How Malaysia solved the economic crisis in 1998 by Tan Mee Teng and Ying Pei Shang

How Malaysia solved the economic crisis in 1998
by Tan Mee Teng and Ying Pei Shang

1. Stabilisation of the Ringgit

Malaysia’s response the economic crisis stabilization of the ringgit and second the restriction on the outflow of short-term capital. Malaysia stability of the currency is guaranteed by pegging the ringgit to the US dollar at a rate of RM 3.80 to US$ 1.00. For the fixed exchange rate system to work, the outflow of short-term capital flows had to be controlled. The Central Bank uses this rate to exchange dollars with ringgit in its dealings with the commercial banks and other authorised financial institutions, and they in turn are required to use this rate in their currency dealings with the public.

2. Expansionary monetary

The government reduced the Statutory Reserve Requirements where the funds which banks are required to maintain with the Central Bank as a prudential measure. It reduce from 13.5 per cent to 10 per cent in February 1998, 8 per cent in July 1998 and 4 per cent in October 1998. This released significant liquidity to the banks. With the reduction  of the SRR, an additional US$10 billion has been injected into the banking system that would help to increase business and economic activities. The government also set a target for the banks to increase their loans by 8 per cent in 1999. Interest rates began to decrease and restrictions on debt repayments eased. In this regard, the base lending rates (BLR) was reduced from the highest 12.3% in June 1998 to 6.79% in October 1999. Lending rates were consequently reduced from a high 24% in February 1998 to 7.91% in October 1999. The lending spread was capped to 2.5% of the BLR.

3. Expansionary fiscal policy

The initial contractionary fiscal policy which had planned to cut government expenditure by 18 per cent in December 1997 was reversed. In July 1998 a fiscal stimulus package was announced, involving additional development expenditure of RM7 billion allocated to agriculture, housing, education, health and rural development; and a RM5 billion infrastructure development fund was set up to finance infrastructure projects. The federal government had a budget surplus equivalent to 0.8 per cent of GNP in 1996, and this rose to 2.5 per cent of GNP in 1997. Reflecting the expansionary measures, the fiscal position then turned into a budget deficit of 1.8 per cent in 1998, which increased to 3.2 per cent in 1999 and 5.5 per cent in 2001. (Ministry of Finance 2001, Bank Negara 2002).

4. Reform and Structure the Financial and Corporate Sectors

The depreciation of ringgit has had an adverse effect on the banking sector. Many companies, including large corporations that have borrowed from the banks were unable to repay loans. As a consequence, banks are unable to provide sufficient funds to finance business activities. Thus, Asset Management Company (Danaharta) was set up to manage the non-performing loans (NPLs) of financial institutions with objective to remove the NPLs from the balance sheets of financial institutions at fair market value and to maximise their recovery value. This will free the banks from the burden of debts that had prevented them from providing loans to their customers. As the capital base of banks has been affected by the decline in share prices and NPLs, these banks need to be recapitalised. Special Purpose Vehicle (Danamodal) was set up to capitalise and consolidate the banking sector, i.e., to inject capital into banks facing difficulties. The injection of capital will enhance the resilience of banks, increase their capacity to grant new loans and consequently speed up the economic recovery process.To complement the restructuring of the financial system by Danaharta and Danamodal, the Corporate Debt Restructuring Committee (CDRC) was set up in August 1998 to facilitate debt restructuring of viable companies. The aim is to minimise losses to creditors, shareholders and other stockholders; avoid placing viable companies into liquidation or receivership and; to enable banking institutions to play a greater role in rehabilitating the corporate sector. The CDRC devises constructive and market-approach based to enable creditors and debtors to devise and implement workout plan without resorting to legal procedures. It also brings together all interested parties to assist the progress of all corporate debt restructuring.