Malaysia WT/TPR/S/31
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I. THE ECONOMIC AND TRADE ENVIRONMENT
(1) Introduction
1. During thepast20years, Malaysia hastransformed itselffromaneconomy largely dependent
upon exports ofprimary products (notably tin,natural rubber, tropical timber, palm oilandother
agricultural products) intooneinwhich exports ofmanufactures predominate. Atthebeginning of
theFirstIndustrial Master Plan1986-95, agriculture andmanufacturing accounted forroughly thesame
proportions ofGDP; tenyears later, theshare ofmanufacturing wasmore thanthree times larger
thanthatofagriculture.TheSecondIndustrialMasterPlan1996-2005envisagesthefurtherdevelopment
bothofthemanufacturing sector andofbusiness support services. TheIndustrial Master Plans are
stepsintheGovernment 'sstrategy "topropel Malaysia tobecome afullydeveloped industrial nation
by2020".1Theindustrial strategy contained inthese Master Plans aswellasinconsecutive five-year
plans, hasbeencoupled withsound macroeconomic policies, resulting inlowinflation andahighlevel
ofemployment.
2. Since theprevious Trade Policy Review in19932,Malaysia 'sgrowth hassignificantly exceeded
eventheambitious targets setoutintheSixth Malaysia Plan(1991-95).3Industrial policy hasalso
paidcarefulattentiontothemulti-ethnicnatureofMalaysiansociety(ChapterII(2)(i)).Thishasinvolved
thepromotion offullemployment, theupgrading ofskills andanacceptable distribution ofasset
ownership among allethnic groups. Thehighratesofgrowth achieved under these andprevious plans
haveimproved theoverall well-being ofthepopulation: GDP percapita hasgrown, unemployment
(already lowin1993) hasdeclined further, infant mortality hasdecreased andlifeexpectancy has
increased (Table I.1).
Table I.1
Basic economic andsocial indicators, 1990-96
1990 1991 1992 1993 1994 1995 1996
Population ('000) 17,891.0 18,319.8 18,758.8 19,208.3 19,668.7 20,140.0 ...
Urban population (percentoftotal) 49.8 50.6 51.4 52.1 52.9 53.7 ...
Labour force ('000) 7,042.0 7,204 .0 7,370.0 7,627.0 7,834.0 8,140.0 8,398.2
Labour force femalea47.3 47.5 47.6 46.1 46.5 47.1 47.2
Unemployment (percent) 5.1 4.3 3.7 3.0 2.9 2.8 2.6
Total fertility rate(births perwoman) ... ... 3.6 3.5 ... 3.4 ...
Infant mortality rate(per1,000 livebirths) ... ... 13.0 12.6 ... 11.8 ...
Lifeexpectancy atbirth(years) ... ... 70.8 71.0 71.2 71.4 ...
Primary school enrolment ratio(percent) 93.0 93.0 93.0 93.0 ... ... ...
Primary female school enrolment ratio(%) 93.0 93.0 94.0 93.0 ... ... ...
Secondary school enrolment ratio(%) 56.0 58.0 60.0 59.0 ... ... ...
GDP (US$ million)b42,780.8 48,136.8 58,309.3 64,180.1 72,512.3 87,327.5 98,106.0
GDP percapita (US$) 2,391.2 2,627.6 3,108.4 3,341.3 3,686.7 4,336.0 ...
Exports, f.o.b. (US$ million) 29,445.9 34,338.7 40,757.1 47,103.1 58,818.7 73,737.6 78,150.9
Imports, c.i.f. (US$ million) 27,840.5 35,210.2 39,087.8 44,416.5 57,570.6 75,160.9 76,082.3
... Notavailable.
a Total number offemales economically active asapercentage oftotalnumber offemales inworking-age population.
b Atcurrent market prices.
Source: Dataprovided bytheMalaysian authorities; andUNSTAT, Comtrade database.
1Ministry ofInternational Trade andIndustry (1996).
2GATT (1993).
3Government ofMalaysia (1990).WT/TPR/S/31
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(2) Major Features oftheMalaysian Economy anditsRecent Performance
3. Since1992,Malaysia'sGDPhasgrownatanaverageannualrealrateof8.6percent(TableI.2).
During thesame period, unemployment fellbelow 3percent(Table I.1),while inflation wasaround
3.5percent(Table I.2). Thisimpressive economic performance islargely attributable tosound
macroeconomic policies andextremely highinvestment rates, averaging some 40percentofGDP
during theperiod 1992-96. Although alsoveryhighataround 33percentofGDP, gross national
savingshavenotmatchedinvestment;thecounterpartofthissavings-investmentgaphasbeenapersistent
current account deficit averaging almost 7percentofGDP, which hasbeenfinanced largely byforeign
direct investment (FDI).4Malaysia 'sopenness toinvestment istherefore among thekeyfactors that
havepaved thewayforthecountry 'srapid economic growth. Indeed, pastinflows ofFDIhavebeen
suchthatforeign ownership ofseveral major sectors, notably manufacturing andcertain services is
high; forexample, overhalfofallmanufacturing firms'equity isforeign-owned.
4. AnotherimportantfeatureoftheMalaysianeconomythathascontributedtoitseconomicsuccess
isitsopenness totrade. Imports andexports ofgoods andnon-factor services eachaveraged around
88percentofGDPduring theperiod 1992-96, rising steadily upto1995(Chart I.1).Except in1996,
however, imports havegrown faster thanexports. Thecurrent account deficit grewrapidly upto1995,
becoming asource ofconcern.
4Gross national savings including nettransfers from abroad isequal togross domestic savings plusnetfactor
income andnettransfers from abroad.Malaysia WT/TPR/S/31
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Table I.2
Economic performance, 1990-96
1990 1991 1992 1993 1994 1995 1996
Annual percentage changea
Gross national product 11.3 7.4 7.6 8.7 9.1 9.3 8.4
Gross domestic product 9.7 8.6 7.8 8.3 9.2 9.5 8.2
Realeffective exchange rate -4.5 -2.7 6.9 1.1 -2.9 0.6 4.2
Private consumption 13.1 9.5 3.0 4.6 9.8 9.4 6.0
General government consumption 5.3 12.4 4.0 10.7 9.9 7.3 0.8
Gross domestic investment
Private investment 24.8 27.7 0.5 19.1 27.9 13.3 7.5
Public investment 17.1 10.1 28.0 8.4 -0.6 8.7 1.3
Exports ofgoods andnon-factor services 17.1 14.1 6.2 17.2 22.5 17.6 7.2
Imports ofgoods andnon-factor services 24.2 24.5 1.2 19.1 27.6 21.2 4.2
Consumer price index 3.1 4.4 4.7 3.6 3.7 3.4 3.5
Interest rates(percent)
Deposit rate 7.0 8.0 7.9 6.5 5.3 6.6 7.2
Lending rate 7.5 9.0 9.5 10.5 8.3 9.2 9.3
Broad money (M)b,c18.1 15.3 19.6 23.5 13.1 22.3 22.7
Currency incirculationc9.5 9.7 9.9 11.5 17.6 9.8 8.9
Demand depositsc17.0 12.8 15.1 54.8 8.1 12.7 23.1
Broad quasi-moneyc,d19.4 16.3 21.5 16.6 16.2 29.0 21.8
PercentofGDPe
Private consumption 52.6 53.8 51.1 49.2 48.1 47.9 46.0
General government consumption 14.0 14.2 13.2 13.1 12.6 12.6 11.3
Gross domestic investment 32.4 35.7 36.5 38.3 40.1 43.0 42.2
Gross national savings 29.1 27.6 31.6 33.0 32.6 33.5 36.6
Government current revenue 25.5 25.7 26.4 25.2 26.0 23.3 23.3
Government current expenditure 28.5 27.5 27.3 25.0 23.7 22.4 22.6
Balance 3.0 -1.8 -0.8 0.2 2.3 0.9 0.7
Total debt 81.9 74.8 65.4 58.0 48.9 41.8 35.9
Domestic debt 60.5 55.6 51.2 46.3 41.1 35.7 31.7
External debt 21.4 19.2 14.2 11.7 7.8 6.1 4.2
Exports ofgoods andnon-factor services 76.4 81.0 77.8 82.0 91.3 95.4 92.0
Imports ofgoods andnon-factor services 74.2 84.8 76.4 82.1 92.9 99.4 91.0
Current account balance -2.1 -8.8 -3.8 -4.8 -7.8 -10.0 -4.9
Trade balance 0.5 -4.8 1.5 2.3 -1.1 -4.3 -0.9
External debt
External debtasapercentage ofexports of
goods andnon-factor services46.9 41.8 37.5 39.2 34.0 33.0 33.0
Debt service ratioasapercentage ofexports
ofgoods andnon-factor services7.9 6.6 6.4 6.2 4.9 6.0 8.2
a At1978 constant prices, except forREER andCPIcalculated at1990 constant prices.
b Defined toinclude currency incirculation andallprivate sector deposits withBNM, commercial banks (incluing Bank Islam),
finance companies, merchant banks anddiscount houses; excludes placements among these financial institutions.
c Endofperiod.
d Defined tocomprise private sector savings andfixed deposits placed withBNM, commercial banks (incl. Bank Islam), finance
companies, merchant banks anddiscount houses; excludes placements among these financial institutions.
e Current prices.
Source: Dataprovided bytheMalaysian authorities.WT/TPR/S/31
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5. Malaysia facestwosignificant challenges toitsfuture growth. First, totalfactor productivity
(TFP) growth declined from anannual average rateof2.9percentduring theperiod 1987-90 to
0.9percentduring theperiod 1991-96.5Second, labour, particularly skilled labour, hasbecome
increasingly scarce. Asaresult, theGovernment hasplaced special emphasis onincreasing TFPin
order tosustain growth. Overall labour productivity hasimproved largely asaresult ofincreased
capital intensity: that,is,theamount ofphysical capital peremployee (BoxI.1).6However, itseems
thatcapital accumulation hasnotimproved TFP, despite thespill-overs orexternal benefits (including
theacquisition oftechnical knowledge, managerial expertise andlearning-by-doing) usually associated
withFDI,which tendtobereflected inTFPgrowth (Chart I.2). Inaddition, while highratesofboth
public andprivate investment havesustained therapid growth oftheeconomy, thecombination of
largeinvestment bytheGovernment andthewidespread useofincentives topromote private investment
inspecific sectors (Chapter III)mayhavecontributed toamisallocation ofcapital resources, thus
adversely affecting TFP.
5National Productivity Corporation (1997).
6National Productivity Corporation (1997).Malaysia WT/TPR/S/31
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BoxI.1: Sources ofgrowth inoutput andlabour productivity, 1991-96
Total factor productivity (TFP) reflects theefficiency with which allfactors ofproduction, including
labour andcapital areused. Itshould bedistinguished from labour productivity, which istheamount of
output peremployee. Among themain determinants ofimprovements inlabour productivity arechanges
inthevolume ofinvestment andtotal factor productivity (TFP). Growing investment contributes to
improvements inlabour productivity byincreasing theamount ofcapital thatemployees have towork
with. Intheabsence ofaccompanying improvement inTFP however, higher labour productivity can
onlybeachieved attheexpense oflower capital productivity. Oneofthemost important sources ofTFP
growth inthelongrunistechnological progress.
According totheMalaysia Productivity Report 1996, fortheperiod 1991-96t5 average growth inTFP
was 0.9percent andtheincrease incapital intensity (orcapital-labour ratio) was 7.8percent,
contributing 17percent and83percent, respectively, togrowth inlabour productivity, which was
5percent. With output (GDP) growing atanaverage annual rateof8.6percentduring thesame period
(Table I.2), itfollows thatinputs ofcapital andlabour must have grown ataverage annual rates of
11.4 percent and3.6percent, respectively, with capital 'sshare oftotal income being 52percent.
Therefore, ifTFP growth could berestored totherateof2.9percentthatprevailed during theperiod
1987-90, capital would have togrow atanaverage rateof7.6percentinstead of11.4 percentinorder
tomaintain output growth at8.6percent.
6. Since theearly1990s bothsavings andinvestment haverisensteadily, andinparallel, asshares
ofGDP, andnational savings have covered alarge proportion (roughly 86percent) ofdomestic
investment (Chart I.3).Thehighrateofprivate saving maybelargely attributed tothefactthatcapital-
owners appear toreceive roughly one-half oftotalfactor income.7Given thatcapital-owners 'propensity
tosaveisusually much greater thanthatofwage-earners, thehigher capital-owners 'share oftotal
factor income thehigher would betheoverall saving rate.High personal saving isalsopartly dueto
compulsory payments intotheEmployees 'Provident Fund (EPF) andcanbeexpected toincrease
evenfurther asaconsequence oftheincrease intheEPF'smandatory contribution ratefrom 10to
11percentofwages in1996.8
7. Theeconomy isconsidered tobeatfullemployment; unemployment hasfallen steadily to
2.6percentin1996. With thedemand forlabour expected toincrease by3.4percentin1996 and
theestimated growth ofthelabour force at3.2percent9,labour, particularly skilled andsemi-skilled,
isbecominganincreasinglyscarceresourceinMalaysia,andtheshortageconstitutesapotentialconstraint
ongrowth. Moreover, insofar asthescarcity oflabour hasresulted innominal wageincreases exceeding
gains inlabour productivity, asnoted below, itmayerode thecompetitiveness ofMalaysian industry
andcontribute toinflationary pressures. Thelackofskilled labour mayalsobehindering theabsorption
ofnewtechniques often embodied innewcapital, andtheresulting TFPgains.10
7Asshown inBoxI.1,thisestimate canbededuced from dataonsources ofproductivity growth found in
National Productivity Corporation (1997).
8TheEmployees 'Provident Fund (EPF) isavirtually universal state savings scheme designed toprovide
personal pensions, butalsolinked tohouse purchase (The Government ofMalaysia, 1995, p.19).
9Ministry ofFinance (1996).
10Yean (1997).WT/TPR/S/31
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Malaysia WT/TPR/S/31
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8. Inorder todealwiththisconstraint ongrowth theMalaysian Government hasdiscouraged
labour-intensive industries andencouraged capital intensive onesinorder toinduce intra-sectoral
movement oflabour. Ithasalsoallowed considerable immigration, withtheagricultural sector, for
instance, relying heavily onimmigrant labour.11Indeed, theimmigrant labour force, including both
legalandillegal foreign workers, amounts toalmost twomillion, or10percentofthepopulation.12
Toaddress theshortage ofskilled labour, greater emphasis isnowbeing placed ontheimprovement
ofthequality oflabour byincreasing investment inhuman capital and,ifnecessary, attracting highly
skilled labour fromabroad. TheGovernment hasalsoencouraged private sector involvement intraining
through theestablishment oftheHuman Resource Development Fund, which hasincreased thesupply
ofskilled labour.
9. Therestructuring oftheMalaysian economy from onebased onagriculture toonebased on
manufacturing andservices hascontinued. Services, withashare of44.8percentofGDP in1996,
constitute thelargest sector (Table I.3). Manufacturing andconstruction together form thesecond
largestsector(34.2percent),followedbyagriculture(12.7percent),andmining(7.2percent).Growth
since1992hasbeengenerated mainly bythemanufacturing sector, including construction; performance
inother sectors wasmore erratic, withagriculture lagging farbehind (Chart I.4),although Malaysia
remains amajor producer ofplantation timber, rubber andpalmoil.Thisisconsistent withMalaysia 's
development strategy, which emphasizes industrialization, especially growth based oncapital-intensive
industries, butwhich hasmore recently taken ashifttowards theexpansion ofknowledge- andhigh-
technology-based industries13,andofthedomestic andinternational services sector.14Additional
incentives were provided forcertain services sectors (tourism andoffshore investment) inthe1996
Budget, theaimbeing toimprove thestandards ofthese services andmake them more competitive
intheinternational market.15
10. Therestructuring oftheeconomy isalsoreflected inthelabour market. Manufacturing, with
itsrapid rateofgrowth, eventhough capital intensive, hasattracted labour fromtheagricultural sector.
Asaconsequence, theshare oftotalemployment inagriculture hasdeclined, although stillover
15percent(Table I.3). Agriculture haslagged behind other sectors mainly because ofaslowdown
initsproductivity growth, caused bytheminimal usage ofmodern techniques, andlandscarcity.16
11Immigrant workers (Indonesians, Bangladeshis andother) aremainly employed inconstruction andon
plantations (EIU, 1996, p.26). Theuseofimmigrant labour isregarded bytheMalaysian authorities asa
transitional phenomenon.
12Government ofMalaysia (1995), p.12.
13Government ofMalaysia (1996a).
14Ministry ofFinance (1996), p.29.
15Government ofMalaysia (1995).
16National Productivity Corporation (1997).WT/TPR/S/31
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Table I.3
Sectoral distribution ofGDP, 1990-96
(Percent)
1990 1991 1992 1993 1994 1995 1996
Share ofGDP in1978 prices (percent)
Agriculture 18.7 17.2 16.7 16.1 14.6 13.5 12.7
Mining 9.8 9.2 8.7 8.0 7.5 7.5 7.2
Manufacturinga30.5 32.0 32.8 34.1 35.8 37.6 34.2
Services 42.5 43.2 43.5 44.1 44.3 44.3 44.8
Annual growth rate(percent)
Agriculture 0.0 4.7 4.3 -1.0 1.1 1.6
Mining 2.4 1.6 -0.4 2.5 9.0 3.1
Manufacturinga14.0 10.6 12.7 14.6 14.8 12.5
Services 10.3 8.8 9.8 9.7 9.4 8.9
Share oftotalemployment (percent)
Agriculture 27.7 26.6 24.5 22.7 20.8 18.0 16.8
Mining 0.4 0.5 0.5 0.5 0.5 0.5 0.5
Manufacturinga26.3 28.1 30.2 30.9 32.7 34.2 35.6
Services 47.2 47.0 46.9 47.3 47.2 47.2 47.0
a Including construction.
Note: Figures initalics arepreliminary data.
Source: Dataprovided byMalaysian authorities.
Malaysia WT/TPR/S/31
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(3) Recent Economic Developments
11. Macroeconomic policy inMalaysia isoriented towards maintaining "sustainable quality" growth
withlowinflation. Following twoyears ofover9percentrealGDPincreases, growth slowed during
1996 asaresult bothofatightening inmonetary policy, designed toreduce theriskofoverheating,
andofslower export growth compared to1995. Oneconsequence wasanarrowing ofthecurrent
account deficit from10percentofGDPin1995to4.9percentin1996, asthedropinimport demand
caused bycontractionary monetary policy more thanoffset theslowdown inexports. However, the
rates ofexpansion inprivate credit, realestate sales andinvestment demand remained high. These
pressures oncapacity mayhavebeeneased bythetightening offiscal policy announced inthe1997
budget.17Theoverall fiscal balance isalsoexpected toimprove asaconsequence oftheGovernment 's
decision inAugust 1997 topostpone several large public investment projects whose priority isseen
asrelatively low.
(i) Fiscal policy
12. Since 1991and1992, when theGovernment faced atwindeficit problem, prudent fiscal policy
hasbeenpursued, andasmall surplus wasmaintained throughout theperiod 1993-96. Public debt
hasdeclined steadily through the1990s, from82percentofGDP in1990 toroughly 36percentin
1996. Theimprovement inthecurrent budget balance since 1992 wasmainly theconsequence of
restraints onexpenditure, which fellby4.7percentofGDPbetween 1992and1996, to22.6percent
in1996 (Table I.2).18During thesame period, revenue roseinitially to26percentofGDP before
declining to23percentin1996. UptoSeptember 1996, privatization reduced government capital
expenditure byRM96billion andresulted intheabsorption of98,000 public sector workers bythe
private sector.19
13. Theweakening ofthefiscal position in1995-96 (Table I.2)implies thatthepublic sector may
havestimulated demand, anundesirable development atatimewhen theeconomy isoperating atfull
capacity. Thedeterioration ofthefiscal position is,however, expected tobeoffset inthemedium
termbyhigher private savings, owing (asmentioned above) tothe1percentincrease, in1996, of
mandatory contributions totheEmployee Provident Fund (EPF).
14. Areduction ininvestment incentives formanufacturing would alsoreduce budgetary costs;
incentives intheform oftaxrelief areamajor feature ofMalaysia 'sindustrial policy (Chapter III).
Apart fromanypossible effects onresource allocation andproductivity, suchincentives haveanegative
effect ontheGovernment 'sfiscal position, thereby reducing national savings, widening thesavings-
investment gapandexacerbating thecurrent account deficit. While estimates ofthetotalannual costs
ofvarious taxincentives interms ofrevenue forgone were notavailable, judging from information
provided bytheMalaysian authorities onafewofthese incentives, large amounts ofrevenue are
involved. Forexample, theReinvestment Allowance alone costtheGovernment anaverage annual
amount ofroughly RM1billion inforgone income taxrevenues during theperiod 1995-96. The
17IMF (1997a).
18However, improvement inthefederal budget waspartly offset byweaker budgetary performance atthe
stateandlocal government levels andbyhigher spending bynon-financial public enterprises (NFPEs) (Ministry
ofFinance, 1996, p.22).
19Government ofMalaysia (1996a), p.15.WT/TPR/S/31
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broadening ofthetaxbaseassociated withthecurtailment ofthisandother income taxincentives, if
notentirely usedtoimprove thefiscal balance, would facilitate areduction inthestatutory corporate
taxrate,which, at30percent, isfourpercentage points higher thaninneighbouring Singapore. A
broader taxbasecombined withalower taxratewould notonlybemore neutral withrespect to
investment decisions, thereby contributing toamoreefficient overall useofcapital, itwould alsoreduce
thecomplexity ofthetaxsystem aswellasthescope fortaxavoidance.
15. Indirect incentives intheform ofexemptions ordrawbacks arealsodesigned toaddress the
inherent biasofMalaysia 'spresent "cascading" salesandexcise taxesagainst exports. Suchexemptions
ordrawbacks would nolonger benecessary ifMalaysia adopted abroad-based value-added tax(VAT)
thatexempts exports inamanner consistent withtheGATT. However, theGovernment considers
thatatthisstage itisnotappropriate tointroduce aVAT.
16. TheGovernment alsoextends procurement preferences tolocalsuppliers, withtheobjective
offostering thedevelopment oflocal industries (Chapter III(4)(v)). Such preferences maytendto
increase thecosttotheGovernment (andstate-owned enterprises) ofprocuring goods andservices
andundertaking public investment. Notwithstanding these preferences, theGovernment maintains
thatgoods andservices inprocurement arecompetitively priced andnotes thatforeign companies have
beenawarded alarge share ofgovernment contracts.
(ii) Monetary policy
17. Bank Negara Malaysia (theCentral Bank) maintains strict management ofinternal liquidity,
intheinterest oflimiting inflationary pressures resulting fromspeculative capital inflows andvigorous
economic expansion. Theauthorities havesought tocontrol demand primarily through monetary policy.
18. However,theoperationofmonetarypolicyhasbeencomplicatedbyshort-termcapitalmovements
(section (iv)below). During both1992-93 and1995-96, there havebeensubstantial capital inflows,
induced inthefirstinstance byinterest ratedifferentials between U.S.dollar andringgit assets and
inthesecond byastrong expansion ofcredit bythebanking system totheprivate sector. Theresulting
pressureshavebeenineachcasekeptundercontrolthroughsterilizationpoliciesandrestrictionsimposed
onthecapital account. Withmoney supply growing atanestimated rateof22.7percent,welloutpacing
output growth20,Bank Negara Malaysia hadtointervene toensure price stability andasustainable
paceofeconomic growth.21
19. Malaysiahasbeensuccessfulincontrollinginflation,boththroughitsmonetaryandfiscalpolicies
andthrough selective direct intervention tomonitor andcontrol prices.22Theanti-inflation campaign
alsoincluded theabolition ofimport duties onessential items.23Financial sources ofinflation have
20Ministry ofFinance (1996), p.37.Money supply isdefined ascurrency incirculation, demand deposits
andbroad quasi-money (Table I.2).
21Intheearly 90smonetary policy wastightened inaneffort tocontrol inflation. Thistookplace atatime
when monetary conditions intheUnited States were easing, hence theinterest differential.
22Pricecontrolsapply,interalia,toriceandotherstaples,sincefoodpriceinflationhasbeenamajorconcern.
23Theanti-inflation campaign involved reduction oftariffs, increased imports ofbasic commodities, increased
supply oflow-cost housing, andadministrative action toprevent excessive markups byretailers ofbasic food
items andother necessities.Malaysia WT/TPR/S/31
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been keptunder control, butincreasing demands onnational resources have resulted inserious
inflationary pressures intherealeconomy. Inparticular, while therelatively lowcostsofskilled and
unskilledlabourhaveconstitutedanimportantinducementtofirmstolocatetheiroperationsinMalaysia,
nominal wages haverisen faster thanlabour productivity because ofthegrowing labour shortage.24
TheGovernment isconcerned about theinflationary implications ofthistrend. Tothisend,a
productivity-linkedwagesystemwasagreeduponin1996;thisrequiredextensivecollaborationbetween
employers andunions. Measures toimprove productivity growth havealsobecome apriority.25
(iii) Exchange ratepolicy
20. Thenominal value oftheringgit isdetermined bydemand andsupply intheforeign exchange
market. BankNegara Malaysia intervenes tomaintain orderly market conditions andtoavoid excessive
fluctuation inthevalue oftheringgit; commercial banks arefreetodetermine andquote exchange
rates. Theexternal value ofthecurrency ismonitored against an(undisclosed) basket ofcurrencies
weighted interms ofMalaysia 'smajor trading partners andthecurrencies ofsettlement.26
21. Therealeffective exchange rateoftheringgit fluctuated considerably throughout theperiod
1992-96 (Table I.2). These variations, including appreciations in1992-93 and1995-96, andafall
in1994, reflect boththeunderlying strength ofMalaysia 'seconomy and,asnoted, theimpact of
short-term financial flows.
(iv) Balance ofpayments
22. Malaysia ranacurrent account deficit every yearintheperiod 1992-96, reaching 10percent
ofGDPin1995. Thereafter, slower import growth, asaconsequence ofmoderation intheexpansion
ofinvestment spending andimports ofmanufactured inputs, brought about adecline inthecurrent
account deficit.27
23. Deficits inthecurrent account havebeenfinanced largely bylong-term capital inflows, with
external government indebtedness playing arelatively minor role; theGovernment 'sindebtedness to
foreigners amounted tolittlemore than4percentofGDP in1996. Thecurrent account deficit is
neverthelessofsomeconcerntotheMalaysianauthorities.Whilepartlytheoutcomeofdemandpressures,
some elements arestructural innature. Thetwolargest categories ofnetpayments are:investment
income, mainly fromforeign direct investment (FDI), andservices associated withmerchandise trade
(insurance andfreight). Thelarge andgrowing remittance ofprofits tooverseas equity holders isthe
inevitable consequence ofMalaysia 'spastsuccess inattracting FDIinorder tofoster itsrapid
industrialization.28Moreover, thesupply ofshipping services andfreight insurance hasnotkeptup
withgrowth intrade, thereby causing awidening gapintheservices account. Development oftrade-
24National Productivity Corporation (1997), p.41.
25National Productivity Corporation (1997), p.48.
26IMF(1997b), p.527.
27Ministry ofFinance (1996).
28Thesizeofthese netremittances issuchthatMalaysia 'sGNP is95percentofGDP. Rising remittances
from Malaysian outward investment mayreduce thenetsizeofthedeficit.WT/TPR/S/31
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andtransportation-related services, aswellasother services (e.g.tourism) isbeing encouraged, to
reduce theservices account deficit.29(Chart I.5)
24. Further difficulties arecaused bythehighimport content ofmany ofthefastest growing export
industries. Production ofmanufactured goods isheavily dependent onimported parts, withtheimport
content ofmanufactured goods averaging more thanonethirdoftheirvalue in1996.30Theauthorities
aretherefore promoting thesubstitution ofdomestic forforeign intermediate goods, inanattempt to
increase thedomestic content ofexports.31Forinstance, duties of5-20percentwereimposed onheavy
equipment in1997toreduce imports.32Unfortunately, reliance ondirect restraints onimports toreduce
thecurrent account deficit isaninefficient andultimately costly solution. Moreover, itsimpact on
thecurrent account islikely tobelimited unless accompanied byanunderlying decrease indomestic
demand bymeans oftighter fiscal policy.
29Government ofMalaysia (1996a).
30Imports ofintermediate goods amounted to58percentofGDP, while imports capital goods accounted
for41percentofMalaysia 'sgross capital formation in1995 (Ministry ofFinance, 1996, p.29).
31Government ofMalaysia (1995), p.27; andGovernment ofMalaysia (1996a), p.26.
32Reuters, 19August 1997.Malaysia WT/TPR/S/31
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25. Thecurrent account deficit might deteriorate, given theslowdown inexport growth in1996,
andcontinuing highdependence onFDI.33Ontheother hand, thecurrent account deficit could be
viewed astheconsequence ofhighdomestic investment, asopposed tohighconsumption, resulting
fromtherapid change intheMalaysian economic structure fromlabour tocapital-incentive industries
andneednotbeamajor cause forconcern aslongasinvestment isallocated efficiently.34There was
some evidence ofincreasing private consumption in1995, duetosizeable purchases ofconsumer goods
(including durables) andasurge inconstruction activity35;thelatter declined during 1996.
26. Capital account developments since 1992 have been characterized bygenerally rising net
long-term inflows invalue andsharp movements inshort-term financial flows (Chart I.6). The
sterilization policies pursued in1992-93 ledtoasharp outflow ofshort-term capital inlate1993 and
1994, andtoadepreciation oftheringgit. Bank Negara Malaysia intervened todetersuchspeculative
flows, imposing anumber oftemporary restrictions oncapital flows.36These measures were lifted
33Exports lagged behind because ofadecrease inthevalue ofagricultural exports andaslower increase
inmanufactured exports, especially electronics-related products (Ministry ofFinance, 1996).
34Amajor element inthecurrent account deficit istheoutflow ofdividend income andpayments abroad for
insurance andfreight.
35Ostry (1997).
36IMF (1997b), p.527.WT/TPR/S/31
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within oneyear. However, arising current account deficit in1995, together withamarket perception
ofexcess demand, were reflected inspeculative pressure against theringgit attheendof1995 and
thebeginning of1996. Thus, monetary policy wastightened in1996, allowing interest ratestorise,
andtheringgit toappreciate, leading toanewinflow ofshort-term funds which reached some
4.8percentofGDP in1996. More recently, theringgit hasbeen adversely affected bymarket
turbulence intheregion. Despite thecentral bank'sintervention, thecurrency depreciated significantly
andsome controls onswap transactions were imposed inAugust 1997.
27. Malaysiahasbecomeanattractivemarketforoverseasinvestors,asitoffersprofitableinvestment
opportunities, sound economic fundamentals andpolitical stability. FDIhasplayed animportant role
forthecountry 'sdevelopment interms ofproviding capital resources andfacilitating thetransfer of
technology. FDIisclosely associated withtherapid expansion ofexport-oriented manufacturing,
particularly ofelectronics andelectrical equipment. Thissector hasbecome themajor recipient of
FDIinMalaysia, showing asignificant reallocation ofFDIsince 1992 (Chart I.7). During 1992-96,
FDIinelectric machinery andapparatus increased from 5.4to54.2percent; while investment in
coal, petroleum products andnuclear fuel, themajor recipient ofFDIin1992, decreased from
66.0percentto3.7percent. FDIintoMalaysia, despite some fluctuations, remained highduring
theperiod under review. Thedecrease inforeign direct investment asashare of(rapidly growing)
GDP during 1992-95 appears tobetheresult ofcompetition from other countries intheregion, and
theperceived lackofhighly skilled labour inMalaysia andthusitshighprice(Chart I.6).37However,
in1996FDIincreased toRM17.0billion. Theorigin ofFDIhasalsovaried since1992, withSingapore
andJapan becoming more important investors; while investments from France andAustralia seem
currently tobenegligible.
28. Malaysia 'sgross outward investment hasgrown fromRM1.3billion in1992toRM6.8billion
in1996(Chart I.8).Thisdevelopment maybepartly theconsequence ofstepstaken bytheMalaysian
Industrial Development Authority (MIDA) onbehalf oftheGovernment toencourage therelocation
oflow-productivity labour-intensive industries tocountries where unskilled labour isrelatively cheap.38
Nevertheless, Malaysia 'soutward investment todeveloped countries hasalsoincreased since 1992.
Inthepast, theMIDA wasmainly concerned withattracting FDI. Thus, most applications were
approved, provided investors complied withthegiven guidelines forlocalandBumiputera ownership
setoutbytheNewEconomic Policy (NEP). Given thepresent scarcity oflabour andtheemphasis
onhightechnology, theMIDA hasrecently become more selective, requiring higher levels ofdomestic
content innewproduct linesandhigher productivity. Forinstance, theMIDA doesnotgrant approval
forlabour-intensive projects unless certain conditions aremet.39
37TheEconomist, 16August 1997 andFinancial Times, 20August 1997.
38EIU(1996), p.33.
39EIU(1996), p.20.Malaysia WT/TPR/S/31
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(4) Composition andDirection ofTrade
29. International tradehasalways beenakeyfeature ofMalaysia 'seconomic development strategy.
Inthepast,thecountry depended mainly ontheexport ofrawmaterials (notably tin,rubber, palm
oilandwood). With industrialization, however, trade hasbecome evenmore important, given the
emphasis intheGovernment 'sindustrial policy onexport-oriented manufacturing activities based on
imported intermediate inputs andFDI. Many ofthefastest growing production lines, particularly in
theelectronics sector, weresetuponthebasisoflowlocalcontent. Between 1992and1996, exports
andimports ofgoods andnon-factor services together grew from some 154toaround 183percent
(Table I.2).
30. Since 1993, imports havegrown morerapidly thanexports, reflecting rapidgrowth indomestic
consumption ofgoods andservices aswellashighexport growth. In1996, however, bothimport
andexport growth slowed considerably toratesof4.2and7.2percent,respectively; imports, because
ofcontractionary fiscal andmonetary policies, andexports owing totheerosion ofMalaysian industries '
external competitiveness, weaker import demand fromother advanced economies andfromwithin the
EastAsian region, andtheslowdown inworld activity inelectronics.Malaysia WT/TPR/S/31
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(i) Composition ofmerchandise trade
31. Therestructuring oftheMalaysian economy isevident from thechanging composition of
Malaysia 'strade, particularly exports. During theperiod under review, exports ofmanufactured goods
havetaken thelead, while mining andagricultural goods havebecome lessimportant (Chart I.9).
Theshare ofmanufactures intotalexports increased from64percentin1992to76percentin1996.
Machinery andtransport equipment (involving principally office machines andtelecommunications
equipment) alone accounted for55percentoftotalexports in1996 (Table AI.1). During thesame
period, exports ofmineral products suffered amarked decline, from14percentto9percent. Likewise
exports ofagricultural products dropped from 21to14percent.
32. Manufactures alsoamount toroughly 85percentoftotalimports. Within thecategory
"machinery andtransport equipment", whose share hasrisen from 56to61.5percentofthetotal,
electronic items havealsoshown themost rapid rise,reflecting thechanging pattern ofMalaysia 's
industrialization.
(ii) Direction ofmerchandise trade
33. During theperiod 1992-95, therewasnosubstantial change intheorigin ofMalaysian imports,
while some change canbeseen inthedestinations ofexports (Tables AI.3 andAI.4). Themain
destinations forexports remained Singapore (with anunknown volume oftransit trade) followed by
theUnited States (whose share decreased) andJapan. Theshare ofother EastAsian destinations
(principally Hong Kong, China) roseduring theperiod (Table AI.3). Themain suppliers ofimports
in1996 weretheEastAsian countries, especially Japan, followed bytheUnited States (Chart I.10).
Japan wasanespecially important supplier ofintermediate electronics inputs toMalaysia. Itis
noteworthy thattheimportance oftrade withASEAN countries relative toMalaysia 'sother partners
hasdeclined slightly since 1992, increasing onlyin1996. APEC 'sshare intrade remained relatively
unchanged.Malaysia WT/TPR/S/31
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