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Malaysia’s Election: A Surprise Win For Reform

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Malaysia’s Election: A Surprise Win For Reform

Putting aside the political fall-out, the economic implications could be huge.

Malaysia’s Election: A Surprise Win For Reform

Mahathir Mohamad reacts as he speaks during a press conference in Kuala Lumpur, Malaysia (May 10, 2018).

Credit: AP Photo/Andy Wong

The opposition’s shock win in Malaysia’s general election has delivered the return of former leader Mahathir Mohamad and ended the ruling coalition’s 61-year grip on power. Along with politics, economics in the Southeast Asian nation could never be the same again.

Surprising pundits including here at The Diplomat, Wednesday’s general elections saw Mahathir’s four-party opposition bloc, Pakatan Harapan, win an estimated 113 seats out of 222 as of Wednesday evening local time. Mahathir’s coalition is expected to have the support of at least 123 lawmakers.

The result has made 92-year-old Mahathir the world’s oldest elected leader, returning the former authoritarian ruler to power some 15 years after leaving office.

In contrast, Mahathir’s former party, Barisan Nasional (BN), led by scandal-hit former Prime Minister Najib Razak, had secured only 79 seats, despite its control over local media, electoral gerrymandering, and its efforts to block campaigning by the opposition.

“What we want is to restore the rule of law,” Mahathir said ahead of his swearing in Thursday evening as the nation’s seventh prime minister since independence.

Mahathir’s victory, achieved with the support of his former deputy Anwar Ibrahim, was attributed to rising cost of living pressures and Najib’s reported links to a multi-billion-dollar corruption scandal over state investment fund 1MDB. The former leader also successfully drew votes from the nation’s ethnic Malay majority, which has traditionally supported BN due to an elaborate system of racial preferences.

“This upset ranks up there with Brexit and the Trump election,” BNY Mellon Investment Management analyst Aninda Mitra told Reuters. “I believe the ringgit will come under pressure as policy continuity will come under a cloud.”

While Malaysian financial markets are closed this week, overseas investors showed their nervousness over the surprise result. The Malaysian ringgit dropped 4 percent in offshore trading, while a Malaysian equities fund, iShares MSCI Malaysia ETF, fell by as much as 9.5 percent to its lowest level since April 2017.

Mahathir has pledged to tackle inflation, which rose last year at its fastest pace in nearly a decade following the introduction of a 6 percent goods and services tax (GST).

Pakatan Harapan has pledged to abolish the GST while also reintroducing fuel subsidies, measures that analysts at Moody’s Investor Service have described as potentially “credit negative” for Malaysia’s sovereign debt rating.

During the campaign, Najib criticized the opposition’s manifesto as “a formula for disaster,” saying it would swell the nation’s debt to more than 1 trillion ringgit ($250 billion). The BN-led coalition had pledged to create 3 million new jobs and raise wages, among other measures aimed at its core voters.

Yet Capital Economics had warned that the Najib government’s expected re-election would stifle reform and prevent Malaysia from escaping the so-called “middle-income trap.”

‘Far-Reaching Consequences’

In a report Wednesday, the London-based consultancy said Mahathir’s win would have “far-reaching consequences for the economy,” both negative and positive.

“In the near term, there is likely to be a sharp deterioration in the fiscal position, if as expected, Mahathir pushes ahead with plans to scrap the country’s Goods and Service Tax. More positively, however, his victory opens up the possibility that Malaysia will finally start to tackle some of the institutional problems that are holding back the country’s long-run prospects,” said Gareth Leather, senior Asia economist and Alex Holmes, Asia economist.

Fiscally, scrapping the GST puts at risk some 42 billion ringgit in tax receipts, compared to the 17 billion ringgit raised by the former sales and service tax that Pakatan Harapan plans to reintroduce. The GST also helped broaden the government’s tax base, given that only 2.3 million Malaysians pay income tax among a nation of 31 million people.

“With spending likely to rise sharply this year, a big increase in the budget deficit looks inevitable,” Capital Economics said.

“Given Malaysia has one of the highest levels of public debt in the region, at 54 percent of GDP, sooner or later the government is likely to come under pressure from financial markets to get fiscal consolidation back on track.”

Mahathir’s victory could also threaten planned Chinese-backed investment projects, including an expansion of Malaysia’s port facilities and the new East Coast Rail Link, leading to a slowdown in investment growth, the consultancy said.

On the plus side however, “Mahathir now has a clear mandate to carry out his pledge [to] clean up the government.”

Malaysia ranked 62nd in the 2017 “Corruption Perceptions Index 2017” by Transparency International, as highlighted by the 1MDB scandal, together with a lowly 145th placing in the 2018 World Press Freedom Index. It also ranked 24th in the World Bank’s “Ease of Doing Business” survey, placing it well below neighboring Singapore (2nd), marked by a 111th rating in ease of starting a business.

In addition, the new government has the opportunity to reform the affirmative action system. Critics including The Economist have accused the system of entrenching rather than quelling ethnic tensions and encouraging a “brain drain” of talented Chinese and Indian Malays overseas, sapping economic growth.

According to Capital Economics, “sometime over the next couple of years Mahathir is expected to cede power to his one-time fierce rival, but now political ally, Anwar Ibrahim. In the past Anwar has campaigned in favour of changing the system, raising the prospect that it could eventually be reformed or even abolished.” Anwar was jailed in 2015 on sodomy charges, which critics say were politically motivated to sideline the opposition leader. Mahathir has promised to seek a royal pardon for Anwar.

In the meantime, Malaysia’s central bank kept its policy rate steady Thursday at 3.25 percent, providing some reassurance to investors amid the heightened policy uncertainty. Capital Economics suggested rates likely would remain unchanged this year following a drop in inflation to just 1.3 percent in March, helped by lower transport prices.

In the short term, investors can expect a “rough ride” ahead, warned National Australia Bank’s Christy Tan.

“While the result is cheered by Malaysians, this means more uncertainties for international investors,” she told Bloomberg News.

Yet while initially seemingly negative for Malaysian stocks and the ringgit, other analysts are more optimistic.

“We think policy uncertainty will fade as the incoming government clarifies its position,” Affin Hwang Asset Management’s Gan Eng Peng told the financial news service.

“Looking a bit further, it is easy to see what the script could be — Malaysia will be touted as a reform play after a reset on 60 years of policies and on the back of a healthy economy.”

Having ruled Malaysia previously for 22 years, Mahathir certainly knows where all the policy levers are. Delivering on his coalition’s reform promises is the next challenge for the aging leader, and one that could prove even harder than toppling one of Asia’s longest-ruling governments.