Published by The Malaysian Reserve & Malay Mail, image from Invest In Malaysia.
Recently, the Prime Minister admitted that the weakness of the ringgit might be a cause of the rakyat’s economic woes. We are heavily reliant on food imports, and even as an oil producing country, we are a net importer – which means that Malaysia is vulnerable to price fluctuations in the international markets. In turn, this means we are vulnerable to “cost-push” (or imported) inflation.
Could it be that in his “admission”, our Prime Minister is also hinting that the solution is to fix or peg the ringgit – given historical precedent at the height of the Asian Financial Crisis?
It worked at that time – in response to intense speculative activities that developed into a contagion that started with the Thai baht and later on “transmitted” and spread to the ringgit and rupiah.
Not only were these currencies subject to a potential spiral of downward pressure (constrained only by central bank intervention in the forex market). But the contagion also spread to and infected the broader financial systems of the economies in the region, including also South Korea (and its won).
Malaysia’s own management of the financial and economic crisis was unorthodox but highly effective. Although Tun Dr Mahathir was the ultimate decision-maker, the technocrat Tan Sri Nor Mohamed Yakcop was actually the one credited for designing and devising the counter-cyclical policy measures.
These were embodied in the trinity of 1) selective capital controls (e.g. disallowing the transfer of funds between external accounts by non-residents – onshore (i.e. local) banks and countries of origin, suspension of the Singapore-based secondary trading market of the Central Limit Order Book/ CLOB accounts) ; 2) pegging of the ringgit to the USD; and 3) the non-internationalisation of the ringgit (non-recognition and non-facilitation of non-deliverable forwards/ NDFs).
These principal pragmatic and effective policy responses – in defiance of the prescription by World Bank & IMF as embodied by the Washington Consensus – ensured that the contagion was contained and the situation stabilised.
At the same time, bad debts were transferred to Danaharta, an asset management company, to manage non-performing loans (NPLs). Another agency, Danamodal, was set up to recapitalise weak financial institutions. Interest rate was kept low instead of hiked – with the anticipation of further increments gradually. So, both the external and domestic fronts were well defended despite the financial and economic turbulence.
So, Should We Then Repeat the Lessons of 1998?
The answer might depend on the safeguards surrounding the pegging of the ringgit.
As it is, the ringgit continues to be a non-internationalised currency, i.e. as non-tradable currency outside the forex market as well as Malaysia, without the sanction and approval of Bank Negara.
This is one important safeguard that will ensure that any downward pressure on the ringgit coming from the “mainstream” (i.e. the debt and capital) markets will not be exploited by speculative activities.
A Federal Reserve Bank of New York paper in May 2005 has estimated that speculation comprise between 60 per cent to 80 per cent of all hedging activities in off-shore jurisdictions (i.e. outside Malaysia), particularly Singapore’s private NDF market.
With that taken care of, pegging the ringgit in the context of a budget deficit would be taking place in a benign or less volatile environment. This assuming that our government intends to leverage on the new found currency stability to enhance the budget deficit spending. And it has to be said, in a timely, targeted and temporary manner.
We can now turn our attention and focus on market reaction to budget deficits – said to normally exert downward pressure on the currency. At the same time, budget deficits are also said to result in pushing up interest rates and crowd out private investment.
Two things could be said to the above mainstream proposition (which incidentally also emanate from the same Washington Consensus that would have worsen the Crisis and its impact on Malaysia).
Firstly, it is not a given that the currency of a sovereign government is completely beholden to the vagaries of the market. A currency-issuing government has all the monetary policy tools at its disposal to manage and manipulate the situation. Of course, the central bank can always intervene in the forex.
But the point is that the government could always issue ringgit-denominated debt and sukuk bonds to increase foreign ownership (to be capped at 35 per cent). This will ensure (increased) demand for the ringgit.
Why Would There Be (Increased) Demand (For Our Currency)?
For one, if the government makes clear that it considers the national debt differently from the dollar-denominated 1MDB debt (for repayment purposes), then all is safe and sound. Really?
Well, as a well-known reminder: Malaysian Government Securities (MGS), for example, is a risk-free and safe-haven asset.
And then, the central bank is always in control of the bond yields. This has been illustrated by quantitative easing (QE). And even in Japan’s case, we saw how the Bank of Japan extended its asset purchases to the stock market, and hence “qualitative easing” (QQE) – in an attempt at “yield curve control”.
Our unorthodox monetary policies never embraced and so we have never experimented with QE, let alone QQE (the two type of “monetary easings”).
Should We Go For it When Time Comes? The Short Answer is: There is No Need
Bank Negara is already practicing a very limited and mild form of debt monetisation. That is, Bank Negara already have in place the institutional and regulatory framework (since 2005) to limit purchases of MGS at 10% for both primary and secondary markets.
The threshold could be gradually increased and of course needs to be capped (announcement to be made via forward guidance, practice note) – if need be – but only to stabilise capital outflows.
Secondly, and following on from the above, the government acting via the central bank could always create fresh deposits by fiscal injection of funds as well as debt monetisation. In other words, fund would (re)appear in the accounts of commercial banks with the central bank as reserves, and this would facilitate the Kuala Lumpur Inter-Bank Offered Rate (KLIBOR) transactions.
The high-powered money (HPM) would then be leveraged by the commercial banks – not necessarily to be lent out but to be exchanged on demand. Or even to indirectly fulfil the loan-to-deposit (LDR) ratio requirement in expectation of the growing pool of credit-worthy customers.
Banks, would then offer a higher interest rate to attract deposits. Expecting stimulation of aggregate demand caused by fiscal deficit would help banks buck the trend of low or compressed net interest margin (i.e. the difference between the interest rates of the banks’ lending/ income and borrowing/ payment).
So, there is no crowding out here. Moreover, excess bank reserves in the closed KLIBOR system would cause intense competition in inter-lending among the commercial banks. The effect would be downward pressure on the market interest rate.
Any “crowding out” of domestic direct investment (DDI) which has declined from since the Asian Financial Crisis – as a percentage of GDP – would not be due to fiscal policy per se but industrial and capital market policies such as the effectively defunct 30 per cent equity requirement for initial public offerings (IPOs) on the Bursa as it is now subsumed under the public shareholding spread (12.5 per cent).
Equally plausible would be the nexus between public and private investment – alongside an integrated supply chain dominated by the State to implement bumiputera empowerment policy goals.
If That is the Case, the Situation Represents a Crowding in (!)
In conclusion, pegging the ringgit might prove to be a worthwhile policy solution to consider even if as an ever so timely, targeted and temporary manner.
What is important is not only the purchasing power of the rakyat but that of the government. If the government harnesses its currency issuing capacity combined with a fixed rate, such a policy approach will go a long way in easing the burden of the rakyat.
Not least, the rakyat will be doubly assured by the government’s commitment – with these two concrete policy measures as expressed in a robust fiscal deficit and a stable ringgit.
Jason Loh Seong Wei is Head of Social, Law and Human Rights at EMIR Research, an independent think tank focused on strategic policy recommendations based on rigorous research.
