The subsequent downshift in economic growth due to premature deindustrialisation of our economy post-AFC was also the direct result of government policies, chiefly the imposition of capital controls. This set the nation on its current economic trajectory. Capital controls severely damaged foreign and domestic investor confidence while the ringgit-US dollar peg, set at artificially low levels, protected inefficient businesses and distorted allocation of resources. Investments as a percentage of GDP fell sharply and never recovered. Malaysia failed to move up the value chain and manufacturing value-added as a percentage of GDP declined over time. As a result, there was limited productivity growth and consequently, the rise in wages and incomes also lagged. Malaysia became less competitive and is stuck at the lower end of the global supply chain, with limited pricing power and falling profitability. In the absence of underlying strong productivity growth, the depreciation of the ringgit became the default tool to gain “competitive advantage”. This further hurt Malaysian purchasing power in the world.
Another major development that emerged post-AFC, which further hindered private investments, was the increased presence of the state in the domestic economy. Specifically, the rise of government-linked companies (GLCs), owned and controlled through the various government-linked investment companies (GLICs) — primarily Khazanah Nasional Bhd, the Employees Provident Fund (EPF), Permodalan Nasional Bhd (PNB), Lembaga Tabung Angkatan Tentera (LTAT), Kumpulan Wang Persaraan (Diperbadankan) (KWAP) and Lembaga Tabung Haji (TH) — and ultimately, the Ministry of Finance (MoF).
Post-AFC, these state-owned entities were instrumental in rescuing financially distressed private companies owned by politically connected bumiputera businessmen that were deemed to be of national strategic importance. For instance, Khazanah took over Halim Saad’s listed companies, Renong and UEM (one of the largest construction, property and infrastructure groups in the nation) as well as national carrier Malaysia Airlines from Tajudin Ramli. Telekom Malaysia eventually absorbed Tajudin’s Technology Resources Industries and its stake in cellular company, Celcom, while the EPF subsequently acquired Malaysian Resources Corp Bhd (MRCB) from another politically connected group.
Basically, GLCs replaced the cadre of business elites who were anointed local champions to execute the government’s trickle-down economic policy but could not survive the AFC. The government’s control and influence over Corporate Malaysia, therefore, shifted from the hands of politically connected tycoons to state-controlled entities — in another word, institutionalised.
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Chart 1 shows the impact of the depth (ownership) and breadth (scope) of state-owned entities (GLICs-GLCs) on free market competition in the Malaysian economy relative to other countries. From a range of 0 to 6, Malaysia ranks near the least competition-friendly nations due to heavy state-ownership distortions. To be sure, the data (used for the Product Market Regulation indicators developed by the Organisation for Economic Co-operation and Development [OECD] is qualitative — based on surveys and analysis of factors such as number and spread of state-owned entities, their control of businesses, operational transparency, management autonomy and board independence, preferential treatments (such as regulatory advantages, preferential financing terms, subsidies and protective barriers) received as well as presence in non-strategic, competitive sectors — but, we think, instructive. The OECD estimates that reducing the role of GLCs in the economy to OECD average could raise GDP per capita by 1.6% after five years and a cumulative 2.1% in 10 years. Whether the numbers are accurate is not important; the point is the Malaysian economy overall will be more efficient and effective. And we are not the only ones saying this — the government does too (more on this later).
GLC dominance across sectors is crowding out private investments
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Malaysian GLCs are disproportionately large companies — nine of the 13 largest listed companies in the nation are GLCs. In total, the 41 GLCs account for 55% of assets, 40% of revenue, and 42% of equity and market capitalisation for the 1,043 companies listed on Bursa Malaysia. They dominate not only sectors that are natural monopolies or of strategic national interest such as utilities but also commercial sectors like banks, property and plantation (see Charts 2 and 3).
Yes, there is a legitimate role for the government in business — for example, in providing critical public goods and services at affordable prices or addressing market failures and national security concerns, or to play a catalytic role in strategic sectors (with clearly defined exit strategy) and nation-building. One could even argue that GLCs did serve a purpose post-AFC, given the collapse in confidence, and private and foreign investments. GLICs and GLCs stepped into the void, providing fiscal support to keep the economy going. Even so, we question if the bailout of highly leveraged, privately-owned companies was the best course of action. The preferred route should have been to let market forces wash out inefficiencies and drive the necessary restructuring and reforms. Indeed, many continue to believe it was no more than the bailing out of powerful vested interests at that time.
Other nations like South Korea, Indonesia and Thailand saw highly indebted and inefficient business entities fold. This is capitalism — the weak perish for new shoots to emerge. In Malaysia, the opposite was the case. The large, inefficient and indebted entities were showered with tender loving care. Yes, some shareholders lost control, but none were bankrupted. In other words, Malaysia institutionalised “inefficiency”.
Contrast this with South Korea, which endured massive short-term pain, but businesses that survived emerged stronger, having been forced to invest in research and development (R&D), to innovate, be more productive and competitive in the global market.
In any case, what should have been temporary fiscal support during crisis times has since turned into a domination of Corporate Malaysia that is now widespread and pervasive across almost every sector of the economy. The line between strategic and commercial has blurred. GLCs are now competing directly with private businesses in non-strategic sectors and crowding out private investments. A previous study published as part of the Asian Development Bank Economics Working Paper Series, “Are Government-Linked Corporations Crowding out Private Investment in Malaysia?”, tested the empirical relationship between GLCs and private investment. It concluded that “strong GLC presence in an industry reduces the amount of investment undertaken by other firms in the same industry. Conversely, when GLCs do not dominate an industry, the impact on private investment is not significant”.
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This is not surprising. GLCs get preferential treatment and access to the government — for instance, in licensing, contracts and procurement — as well as easy access to credit and concessionary financing terms with implicit, if not explicit, government guarantee. When private businesses perceive that GLCs have unfair competitive advantages, and the playing field is not level, it makes little sense for them to enter the market at all. Or worse, because GLCs-GLICs are owned by the people, it is easier for the government to justify their preferential privileges — even when they are less competitive. And because private entrepreneurs also know this, they seize joint-venture opportunities with GLCs to win contracts, deals and projects.
All this is discouraging to micro, small and medium enterprises (MSMEs), which are the backbone of the economy. Studies by the World Bank have shown that MSMEs in Malaysia have a much smaller export footprint compared with those in the Philippines, Vietnam and Indonesia (see Chart 4).
The 12th Malaysia Plan (12MP) notes that MSMEs are lagging in productivity growth, due in part to their lack of scale and low-value activities. This is despite hundreds of government support programmes. Why? We have previously written about Malaysia’s cumbersome maze of regulations, red tape and lack of transparency that make doing business difficult and costly.
In fact, as far back as 2010, the government had acknowledged the crowding-out effects of GLCs. The New Economic Model for Malaysia, intended to replace the New Economic Policy (NEP), highlighted the need to rationalise the government’s participation in business and re-energise the private sector. Its stated objectives include divestment of non-strategic GLCs, less government interference in commercial sectors, creation of a fairer competitive market environment and re-engineering GLCs to support instead of competing with the private sector. A central pillar of the Economic Transformation Programme was to reduce the dominance of GLC-GLIC presence in non-strategic sectors of the economy. Subsequent economic development blueprints prepared by the Economic Planning Unit and MoF, the 10MP and 11MP, emphasised the importance of private sector-led productivity growth, innovation and entrepreneurship in the transition to high-income nation. The 12MP states that the country’s productivity growth is lagging behind that of its neighbours due primarily to uncompetitive business practices and restricted market access, especially for start-ups and small businesses (see Chart 5).
Yet, in reality, actual divestments were few and far between. Even when GLICs listed some of their holdings on Bursa, they retained controlling stakes, as well as board, management and strategic control. At the same time, GLCs continued to expand into other commercial sectors of the domestic economy.
The heavy presence of GLICs on Bursa, we believe, has dampened retail investor participation — by stamping out price volatility and, therefore, trading opportunities. When there are fewer buyers in the market, prices don’t go up. This is what has been happening.
The fact is that the government does not need controlling stakes or ownership, even for strategic sectors like utilities, and certainly not retail telecommunication services. It holds a golden share in listed companies that are providing critical public services like Tenaga, Telekom, MISC and Malaysia Airports to ensure the protection of national interests. And, where necessary, by regulation. The banking sector, for instance, is already very tightly regulated by Bank Negara Malaysia.
Alas, the government is doubling down on strengthening the nexus between state and business. The recently announced Government-linked Enterprises Activation and Reform Programme, or GEAR-uP — a flagship initiative led by the MoF under the Madani Economy framework — calls for GLICs and GLCs to invest RM120 billion ($36.5 billion) over five years in the domestic economy, including in semiconductors, healthcare and the green industry — sectors where private enterprises are already operating effectively. In short, more crowding out.
GLCs compete with the private sector for resources like land, materials, labour and capital, including bank borrowings. Banks prefer to lend to GLCs and GLICs as they see fewer risks on these loans. One, this diver›ts capital from other private companies; and two, the banks themselves become less disciplined in their lending. Case in point: the massive failure of an oil and gas (O&G) service provider closely associated with the government.
In a sense, GLICs are “sovereign debt” rather than “sovereign wealth” entities. The definition of a sovereign wealth fund is one where its money is generated from the nation’s O&G exports (Norway, the UAE and Saudi Arabia) or from forex reserves (Singapore, China and Hong Kong). Our GLICs, on the other hand, rely on debts for most of their capital needs, with strong implicit — if not explicit — government guarantee. Many large sovereign wealth funds, including Norway GPFG, China Investment Corp (CIC), Abu Dhabi Investment Authority (Adia) and GIC (Singapore), are barred from investing domestically or have a very limited domestic footprint — precisely to avoid local market distortions and crowding out the private sector.
The GEAR-uP programme also aims to double the investment returns for listed GLCs to 7.5% from the current 3.5%. Realistically, can this be achieved? And let’s hope this will not be at the expense of the Malaysian middle class through further hikes in medical costs, tolls at privatised roads and so on.
Additionally, GLCs are expected to achieve non-financial outcomes in line with prevailing government interests — that is, not necessarily the same as nation and public interest, and at times, in conflict with commercial reality. For instance, undertaking mega infrastructure projects that generate political visibility but have poor utilisation and economic returns. Or take the case of the recently announced living wage policy that all GLICs will implement — where all permanent employees must earn a monthly salary above RM3,100. As we have said before, wages must be commensurate with skill set, and wage increases with productivity gains. When wages exceed productivity, costs rise and either margins compress and/or consumers pay more. The government does not always know best. Wages must be determined by market forces.
Financial metrics between GLCs and privately controlled companies listed on Bursa operating within the same industry show underperformance by the GLCs. Charts 6 to 8 show the aggregate data, derived from the financials of individual companies, which are omitted here as our intention is not to turn anyone defensive.
Conclusion
Malaysia’s economic structure has changed little since the 1990s, still stuck in the low-mid value, low productivity and low wage segments of the global supply chain. Even our MSMEs are predominantly low-value, unable or unwilling to scale up, which in turn limits economies of scale. The majority invest very little in R&D and are slow to adopt technology, hampering productivity gains and cost competitiveness. As a result, there is little innovation and MSMEs have a marginal export footprint. Start-ups and MSMEs have limited access to capital, without some form of asset collateral. Many are hampered by banks preferring to lend to GLCs. Indeed, most of our MSMEs are entrepreneurs of necessity with limited desire to innovate rather than opportunity-driven transformative enterprises.
MSMEs are the backbone of the economy — the largest employer, the best source for innovation, potential for productivity gains (from current low base) and high growth. As history has proven, transfer of knowledge from foreign investments is a mirage, as is their interest in development of domestic linkages and ecosystem. Our manufacturers are and remain only a very small part of the multinational corporations’ (MNCs) global supply chain. And why should that be surprising? No MNC or foreign investor will share intellectual property or IP, which is their unique competitive advantage.
Productivity must, therefore, be driven by home-grown innovation and technological advancements. South Korea has proven this point to the world, with the structural reforms undertaken after the AFC. In other words, all those efforts and incentives to attract FDI could be better spent on helping the domestic private sector (not rent-seekers).
But the Malaysian private sector is being held back, primarily by government bureaucracy, administrative burdens and a lack of transparency, which encourage corruption and raise compliance costs and total costs of doing business, as well as disadvantaged by preferential treatments accorded to GLCs.
Two weeks ago, we wrote about the unsustainability of government expenditure (on its current trajectory), ineffective and wasteful spending that will lead inevitably to higher “taxes”. And by “taxes”, we mean not only income tax, the sales and service tax or even the pullback of subsidies, but also the rising cost for education and healthcare being asked of the middle and upper middle-income families. Not only is the government outsourcing critical public services to the profit-driven private sector, but it has also now jumped on the bandwagon, extracting profits from public assets. Case in point: the Rakan KKM project using the capacity of the public healthcare system to make a profit from the people.
Our government — past and present — has focused on income-wealth redistribution and handouts instead of generating growth and enlarging the economic pie. This is short-term popularism.
Help the underprivileged be more efficient and competitive — for instance, allocate more money for developing and broadening vocational training, apprenticeship and the internship system so that they can sustainably improve their living standards and livelihoods. Handouts create dependence, complacency and entitlement. Such dependency will weaken the recipient’s motivation to work hard and be more productive. Welfare must be the last resort for people, not a demand and entitlement that others must pay for (see Chart 9).
Worse, it has fostered a culture that penalises high performers instead of celebrating success, creativity and diversity of ideas. The drive for innovation comes from the aspiration for upward mobility, enabled in a competitive market environment with the knowledge that success will be recognised by society and hard-earned gains will not be unfairly expropriated.
The truth is that the Malaysian economy — and equity market — need more private sector-driven dynamism. Without it, there will be negative repercussions on Malaysia’s economic prospects, especially in the artificial intelligence (AI)-driven world that rewards knowledge and productivity over low-skill, low value-added labour. Case in point: Our semiconductor sector is underperforming the industry as global demand growth gravitates towards high-value AI-related products and services. This trend is irreversible. As we said before, continued advancements in AI will favour the US and China, at the expense of the rest of the world and especially smaller nations with no competitive advantage. In a future where knowledge and talent determine success instead of licences, rent-seekers will have less and less available to steal.
Here’s the thing, we already know all these. And so does the government, as acknowledged in many of the country’s past and current major economic development blueprints. Yet, we see the government doubling down on perpetuating post-AFC policies. In the most recently unveiled 13MP, it once again reiterated the NEP objectives of eradicating poverty irrespective of race, religion or region. That necessarily means growing the economic pie using the nation’s scarce resources — including capital, land and labour — most productively, so that everyone is better off. But at the same time, initiatives like GEAR-uP call for greater GLIC-GLC participation in the economy.
Regardless, the more important question is, is there an administration with the courage to make the difficult but necessary decisions, to undertake real reforms that have thus far only been talked about?
Last week, we explained why refocusing on private sector-led growth and productivity in a transparent and competitive domestic market, where the government is the enabler and facilitator — and where necessary, regulator — is all the more urgent now, in the emerging global trade system that is being shaped by US President Donald Trump’s trade policy. After years of progressive left, the world is taking a hard right. Small nations cannot afford to go against the tide. And until Malaysia does something about it and not be stuck in the business-as-usual mode, we will not be able to escape the middle-income trap.
The Malaysian Portfolio fell 0.4% for the week ended Aug 20. Insas Bhd – Warrants C (+25%) and LPI Capital (+0.8%) were the two gainers for the week, while United Plantations (-3%), Kim Loong Resources (-1.3%) and Hong Leong Industries (-0.8%) were the biggest losers. The loss pared total portfolio returns to 182.5% since inception. This portfolio is outperforming the benchmark FBM KLCI, which is down 13.2% over the same period, by a long, long way.
The Absolute Returns Portfolio also ended lower last week, falling by 0.1%. Total returns since inception now stand at 31.6%. The top three gaining stocks were Trip.com (+3.8%), Berkshire Hathaway (+2.4%) and ChinaAMC Hang Seng Biotech ETF (+1.6%), while the notable losers were Alibaba (-4.6%), Goldman Sachs (-3.2%) and CrowdStrike (-3%).
The AI Portfolio, on the other hand, gained 0.1% for the week. The portfolio is currently down by 2.6% since inception. The top gainers were RoboSense (+7.2%), ServiceNow (+3.1%) and Workday (+2%) while the big losers were Alibaba (-4.6%), SAP (-2.3%) and Intuit (-1.8%).
Disclaimer: This is a personal portfolio for information purposes only and does not constitute a recommendation or solicitation or expression of views to influence readers to buy/sell stocks, including the particular stocks mentioned herein. It does not take into account an individual investor’s particular financial situation, investment objectives, investment horizon, risk profile and/or risk preference. Our shareholders, directors and employees may have positions in or may be materially interested in any of the stocks. We may also have or have had dealings with or may provide or have provided content services to the companies mentioned in the reports
