There has been confusion over the years as to who really deserves the title of architect of Malaysian growth since the 1980s.  Some hail Former Finance Minister Tun Daim Zainuddin as the lynchpin of the success, while others say Prime Minister Dr Mahathir Mohamad.  This article chronicles evidence to assess the factors that explain Malaysian economic in growth the period 1981-98.  Important in the discussion is the role of foreign capital as Thailand and Indonesia recorded rapid growth in the period 1987-95.  With the exception of selected firms - many of which did not enjoy government support, it can also be argued that local firms growth in these economies - largely operated as rentiers merely benefited from growth in domestic demand stimulated by foreign capital.  Natural resources helped reduce the negative impact of misallocated investment by state enterprises.

Dr Mahathir Mohamad was appointed Prime Minister in 1981 replacing Tun Hussein Onn.  Mahathir launched efforts to develop local big indigenous capital.  His simple theory was to make some Malay millionaires, which would then take care of the rest.  Wealth accumulation in such a model was the basis of distribution.  Otherwise there'll be no wealth to distribute to the poor.  The implicit assumption is that only the rich entrepreneurs can generate wealth, and that they would not be blatantly corrupt.

Mahathir introduced a pro-capital East Asia style strategy but without disciplinary mechanisms.  He started infrastructure and heavy industry projects and privatization to facilitate local ownership of big firms, public utilities etc.  His pro-business approach included sending civil servants to private service and East Asia to either eventually man private operations or coordinate their operations for the government.  Although a number of the features characteristic of Malaysian industrial policy were dynamic, no mechanisms were introduced to check the abuses that would emerge as a consequence.  Heavy industries offered tremendous rents to foreign licensors - Kedah Cement, Perwaja Steel and Proton made enormous losses in the initial years.  The mid-1980s recession made it worse.  Many of these ventures had operated as rentiers insulated from foreign competition - offering windfall returns for favored cronies in control.  Losses were generally borne by the government - some were even written off (e.g. Perwaja's in 1988).

The stupendous policies resulted in a massive build-up of debt and saving investment deficits, which was aggravated by a badly managed monetary policy that generated an unsustainable appreciation of exchange rates in the period 1981-84.  The freezing of support for foreign capital along with a cyclical trough in a number of industries, especially electronics, produced a recession in 1985-86.  It can be said that the ambitious investment expansion plan without a broad-based macroeconomic base, including weak institutional foundations and macroeconomic coordination and discipline robbed the economy of precious resources.  Much of the burden was borne by oil and timber exports which off-set falling plantation commodity prices and a crash in the tin mining industry in the early 1980s.

The blame for the economic malaise then was placed on Tengku Razaleigh who was then the Finance Minister.  Most Malaysians somehow believed the rhetoric and related information distributed in the country during the 1987 UMNO Generally Assembly and subsequent national elections, not realising that industrial policy in the country was led from the front

The appointment of Tun Daim Zainuddin as Finance Minister was viewed by a number as the savior who made the recovery possible, laying the foundations for the dizzy pace of growth achieved until the early 1990s when Anwar replaced him.  He was seen as the magic man who performed the necessary economic mantras that made the miracle possible.  Indeed, the liberalization that followed from the mid-1980s was equated with his appointment.  Coming in the wake of acute social problem with rising unemployment and mass worker protests across the Western corridor, few doubted his contributions.

The major reasons for the recovery and subsequent growth, however, had little to do with Tun Daim Zainuddin.  While his tenure as Finance Minister saw a reversal in promotional policies and financial and fiscal incentives, Malaysia's recovery was largely fortuitous.  The government merely re-introduced the liberal foreign capital and export-oriented policies that it had initially done under Tun Abdul Razak's regime in the early 1970s.  External developments brought a massive inflow of capital to Malaysia, Indonesia and Thailand.  The Plaza Accord of 1985 - which forced the appreciation of the Japanese and Asian NIE currencies and the withdrawal of the GSP from the latter in February 1988 formed the basis for the relocation of substantial investment into Southeast Asia.  The devaluation of the ringgit - as with the rupiah and baht - in the mid-1980s, also helped.  Low wages, clampdown on labour organization, attractive financial incentives (similar to the early 1970s) generated the biggest wave of foreign capital inflows into Malaysia.  Manufacturing grew rapidly as American firms followed by relocating disk drive and computer assembles and expanded further their operations to supply the growing Asia Pacific market.  The share of foreign investment in gross domestic investment rose from around 10 percent in the 1980s to 24 percent in the 1990s.  Foreign capital also accounted for around 70 percent of Malaysian manufactured exports in 1991.  The leading manufacturing industry, i.e. electric and electronics which contributed 68 percent of overall manufactured exports in 1995 enjoyed foreign equity ownership of 91 percent.  Indonesia and Thailand too achieved high growth in this period.

A number of domestic ventures - both privatized state enterprises and heavy industries began reaping windfall rents from insulation and growing domestic demand.  Proton enjoying massive subsidies and excise duty protection - reaped rents from 1989 despite rising delivery times.  Kedah Cement and Perak Hanjoong benefited from growth in construction and controls on cement imports.  Perwaja, however, failed miserably even after its debts were written off in 1988, running up a debt of RM2.9bn by 1993.  Syarikat Telekom Malaysia and Tenaga Nasional Berhad saw profits expand following rapid growth in domestic demand.  Housing development companies also made tremendous profits from asset inflation in major urban and industrial locations.  So lucrative were these ventures that a number of local garment firms diversified into such activities.

Unlike the Northeast Asian economies which developed with strong structural deepening and institutional support and movement of firms to the technology frontier, Malaysian manufacturing growth was fuelled primarily by foreign investment engaged in narrowly defined low value added stages of production.  Most local firms failed to break out from specialization in simple and OEM activities.  Mahathir had announced that the Northeast Asian Economies would form the models for Malaysia to learn from when the Look East Policy was launched in 198 1, but his efforts met serious blanks as institutional drawbacks and a loss in competitiveness undermined further growth.  Also those enjoying incentives were not disciplined to deliver in international markets thereby causing considerable dissipation of rents.  Additionally, Northeast Asian investment slowed down as their economies ailed.  The many institutions introduced to support technological development - while being necessary and useful - failed miserably due to coordination problems and a lack of emphasis on results.

Manufacturing growth began slowing down sharply from late 1995 when resource costs rose due to overheating and the emergence of cheaper sites (e.g. China) abroad.  The same problems hit Thailand and Indonesia.  Many local firms - by now faced with a more liberal environment with lower tariffs and incentives - began to drift out of manufacturing into property development, stock markets and infrastructure as a consequence.  The manufacturing slowdown from late 1995 and asset inflation accelerated the process.  Malaysian political leaders targeted Soros and other currency dealers for the financial crash that occurred in 1997.  The ringgit and stock market crashed in 1997.  The ringgit against the dollar fell from a high of RM2.47 before the crisis to a low of RM4.95 against the dollar during the crisis.  The Kuala Lumpur Stock Exchange crashed from over 1400 points before the crisis to less than 300 points during the crisis.  The role of an unsustainable bubble, regional contagion effect and herd capital flight abroad caused by panic statements were brushed off as excuses painted by foreign aegis and drab local academics.  While speculation indeed has been a major cause of the eventual fall, the official government line did not acknowledge domestic weaknesses which exposed the economy to a free fall from late 1997.  The then Finance Minister, Dato Sri Anwar Ibrahim tried to limit the damage and stimulate recovery by preferring a moderate monetary policy that took cognizance of the extent of nonperforming loans, loans-GDP ratios, liquidity situation, current account deficit and exchange rate fluctuations.  A moderate interest rate was introduced - which was in between the IMF's preferred rate and the rate at the time the financial crisis struck.  While clearly seeing a need to stop speculation, Anwar chose not to scare aware foreign investment.  To prevent efficient firms from being choked by the more than usual but substantially lower than IMF preferred rates.  Anwar called for productive firms to be given preferential interest rates, disbursing substantial amounts to small and medium scale firms.  Anwar did not want to worsen the debt situation in the country.

Dr Mahathir dismissed the moderate and prudent approach of Anwar in early September and introduced drastic capital controls to shield the economy.  By declaring the ringgit invalid outside the country from October 1, he has successfully forced the return of the currency from off-shore banks back to Malaysia.  In addition, he also imposed a year requirement for share sales involving foreigners, imposing restrictions on the transfer of currencies abroad to RM1000 for Malaysian travellers and RM10000 for money transferred abroad from October 1. While some elements of such a policy could have been successful before the crisis struck - especially controls on the sale of stocks for a year to eliminate speculation, a number of the instruments face a serious incidence of failure.  While the volatility is gone, a minor bubble is likely to emerge through the revival of infrastructural projects and the property and real estate sectors from lower interest rates and easier access to capital.  The period for nonperforming loans has been extended from 3 to 6 months, allowing defaulters to continue piling up debts.  Anwar Ibrahim had earlier expressed concern over the buildup of debts, which had raised the loans:GDP ratio to 170 percent by the end of 1997, and therefore wanted to reduce it by shortening the default period to 3 months.  Emphasis on the property, real and infrastructural sectors - which structural economists have clearly argued as dependent on growth in the real sectors - is likely to reproduce the current account deficits which were successfully overturned during Anwar's reign.  Being non-tradables and very importdependent, the sector is already recreating another bubble.  Meanwhile the capital controls have cast serious doubts and coordination problems for trade-oriented investors.  The uncertainty, opaqueness and eclectic nature of banking operations has led to several leading foreign rating agencies to downgrade the credit worthiness of the country and therefore undermine its capacity to borrow from abroad.  Given the end of convertibility of the currency abroad and controls on trade, the government is likely to require considerable loans from abroad to prop up its international reserves to service its overall trade balance.  Foreign loans will also be needed if transactions increasingly involve foreign currencies and if Malaysians prefer to keep their reserves in foreign currencies abroad.  Circumstances can get only worse if foreign lenders impose higher interest rates or embargo loans to the country.  If the current policy of reviving growth in infrastructural, property and real sectors is continued for long without a recovery in the real sectors, it is likely that the economy will burst at its seams by March 1999.

All these years the Malaysian leadership has acknowledged the contribution of labour, but has scantly rewarded them.  Dr Mahathir has often criticized unions and workers for demanding wages higher than their contribution to growth.  Productivity studies - despite their flaws - have been used to show that if their wage demands do not fall the widening productivity gap against wages will force firms to leave the country.  Such a propaganda has been magnified despite the fact that GDP growth has strongly outstripped growth in wages in all the high growth years.  To prevent wage rise, Dr Mahathir even promoted deflation and later zero inflation as a means to check inflation and in that way stem a rise in money wages.  While this strategy was very appealing to workers and common humans as stagnant of falling prices would raise real incomes, its inherent flaws have been too glaring.  Any reasonable economist will tell that that its realisation will generate an economic disaster.  Producers generally rely on prices to plan production.  Falling and stagnant prices will create a downward spiral in expectations and therefore deflate the economy thereby reducing production and employment, which would than cause a recession.

Malaysia's record on distribution was good until 1990, thereafter worsening.  The seeds for the decline were already sowed since the mid-1980s and given the lag effect associated with social results, its impact on distribution became clear only after 1990.  Dr Mahathir introduced privatization projects in the early 1980s, which were accelerated under Tun Daim's reign as Finance Minister.  The preference for big capital and support for the creation of millionaires affected the Gini coefficient which rose from 0.445 in 1990 to 0.464 in 1995.  Among other reasons, the deadweight transfer of consumer surplus from consumers to firms such as Proton quite clearly affected distribution negatively.  This is one area where Anwar has done well, arguing for distributive justice and pursuing policies to alleviate hardcore poverty and reduce inequality.  Indeed, Anwar is one of the few from the then cabinet to have officially emphasized and endorsed the promotion of accountability, civil society and distributive justice in Malaysia.
 
 

A Senior Economist