The city of New York recently hosted the spectacles of both our Financial Secretary Donald Tsang Yam-kuen and Malaysian Prime Minister Mahathir Mohamad asking for understanding of their economies from big investors. But while Mr Tsang invariably stresses the free market nature of our economy on such occasions, Dr Mahathir proudly and defiantly proclaimed that his will continue going the other way with its clamps on capital flows. And, he crowed, as one in the eye to big American speculators, there is now proof that these strictures were the right prescription, contrary to what New Yorkers may have told him. Malaysian economic growth topped 4 per cent in the second quarter with an even better result expected in the third, while the country's trade surplus so far this year has amounted to an astounding 25 per cent of gross domestic product. Things are definitely up and it certainly looks like a victory for the decision in September last year to freeze the currency at M$3.80 (about HK$7.76) to the US dollar and boot out speculators. But look a little deeper into the figures and it just comes out as another case of party now, pay later. Two things have propelled Malaysia back. The first was drastically cutting imports, primarily of investment goods and not consumer goods, in case you ask. This created the big trade surplus. Without it the country would still be mired in by far the worst recession it has ever suffered. The other, as the first chart shows, was cutting short-term interest rates to less than a third of the level at which they stood before the currency was frozen, utterly disregarding the trend of US rates during the period despite a linkage to the US dollar. The result, as the second chart shows, was that the growth rate of the narrow measure of money supply, M1, went shooting back up as demand deposits came pouring back into the banking system. Now you may think it would require higher interest rates to attract deposits back to banks but, as a recession eases, it is actually lower rates. The key is whether people have money to deposit and they start to get it when low rates start an economy ticking over again. But have the banks been lending this money? No, they have not. They are scared to do it and overall loans in the system are still declining by about 5 per cent year over year. Instead they have parked the money with the central bank, Bank Negara, which also does not know what to do with it and has therefore invested it abroad as foreign reserves, neutralising needed capital inflows. These foreign reserves have risen by M$65 billion over the last year. That comes to US$17 billion, or the equivalent of 23 per cent of GDP. It is an enormous figure. And the result of investing all this needed money abroad rather than at home has been that new capital investment in Malaysia has withered. It stands at barely half of what it was in mid-1997. That is the real cost of your exchange controls, Dr Mahathir, and the bill is coming due soon. 3mon01gbz
