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... Markets and Politics: Revealing State- Business Relation through Financial Market Information by Wee-Keng Lee, B.A (Honors), M.B.A., M.S... system characterized by active state intervention in the economy and close state- business relations in Southeast Asian countries 1.1 STATE- BUSINESS RELATIONSHIPS AND ECONOMIC DEVELOPMENT A great... Conditions and Political Process 62 3.3 Stock Markets and Political Events 65 3.4 Using Stock Price Data to Measure Regulatory Changes 69 viii 3.5 Business -State Relations And Economic
Copyright by Wee-Keng Lee 2002 Markets and Politics: Revealing State-Business Relation through Financial Market Information by Wee-Keng Lee, B.A. (Honors), M.B.A., M.S. Dissertation Presented to the Faculty of the Graduate School of The University of Texas at Austin in Partial Fulfillment of the Requirements for the Degree of Doctor of Philosophy The University of Texas at Austin August 2002 UMI Number: 3099477 ________________________________________________________ UMI Microform 3099477 Copyright 2003 by ProQuest Information and Learning Company. All rights reserved. This microform edition is protected against unauthorized copying under Title 17, United States Code. ____________________________________________________________ ProQuest Information and Learning Company 300 North Zeeb Road PO Box 1346 Ann Arbor, MI 48106-1346 Dedication To all important women in my life: mother, wife and sisters. Acknowledgements I want to express my heartfelt appreciation to the many people who helped bring the exhilarating and exhausting process of completing a dissertation to a successful conclusion. I am especially grateful to all faculty members on my dissertation committee. Dr. Brian E. Roberts deserves special thanks for his care and thoughtful guidance and for agreeing to accept yet another doctoral candidate into an already packed schedule. Without his untiring patience, support, suggestions, and encouragement, I would have never completed this project. A special, warm acknowledgement goes to Dr. William P. Glade for his kindness, support and encouragement. A special tribute is extended to Dr. Chooi-Kwa Lim, my mentor, undergraduate professor and friend who encouraged my pursuit of graduate education in this country. I am also grateful to Dr. William Gissy for his encouragement, support and the confidence in me to complete the program. In addition, I want to thank all my fellow cohorts, particularly Dr. Pedro GomisPorqueras and Dr. Risa Kumazawa for their moral supports and helps throughout the time I was engaged in this study. To Hsiu-Chen, my wife and my best friend, I remain forever grateful and indebted. None of this would have been possible without her. v Markets and Politics: Revealing State-Business Relation through Financial Market Information Publication No.___________ Wee-Keng Lee, Ph.D. The University of Texas at Austin, 2002 Supervisor: Brian E. Roberts The phenomenon of crony capitalism is often described as the major cause of the Asian economic collapse in 1997. The main objective of this study is to address this phenomenon empirically through the structure of Malaysian political economy and tests the hypothesis that crony firms earn positive abnormal returns. There are claims that crony capitalism is widespread in the country. Since crony firms should earn positive abnormal returns as a result of regulatory changes, market information should reveal evidence of the existence of cronyism. This empirical research represents an effort to fill the research gap of the limited empirical study in crony capitalism, in particular and the understanding of Malaysian political economy in general. This study improves upon previous case studies in business-state relationship in Malaysia by utilizes publicly available vi data on daily stock prices instead of accounting data or corporate annual reports. The former is more reliable than the latter since providing misleading information is not unusual for firms or governments in developing countries. Three major political events in the past decade that greatly impacted economic policies in Malaysia are examined. This study finds that the portfolio consistently experienced statistically significant abnormal returns after some major political events or new policies were announced. The results suggest that political connectedness is one major factor affecting stock returns of firms in this portfolio. vii Table of Contents List of Tables.......................................................................................................... xi List of Figures .......................................................................................................xii List of Illustrations ...............................................................................................xiii List of Abbreviations............................................................................................. xv Chapter 1: Introduction ........................................................................................ 1 1.1 State-Business Relationships and Economic Development ..................... 2 1.2 Defining Crony Capitalism ...................................................................... 3 1.3 Malaysian Political Economy: A Brief Introduction................................ 5 1.4 The Evolution of Crony Capitalism in Malaysia: A Preliminary Look . 10 1.5 Markets and Politics ............................................................................... 12 1.6 Statement of the Problem ....................................................................... 14 1.8 Significance of this Study ...................................................................... 15 Chapter 2: Political Economy of Malaysia ........................................................ 17 2.1 Politics in Malaysia since independence ................................................ 17 2.1.1 Leadership .................................................................................. 19 2.1.2 The Mechanics of Elections ....................................................... 37 2.2 Economic History................................................................................... 41 2.2.1 The Malaysian Economy: Overview.......................................... 41 2.2.2 New Economic Policy (NEP): 1971-1990 ................................. 45 2.2.3 National Development Policy (NDP): 1991-2000 ..................... 52 Chapter 3: Literature Review ............................................................................. 57 3.1 Politics of government decision-making................................................ 58 3.2 Economics Conditions and Political Process ......................................... 62 3.3 Stock Markets and Political Events........................................................ 65 3.4 Using Stock Price Data to Measure Regulatory Changes ...................... 69 viii 3.5 Business-State Relations And Economic Development in East Asia .... 71 3.6 Malaysia: Related Literature .................................................................. 74 Chapter 4: Methodology and Data ..................................................................... 78 4.1 Event study design ................................................................................. 78 4.1.1 Identifying the Event of Interest................................................. 79 4.1.2 Model the Security Price Reaction............................................. 81 4.1.3 Estimate the Abnormal Returns ................................................. 84 4.1.4 Aggregation of Abnormal Returns ............................................. 85 4.1.5 Analyze the Results.................................................................... 86 4.2 Data ........................................................................................................ 87 4.3 Criteria for firm selection....................................................................... 88 4.4 Kuala Lumpur Stock Exchange (KLSE) ................................................ 89 Chapter 5: Findings ............................................................................................ 92 5.1 Event 1: 1990 General elections and privatization master plan ............. 92 5.1.1 Pre-Event: 1987 UMNO General Assembly .............................. 92 5.1.2 The Event: 1990 General Elections............................................ 96 5.1.3 Post Event: the Privatization Master Plan ................................ 100 5.1.4 Empirical Study........................................................................ 101 5.2 Event 2: 1993 umno general assembly................................................. 103 5.2.1 Pre-Event: The Rise of Anwar and His Corporate Links......... 103 5.2.2 The Event: 1993 UMNO General Assembly Election ............. 105 5.2.3 Post Event: New Landscape of Business-State Relations........ 107 5.2.4 Empirical Study........................................................................ 108 5.3 event 3: 1998 capital control ................................................................ 111 5.3.1 Pre-Event: The 1997 Asian Financial Crisis ............................ 111 5.3.2 The Event: Capital Control ...................................................... 113 5.3.3 Post-Event: The Aftermath....................................................... 119 5.3.4 Empirical Study........................................................................ 120 ix Chapter 6: Summary and Conclusions ................................................................ 123 6.1 Limitations of the Study....................................................................... 123 6.2 Discussions and Summary ................................................................... 126 6.2.1 Event 1: The 1990 General Elections....................................... 126 6.2.2 Event 2: 1993 UMNO General Assembly................................ 129 6.2.3 Event 3: Capital Controls in 1998 ............................................ 130 6.3 Conclusion............................................................................................ 133 6.4 Recommendations for Future Research ............................................... 134 Appendix A: Excerpts from Existing Literature ................................................. 136 Appendix B: Sample ........................................................................................... 139 Appendix C: Capital Controls ............................................................................. 143 References ........................................................................................................... 146 Vita .................................................................................................................... 164 x List of Tables Table 1-1: Distribution of Ethnic Groups in Major Industries, 1970...................... 7 Table 2-3: Parliamentary Election Results under Current Regime ....................... 40 Table 2-4: GDP Growth of Malaysia (%) ............................................................. 42 Table 2-5: Income Differentials by Race and Location, 1970-1989..................... 48 Table 2-6: Number of SOEs, 1960-1992 .............................................................. 49 Table 2-7: Sectoral Changes during OPP2 (%)..................................................... 54 Table 5-1: Parliamentary Election (1986 & 1990)................................................ 99 Table 5-2: Empirical Result 1 (N=51)................................................................. 101 Table 5-3: Empirical Result 2 (N = 69)............................................................... 109 Table 5-4: Empirical Result 3 (N = 77)............................................................... 120 Table 6-1: Selected Debt-Equity Ratio Before and After the Capital Controls .. 132 xi List of Figures Figure 4-1: Time Line for an Event Study ............................................................ 79 Figure 5-1: Event 1-Average Abnormal Return.................................................. 102 Figure 5-2: Event 2-Average Abnormal Return.................................................. 110 Figure 5-3: Exchange Rates (RM:US$) .............................................................. 112 Figure 5-4: Composite Index July 1997-January 1998 ....................................... 112 Figure 5-5: Event 3-Average Abnormal Return.................................................. 121 xii List of Illustrations Map 1: Malaysia...................................................................................................xiv xiii Map 1: Malaysia Produced by the US Central Intelligence Agency xiv List of Abbreviations BA Barisan Alternatif BCIC Bumiputera Commercial and Industrial Community BN Barisan Nasional BNM Bank Negara Malaysia (the Central Bank) CAR Cumulative Average Residual DAP Democratic Action Party DJIA Dow Jones Industrial Average EOI Export-Oriented Industrialization EPF Employees Provident Fund EPU Economic Planning Unit GDP Gross Domestic Product HICOM Heavy Industries Corporation of Malaysia ISA Internal Security Act ISI Import-Substitution Industrialization KLSE Kuala Lumpur Stock Exchange KSM Koperatif Serbaguna Malaysia KUBB Koperasi Usaha Bersatu Berhad MCA Malayan Chinese Association MIC Malayan Indian Congress MP Malaysia Plan MPHB Multi-Purpose Holdings Berhad xv MSC Multi Media Corridor NCC National Consultative Council NDP National Development Policy NECC National Economic Consultative Council NEP New Economic Policy OLS Ordinary Least Squares OPP Outline Perspective Plan PAS Partai Islam Se-Malaysia RM Ringgit Malaysia (Malaysian Currency) SOEs State-owned Enterprises Sdn Bhd Sendirian Berhad (Private Limited) SME Small and Medium-scale Enterprises UMNO United Malays National Organization WTO World Trade Organization xvi Chapter 1: Introduction In civilized society [man] stands at all times in need of the cooperation and assistance of great multitudes. In almost every other race of animals each individual, when it is grown up to maturity, is entirely independent, and in its natural state has occasion for the assistance of no other living creature. But man has almost constant occasion for the help of his brethren. — Adam Smith, 1776 The role of the state in economic development has generated intense academic debate for many years. Citing the collapse of the command and control economies, and fiscal deficits in major industrialized countries, those imbued with the neoclassical paradigm allege that state intervention in the economy would lead to market distortions and therefore create impediments prohibiting economic growth. On the other hand, decades of double-digit economic growth in the Newly Industrialized Countries (NIC) of East Asia such as Japan, Taiwan and South Korea, present a persuasive argument for active state intervention, particularly in developing countries. World Development Report (1997) best summarizes the role of the state in economic development: “State-dominated development has failed, but so will stateless development. Development without an effective state is impossible” (p.25). The economies of Southeast Asia countries, as a group, had achieved tremendous growth during the past three decades; this progress, however, was abruptly halted by the financial crisis in the second half of 1997. Most of these 1 countries had modeled their development process on the experience of the East Asian NICs. Consequently, it is not surprising to observe a capitalist system characterized by active state intervention in the economy and close state-business relations in Southeast Asian countries. 1.1 STATE-BUSINESS RELATIONSHIPS AND ECONOMIC DEVELOPMENT A great deal of research has examined the distinct nature of the relations between state-business in this region (Jomo et al., 1997; Islam and Chowdhury, 1997; Wu and Chu, 1998, Huang, 2001). There are two prevailing views on this close state-business relationship. In one favorable view, a close state-business relationship is a necessity in the presence of market failures. State involvement is believed to help in coordinating investment activities and overcoming the problem of asymmetric information; these interventions are important in the early stages of economic development, where productivity gains are large but the risk is high (Rodrik, 1995). Close state-business relationships also provide access to credit that otherwise might not be available and lower the cost of credit. Wade (1990) argues that Asian states were able to “govern the market” to create their own success. A close state-business relationship is, therefore, one of the major causes of the “miracle” in this region (Johnson, 1987; Haggard, 1988; Chu, 1989). The other more negative view mostly arose after the financial crisis in 1997. This view labels this close state-business relationship as “crony capitalism” and sees it as a self-imposed blockage to development, leading to inefficiency in resource allocation. Many who share this view argue that when the state is actively involved in business activities, outright corruption and rent seeking 2 opportunities become entrenched. With close relationships to the state, firms are able to obtain and abuse privileged information and market power to prevent market competition. Rapidly expanding credit, explicitly or implicitly underwritten by the state, together with inadequate oversight, encourage the mismanagement and inefficient allocation of risk, or moral hazard. As a result, there is over investment in risky and unproductive projects in this region. Accordingly, the nature of the state-business relationships undoubtedly contributed in an important way to recent financial crises in the region (Corsetti et al., 1998; McLeod, 2000; Wei and Sievers, 2000). Without uprooting the institutional structure of “crony capitalism,” as suggested by the International Monetary Fund (IMF), the prospects of recovery from the crisis in this region are dim. Many analysts even anticipate the recurrence of the crisis in the near future if crony capitalism still prevails in these economic systems. 1.2 DEFINING CRONY CAPITALISM Although there exists no formal definition, the term “crony capitalism,” in general, is associated with big business conglomerates and politics. Most observers see crony capitalism as a variety of capitalism where the dominant political leaders use the power of the state to make decisions in the best interests of a particular set of well-connected businesses, rather than in the best interest of the market as a whole (Girling, 1997; Chang, 1998; Krugman, 1998; Wade, 1998; Haber, 2002). Crony capitalism is also defined as a capitalist economy where contracts and appointments are awarded to friends and families, rather than by tender or merit. In time of financial crises, the state usually bails out or rescues 3 these friends and families, frequently using the rational of national interest. To economists, crony capitalism generally implies collusion between the state and business, allowing, for example, illicit transactions, insider trading, and preferential tax exemptions that eventually undermine the market process. Personal relationships and patronage have long been a part of politics and business in this region. Historically, Southeast Asia lacked the proper institutional frameworks that provide a stable business environment. Operating under the fears of being expropriated by oppressive states, in addition to the absence of reliable information, businesses in this region have gravitated toward a trading style based on personal relationships. Furthermore, these relationships also allow firms to raise capital informally within their networks. Cultivating a good relationship with officials, either in a capitalist system such as Japan or in a command and control economy such as China, makes perfect business sense since governments have been actively involved in national economies. In the Asian context, as argued by many Western critics, crony capitalism is beyond collusion between the simple state and business (Johnson, 1987; Haggard, 1988; Chu, 1989; Wade, 1990 and 1998; Chang, 1998). It is also a term applicable to the inter-firm network that made up such business groups as keiretsu in Japan, chaebol in South Korea, and the overseas family-owned Chinese conglomerates in Southeast Asia. It is a common practice for firms in a group to own each other’s shares and loan each other money, thus creating a web of interlocking ownership and indebtedness (Hamilton, 1999). 4 The practice of crony capitalism is widespread and is not limited to East Asia. Governments in Latin America and Africa are not exempt from practicing crony capitalism (Haber et al., 2002). Asset holders are reluctant to invest in a country where the government has the ability to arbitrarily abrogate property rights even if the rates of return are high; unless the government can create a credible commitment not to tax away all of the rents created by property rights or completely abrogate those rights. Haber et al. (2002) argues that the crony economic system is the second-best solution to the commitment problem. Citing the long history of crony capitalism in Mexico, they demonstrate how crony systems get re-created over time even in the face dramatic regime changes. The major factor that allows such re-creation is the commitment problem in the absence of limited government. Krueger (2002) shows that this inefficient system has three major drawbacks to sustain economic growth. First, crony capitalism encourages the misallocation of resources. Second, since the commitments of the government are credible only so long as that particular government is in power, all cronies will operate under short time horizon and completely avoid any long-term investment. Third, such system benefited only some privileged asset holders and therefore, it has negative consequences for the income distribution. 1.3 MALAYSIAN POLITICAL ECONOMY: A BRIEF INTRODUCTION Malaysia is a plural society with a total population of 23.26 million in 2000 (Malaysia, 2001a). The pluralistic nature of its population remains one of the distinguishing features of this country. Malay represents the dominant ethnic 5 group, comprised 47 percent of this total. Chinese (24 percent) and Indian (7 percent) are two other major ethnic groups in the country. For political and economic purposes, the population of Malaysia is divided into two categories, Bumiputera (prince of the soil) and non-Bumiputera. In addition to the Malay, the category of Bumiputera includes various indigenous groups, which represent 11 percent of the total population, clearly making the Bumiputera the majority group in the country (58 percent). The structure of the political and socio-economic institutions in Malaysia was the result of British colonization (Andaya and Andaya, 2001; Gullick, 1992; Cowan, 1961). The British hegemony began in 1786 with the foundation of Penang, followed by Singapore in 1819, and Melaka in 1824. These three cities were also the busiest ports along the Straits of Malacca. In exchange for the control of this colony, the British granted generous monetary allowances to Sultans of the Malay states. The most significant legacy of the British colonial era was the dramatic demographic change that resulted in the emergence of the pluralistic society (Drabble, 2000). During the high production period of rubber and tin, two most important commodities in this colonial economy, in the late eighteenth and early nineteenth century, the British allowed a massive influx of low-cost immigrant labors from China and India into the country. The unintended consequence of this open-door immigration policy is the ethnic division between Malays and nonMalays (principally Chinese) in occupation and location. The Malays were displaced in the local economy following the massive inflow of labor, since they 6 seemed unwilling to work for wages in rubber estates or tin mines (Andaya and Andaya 2001). They remained in the rural regions as peasants and fishermen. Furthermore, the colonial rural education policy which aimed, “to make the son of a fisherman or a peasant a more intelligent fisherman and peasant than his father,” also reinforced this ethnic and socio-economic division between Malays and nonMalays (Snodgrass 1980). This division between Malays and non-Malays continued to widen as large number of Chinese moved from employment in rubber estates and tin mines, to commercial occupations (see Table 1-1). Table 1-1: Distribution of Ethnic Groups in Major Industries, 1970 Industry Agriculture, forestry & fishing Mining Manufacturing Construction Utilities Transport & Communication Commerce Services Malays (%) Chinese (%) 68 21 25 29 22 48 43 24 49 66 65 72 18 40 65 36 Indians (%) 10 8 5 6 33 17 11 14 Source: Snodgrass (1980) When the Federation of Malaya gained its independence from Britain on August 31 1957, a political coalition called the Alliance formed the first government in this new state. The Alliance was comprised of a Malay-based party, United Malays National Organization (UMNO), a Chinese-based party, the Malayan Chinese Association (MCA); and an Indian-based party, the Malayan Indian Congress (MIC), with UMNO as the dominant party. The first decade of 7 the governance of this newly independent country can be described as a decade of inter-elite bargaining, with “Malay political hegemony in return for unhindered Chinese (and Indian) economic activity” (Case, 1996). This multi-ethnic compromise approach seemed to work well in stabilizing the country, until the 1969 racial riot. Under the relatively laissez-faire approach in economic policy, Malays made only trivial advancement on their economic well-being as a result of economic segmentation and uneven economic development. The new government believed in the trickle-down effect in development and spent more than 50 percent of its budget on the infrastructure development in urban areas. Consequently, the income gap between Malays and non-Malays was widening and poverty was prevalent in the Malay-populated rural regions. Feeling the increased economic weakness, the Malays discerned the vulnerability of their political dominance (Jesudason, 1989). They were disgruntled by the UMNO leadership, which made too many economic concessions to the non-Malays. This led to diminishing support of UMNO. On the other hand, non-Malays were dissatisfied with their representative parties respectively, for the inability of their leaders to obtain automatic citizenship after independence. As a result, the Alliance experienced a major setback in the 1969 general election, in which it lost its two-third majority in the Parliament as well as control of two states. The intense inter-racial conflict mounted during the election campaign; riots finally broke out after the 1969 general election, which eventually brought 8 down the first post independence government. Parliament was suspended and the country fell under the control of National Operations Council. With the introduction of new political game rule wherein the opposition gained a stronger voice, the Alliance was also restructured after the 1969 racial riot. It became the Barisan Nasional/National Front (BN), which has ruled the country since. The New Economic Policy (NEP), an affirmative action program, was established by the new administration in 1970. This was a 20-year economic plan, aimed at the “eradication of poverty” irrespective of race; and “restructuring society” by removing the association of ethnicity and occupation (Means, 1991). In order to achieve these two major objectives of the NEP, the government introduced a quota system based on ethnicity mix in population. To eliminate poverty and to improve income distribution, for example, the government granted all public projects to Bumiputeras, in addition to the provision of access to credit. Bumiputera trust funds were created by the government to increase their ownership of local businesses to at least 30 percent by the end of the NEP. To expand the skills of Bumiputera in other occupations, such as managerial, engineering and medical, 55 percent of university enrollments were reserved for Bumiputeras. The NEP was ended in 1990 and was replaced by a similar longterm plan, the National Development Policy (NDP) launched by current administration. 9 1.4 THE EVOLUTION OF CRONY CAPITALISM IN MALAYSIA: A PRELIMINARY LOOK Close state-business relationship in Malaysia was apparent since the independence from Britain. During the inter-elite bargaining period in the first decade of self-government, non-Malays, particular the Chinese, received numerous concessions from the Malay-dominated government. These includes exclusive license to operate banks and other financial institutions. In exchange, these Chinese businesses also channeled large amount of funds for the Alliance’s operation through the MCA, (Milne and Ratnam, 1965). The seed of crony capitalism was sowed during Tun Abdul Razak’s administration, with the implementation of the NEP. This affirmative action program achieved its goal of poverty eradication by reducing the poverty rate in the country from 49 percent in 1970, to 12 percent in 1989, albeit that the government has viewed the poverty in absolute terms in relation to a poverty line, rather than in relative terms such as inequality. However, it is the second goal of the NEP, the society restructuring, that many critics believe, fostered the development of crony capitalism in the country (Yoshihara, 1988; Gomez and Jomo, 1997). The NEP restructuring process involved redistribution of corporate stock ownership, employment and education. The latter two were addressed in the education reform in the NEP, particularly in tertiary education. Concern with the redistribution of corporate ownership was significant among the elite minorities. 10 They strongly opposed this idea because they were afraid of state expropriation under the guise of advancing ethnic interest. Recognizing the fears of these elite minorities and to avoid further destabilization of the economy, the new administration chose to establish more state-owned enterprises (SOEs) and Bumiputera trust agencies in achieving its wealth-restructuring objective. These SOEs were awarded with public projects such as water supply, telecommunications, waste collection and civil aviation. To ensure racial harmony in the country and to avoid a zero sum game, these SOEs and trust agencies took over the control of many established foreign corporations in the country, mostly through purchasing stock in the market. The number of SOEs increased from 23 in 1957 to 1,149 by 1992 (Mohamed, 1995). The seed of crony capitalism finally blossomed before the end of the NEP when the fourth administration, which is also the current regime, first announced its privatization policy in 1983, although the plan was not fully released until 1991 (Omar, 1990). Bumiputeras, who have a close relationship with the state, were rewarded handsomely in the privatization process. These Bumiputeras include Malay capitalists, friends and families of high-ranking officials, retired high-ranking personnel in the armed forces and retired politicians. In other words, the transfer of wealth only benefited a small group of Bumiputera elites, hoping that the trickle-down effect will be realized in the near future. Equally well rewarded are those Chinese businessmen who envisioned this privatization policy through privileged information. These businessmen, realizing their disadvantages in obtaining government contracts under the NEP, invited the 11 Bumiputera elites, such as friends and family members of high-ranking officials, into their corporations. They usually offer these Bumiputera elites some highranked positions that merely ceremonial, not positions that make crucial decisions. With the presence of Bumiputeras in their corporate structures, these Chinese corporations also enjoy special treatment in the privatization program and protection from competition by the government. 1.5 MARKETS AND POLITICS A stock market has several characteristics that make it not only interesting, but also useful and important as an area in political study. Stock market participants make daily decisions by drawing on a wide range of information, including relevant changes in the political environment. They must judge the relevance of any given political event to the every firm’s prospective fortunes. For example, the election of a particular party can be viewed as having either positive or negative impact on business conditions and this expectation should be reflected in the market. The passage of certain regulations could generate firm-specific effects that lead to price fluctuation in the stock market. In an efficient market, the current price should reflect all past and future information. Prices instantaneously digest and adjust to the reception of new information. If the outcome of a political event is anticipated, some anticipatory behavior should be evident in the period during to the event. Schwert (1981) has suggested that it is possible to use stock price data to measure the effect of regulation changes. He further argues that tests with stock price data are more powerful than tests with accounting data. If a firm receives 12 economic rents as a result of regulation, the value of these rents will be included in determining the value of the firm. Thus, firms will seek regulations that increase stock prices and shareholder wealth. Brown and Warner (1985) examine properties of daily stock returns and assess the stock price impact of firm-specific events. Yantek & Cowart (1986) found a coherent and consistent view of how participants in the stock market combine self-interested economic calculations with judgments about economic benefits accruing to the partisanship of national officeholders. Mitchell and Netter (1991) provide an overview on the use of financial data such as changes in stock prices in securities fraud cases in the U.S. The Kuala Lumpur Stock Exchange (KLSE) is of interest because there has been a history of government efforts to bolster the stock market in Malaysia, most apparently near the end of the NEP, in order to increase Bumiputera’s equity. Established in 1973, KLSE was the second largest stock exchange in Asia in terms of market capitalization (approximately RM900 billion), before the onset of the 1997 Asian financial crisis, exceeded only by the Hong Kong Stock Exchange (Ahmad and Hussain, 2001). The market capitalization that was over 300 percent of GDP was substantially higher than any other economy (Henderson, 1998). KLSE also has the second most quoted companies among Asian bourses, only smaller than the number of quoted companies in Korea Stock Exchange. There were days when the turnover on the KLSE was higher than that in New York! Larger companies are listed on the Main Board while the smaller ones (with paid-up capital less than RM20 million) are listed on the Second Board. As 13 of the beginning of 1995, the largest group of investors in the KLSE was small shareholders holding 500-5000 shares. This group accounted for 76.4 percent of total investors in the KLSE. The group of investors holding 10000 shares or more, though it represents only 7.8 percent of total investors, controlled close to 90 percent of total equity. In terms of ethnicity mix, 17.3 percent of the total investors are Bumiputeras (controlling 31.8 percent of the equity of the listed companies), while non-Bumiputera and foreign investors make up of 69.7 and 13 percent respectively (Ahmad and Hussain, 2001). 1.6 STATEMENT OF THE PROBLEM The abuse of public position for private gain is not unusual in developing countries in Asia and Latin America (Haber et al., 2002). There are many examples and evidence in which politically affiliated firms have successfully affected the outcomes of government policy in both developed or developing countries. Nevertheless, most published literature consists of case studies that identified politically affiliated firms or cronies by extracting information from news articles and company reports (Gomez and Jomo, 1997; McLeod, 2000). Existing literature usually identifies a firm as crony if the firm received preferential treatment in public projects or has retired high-ranking officials in the board of directors. Such identification is potentially biased since efficiency of the firm or the skill and vision of the directors are implicitly ignored. Given that a politically connected firm or crony earns returns above those that would prevail in a market, and the fact that the political authorities will implement policies that would benefit its cronies, one should reveal more 14 evidence of the existence of cronyism through market information. The lack of reliable firm information is one major reason for limited empirical research in crony capitalism. This points to the need to explore and to utilize publicly available market information. The focus of this study is neither to locate the blame for the crisis in simplistic notions of crony capitalism, nor is it to evaluate if the practice of crony capitalism were economically rational in an inherently uncertain business environment. The major objective of this study is to test the hypothesis that crony affiliated firms will earn positive abnormal returns after major political events or regulatory changes. 1.8 SIGNIFICANCE OF THIS STUDY Institutionalized behavior norms are difficult to change. Political and economic reforms are difficult to realize without awareness of the general public concerning flaws in the current social norms. If crony capitalism is believed to be the cause of recent financial crisis, a scientific method to expose such cronies is required, to provide more convincing evidence and to prevent the recurrence of the crisis. An event study is the research method used in this study to capture the change in returns of these firms after each regulatory change or political event occurs. The Securities and Exchange Commission (SEC) also uses event studies in collecting evidence in financial fraud cases in the U.S (Mitchell and Netter, 1991). This methodology has its foundation in the efficient markets hypothesis (Ball and Brown, 1968; Fama et al., 1969). According to this hypothesis, stock 15 prices should reflect all available information. With the advancement in information technology and the reduction in transaction costs, stock prices will quickly adjust to the release of all available information and consequently, all agents earn only a normal rate of return. As argued by Campbell et al. (1997), event studies will “continue to be a valuable and widely used tool in economics and finance.” (p. 180) This empirical research represents an effort to fill the research gap of the limited empirical study in crony capitalism in particular and the understanding of the political economy in Malaysia in general. Unlike most case studies in crony capitalism, this empirical study utilizes publicly available data on daily stock prices instead of accounting data. The former is more reliable than the latter since providing misleading information is not unusual for firms or governments in developing countries. Malaysia is one of the developing countries where crony arrangements are commonly practiced (Gomez and Jomo, 1997). In addition, the country has a well-developed financial market. This unique characteristic makes Malaysia a prolific venue to conduct empirical research in crony capitalism. 16 Chapter 2: Political Economy of Malaysia In framing a government to be administered by men over men, the great difficulty lies in this: you must first enable the government to control the governed; and in the next place oblige it to control itself. — James Madison, 1788 Malaysia is a country physically divided into two portions by the South China Sea. The western portion, which is officially known as the Peninsular, forms part of the southern projection from the Asian mainland, with Thailand immediately to its north, and Singapore to the south. It has an area of 131,574 square kilometers and consists of the former Federation of Malaya with eleven states: Perlis, Kedah, Penang, Perak, Selangor, Negeri Sembilan, Melaka (Malacca), Johore, Pahang, Terengganu and Kelantan. The eastern portion, which is known as East Malaysia, is comprised of the state of Sabah and Sarawak and occupies the northern and northwestern coast of the Borneo Island (Malaysia, 2001b). These two states occupy an area of 198,447 square kilometers. According to the 1991 Census, approximately 19 percent of the total population lives in Sabah and Sarawak. 2.1 POLITICS IN MALAYSIA SINCE INDEPENDENCE The modern state of Malaysia was formed in 1963 by the union of the Federation of Malaya (which had achieved independence from Britain in August 1957), Singapore and the Borneo states of Sabah and Sarawak. On August 9 1965, 17 Singapore was expelled from this Federation and became an independent state (Drabble, 2000). The constitutional framework of the Malaysian political system is essentially democratic (Means, 1991). The first administration adopted the Westminster model without much modification. Elections have been regularly held since independence. The government is responsible to an elected parliament, and the judiciary system is constitutionally independent. Many political scientists, however, do not classify the political system in Malaysia as a democracy. Instead, terms such as ‘limited’, ‘quasi’ and ‘semi’ democracy are usually used to describe the system since there exist both democratic and authoritarian characteristics in the political systems of Malaysia (Zakaria, 1989; Case, 1993). Since the 1969 racial riot, authoritarian controls became more prevalent in Malaysia with the increasing use of the Internal Security Act (ISA). The government is allowed to use this Act for preventive detention, most frequently used against opposition politicians, communists and social activists, without due process. Nonetheless, the repressive government has to be, at the same time, responsive, because of the competitive nature of the general election. The heterogeneous nature of the population tends to transform every political issue into a communal one and it is not a surprise that Malaysian politics has always revolved around ethnic issues (Mauzy, 1983; Means, 1991; Mandal, 2001). Political competition between Bumiputeras and non-Bumiputeras (principally Chinese) constitutes the major cleavage in Malaysia politics. Despite 18 these ethnic divisions, the Malaysian polity is able to achieve some degrees of coherence that successfully provides a stable political order, which enhances rapid economic growth. 2.1.1 Leadership In 45 years of post independence there have been four changes in heads of government in Malaysia and ten general elections. The Alliance (which later changed the name to the Barisan), which is led by UMNO, won all of the general elections and has formed the government since Independence. Since UMNO is the predominant party in this political coalition, the president of UMNO automatically assumes the Prime Minister position in the Cabinet, and the deputy president of UMNO takes the position of Deputy Prime Minister (Means, 1991; Crouch, 1996). The four Prime Ministers are: Tunku Abdul Rahman, Tun Abdul Razak, Tun Hussein Onn and Dr. Mahathir Mohamad. Although the focus of this study is the crony capitalism during Mahathir’s administration, it is as important to understand the leaderships of previous administrations. The reason is that the New Economic Policy, which is believed to be the source of crony capitalism, started immediately after the first administration, and was completed under Mahathir’s administration. 2.1.1a Tunku Abdul Rahman (1957-1970) Tunku Abdul Rahman was the fourth son of the Sultan of Kedah, one of Malaysia’s oldest ruling families. He led Malaysia to independence from British colonial rule in 1957 and became the first Prime Minister of the country until 1970. Like most leaders of the movement against British rule, Tunku Abdul 19 Rahman rose to power as a defender of traditional Malay rights in the multiracial society. Nevertheless, he insisted on the retention of British links, parliamentary institutions, and the essentials of British law (Healy, 1982). Shortly after the Japanese occupation in Malaysia (1942-1945), the British introduced the concept of the Malayan Union, in which the country would be governed by one central government based on equal civil and political rights for all, regardless of their ethnicity. This move clearly upset many Malays, as they were very fearful of losing political control to the wealthier and more assertive Chinese in the country. Led by the chief minister of Johore, Dato Onn Jaafar, the Malays were united under the newly established party, the United Malays National Organization (UMNO), which launched a massive campaign against the union proposal. During the peak of the nationalist movement, Tunku Abdul Rahman was working as a district official. He had no vision of himself as the preeminent Malay leader. Furthermore, since he received his education and spent many years in Britain, he developed affection for the British and a solid understanding of British institutions. It is not a surprise that Tunku Abdul Rahman had little sympathy for the more radical nationalist movement: he saw the British connection as beneficial (Healy, 1982). Tunku Abdul Rahman was thrust onto the national stage after the resignation of Dato Onn Jafaar from UMNO due to differences in ideology. The latter suggested the opening of UMNO to people of all races in order to promote inter-communal harmony. This step seemed necessary as the non-Malays, mostly 20 Chinese, upset by not automatically being granted the citizenship, supported the Malayan Communists, which consequently forced the British authority to declare a National Emergency in 1948 to contain communist insurrection. However, majority members of UMNO insisted that the political birthright of the Malay was the only way to offset the economic strength of the Chinese. As party support eroded, Dato Onn Jafaar and many of his supporters left UMNO and formed a new party, the Independence of Malaya Party (IMP) in 1951. Desperately in need for leadership, UMNO held its national conference in August 1951. At that time, Tun Abdul Razak, a brilliant young administrator of noble birth from Pahang state was the leading candidate. However, Tun Abdul Razak proposed Tunku Abdul Rahman, his fellow student while studying in London, to be the president of UMNO. Tunku Abdul Rahman eventually won the three-way election overwhelmingly. Tunku Abdul Rahman realized the importance of racial harmony in convincing the British authority that Malay and non-Malays could cooperate politically if granted independence (Cheah, 1999). He formed an alliance with the Malayan Chinese Association (MCA) in the first local government election in 1952. This embryonic UMNO-MCA alliance successfully won nine of the twelve seats in that election. Encouraged by the success of this alliance in the local elections, Tunku Abdul Rahman accelerated the campaign for self-government from the British. In 1954, the Alliance was gaining appeal as the front-runner to negotiate for the independence of the country when the Malayan Indian Congress 21 (MIC), which represents the Indian community, decided to join the Alliance (Healy, 1982). The new Alliance, under the leadership of Tunku Abdul Rahman, once again assured the British that different communities would cooperate once selfgovernment was granted, by winning all but one seat in the first national election in July 1955. This convincing victory by the Alliance and the mounting financial burden of the war against communist insurrection prompted the British to grant Malaya its independence (Healy, 1982). On August 31 1957, Britain officially handed over the administration of the country to an elected Alliance government led by Tunku Abdul Rahman. During the formative years in this new country, Tunku Abdul Rahman emphasized political stability and multi-racial harmony. Despite UMNO supremacy in the Alliance, Tunku Abdul Rahman also acknowledged the contribution of the non-Malays and expressed his willingness to make concessions. According to Tunku Abdul Rahman, “the essence of Alliance bargaining was not equality but mutual dependency, combined with a willingness to cooperate and accommodate.” (Means, 1991) Tunku Abdul Rahman was highly engaged with the consolidation of this new country and seemed to have no long-term economic plan. He was preoccupied with the concept of broader federation, for strategic reasons, by incorporating Singapore and the British Borneo territories (Sabah and Sarawak). He succeeded in his pursuit and the Federation of Malaysia was formally inaugurated on September 16 1963. While Tunku Abdul Rahman was 22 concentrating on the federation, domestic communal conflicts were becoming more threatening. His lack of a long-term economic plan, particularly one to improve the economic backwardness of Malay, finally took its toll. Shortly after joining the Federation of Malaysia, Lee Kuan Yew, the leader of Singapore’s ruling party, launched a campaign for a ‘Malaysian Malaysia’ urging communal equality and an end to Malay political predominance. This campaign infuriated the Malays and led to a racial riot in Singapore in 1964 and the expulsion of Singapore from the Federation on September 19, 1965. Nonetheless, the inter-racial tensions did not subside with the expulsion of Singapore from the Federation. The government introduced a controversial bill, the National Language Bill of 1967, which was aimed at making Bahasa Malaysia (Malay Language) the sole official language of the country (Means, 1991). Many Chinese leaders viewed this Bill as a threat to the freedom of using Chinese language as the medium language in the national education system. They began making demands to the government for the assurance of Chinese education in the country and the establishment of a Chinese-language university. Dissatisfaction with Tunku Abdul Rahman’s administration in handling communal issues was reflected in the outcomes of the 1969 general elections. For the first time, the Alliance lost its two-third majority in the Parliament by securing only 48.4 percent of the popular vote (Means, 1991). Feeling the threats and challenges to Malay predominance, some radical Malay leaders organized demonstrations in the capital, which eventually led to a major racial riot on May 13, 1969. The government proclaimed an Emergency and suspended the 23 Parliament. The newly established National Operations Council, under the directorship of Tun Abdul Razak, temporarily ruled the country. The riots led to open criticism of Tunku Abdul Rahman’s leadership. The Malay criticized Tunku for making excessive accommodations to the non-Malays and that the Malays were left far behind in all development aspects of the country. Then, a central executive committee member of UMNO, Dr. Mahathir Mohamad wrote an open letter to Tunku Abdul Rahman urging him to resign (Means, 1991). Although Tunku Abdul Rahman had no difficulty in forcing Dr. Mahathir Mohamad out from UMNO, respect for him in the party was no longer the same. This was clearly evident in his slim victory over an unknown candidate in his constituency, in the 1969 general elections. In September 1970, Tunku Abdul Rahman announced his retirement and was succeeded by Tun Abdul Razak. The Malaysian Parliament was restored in February 1971. Tunku Abdul Rahman, who was hailed as Bapa Merdeka (Father of Independence), passed away in 1992. 2.1.1b Tun Abdul Razak (1970-1976) Tun Abdul Razak took over the administration as Prime Minister after the retirement of Tunku Abdul Rahman in September 1970. He was noted as an indefatigable and efficient administrator, instead of a charismatic leader (Means, 1991). Having served as the Minister of National and Rural Development from 1959 to 1969, Tun Abdul Razak paid great deal of attention to the development of the rural areas. He implemented numerous programs to improve economic conditions of the Malays, particularly those living in the rural areas. He was 24 successful in laying the infrastructure of modern roads in all rural areas, to enable easier access to towns and administrative centers. Unlike the previous regime, Tun Abdul Razak’s administration was based on the assumption that UMNO was to provide the mass base of political support for the government. All other component parties in the Alliance were to provide peripheral support (Means, 1991). Consequently, Malays held all key Cabinet posts under Tun Abdul Razak’s administration. He was often viewed as being more solicitous of Malay interests and concerns than those of the non-Malays. Tun Abdul Razak brought into his Cabinet a number of Malay politicians who had earlier been noted for vigorous espousal of Malay interests (Means, 1991). Dr. Mahathir Mohamad and Musa Hitam, who were expelled from UMNO on the initiative of Tunku Abdul Rahman, were appointed to the Cabinet as Minister of Education and Minister of Trade and Industry respectively. Many non-Malays were fearful that the inter-ethnic bargaining and accommodation would come to an abrupt end and that Tun Abdul Razak would reinforce the Malay political hegemony. Tun Abdul Razak made two major contributions to Malaysian politics: the first was the implementation of the New Economic Policy (NEP) and the second was to replace the Alliance with the Barisan Nasional (National Front) (Means, 1991; Crouch, 1996, Cheah, 1999). The NEP was an urgent need for the government after the May Thirteenth Riot in 1969. Although there was no evidence or independent research, the government cited the failure of earlier economic policies to address the relative deprivation of the Malays in comparison 25 with the non-Malays, whom they saw as the underlying root of the crisis. Therefore, the government formulated a set of economic strategies and a policy to ensure that the Malays gained an improved share of the country’s wealth. The basic objectives and goals of the NEP were set out in the Second Malaysia Plan (1971-1975): The Plan incorporates a two-pronged New Economic Policy for development. The first prong is to reduce and eventually eradicate poverty, by raising income levels and increasing employment opportunities for all Malaysians, irrespective of race. The second prong aims at accelerating the process of restructuring Malaysian society to correct economic imbalance, so as to reduce and eventually eliminate the identification of race with economic function. This process involves the modernization of rural lives, a rapid and balanced growth of urban activities and the creation of a Malay commercial and industrial community in all categories and at all levels of operation, so that Malays and other indigenous people will become full partners in all aspects of the economic life of the nation. The New Economic Policy is based upon a rapidly expanding economy, which offers increasing opportunities for all Malaysians, as well as additional resources for development. Thus in the implementation of the Policy, the Government will ensure that no particular group will experience any loss or feel any sense of deprivation (Malaysia, 1971). The NEP became the yardstick for all economic and social policy for the following two decades (Andaya and Andaya, 2001). Under the second objective of “restructuring Malaysian society,” a new system of quotas and Malay special rights were formulated. These were to ensure that Malays gained privileged access to education, to better paying jobs and to professional and management positions. The government also announced its goal of achieving 30 percent Malay ownership and participation in all industrial and commercial activities by 1990. Tun Abdul Razak acknowledged the importance of political stability in the pursuit of the objectives of the NEP. He revived the UMNO-MCA-MIC alliance 26 by forging a broader coalition. In his effort to make the Malay dominance in politics a reality and to build a more stable basis of political support for his government, he succeeded in incorporating all major opposition parties, including PAS, Gerakan and PPP into the Alliance and called the new political coalition the Barisan Nasional (National Front) (Means, 1991). With no major opposition parties, the Barisan Nasional easily captured 135 seats out of a total of 154 seats in Parliament in the 1974 general election, the first election since the racial riots in 1969. Under Tun Abdul Razak’s administration and the Second Malaysia Plan, the annual real GDP growth rate of 7.1 per cent was attained. The percentage of households living under the poverty line was decreased from 49.3 per cent in 1970 to 43.9 percent in 1975, but the income inequality in the country has increased during the same period (Lim, 1983). Tun Abdul Razak died suddenly in London on January 14, 1976 at the age of 54, while he was still in office. 2.1.1c Tun Hussein Onn (1976-1981) Tun Hussein Onn took office as Prime Minister after the death of Tun Abdul Razak. He was the son of the late Datuk Onn Jaafar, the first president of UMNO, and brother-in-law of the late Tun Abdul Razak. The latter handpicked him as the deputy president of UMNO, which also automatically assumed the post as Deputy Prime Minister, after the incumbent, Tun Dr. Ismail, died of heart attack. (Cheah, 1999) 27 Tun Hussein Onn assumed the office of Prime Minister on a very weak political base and physical health. He left UMNO in 1951 at the same time as his father resigned from the party, and only returned to UMNO in 1969. His accessions in party politics and the government after his return to UMNO were solely a prerogative granted by his brother-in-law (Means, 1991). Tun Hussein Onn had also suffered from a heart attack. Factional politics within UMNO was palpable during the presidency of Tun Hussein Onn. Many leaders within UMNO speculated that Tun Hussein Onn’s tenure was only temporary until a suitable candidate could be selected. In addition to his ill health, Tun Hussein Onn was also an extremely indecisive man. According to Means (1991), Tun Hussein Onn assumed office from “a fairly weak political base and with a number of serious disabilities.” (p. 54) In an effort to distance him from the factional alignments, Tun Hussein Onn chose Dr. Mahathir Mohamad as the Deputy Prime Minister, passing by two other very strong candidates, Ghafar Baba and Tengku Razaleigh Hamzah (Cheah, 1999). Earlier in the UMNO General Assembly in 1975, Dr. Mahathir had been elected as one of three UMNO Vice-Presidents but with the smallest vote, behind both Ghafar Baba and Tengku Razaleigh Hamzah. Thus, Tun Hussein Onn’s selection of Dr. Mahathir as the Deputy Prime Minister directly upset the other two vice presidents and other formidable political figures whose political advancement appeared to be blocked by him. In reaction to his disappointment at being passed over as Deputy Prime Minister, Ghafar Baba refused to serve in the new Cabinet under Tun Hussein Onn (Means, 1991). 28 Factional rivalries in UMNO were further worsened by the indecisiveness of Tun Hussein Onn. As UMNO President, he often allowed the crises to solve themselves and as Prime Minister, he left his ministers on their own on most occasions (Cheah, 1999). The Minister of Home Affairs, Ghazali Shafie, who was vying for the top post since Tun Abdul Razak’s era, grew powerful and was feared even among his Cabinet colleagues because of his power to detain without trial. There were rumors in the foreign media that he contemplated arresting some of his UMNO colleagues who posed a threat to him within the UMNO party elections, including the Deputy Prime Minister, Dr. Mahathir Mohamad (Ali, 1996). Tun Hussein Onn did not interfere with the rivalries in UMNO but decided to see how events developed. In addition to the rivalries within the UMNO, there were also signs of factional divisions in other component parties in the BN and some state governments. The non-Malay generally viewed the distribution of benefits after implementation of the NEP as inadequate. As a result, there emerged a movement to challenge and replace incumbent leaders among the non-Malay component parties in the BN. It was also during Tun Hussein Onn’s administration that the coalition between PAS and UMNO broke up after the federal government announced the emergency rule in the PAS-ruled Kelantan state (Means, 1991). Despite all the conflicts and opposition to his leadership within the BN, Tun Hussein Onn successfully led the BN in the 1978 general elections. This was also the only general election under Tun Hussein Onn’s administration. The BN captured 131 of 154 parliamentary seats with 57.6 percent of the total votes. 29 Winning this election was important because it confirmed that the BN multiracial concept received public support and that the departure of PAS from the BN had not undermined this concept (Cheah, 1999). It was also important for Tun Hussein Onn himself because he was only the acting president of UMNO. He postponed the UMNO general assembly until after the election so that he could gain enough public support before he could obtain the mandate from UMNO members. Tun Hussein Onn was responsible for achieving the economic goals laid out under the Third Malaysia Plan (1976-1980). In the process of the “ethnic restructuring” of the NEP, sustaining a high growth rate was necessary to improve economic position of the Malay, without direct transfer from the non-Malays. With the new mandate from the party and the people, Tun Hussein Onn was able to focus on the pursuit of economic growth. In fact, the economic performance under Tun Hussein Onn’s administration was extraordinary, compared to previous administrations. An annual growth rate of 8.6 percent was achieved as a result of the inflow of foreign direct investments and the expanding petroleum industry in the country. With oil shocks artificially created by the OPEC, federal revenues derived directly or indirectly from the oil industry constituted approximately onequarter of gross government revenue by 1982 (Bank Negara Malaysia. 1986). From 1975 to 1980, the incidence of poverty had been reduced from 43.9 percent to 29.2 percent and on track to the goal set by the NEP of 17 percent in 1990 (Means, 1991). Led by the trust agencies established by the government, Malay investment and control of the corporate sector increased from 2.4 percent in 1970 to 12.4 percent in 1980 (Drabble, 2000). The target goal of the NEP was 30 30 percent by 1990. Malay employment in industry also increased rapidly, due partly to the Industrial Coordination Act of 1975, which extended the ethnic quotas to private sector. Despite of the impressive economic performance of Tun Hussein Onn’s administration, there was growing evidence of social unrest and anomies, including a series of arsons in Hindu shrines by the Islamic fundamentalist group called “the Army of Allah” and widespread peasant discontent (Means, 1991). After a coronary bypass operation in Britain, Tun Hussein Onn decided to retire from public office in July 1981. He later passed away in May 1990 in San Francisco. 2.1.1d Dr. Mahathir Mohamad (1981-Present) Dr. Mahathir Mohamad is currently the longest serving national leader in Southeast Asia. He came to power in 1981 after Tun Hussein Onn’s voluntary retirement. Unlike previous administrations in which the Deputy Prime Minister had succeeded to the position of Prime Minister, Tun Hussein Onn did not name Dr. Mahathir Mohamad as his successor. Instead, he let the UMNO General Assembly to choose the next leader of the party and the nation (Means, 1991; Cheah, 1999). Although there was speculation of opposition from other leaders, Dr. Mahathir went unchallenged in the party election and became the fourth Prime Minister of Malaysia. UMNO delegates in the 1981 General Assemble, rather than the president himself, also chose Musa Hitam, the deputy president, who automatically assumed the Cabinet post as Deputy Prime Minister. Both men have 31 been labeled as ‘ultras’ and expelled from UMNO during Tunku Abdul Rahman’s administration. Dr. Mahathir was born in Alor Setar in 1925. He had studied medicine at the University of Malaya when it was located in Singapore. After failing to obtain a scholarship to study overseas, he decided to enter government medical service in his home state Kedah in 1954. Three years later, he established his own medical practice in his hometown. Dr. Mahathir was first elected as UMNO Member of Parliament in Kedah in 1964. Although a new member in the Parliament, he was not afraid of challenging Alliance leaders, particularly in objecting to the cautions bargaining style of the Alliance government. In the 1969 General Elections, he was defeated by an opposition candidate from PAS (Islamic Party of Malaysia), his only defeat in general elections. This defeat prompted him to join Musa Hitam in open criticism of the leadership of Tunku Abdul Rahman, which led to their expulsion from UMNO (Means, 1991). Both of them were encouraged to later return to the UMNO by Tun Abdul Razak and were rapidly promoted to key policy-making positions. Early in his tenure as Prime Minister, Dr. Mahathir Mohamad tried to revamp the public services in Malaysia. According to him, mismanagement and corruption were undermining government policies. He vowed to fight corruption in the country by reactivating the Anti-Corruption Agency and the Public Complaints Bureau. Shortly after taking the helm of the government, Dr. Mahathir Mohamad led the BN to a victory in 1982 General Election, under the 32 platform of a ‘Clean, Efficient and Trustworthy’ government. The BN never lost its two-thirds majority in the Parliament under Mahathir’s leadership in five general elections. This two-thirds majority enables him to ratify his personal policy preferences, by altering the constitution on numerous occasions (Means, 1991; Cheah, 1999; Milne and Mauzy, 1999). There is no surprise that the earliest crisis which Dr. Mahathir had to face were the constitutional crisis in 1983. He proposed the amendment of Article 66 in the Constitution so as to explicitly require the Yang di-Pertuan Agong, the constitutional monarch, to give his assent to all acts passed by the Parliament. The Constitution Amendment Bill 1983, which was approved by the Parliament on August 3 1983, also included a parallel and similar provision for the rulers’ assent to legislation passes by the State Assemblies. In other words, this amendment would eliminate veto power of Malay Rulers over all legislative bills (Cheah, 1999). Malay Rulers publicly rejected this Bill after a meeting on November 20 1983. They questioned the legality of the Constitution (Amendment) Bill 1983 since Article 38(4) of the Constitution provided that no law affecting the privileges and position of the Malay Rulers could be passed without the consent of the Conference of Rulers. The Malay Rulers were able to draw emotional support from a large number of Malays and traditional royalists, who regarded the Rulers as important symbols of the special position of the Malay in Malaysia. Rallies were held by royalists across the country to oppose the amendment. 33 With his reformist policies drawing popular response, as shown in 1982 electoral triumph, Dr. Mahathir was determined to win in this “war of Malay popular sovereignty and royal hegemony.” He and his supporters also mobilized all possible resources to bring this amendment “before the people” (Rawlings, 1986). A compromise was reached toward the end of December 1983 in which the Agong agreed to give his assent to the Bill and in return, some provisions that were offensive to the rulers were removed. Dr. Mahathir had achieved his major goal in this crisis, which was to remove the veto powers of the Rulers. This victory was crucial because there was hardly anyone who was capable of challenging him. Dr. Mahathir has faced several challenges from within the UMNO since he became the president in 1981. He was first challenged by his deputy, Musa Hitam, and then by Tengku Razaleigh Hamzah, another prominent figure in the party. The conflict between Dr. Mahathir and Musa Hitam led to the resignation of the later as Deputy Prime Minister. In 1987, the conflict between Dr. Mahathir and Tengku Razaleigh, led to a serious split within UMNO. Tengku Razaleigh and his supporters left the party, after losing to Dr. Mahathir in party election by a very narrow margin (Means, 1991; Crouch, 1996; Cheah, 1999). Prior to Tengku Razaleigh’s departure, the UMNO had been dissolved by a High Court decision, and the 1987 party elections were declared illegal. After a series of political maneuverings resulted in gradual erosion of the once independent judiciary branch, Dr. Mahathir was able to revived the UMNO and 34 gained even stronger support, as most opponents within the party had left UMNO either voluntarily or being expelled. Of all his achievements, Dr. Mahathir has probably brought about the greatest transformation in the Malaysian economy (Means, 1991; Milne and Mauzy, 1999). His administration was clearly dedicated to achieving the target goals of the NEP by 1990. He questioned the implementation and strategy of achieving these goals in time. Therefore, he focused on the alterations in policy, in order to accelerate the “ethnic restructuring” goal of the NEP. Consequently, he introduced several policies that turned around the economy from the period of recession to new heights of prosperity during his administration. To increase Bumiputeras’ equity without affecting the equity structure of Chinese businesses, his administration focused on securing controlling interest in a number of key British Corporations operating in Malaysia. Through stock market purchases under coordination of the administration, the governmentfunded Bumiputera corporations began to secure the control of some established British corporations. The most dramatic event was the midnight raid on the London Stock Exchange that successfully transferred the control of the Guthrie Corporation to the Malaysian Government. Other famous British corporations that were victimized by government intervention in the stock market included Sime Darby, Dunlop, and Harrisons & Crosfield (Means, 1991). Mahathir’s administration also actively intervened in local and foreign tin markets in an effort to stabilize the price of this major commodity exported by the country. 35 The “Look East” policy was introduced in January 1982 to promote trade and investment with South Korea and Japan. Dr. Mahathir had argued that the “work ethic” among the Malays is a major problem that hinders the economic advancement of the Malays (Mahathir, 1981). With closer ties with these “strong work ethic” East Asian countries, it was hoped that the Japanese and Koreans would provide role models for the Malays. Consequently, Japanese and Korean investments in Malaysia skyrocketed since they were given priority consideration, especially in major construction projects. Dr. Mahathir also committed to accelerate industrialization in the country, hoping that more Malays would find jobs in sectors that require high skills and a strong work ethic. The expansion of industrialization also reduces the country’s dependence on commodity exports that face with high price volatility. The Industrialization Master Plan was formulated under his direction with the objective to emulate the Korean pattern of industrial development. He subscribed to the “big push” theory of economic growth and believed that the “push” would have come from the government (Means, 1991). At the same time, he also implemented some long-term policies that aimed at nurturing a nucleus of Malay businessmen. To implement these ambitious industrialization policies, the government established a company called the Heavy Industries Corporation of Malaysia (HICOM) that, in turn, formed numerous joint ventures with foreign firms. These include a RM$430 cement plant, a RM$800 million steel mill, a RM$450 million iron plant and a RM$560national automobile manufacturing plant. The 36 government also budgeted some RM$3.6 billion for infrastructure investment, in order to attract more foreign direct investment, particularly in high technology industries (FEER, June 16 1983). Among all of his policies, the one that received most lasting attention and serious scrutiny was the privatization policy. He first announced his privatization policy through a memo to senior government officials in 1983. Among other regards, he presented the following justification for his decision: Normally, companies and services owned and managed by the government have been less successful or have run at a loss because the government’s management methods differ greatly from those of private sector. On the other hand, private businesses and enterprises are usually profitable…In view of this possibility, there is a need to transfer several public services and government-owned businesses to the private sector. This transfer is called privatization. The privatization process can be carried out in stages following detailed study (Jomo, 1985) The first privatization announcement did not came until 1985, when the government announced that the Malaysian Airlines System would become privatized to raise RM$650 for much needed new capital investment. Since then, a large number of SOEs were privatized and many Malays became billionaires and millionaires overnight (Cheah, 1999). Despite challenges from within UMNO, recession during the mid-1980s and recent financial crisis, Dr. Mahathir has remained in power and there is no sign that he will retire soon. 2.1.2 The Mechanics of Elections Malaysia is a parliamentary democracy and a constitutional monarchy, modeled on the British system (Crouch, 1996). It is a federation consisting of 37 thirteen states and two federal territories. The Federation is nominally headed by the Yang di-Pertuan Agong (the king). Kings are elected for 5-year terms from among the nine sultans of the peninsular Malaysian states. The king is also the leader of the Islamic faith in Malaysia. Executive power is vested in the Cabinet led by the Prime Minister; the Malaysian Constitution stipulates that the Prime Minister must be a member of the lower house of Parliament who, in the opinion of the Yang di-Pertuan Agong, commands a majority in Parliament. The Cabinet is chosen from among members of both houses of Parliament and is responsible to this body. The bicameral Parliament consists of the Dewan Negara (the Upper House) and the Dewan Rakyat (the House of Representatives). The King appoints all members in the Dewan Negara based partly on representation of all states and advice from the Prime Minister and the Cabinet. Members of the Dewan Rakyat (Members of Parliament) are elected in General Elections, which are held every five years, unless the parliament is dissolved sooner. Parties with majority seats in the Dewan Rakyat will be given the rights to form government. There are currently 193 seats in the Dewan Rakyat (Musolf and Springer, 1979). The electoral system in Malaysia is greatly favored the ruling regime. In this first-past-the-post system, there is no realistic possibility that a nonBumiputera party or coalition would win an election by “going it alone” (Crouch, 1996). Government machinery at all levels is regularly mobilized during the short, usually less than 10 days, election campaigns. In addition, the government or the ruling parties control all media and this gives the oppositions difficulty in 38 spreading their messages to their constituencies. For example, during the 1999 General Elections, the Chairman of the ruling BN was urging all Malaysian to vote for his coalition and making promises that could not be matched by the oppositions during a prime time broadcast on the eve of polling day. No opposition leader was given a similar opportunity. Besides the short election campaign, all candidates are required to apply for permits to talk to constituents and to organize public forum (Callahan, 2000). Candidates from the ruling coalition usually obtain these permits without any difficulty. However, these permits, if not denied to oppositions, are typically approved very late in the campaigning period. Thus, it was virtually impossible to defeat the government in the elections even though opposition did provide stiff competition at individual constituency. As argued by Jesudason (1996), it is hard for a meaningful election to be held in an “electoral system where the rules are stack against non-ruling parties.” Gerrymandering guarantees Malay domination (Callahan, 2000). A constitution amendment in 1973 abolished all restriction on the extent of disparity between rural and urban constituencies, and enabled the Malay-dominated ruling coalition to redraw the constituencies to their advantage. Constituencies in the urban areas with high non-Malay populations are usually two or three times larger than the Malay populated rural constituencies. For example, the largest constituency in the 1999 General Elections was Ampang Jaya in Selangor with 98527 registered voters, much larger than the smallest constituency Hulu Rajang in Sarawak with 16018 registered voters. As shown in Table 2-1, the opposition 39 parties secured only a small number of Parliamentary seats in elections after 1969. Nevertheless, the number of seats does not give any indication of the popular votes that the opposition obtained (Table 2-3). Table 2-3: Parliamentary Election Results under Current Regime BN PAS DAP Semangat 46* PBS Others Total 1982 Seats Votes (%) 132 60.5 5 14.5 9 19.6 8 154 5.4 1986 Seats Votes (%) 148 57.3 1 15.5 24 21.1 4 177 1990 Seats Votes (%) 127 53.4 7 6.7 20 17.6 8 15.1 14 4 180 6.1 2.3 4.9 1995 Seats Votes (%) 162 65.1 7 7.3 9 12.1 6 10.2 8 0 192 3.3 2.0 1999 Seats Votes (%) 148 56.4 27 15.5 10 11.9 3 5** 193 2.1 12.4 *Dissident group from UMNO after the split of the party in 1987, but rejoined UMNO in 1999 General Elections. **Seats won by ADIL, a party formed by former Deputy Prime Minister Anwar’s supporters. Sources: Compiled from Election Commission Reports by author. With favorable positions such as the right to call for early election, the control of the media, the ability to mobilize all levels of government machinery, the ruling parties’ strategies and techniques of electoral fraud are more subtle and sophisticated. Thus, electoral corruptions such as vote-buying and faulty counting in Malaysia are less obvious compared to those in Thailand and the Philippines (Callahan, 2000). There have been ten general elections after the independence, all won by the Alliance/BN. This political coalition was able to maintain the two-thirds 40 majority in the Dewan Rakyat, except in the 1969 General Elections. With this comfortable majority in the Parliament, the ruling regime is capable of changing the Malaysian Constitution. Such constitution amendments have been particularly frequent during the two decades of administration under Dr. Mahathir Mohamad who has led the BN into five victories and managed to get around 55 to 65 percent of popular votes in general elections in 1982, 1986, 1990, 1995 and 1999. Besides manipulating the electoral process, rapid economic growth during the past two decades has enabled the channeling of resources to key constituencies, and to make the maintenance of BN dominance possible. 2.2 ECONOMIC HISTORY 2.2.1 The Malaysian Economy: Overview In order to place the ensuring discussion of crony capitalism in Malaysia, it will be useful to examine economic development in the country since the independence and some key aspects of its economic performance. Malaysia enjoyed one of the highest standards of living in Asia at the time of its independence in 1957 (Rao, 1980). Abundant with natural resources, Malaysia’s main impetus of development came from exports of primary products such as tin and natural rubber. The primary sector (agriculture, mining and forestry) accounted for more than 40 percent of the GDP in the first two decades of the self-government. Earnings from the exports of primary commodity contributed substantially to the continuous growth of Malaysian GDP in the 1960s and 1970s. This period also represents the first round (1958-1970) of import-substitution industrialization 41 (ISI) in Malaysia. There had been little structural change in the economy until the late 1960s when the prices of primary commodity sharply fluctuated (Drabble, 2000). The volatility of primary commodity prices reshaped the development plan in the 1970s. The dominant trend has been the transition from a dependence on primary exports to a diversified economy with a rigorous industrial sector. In the first round (1970-1980) of export-oriented industrialization (EOI), Malaysia looked increasingly to a manufacturing sector to invigorate the economic growth. The share of manufacturing in the GDP rose from 6.3 percent in 1960 to 13.4 percent in 1970 and to 20 percent in 1980 (Drabble, 2000). The average annual rates of real GDP growth in Malaysia were impressive in the post independence period (see Table 2-4). The slow down in the 1980-1985 reflected the depression in the global economy. To protect local interest during this short recession, Malaysia switched back to a more protective ISI strategy, but has returned to a more intensive EOI policy since 1986. Table 2-4: GDP Growth of Malaysia (%) Year 66- 71- 76- 81- 86- 91 92 93 94 95 96 97 98 99 70a 75b 80b 85c 90c GDP a 5.3 7.3 8.6 5.1 6.7 8.7 8.0 9.0 1959 prices, b1970 prices, c1978 prices Sources: Drabble (2000) and BNM (various issues) 42 9.1 10.1 8.8 7.7 -6.7 4.3 Underlying different phases of ISI and EOI strategies are the long-term Outline Perspective Plan (OPP) and the short-term five-year Malaysia Plan (MP). Since gaining independence in 1957, Malaysia has implemented two OPPs (OPP1 and OPP2) and seven Malaysia Plans. Malaysia implemented the first five-year Malaysia Plan (1MP) in 1966 based on the recommendations by the World Bank (1963). This was the first coordinated development plan of the country after the independence and it represents a turning point in the evolution of the modern Malaysian economy. The main objectives of 1MP were to achieve economic growth through industrialization, to eliminate economic disparity among the ethnic groups and to provide more employment opportunities. Nevertheless, economic growth continued to receive the greatest attention because it was believed to be the key to achieving the other two. Before the end of 1MP in 1970, problems of poverty and unemployment persisted, particularly in the rural areas and these problems were partially attributed as the cause of 1969 racial riot (Crouch, 1996). The parliament was suspended after the riot and a National Consultative Council (NCC) had been formed in January 1970. The first long-term development plan, OPP1 was designed and implemented by the NCC (Means, 1991). OPP1 covered a twenty-year period (1970-1990), which was divided into four shorter Malaysia Plans (second, third, fourth and fifth). The principal thrust of OPP1 was the implementation of New Economic Policy (NEP) to “eradicate poverty and to restructure society.” Details of the NEP and its results will be discussed in the following section. 43 Structural shifts were obvious during the OPP1 as the country was moving from an agriculture-based to a manufacturing-based economy (Drabble, 2000). Five major primary commodities, rubber, tin, timber, palm oil and petroleum, contributed a total of 78.4 percent of total exports in 1970, but were reduced to only 32.8 percent a decade later. Industrial policy also emphasized the shift from labor-intensive initiatives to industrialization based on capital and technology. The government implemented the First Industrialization Master Plan (1985-1995), which included numerous incentives to attract foreign direct investments (FDI) into the country. As a result, the share of manufacturing in the GDP rose from 19.7 percent in 1985 to 33.1 percent in 1995. The average annual growth rate during the OPP1 period was 6.7 percent. The Second Outline Perspective Plan (OPP2) was introduced after the completion of the OPP1. This ten-year plan (1990-2000) provided the platform for the implementation of the National Development Policy (NDP), which replaced the NEP but with similar objectives of achieving balanced development. As NEP and NDP is believed to be extremely crucial in the evolution of cronyism in Malaysia, it deserves a special section for detailed discussion. During the OPP2 period, the Malaysian economy continued to undergo structural transformation. Exports assumed an increasingly important role in propelling economic growth. The manufacturing share of total exports had increased from 58.8 percent in 1990 to 85.2 percent in 2000, the end of the OPP2 (Malaysia, 2001c). Electronics and electrical machinery appliances and parts, which were highly promoted in the Second Industrialization Master Plan (1996- 44 2000), contributed an increasing proportion to exports, accounting for more than 61.6 percent in 2000, compared with 33.3 percent in 1990. Whilst the dominance of the manufacturing sector has continued, the service sector expanded in size and improved in qualitative terms. The service sector grew at an average annual rate of 8.3 percent and increased it shares in the GDP to 52.4 percent in 2000, from 46.8 percent in 1990. The government implemented policies to improve the competitiveness of the service sector, in preparation for a more liberalized environment after the establishment of World Trade Organization (WTO). The policies included the promotion of exportoriented services in tourism, education, health, communications, financial services and consultancy as well as air and maritime transportation. Except for a negative growth rate in 1998 after it was badly hit by the financial crisis, the country was able to achieve an average annual GDP growth rate of 7.0 percent during the period of OPP2 (Malaysia, 1991). Malaysia is now in the Third Outline Perspective Plan (OPP3) and the Eighth Malaysia Plan (8MP). 2.2.2 New Economic Policy (NEP): 1971-1990 Although Malays dominates the political sphere and the government in the country, poverty in the rural areas in Malaysia has persisted and income inequality between Malay and non-Malay has widened even a decade after selfgovernment. Many policies during the 1MP were aimed at Malay economic development, but none of it had adequately addressed the issue of Malay poverty. 45 Corporate ownerships had been in the hands of foreigners and local Chinese, as they were in the pre-independence period. The ethnic disturbances of May 1969 and increasing pressure from the educated and urbanized Malays forced the government to rethink its economic policy and to take stronger actions to promote Malay capitalism. Malays were more vociferate after the 1969 riot and demanded a greater share of the country’s wealth. Citing the failure of earlier policies to address the relative deprivation of Malays in comparison to non-Malays as being the underlying root cause of the riot, Tun Abdul Razak, who succeeded Tunku Abdul Rahman as Prime Minister, launched the NEP in 1970. This affirmative action plan became the foundation and yardstick for all economic and social policy, covering a period of at least 20 years. As argued by Andaya and Andaya (2001) and many others, “the NEP has been responsible for the immense changes that have occurred in Malaysia over the past 30 years.” There were two objectives in the NEP: the eradication of poverty and the restructuring of society. In 1970, 49.3 percent of all households in Peninsular Malaysia were below the poverty line, estimated then at RM$33 per capita monthly (Anand, 1982). Of these, about 75 percent were Malays. Under the NEP, the government formulated a series of five-year plans that stressed both economic growth and the redistribution of economic opportunities to Malays. One of the goals of the NEP was to increase Malay corporate ownership to at least 30 percent by the year 1990. The effort of the government in achieving all targeted goals in the NEP in 20 years prompted massive government intervention in the economy. 46 The first objective of poverty eradication was pursued through policies of rapid economic growth. The main areas of assistance for the economic transformation of the poor, mainly Malays, were mostly in public service and education. Expansion of the public sector during the period of the NEP provided employment for Malays and attracted migration of young Malays to the urban areas. During the first three years of the NEP, 98 percent of the new recruits in the public sector were Malays. Public sector expenditure escalated from RM$4.24 billion in the 1MP (1966-1970), to RM$80.3 billion in the 4MP (1981-1985). The number of government employees was doubled during the same period, making the government the single largest employer in the country (Chan, 1986). Investment in higher education also expanded during the NEP and five new universities were established, two of them were designed to cater almost exclusively to Malay and Muslim students (Means, 1991). Access to higher education was made easier to Malays with favorable quotas and generous government financial aid. Conversion of the Malay language as the sole medium of instruction had aided the educational performance of Malays. In addition, large number of government scholarships also reserved for Malays for studying abroad. As a result, an educated middle class of Malays, trained with professional and managerial skills. The rapid economic growth of the 1970s and the 1980s resulted in a reduction of the households living below the official poverty line. The proportion of households below the poverty line in the Peninsular fell steadily from 49.3 percent in 1970 to 30.3 percent in 1983, and to 15.0 percent in 1990. In the rural 47 areas, the incidence of poverty fell from 58.7 percent in 1970 to 19.3 percent in 1990. Despite the facts that poverty measures are sensitive to methods of estimation and that government could provide misleading statistics, the poverty in the country is in a downward trend since the implementation of the NEP. This was further supported by the improvement in other social indicators such as lower infant-mortality rate, higher primary-school enrollment and longer life expectancy (Malaysia, 1991). Income inequality, however, continued to increase during the early years of the NEP with the Gini Coefficient going from 0.513 in 1970 to 0.567 in 1976 (Drabble, 2000). Nevertheless, a marked decrease in income inequality followed throughout the rest of the NEP with the Gini Coefficient dropping to 0.480 in 1984, and to 0.459 in 1989. Inter-ethnic and urban-rural income ratios showed similar trends during the NEP (Table 2-5). Table 2-5: Income Differentials by Race and Location, 1970-1989 Ratio of Mean Incomes 1970 1976 1984 1989 Chinese:Malay 2.29 2.28 1.76 1.70 Indian:Malay 1.76 1.56 1.28 1.29 Chinese:Indian 1.30 1.46 1.37 1.32 Urban:Rural 2.14 2.11 1.87 1.72 Gini Coefficient 0.513 0.567 0.480 0.459 Sources: Perumal (1989), World Bank (1990) 48 The social restructuring goal of the NEP involves principally the redistribution of corporate stock ownership. In order to achieve its targeted goal of 30 percent of Bumiputera corporate ownership, the government established many public enterprises that participate in activities involving all sectors of the economy (see Table 2-6). Table 2-6: Number of SOEs, 1960-1992 INDUSTRY Agriculture Building & Construction Extractive Industries Finance Manufacturing Services Transport Others Total 1960 1965 1970 1975 1980 1985 1992 4 2 5 9 10 9 38 33 83 65 127 121 146 121 0 1 3 6 25 30 32 3 5 3 5 0 22 9 11 6 13 0 54 17 40 13 17 0 109 50 132 76 27 0 362 78 212 148 45 0 656 116 289 258 63 6 1,010 137 315 321 68 9 1,149 Source: Mohamed, 1995 The number of public enterprises had increased from 109 in the beginning of the NEP, to a staggering 1149 shortly after the end of the program (Mohamed, 1995) All these public enterprises can be classified into three categories: departmental enterprises, statutory bodies and government-owned private or public limited companies. Departmental enterprises include agencies providing public services such as water supply, electricity, telecommunications, civil aviation and waste 49 management. Statutory bodies are those established by law at the federal and state levels to support the development of particular sectors or regions. Examples of such public enterprises include the Malaysian Industrial Development Authority (MIDA), the Tourist Development Corporation (TDC), the Urban Development Authority (UDA), the Petrolium Nasional Berhad (Petronas) and various state economic development corporations (SEDCs). The third category of these public enterprises includes companies established under the Companies Act of 1965, which are wholly or partially owned by the government. Examples of these companies include the Heavy Industries Corporation of Malaysia (HICOM); the property developer Paremba Berhad; and Food Industries of Malaysia (FIMA). In addition to the establishment of public enterprise, the government also created Bumiputera trust agencies, ostensibly accumulating wealth on behalf of the entire community. These trust agencies, in turn, were responsible in advancing Bumiputera corporate ownership by purchasing and holding shares on behalf of the community. Major trust agencies established during this period include Perbadanan Nasional Berhad or National Corporation (Pernas), Permodalan Nasional Berhad or National Equity Corporation (PNB) and Amanah Sham Nasional or National Unit Trust Scheme (ASN) (Toh, 1989). With efforts by government in mobilizing and accumulating capital, the share of Bumiputera in the ownership of share capital increased from 2.4 percent in 1970 to about 19.3 percent in 1990 after massive acquisitions. While the government claimed that this achievement fell short of the targeted 30 percent under the NEP, some statistics collected showed the Bumiputera ownership of 50 share capital well above the targeted goal. For example, a research sponsored by the Gerakan (a component party of the BN) estimated that the weighted average of Bumiputera ownership in all sectors was already 30 percent in 1983, seven years before the end of the NEP (Searle, 1999). During the same period, the Chinese equity ownership also rose from 27.2 percent in 1970 to 44.9 percent in 1990. Since all ethnic groups in the country shared in this prosperity, the rise in Bumiputera and Chinese ownership of the corporate sector must have come from the expense of foreign holdings. In fact foreign share fell from 61.7 percent in 1970, to 25.1 percent in 1990 (Malaysia, 1991). Through active acquisitions in domestic and foreign stock markets, the government successfully gained control of a number of famous companies that have been previously owned by foreigners. These include major plantation groups such as the Guthrie Corporation, Sime Darby, Dunlop, and Harrison & Crosfield (Means, 1991). In summary, the standard of living and income distribution pattern has improved during the period of the NEP. Government commitment in achieving the goal of equitable growth, however, resulted in a deficit in the public sector overall budget. Before the end of the NEP, the government started to gradually reduce the size and role of the public sector through consolidation and privatization. The National Development Policy, under OPP2, succeeded the NEP. 51 2.2.3 National Development Policy (NDP): 1991-2000 Two months after the conclusion of the NEP, the Prime Minister announced a long-term plan called “Vision 2020.” The plan’s main goal was for Malaysia to achieve a “fully developed country” status by the year 2020. This long-term plan reiterated some of the major policy changes introduced by the Prime Minister during his tenure, particularly the continuation of the economic liberalization undertaken since the mid-1980s. In order to achieve this ambitious goal, nine objectives were established: 1. a united, peaceful, integrated and harmonious Malaysian nation; 2. a secure, confident, respected and robust society committed to excellence; 3. a mature, consensual and exemplary democracy; 4. a “fully moral” society with citizens strongly imbued with spiritual values and the highest ethical standards; 5. a culturally, ethically and rigorously diverse, liberal, tolerant and unified society; 6. a scientific, progressive, innovative and forward-looking society; 7. a caring society with a family-based welfare system; 8. an “economically just” society with inter-ethnic economic parity; and 9. a “fully competitive, dynamic, robust, resilient and prosperous” economy. 52 Only a few months later, the government officially announced the medium-term plan, the Second Outline Perspective Plan (OPP2), as well as the Sixth Malaysia Plan (6MP). The NDP is the main thrust of the OPP2, implemented during 1991-2000, with the aim of achieving balanced development. Learning from the previous racial riot, the government emphasized the goal of balanced development, as it is crucial in ensuring both political and economic stability. Although a consultative council, consisting of representatives from all races and industry sectors was formed, EPU was the ultimate authority in making the final draft of the OPP2. Basically, all strategies used to achieve goals set forth in the NEP were maintained. These include the use of the quota system to redistribute the national wealth in order to eliminate social, economic and regional inequalities and imbalances. The Bumiputera Commercial and Industrial Community (BCIC), a less successful program to create Bumiputera capitalists during the 2MP, was given more emphasis as the strategy to increase the participation of the Bumiputera in the modern economic sector. Nonetheless, some new dimensions were introduced in the NDP. These new dimensions include shifting the focus of anti-poverty strategy to address hardcore poverty, relying more on the private sector to achieve the restructuring objective and to strengthen human resource development. Protection of the environment, a brand new dimension in the nation economic policy, was also emphasized in the OPP2. 53 During the OPP2 period, the Malaysian economy continued to undergo structural transformation, with the strengthening of the manufacturing sector and the expansion in the services sector (see Table 2-7). Despite the financial crisis that the country experienced in 1997-1998, the economy grew at an annual growth rate of 7 percent throughout the OPP2. The purchasing power parity (PPP) per capita income grew by 5.3 percent annually, reaching US$8,852, which was 2.5 times higher than the per capita income of US$3,516, in the beginning of the OPP2. Table 2-7: Sectoral Changes during OPP2 (%) 1990 2000 Agriculture & Forestry 16.3 8.7 Mining 9.4 6.6 Manufacturing 24.6 33.4 Construction 3.5 3.3 Services 46.8 52.4 Agriculture & Forestry 26.0 15.2 Mining 0.5 0.4 Manufacturing 19.9 27.6 Construction 6.3 8.1 Services 47.3 48.7 Share to GDP: Proportion to Total Employment: Source: The Third Outline Perspective Plan 2000-2010 54 In terms of poverty eradication, the incidence of poverty among Malaysians was reduced from 16.5 percent in 1990, to 7.5 percent in 1999. The number of poor households also decreased by 39 percent, to 351,100 in 1999. However, the income distribution worsened slightly, as the Gini Coefficient increased marginally from 0.4421 in 1990 to 0.4432 in 1999 (Malaysia, 2001c). Bumiputera ownership of share capital in the corporate sector increased from 19.3 percent in 1990 to 20.6 percent in 1995, but declined subsequently to 19.1 percent in 1999. The non-Bumiputera also faced the same decline in the share of corporate ownership, from 46.8 percent in 1990 to 40.3 percent in 1999 (Malaysia, 2001c). This apparently resulted from government effort to attract foreign investment, in order to stimulate growth and to accelerate recovery after the financial crisis. One of the most significant progresses during the period of OPP2 was the privatization program. With early successes since the late 1980s, the government continues the use of privatization as an important mean to enhance Bumiputera participation in the corporate sector. Various guidelines for the privatization program were finally formulated. These include the provision of at least 30 percent equity to Bumiputera by companies undertaking privatized projects, and the provision of at least 30 percent of contract-works of major privatized projects to Bumiputera contractors. Together with the BCIC and various entrepreneurship development programs, there was significant increase in the number of Bumiputera enterprises. During the period of OPP2, there were 697,900 new Bumiputera enterprises and 55 57,700 new Bumiputera companies registered with the Registrar of Business and the Registrar of Companies, respectively (Malaysia, 2001c). Privatization continued and intensified during the 6MP and 7MP, remaining as an essential part of the overall strategy in the country’s economic development 56 Chapter 3: Literature Review What has always made the state a hell on earth has been precisely that man has tried to make it his heaven. — F. Hölderlin, as quoted in F.A. Hayek, 1944 Institutions, in the simplest definition, refer to rules, enforcement mechanism and organizations. Many institutions are needed to facilitate market transactions and most of these institutions are provided by the state. Institutions such as the political institution, the judicial system and the financial system significantly shape how individuals behave in the market and how well markets function. For example, if “the system of private property is the most important guarantee of freedom” as argued by Hayek (1944), then government will make available laws that delineate private property. In addition, the government will also provide a judiciary system that enforces these rights and establishes the rule of law. Therefore, the state plays an important role in the development of market and the prosperity of private business in an economy. Policies implemented by the government affect which institutions will evolve in an economy. Nevertheless, existing institutions also affect which policies will be adopted and implemented. Every government policy or regulation will potentially create winners and losers. Thus it is quite common that some industries are actively involved in shaping regulations in order to receive benefits of regulations, or to a lesser extent, to avoid the burden of regulations. With the 57 power to coerce and the power to tax and to subsidize, government can and does selectively help or hurt a vast number of industries. This literature review chapter is organized as follows: Section 3.1 looks at the theoretical background for government intervention, and section 3.2 examines literature relating to economic conditions and political process. Previous studies on stock market reactions to such political events such as the presidential elections and regulatory changes are reviewed in Section 3.3 and Section 3.4, respectively. Section 3.5 reviews literature in economic development East Asia, followed by related literature in Malaysia. 3.1 POLITICS OF GOVERNMENT DECISION-MAKING The motives and patterns of government intervention in the market have attracted inquiry by both economists and political scientists. Two main theories using economic approach have been proposed: the “public interest” theory, and the “interest group” theory. The “public interest” theory of regulation emphasizes the role of government to correct market imperfections such as monopoly pricing and environmental externalities. This theory of regulation originated roughly from the enactment of the first Interstate Commerce Act in 1887, which was designed to prevent railroads from practicing price discrimination. Since then, there arose a rich literature in economics, examining utility pricing in relation to the public interest. In the analysis of the public interest theory, markets are implicitly assumed to be extremely fragile and apt to operate inefficiently; In addition, the 58 government intervention is assumed to be costless. Regulatory agencies are assumed to be the benevolent maximizers of social welfare (Bonbright, 1961; Flathman, 1966). Accordingly, government interventions in the market are simply responses to public demands for the rectification of inefficiencies and inequities of the free market system. Schubert (1962) argued that there is no public interest theory worthy of the name, and that the concept itself makes no operational sense. Posner (1974) also pointed out a number of deficiencies in the theory of the public interest of regulation. Empirical research conducted mostly by economists has demonstrated that regulation is not positively correlated with the presence of imperfect market structures, such as monopoly. Posner further questioned the effectiveness of the government in correcting market failure, citing some examples of government failure in correcting the market for water supply (Hirshleifer et al, 1960), and other natural monopolies (Posner, 1969). Keech (1991) disagrees with the strong statement of Schubert that implied the public interest concept was not worthy of further scientific or scholarly research. He argues that economics offers theory and language that can contribute to the understanding and fulfillment of political life by facilitating the analysis of the public interest. He shows how economic approaches can be used as powerful tools for concrete and systematic analysis of the public interest theory. General equilibrium theory, according to Keech, is a theory of public interest, in which the optimum is reached through a process of decentralized coordination and without central direction or control. Keech also explains how to employ the theory of 59 economic policy in making the public interest process more concrete and scientific. The interest group theory receives relatively more attention in economics because of the possibility of using public resources to improve the economic status of different groups. Individuals belong to particular groups—defined by occupation, industry, income, geography, age and other characteristics—that are assumed to use political influence to enhance the well being of their members. Pioneering work on interest groups can be traced back to Marx’s view that big business/capitalist controls the institutions of society. In early twentieth century, Bentley (1908) used an “economic approach” that focused on political pressure groups. According to him, “Pressure…is always a group phenomenon. It indicates the push and resistance between groups. The balance of this group pressure is the existing state of society.” Stigler (1971) contends that regulation is “acquired by the industry and is designed and operated primarily for its benefit.” Followed up Bentley’s insight and built on earlier work by economists such as Downs (1957), Buchanan and Tullock (1962) and Olson (1965), Stigler attempts to provide empirical support for the theory and insists with the political scientists that economic regulation serves the private interests of politically effective groups. The main policies, which an industry may seek from the state, include direct subsidy, artificial barriers to entry, directed price fixing and protection for inter industry competition. With case studies, he supported his view that economic regulation is better explained as a product supplied to interest groups, rather than as an 60 instrument for market correction. Posner (1974), Stigler (1975) and Peltzman (1976) further support the interest group theory in explaining government intervention in the market. Pelztman also found that some powerful consumer groups who emerged during the 1970s were able to compete with industry groups for political favor. Becker (1983) takes the inquiry a step further by building a model of the competition among pressure groups for political influence. Political equilibrium in Becker’s model depends on the efficiency of each group in producing the pressure and competition among these pressure groups that determines the equilibrium structure of taxes, subsidies and other political favors. One interesting finding from Becker’s analysis is the role of deadweight cost of taxes and subsidies in determining the outcome of the competition. An increase in the deadweight costs discourages pressure by subsidized groups but encourages pressure by the taxpayers. With competition among pressure groups, his analysis has therefore unified the view that governments correct market failures with the view that they favor the politically powerful. Laffont and Tirole (1991) use an agency-theoretic approach to interest group politics. While Stigler and other scholars focused on the demand side of regulation, Laffont and Tirole also examine the supply side of regulation by incorporating the relationship between politicians and their delegates in bureaucracy. Interest groups use different means to affect decision makers. These include monetary bribes; future employment for commissioners and agency staff; cater to the agency’s tranquility by refraining from publicly criticizing the 61 agency’s management; and monetary contributions to political campaigns to key elected officials who have influence over the agency. Conversely, good personal relationships provide incentives for government officials to treat their industry partners favorably. Their findings include the relative power of an interest group under different environments. An interest group has more power when its interest lies in inefficient rather than efficient regulation, where inefficiency is measured by the degree of informational asymmetry between the regulated industry and the political principal (legislative body such as the Congress). The interest group theory was also widely used in the analysis of trade policy (see Hillman, 1982; Hillman and Ursprung, 1988; Magee, 1989). For example, Grossman and Helpman (1994) develop a model in which specialinterest groups make political contributions in order to influence an incumbent government's choice of trade policy. The interest groups bid for protection with their campaign support. Politicians maximize their own welfare, which depends on total contributions collected and on the welfare of voters. They examined in their model, among other things, the determinants of the size of the equilibrium contributions made by different interest groups; the relative political power of these groups; and the division of political surplus between the government and the lobbies. 3.2 ECONOMICS CONDITIONS AND POLITICAL PROCESS The extent to which the economic events affect voting behavior, and the degree to which the political environment affects the government’s economic 62 policies are two important questions in political economy. Although there is a rich literature, using U.S. data devoted to the theory of voting behavior, no single answer is widely subscribed to. Kramer (1971) found statistically significant economic effects for congressional elections between 1896 and 1964. However, Radcliff (1988) argues that the economy had only affected the House vote in the early years, but stopped doing so in recent decades in the post-World War II era. Many of the disagreements are related to statistical procedures and interpretation of empirical results (Kiewiet and Rivers, 1985). Tufte (1975) examined the postwar midterm vote in the U.S. and argued that election year growth in per capita income is a major determinant of the midterm vote. Subsequent studies (Hibbs, 1982; Jacobson and Kernell, 1983; Born, 1986) based on Tufte’s methodology also find a significant economic effect at midterm. Lewis-Beck and Rice’s (1984) forecasting model of congressional seat swings for the period of 1950-1982, finds a significant effect for secondquarter per capita GNP growth. Another model of postwar seat swings developed by Oppenheimer, Stimson, and Waterman (1986) finds a significant effect for per capital income growth. All these studies seem to support the argument that economics affect voting behavior and thus political outcomes. Tufte (1978) also demonstrated that the economy has been managed since the early 1960s so as to expand prior to an election and contract after, in the U.S. and Britain. There is strong incentive for politicians to stimulate the economy prior to a presidential election, and to pursue deflationary policies following the election. Nordhaus (1975), using the wisdom that there is a tradeoff between 63 inflation rate and employment rate, investigates voter behavior facing intertemporal choice between present welfare and future welfare. He shows that an incumbent’s pattern of policy is predictable, starting with relative austerity in early years and ending with the potlatch right before election. Nordhaus concludes that “…a political business cycle is a significant factor in the operation of some capitalist democratic economies.” MacRae (1977) also examined the potential in a democratic society for a politically motivated business cycle. These business cycles can be explained as the result of the vote-loss-minimizing behavior of the incumbents who are facing myopic electorates, and a dynamic tradeoff between employment and inflation. Fair (1978) also suggests that incumbents interested in maximizing their votes should manipulate macroeconomic policies, so as to enhance the probability of their electoral success. McCallum (1978), Golden and Poterba (1980), Hibbs (1987), Alesina (1988) and Klein (1996), all cast substantial doubt upon the importance of electoral timing in directing macroeconomic stabilization policy using the Nordhaus model. Nevertheless, this does not eliminate the possibility that the incumbents have in fact taken some electorally motivated interventions. Frey and Schneider (1978) provide some evidence that pre-electoral manipulation of fiscal instruments in the U.S. is more likely to occur if the incumbent administration is unpopular and concerned about its re-election chances. Havrilesky (1993) has shown that the executive branch strongly influences the conduct of U.S. monetary 64 policy, while Buchanan, Rowley and Tollison (1986) suggested that fiscal policy in a democratic regime is subject to systematic political biases. Politically motivated cycles might be trivial in comparison with other economic fluctuations (Alt and Chrystal, 1983). These cycles could be more prevalent in other aspects or policy instruments. Grier (1987, 1989) finds political monetary cycles between theearly 1960s and early 1980s, but these cycles have vanished since then. Beck (1987) supports Grier’s findings but suggests that the Fed may not be actively pursuing such policies but rather passively accommodating fiscal cycles. Bizer and Durlauf (1990) show evidence supporting the claim that there exists political budget cycles. 3.3 STOCK MARKETS AND POLITICAL EVENTS Existing studies on financial market and political events has focused almost exclusively on the stock market and the presidential elections. As a group of rational agents in the economy, stock market investors have much more at stake and therefore are more reactive to any political and economic stimuli. Ten of thousands of individual investors are making their investment decisions based on available information everyday. This aggregated private information must necessarily represent their expectations about the future; or in an election year, it points to candidate they predicted to win the election. To the extent that a particular presidential candidate can have a positive or negative impact on business conditions, this expectation should be reflected in the stock market. Conventional wisdom of the Wall Street routinely associates upcoming presidential elections with increased stock market returns. As reported by Hirsch 65 (2000), the last two years (pre-election and election year) of the 42 administrations since 1832 produced a total net market gain of 703.2 percent, compared to the 251.8 percent gain for the first two years of these administrations. Therefore, we must be able to extract important and useful information from stock market for political study. Perception on whether a presidential candidate will have positive or negative impact to business conditions is closely related to political party preferences. For example, the Republican Party is traditionally viewed as the party of business and a Republican in the White House is believed to implement policies that are pro business in general. Hibbs (1977) found that politically left parties dislike unemployment to a greater extent than politically right parties. Thus, party preferences, or at least the presidential policy preferences, will have concrete economic consequences that direct or indirectly impinge on economic profit, which will be reflected in the stock market. Niederhoffer, Gibbs and Bullock (1970), using the Dow Jones Industrial Average (DJIA), examined the stock market movements in the days, weeks and months surrounding the presidential elections over the 1900-1968 periods. They found that the market tended to rise following a Republican victory and fall following a Democratic victory. The market has risen the day following the presidential election on the eight of the nine occasions that a Republican has won, but on only four of nine occasions when a Democrat has won. Their finding seems to support the contention that the market prefers Republican and acts favorably if Republicans win the presidency. 66 Using the single factor model developed by Fama et al (1969), Riley and Luksetich (1980) examined the daily closing prices for the DJIA during the 17week period surrounding each of 20 elections since 1900. They confirmed earlier findings that the market prefers Republicans, at least in the short run following the presidential elections. In another study of relation between stock market returns and presidential elections, Allvine and O’Neill (1980) found that the annual stock returns over the 1948-1978 period rose an average 22.1 percent in the year beginning two years prior to the election, 9.2 percent in the year of election, 0.6 percent in the year immediately following the election, and 0.7 percent in the second year following the election. They further argue that the four–year election cycle in stock prices could be one of the alternatives for the efficient market hypothesis. Huang (1985) supports the existence of an election cycle and contends that political control of the economy have grown stronger and more deliberate since 1960. Yantek and Cowart (1986) revealed considerable systematic evidence that support the view that investors engage in self-interested economic behavior. Using weekly data from 1935-1981, they examined both the aggregated and disaggregated presidential elections in relation to the price movements in the stock market. According to their analysis, market prices begin to move upward several weeks before the election. When Republican presidential candidates win election, prices increase and volume decrease, indicating a particularly strong market at the time of elections. When Democratic presidential candidates win the election, prices decrease and volume increases, indicating mass exit from the 67 market. Their findings seem to support earlier studies by Niederhoffer, Gibbs and Bullock (1970) and Riley and Luksetich (1980). A number of existing studies seek to refine this general observation so as to identify specific economic sectors influenced by presidential elections, since partisan control of government may differentially affect sectors of the economy. Such studies are valuable because determining whether there are sectoral consequences of election outcomes will deepen our knowledge of the interplay between government partisanship and economic variables. Roberts (1990) reassesses the policy implication of the 1980 election by looking at the changes in the value of politically sensitive financial assets in response to changes in the probable outcome of the election. He hypothesizes and shows that Ronald Reagan's victory would be favorable to the defense and thus would have a positive impact on the returns on a portfolio of 58 defense firms. In another study of industry political activities, Roberts (1994) analyzes portfolio returns surrounding the 1992 presidential election. The portfolio used is based on the Political Action Committee’s contributions of 124 industries. He found a positive relationship between potential benefits from government assistance and campaign contribution. Using data from the Iowa Electronic Market (IEM), formerly known as the Iowa Political Stock Market, and a portfolio based on report published by First Boston, Herron, Lavin, Cram and Silver (1999) attempt to replicate Roberts' findings. They first show that there exist economic sectors that are politically sensitive in 1992 presidential campaign. They also demonstrate that the 68 fluctuation in electoral probabilities in the 1992 presidential election, in fact, systematically impacted selected economic sectors of the United States economy. However, as they conclude, sectors that are politically sensitive in 1992 are not necessarily sensitive in 1996. 3.4 USING STOCK PRICE DATA TO MEASURE REGULATORY CHANGES Schwert (1981) observes and suggests that if government policy has economic consequences that affect expected value of firms, then the best way to judge the distribution and magnitude of such consequences is by observing security market reactions to changes in government policy. If the firm receives economic rents as a result of regulation, these economic rents will cause a change in future cash flows, and therefore can be directly measured by using security prices. He also provides a thorough discussion of methodological issues of using financial data to measure effects of regulation. Since then, economists have applying the empirical tools of modern finance theory, principally the event study method, to study the economic effects of regulation. An event study relates changes in stock prices to the release of new information. Most of these studies focus on positive and negative abnormal returns for investors in firms affected by the introduction of new regulation or reform in regulation. This section reviews several studies that utilize event study technique, while the details of the methodology are left for the next chapter. Dann and James (1982) examine the impact of changes in depository interest rate regulations on the common stock values of savings and loan institutions. The existence of binding constraints on interest rates paid to 69 depositors creates monopoly rents upon thrift institutions and therefore a relaxation of interest rate ceiling could reduce these rents. Their analysis showed that stockholder-owned thrift institutions have indeed experienced statistically significant declines in value at the announcement of the removal of interest rate ceilings. Maloney and McCormick (1982) study how the environmental quality regulations may enhance producer wealth while reducing an externality problem by restricting access to common property. They tested the effect of the cotton-dust standard on a portfolio of fourteen textile firms traded on the New York Stock Exchange (NYSE). The industry was aware of the impending regulation in January 1974. Maloney and McCormick showed that people who bought and held the fourteen-firm textile portfolio over the period of October 1973September 1974 earned a rate of return that was 24 percentage points higher than predicted by the market. Rose (1985) investigates the impact of motor carrier regulation in the late 1970s and early 1980s to the trucking industry. Her results reveal an average loss of 31 percent of the pre-reform equity value of general freight carriers as a consequence of the deregulation campaign, beginning in 1978. Her study also suggests that regulation creates monopoly rents, which were accrued to owners of trucking companies. Whinston and Collins (1990) also use the event study analysis to investigate deregulation in the airline markets. They conclude that stock data could be a prolific venue for learning about competitive behavior in industries facing regulation reforms. 70 Smith, Bradley and Jarrell (1986) study the firm-specific effects of price regulation using stock market data. When the OPEC quadrupled the world price of oil, U.S. policy makers responded by imposing oil price regulation in the late 1973. The authors identify the portion of capital gains and losses created by OPEC pricing and U.S. regulatory policies by examining the characteristics of petroleum firms. Their results indicate that U.S. oil production and refiner access to price-controlled crude oil were sources of capital gains and that U.S. and foreign refining were sources of capital loss. Their models of firm-specific abnormal returns represent an improvement in using stock data to measure regulatory effects. Malone (1993) also utilized the event study methodology to detect abnormal stock returns of pharmaceutical manufacturers that may be attributable to types of litigation-related events. All these events were theorized to substantially expand the product liability of pharmaceutical manufacturers. His results suggests that some types of litigation-announcements affect the stock returns of pharmaceutical manufacturers, particularly the discovery of a defect or problem with a drug that appeares to adversely affect stock returns of drug companies. 3.5 BUSINESS-STATE RELATIONS AND ECONOMIC DEVELOPMENT IN EAST ASIA Before abruptly halted by the financial crisis in 1997, East Asia (including both Northeast and Southeast Asia) enjoyed the most sustained economic growth of the twentieth century. The Asian model of development has drawn an explosion of empirical research, including a project that was embarked by the 71 World Bank. One important characteristic that differentiates East Asian countries from the rest of the developing countries is the role of the state in the government. Consequently, many scholars employ the development state theory that links the interventionist state and rapid economic growth to explain the East Asian experience. The development state theory deals extensively with key issues such as political power, institution structures and incentives to productivity. The idea that the state can be developmental was extensively written by early development economists. For example, Myrdal (1968) argued that the absence of a ‘hard state’ that can override conservative interests in favor of social reform and economic transformation is the main reason for the economic stagnation. Rosenstein-Rodan (1943) and Scitovsky (1954) contended that the state should play a crucial role in coordinating complementary investments in the development process. Kuznets (1973) also emphasized the role of state as the mediator of political conflicts between the “winners” and the “losers” in the growth process and structural change. A great deal of related literature has examined the distinctive nature of the relations between state-business in East Asia and how these close relations played a role in economic growth. There are two prevailing views on this close statebusiness relationship. In one favorable view, close state-business relationship is a necessity in the presence of market failures. State involvement is believed to help in coordinating investment activities and overcoming the problem of asymmetric information, which are important in the early stages of economic development 72 where productivity gains is large but the risk is high (Rodrik, 1995). Close statebusiness relationship could also provide access to credit, which otherwise might not be available, and lower the cost of credit. Wade (1990) argues that Asian states were able to “govern the market” to create their own success. Therefore, close state-business relationship is one of the major causes of the “miracle” in this region (Johnson, 1987; Haggard, 1988; Chu, 1989). Weiss and Hobson (1995) argue that state with strong capacity is vital to sustained economic strength. The other view mostly arises after the financial crisis in 1997; it labels this close state-business relationship as “crony capitalism” and sees this as a selfimposed blockage to development that leads to the inefficiency in resource allocation. Many who shared this view argued that when the state is actively involved in business activities, outright corruption and rent seeking opportunities become entrenched. Close relationship to the state means firms are able to obtain and abuse privileged information and market power, in order to prevent market competition. Rapidly expanded credit, explicitly or implicitly underwritten by the states, together with inadequate oversight encourages mismanagement and inefficient allocation of risk or moral hazard. As a result, there was over investment in risky and unproductive projects in this region. The nature of the state-business relationships, therefore, undoubtedly contributed in an important way to recent financial crises in the region (Corsetti et al 1998; McLeod 2000; Wei and Sievers 2000). Without uprooting the institutional structure of “crony capitalism,” as suggested by the International Monetary Fund (IMF), the prospects of recovery 73 from the crisis in this region were dim. Many analysts even anticipate the recurrence of the crisis in the near future, if crony capitalism continues to prevail in these economic systems. 3.6 MALAYSIA: RELATED LITERATURE There is a history of government intervention in the Malaysian economy since it gained independence. Nationalist and leftist voices that threatened British economic interests in the country were silenced or contained before independence was granted. The Malaysian government had embarked upon a program of economic development emphasizing economic diversification and industrialization immediately after independence. In addition to protecting economic interests of ex-colonial powers, the Alliance government’s policies reflected the interests and political compromise it embodied. From independence in 1957 to the late 1960s, the government pursued mostly market-based policies to promote private enterprise and to attract greater foreign investment inflows. Nevertheless, the government intervened in areas that neglected by the British colonial government, such as rural development, and social and physical infrastructure. Agriculture accounted for the largest part of the government development budget. Between 1971 and 1990, development strategy was guided by the NEP with two major objectives: to achieve national unity by “eradicating poverty” irrespective of race, and to achieve inter-ethnic economic parity by “restructuring society.” State intervention during this period is most intense, with the mushrooming of public enterprises and implementation of new regulations. 74 However, after the sharp recession in 1985, liberalization became the major theme of the development policy with the intention to stimulate private enterprise and foreign direct investments. Since 1990, the NDP has been the main thrust of the development policy, with more emphasis that favors growth, modernization and industrialization, rather than the earlier emphasis on inter-ethnic redistribution. While foreign investors continued to be courted, Malaysian firms are encouraged to invest overseas. The government is committed to reducing intervention and to support the growth of Malaysian firms, regardless of ethnicity (Gomez and Jomo, 2000). Close business-state relations were actively sought by the administration under the current Prime Minister, Dr. Mahathir Mohamad (Jomo et al. 1997). He first implemented the “Malaysia Incorporated” policy after taking office in 1981, with the goal of enhancing the cooperation between the public and private sectors. The power of the technocrats and bureaucrats had been curtailed under the Malaysia Incorporated policy. They were instructed to cooperate with the private sector and to “serve capital.” Mahathir was fond of reminding civil servants that their wages were derived from private sector profits. He also established the Malaysian Business Council in early 1991, with members consisting of the top business leaders in the country and high-ranking government officials. These business leaders have almost equal footing with government, “dictating terms, telling government what to do based on their links to leadership,” according to former Deputy Prime Minister Musa Hitam (Jayasankaran and Hiebert 1998). 75 Jomo K.S. and Terence Gomez have been extensively investigating the business-state relation in Malaysia since the early 1990s (Gomez 1990, 1991a, 1991b, 1994, 2001; Jomo 1993, 1994, 1995; Jomo and Gomez 1996, 1997, 2000). Their studies focus mostly on how the close business-state relations generate rentseeking opportunities. The government can achieve many political and economic goals through the deliberate creation, allocation and deployment of rents, while the politically well connected can capture rents for themselves. Such close business-state relations have remained as the primary means to consolidate and enhanced business as well as political interests in Malaysia. According to Jomo and Gomez (1997), the implementation of state policies such as the NEP and privatization resulted in unproductive, corrupt and wasteful activities in the politically modified market. Most importantly, these policies have created rent-appropriating opportunities and reshaped the growth and accumulation process to favor particular groups (read politically well connected groups). Based on these premises, Jomo and Gomez have identified numerous corporations that they believed are politically well connected. The business corporations that they identified have two common characteristics: i) were awarded government contracts or involved in privatization projects; and ii) have former politicians sitting on the board of directors. Although political connections have been widely discussed in the literature of East Asian economic development, little work has been done to reveal such relations empirically. This study utilizes the event study method and stock price data for firms traded on the KLSE to reveal the political 76 connectedness of these firms. Firms connected to current regime must be more sensitive to current political stability and to new policies or regulations. Such sensitivity is reflected in the change in the stock prices of the firms when credible challenges to the current regime are staged or new regulation is announced. A portfolio of these politically well-connected firms is expected to experience abnormal returns after major political events or new regulations. Thus, one can infer political connectedness of these firms via the returns of these firms. Using empirical evidence, this study aims to test claims made by current literature, particularly those claims made by Jomo and Gomez. 77 Chapter 4: Methodology and Data Does one need a knowledge of economics to understand what is going on here? — Robert Heilbroner, 1993 4.1 EVENT STUDY DESIGN The event study methodology, a technique developed and refined by financial economists, relates changes in stock prices to the release of new information. This methodology, also known as residual analysis and abnormal performance index tests, has been used to estimate the stock price behavior around the time of an information announcement or event. These announcements and events include firm-specific occurrences such as mergers, stock splits, dividend and earnings announcements, product liability litigations; and market wide events such as changes in discount rates, war on terrorists, elections and the sudden death of a national leader (see Chapter 3 for related literature review using event study methodology). Event study methodology has its foundation in the efficient markets/rational expectation hypotheses. Investors use all current information available to them as they determine the price at which they will buy and sell assets. Assuming the stock market is efficient, securities will be priced to yield a risk-adjusted normal return when new information arrives. Since this new information will affect the market’s expectation of future cash flows, stock prices should change immediately to reflect this new information. 78 Although there is no standard procedure, Bowman (1983) and Campbell et al. (1997) have outlined the following basic steps in conducting an event study: 4.1.1 Identifying the Event of Interest The first step in conducting an event study is to identify the event of interest. The choice of event must be of market interest, which is reflected with investors’ reaction upon the arrival of new information. The choice of event is crucial, since the selected events will restrict the testing of meaningful hypotheses. After the event is identified and selected, the exact date of the event must be determined. Although the timing of an event such as the implementation of new regulation is obvious, the relevant event time should start from the date when the market first anticipated the news. Therefore, an important step in an event study is to select an event window, the period when information about the event becomes available to the stock market and thus may affect stock prices. The calendar date of this event , becomes time zero in the event time. All time periods are described in the event time relative to the zero time when the event occurred (see Figure 4-1). Figure 4-1: Time Line for an Event Study T0 T2 T1 T3 79 Choosing the event window is of particular concern in an event study. In their simulation research of event study methodologies, Brown and Warner (1985) found that the power of the tests was very sensitive to the precision with which an event date can be identified. Because the stock prices react immediately to the release of new information, the event window will be relatively short, sometimes as short as one trading day. A longer event window, is therefore, more likely to include the period in which all the new information about the event is available to the market. Long event windows, however, may include noise and information from other events, making it difficult to isolate the impact of the relevant event. Confounding events can have a significant impact on the empirical tests, particularly those firm-specific confounding events. Some leading newspapers, the New Straits Times, Berita Harian, the Star, Nanyang Siang Pao, and Sinchew Jit Poh were searched to ensure that no other significant events occurred at the same time as the events analyzed in this study. Once the starting date is determined, one should establish the end of the event. Since the market processes information rapidly, the current academic standard is to extend the event period to the close of the trading day after the release of the pertinent information (Mitchell and Netter, 1991). Event study design is still effective, even without pinpointing the timing of the event. Dyckman, Philbrick and Stephen (1984) found that testing accumulated excess returns over a slightly longer period is just as effective. 80 Based on the time line as shown in Figure 4-1, define date. Then the event window is 1 = T1 + 1 to 2 = 0 as the event = T2, and the estimation window is T0 + 1 to T1. The post-event window is T2 + 1 to T3. Let L1 be the length of estimation window and L2 be the event window, then L1 = T1 – T0 and L2 = T2 – T1. 4.1.2 Model the Security Price Reaction The second step in conducting an event study is to examine the stock price performance around the event. The simple form of stock price return of firm i in period t is expressed as: Rit = [( Pt − P0 ) + DIVt ] P0 (1) where: Pt = price at the end of period P0 = price at beginning of period DIVt = dividend paid during period. Fama (1976) suggests the use of continuously compounded returns in the following log form: Rit = ln[( Pt − P0 + DIVt ) P0 ] (2) In addition to improving the normality of the return distribution, this transformation also eliminates negative values and makes it easier to convert daily returns to weekly or monthly returns, if necessary. However, which forms of returns does not seem to be an important consideration in event study (Thompson, 81 1988). Brown and Warner’s (1985) simulation research on event study indicates both simple and continuously compounded returns yield similar results. There are two common choices for modeling the normal return—the constant-mean-return model and the market model. Since security returns are assumed, conventionally, to be jointly multivariate normal and independently and identically distributed through time, we have: Let Rt be an (N × 1) vector of security returns for calendar time period t. Rt is independently multivariate normally distributed with mean 3 and covariance matrix for all t. This distribution assumption is sufficient for both the constant-meanreturn and market models to be correctly specified and permits the development of exact finite-sample distributional results for estimators and statistics. The constant-mean-return model assumes that the mean return 3i of a given security is constant through time: Rit = µ i + ξ it E [ξ it ] = 0 (3) Var [ξ it ] = σ ξ2i , where Rit, the ith element of Rt, is the period-t return on stock i, 5it is the disturbance term and σ ξ2i is the (i, i) element of . Since all regulations and political events generate market-wide reaction, this study uses the market model to measure stock returns during the estimation period. The market model assumes a stable linear relationship between the market return and individual security return: 82 Rit = α i + β i Rmt + ε it E [ε it ] = 0 (4) Var [ε it ] = σ ε2i , This market model assumes that the return on a stock i at time t is a function of the market return, Rmt, plus a zero mean disturbance term ε it . The KLSE composite index, which contains one hundred stocks from various sectors will be used as a proxy for market return. The term , often referred to as beta, measures the sensitivity of a firm’s stock return to overall market returns. is also known as the systematic risk parameter, which is equal to the slope. Firms with that is greater than one are relative sensitive to market movements. Firms that are highly diversified will have s that are close to one, while firms relative insensitive to market movements will have s that are less than one. The parameters α and were obtained using the ordinary least squares (OLS) regression using the stock return data from an estimation of 150 days. These and are used to predict how the stock price of the firm would have changed during the event period if there were no firm-specific information released during the event period. For a portfolio of politically connected firms, the market model is represented by the following equation: 83 R pt = α p + β p Rmt + ε pt (5) where: Rpt = return on the portfolio p in period t Rmt = return on the market in period t ε pt = random error term for portfolio p in period t. 4.1.3 Estimate the Abnormal Returns The third step in conducting an event study is to choose a method of estimating the abnormal returns for the firms or portfolios under study. The abnormal return is the actual ex post return of the stock over the event window. For each firm i and event date , we have, in general form ε it* = Rit − E [Rit X it ] , (6) where ε it* = abnormal return for time period t Rit = actual return for time period t Xit = market return for time period t In this study, the abnormal return (AR) for firm i on day t is estimated using the following equation: ∧ ∧ ARit = Rit − α i + β i Rmt 84 (7) ∧ ∧ where α i and β i are OLS estimated parameters from equation (4) during the estimation period. The zero mean disturbance term in equation (4) has become the proxy for the abnormal return. Likewise, the abnormal return for a portfolio of politically connected firms is estimated using the following equation: AR pt = R pt − (α p + β p Rmt ) (8) Since the expected value of the error term during the estimation period is zero, any non-zero value is assumed to be an abnormal return during the event window. The null hypothesis is that the given event has no impact on the behavior of stock returns. 4.1.4 Aggregation of Abnormal Returns After obtaining abnormal returns for individual firms, one needs to organize and group them to examine the cumulative effect of a particular event of interest. This aggregation is along two dimensions—through time and across securities. One of the most common methods of aggregating abnormal returns is to form a cumulative average residual (CAR) as introduced in Fama et al (1969). This study uses the aggregation method as in Campbell, Lo and Mackinlay ∧ (1997). Define CAR (τ 1 , τ 2 ) as the cumulative abnormal return for firm i from event period τ 1 to τ 2 , we have 85 τ2 ∧ CAR(τ 1 ,τ 2 ) = ∑ ARit (9) t =τ 1 ∧ VAR CAR(τ 1 ,τ 2 ) = δ i2 (τ 1 , τ 2 ) ( ) and under H0, CAR (τ 1,τ 2 ) ~ N 0, σ i2 (τ 1 ,τ 2 ) . ∧ The standardized cumulative abnormal return can be expressed as: ∧ ∧ SCAR (τ 1 ,τ 2 ) = CAR (τ 1 , τ 2 ) ∧ σ i (τ 1 ,τ 2 ) ∧ Under the null hypothesis, the distribution of SCAR (τ 1 ,τ 2 ) is Student t with ( L1 − 2 ) degrees of freedom. From the properties of the Student t distribution, the ∧ L −2 , for a large expectation of SCAR (τ 1 ,τ 2 ) is 0 and the variance is 1 L1 − 4 estimation window. Given equal weighting to all individual firms, the average standardized abnormal returns across N firms from event time SCAR (τ 1 ,τ 2 ) = 1 N N ∧ ∑ SCAR(τ 1 ,τ 2 ) 1 and 2 can be expressed as: (10) i =1 4.1.5 Analyze the Results The final step in an event study is to analyze and interpret the results. Once the abnormal returns are calculated, we need to design the testing framework for the abnormal returns. Most event studies use the parametric statistical tests, rather than the non-parametric statistical tests. As pointed out by Berry, Gallinger and Henderson (1990), simple parametric t-tests work well in 86 event studies and nonparametric tests are an “unnecessary complication and do not work well.” This study utilizes the standardized abnormal returns to form the basis of the test statistics. The standardized abnormal return ( SCAR ) is calculated as in equation (10). Assuming that the event window of the N securities does not overlap in calendar time so that the covariance terms are set to zero, under the null hypothesis H0, SCAR (τ 1 , τ 2 ) will be normally distributed in a large estimation L −2 window (for example, L1 > 30) with mean of zero and variance 1 . N (L1 − 4) Therefore, we can test the null hypothesis using: 1 N (L1 − 4) 2 SCAR (τ 1 , τ 2 ) ~ N (0,1) z = L1 − 2 (11) 4.2 DATA The data used in this study are daily time series data for all companies traded on the Kuala Lumpur Stock Exchange (KLSE). This study uses data from 1989, a year before the first event of interest, the announcement of the Privatization Master Plan and the 1990 General Elections. The year also represents the start of the liberalization of the financial market in Malaysia and the year the KLSE started using its first computerized trading system, the SCORE (System on Computerized Order Routing and Execution). This trading system may have an impact on the speed with which price sensitive information is impounded in stock prices. 87 All accounting data, including total assets, total debt, dividends paid out, and net income for individual companies were collected from various issues of the Investor Digest published monthly by the KLSE (available through: http://www.investorsdigest.com.my/) and Stock Performance Guide published by Dynaquest, an investment research company in Malaysia. All firms included in this study must have been traded for at least 150 days prior to the selected events to ensure the robustness of the parameter estimates. Since politically well-connected firms are most likely to be affected by the implementation of new regulation or the stability of current regime, these firms are hypothesized to have experienced significant abnormal returns during the event. 4.3 CRITERIA FOR FIRM SELECTION In this study, politically connected firms are defined as firms with close affiliations to the ruling regime, including the Prime Minister, the deputy Prime Minister, the Finance Minister and other leaders of the component parties of the BN. Crony arrangements in Malaysia are well known internationally, particularly among international fund managers investing in Malaysia (Price, 1994). According to Price (1994), government influence can “greatly affect profits” of those companies depend on government contracts (p. 282). A total of 66 firms were first identified through the regression analysis using the market model during the first event. All these firms had experienced statistically significant abnormal returns during the first event window. These initially selected firms are then compared to the firms identified as crony firms as 88 in existing publications, including the Far Eastern Economic Review, Gomez (1994), Gomez and Jomo (1997), Searle (1999) (see Appendix A). The author also examined the KLSE Handbook, holding company annual reports and the KLSE Research Institute of Investment Analysts System (http://www.klse-ris.com.my/) for information such as major shareholders and directors of the firms. Only firms traded on the Main Board of the KLSE will be included in this study. Among the 518 firms as of the end of 2001, a total of 83 firms were classified as having close relationships with the ruling regime (Appendix B). These firms are either owned and ran by proxies of top government officials (for example: Renong Bhd, UEM, Time Engineers), or people who have close personal relationships with government officials (for example: Berjaya Group, Lion Corporation, YTL Corporation). 4.4 KUALA LUMPUR STOCK EXCHANGE (KLSE) Established in 1973, KLSE was the second largest stock exchange in Asia in terms of market capitalization (approximately RM900 billion), before the onset of the 1997 Asian financial crisis, exceeded only by the Hong Kong Stock Exchange (Ahmad and Hussain, 2001). The market capitalization, that was over 300 percent of GDP, substantially higher than any other economy (Henderson, 1998). KLSE also has the second most quoted companies among Asian bourses, only smaller than the number of quoted companies in the Korea Stock Exchange. There were days when the turnover on the KLSE was higher than that in New York. 89 Companies are listed either on the Main Board or the Second Board of the KLSE. Larger companies are listed on the Main Board, while the smaller ones (with paid up capital less than RM20 million) on the Second Board. Only companies traded on the Main Board are included in this study. As of December 2001, there are 518 companies on the Main Board. The KLSE Composite Index, a proxy for market return used in this study, is a weighted market capitalization index based on a basket of 100 companies from various sectors. The KLSE also provides other sectoral indices. There are three forms of market efficiency that are based on a subset of relevant information incorporated into stock prices (Campbell, Lo and Mackinley, 1997): Weak-form Efficiency: The information set includes only the history of prices or returns themselves. Semistrong-Form Efficiency: The information set includes all information known to all market participants (publicly available information). Strong-form Efficiency: The information set includes all information known to any market participants (private information). Malkiel (1992) defines an efficient market as a market that fully and correctly reflects all relevant information in determining security prices. Therefore, if the market is efficient, no investor can make economic profits by trading on the basis of that information set. A number of previous studies have investigated issues relating to the efficiency of the KLSE. Barnes (1986), using monthly stock returns, finds results 90 which are generally supportive of weak-form efficiency. Laurence (1986) find similar results when examining daily returns for the 16 most traded stocks on the KLSE. A recent study by Ahamd and Hussain (2001) provides further support of weak-form efficiency of the KLSE. Ibrahim (2000), on the other hand, shows that KLSE is informationally inefficient and therefore, resources may not be allocated efficiently towards productive activities. According to him, it is possible to exploit the market for abnormal returns in the Malaysian stock market. 91 Chapter 5: Findings “…there are good cronies and bad cronies.” When referring to the difference between his own and his ex-deputy Anwar Ibrahim’s associates. “So there are cronies in America too.” Comment after Enron’s bankruptcy. — Dr. Mahathir Mohamad, Prime Minister of Malaysia In order to examine whether some particular firms benefited from their political connectedness, three major events during the 1990s were selected. The importance and significance of each event to the evolution of crony capitalism in Malaysia will be discussed in detail in individual related sections. 5.1 EVENT 1: 1990 GENERAL ELECTIONS AND PRIVATIZATION MASTER PLAN 5.1.1 Pre-Event: 1987 UMNO General Assembly The year 1990 marked the end of the NEP, a twenty-year economic policy that emphasized the eradication of poverty and the restructuring of society. This affirmative action program discriminated positively in favor of Malays, with the aims of transferring 30 percent of the country’s corporate wealth into Malay hands, and of making job functions less identified with race, by the end of the year. 92 While the government acknowledged that these goals are far from achieved, there is no official announcement of the next long term economic policy to replace the NEP. Nevertheless, the government led by Prime Minister Dr. Mahathir had already formed a consultative council to outline economic policy for the next decade. One important aspect of the new economic policy is the acceleration of the privatization program in the country. The privatization program started in the early 1980s after Dr. Mahathir assumed office. A strong proponent of the NEP, he was very dissatisfied with the progress of the NEP, particularly the distribution of corporate ownership. Despite having improved markedly, Malay ownership of corporate equity was only 12 percent halfway through the NEP period, a long way off the target of 30 percent by year 1990. He implemented aggressive programs in pursuit of this target, including compulsory transfer of shares to the Malays through the push for privatization during the 1980s. Dr. Mahathir first announced his commitment to the privatization in October 1983 with the policy directive of creating “Malaysia Incorporated,” a concept based on the experience of “Japan Inc.” The country is viewed as a corporate entity under this concept, with government providing the policy parameters and support, and the private sectors providing commercial expertise and ingenuity. The Economic Planning Unit (EPU) of the Prime Minister’s Department announced its Guidelines for Privatization in 1985, spelling out the rationale and broad guidelines for Malaysian privatization. However, the pace of privatization was slowed down by the recession in the mid-1980s. 93 When rapid economic recovery begun in 1986, the government started formulating a master plan on privatization in June 1988. An international consortium of bankers, lawyers and accountants has conducted a RM2.4 million study, funded partly by the British government. This consortium, led by J. Henry Schroder Wagg and the Arab Malaysian Merchant Bank, provides the framework for the transfer of government enterprise and projects to the private sector. No details of the study were publicly announced until after the 1990 General Elections. If privatization has been driven by the needs to achieve targeted goals of the NEP, then acceleration of the privatization must be a result of the needs for electorate support. Despite the economic slowdown before the 1986 General Elections, the BN, led by Dr. Mahathir, easily won the election with a two-thirds majority in the Parliament, mainly due to the unity in Malay community. In the 1990 General Elections, however, the Malay community was seriously split after the UMNO party election in 1987. Dr. Mahathir faced an unprecedented challenge from within his party in the UMNO general assembly election in 1987. Tengku Razaleigh Hamzah, a prince from the state of Kelantan, and Musa Hitam, then deputy president and former Deputy Prime Minister, formed a coalition to contest the party presidency and deputy presidency. Tengku Razaleigh was a principal author of the NEP and a pioneer in restructuring and takeover techniques (Gill, 1986). Amid economic recession prior to the party election, Razaleigh had drawn significant support from Malay owners of failing businesses who felt neglected by Mahathir. 94 On the other hand, Musa Hitam was the Deputy Prime Minister when Dr. Mahathir first formed his Cabinet. He resigned from the Cabinet in February 1986 due to policy disagreements with Dr. Mahathir. Musa Hitam was especially apprehensive about money politics in the UMNO and preferred modest development projects and growth rates. He was replaced by the stalwart UMNO politician, Ghafar Baba. The UMNO general assembly was held from 23 to 26 April 1987. A total of 1479 delegates would decide the party president, deputy president, 3 vice presidents and 25 members of the Supreme Council. Nearly 80 candidates, evenly divided into Team A led by Dr. Mahathir, and Team B led by Tengku Razaleigh and Musa Hitam, contested these 30 party posts, the largest number in UMNO’s electoral history. When the secret balloting began, it was widely held that Razaleigh and Musa took early leads in their respective contests (Gill, 1988). However, the balloting process was prolonged due to the confusion of the ballot paper and the necessity for a Friday prayer break. Irregularities occurred, such as the lost of keys to ballot boxes and recounts carried out in closed-off areas during the process. Late that night, it was announced that Dr. Mahathir had defeated Razaleigh by 43 votes and that Ghafar Baba had defeated Musa by 40 votes, with 41 ballots declared spoiled. The Team A also won 17 of 25 elected seats on the UMNO supreme Council. In late June 12 1987, Team B members filed a suit in the High Court that challenged the validity of the recent general assembly election. The suit charged 95 that members from 53 unregistered party branches had been permitted to attend divisional meetings at which delegates to the general assembly were chosen. Hence, “illegal” delegates had perhaps contributed to the narrow victories of Mahathir and Ghafar (Means, 1991). On February 4 1988, the High Court justice declared that the UMNO to have been illegally constituted, and thus ordered the registrar of societies to “deregister” the UMNO. This outcome created some difficulties for Dr. Mahathir, but also held out distinct new opportunities. After the 42-year old organization was disbanded by the Court, he immediately erected a new party called “UMNO Baru,” or the new UMNO. He named himself the UMNO Baru president, Ghafar Baba as deputy president and Daim Zainuddin as treasurer, and denied any membership applications submitted by Team B supporters. Eventually, Dr. Mahathir modified the party constitutions that restrict direct challenges for the top two posts in the party. Tengku Razaleigh and other Team B supporters formed a new party called “Semangat 46” or the Spirit of 46, a reference to the date on which the original UMNO was formed. Musa Hitam, who wavered between Team A and Team B after the 1987 election, would eventually be sideslipped into an overseas posts. 5.1.2 The Event: 1990 General Elections General elections are held every five years and Dr. Mahathir had a deadline of October 1991 to dissolve the Parliament and hold a general election. Nevertheless, political analysts already predicted an early election, mainly due to the expiration of the NEP and Mahathir’s needs to obtain mandate from 96 electorates for his new economic policy, while the country’s economy continued to recover from recession in the mid-1980s. After a campaigning-like tour around the country, including the state of Kelantan, Dr. Mahathir finally announced on October 4, 1990 that he was seeking dissolution of parliament, effective October 5, as a precursor to general election and state assembly election. Polling dates were fixed by the Election Committee for October 21 on Peninsular and October 20-21 in Sabah and Sarawak, with candidate nominations fixed for October 11. The ruling coalition was expected to win the election and form the new government. UMNO Baru has become a political juggernaut, wielding immense power and patronage since the split in 1988. Backed by a business empire of its own and other business corporations, it has plentiful funds for campaigning. It also has control over most of the media and made unashamed use of government facilities for its campaigning purposes. But the mantle of authority here has always been defined as a two-thirds majority in the Parliament. It would be a loss of face for Dr. Mahathir if the BN failed to obtain the two-thirds majority. Furthermore, without the two-thirds majority, he would not be able to pass any constitutional amendments required for the transfer of public enterprises to the private sector. During the campaign, one of the most intense criticisms against the government was focused on those policies that were designed to enrich UMNO members. The massive privatization program, alleged by the opposition, benefited 97 only few party elites and businessmen who are well connected with the government. Opposition parties, led by Tengku Razaleigh, formed a coalition before the election with structure similar to those in the BN. The coalition, the Angkatan, included parties of all races and religions. The main objective of the coalition was to deny Dr. Mahathir a continuing two-thirds majority in Parliament. Five days before the election, the ruling party in the state of Sabah, Parti Bersatu Sabah (PBS) quit the BN, and joined the opposition coalition. Backed by Christian Kadazans and Chinese, PBS has strong support in Sabah. The party fielded 14 candidates while tacitly fielding six more as independent candidates. These potential 20 parliamentary seats raised the opposition coalition’s hope to break Dr. Mahathir’s two-thirds majority. The last three days of the campaign of Dr. Mahathir seemed to focus on rallying Peninsular Malays against the Christian-dominated government of Sabah, without alienating the Chinese and Indians. The intention was clear when UMNO launched its final salvo that contributed greatly to the defeat of Semangat 46 in Peninsular. The whole incident stemmed from Razaleigh’s visit to Sabah to officially sign the pact with the PBS on October 18. The next day, the UMNOcontrolled Utusan Malaysia newspaper ran a front-page story of Razaleigh wearing a Kadazan head cloth with what appeared to be a stylized Christian cross on it. This tactic was fatal to Tengku Razaleigh since Utusan Malaysia is widely circulated among rural Malay readers. To all these rural Malays, it was an affront to see a Muslim leader wearing the symbol of a cross. Although Razaleigh had 98 tried to counter these tactics, the damage was done, especially with election only a day away. When all the dust settled, the BN retained its two-thirds majority in the parliament and gained the right to form the new government. The BN won 127 parliamentary seats while the opposition coalition won 53 seats. For Mahathir’s party, the UMNO Baru won 71 of 86 seats contested, while Razaleigh’s party failed miserably in the election. Semangat 46 won only 8 of 61 seats contested (see Table 5-1). Table 5-1: Parliamentary Election (1986 & 1990) BN 1986 1990 OP 1986 1990 C W C W C W C W UMNO 84 83 86 71 DAP 64 24 57 20 MCA 32 17 32 18 S46 - - 61 8 MIC 6 6 6 6 PAS 98 1 30 7 Gerakan 9 5 9 5 Permas - - 9 0 Hamim 2 1 * * Hamim - - - - PBS 14 10 * * PBS - - 14 14 USNO 6 5 6 6 Akar - - 4 0 PBB 8 8 10 10 PRM - - 3 0 SNAP 5 5 5 3 Plus - - 1 0 SUPP 7 4 8 4 Berjaya 8 0 - - PBDS 4 4 4 4 Ind 52 4 64 4 99 TOTAL 177 148 166 127 TOTAL 222 29 243 53 C=Contested, W=Won, OP=Opposition, *Contested as opposition in 1990 At the state assembly election, UMNO was completely routed in the fundamentalist Muslim state of Kelantan, losing all 38 seats it contested. Although UMNO had plans to penetrate to the state of Sabah, it made no headway as the Kadazan-based PBS has a firmer grip of the state after the election. Meanwhile in the Chinese-dominated state of Penang, the two Chinese-based BN component parties, Gerakan and MCA, experienced major defeats in the hand of DAP, a Chinese-dominated party in the opposition coalition. 5.1.3 Post Event: the Privatization Master Plan With the new mandate from the people, Dr. Mahathir, as promised before and during the campaign, vowed to accelerate the privatization program in the country. On February 10, 1991, he appointed Anwar Ibrahim as Finance Minister, effective March 15. To foster closer business-state relations, he formed the Malaysia Business Council with members consisting of top government officials and leaders from the business corporations. Dr. Mahathir also announced his Vision 2020, to achieve developed country status by the year 2020. In the same month, the government issued its Privatization Master Plan. A total of 250 unspecified public activities valued at RM166 billion (US$5.9 billion) would be transferred to the private sector in the very near future. 100 5.1.4 Empirical Study With little pretence of transparency, competition or auction, it is a quite common practice to award privatization projects to those closely related to the ruling regime. Many lucrative and very profitable state-owned enterprises were taken over by close associates of Dr. Mahathir and Finance Minster Daim Zainuddin on very favorable terms and at heavily discounted prices. The “first come, first served” principle in choosing beneficiaries of privatization projects is very liable to political abuse. This study focuses on the sample of 83 politically well-connected firms, as identified in previous chapters. After eliminating firms with missing value or not traded on the event date, 51 firms are included in this study. Since these politically well-connected firms have access to privileged information, particularly the future privatization projects after the election, they should have earned abnormal profits if the ruling coalition successfully retained the two-thirds majority in the parliament, in order to pass any constitution amendment required. In choosing the length of event window, I examine the volume traded prior to the event date, which is the first trading day after the election. Cumulative abnormal return is then calculated over this event window and across all firms. The null hypothesis is that the average cumulative abnormal return across these firms is equal to zero over the event window. The empirical results are shown in Table 5-2: Table 5-2: Empirical Result 1 (N=51) Event Day AAR CAR 101 SCAR z-Score -2 -1 0 1 0.2896 0.6707 1.3815 -0.9120 0.2896 0.9603 2.3418 1.4298 0.1105 0.2560 0.5273 -0.3481 0.7834 1.8149** 3.7385*** -2.4681*** AAR = Average Abnormal Return, CAR = Cumulative Abnormal Return SCAR = Standardized Cumulative Abnormal Return ***Significant at 1% level, **Significant at 5% level Figure 5-1: Event 1-Average Abnormal Return 1.5 1.3815 1 0.6707 AAR 0.5 0.2896 0 -2 -1 0 1 -0.5 -0.912 -1 -1.5 Event Day For all 51 politically well-connected firms included in this study, the cumulative average abnormal return for event day t = 0 is 2.34% and is statistically significant at 1% level (z = 3.74). The null hypothesis that the cumulative abnormal return is equal to zero is rejected. The 1990 General 102 Elections had a statistically significant impact on this portfolio of politically well connected firms. 5.2 EVENT 2: 1993 UMNO GENERAL ASSEMBLY 5.2.1 Pre-Event: The Rise of Anwar and His Corporate Links Prior to the emergence of Anwar Ibrahim as an UMNO leader, most business leaders were either linked to Dr. Mahathir or then Finance Minister Daim Zainuddin. Daim was particularly active in accumulating more assets for UMNO or for himself. Most politically well-connected firms were in fact associated with Daim himself. Although he had resigned as Finance Minister, his close relation with Dr. Mahathir as financial adviser and treasurer of UMNO enabled him to minimize cabinet interference in economic matters. Anwar only had become active in national politics since 1982, after an invitation from Dr. Mahathir to join the UMNO. His rise in the party was described as “meteoric.” He first narrowly defeated the incumbent to become the UMNO Youth leader, shortly after he joined the party. Then, he contested and won one of the vice presidencies during the party election that split the party in 1987. After spending a few years in minor posts in the Cabinet, he quickly became Minster of Education (a post believed to be a prerequisite for all prime ministers) and, in 1991 Finance Minster. The lack of training in economic matters made Anwar very dependent on the expertise of bureaucrats after assuming the finance portfolio. Nonetheless, he questioned some long-standing policies such as privatization and financial liberalization initiated by his predecessor, Daim. An Islamic activist before 103 joining UMNO, Anwar was particularly wanted to end UMNO’s involvement in business through investment-holding companies because such activities are unethical. Rumor was already widespread in the market that a clique of businessmen was acting on behalf of the new finance minister. Some of Anwar’s close associates were involved in business activities, with or without his knowledge. Two companies that were believed to be closely linked to Anwar after he became finance minister are Setron and Idris Hydraulic. Setron is headed by a top official of UMNO’s Penang branch that serves as Anwar’s political base, while Idris is headed by another UMNO official from Penang and who is a close friend of Anwar. Idris was controlled by Tengku Razaleigh’s supporters until a hostile takeover by individuals linked to Daim. Analysts believed the take over was engineered by Daim, to benefit Anwar’s supporters (FEER, Feb 21, 1991). Setron and Idris officials have since disclosed potentially lucrative business arrangements with other companies. Anwar has not been secretive about his ambition to use his position as finance minister as a springboard for a higher position, particularly deputy prime minister. In order to become deputy prime minister, he had to dislodge then Deputy Prime Minister Ghafar Baba. The latter was appointed by Dr. Mahathir after Musa Hitam resigned from the post in 1986. However, Anwar had to conceal that he was challenging Ghafar for as long as possible, because of the close relationship between Ghafar and Dr. Mahathir. The Prime Minster had asserted to defend his deputy at all cost, and Dr. Mahathir had assured Ghafar in 1989 that he 104 would be his successor. Furthermore, UMNO tradition discouraged contest for the top posts within the party. 5.2.2 The Event: 1993 UMNO General Assembly Election UMNO held its party election every three years. The election is of particular interest because in Malaysian tradition, the party president and deputy president, by default, assume the posts as Prime Minister and Deputy Prime Minister of the Cabinet. After the bitter contest in 1987 that split the party, Dr. Mahathir had modified the party constitution to discourage direct challenges for top posts. Specifically, each divisional nomination of an UMNO candidate for president and deputy president would carry with it the “bonus” votes. This would ensure that nominations were followed by virtual block voting at general assembly elections, rather than permitting divisions to publicly nominate incumbent position holders, but vote secretly for challengers. Anwar claimed that he had not intended to challenge Ghafar for the deputy presidency, but felt compelled to do so by the enthusiasm of his followers. Many ambitious corporate leaders linked to him had long been frustrated by the dominance of the Malay corporate world, by those close to Dr. Mahathir and Daim. In preparation for a successful challenge, Anwar’s associate had been active in the management buy-out in January 1993 of the influential media companies, The New Straits Times and TV3 through the Malaysian Resources Corporation. Two non-Malay entrepreneurs who believed to provide fund for 105 those management buy-outs are Quek Leng Chan of the Hong Leong Group and Loy Hean Heong of the MBF Holdings. The 1993 UMNO election also caused some irregularities in terms of the volume traded for securities related to UMNO, which led the Registrar of Companies began its investigations of suspected insider trading involving UMNO-linked companies. The party election was set on November 4, 1993. With only the post of party president not challenged, Anwar’s team, “the Vision Team,” fielded candidates for all positions, including three vice presidencies. The team, as claimed by Anwar and his supporters, should be elected because it would contribute to Mahathir’s goals as expressed in “Vision 2020”. Despite his strong support for Ghafar initially and oppose any challenge to his deputy, Dr. Mahathir declared himself as neutral when Anwar’s strength became evident. When divisional nominations were completed in September, Anwar received 145 nominations to Ghafar’s seven. Ghafar at first tried to continue the contest but resigned his party and government posts two weeks before the actual election took place. Anwar was therefore won the post unopposed and was in line for Malaysia’s deputy prime ministership. All three members of the Vision Team were elected Vice Presidents while two incumbents were defeated, including one who is Dr. Mahathir’s supporters. The team also won the presidency of UMNO Youth and a majority of the supreme council seats. An increasing number of corporate figures were taking active part in this party election and were elected to the Supreme Council. Previously, the 106 majority of UMNO members and thus their delegates to the assembly comprised mostly teachers, administrators and those from rural areas. 5.2.3 Post Event: New Landscape of Business-State Relations The election results clearly showed the strength of Anwar and seemed to eliminate the succession controversy in the party and the country. Dr. Mahathir was alarmed by the speed of Anwar in gathering support and felt his inability to direct the party process. However, as Prime Minister, he still has the power to determine appointments, in order to modify the choices of the general assembly. Dr. Mahathir was displeased and disapproved over the ‘team’ approaches to the election as carried out by Anwar. Although the Vision Team committed publicly to getting rid of money politics, they were accused of practicing them relentlessly during the general assembly, and allegedly representing aggressive business interests. Months before the general assembly, the value of the share of companies linked to Anwar appreciated almost threefold over little more than a month. This increase led to an investigation for insider trading. However, the result of the probe has never been disclosed. It was believed that one UMNO faction have raised approximately RM$300 million through the stock exchange to fund the campaign (FEER, July 7, 1993). In a Cabinet reshuffle after the party election, Anwar was appointed as Deputy Prime Minister as expected, following UMNO tradition. However, Muhyiddin, who obtained most votes in the vice presidential contest was “banished” to a low-profile minister post. Other Vision Team members did not get the promotion as expected in the Cabinet. Some were made deputy ministers 107 in the Prime Minister’s Department, where Dr. Mahathir could always keep his eye on them. As Deputy Prime Minister and Finance Minister, Anwar was able to develop and to have control over a vast patronage apparatus, which is crucial for his political advancement. Some business groups were clearly aligned with him in his bid for deputy presidency and eventually, the deputy prime ministership. Even though not all businesses or politicians can be neatly defined or identified into mutually exclusive camps, they are now clearly tied to either the once-dominant Mahathir-Daim camp or the Anwar camp. 5.2.4 Empirical Study While privatization contracts are still being given out to businessmen with close political ties, they are now more competition, as the patronage network expanded after the election. In early 1994, dispute had arisen between Anwar and Daim over the manner in which privatizations were being decided and distributed. The dispute appears to have been precipitated by the claims that businessmen close to Daim were benefiting most from the privatization. Businessmen linked to Anwar wanted a bigger share of the pie. There was a record-breaking year for KLSE in 1993. The Composite Index started the year at 643.42, but surpassed the 1200-point by the end of the year. Volume traded on the exchange, which averaged about 70 million shares a day in January, swelled almost nine fold to 626 million shares in September, edging the 623 million on the London Stock Exchange (compared to 305 million 108 on the Tokyo Stock Exchange and 264 million on the New York Stock Exchange the same month). Speculation that the stock market was being abused to raise funds was not ungrounded. Speculators buy stocks in companies linked to politicians they believe will do well in the election. Share price of Idris Hydraulic, a firm linked to Anwar, for example, increased from the year’s low of RM$0.60 toRM$2.96 in early April, with over 666 million shares traded during the week. A company with a net loss of RM$4.5 million in the previous year, Idris was believed to have secured a sizeable construction contract in the country’s multi-billion dollar airport project. Conversely, speculators also bought companies linked to probable losers on the grounds that the losers would be persuaded to withdraw, in return for financial favors from the eventual winners. A total of 69 firms that are believed to have close political ties were included in this event study. The event window is set at two days prior to the event and a day after. The null hypothesis is that these firms will earn an average cumulative abnormal return equal to zero during the event window. The empirical result is showed in Table 5-3: Table 5-3: Empirical Result 2 (N = 69) Event Day AAR CAR SCAR z-Score -2 0.2897 0.2897 0.0835 0.6887 -1 0.3175 0.6072 0.0915 0.7547 0 0.9472 1.5544 0.2729 2.2515*** +1 0.0989 1.6533 0.0285 0.2350 AAR = Average Abnormal Return, CAR = Cumulative Abnormal Return SCAR = Standardized Cumulative Abnormal Return ***Significant at 1% level 109 Figure 5-2: Event 2-Average Abnormal Return 1 0.9472 0.9 0.8 AAR 0.7 0.6 0.5 0.4 0.3 0.3175 0.2879 0.2 0.1 0.0989 0 -2 -1 0 1 Event Day The empirical result shows that these 69 politically well-connected firms included in this event study earned a cumulative average abnormal return on event day t = 0 of 1.55%, which is statistically significant at 1% level (z = 2.2515). 110 Therefore the null hypothesis of zero cumulative abnormal return is rejected. Despite the fact that the market plunged on the event day (Composite Index fell by 0.5%) and the day after (the same index fell by 3.28%), this portfolio of wellconnected firms managed to earn positive returns during the event window. 5.3 EVENT 3: 1998 CAPITAL CONTROL 5.3.1 Pre-Event: The 1997 Asian Financial Crisis During 1987-1996, the Malaysian economy grew at an average annual rate of 8.8 percent, as a result of greater outward-orientation of economy policy and political stability. The economy was in full employment with modest inflation of 4.5 percent. This impressive growth trajectory, however, changed dramatically with the onset of the financial crisis in 1997. The Asian crisis began as a huge liquidity crisis in Thailand July 2, 1997 when the Thai government announced that the national currency, the bath, would be floated. The central bank of Malaysia, Bank Negara Malaysia (BNM), responded with massive foreign exchange intervention that was only short-lived, holding the ringgit stable for two extra weeks, but costing several billion ringgit. On July 14, Malaysia also abandoned its support for the ringgit and gave way to market forces by floating. Consequently, the ringgit depreciated against the dollar by almost 50 percent, from RM$2.52 to a dollar in July 1997, to RM$4.88 to a dollar on January 7, 1998 (see Figure 5-3). The stock market collapse was even more drastic. Between July 1997 and mid-January 1998, most ordinary indexes of the KLSE fell by more than 50 percent. The Composite Index, for example, had plummeted by 51%, from a 111 closing index of 1078.9 in the beginning of July 1997, to a low of 525.5 on January 15, 1998. The KLSE’s market capitalization declined by almost US$225 billion, making it the biggest stock market plunge among the five Asian countries in crisis during the period (see Figure 5-4). Time Figure 5-4: Composite Index July 1997-January 1998 112 Oct, 1998 Sep, 1998 Aug, 1998 Jul, 1998 Jun, 1998 May, 1998 Apr, 1998 Mar, 1998 Feb, 1998 Jan, 1998 Dec, 1997 Nov, 1997 Oct, 1997 Sep, 1997 Aug, 1997 5 4.5 4 3.5 3 2.5 2 1.5 1 0.5 0 Jul, 1997 RM:$ Figure 5-3: Exchange Rates (RM:US$) Composite Index 1200 1000 800 600 400 200 7/ 1/ 7/ 199 15 7 / 7/ 199 29 7 / 8/ 199 12 7 / 8/ 199 26 7 /1 9/ 997 9/ 9/ 199 23 7 / 10 199 /7 7 10 /19 /2 97 1/ 11 199 /4 7 11 /19 /1 97 8/ 12 199 /2 7 12 /19 /1 97 6 12 /19 /3 97 0/ 1/ 199 13 7 /1 99 8 0 Time While leading Malaysian conglomerates were already heavily dependent external borrowings and market capitalization, they were now exposed to external loan repayment pressure, severe asset reduction, loss of profits, and ultimately, the threat of insolvency. According to official figures announced by the BNM, non-performing loans in the banking system began to increase from about 2 percent in July 1997, to 3.6 percent by the end of the year, and 11.8 percent in July 1998. Independent estimates of the non-performance loan ration were at the range of 25 to 30 percent (Financial Times, August 22 1998). 5.3.2 The Event: Capital Control Dr. Mahathir’s immediate response was to blame “international manipulators” such as George Soros and Jewish traders for attempting to jeopardize the success of the Muslim Malaysians. He continued his attack at the IMF/World Bank annual meetings in Hong Kong late September, the Asia-Pacific 113 Economic Cooperation (APEC) summit at Vancouver and the Commonwealth Heads of Government Meeting at Birmingham in November 1997. Interestingly, the currency and the stock markets slid even further every time he lashed out. In order to halt the decline in stock prices, the KLSE banned the short selling of 100 index-linked blue-chip stocks on August 27, 1997. Then the government announced the formation of a RM60 billion fund, mostly from the Employees Provident Fund (EPF) to support the stock market by selectively buying stocks from Malaysians but not foreigners at a premium above prevailing prices (FEER, September 18 1997). Instead of boosting investor confidence, these moves backfired, triggering a massive sell-off of stocks in the KLSE as both local and foreign investors used this opportunity to get rid of Malaysian shares. Meanwhile, Deputy Prime Minister cum Finance Minister Anwar Ibrahim had tightened up on money and began urging Dr. Mahathir to suspend mega infrastructure projects such as the $5.9 billion Bakun Dam, a new airport and the world’s longest building. In tabling the budget for the coming year in October, Anwar introduced austerity programs that included fiscal restraint, budget cuts and voluntarily adopted some IMF-type structural adjustment measures. He also unveiled a reform package recommended by the National Economic Action Council, set up to devise remedies in November 1997 that included Dr. Mahathir, Anwar and economic adviser, Daim. This package called for the cutting government spending by 18 percent, postponing indefinitely all public sector projects, stopping new overseas investments by Malaysian firms, freezing new 114 share issues and restructuring corporations in trouble (Malaysia, 1998). All these measures seemed to restore some confidence (Business Times, December 9 1998). While the government had introduced significant fiscal austerity measures, a contractionary monetary policy was ruled out because of the heavy reliance of the economy on bank credit. During the course of the NEP, the Malaysian banking system had accumulated massive outstanding domestic credit. The annual growth rate of bank credit rose continuously from 18 percent in 1990 to 33.5 percent in 1997. The ratio to GDP of outstanding credit had increased from an average of 85 percent during 1985-1989, to 120 percent in 1994 and over 160 percent when the financial crisis broke out in mid 1997 (Athukorala, 1998). Easy access to credit to the well connected backed by the government directly contributed to the build-up of highest credit among East Asian countries. Therefore, an increase in interest rates would have a severe effect on the debtridden, politically connected conglomerates. The announcement of these austerity measures believed to escalate the rift between Dr. Mahathir and Anwar. A Cabinet meeting in Langkawi Island on December 3 1997 that approved the austerity plan similar to those imposed by IMF on neighboring Thailand and Indonesia was concluded without Dr. Mahathir’s presence. This new policy was a stunning rebuke to Dr. Mahathir, since he had been railing against a perceived Western conspiracy and always preferred rescue packages that provide easy money and massive government spending. 115 Although he humbly agreed to go along with his Cabinet’s decision, Dr. Mahathir announced the continuation of a controversial $2.7 billion rail and pipeline project the very next day after Anwar’s announcement of the reform package. His action sent the ringgit to the new low and alarmed investors of the coming of what has eventually become the worst political crisis in Malaysia. Dr. Mahathir had, five days before the Cabinet meeting in Langkawi, approved the bailout of Renong, a big infrastructure developer headed by Halim Saad, Daim’s protégé. In a complex dealing that benefited Dr. Mahathir and Daim’s associates while leaving minority shareholders out in the cold, a Renong subsidiary, United Engineers Malaysia (UEM) paid a stiff premium to buy out the parent company. Anwar was enraged by the handling of Renong’s bailout and ordered an investigation. Although UEM was found to have broken disclosure rules, the punishment was trivial. Even though Dr. Mahathir and Anwar had long had differences over economic stewardship and management of political spoils, that rift clearly widened during those intrigue-filled days in December 1997. Anwar, although linked to many businesses, had a reform agenda and advocated the rule of law and more transparency for years. He advocated swift action during the financial crisis that would surely hurt his business allies. Dr. Mahathir, on the other hand, was pushing for more bailouts, including his son Mirzan Mahathir’s shipping company, Konsortium Logistik, which had trouble servicing its $490 million debt. While Anwar was in New York, explaining his reform policy and trying to allure foreign investors back to 116 Malaysia, the government bailed out another company, Malaysia Airlines (MAS), a company owned by another Daim protégé, Tajudin Ramli. Again, the government paid a high premium in this bailout. The government purchased a 29 percent stake of MAS for over $470 million, more than twice its market value. The feud between the two over how to contain Malaysia’s economic crisis and over the means to salvage the plummeting ringgit and stock market became openly visible before the UMNO general assembly, which began on June 20 1998. Before this non-election general assembly, Anwar and his political allies stepped up their criticism on how Dr. Mahathir handling of the economic malaise and bailouts; they challenged Dr. Mahathir to quash corruption and nepotism. Feeling the political pressure to turn over power to his anointed heir, Dr. Mahathir had decided to get rid of Anwar in the general assembly. A book called “50 Dalil Mengapa Anwar Tidak Boleh Jadi Perdana Menteri” (50 Reasons Why Anwar Cannot Be Prime Minister) was distributed to 1900 delegates attending the general assembly. This book alleged Anwar had homosexual and heterosexual affairs and charged him wiuth foreign espionage. Many believed that the book could not have been distributed without Dr. Mahathir’s knowledge. Shortly after the UMNO general assembly, former Finance Minister and a long-time confidant of Dr. Mahathir, Daim Zainuddin, was appointed to the Cabinet as Special Function Minister to take over management of the country’s economy. Anwar’s role as Finance Minister was sharply curtailed. By the end of August 1998, Malaysian stocks were down 80 percent from the previous year. Albeit denying the country would introduce capital control, 117 Anwar was no longer influential in determining policy instruments. On August 29, the governor and deputy governor of BNM, who were recommending fiscal restraint and contractionary monetary policy, resigned in disagreement over Dr. Mahathir’s decision to impose capital control (Berita Mingguan, August 30 1998). On September 1 1998, the day after the country celebrated its 41st Independence Day, Dr. Mahathir shocked the world by imposing capital controls. The new policy also fixed the exchange rate at RM3.80 to a dollar and banned trading in ringgit instruments among offshore banks. All ringgit deposits held outside the country would cease to be legal tender after September 30, 1998. The new controls are confined to short-term capital flows. A one-year waiting period was imposed on repatriation of the proceeds of sales of Malaysian securities. On February 15 1999, this one-year waiting period on portfolio capital outflows was replaced with a set of graduated exit tax (see Appendix C for details of capital control in Malaysia). The one-year waiting period was instrumental in curtailing speculative capital outflows. When BNM gained confidence that the offshore market had been effectively shut down, it began to relax interest rates. The 3-month interbank rate fell to 7.58 percent three days after the announcement of capital control, from 10.73 percent in early August 1998. Further cuts were made in the following months. By the end of 1999, the rate was 3.15 percent (Bank Negara Malaysia at http://www.bnm.gov.my/). To encourage 118 lending, the statutory reserve requirement was reduced from 13.5 percent in February 1998 to 4 percent in September 14 1998. The stock market was at a historical low when the capital controls were announced. The KLSE Composite Index was at 262.7 on September 1 but rebounded sharply after the announcement and rose steadily for six months to over 600. 5.3.3 Post-Event: The Aftermath After the September 1 announcement, Dr. Mahathir asked Anwar, at 5:30 pm on September 2, to resign or “I’ll humiliate you tomorrow” (Business Week, November 9, 1998). Anwar refused to resign from any government and political posts because resigning would be equivalent to an admission of guilt as charged by the book distributed before UMNO general assembly. At 7pm the same day, Anwar received a letter from Dr. Mahathir saying that he had been dismissed as Deputy Prime Minister and Finance Minister. On September 3, He was sacked as deputy president of UMNO and was expelled from the party. Dr. Mahathir acted as Finance Minister before handing the post to Daim in late 1998. On September 20, the same day Britain’s Queen Elizabeth II was in town for the Commonwealth Games, Anwar organized the biggest protest in Malaysia’s history, attended by approximately 50,000 people, to call for reform. Dr. Mahathir ordered Anwar’s arrest that night under the Internal Security Act, which allows for indefinite detention without trial. Street protests and demonstration grew in size throughout the country. The government increasingly confronted the 119 protestors with riot police, tear gas and water canons. A week later, Anwar appeared in court, bruised from what he said was apolice beating. 5.3.4 Empirical Study Few doubt that the imposition of capital controls, credit loosening and lower interest rates would principally benefit conglomerates close to Dr. Mahathir and Daim. Changes in stock prices of politically well-connected firms should show the immediate impact of the policy. A total of 77 firms were included in this event study. These firms are believed to either closely linked to Mahathir-Daim or Anwar. The event day is September 1, 1998, when the capital controls were announced, after KLSE was opened. The Composite Index closed sharply lower than the previous trading day. The event window was set at !2 days surrounding the event date, in order to include the effect of the dismissal of Anwar from all government posts. The null hypothesis is that cumulative abnormal return for all firms will equal to zero. A rejection of null hypothesis implies that this portfolio of politically wellconnected firms earned a statistically significant average cumulative abnormal return after the announcement of capital controls. The empirical results are shown in Table 5-4: Table 5-4: Empirical Result 3 (N = 77) Event Day -2 -1 0 +1 AAR 0.6319 2.8316 9.9244 -5.5017 CAR 0.6319 3.4635 13.3879 7.8862 120 SCAR 0.1336 0.7324 2.8309 1.6676 z-Score 1.1645 6.3836*** 24.6741*** 14.5348*** +2 5.4498 13.336 2.8199 24.5872*** AAR = Average Abnormal Return, CAR = Cumulative Abnormal Return SCAR = Standardized Cumulative Abnormal Return ***Significant at 1% level Figure 5-5: Event 3-Average Abnormal Return 121 12 10 9.9244 8 6 5.4498 AAR 4 2.8316 2 0.6319 0 -2 -2 -1 0 1 2 -4 -5.5017 -6 -8 Event Day Empirical results clearly show that share prices of politically connected firms experienced a strong rebound despite the market having been on a downward spiral days before the announcement. Cumulative average abnormal return on the event day for this portfolio of political well-connected firms was more than 13 percent, which is statistically significant at the 1 percent level. Test statistics conclude that the null hypothesis is rejected. Positive cumulative abnormal returns earned by this portfolio are strongly significant at 1 percent level following the announcement. While the average abnormal return dipped to the negative column the next day, it rebounded after the news that Anwar was sacked from all government posts, two days after the imposition of capital controls. 122 Chapter 6: Summary and Conclusions What we must seek in these matters (free market fraud) is reasonably evident. It is the use of plain language to express the clear truth. We can then take pleasure from the discomfort the truth so often evokes. — John Kenneth Galbraith, 1999 This study examines, through the use of daily stock data, the effect of political events and regulatory changes on a sample of politically well-connected firms traded on the Kuala Lumpur Stock Exchange. With access to privileged information and the ability to influence government decision-making, these firms consistently earn abnormal returns after major political events such as elections and regulatory changes. The results are presented in Chapter 5. The First section of this chapter will look at the limitations of this study, followed by a discussion and summary of the results. Recommendations for future research will be presented in the final section of this last chapter of this study. 6.1 LIMITATIONS OF THE STUDY The three events selected for this study were based entirely on the author’s judgment and the goal of examining the evolution of crony capitalism in Malaysia. The first event selected, the 1990 General Elections, is extremely crucial in Malaysian history, especially to the Mahathir regime (see Section 5.1 in Chapter 5). For the first time under his administration, the ruling coalition faced a stiff battle against the first credible opposition coalition in the country. Although 123 privatization started in the early 1980s, the author believes that the victory in the 1990 General Elections enabled the ruling regime to rapidly expand its patronage network by virtually giving control of state enterprises and government contracts to the well-connected. The problem of selecting this event is the lack of searchable computer database regarding the news surrounding this event. Results obtained in this study relied upon the accuracy of identifying the event, and thus a wide range of media databases were thoroughly searched. These included archives of Malaysian newspapers in various languages; weekly magazines such as Far East Economic Review and the Economist; and the LexisNexis database. The goal of searching these databases was to ensure that no other event occurred within the event window selected and thus the results obtained are consequences of the event itself. However, due to the limitations of the database, a comprehensive computer search was limited to news after January 1, 1991. To search the news surrounding the 1990 General Elections, the author manually searched through the Malaysian newspaper collection by using facilities provided by the Center for Malaysian Chinese Studies, Kuala Lumpur. This manual search was limited to collection with labeling terms such as “general elections,” “Dr. Mahathir” and ‘Tengku Razaleigh.’ Consequently, some important news, for example, announcements pertaining to earnings and dividends, that are not related to the election but could be significant for the market was partially ignored. Simultaneous events might confound the empirical results, particularly for those obtained in Event 1, that occurred before 1991. 124 Daily stock return data used in this study is based entirely on the end-ofthe-day closing price. Without the intra-day changes of share prices, it is unclear, however, when the market participants received relevant information during trading hours. Correctly and precisely identifying the timing announcements is critical to the event study method. Extending the event window will increase the probability of capturing the impact of the policy change, at the expense of lesser control of extraneous variance. Specific criteria such as unusually heavy volume traded and percentage changes in the Composite Index were used as guidelines for selecting the event window. The final decision on the length of the event window was based upon the subjective judgment of the author. Selecting the sample remained the most difficult task in this study. The author first identified a list of firms that earned a statistically significant positive average abnormal return after the first event, using the market model. A total of 66 of the 253 firms listed on the KLSE in 1990 were included in the sample. This sample is then compared to a list of politically well-connected firms as cited in existing literature. In addition, the author also investigated the corporate structure, including the board of directors and major shareholders of each firm. After adding newly listed firms over the years, the author finally determined that 83 firms listed on the KLSE are linked to top government officials or the ruling parties, particularly UMNO. The major problem is to divide this sample of 83 firms into the MahathirDaim and Anwar camps. Albeit some firms clearly belong to a certain camp, many remain ambiguous. This ambiguity is worsening with the dynamic of 125 corporations in Malaysia. Mergers and acquisitions were rampant during the 1990s and corporate ownerships were changing continuously. Furthermore, interlocking in both stock ownerships and directorates is common among Malaysian firms and the mutual dependency of these firms complicated the grouping of firms into respective camps. Nonetheless, firms included in this study are publicly acknowledged as firms with close political ties. 6.2 DISCUSSIONS AND SUMMARY The empirical results suggest that some political events and regulatory changes significantly benefited a portfolio of politically well-connected firms. The following sections discuss the results and possible explanations for each event. It is hope that each of the event examined will provide a set of tentative answers to the questions such as how do crony capitalism come into being, why do they survive for so long and can crony capitalism be reformed. 6.2.1 Event 1: The 1990 General Elections Empirical results as shows in Table 5-2 in Chapter 5 suggest that the 1990 General Elections have a statistically significant effect on the stock returns of politically well-connected firms. The 2-day cumulative abnormal return (the day before and after the election) was 2.34 percent, which is significant at 1 percent level. Throughout the 4-day event window, the cumulative return was 1.43 percent. Any subsequent changes in stock prices reflect a refinement of prior expectations. The market was relatively stable during the campaign that lasted only 10 days. The average volume traded on the KLSE was about 30 million shares per 126 day, with less than 1 percent in absolute changes in return. No one doubted the victory of the BN. The opposition coalition focused criticisms against the corrupt government that enriched those who were well-connected, and urged electorates to deny the two-thirds majority of the ruling regime. The empirical results obtained in this study also confirmed the claim that the 1990 General Election was decided in the last two days of the formal election campaign (FEER, November 1, 1990). Pro-government media coverage, particularly the front-page coverage where the opposition leader Tengku Razaleigh was pictured wearing a symbol of cross and repeated reminders by Dr. Mahathir of the 1969 racial riots after the ruling coalition was denied the twothirds majority in the parliament, were seemingly the decisive factors. The stock market reacted positively two days before the polling day; the performance of the portfolio of politically well-connected firms was similarly elevated. This implied that market participants anticipated the ruling regime would be able to retain its two-thirds majority and thus any constitution amendments required to clear obstacles for the selling of state enterprises. Although privatization started in 1983, it proceeded on an ad hoc basis, with little official guidance. In 1987, the government commissioned a “Privatization Master Plan” (PMP) for Malaysia, which identified approximately 424 state enterprises to be privatized between 1991-1995, with 246 enterprises to be privatized the very first year. The essence of PMP remained under embargo until after the 1990 General Elections. 127 The PMP did include a unifying regulatory structure, the Privatization Act for all privatized enterprises. With a two-thirds majority in the Parliament, the passage of such an act was just a matter of time. Thus, winning the two-thirds majority in general elections was crucial for the development of a patronage network. At the individual firm level, firms associated with Tengku Razaleigh, the opposition leader and former Finance Minister, such as Idris Hydraulic and Hong Leong Group, were hit the hardest during the event window selected. Idris Hydraulic, for example, was taken over by a “paper” company with no known business activities, but linked to UMNO, an act believed to stop the funding for Razaleigh’s political activities (FEER, January 17, 1991). Following the takeover, three prominent Semangat 46 leaders resigned as directors of Idris Hydraulic. The takeover of Idris Hydraulic was later believed to be engineered by Daim to benefit the supporters of the then rising star, Anwar. Not long after the takeover, Anwar was appointed as Finance Minister in February 9 1991 (effective March 15 1991). The firms that gained the most during the event window were all linked to UMNO and Daim’s protégé. These included Kinta Kellas, which earned a positive abnormal return of 25.1 percent during the event window, Ayer Hitam Tin with 16.8 percent, and Landmarks with 11 percent. Other firms linked to Dr. Mahathir, such as YTL and Tongkah also earned a handsome return during the event window. 128 6.2.2 Event 2: 1993 UMNO General Assembly Event 2 was selected to examine the impact of the rise of Anwar as a prominent leader in the UMNO and the country, to firms with close political ties. Active in politics since he was a student at the Universiti Malaya, Anwar has a huge grassroots following and was once a strident critic of the BN coalition, which has ruled Malaysia since its independence in 1957. Later, he organized and led an Islamic activist group, Angkatan Belia Islam Malaysia (ABIM). When he first took over the post as Finance Minister in 1991, Anwar was expected to distance the UMNO from a web of high-profile business enterprises the party owns. These businesses have obtained several lucrative contracts under the privatization policy. So, when Anwar announced that he would pursue a higher ranked position in the party and to position himself as Dr. Mahathir’s heir apparent, those politically linked businesses would be negatively affected. On the other hand, the empirical results obtained in this study in Section 52 in Chapter 5 shows that the portfolio of politically well-connected firms able to earn a positive average abnormal return, after the “Vision Team” led by Anwar, won majority positions contested during the party election. Despite the market closing down for the day of the UMNO election, the portfolio selected for this study was able to gain 1.55 percent in terms of cumulative abnormal return, which is statistically significant at 1 percent level. The positive gain in average abnormal return could be the result of the change in Anwar’s attitude toward mixing politics and business. His tenure as Finance Minister since early 1991 had increasingly been marked by his close ties 129 with politically well-connected businessmen. Although he once pointed out that “UMNO should have no business in dealing with business,” (FEER June 6, 1991) Anwar realized the importance of these businesses to his ascendancy in UMNO’s hierarchy and to his political survival. Even before he made his official announcement contesting the deputy president position in the party election, his allies had been active in acquiring media–related businesses, including The News Straits Times and TV3, both controlled by Daim protégé. The former controls not only the leading English and Malay daily newspapers in the country, but also a Chinese daily. His direct control over these media operations was seen as being crucial in his victory in UMNO’s triennial election in November 1993. His victory was reputedly well supported by Daim, who had been credited for UMNO’s growing ownership of business entities. 6.2.3 Event 3: Capital Controls in 1998 The announcement of capital controls on September 1 1998 represents the most critical crossroads in the financial crisis in Malaysia. Although the government had implemented several austerity measures to halt the sliding of the currency and the stock market, no comprehensive policy was introduced to bring the economy back to positive growth. Neighboring countries such as Thailand and Indonesia had accepted IMF rescue package shortly after the crisis broke out. The indecisiveness over policy in Malaysia was mainly due to the differences between Dr. Mahathir and Anwar. The former preferred easy and cheap credit in rejuvenates the economy, while the latter opted for an IMF-like 130 prescription with fiscal constraint and contractionary monetary policy. Anwar also perceived the crisis as an opportunity to uproot the corruptive business-state relationship in the country. Conflict between Dr. Mahathir and Anwar culminated after the announcement of the policy and thus increased political risk in the Malaysian market. Interestingly, while the market surged the day after the announcement, this portfolio of politically well-connected firms performed poorly, incurring a loss of 5.5 percent in terms of average abnormal return. The Composite Index increased by 12.14 percent while volume traded (324 million shares) was almost doubled from previous trading day. While many firms in this portfolio are heavily in debt, imposition of capital controls would be beneficial only if they could gain easy access to cheap credit in servicing their debts. Table 6-1 shows the debt-equity ratio of a sample of firms that were closely linked to Mahathir-Daim. This ratio measures the amount of interest bearing debt and the amount of shareholders equity A closer investigation of firm-level return reveals that all but 13 firms in this politically sensitive portfolio experienced a negative return the day after the announcement. The following firms experienced a double-digit loss in one-day return: Setron (-20.2%), MBF Capital (-14.7%) and DRB (-11.4%); these firms are all linked to Anwar. Other firms that are closely linked to Anwar were also hit hard by the announcement. These include MRCB (-8.1%), Idris (-7.3%), TV3 (6.24%), and NSTB (-5.3%). This implied that the market had reacted promptly to 131 privileged information, as Anwar was sacked from all government posts shortly after the market closed. Table 6-1: Selected Debt-Equity Ratio Before and After the Capital Controls Firm Before (as of) After (as of) Renong 3.59 (Jun 1998) 8.35 (Jun 1999) UEM 3.22 (Dec 1997) Time Engineering 1.31 (Dec 1997) 3.11 (Dec 1998) 10.0 (Dec 1998) TRI 2.01 (Dec 1997) 3.62 (Dec 1998) Sapura 0.67 (Jan 1998) 11.05 (Jan 1999) Faber 2.25 (Jun 1998) 3.74 (Jun 1999) Tongkah 1.79 (Jun 1998) 2.33 (Jun 1999) Source: Stock Performance Guide The dismissal of Anwar from the cabinet also has a statistically significant effect on average abnormal return for this portfolio. The average abnormal return was 5.4 percent, which was approximately equal to the loss a day before. With Anwar and the two top central bankers removed before the announcement, Dr. Mahathir and Daim were able to implement their plan to stimulate the economy. During the 5-day event window, 35 out of 77 firms in this portfolio earned an average abnormal return of more than 10 percent. Of these, 28 firms are generally believed to have a close relation with Mahathir-Daim. Among 6 firms that earned more than 20 percent in average abnormal return during this even 132 window, all but one are linked to Mahathir-Daim. This empirical result supported the argument that the imposition of capital controls benefited principally firms closely linked to Mahathir-Daim. 6.3 CONCLUSION This study provides empirical evidence and shows that politically wellconnected firms did experience abnormal stock returns after major political events and regulatory changes. While previous studies focused mostly on the corporate structure, this study is the first to utilize market information in examining the political ties of Malaysian firms. Offering paid positions in the form of nonexecutive board directorship and even transfers of stock to retired government officials or family members of the current administration are common practices in most countries. However, these do not substantiate the allegation that some members of the government misuse their public positions. By providing quantitative evidence, this study strengthens previous findings and shows that the government did implement policies that benefited those who are politically well connected. Political connectedness clearly matters in determining the level of abnormal returns experienced by each firm for the event selected. In the absence of political turmoil within the ruling regime, all firms benefited from having close political relationships. However, as shown after the imposition of capital control, firms tied to the losing political camp experienced a greater negative abnormal return. This finding seems to confirm the argument that the capital control was imposed because of the political crisis in the country during the Asian financial 133 crisis (Dornbusch, 2001). According to Dornbusch, the implementation of capital control in Malaysia provides no evidence that the policy resulted in better economic performance when compared to other policy adopted by other countries in the region during the crisis. 6.4 RECOMMENDATIONS FOR FUTURE RESEARCH This study represents the first attempt to utilize the event study methodology and financial market information to investigate business-state relationship in Malaysia. Interlocking of share ownerships and directorates among Malaysian firms has created a complicated web of cronies that is difficult to be clearly identified by just examining the corporate structure or annual reports alone. This study provides an alternative approach to reveal business-state relationships by using more reliable market data. Although the empirical results derived in this study are encouraging, a need for more research in this area still exists. Events selected for this study have an economy-wide impact and thus all firms traded in the KLSE Main Board were included. Nonetheless, some regulations such as the Banking and Financial Act and the Electricity Supply Act, have only industry-wide effects. The implementations of these regulations could have resulted from rent-seeking activities that benefited only the well connected. One possible study might be to examine the abnormal returns in related sectors after the announcement of such regulations. Another possible study might be to determine the value of stock that can be attributed to a firm’s relationship to a particular political figure. Such a study 134 requires an accurate identification of relationship that makes grouping of firms into different political camps possible. 135 Appendix A: Excerpts from Existing Literature “Other executives who are closely identified with Daim but appear to be rising stars in their own right include General Lumber (later changed its name to Land and general) chief Wan Azmi Hamzah and Inter-Pacific Group chief Vincent Tan (Berjaya Group).” (FEER, July 5, 1990) “…that the conglomerate headed by tycoon Quek Leng Chan (of Hong Leong Group) is strengthening its links to the ruling party of Prime Minister Datuk Seri Mahathir Mohamad.” (FEER, March, 28, 1991) “But he (T. Ananda Krishnan, major shareholder of Tanjong), is believed to have parlayed his close ties with Mahathir into considerable behind-the-scenes influence in Malaysia’s business community.” (FEER, June 13, 1991) “Malaysian Resources Corp is also interested in the latter, and is controlled by political supporters of the Finance Minister & Deputy Prime Minister Anwar Ibrahim.” (FEER, May 5, 1994) “Shares of …Diversified Resources, began leaping when word spread that Yahya (Ahmad), a classmate of Finance Minister Datuk Seri Anwar Ibrahim, had secured the work formerly done by the government’s Road Transportation Department.” (FEER, January 19, 1995) “Tajuddin (Ramli, of MAS and TRI) is another Daim protégé who in the late 1980s obtained Malaysia’s first mobile-telephone license.” (FEER, January 19, 1995) 136 “Tan (Vicent, of Berjaya Group), 43, another close associate of Daim, holds 20% of Indah Water Consortium, the company awarded the RM$6.3 billion privatization of Malaysia’s sewage systems.” (FEER, January 19, 1995) “ Yeoh (of YTL), 44 and Mahathir ally, won contracts worth more than RM$3 billion to build power plants.” (FEER, January 19, 1995) “He (Tunku Abdullah of Antah and MAA) was a close personal friend and one-time business associate of the Prime Minister, Dr Mahathir.” (Searle, 1999; p122) “The most prominent individuals inthis group of ‘UMNO’s proxee capitalists-turned-businessmen’ share a common background of having worked with the former Finance Minister, Daim Zainuddin, at Paremba and include, besides Daim himself, Wan Azmi Wan Hamzah, Mohamed Razali Abdul Rahman, Halim Saad, Samsudin Abu Hassan, Ahmad Sebi and Tajuddin Ramli.” (Searle, 1999; p. 127) “By that time T.K. Lim (of Kamunting) had returned to Malaysia, and had already established close ties with Daim Zainuddin, well before Daim became Minister of Finance, and with Daim’s brother, Wahab Zainuddin.” (Searle, 1999; p204) “Linkages between Hong Leong and UMNO first came to public notice in April 1989 when, as noted earlier, Hong Leong’s Hume Industries made what the MCA considered was a hostile bid for the party’s investment arm, MPHB.” (Searle, 1999; p. 216) 137 “Several independent power producer (IPP) licenses have also been issued to the government controlled conglomerate Sime Darby, the MRCB which is linked to Deputy Prime Minister Anwar Ibrahim, and two politically wellconnected Chinese-controlled publicly listed companies, Lim Goh Tong’s Genting and Yeoh Tiong Lay’s YTL Corporation.” (Gomez and Jomo, 1997; p. 82) “In January 1994, Malaysia’s largest privatized contract, the construction of the massive RM$15 billion Bakun Dam project in Sarawak, was awarded, without tender, to the publicly listed Ekran Berhad, controlled by Ting Pek Khiing, a Sarawakian Chinese timber tycoon closely associated with Sarawak Chief Minister Abdul Taib Mahmud, economic adviser Daim Zainuddin and Prime Minister Mahathir.” (Gomez and Jomo, 1997; p.110) “…the prominent new capitalists linked to UMNO leaders include Halim Saad, Tajudin Ramli, Samsudin Abu Hassan, Wan Azmi Wan Hamzah, Yahya Ahmad, Ahmad Sebi Abu Bakar, Vincent Tan Chee Yioun, T. Ananda Krishnan, T.K. Lim and Ting Pek Khiing.’ (Gomez and Jomo, 1997; p.121) 138 Appendix B: Sample FIRM 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 Actacorp Advance Synergy Amal. Container Amsteel Angkasa Marketing Antah ArabMalaysian Corp ArabMalaysian Dev. ArabMalaysian Fin AMMB Holdings Asiatic Development Avenue Asset Ayer Hitam Tin Berjaya Capital Berjaya Group Berjaya Land Berjaya Sports Toto Camerlin Group Cement Ind MB Chocolate MAJOR SHAREHOLDERS/DIRECTORS Amin Shah Ahmad Sebi JG FM PS OT Y Y Y Y Y Y Cheng, Mirzan, Zain Ibrahim, Jaffar Abdul … … Y Y Y Y Y Y Y Y Tunku Abdullah, Royal Family of NS Azman Hashim Y Y Y Y Y Y Y … Y Y Y Y … Y Y Y Y … Y Y Y Y Lim Goh Tong, Baharudin Musa Y Y Pantai, Tongkah Ishak Hassan, Malar Cemerlang Y Vincent Tan Y Y Y Y … Y Y Y Y … … Y Y Y Y Y Y Y Y Cheng, Halim Saad, Renong, Time, Fleet UEM Y Y Y Y Cheng, Mirzan, Murad Y Y 139 Y Y Y Y 21 22 23 24 25 26 27 28 29 30 31 32 33 34 35 36 37 38 39 40 41 42 43 44 45 46 47 Product Commercial Asset Country Height Cold Storage (CSM) Cycle & Carriage Datuk Keramat DRB-Hicom Desa Pachi, Fleet, Renong Y Y Lee Kim Yew, Gen, Hashim Ali Y Y Daim, Basil Ismail Y Y Salleh Sulong, RHB Y Shuaib Lazim, Meridian Best, Sulaiman Hassan Salleh Sulong, Yahya Ahmad, Othman Jaffar EON Salleh Sulong, Yahya Ahmad Ekran Ting Pik Khiing Faber Ishak Ariff, Fleet, Renong, Halim Saad, UEM, Time Gadek Salleh Sulong, Yahya Ahmad Genting Lim, Hanif Omar Georgetown Shamsuri Ahmad, Shuaib Lazim, Meridian Best Granite Ting, CIMB HICOM Tik Mustaffa, Salleh Sulong HL Bank Quek Leng Chan HL Credit … HL Industries … HL Properties … Hume … Industry Idris Ishak Ismail Hydraulic JT Intl (RJR) Wan Azmi Kamunting TK Lim Kedah Salleh Sulong, Yahya Ahmad, Amin Cement Shah KFC Ishak Ismail. Mohd Sarit Kinta Kellas Halim Saad, Ismail Rashid, UEM Konsortium Mirzan, Gen. Hashim Ali Logistik KUB Md. Noor Yusof, Hassan Harun Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y 140 Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y 48 Land & General 49 Landmarks 50 51 52 53 54 55 56 Lion Corp Lion Land Magnum MAA MUI MAS MRCB 57 MBF Capital 58 MBF Holdings 59 MultiPurpose 60 Pantai Holdings 61 Phileo-Allied 62 63 64 65 66 67 68 69 70 Promet RHB RHB Capital Reka Pacific Reliance Pacific Renong Sapura Setron Shangri-La 71 STMB (TV3) 72 73 74 75 76 Tanjong Tasek TRI NSTP Time Engineering Wan Azmi Y Y Y Y Md. Razali, Desa Pachi, Samsudin Hassan Cheng, Mirzan … Musa Hitam Khir Johari, TK Lim Tunku Abdullah, Royal Family of NS Khoo, Khir Johari Tajudin Ramli Khalid Ahmad and other editors of NSTP Loy Family Same as above Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y TK Lim Y Y Y Mokhzani, Vincent Tan, Tongkah,, Kesterl Ahmad Abdullah, Tongkah, Pantai, Avenue Asset Ibrahim Mohd RHB, MRCB, Rahman Maidin Same as above Ling Mukhriz Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Halim Saad, UEM, Time Shamsudin Kadir Amin Shah Razali Rahman, Paremba, Landmark, Hassan Abas Ahmad Nazri, Md. Noor Yusof, Rahman Maidin Usaha Tegas Shamsul Bahari, Quek Tajudin Ramli Rahman Maidin, Realmild, MRCB Renong, Halim Saad, UEM 141 Y Y Y Y Y Y Y Y Y Y Y Y 77 Tongkah Mokhzani, Pantai Y Y Holdings 78 UEM Halim Saad, Yahya Ismail, Renong Y Y Y 79 United Ahmad Sebi Y Y Merchant 80 Worldwide Mirzan, Ibrahim Yusof Y Y Holdings 81 YTL Cement Francis Yeoh Y Y 82 YTL Corp Same as above Y Y 83 YTL Land Same as above Y Y JG = various books by Jomo and Gomez, FM = Free Malaysia (http://www.freemalaysia.com/), PS = Peter Searle (Searle, 1999), OT = other publications, Y=identified as politically-linked firm 142 Y Y Y Y Y Y Appendix C: Capital Controls Effective September 1, 1998 Dealings in gold and foreign currency • No change, except for External Account holders External Accounts • Transfer between External Accounts require prior approval for any amount • Transfer to resident accounts in Malaysia banks are permitted until September 30 1998. Thereafter, such transfers require approval. • Sources of funding the External Account are limited to: ( Proceeds from sale of ringgit instruments, securities registered in Malaysia or other assets in Malaysia. ( Salaries, wages, commissions, interest or dividend. ( Sale of foreign currency. • Use of funds in the account is limited to: ( Purchase of ringgit assets in Malaysia. General Payments • General residents are freely allowed to make payments to non-residents for any purposes up to RM10,000 in ringgit or its equivalent in foreign currency, except for all payment for imports of goods and services • Residents are freely allowed to make payments to non-residents in foreign currency only, for amount exceeding RM10,000 equivalent. However, investments abroad in any form and payments under a guarantee for nontrade purposes require approval. Export of Goods • Prescribed manner of payment for exports is in foreign currency only. Credit Facilities • Domestic credit facilities to non-resident correspondent banks and nonresident stock broking companies are no longer allowed. • Residents are not allowed to obtain ringgit credit facilities from any nonresident individuals. Investments Abroad • Residents with no domestic borrowing are allowed to make payment to non-residents for purposes of investing abroad, up to an amount of RM10,000 or its equivalent in foreign currency per transaction. • All residents require prior approval to make payments to non-residents for 143 purposes of investing abroad for an amount exceeding RM10,000 equivalent in foreign currency. Securities • Ringgit securities are required to be deposited with authorized depositories. • Ringgit securities held by non-residents must be transacted through an authorized depositories for good delivery. • All payments by non-residents for any security registered in Malaysia must be made in foreign currency or in ringgit from an External Account. • All proceeds in ringgit received by a non-resident from the sale of any resident security must be retained in an External Account. However, should the ringgit security be held for more than one year, proceeds from the sale of such securities can be: ( Immediately converted to foreign currency; or ( Credited to the External Account. • All payments to residents for any security registered outside of Malaysia from non-residents must be made in foreign currency. Import and Export of Currency Notes, Bills of Exchange, Assurance Policies, etc • A resident traveler is permitted to import: ( Ringgit notes up to RM1,000 only; and ( Any amount of foreign currencies. • A resident traveler is permitted to export: ( Ringgit notes up to RM1,000 only; and ( Any amount of foreign currencies up to the equivalent of RM10,000 • A non-resident traveler is permitted to import: ( Ringgit notes up to RM1,000 only; and ( Any amount of foreign currencies. • A non-resident traveler is permitted to export: ( Ringgit notes up to RM1,000 only; and ( Foreign currencies up to the amount of foreign currencies brought into Malaysia. • Prior approval is required for the import and export of ringgit notes and the export of foreign currency notes, other than as permitted above. • Transitional provision: up to September 30 1998, permission is given to a traveler (resident and non-resident) to import any amount of ringgit on his person or in his baggage. 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Malaysia: Quasi-Democracy in a Divided Society, in Diamond, Linz and Lipset (eds.). Democracy in Developing Countries, Volume 3:Asia. Boulder, CO: Lynne Rienner. 163 Vita Wee-Keng Lee was born in Ipoh, Malaysia on January 16, 1964, the only son of the late Hon-Yoong Lee and Moh-Chow Chee. He graduated from Anderson School of Ipoh in 1985. In 1989, he received a Bachelor of Arts with honors from the University of Malaya, where he had majored in Chinese Studies and Economics. He then worked as a journalist for a Chinese newspaper in Malaysia. Wee-Keng attended Georgia State University in Atlanta and received a Master of Business Administration degree with concentration in International Business in December 1995. In August 1996, he began a doctoral program at the University of Texas at Austin. He will join the faculty of the Department of International Business at Taichung Healthcare and Management University, Taiwan, after graduation. Permanent address: 65 Jen Ai Road, Chung-Hsin New Village Nantou, Taiwan 540 This dissertation was typed by the author. 164 [...]... active state intervention in the economy and close state- business relations in Southeast Asian countries 1.1 STATE- BUSINESS RELATIONSHIPS AND ECONOMIC DEVELOPMENT A great deal of research has examined the distinct nature of the relations between state- business in this region (Jomo et al., 1997; Islam and Chowdhury, 1997; Wu and Chu, 1998, Huang, 2001) There are two prevailing views on this close state- business. .. close relationships to the state, firms are able to obtain and abuse privileged information and market power to prevent market competition Rapidly expanding credit, explicitly or implicitly underwritten by the state, together with inadequate oversight, encourage the mismanagement and inefficient allocation of risk, or moral hazard As a result, there is over investment in risky and unproductive projects... after the financial crisis in 1997 This view labels this close state- business relationship as “crony capitalism” and sees it as a self-imposed blockage to development, leading to inefficiency in resource allocation Many who share this view argue that when the state is actively involved in business activities, outright corruption and rent seeking 2 opportunities become entrenched With close relationships... where productivity gains are large but the risk is high (Rodrik, 1995) Close state- business relationships also provide access to credit that otherwise might not be available and lower the cost of credit Wade (1990) argues that Asian states were able to “govern the market to create their own success A close state- business relationship is, therefore, one of the major causes of the “miracle” in this... contracts and appointments are awarded to friends and families, rather than by tender or merit In time of financial crises, the state usually bails out or rescues 3 these friends and families, frequently using the rational of national interest To economists, crony capitalism generally implies collusion between the state and business, allowing, for example, illicit transactions, insider trading, and preferential... eventually undermine the market process Personal relationships and patronage have long been a part of politics and business in this region Historically, Southeast Asia lacked the proper institutional frameworks that provide a stable business environment Operating under the fears of being expropriated by oppressive states, in addition to the absence of reliable information, businesses in this region... positive or negative impact on business conditions and this expectation should be reflected in the market The passage of certain regulations could generate firm-specific effects that lead to price fluctuation in the stock market In an efficient market, the current price should reflect all past and future information Prices instantaneously digest and adjust to the reception of new information If the outcome... prevail in a market, and the fact that the political authorities will implement policies that would benefit its cronies, one should reveal more 14 evidence of the existence of cronyism through market information The lack of reliable firm information is one major reason for limited empirical research in crony capitalism This points to the need to explore and to utilize publicly available market information. .. Chu, 1998, Huang, 2001) There are two prevailing views on this close state- business relationship In one favorable view, a close state- business relationship is a necessity in the presence of market failures State involvement is believed to help in coordinating investment activities and overcoming the problem of asymmetric information; these interventions are important in the early stages of economic development,... also enjoy special treatment in the privatization program and protection from competition by the government 1.5 MARKETS AND POLITICS A stock market has several characteristics that make it not only interesting, but also useful and important as an area in political study Stock market participants make daily decisions by drawing on a wide range of information, including relevant changes in the political