident. He called for a more wide-ranging enquiry, insisting the army be a primary target of the probe

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rather than its executor. Mr Lim said the official explanations had generated “widespread scepticism and public distrust”, and accused the government of deliberately attempting to frighten Malaysians, especially non-Muslims, into believing the country was awash with Islamic hardliners.

Dr Mahathir links Ministers professed to being appalled by the suggestions of official Al-Ma’unah to PAS involvement, and said anyone implying as much faced possible detention under the ISA. On July 20th Dr Mahathir claimed that most Al-Ma’unah members also belonged to PAS, maintaining he felt constrained to reveal the link because of the Islamic party’s attempts to associate the movement with UMNO. PAS leaders acknowledged their party could have had Al-Ma’unah members in its ranks, but repeatedly condemned the arms seizure and the two killings. By late July the 27 members of the sect arrested in the Perak jungle had still not be charged, ostensibly because the police needed more time to determine the extent of the involvement of each in the episode.

PKN wracked by bitter The PKN, set up in April 1999 by supporters of Anwar Ibrahim, the former infighting deputy prime minister sacked from the government and arrested in September 1998, was gripped by bitter infighting which some saw as threatening its survival. This essentially split the party into two factions, one whose primary goal was the release and rehabilitation of Mr Anwar—serving a six-year jail term for obstruction of justice and facing another nine years for sodomy—and another wanting a broader focus. The latter group was led by deputy president, Dr Chandra Muzzafar, a respected academic and social activist. In May Marina Yusoff, one of the PKN’s three vice-presidents and a former member of UMNO’s supreme council, quit the party, calling Dr Chandra a dictator. Dr Mahathir gleefully seized on the description, which has been applied so often to himself. While the PKN has just five federal MPs—including its president, Wan Azizah Ismail, Mr Anwar’s wife—its importance lies in its appeal to middle-class Malays and non-Muslims, and the central role it played in melding the previously disparate opposition into a fairly solid alliance prior to the November elections.

Anwar sentenced to nine Mr Anwar’s sodomy trial came to an end on July 18th after more than a more years in prison hundred sittings over 13 months. The former deputy premier stood accused of having committed “carnal intercourse against the order of nature” with Azizan Abu Bakar, his wife’s former driver, “one night between the month of January and March 1993”. Summing up, defence lawyers demanded their client be acquitted, for several reasons. These included the attorney-general’s decision to twice change the date of the alleged offence (initially said to have been committed in May 1994, then in May 1992); the apartment where the offence was said to have occurred had not been completed at the time; the failure of prosecutors to prove beyond reasonable doubt Mr Anwar had been in the building at any time during the three-month period; contradictions in the testimony of Mr Azizan, not least an apparent denial at one stage that the alleged offence had taken place; and a claim by co-defendant Sukma Darmanan that his supposed “confession” implicating Mr Anwar had been extracted by police under duress.

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On August 8th, judge Arifin Jaka sentenced the former deputy prime minister to a nine-year prison term for sodomy and ruled that Mr Anwar should begin serving it after the completion of the six-year sentence imposed last year for corruption. The judge dismissed the defence argument that Mr Anwar had been the victim of a political conspiracy orchestrated by Dr Mahathir to remove him from power as “irrelevant”.

Trial allegations about Like Mr Anwar’s first case, the sodomy trial yielded numerous insights into the government corruption workings of the government. On June 12th Shafie Yahya, a former chief of the Anti-Corruption Agency, told the court that Dr Mahathir had angrily ordered him to halt an investigation of Tan Sri Ali Abul Hassan Sulaiman after a large amount of cash that could not be accounted for was found during a raid on the office of the then head of the government’s Economic Planning Unit (Mr Abul was subsequently appointed governor of the central bank, and retired on May 1st this year). On June 25th several opposition politicians filed a police report against the prime minister based on Mr Shafie’s testimony, pointing out that their allegation of political interference mirrored that for which Mr Anwar had been convicted in April 1999.

Attempts to have Above all, defence lawyers maintained the sodomy charge was fabricated Dr Mahathir testify fail because Mr Anwar had been seeking to expose rampant corruption at the highest levels of government and was perceived as a political threat to Dr Mahathir. Their attempts to put the prime minister in the witness stand, claiming he could provide crucial evidence proving their client’s innocence, were repeatedly frustrated. In late April judge Arifin Jaka declared Dr Mahathir need not testify as there was no evidence he had been behind any conspiracy. That ruling was endorsed by the Court of Appeal in early June, and by the Federal Court in late July. The Federal Court also rejected a plea by Mr Anwar against his first conviction, and upheld the six-year jail sentence imposed on him.

Economic policy

Economic recovery could The government has continued to insist it will pursue the expansionary run out of steam monetary and fiscal policies that helped propel the economy out of recession, and retain the pegged exchange rate and residual capital controls underpinning them. Yet ministers and officials have conceded that the impressive economic recovery—driven largely by buoyant external demand, government pump-priming and strengthening private consumption—could run out of steam, inter alia citing the possibility of a downturn in the US, still sluggish lending and investment, and inadequate corporate-sector reform.

Strategy documents to deal The authorities have acknowledged that the economy has been afflicted by with structural weaknesses significant structural weaknesses which need to be addressed to ensure long- term growth. They have admitted that the official focus on investment- and trade-led development had exposed several deficiencies, including a relatively narrow production base, a heavy dependence on foreign capital and intermediate goods, labour and skill shortages, and modest domestic value-

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addition. The emphasis on manufacturing also meant that the development of the services sector, the main growth engine in advanced economies, had received inadequate attention from policymakers, as evidenced by the perennially large deficits on the services account of the balance of payments. These shortcomings bode ill for Malaysia’s continued competitiveness, given the rapid pace of globalisation and technological progress. Measures to tackle them will be outlined in forthcoming strategy documents such as the Eighth Malaysia Plan (2001-05) and an ambitious masterplan, due to be unveiled before the end of 2000, aimed at transforming Malaysia from a production- to a knowledge-based economy.

Public spending is likely to Public spending is set to remain strong this year. The government is predicting remain strong a deficit of M$13.4bn:US$3.5bn (4.5% of GNP), compared to the 1999 outturn of M$9.5bn (3.4%), in part because of cuts in personal income taxes and indirect taxes. Yet with economic growth likely to be stronger than the official projection of 5.8%, revenue should be higher, and the budgetary shortfall lower, than the authorities forecast. While the government has promised to scale back capital outlays as private expenditure improves, it is likely to renege on that commitment if private investment remains sluggish. Higher-than- expected revenue allowed additional pump-priming last year, with total budgetary spending rising 14.6% above the initially slated M$65.1bn. As in 1999, the 2000 deficit is to be largely funded from non-inflationary domestic sources, notably the bond market, not least to contain external indebtedness. With revenue set to progressively improve—notwithstanding official reluctance to raise taxes, or impose new ones, for fear of undermining the recovery process—the budget could return to surplus in 2001, if there is no additional spending. Amid growing concern about the failure of private capital formation to recover, Daim Zainuddin, the finance minister, said in early August that the 2001 budget would focus on raising private investment—which could mean higher incentives as well as additional expenditure.

Monetary policy to remain The need to boost consumption and revive private investment means that accommodative monetary policy will also continue to be accommodative in the near-term. Despite the abundance of mostly export-generated liquidity in the system and the persistence of historically low borrowing costs, lending picked up only modestly in recent months, and remains ominously slack. The government’s room for manoeuvre would appear to be limited, not least because inflationary

pressures are likely to strengthen. In early August Bank Negara Malaysia (BNM, the central bank) prodded the banking institutions into raising deposit rates by 0.25 percentage points. The BNM announced it would not change the three- month intervention rate—the benchmark for commercial bank lending rates— set at 5.5% since August last year. The banking institutions were told not to raise base lending rates, which in mid-July were averaging 6.8%. BNM’s move was aimed at providing depositors with higher returns—the new one-month and 12-month deposit rates were to be at least 3.45% and 4.25% respectively. The BNM justified the expected narrowing of bank margins by the strengthening of bank balance sheets, increased profitability and growing demand for loans, as well as by the need to increase banking competition.

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The ringgit becomes less The recent appreciation of the dollar and weakening of the currencies of key undervalued regional commercial rivals led to an easing of pressure on the government to revalue the ringgit, pegged at M$3.8:US$1 since September 1998. By August 29th the Indonesian rupiah, Philippine peso, Thai baht and Singapore dollar had depreciated against the ringgit by 20%, 12.1%, 8.9% and 3.1% respectively since the start of the year. BNM governor, Zeti Akhtar Aziz, concluded that the local currency was “only very marginally undervalued and certainly not significantly enough to revalue”. The renewed volatility in regional markets was also a good reason to maintain both the ringgit-dollar fixed rate and the residual capital controls designed to prevent speculation on the local currency, she said, adding that the curbs would remain in place for “a very, very long time”.

Malaysia: performance of the ringgit

% change % change Jun 1997- Dec 1999- M$ per foreign currency End-Jun 1997 Dec 24th 1999 Aug 29th 2000 Aug 2000 Aug 2000 US dollar 2.5235 3.8000 3.8000 –33.6 0.0 100 Japanese yen 2.2088 3.6965 3.5785 –38.3 3.3 Singapore dollar 1.7647 2.2761 2.2085 –20.1 3.1 100 Thai baht 9.7470 10.1118 9.2819 5.0 8.9 100 Philippine peso 9.5878 9.4645 8.4444 13.5 12.1 100 Indonesian rupiah 0.1038 0.0541 0.0451 130.2 20.0 100 Korean won 0.2842 0.3356 0.3423 –17.0 –2.0 Source: Bank Negara.

Forced financial sector The government’s keen interventionist tendencies have been in evidence in consolidation carries risks other respects too. In part, they reflect a desire to strengthen local businesses to help them meet the considerable challenges of globalisation. The strenuous official efforts being made to speedily achieve large-scale mergers within the banking, stockbroking and insurance industries is a case in point. But such forced consolidation, being conducted with less than full regard for market principles, carries medium- and long-term risks.

Unapologetic support for Another manifestation of the Mahathir government’s conviction that it has a well-connected groups duty as well as a right to micro-manage the economy is its continued unapologetic support for large, politically well-connected local corporations whose weaknesses were graphically exposed by the 1997-98 crisis. Recent evidence suggests that the restructuring of some long-indulged but troubled groups may go no further than a refinancing of their debts—typically involving the issuance of government-guaranteed bonds largely taken up, at the authorities’ behest, by domestic financial institutions—with little in the way of operational reform. The speed of the economic recovery has engendered a widespread perception locally that more thorough reform is unnecessary. And despite already substantial liabilities, some favoured companies are now reverting, with official blessing, to the sort of aggressive, borrowing-based expansion that hobbled them, and the banking system, when the recent downturn struck.

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Privatised entities revert to The severity of the problems bedevilling a rash of companies granted control of public ownership state assets and/or responsibility for the implementation of major infrastructure projects means the paternalistic government may feel constrained to take some over. In March the country’s sewerage company, Indah Water Konsortium, became the first privatised entity to revert to public ownership. More such takeovers would be tantamount to an admission of the failure of the controversial, two decades-old privatisation programme, a centrepiece of Dr Mahathir’s development strategy. They could also impose a heavy burden on the Treasury.

Promotion of ethnic Malay The government may try to deflect allegations of cronyism through a broader business to continue dispersal of the benefits of its long-running affirmative action strategy in favour of indigenous groups. The revised version of the National Development Policy (NDP), to be unveiled in August, and the Eighth Malaysia Plan could therefore contain additional measures aimed at expanding the ethnic Malay business class and facilitating its involvement in more sophisticated activities. That would imply more pressure on foreign companies to “Malaysianise” their operations—inter alia via higher local shareholdings—and to accommodate Malay-controlled firms as joint-venture partners and suppliers. Malay-owned companies will continue to receive a much larger share of public-sector contracts than a free interplay of market forces would dictate.

Foreign investment While the welcoming environment for much-needed foreign investment applications finally pick up should improve, any concessions are likely to be grudging given official concern about the weakness of Malay businesses and the supposedly predatory nature of inflows. Dr Mahathir continued to characterise multinational companies as stalking horses for foreign governments allegedly bent on his ouster and globalisation as a threat to the survival of local firms. Rhetoric aside, Malaysia’s policymakers—the prime minister included—are acutely aware that a revival of the overseas investment which accounted for so much of the economy’s past growth has become an urgent necessity. The pressure on them to offer additional incentives is considerable. Much of the production capacity mothballed in 1997 is now back on-stream but investment levels are still low. However, by mid-year there was a marked pick-up in the value of applications received by the Malaysian Industrial Development Authority (MIDA) from would-be foreign investors, which suggested a turning point in foreign direct investment.

Malaysia: applications received for establishment of manufacturing projects (M$ m) Jan-Jul 1995 1996 1997 1998 1999 2000 Number 1,116 929 849 726 776 441 Proposed capital investment 26,870 42,100 34,177 18,914 14,026 17,477 Local 13,614 24,479 19,794 6,293 4,986 8,781 Foreign 13,256 17,621 14,383 12,621 9,040 8,695 Source: MIDA.

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Concessions to encourage There are some signs that the government is willing to be more amenable. A inward investment Ministry of Finance commission empowered to grant ad-hoc concessions prohibited by existing regulations is now in place. Officials say a waiver allowing foreigners to set up wholly owned manufacturing plants without having to export the bulk of their production will be extended when it expires at the end of the year—“strategic” industries and those in which Malaysian companies are deemed to have attained “adequate capabilities” excepted. Before the measure was introduced at the height of the crisis in July 1998, only manufacturing companies exporting at least 80% of their output could be 100% foreign owned. The revised NDP may also raise restrictive ceilings on foreign equity holdings in other sectors. Lobbies representing overseas businesses continue to insist that investors generally want at least the 51% required for management control.

Strategic industries will be The fiercely nationalistic Dr Mahathir seems set to continue resisting attempts protected by foreign investors perceived as remotely hostile to buy into distressed companies that are in any way strategic. In May he killed a deal that was to have seen Singapore Telecommunications (SingTel) take a 30% stake in Time dotCom, part of the troubled, government-linked Renong conglomerate. The deal would have helped ease Time’s hefty debt burden and provide much- needed operational and technological expertise. But the prime minister demurred, uneasy about the prospect of a Singapore government-controlled company acquiring a sizeable equity interest in the owner of Malaysia’s largest fibre-optic network. Telekom Malaysia, the state-run market leader in fixed-line services, had lobbied hard to prevent a Time-SingTel Alliance, which would have created a formidable competitor almost overnight. The 30% stake was subsequently taken up by Khazanah Nasional, the Ministry of Finance’s investment arm, obliging Time to resume its search for a strategic partner. But the prime minister’s capacity to resist may be weakening. In late July indebted national carrier, Malaysian Airline Systems (MAS), disclosed that the Ministry of Finance had approved its request to raise the permissible ceiling on its foreign shareholdings in the company to 45%, a move that seemed to presage a sizeable overseas buy-in.

The domestic economy

Economic trends

Second-quarter GDP grows GDP expanded by 8.8% year on year in second-quarter 2000—the fifth by 8.8% consecutive quarter of growth—according to data released in late August by Malaysia’s Department of Statistics. Growth in the preceding quarter reached 11.9% year on year, surging partly because of the economy’s weakness in the corresponding period of the previous year, when output had contracted by 1.4%. By contrast, the April-June comparison was with a quarter when the recovery was rapidly gaining in strength. The data showed that economic growth was becoming more broad-based and domestic demand-focused. Net exports continued to contract as imports surged and export growth slowed. On

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the supply side, manufacturing—increasing by 22% year on year, thanks primarily to strong global demand for electronic products and parts— accounted for three-quarters of GDP growth, and services—expanding by 5%— for the remainder. Only agricultural production recorded a negative growth rate, dropping 4.5% because of lower palm oil output. Construction activity increased by 2.1%, underpinned by public spending on infrastructure and housing; the mining sector edged up 2.5% on increased crude oil production; and value-added in the government sector rose by 5.7%.

Malaysia: real gross domestic product (at 1987 purchasers’ prices, M$ m) 1999 2000 1 Qtr 2 Qtr 3 Qtr 4 Qtr 1 Qtr 2 Qtr Private consumption 20,613 20,427 21,002 22,026 23,589 23,273 % change year on year –2.1 2.7 5.0 7.1 14.4 13.9 Public consumption 4,277 5,433 6,920 7,276 4,350 6,006 % change year on year 15.7 4.7 23.9 19.6 1.7 10.6 Gross fixed capital formation 12,094 12,783 12,926 14,095 13,770 16,086 % change year on year –24.7 –10.5 11.5 5.7 13.9 25.8 Change in stocks 931 1,106 –788 –1,031 742 987 Net exports 6,781 8,402 9,432 8,093 7,554 6,012 Exports, goods & services 46,010 51,876 56,146 58,453 55,319 59,935 % change year on year 1.9 13.0 19.5 18.4 20.2 15.5 Imports, goods and services 39,229 43,474 46,714 50,360 47,765 53,923 % change year on year –7.9 8.8 18.1 25.6 21.8 24.0 GDP 44,695 48,151 49,491 50,458 50,004 52,364 % change year on year –1.4 5.0 8.6 11.0 11.9 8.8 Source: Department of Statistics, Malaysia.

Private consumption boosts Aggregate domestic demand continued to accelerate. It rose by 16.6% year on growth year, against 12% in January-March. Significantly, public consumption growth picked up again, rising to 10.6% from 1.7% in the previous quarter: the government appears reluctant to adopt a less stimulative role. Private consumption hardly needs much encouragement, with growth of 13.9% almost matching the 14.4% increase in the first quarter. Clearly, private

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consumption has started to make a significant contribution to a recovery which last year was largely driven by buoyant external demand and government pump-priming.

Sharp acceleration of The biggest surprise in the second-quarter data came from investment, investment growth especially considering the concern raised by the low level of capital investment applications. Total fixed investment rose by 25.8% year on year after an increase of 13.9% in January-March. Gross fixed capital formation contributed 6.9% to overall GDP growth, while private consumption added 8.8% and net exports deducted 5%. The official data do not specify the expansion rates registered by the private and public sectors respectively, so it is not possible to give the share of the government and state-run corporations. However, their contribution is declining, as is also clear from the imports of capital goods, which rose by an impressive 50.7% year on year during the first six months of 2000, indicating the expansion of production capacity in key areas, including the electronics industry.

Buoyant exports and The second-quarter GDP data also suggest that export growth has peaked. The imports year-on-year increase of 15.5% was well below the 20.2% achieved during the January-March period. At the same time, import growth is still accelerating, with a sharp increase of 24% year on year even higher than the 21.8% rise in the first quarter. As a result, net exports are dwindling rapidly from a peak in the third quarter of 1999. The decline of the constant-price net exports is a leading indicator for the decline in the nominal current-account surplus.

Inflation remains low Despite the strong rebound in economic activity, the annual inflation rate, as measured by the Consumer Price Index (CPI), slowed to 1.5% in January- March, from 2% in October-December. The moderation was due to the persistence of excess production capacity in certain areas, declines in non-oil commodity prices and the absence of imported inflation.

Much of the official data released subsequently was likewise encouraging, and supported provisional official estimates of second-quarter growth at 9-10%. The CPI edged up 1.5% year on year in April and 1.3% in both May and June, yielding an annual inflation rate of just 1.5% for the first six months and meaning there was still little pressure on the authorities from that source to raise interest rates or revise the exchange rate. Private consumption indicators also continued to be generally positive. Sales of passenger cars, having risen by 17.9% year on year in January-March, increased by 24.3% in April. Sales tax receipts rose by 29.1% and 76.4% year on year in April and May respectively, having expanded by 59.7% in the first quarter. Collection of service taxes went up by 21.5% in April and by 31.3% in May, following a 33.7% increase in the first quarter. Bank lending for consumption purposes grew by 4% and 5.7% year on year in April and May, up from 2.7% in the first quarter and 1.5% for 1999 as a whole. Growth in imports of consumer goods, on the other hand, slackened to 14.9% in April from 22.4% in January-March.

There was some improvement also in key indicators of private investment. Sales of commercial vehicles, having risen by 49.8% year on year in January- March, surged by 61% in April. Imports of capital goods jumped by 84.7% in

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April, having expanded by 37.1% in the first quarter. However, the value of applications received by the Ministry of Industry from companies seeking to undertake manufacturing projects plunged by 64.9% year on year in April, having declined by 1.1% in January-March and by 25.8% in calendar 1999. The value of applications approved by the ministry dropped by 42.2% in April, having slumped by 66.5% in the first quarter and 35.9% last year.

Oil and gas

Petronas boosts profits Higher crude oil and natural gas prices and a recovery in regional demand helped the state-run hydrocarbons corporation Petroliam Nasional (Petronas) post to an 85% increase, to M$12.6bn (US$3.3bn), in net profit for the 12 months to end-March 2000, according to figures released in late June. Pre-tax profit surged by 83% to M$21.6bn, while revenue rose by 43% to M$60.6bn. International business accounted for 78% of turnover—the group has upstream and downstream operations in 24 countries—with exports contributing 46%, or M$27.6bn. Although Malaysia’s crude production in the financial year declined by 2.6% to 254.9m barrels, the average price of its oils jumped by 74% to US$22.63 a barrel. Natural gas output increased by 4% to 1.81trn standard cubic feet. Production-sharing agreements with foreign companies gave Petronas 75.3% and 69% respectively of the country’s oil and gas output. Refined products accounted for a substantial share of revenue, although margins were squeezed owing to excess processing capacity in the region. The group’s long-term loans amounted to M$38.1bn on March 31st—up from M$31.9bn a year earlier—of which 71% were denominated in US dollars.

On May 31st the Petronas subsidiary, Malaysia LNG Tiga, agreed to supply up to 1.6m tonnes of liquefied natural gas (LNG) annually to three municipal Japanese distributors over 20 years beginning in 2004. The LNG is to be sourced from a 7.6m tonne/year plant under construction at Bintulu in Sarawak state and due on stream in the third quarter of 2002. Petronas said the confirmation of intent signed with the Tokyo, Toho and Osaka gas companies was the fourth for the plant, giving it commitments to supply up to 5.7m t/y. The earlier deals were concluded with Japanese and Indian buyers. Agreements providing for the sale of the remainder of the plant’s output were likely to be signed before the end of 2000, the officials said.

Terengganu’s oil and gas In June Dr Mahathir declared that Parti Islam sa-Malaysia (PAS)-led royalties disputed state was not entitled to receive royalties from Petronas on offshore oil and gas production, and that the federal government wanted to review the relevant legal provisions to determine whether the payments should continue. The 1974 Petroleum Development Act accords hydrocarbons-producing states a 5% royalty, but since PAS captured Terengganu in last November’s parliamentary elections, Barisan Nasional (BN) luminaries have repeatedly questioned its right to such transfers. They argue that the fields are more than 100 km offshore, and therefore under the jurisdiction of the central rather than state government. They also contend that the payments were originally intended as a gift to help develop what was then—but is no longer—peninsular Malaysia’s poorest state. Yet the Petronas chief executive, Hassan Marican, insisted the

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payments to Terengganu—which, thanks to higher prices, rose to M$810m (US$213m) in the 12 months to end-March from M$426m in the previous financial year—would continue.

Industry

Manufacturing sector The manufacturing sector, a key engine of recent growth, has continued to remains buoyant post sizeable year-on-year increases in output. Following the 30.3% surge recorded in January-March, production rose by 25.2% in April-June, with increases of 22.7% in April, 27.4% in May and 25.3% in June. Quarter-on- quarter, output grew by 2.2% and 9.1% in the first and second quarters respectively. The data, derived from the official Industrial Production Index, reflect the performance of 64 of the country’s 137 manufacturing industries.

Sales of manufactured goods followed suit. Having risen by 34.4% year on year in the first quarter, they increased by 23.4% in April, 36.5% in May and 30.1% in June. Total manufacturing sales in the first six months of the year rose 30.2% year on year to M$155.2bn, of which the electronics industry— expanding by 31.4% year on year—accounted for exactly one-third. Electrical and electronic products remained Malaysia’s largest export category, taking 57.8% of total exports during the first six months of the year, increasing 20.3% year on year, slightly ahead of total export revenue growth of 19.5% during the period. The 18-member Malaysian-American Electronics Industry (MAEI) association, which groups the local operations of global giants such as Dell, Intel, Seagate, Texas Instruments, Western Digital and Motorola, projected its exports in 2000 at M$40bn, 17.6% higher than the M$34bn achieved last year. About half of its output goes to the US market.

Malaysia: industrial production (% growth year on year) Jan Feb Mar Apr May Jun Manufacturing 36.6 31.1 29.2 22.7 27.4 25.3 Mining –3.7 –1.3 0.2 3.0 1.4 3.5 Electricity 9.0 10.2 5.1 4.0 5.1 5.6 Total industry 25.5 23.5 21.9 17.9 21.2 20.1 Source: Department of Statistics, Malaysia.

Action against intellectual The government continues to display an ambivalent attitude to intellectual property piracy property piracy. In late May Dr Mahathir warned that makers of high- technology products would continue to be victims of illegal copying until they reduced prices to levels local consumers could afford. Copyright piracy is rampant in Malaysia, now a regional centre for the illicit manufacture of audio- visual materials and software.

On the other hand, the authorities have stepped up efforts to combat such practices. On July 1st enforcement agents from the Ministry of Domestic Trade and Consumer Affairs supported by representatives of the Business Software Alliance (BSA)—a global watchdog—launched another nationwide crackdown on companies suspected of using pirated software. Under the 1987 Copyright Act those found guilty face a fine of up to M$10,000 (US$2,600) and a prison

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term of as much as five years. The ministry said it would press for the directors of culprit companies to be jailed, as the maximum deterrent was needed. The BSA estimates that more than seven out of ten software packages used in Malaysia are illegally copied.

As well as targeting end-users of counterfeit goods, the government has their manufacturers in its sights. The Optical Disc Act, tabled in parliament in mid- July, will tighten licensing procedures for makers of audio and video compact discs and provides for stiff penalties for those without permits. Lobbies representing overseas investors insist that legislation must be both rigorously implemented and frequently updated if the foreign capital needed to realise the government’s ambition of transforming Malaysia into a legitimate high- technology hub is to be attracted.

Proton cannot be taken Dr Mahathir’s expressed conviction that foreign investors can be a predatory over lot not only discourages inflows, but also effectively prohibits them in key areas. His reluctance to countenance buy-ins to supposedly strategic local industries has again been in evidence. In mid-July the prime minister told parliament that overseas manufacturers—which he did not name—had tried buy outright national carmaker, Perusahaan Otomobil Nasional (Proton), allegedly as part of their plans to “dominate” the global market, and insisted that the government would not allow the company to be taken over. Capitulation would result in it becoming a mere assembler of foreign vehicles, he said. Launched in 1983 to spearhead an aggressive industrialisation drive, Proton remains a high-cost producer heavily dependent on imported components. It enjoys a two-thirds share of the local market thanks only to the protection afforded by huge tariffs on foreign vehicles.

Malaysia allowed to defer The depth of Proton’s problems were underlined in May when fellow members motor vehicle tariff cuts of the Association of South-East Asian Nations (ASEAN) agreed to allow Malaysia defer scheduled duty reductions on motor vehicles from 2003 to 2005. Some of the industry’s global giants have been actively positioning themselves to capitalise on the imminent decline in the region’s internal tariffs, with neighbouring Thailand the favourite location for their production facilities. Experts are adamant that, given the twin pressures of progressive liberalisation and consolidation within the industry worldwide, Proton must yield more equity to obtain the foreign technology needed to give some hope of survival. That view was effectively endorsed in July by Fumio Yoshimi, general manager for South-east Asia of Japan’s Mitsubishi Motors Corporation, Proton’s only foreign shareholder with a 16.1% stake. He predicted that the national carmaker would be unable to cut costs or improve quality sufficiently in the “four short years” to liberalisation, and would see its share of the local market drop to less than one-third soon thereafter. The cost of the investments required for Proton to build its own engine, gearbox and transmission system—parts currently supplied by Mitsubishi—was too high for a company with an annual production capacity of only 240,000 units, Mr Yoshimi said.

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Agriculture

Glut of crude palm oil is The government has been looking at ways to reduce crude palm oil (CPO) getting worse output so as to arrest a steady slide in prices caused by abundant supplies and weak demand. Malaysia’s CPO production is expected to top 11m tonnes this year, up from 10.5m tonnes in 1999, undermining the market still further. By mid-July prices had declined to around M$1,000 a tonne, from an average of M$1,450 last year and a peak of M$2,500 in 1998. As a result, the primary industries minister, Dr Lim Keng Yaik, began urging oil palm growers to undertake large-scale replanting, trading lower production in the short-term for improved long-term productivity. He said some 475,000 ha of the country’s total cultivated area of 3.3m ha were more than 25 years old and needed to be replaced. But traders argued that the fall in output from replanting would be modest and have little impact on the international market, not least because of rising production in neighbouring Indonesia. Its output could reach 7m tonnes this year, compared to 5.9m tonnes in 1999, they forecast. Indeed plantation owners in both countries were seeking to boost supplies to compensate for lower prices.

Export campaign dealt a With domestic stocks mounting, the authorities stepped up their efforts to blow increase exports, targeting traditional markets and seeking new ones. The campaign was dealt a major blow in mid-June when India raised import duties on both crude and edible oils for the second time in six months. India took some 2.3m tonnes of Malaysian CPO in 1999—about one-quarter of total exports of the commodity—making it the country’s biggest buyer. Other discouraging factors were China’s apparently growing preference for the importation of oilseeds to be crushed domestically; hefty purchases of competing sunflower oil by Egypt; and threats by Indonesia to abolish its export tax on CPO—which had fallen from 60% to 10% in the space of a few months—and reduce levies on palm oil products. Dr Lim proposed that the scope of the government’s Palm Oil Credit and Payment Arrangement—a loan and deferred payment facility available to developing countries—be broadened to include the possibility of countertrade deals.

Plan to streamline natural The government revealed in July that it was working on a plan to streamline rubber production natural rubber production by encouraging a consolidation of plantations and smallholdings in high-yield areas to capitalise on economies of scale and advanced tapping techniques. The increased output arising from greater efficiency in the designated zones would more or less offset a decline in production expected from the proposed elimination of small, uneconomical plots elsewhere, officials said. The plan envisages the provision of incentives to smallholders in unproductive areas wishing to switch to more remunerative activities. As a result, Malaysia’s output could be maintained at around current levels despite a sizeable reduction in the area under cultivation.

INRO’s rubber stock While the Malaysian and Thai governments reiterated their willingness to co- depresses prices ordinate production and marketing activities to bolster prices, there was no sign of the co-operation having the desired effect. Their hopes to this end of

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buying up the 138,000-tonne stockpile held by the defunct International Natural Rubber Organisation (INRO) also came to nothing. INRO members decided last December to offload the buffer stock via open tender by July 1st 2001, setting a quarterly target of 34,000 tonnes. But their stipulation that any sale must meet the organisation’s purchase and carrying costs has proved problematic. In mid-July traders estimated INRO’s cost price at around US$0.76/kilo, as much as 35% above that of competing—and fresher— Malaysian, Thai and Indonesian rubber available on the open market. Possible solutions proposed by individual members, such as selling at a loss or extending the disposal deadline, have failed to elicit the required consensus.

Financial and other services

Growth of bank lending Total loans outstanding rose by M$3.2bn in June and by M$1.1bn the remains low following month, with the result that at end-July they were 2.7% higher than a year earlier. In the case of commercial banks, the year-on-year increase was 4.1%. New loan approvals in July amounted to M$11bn, down from M$12bn in June, while disbursements dropped to M$29.2bn, from M$31.7bn. Despite these improvements, the bigger picture remained only mildly encouraging. The increase in loan approvals has remained low. The ratio of non-performing loans to total loans—on a six-month arrears basis—has hardly improved after dropping to 6.6% in December last year: in June, the ratio stood at 6.4%. There were several reasons for the persistence of slack lending, including weak demand, the reluctance of banks to see another deterioration in asset quality, and their preoccupation with the ongoing merger programme.

Malaysia: loan approvals, disbursements & loans outstanding (M$ m) 1999 2000 1998 Year 3 Qtr 4 Qtr 1 Qtr 2 Qtr Jul Loan approvals 66,604 104,988 29,475 29,945 28,190 34,657 11,031 Loan disbursements 251,111 324,442 80,704 87,830 84,058 86,089 29,175 Loans repaid 270,526 336,471 85,832 87,165 86,841 78,797 30,231 Loans outstanding 426,568 427,641 425,366 427,641 431,508 439,635 440,746 Source: Bank Negara.

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Banking consolidation to The consolidation of the banking sector—aimed at forging a core group of be completed by year-end competitive local institutions ahead of the entry into force in 2003 of the World Trade Organisation’s General Agreement on Trade and Services (GATS)— proceeded, with the announcement in June and July of the finalisation of a number of mergers. But there were setbacks too. A planned deal that was to see anchor Arab Malaysian Bank absorb Bank Utama appeared in jeopardy owing to the latter’s reluctance to cede control of its business in Sabah and Sarawak states. A major shareholder in Phileo Allied Bank (PAB), securities concern Avenue Assets, initially rejected a merger proposal by Malayan Banking (Maybank), the country’s largest financial institution. The shareholder objected to the offer because it “substantially” undervalued the target bank. Maybank concluded the deal on August 30th after offering better terms—M$1.3bn rather than M$1.2bn—and excluding three of PAB’s units which would be sold back to Phileo Allied Bhd for M$20m (US$5.3m). Despite valuation disputes and lack of progress in other areas, Bank Negara governor, Zeti Akhtar Aziz, said in mid-July that she was optimistic that the consolidation programme would be completed as scheduled by end-2000.

Resistance to stockbroking A similarly ambitious plan unveiled by the Securities Commission in April to consolidation forcibly consolidate the country’s 63 stockbroking firms into no more than 15 groups by end-December also met with resistance. The Association of Stockbroking Companies argued that the timeframe was unrealistic and called for a more gradual approach. The lobbying paid off. On June 12th the Commission announced several revisions to its merger guidelines. It scrapped the end-2000 deadline, saying the so called “universal” brokers to emerge from the process need not be fully operational until 2002. Having earlier required that the valuation of firms set for absorption should not exceed 1.5 times their net tangible assets, the Commission agreed that their worth should be determined by market forces. Also abandoned was a stipulation that holding companies have no more than a 20% stake in a stockbroking firm, a conditionality essentially designed to oblige banks to pare down their share of the industry and thereby reduce the risk of conflicts of interest.

KLSE continues to trend The Kuala Lumpur Stock Exchange’s (KLSE) benchmark composite index, the downwards KLCI, which tracks the fortunes of 100 blue-chip companies, continued to trend downwards from the 33-month high of 1,013 points achieved on February 18th , undermined by several bearish factors. These included rumours that the finance minister, Daim Zainuddin, would resign over differences with Dr Mahathir; concerns about lack of corporate restructuring and buy-ins by state agencies to heavily indebted local companies; the threat from the staggered release from early July of Malaysian shares once traded on Singapore’s over-the-counter market, the Central Limit Order Book (CLOB) International; fears of an economic downturn in the US; the perceived overvaluation of the KLSE relative to other regional markets following its December-February bull-run; and the persistence of the 10% exit levy on the repatriation by foreigners of profits earned on investments in Malaysian securities.

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Reincorporation in MSCI Malaysia’s much-awaited reincorporation in indices operated by Morgan leads to profit-taking Stanley Capital International (MSCI)—from which it was excluded in December 1998 owing to the imposition of capital controls—did little to spur the market. The widespread belief that the KLSE was less promising than some of its key regional rivals prompted foreign and local investors, who had accumulated stocks in late 1999 and early 2000 anticipating a price surge once Malaysia was back in MSCI indices, to cut their holdings. Heavy selling pushed the KLCI down to 794—a seven-month low—on July 3rd and the index moved sideways, closing at 798 on August 31st.

Settlement period On June 7th the Securities Commission announced that the settlement cycle shortened for all trades on the KLSE would be shortened from T+5 to T+3 by the end of the year. Obliging sellers to deliver sold shares on the third business day after a transaction and buyers to pay within the same curtailed period would reduce risk, increase efficiency and bring the local settlement timeframe into line with the internationally accepted norm. Malaysia’s competitiveness, and cross- border business, would improve as a result, the Commission said. T+3 settlement would also discourage speculative contratrading—conducted within the settlement period—and thereby boost the quality of investments, the Commission noted.

Chain listing requirements The Securities Commission announced in June that regulations governing eased chain listing—initial public offerings (IPOs) by subsidiaries and affiliates of already listed companies—were being relaxed with immediate effect. The most significant change was the scrapping of a rule that had prohibited the flotation of a firm accounting for at least 50% of its group’s after-tax profits or net tangible assets. But the Commission stipulated that to be eligible for such a listing, the holding company of the subsidiary/affiliate must have a separate and autonomous business of its own. It also decreed that the subsidiary/affiliate could not go to the market if it had been injected into the parent company through a reverse takeover or a back-door listing. Some analysts concluded that the relaxation of the rules was designed at least in part to facilitate the planned listing of Projek Lebuhraya Utara-Selatan, the operator of the North-South Expressway (NSE), and telecommunications concern, Time dotCom. The contribution of each to the earnings of their respective parents, United Engineers Malaysia and Time Engineering, exceeds 50%.

Incentives for corporate A package of incentives to accelerate the development of the corporate bond bond market development market went into effect on July 1st. The new measures make it easier for companies to tap an underutilised source of long-term funding, thereby reducing the private sector’s hitherto heavy dependence on a now risk-averse local banking system. The Securities Commission (Amendment) Act 2000 is a by-product of the surge in bad debts following the eruption of the 1997-98 economic crisis, which graphically exposed the risks to the financial and corporate sectors of allowing short-term bank loans to fund long-term investments. Part of an evolving ten-year masterplan for the capital market, the Act makes the Commission the sole approver and regulator of private-debt securities—a role it assumes from BNM—and eliminates secondary vetting by other authorities such as the KLSE.

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Ringgit bond issuance By streamlining a previously fragmented legal framework, the act makes it simplified simpler and more attractive for companies to issue ringgit bonds, and for investors to trade them. It contains several provisions to broaden the primary market, dominated until now by government and quasi-government paper. While regulatory bodies have traditionally taken up to six months to authorise an issue, the Commission promises approval of an application within 14 working days, provided it is accompanied by a declaration of compliance with new disclosure-based guidelines. A full submission of information is therefore no longer required initially. Shelf registration is now permitted. Companies can make multiple flotations, of a total nominal value of at least M$100m, within a period of two years, without needing to seek the regulator’s approval for each tranche. Such issues must have a prior investment rating. Provisions to encourage the development of secondary trading—currently constrained by the tendency of local institutional funds, such as government-linked pension schemes, banks and insurance companies to lock in their bond investments— are also included in the act.

Infrastructure

Foreign shareholding in In a move that appeared to presage a sizeable buy-in by an overseas carrier, MAS may be raised Malaysian Airline Systems (MAS) revealed in late July that the Ministry of Finance had approved its request to raise the ceiling on foreign shareholdings in the company to 45%. Foreign investors are not allowed to own more than 30% of a listed company, but exceptions can be made if they are deemed crucial to its development. (In 1998 the government increased the permitted ceiling on foreign ownership of telecommunications companies to 61%, with the proviso that such interests were to be reduced to 49% within five years.) Foreign holdings in MAS currently amount to 16.6%, with the Brunei Investment Agency accounting for 9.1%. Industry analysts have long insisted that the best way to turn around MAS—which has incurred losses in the last three financial years and has borrowings of more than M$10bn—would be to bring a foreign carrier on board. Naluri, a local company currently holding a controlling 29% stake in the national carrier, is burdened by non-performing loans in excess of M$1bn, and seeking to retire at least part of them by disposing of assets. The sale of its entire MAS holding to foreign interests would raise their stake to 45.6% but it remains to be seen whether Dr Mahathir, who is notoriously reluctant to countenance foreign buy-ins of “strategic” companies, would endorse such a deal.

No agreement on NTT stake It emerged in mid-July that negotiations envisaging the purchase by Nippon in Telekom Malaysia Telegraph and Telephone of a 15-20% stake in Telekom Malaysia had been called off. Khazanah Nasional, the Ministry of Finance’s investment arm which owns 38.8% of the fixed-line market leader, said the talks ended inconclusively as a “mutually satisfying agreement on certain key strategic issues could not be reached”. We understand that the negotiations foundered on the issue of management control. Khazanah said it would evaluate with Telekom “alternative plans to seek a strategic partner in the near future”.

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Time dotCom stake sold to Earlier that month the indebted Renong group subsidiary, Time Engineering, Khazanah formally agreed to sell a 30% stake in its telecommunications unit, Time dotCom, to Khazanah for M$2.12bn. This was slightly less than Singapore Telecommunications had offered for a similar stake—a deal killed in May by Dr Mahathir owing to his concerns about the prospect of a Singapore government-controlled company taking a sizeable equity interest in the owner of Malaysia’s largest fibre-optic network. The Time-Khazanah tie-up provides for the sale of 15% of Time dotCom to a strategic partner within 12 months. One candidate is the Nasdaq-listed NTL, Britain’s biggest cable television operator. The divestment is expected to take place before Time dotCom's listing on the KLSE, which is scheduled for October and forecast to raise up to M$3bn.

e-business infrastructure is Malaysia’s e-business infrastructure is presently underdeveloped, for several underdeveloped reasons. These include low telephone and Internet penetration rates; lack of awareness of the potential of e-business; limited funding for local start-ups; the slow pace of liberalisation; and, as a result, the dominant role assumed by government-linked, old economy-minded corporations. Only the country’s seven licensed telecommunications companies are authorised to function as Internet Service Providers (ISPs), and just three of these are currently operating such facilities. The biggest is TMnet, a unit of fixed-line market leader, Telekom Malaysia. Launched in late-1996, TMnet claimed 430,000 of the country’s officially estimated 770,000 Internet subscribers—less than 10% of them corporates—at end-1999. Next in terms of size is Jaring, part of Mimos Bhd, followed by Maxis Net, an arm of cellular operator Maxis Communications (formerly Binariang). All three ISPs plan hefty outlays on the development of infrastructure, products and services over the next few years in the hope of capturing a bigger share of the rapidly growing market. Other ISP licence- holders, including mobile operators, DiGi and Celcom, and Time dotCom, are planning to enter the fray soon. Existing ISPs offer fairly basic e-business services and the biggest players are locked into a traditional mindset that views access charges as the primary revenue source.

Government initiatives to Seeing the rapid development of electronic business as central to the boost e-business economy’s future growth, the government has launched several initiatives to facilitate it. The liberalisation of key segments of the local market needed to encourage e-business is underway. Domestic banks were authorised to provide a full range of online services from June. Malayan Banking (Maybank), the country’s biggest bank by assets, was first off the mark. Its one-stop portal inter alia allows customers to open accounts, verify balances, transfer funds and pay bills. Subsequent features will include loan and credit card applications. Maybank is hoping to attract up to 200,000 customers within 12 months. Other banks are poised to follow suit. However, locally incorporated foreign banks are obliged to wait another 18 months before being allowed do so. e-commerce and k-economy Officials say a soon-to-be-unveiled e-commerce masterplan will facilitate the masterplans to be unveiled building of a critical mass of Internet users; refine the existing regulatory framework; seek to boost confidence in online trading by incorporating a dispute-settlement regime and stressing the need for tighter security and improved vendor reliability; and introduce an alternative form of electronic

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payment to credit cards. A more ambitious knowledge-economy (“k- economy”) masterplan is being drafted by a committee comprising representatives from key ministries and local think-tanks. Due to be completed before the end of 2000, it is likely to require far-reaching public- and private- sector reforms, and expected to identify projects eligible for special tax and non-tax incentives.

Foreign trade and payments

The trade surplus continues With import growth continuing to accelerate and export growth slowing, to decline Malaysia’s trade surpluses have begun to narrow this year. The June surplus amounted to M$4.9bn (US$1.3bn), down from M$5.4bn in the corresponding month of 1999 but up from a surplus of M$4.2bn in May. Exports rose by 20.7% year on year to M$31.8bn, while imports surged by 28.7% to M$26.9bn. The impressive growth in imports reflected strengthening demand for items required to sustain production and exports at high levels. Imports of intermediate and capital goods rose by 28.1% and 45.7% respectively year on year. Exports of electronic and electrical products, which accounted for 58.3% of total exports, increased by 22.1% year on year. The January-June surplus totalled M$29.1bn, against M$33.7bn in the same period of 1999, with imports expanding by 29.4% to M$146.7bn and exports by 19.5% to M$175.8bn. Imports of intermediate, capital and consumption goods rose by 29.8% (to M$108.2bn), 50.7% (to M$21.4bn) and 21.1% (to M$8.4bn) respectively. Exports of electronic and electrical products were 20.3% higher, at M$101.6bn.

Income deficit widens Balance-of-payments data for the fourth quarter of 1999 and the year as a sharply whole were published at end-July. The fourth quarter saw the first year-on-year decline in the current-account surplus since the start of Malaysia’s economic recovery, to M$10.7bn from M$13.2bn in the same quarter of 1998. The surplus for the October-December 1999 period was the eighth in a row. The reason for the decline in the current-account surplus was not—as might have been expected—a fall in the trade surplus but the sharp widening of the income deficit. The merchandise trade deficit—calculated on a fob-fob basis— dropped slightly from M$22.6bn in the fourth quarter of 1998 to M$22.1bn in the same period of 1999. The services deficit remained almost unchanged compared with a year earlier, at M$2.4bn. However, the income deficit widened from M$2.3bn to M46.4bn, to a large extent because of higher outgoings on the investment income accounts, as foreign companies repatriated profits and dividends.

Dr Mahathir has second After fellow Association of South-East Asian Nations (ASEAN) members agreed thoughts about AFTA in May to allow Malaysia to defer scheduled duty reductions on motor vehicle imports from 2003 to 2005, Dr Mahathir hinted that the government might seek delays in the implementation of other tariff-cutting commitments made within the framework of regional and global trade liberalisation pacts. Specifically, the prime minister said he was having “second thoughts” about the ASEAN Free Trade Area (AFTA). Noting that Western companies were

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building car plants in the region to capitalise on falling internal barriers, he warned that its pursuit of freer trade could backfire on member states and badly hurt local industries. His suggestion that ASEAN countries consider a “division of labour” likewise implied that certain industries in individual countries should enjoy more protection than is presently envisaged.

Malaysia: current account (M$ m, not seasonally adjusted) 1998 1999 1998 1999 4 Qtr 1 Qtr 2 Qtr 3 Qtr 4 Qtr Exports of goods 281,669 318,946 74,134 68,733 77,594 84,482 88,137 Imports of goods 212,453 232,411 51,545 49,940 56,296 60,133 66,042 Goods balance 69,216 86,535 22,589 18,793 21,298 24,349 22,095 Services exports 46,247 46,865 10,539 10,226 10,382 12,380 13,877 Services imports 53,669 58,724 12,916 13,450 13,525 15,507 16,232 Services balance –7,422 –11,859 –2,377 –3,224 –3,143 –3,127 –2,355 Income credits 5,308 6,385 1,310 1,557 1,344 1,906 1,578 Income debits 20,125 26,660 3,579 5,217 6,040 7,454 7,949 Income balance –14,817 –20,275 –2,269 –3,660 –4,696 –5,548 –6,371 Transfers credits 2,975 3,148 668 585 680 761 1,122 Transfers debits 12,558 9,647 5,458 1,686 1,799 2,379 3,783 Transfers balance –9,583 –6,499 –4,790 –1,101 –1,119 –1,618 –2,661 Current-account balance 37,394 47,902 13,153 10,808 12,340 14,056 10,708 Source: Department of Statistics, Malaysia.

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Brunei

Political structure

Official name Negara Brunei Darussalam

Form of state Sultanate

The executive The sultan is advised on policy matters by four councils: the Religious Council, the Privy Council, the Council of Succession and the Council of Cabinet Ministers

Head of state HM Paduka Seri Baginda Sultan Haji Hassanal Bolkiah Mu’izzaddin Waddaulah

National legislature None

Legal system Courts of first instance exist on a local and religious basis; appeals go to the Religious Council in religious cases, and to the High Court and thence to the Court of Appeal in other cases. All major judicial posts are filled by the sultan’s appointees

National elections Last election 1968

National government The sultan, close family members and his appointees control all elements of state power, including the Council of Cabinet Ministers, under the state of emergency that has been in force since 1962

Main political organisations The Parti Perpaduan Kebangsaan Brunei (the Brunei National Solidarity Party, PPKB), which split from the Parti Kebangsaan Demokratik Brunei (Brunei National Democratic Party, PKDB) in early 1986, is now the country’s only legal party, the PKDB having been banned in early 1988. However, the PPKB is only intermittently active. The promotion of the national ideology of Melayu Islam Beraja (MIB), or Malay Islamic Monarchy, has been stepped up since 1990. The Parti Rakyat Brunei (Brunei People’s Party, PRB) has been banned since 1962 and operates in exile

Sultan, prime minister, minister of finance & defence Sultan Hassanal Bolkiah Mu’izzaddin

Key ministers Communications Zakaria Sulaiman Culture, youth & sports Hussain Mohamad Yusof Development Ismail Damit Education & health (acting) Abdul Aziz Umar Foreign affairs Prince Mohamed Bolkiah Home affairs & special adviser to the sultan Isa Awang Ibrahim Industry & primary resources Abdul Rahman Mohammad Taib Religious affairs Dr Mohamed Zain Serudin

EIU Country Report September 2000 © The Economist Intelligence Unit Limited 2000 36 Brunei

Economic struture

Annual indicatorsa 1995 1996 1997 1998b 1999c GDP at market prices (Br$ m) 7.4 7.7 8.0 8.1 8.2 Real GDP growth (%) 3.0 3.6 4.1 1.0 2.5 Consumer price inflation (av; %) 6.0 2.0 1.7 –0.4d 1.0 Population (‘000) 296.0 305.1 314.4 323.6 n/a Exports fob (US$ m) 2,390 2,603 2,676 1,894 n/a Imports cif (US$ m) 1,979 2,364 2,013 1,718 n/a Reserves (US$ m) 5,874 5,937 3,656 4,011 n/a Exchange rate (av; Br$:US$) 1.42 1.41 1.48 1.67e 1.69e

August 28th 2000 Br$1.7205:US$1

Origins of gross domestic product 1998f % of total Oil & gas sector 32.5 Agriculture, forestry & fishing 2.8 Construction 6.6 Transport & communications 5.2 Wholesale & retail trade 11.2 Community, social & personal services 33.0 GDP at factor cost incl others 100.0

Principal exports 1997f Br$ m Principal imports 1997f Br$ m Natural gas 1,860 Machinery & transport equipment 1,229 Crude petroleum 1,650 Manufactured goods 804 Refined products 111 Food & live animals 352

Main destinations of exports 1998 % of total Main origins of imports 1998 % of total Japan 50.9 Singapore 32.3 UK 14.2 UK 16.6 US 10.4 Malaysia 12.1 Singapore 8.1 France 11.5 a Source for most data is IMF, Staff Country Report No. 99/19, drawing on Brunei’s Ministry of Finance, national development plans and Statistical Yearbook (various issues). b IMF estimates. c Brunei government estimates. d EIU estimate. e Actual. f Brunei Statistical Yearbook, 1998, estimates.

Quarterly indicators

1997 1998 1999 4 Qtr 1 Qtr 2 Qtr 3 Qtr 4 Qtr 1 Qtr 2 Qtr 3 Qtr Production (prodn/day) Crude petroleum '000 barrels 150 147 126 134 150 160 157 140 Foreign trade (annual totals) E x p o r t s f o b ( U S $ m ) 2 , 3 7 5 ( n / a ) ( n / a ) I m p o r t s c i f ( U S $ m ) 3 , 9 4 6 ( n / a ) ( n / a )

Note. Annual figures of most for the series shown above will be found in the Country Profile. Sources: Oil & Gas Journal; IMF, Direction of Trade Statistics, yearbook.

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Outlook for 2000-2001

A delicate balancing act for In the wake of the Prince Jefri scandal and the acknowledgement of serious the sultanate economic problems, the sultanate faces a delicate balancing act: how to reduce the overdependence on oil and gas-financed government spending, while maintaining firm control over Brunei’s citizens. The planned cuts in social services, new income taxes and increased privatisation are unlikely to be balanced by robust private-sector growth. In the past, when the standard of living was high, few Bruneians would have sought to challenge the monarchy’s policies and privileges. For the short-term, Brunei’s relatively placid population seems willing to believe government assurances that the economic reform packages will bring back Brunei’s boom days. But the sultan’s job will become more difficult if weakened confidence in the economy were to begin to undermine public support for the political leadership.

Economic growth remains Notwithstanding the economy’s problems, GDP growth should pick up slightly heavily dependent on oil this year, aided by a firm oil price and an expected almost 25% increase in petrochemical production. The Brunei Darussalam Economic Council (BDEC) is now predicting 3% GDP growth for 2000, up from 2.5% in 1999 and 1% in 1998. The favourable impact of higher oil revenue will, however, be offset by continued weakness in most other industries. The outlook for 2001 is more controversial. The BDEC is predicting 5-6% GDP growth, which may be difficult to achieve if our forecast is correct that the average price of oil will drop to US$22/barrel from US$27/b this year. Despite Brunei’s plans to continue its short-term economic stimulus programme, it is unlikely that the economic recovery will gain much momentum until the private sector is restructured.

Economic reforms continue The economic recovery plan laid out in February by the BDEC recommends a to be implemented two-stage approach to the economic crisis. A package of short-term measures is already being implemented, including Br$200m (US$116m) in government contracts to small and medium-sized enterprises (SMEs), job training, and business seminars to boost private-sector competence. Plans have been prepared for an improved public telecommunications system and the government is conducting a public-relations campaign to increase confidence in the economy.

The next series of reforms will be more challenging to realise. These include longer-term measures such as the privatisation and outsourcing of selected government services, the elimination of subsidies and expansion of the tax base. The BDEC report warned the government that, to make a success of reforms, state spending should not be reduced too quickly or else there would be a risk of economic recession and social unrest. The government has already announced its intention to proceed with cuts. It remains to be seen what the public reaction will be when a detailed plan is published. The government is keenly aware that Brunei’s population has been made complacent by years of state financial support. It needs to carefully evaluate how ready the private sector is to contribute more to economic growth.

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Brunei keen to become a Brunei has restated its intention, first expressed during the economic crisis, of regional financial centre becoming an international financial centre. The sultan lent his approval to the plan in his July 15th address and stated that the centre should include Islamic financial services. Officials announced that Brunei had begun to update its legislation, formulating laws to cover electronic transactions and computer crime. Brunei currently has only nine foreign banks operating within its borders. It will face stiff competition from more seasoned financial services centres in the region, including Labuan, Malaysia and, especially, Singapore. The country has, however, a chance of succeeding in the niche market for Islamic banking if it can clear away the outdated regulations that have dissuaded foreign investment in the past. Brunei’s image as one of the safest, most politically stable countries in the region, together with recent upgrading of the telecommunications and information technology infrastructure, should help boost its prospective business.

A drive to attract foreign In early June Brunei’s Ministry of Industry announced that it had changed its investment is launched policy on foreign ownership and would begin a drive to attract overseas investors to boost the development of the private sector. Full foreign ownership of Brunei-based firms will be permitted, with the exception of the food industry and industries based on local resources, which will require participation by Bruneians. The ministry expressed optimism that Brunei could attract investors, citing the country’s social and political stability, good infrastructure, English- speaking population and competitive tax advantage and incentive programmes. The ministry also promised to help foreign companies deal with Brunei’s bureaucracy by liaising with government agencies and expediting licensing applications. While the revised policies should impress potential investors, it is likely that many will wait until legislative reforms have been enacted and the economy has gained strength before moving business to Brunei.

Preparations for the APEC The countdown to the November 2000 Asia-Pacific Economic Co-operation summit continue (APEC) summit continues, with up to 7,000 delegates, including the heads of state of the 21 member countries, expected to attend. Brunei has spent some Br$60m on preparations for the meeting. It is hoped that the summit will boost the country’s international reputation and attract foreign tourism and investment. However, the APEC summit is the largest event Brunei has ever hosted, which is likely to put a serious strain on the underdeveloped tourism infrastructure. Brunei’s hotel rooms number a mere 1,900, far short of the 7,000 the summit normally requires. The organising committee has promised to host visitors in several newly completed apartment complexes, bringing the total available rooms to 5,500 by November. Delegations are being asked to cut back their numbers and conserve space. Transportation has also been a worry, with buses and cars promised to arrive on loan from neighbouring Malaysia. To shuttle visiting dignitaries, Prince Mohamed’s QAF Motors is importing hundreds of luxury cars which the government plans to sell duty-free to the public after the event. APEC is the most high-profile event to take place in Brunei. Although the government hopes to steer news media away from Brunei’s problems, the conference is likely to generate a string of reports about the troubled economy and its scandal-hit monarchy.

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It is hoped that a smooth APEC summit will spark enough interest abroad to “Visit Brunei Year” slated make “Visit Brunei Year” (VBY), slated for 2001, a success. Development of for 2001 tourism is high on the government’s agenda as it seeks to diversify the economy and create new jobs for the unemployed. A spokesman for the VBY planning committee announced that Brunei had already spent several million dollars on advertising in the hopes of attracting potential visitors. The year would start with an Association of South-East Asian Nations (ASEAN) Tourism Forum, which 2,000 delegates are expected to attend. Brunei has announced a full calendar of events for 2001, including dozens of festivals, cultural events and sporting competitions, with the aim of attracting 1m tourists.

The tourism industry is Notwithstanding the high hopes, Brunei’s tourism industry will continue to faced with many problems struggle. In addition to the infrastructure limitations, Brunei will have a problem convincing the large population of unemployed to take hospitality service jobs, and it will instead have to rely on imported labor. In July the government announced a plan to compensate tourist industry employers for 80% of the costs of training local workers. Brunei citizens, long used to lucrative government positions, will remain less than enthusiastic about opportunities to become waiters or gardeners. Brunei is also hampered by its image as a quiet, conservative country with strict laws prohibiting alcohol sales and regulating entertainment. Eco-tourism, especially in co-operation with the neighbouring Malaysian state of Sabah, will remain its best bet, especially if political instability elsewhere in the region encourages visitors to consider Brunei as an alternative destination.

The political scene

The Prince Jefri Bolkiah On May 12th the prime minister’s office announced that the civil suit brought case is formally settled by the State of Brunei Darussalam and the Brunei Investment Agency (BIA) against Prince Jefri Bolkiah, the sultan’s younger brother, had been settled out of court. In February the sultan’s brother had been accused of misappropriating US$14.8bn from the BIA, which he chaired until his dismissal in 1998 following the collapse of his Amedeo group of corporations. According to the government’s official statement, he had promised to return the funds and make a full disclosure of his withdrawals from BIA accounts.

The sultanate tries to Since the settlement, Prince Jefri has quietly been selling off his assets, improve its public image including British jewellers, Asprey & Garrard, which he acquired in 1995 for US$365m. On May 25th Prince Jefri—whose passport was confiscated while the suit was pending—left Brunei to reside indefinitely in London. Political analysts considered this a sign that the disclosure process was progressing to the government’s satisfaction and that the sultan’s brother was no longer at risk of legal action. It is unlikely that the BIA will ever recoup the entire sum siphoned off by Prince Jefri, for much of it was spent on failed investments and personal consumption. Brunei’s government apparently also felt that a court case might damage its reputation too much and preferred to remove Prince Jefri from the public eye.

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With Prince Jefri out of the limelight, the sultanate has been trying to restore its tarnished public image. The sultan appointed his brother, Prince Mohamed Bolkiah, reputed to be a conservative politician and a devout Muslim, to the newly created position of deputy sultan, in addition to his duties as foreign minister and chairman of the Brunei Darussalam Economic Council (BDEC), the organisation formed in 1998 to help guide Brunei out of its current economic crisis. Brunei’s press also published speculation that Prince Mohamed would be tapped for a new job as senior minister responsible for economic affairs. The BDEC recommended in a report in February that Brunei create such a post. By grooming Mohamed to play a more prominent role in government, the sultan is hoping to highlight the more restrained side of a royal family that has long been taken to task for its extravagant lifestyle.

Sultan’s office responds to Criticism of Brunei continues in the foreign press. A June 30th article in foreign criticism Asiaweek entitled “After Myanmar, My Favourite Dictatorship is Brunei” sparked a defensive rejoinder from the sultan’s office. The article reported that despite government assurances to the contrary, there is an underground pro- democracy movement in Brunei, and suggested that if someone “stood up here and advocated democracy they would disappear the next day”. The official Brunei response declined to comment on that claim, charging only that “many journalists come to Brunei with their own agenda”.

Islamic credentials Brunei continued its campaign to convince its citizens of the Islamic strengthened foundations of the sultan’s absolute rule. In a July 15th royal address delivered to mark his 54th birthday, the sultan called on Bruneians to increase their commitment to Islam and their loyalty to the monarchy. He proposed that Brunei base its economic recovery on Islamic principles, by developing its halal food industry for export and becoming an international centre for financial services, focused on Islamic banking. The government has also been trying to win support from Brunei’s Muslim Malay population by exploiting growing local resentment against non-Malay businesspeople. Since the bursting of Brunei’s economic bubble by the 1997 Asian crisis and the 1998 collapse of the Amedeo conglomerate, which had boosted local industries with its investment, complaints have become louder that indigenous businesses have been marginalised in favour of Chinese and Indian-led firms. In June the BDEC launched a programme to “uplift Malay entrepreneurs’ involvement in economic activities”, commissioning a study to assess the weaknesses of the Malay business community and to design a strategy to improve their competitiveness. The BDEC already discriminates in favour of Malays in the awarding of contracts for the state-funded construction projects it announced in February.

A crack-down on fringe Despite the sultanate’s attempts to increase its Islamic legitimacy, there have religious groups been signs of growing disenchantment with the official state ideology of “Malay Islamic monarchy.” Brunei’s Ministry of Religious Affairs announced that it had discovered a number of sites around the country where “deviant” religious sects were attracting followers. Religious officials called on Bruneians to report those engaging in such practices, citing laws which specify a three- month jail term and a Br$2,000 (US$1,160) fine for conviction of acts that

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contradict Islamic tenets. Brunei’s Borneo Bulletin newspaper reported that continuing economic stagnation was driving a number of Bruneians to embrace unorthodox religious beliefs.

A link with Malaysian On July 13th Brunei police detained 20 people, including an active military Islamic militancy officer, for suspected involvement in the Malaysia-based Al-Ma’unah (Brotherhood of Inner Power) religious group. Al-Ma’unah—whose logo is two crossed M-16 rifles, a Malay dagger and the Koran—has been accused by Malaysian officials of waging a jihad holy war for an Islamic state. Brunei’s Internal Security Department issued a statement saying that the group—which was responsible for a weapons heist, kidnapping and the killing of two hostages in Malaysia in the week of July 2nd—had set up a branch in Brunei and recruited 27 members, including several servicemen. They acknowledged that the group’s leader, Mohamad Amin Razali, had made several trips to Brunei over the past months, ostensibly to recruit members for his organisation. Brunei launched a special security alert and set armed police to man roadblocks, but they assured the public that the actions were “only a precautionary measure to safeguard the country from Islamic extremists”, and that the government was prepared to deal harshly with attempts to undermine its control.

Drills to demonstrate the In anticipation of the November APEC meetings, Brunei’s police and military commitment to security have been carrying out a series of well-publicised drills aimed at honing their ability to counter criminal or terrorist threats. Brunei’s commissioner of police, Dato Hajji Yaakub, expressed confidence that this year’s APEC summit will not be disturbed by the protests that have marked several recent international meetings dealing with free-trade issues. He said that police delegations from Brunei have attended the past three APEC meetings to observe security arrangements. In addition to ensuring the APEC delegates’ safety, the drills were intended to advertise the government’s readiness to safeguard its sovereignty and impose social control.

State censorship remains Many political observers had predicted that the highly publicised Prince Jefri firmly in place case would bring a new openness to Brunei’s secretive sultanate, which has long kept its economic data and political decision-making process hidden. But with the case closed, Brunei’s government has seemed to retreat back from openness. No official comments have been made about the progress of the recovery of the misappropriated funds, including how much the BIA has received from Jefri, and the law prohibiting release of information about BIA finances still remains in place. Brunei’s media appear to have followed the government’s cue, refraining from speculation about the Jefri case. They have also kept quiet about other potentially negative issues picked up by the world press, for instance, rumours of financial troubles at Prince Mohamed’s QAF Group of companies and comments made by New Zealand’s prime minister, Helen Clark, that Brunei was incapable of providing the necessary leadership for the upcoming APEC meeting. Brunei’s director of the Information Department, Ghani Metusin, reminded local journalists at a media seminar in July of their responsibility to protect the image of the sultan and the nation,

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and the government’s right to censor and control the media in the name of stability and security.

Officials call for economic In the economic area, however, Brunei seems to be moving slowly toward a transparency public acknowledgement of its strengths and weaknesses. “Brunei, like other countries in the region, is now accepting transparency as something good, especially in terms of creating a conducive environment for investment,” said Pehin Aziz, Brunei’s education minister and former chairman of the task force set up to investigate the Jefri scandal, in July. Earlier this year, the BDEC released a report containing negative economic data and the government consented to have its yearly budget—normally kept confidential—published. At a public update on the BDEC’s progress held in July, the serious economic challenges Brunei faces, including continuing unemployment and slow public- sector growth, were reiterated. “We are now opening up to the world. We know we lag behind our neighbouring countries,” said Wahab Juned, director-general of the BDEC, who called the economic crisis in Brunei “a blessing in disguise” forcing the country to “open its mind” and reconsider its economic direction.

Economic policy and the economy

Higher oil prices are offset Taking advantage of the higher oil prices this year, Brunei’s Petroleum Unit has by private-sector weakness increased production by almost 25% from 1999 levels to help refill a Treasury reputed to be seriously depleted by Jefri’s misdeeds. However, Wahab Juned, the director-general of the BDEC, admitted that the effects of the increased hydrocarbon revenue on GDP had been partially offset by population growth and continuing weakness in virtually all areas of the private sector, especially construction, Brunei’s second largest income generator. As mentioned previously, the BDEC raised its forecast for economic growth in 2000 slightly, from 2.6% estimated in May to 3%, and predicted—rather optimistically—a more robust 5- 6% growth rate for 2001-2002. However, Wahab said that per capita income levels were likely to continue to fall, mentioning a drop to Br$25,000 (US$14,500) in 1999, down from a pre-crisis high of Br$34,000 in 1997.

Brunei announces a new On July 16th Wahab Juned announced that the country would implement a series of economic reforms new series of economic reforms, including cuts in state subsidies and the imposition of the first income tax in Brunei’s history. Wahab pointed out that the nation desperately needed to restructure its economy and widen its revenue base before oil and gas reserves ran out in an estimated 25 years. Bruneians have long enjoyed a range of petroleum-funded perks, including free education and health care, no-interest housing loans and government jobs for 60% of the population. Wahab announced a plan to issue government bonds to help cover budget shortfalls. Brunei’s 1999 budget deficit amounted to Br$1bn (US$581m) compared with a GDP of Br$8.2bn, and has averaged 15% of GDP since 1994. Details of how and when this latest series of reforms would be realised were not disclosed.

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Action Plan for Recovery is As part of the BDEC’s short-term “Action Plan for Recovery,” the government implemented has started to inject Br$200m (US$116m) into the economy, especially the hard-hit construction sector, by awarding contracts for 500 new housing units. Despite complaints by contractors that payments have been slow, the government appears to be on track with its plan to try and jump start the struggling private sector. Brunei is also keeping its promise of combating unemployment by increasing spending on human resources development. Job training programmes to create 2,000 hospitality industry workers have been set up and a scheme to reimburse tourism employers for the cost of training has been introduced. Work has started on improving the information technology infrastructure by licensing a new Internet Service Provider (ISP), Data Stream Communications, to compete with troubled BruNet. Plans have been unveiled for the Ragan 21 project, which aims to install broadband communication links in every home in the country. The government has also been holding a series of seminars for small to medium-sized enterprises (SMEs), in the hope of increasing their business capabilities and entrepreneurial spirit, and encourage them to take advantage of spending by APEC delegates in November.

Rumours of another Rumours of a repeat of the 1998 collapse of Prince Jefri’s Amedeo conglomerate corporate scandal swirled through Brunei in late June, after an announcement that seven senior executives at the QAF Group, owned by Prince Mohamed, were leaving their jobs in the wake of poor earnings figures. Baiduri Bank, a subsidiary of QAF, was besieged by depositors who, according to an Asiaweek report, withdrew tens of millions of dollars before the panic could be quelled. Bruneians appeared to relax after QAF issued a press release stating that the resignations were part of a planned corporate restructuring. However, the public’s quick response to perceived problems indicates that, despite the media campaign the BDEC has been waging, local confidence in Brunei’s economy remains shaky.

Regional financial In his July 15th royal address, the sultan announced that Brunei was ready to ambitions re-affirmed realise its long-held goal of becoming a regional financial hub, offering banking, securities and insurance services. The announcement was consistent with the recommendations of the BDEC, which proposed in its February report that Brunei develop an International Financial Centre (IFC) to help diversify its oil and gas dependent economy. The sultan noted that such a centre could help stem Brunei’s growing unemployment problem and promote the transfer of technical and business skills to develop its human resources. The unemployment rate is currently at 5.1%, with an estimated 25% of school leavers unable to find jobs. Brunei appointed Robert Miller, an expatriate with experience in the offshore banking centres of Bermuda, the Cook Islands and Labuan to supervise the development of the new IFC.

Brunei to focus on Islamic The sultan also stated that Brunei would try to position itself as a world leader banking in Islamic financial services. He announced that the state-owned Development Bank of Brunei would change its name to the Islamic Development Bank of Brunei Berhad, and that the Brunei Economic Development Board would assign it the responsibility of providing assistance to SMEs. The bank is to operate according to Islamic principles, taking a share of profits from the firms it funds and assisting them with their business plans rather than charging

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interest on loans, which is prohibited to Muslims. Brunei’s privately owned banks have come under recent criticism for tightening their lending policies toward local firms, with the deputy minister of finance, Selamat Munap, chiding them for placing the full burden of economic recovery on the shoulders of the government.

New industrial complex at Brunei has commissioned an Australian firm to conduct a feasibility study on Pulau Muara Besar converting the island of Pulau Muara Besar into a new industrial complex, which would offer petrochemical production and export-oriented refinery facilities as well as a container hub. The report is expected to be submitted for government review in January, 2001. The study follows the recommendations of the BDEC that Brunei, which currently exports its oil and gas in crude form, explore possibilities for exploiting downstream ventures to maximise its hydrocarbon revenue.

The largest seismic survey Brunei commissioned Petroleum Geo-Services ASA to undertake a 3D seismic in the nation’s history survey covering 10,000 sq km in waters up to 1,000 metres deep. The survey— the largest in Brunei’s history—will commence in August 2000. The data will be made available to oil and gas companies bidding for acreage in the deepwater licensing round which will start on October 9th 2000 and close on November 1st 2001. Harun Rahman, head of exploration of Brunei’s Petroleum Unit, stated he was “convinced of the value pre-licensing 3D will have in attracting international oil companies to invest in deepwater Brunei, and that it will accelerate the exploration cycle”. Exploiting Brunei’s deepwater and opening the oil and gas industry, long dominated by Brunei Shell Petroleum, to more competition were crucial components of the BDEC’s plan for economic recovery.

Fletcher Challenge Energy Fletcher Challenge Energy (FCE), the latest player in Brunei’s oil industry, curtails its exploration announced in July that it was curtailing the exploration project it began in April, after failing to encounter significant amounts of hydrocarbons. The three-well campaign set back FCE and its partner in the venture, Unocal, by US$17m. FCE’s chief operating officer, Dr Lloyd Taylor, expressed disappointment, but commented that “this ability to drill low-cost exploration wells in Brunei has improved the economics of future exploration in Brunei. Additionally, given the location and nature of the prospects drilled in this campaign, the information gained will provide valuable insights into the prospectivity of the deepwater exploration acreage that is shortly to be opened to industry participation”. FCE plans to recommence drilling in 2001 in the Elf-operated Block B of the Maharaja Lela field.

EIU Country Report September 2000 © The Economist Intelligence Unit Limited 2000