Malaise reversal: after a 20-year boom, Malaysia's miracle economy was hit hard by the Asian crisis. Attempts to stimulate growth are gaining results, but progress is slow.

A sustained period of economic growth from 1976 to 1996 led Malaysia to be labelled a "miracle economy", along with countries such as South Korea, Thailand and Indonesia. The emphasis was on exports, and electronic components and other manufactured goods became the country's economic mainstay In the early 1990s exports grew at an average of more than 20 per cent a year.

The financial crisis of 1997 changed all that. The value of the ringgit fell drastically, stock exchange values plummeted and banks were hit by a sharp increase in non-performing loans and a decline in the value of pledged collateral. At one point the ringgit's value sank to RM4.88 to the dollar. The Kuala Lumpur Composite Index (KLCI), a barometer of stock values, fell from 1,250 in early 1997 to 300 by August 1998. GDP had been growing at about 10 per cent before the crisis. During the crisis it fell to -7.36 per cent, although it has since returned to positive growth.

In a bid to restore confidence, the government introduced selective capital controls, pegged the ringgit at RM3.80 to the dollar and recapitalised the banking system, which had been weighed down by non-performing loans. It achieved this through special vehicles such as the asset management company Danaharta and the recapitalisation company Danamodal. Government-initiated mergers have also strengthened the country's financial institutions, and there are now plans for further consolidation.

MALAYSIA FACT FILE

Malaysia consists of 11 Malay states plus Sabah and Sarawak. The country is populated by more than 23 million Malays, Chinese and Indians, as well as the Kadazans of Sabah and the Ibans of Sarawak. It has a constitutional monarchy and the king is elected every five years from among the sultans. The current government is a coalition of parties under the banner of the Barisan National.

Since independence, the country has moved from being largely agrarian to industrial. It exports to the US and Europe a wide range of products, particularly electronic and electrical goods, crude oil, liquefied natural gas, textiles, clothing and footwear, palm oil and sawn lumber.

The government has been working hard to kick-start the economy ever since the crisis began. It has run deficit budgets six years in a row and the next one is also expected to be in deficit. It has attempted to stimulate growth with public expenditure, tax reductions and incentives to encourage domestic consumption and private-sector investment. In May 2003 the Sars scare prompted another stimulus package to halt the expected decline in growth caused by fear of the disease.

Trading on the Kuala Lumpur stock exchange has increased gradually since 1998. The KLCI recovered from 300 to 730 by August 2003. This has not been a spectacular improvement and other bourses in the region have seen bigger rises. The Sars scare affected local and regional capital markets in the first half of the year, but fears have receded and stock prices are recovering steadily. Some economists attribute the medicare performance of securities to measures taken at the height of the Asian crisis. They argue that these benefited the real sector of the economy while the financial markets bore the burden.

Trading volumes on the stock exchange have recovered, but not enough to see significant returns. The securities industry has substantially changed its fee structure and trading hours to survive, but this has not generated the anticipated returns. Alack of adequate foreign participation in the Malaysian capital market may partly explain the low volume, but there are other reasons for this. One is that low volatility because of low volumes can result in higher liquidity risk premiums.

Although the government's selective measures, deficit budgets and stimulus packages have largely succeeded in pushing the economy back into positive growth since 1998, after the 11 September terrorist attacks in the US in 2001 the rate fell again to near zero (see graph). In 2002 it bounced back to 4.2 per cent--a great improvement. Much of this can be attributed to strong domestic demand and healthy export performance, but it has stemmed largely from public-sector, not private, expenditure.

The Asean Free Trade Area is a significant power in the economic liberalisation and integration of south-east Asian nations. It aims to bring intra-regional tariffs down to between 0 and 5 per cent over a 15-year period that started in 1993 to boost competitiveness and attract more foreign direct investment (FDI) into a region that has declined while China has become an economic powerhouse. Before 1998 Malaysia was second only to Singapore in terms of attracting FDI, but competition from China and elsewhere has eroded this advantage. Whereas Japan used to invest most, more money now comes from the US and Europe. FDI into Malaysia reached a peak at over RM7 billion (1.1 billion [pounds sterling]) in 1996, but this had dropped below RM4 billion by 2000.

Malaysia is working to boost its global competitiveness. Financial institutions are due for further consolidation and stimulus packages and deficit budgets are boosting the economy, but the terrorist attacks in the US and Sars nearly derailed these efforts. The economy is expanding again, but a return to pre-crisis growth rates is still a remote possibility.

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Arumugam Thillaisundaram FCMA is associate professor at the University or Malaya, Kuala Lumpur