Malaysia’s Post-Election Maelstrom: What Happens Next?

Malaysia’s 14th general election resulted in a surprise victory for an opposition coalition for the first time since Malaysia’s independence. In a stunning political comeback, 92-year-old Mahathir Mohamad – the former authoritarian leader – was sworn in as prime minister on Thursday.

As AP reports, the election result is a political earthquake for the Muslim-majority country, sweeping aside the 60-year rule of the National Front and its leader Najib Razak, whose reputation was tarnished by a monumental corruption scandal, a crackdown on dissent and the imposition of an unpopular sales tax that hurt many of his coalition’s poor rural supporters.

Mahathir, prime minister for 22 years until stepping down in 2003, was credited with modernizing Malaysia but was also known as a heavy-handed leader who imprisoned opponents and subjugated the courts.

“We need to have this government today without delay,” Mahathir, 92, said before the ceremony. “There is a lot of work to be done. You know the mess the country is in and we need to attend to this mess as soon as possible and that means today.”

Former premier Najib Razak, 64, said he accepted the “verdict of the people” and tweeted that he had “recently congratulated Tun Dr Mahathir on his appointment as the seventh prime minister,” and added, “I’m willing to help a smooth transition.”

We are sure he is – as the specter of the 1MDB corruption debacle looms ever larger now, since, as The Australian reports, newly-elected Mahathir Mohamad has warned the man he toppled, Najib Razak, that he will have to “face the consequences” if he has done anything wrong over the theft of US$4.5bn ($6bn) from the country’s sovereign wealth fund, 1MDB.

In a strong indication his government will reopen probes into 1MDB that were quashed by Mr Najib’s government, Dr Mahathir yesterday said “the law will be fully implemented in this country”.

He also flagged investigation of a 55bn ringgit ($16.8bn) loan from China to fund Malaysia’s East Coast Railway Link secured by Mr Najib and linked by his opponents to the 1MDB debacle.

John Lee, a former adviser to Foreign Minister Julie Bishop, said the anger against Mr Najib over 1MDB felt by educated Malaysians will leave Dr Mahathir with little choice but to restart investigations into the alleged theft — even though Mr Najib was a minister in Dr Mahathir’s government when both were members of UMNO.

“He doesn’t have much to lose,” Mr Lee, a fellow at the US think tank the Hudson Institute, told The Australian. “If you kept it just to 1MDB, I think he will be safe. Certainly he couldn’t really assess the whole Malaysian political economy, because he set that up – the crony capitalism stuff.”

London journalist Clare ­Rewcastle-Brown, who is wanted for arrest in Malaysia for coverage of the 1MDB scandal on her Sarawak Report website, said Malaysian authorities would investigate with “full force and vigour”.

While he has denied wrong­doing, Mr Najib has been unable to provide a convincing explanation for how up to $US1bn passed through his bank account at ­Ambank, which is one-quarter owned by Australia’s ANZ. Before the poll, opposition figures led by lawyer Zaid Ibrahim, a former UMNO minister, were investi­gating a class action against ANZ over its alleged role in 1MDB.

In court documents, the US Department of Justice claims almost $US30m filched from the fund was used to buy jewellery for Mr Najib’s wife, Rosmah Mansor.

The alleged architect of the heist, Malaysian Jho Low, is accused of spending about $US9m on jewellery he gave to Australian model Miranda Kerr in 2014 — some of it handed over during a tryst aboard his yacht Equanimity, which he bought using money allegedly stolen from 1MDB.

Millions allegedly found their way to Ms Mansor’s son, Riza Aziz, who used some of it to fund movies including Leonardo DiCaprio’s The Wolf of Wall Street.

Australian Federal Police has restricted its probe to proceeds of crime, including property on the Gold Coast, reaped by those involved in siphoning money away from 1MDB.

Asked whether Mr Najib would be prosecuted, Dr Mahathir said his coalition was “not seeking revenge… We do not want to punish people because they do not agree with us but the law will be fully implemented in this country.

Of course, one glance at Malaysia’s bond, stock, and FX markets in the last 24 hours and one knows immediately that the surprise win has significant macro implications, mostly in fiscal policy according to Goldman Sachs.

While Goldman does not see immediate implications for monetary policy in the near term, higher policy uncertainties, as well as typical post-election currency patterns, may point to near-term weakening in the MYR.

Main points: Surprise win for an opposition coalition, for the first time in history, has significant macro implications

Malaysia’s 14th general election resulted in a surprise victory by the opposition coalition, Pakatan Harapan (PH), led by former Prime Minister Mahathir Mohamad. The Election Commission reported that PH has won 121 seats in Parliament, over the threshold (of 112 seats) to form a government, compared with 79 seats for the incumbent Barisan Nasional (BN) coalition and remaining 22 seats from other smaller opposition parties (CNN, May 10, 2018; Exhibit 1).

The election marks the first defeat for the ruling UMNO party and its coalition (BN as well as its predecessor, the Alliance) since Malaysia’s independence in 1957. Dr. Mahathir will likely be returning to the PM post after 15 years, but policy uncertainty may rise as Malaysia awaits its first major transition in government.

Dr. Mahathir, who is 92 years old, served as the Prime Minister from 1981 to 2003, including during the Asian Financial Crisis and is well known for introducing capital controls together with a currency peg at 3.8 against the USD in September 1998.

The surprise win bears significant macro implications in our view, mostly for fiscal policies (see our “Malaysia election–Fiscal and monetary policy implications“, Asia in Focus, April 19, 2018). One of PH’s 10 election pledges (to be fulfilled within the first 100 days of office) was the repeal of the goods and services tax (GST), to be replaced by the previous sales and services tax (SST). This could lead to net revenue losses, at least in the short term, in our view, given the relative efficiency of GST administration and the previous vulnerability of SST to collection loopholes. After its introduction in 2015, GST accounted for about 20% of total government revenues and 3.4% of GDP in 2016.

Despite a possible revenue slippage from a GST abolishment, government spending needs may rise. As part of the 10 election pledges, PH also promised to raise the minimum wage with half of the increase subsidized by the government (and potentially follow through with subsequent hikes over next the five years to reach RM1500 per month from RM1000 currently in peninsular regions). More broadly, PH has called for more social spending and infrastructure development, as well as a possible revival of fuel subsidies. While details on the subsidy plan have not been disclosed, fuel subsidies cost some RM20bn (US$5bn, or around 2% of GDP) per annum before their abolishment in November 2014. Given that the government needs to operate under a public debt ceiling of 55% of GDP, not far from the current public debt level of 50.9% of GDP, more spending would imply some combination of tax hikes, improved tax administration, or a potential breach of the debt limit.

Market implications

1. MYR might see weakening pressures in the near term. The typical post-election pattern (of currency weakening) is a factor that could repeat this time as well. Fiscal implications of PH’s election promises, notably the GST repeal, reintroduction of oil subsides, and subsidized minimum wage hikes, could affect sentiments of bond investors although it remains to be seen how the election promises are implemented. While higher oil prices will help improve government revenues (about 0.2% of GDP for a $10/barrel increase of oil prices, in Ministry of Finance’s estimates), windfall energy revenues may not be sufficient to offset the pressure for larger fiscal deficits arising from the implementation of election promises. Foreign holdings of government securities increased to around 45% of the market at end-March 2018 up from 38% in April 2017, boosted by some US$7bn foreign inflows over the 12-month period (Exhibit 2).

Therefore, bond yields and the MYR could be sensitive to fiscal news and broader sentiment on the new government’s policies; our USDMYR forecast is under review given the increased near-term uncertainties.

2. Fiscal expansion at a time of above-potential growth (5.5-6.0% in 2018 in BNM forecastversus its potential growth estimate of 5.0-5.5%) could add to inflation pressures. A minimum wage hike, if implemented within the first 100 days of government formation as promised, should also show partial pass-through to consumer prices (as for example seen recently in the case of Korea). We maintain our view that the next 25bp policy rate hike will take place in 1H of 2019 given currently low core inflation and sequential moderation in growth later this year. That said, a possible rise in inflation expectations or significant weakening in the MYR could may tilt the BNM towards a more hawkish direction in the coming months.

Finally, AP notes that Bridget Welsh, a Southeast Asia expert at John Cabot University in Rome, said it was hugely ironic that Mahathir, who damaged Malaysia’s democratic institutions with his strong-arm rule, has returned as its political savior.

“It is not just a comeback,” she said. “It is about making amends about his mistakes and moving Malaysia forward.”

We shall see…

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