Earlier today, we highlighted the street protests currently underway in the Malaysian capital of Kuala Lumpur where tens of thousands of Malaysians are calling for the ouster of Prime Minister Najib Razak whose government has been accused of obstructing an investigation into how some $700 million from the Goldman-backed 1Malaysia Development Berhad mysteriously ended up in Najib’s personal bank account.
Of course political turmoil isn’t Malaysia’s only problem. Two weeks ago, in the wake of the yuan devaluation, a $10 billion bond maturity sparked the largest one-day plunge for the ringgit in two decades, serving notice that whispers about a replay of the currency crisis that gripped the country in 1997/98 were about to become shouts.
Sure enough, Malaysia - whose FX reserves fell under $100 billion late last month leaving it with dry powder sufficient to cover only 6 months of imports and putting its short-term external debt cover at just 1X - is now at the center of the Asia Financial Crisis 2.0 discussion and central bank head Zeti Akhtar Aziz has been at pains to reassure the market that a replay of 1998’s "draconian" crisis fighting measures is not in the cards.
Because it appears the situation is set to deteriorate meaningfully in the near term, and because the country’s political situation could serve to undermine already fragile confidence, we thought it an opportune time to revisit exactly what happened two decades ago. For the breakdown, we go to BofAML.
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Capital controls - the drastic option
Concerns that Bank Negara Malaysia may re-introduce capital controls is resurfacing after the ringgit plunged past RM4 against the US dollar, with FX reserves dropping below the $100bn psychological threshold. The MYR has depreciated by 12% against the US dollar since the start of the year and by about 26% from its peak in August last year. BNM’s FX reserves fell to $96.7bn at end-July, falling below the $100bn threshold and down by about $9bn in July alone. At the peak, FX reserves were $141bn in May 2013.
During [the crisis], the ringgit collapsed by about 89% from peak-to-trough at its worst (to 4.71 from 2.49 against the USD). The ringgit has depreciated some 26% in the current crisis. During that episode, the KLCI fell by about 79% from peak-to-trough (from 1,271 to 263) at its worst. The KLCI today has fallen by only about 12% from its recent peak. Nevertheless, downside risks remain given looming Fed rate hikes, China’s RMB devaluation and the political crisis.
But depletion of FX reserves is more severe this time, down $44.7bn so far from the recent peak in May 2013, versus $8.2bn during the Asian crisis episode. Capital controls enacted in 1998 allowed BNM to rebuild FX reserves quickly, rising +$13bn to $32.6bn in a year (Chart 2).
This political crisis is probably the worst in Malaysia’s history, with no resolution in sight over the 1MDB scandal and a growing “trust deficit” with PM Najib.
Former premier Mahathir has criticized the finding that Middle Eastern sources “donated” RM2.6bn ($700m) into the PM’s accounts as “hogwash.”
Malaysia’s vulnerability is also heightened by higher leverage – household, quasipublic and external – than during the Asian crisis. Household debt is 86% of GDP, almost double that pre-Asian crisis (46%). External debt is 69% of GDP, much higher than the 44% in 1997. Even if half of external debt is MYR-denominated, foreign withdrawals will still pressure the ringgit and FX reserves. Public debt is 54% of GDP today versus 31% in 1997. Inclusive of government guarantees, quasi-public debt rises to 70% of GDP. This moreover do not include the potential liabilities from 1MDB, including “letters of support” to circumvent the use of guarantees. Only corporate debt is lower today, at 86% vs. 105% of GDP in 1997. Government-linked companies, pension and pilgrimage funds are also facing pressures to bail-out 1MDB by taking over its assets, including power plants and property projects. With the Prime Minister more focused on 1MDB and survival, the economy is in danger of slipping into another crisis.