An overview of financial system in malaysia


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An overview of financial system in malaysia

  2. 2. INTRODUCTIONAN OVERVIEW OF FINANCIAL SYSTEM IN MALAYSIA The evolution of Malaysia’s sector after independence. In the beginning, the monetaryauthority in the federation of Malaya was the Board of Commissioners of currency, Malaya andBritish Borneo. On January 24, 1959, central Bank of Malaysia was officially opened. The primeobjectives of the bank have been to maintain a strong ringgit, promote financial stability andfoster growth of a sound financial structure. Financial system was dominated by the branches ofthe British banks, designed to serve and promote the well-being of British. During 1960s, theattention of our financial sector through Bank Negara was focused on building up the financialinfrastructure. It witnessed the development of strong domestic commercial banks andwidespread branching of banking services. Also set up during the period the Kuala LumpurStock Exchange (KLSE), discount houses, Pilgrims Management and Fund Board (LUTH),Pernas (the national investment and trading corporation), agriculture bank, Capital IssuesCommittee and Malaysian Industrial Development Finance. The Kuala Lumpur CommodityExchange (KLCE) was established and a market for long term Malaysian Government securitieswas encouraged. In the 1980s, financial authorities adopted a stance of fostering greater financialdiscipline among the financial institutions, while ensuring that adequate bank credit was madeavailable to private investors at reasonable cost. Bank Islam was set up in 1983 to promote theIslamic banking. First merger, United Asian Bank (UAB) merged with Bank of Commerce. Non-financial institution were revamped and strengthened to promote the growth of small-scaleindustries. Those involved were CGC, Bank Industry and Malaysia Export Credit Insurance Bhd. In general, Malaysia has developed rapidly since independence. Abridged countryexperiencing rapid economic growth. Since the growth and diversity of rapid industrialization,the financial system must be built on a solid foundation. 2
  3. 3. FINANCIAL SYSTEM IN MALAYSIAThe Financial System in Malaysia can be broadly classified into Financial Institutions and Non-Financial System. The former consist of the banking system and non-banking intermediaries, ofwhich the banking system is the largest component in the financial system. The latter comprisesmoney and foreign exchange markets, capital markets, derivatives and offshore markets. 1. The Financial Institutions Financial Institutions consists of the institution where the main liability, generally is money as follows:  Bank Negara Malaysia - which is the sole authority that issued currency notes and coins country. BNM was set up in 1959 to oversee the operation of the financial sector. It plays an important role in stimulating growth of the financial sector and stabilizing the economy with respect to curbing inflation and combating recession. It is also responsible for the formulation and implementation of monetary and credit policies to achieve financial and economic objectives. The progress of BNM can be assessed in term of its assets, which increased from RM151 million in 1959 to RM12,994 million in 1980, and RM323,028 million in 2005. The key objectives of BNM are to:  Issues currency and keep the reserves that safeguard its value  Act as banker and financial adviser to government  Promote monetary stability and sound financial structure  Influence the credit situation to the advantage of Malaysia These objectives are by and large complementary. Various legislative powers have been granted to regulated and supervise the financial system, allowing BNM to meet these objectives. These include the central Bank of Malaysia Act 1958, Islamic Banking Act 1983, the Banking and Financial Institutions Act 1989, the Essential Regulation 1986 and the Assurance Act 1996. 3
  4. 4. Malaysia has historically been able to maintain price stability, with an inflation rate averaging 3.3 per annum over the past four decades. A wide range of monetary instruments, including open market operations, intervention in the interbank money market, issuance of BNM papers and variations of the statutory reserve requirement have been made used to achieve the objective maintaining price stability. Price stability is a common goal pursued in most economies because it’s provides a platform towards sustained economic growth. Without price stability, the functions of resource mobilization and efficient allocation of resources would be retarded.  Commercial Banks - are owned by private parties serving various services to the public for profit. Established Commercial Banks under the Banking and Financial Institutions Act 1989. There are two types of Commercial Banks owned Commercial Banks and Foreign-Owned Commercial Banks. The main function of Commercial Banks is taking deposits, to lend, provide payment by check and provide foreign exchange services.  Licensed Finance Company – are divided into two groups, which is Possession Of The Bank and Not Banks Owned. The function is services provided include taking deposits, lending facilities, hire purchase, leasing and investment management.  Merchant Bank – Possession of private financial institutions aimed at making a profit. Controlled by the Central Bank under the Banking and Financial Institutions Act 1989. Providing financial services to the merchant.  Islamic Financial Institutions – One distinctive feature of the feature of the Malaysian financial system is the presence and promotion of Islamic banking, which has become an increasingly important component of the financial structure. Malaysia is the pioneer of the dual banking system, where Islamic banking operates in parallel with conventional banking. Malaysia is also the only country that has an Islamic interbank money market The introduction of Islamic Banking in 1983, following the enactment of the Islamic Banking Act 1983, was an important development in the evolution of the banking system in Malaysia.4
  5. 5. For example is Bank Islam Malaysia Berhad (BIMB). Financial activities based on Islamic Law. The functions are receive the deposit in the Al-Wadiah, Provide loans by the principle of Al-Murabahah and Al-Musharakah, Leased property or goods in accordance with the principle of Al-Ijarah, Provision of hire purchase in accordance with the principle of Al-Takjiri and Debt guarantee in accordance with the principle of Al-Kafalah.  Discount – Established specifically for short-term money market operations2. Non-Financial Institutions Non-Financial Institutions include institutions, where the liabilities, generally related to finance. It is closely linked with financial institutions. Because it is a deposit-taking institution, it is subject to the supervision and control continues to Banks Negara Malaysia. Non-bank financial intermediaries include provident and pension funds, insurance companies, saving institutions, development finance institutions, unit trusts, Credit Guarantee Corporation, leasing companies, etc. of these provident and pension funds, and insurance companies are the largest intermediaries as measured by their asset bases, They are supervised by various government department and agencies. The insurance companies are under the supervision of BNM. The provident and pension funds are a group of financial intermediaries designed to provide members and their families with a measure of social security and welfare. The key provident and pension funds operating in Malaysia are the Employees Provident fund (EPF), the Social Security Organization (SOCSO), the Armed Force Fund and the Teachers Provident Fund ( Aziz, 1984) The EPF is the largest amongst the provident and pension funds in the country. It accounted for about 83 per cent of the total resources of provident and pension funds at the end of 2003 (BNM, 2004). The growth of other private provident funds and insurance funds has been rather limited due to the dominance of this forced saving, this is because individuals are left with less savings after contributing to the EPF. 5
  6. 6. Non-Bank Financial Institutions is general can be divided into five groups ofinstitutions as follows:  The Development of Financial Institutions  Savings Institutions  Savings and Pension Funds – The Employees Provident Fund (EPF) : The presence of the EPF marks an important feature of the Malaysian Financial system. This statutory fund was established under the Employees’ Provident Fund Ordinance 1951, with the objective 1951, with the objective of providing members with a retirement plan. Since its inception, the EPF has been a very powerful vehicle in mobilizing compulsory savings. It is important for the government to maintain an effective EPF, since the fund is instrument in generating resources to finance public investor provides long-term funding, which is influential in ensuring the long-term success of Malaysia. The EPF is a publicly managed pension fund that operates under a fully funded pay-as-you-earn (PAYE) scheme with a defined contribution plan . Contributors get back their contributions plus accumulated return at the points of retirement. The pension benefits take the form of one lump sum payment or a series of periodic payment. The government does not contribute, unless it is an employer. Some partial withdrawals are allowed for education, housing and medical expenses before contribute reach the retirement age of 55  Insurance Companies, including offshore insurance - One aspect of a country’s financial system often neglected in discussion of finance and development is the element of risk and effect on the economy insurance is not only a means for diversifying risk. It is also potentially an effective tool for mobilizing saving .until the 1970s, the insurance industry was dominated by foreign companies, since then, domestic insurance companies took over the role and began to provide an important source of funds for development of the economy. Total assets of life insurance funds increased from RM 111 million in 1962 to RM 60,195 million in 2003, representing an average annual growth rate of 13 per cent. The combined premium income of the life and general insurers registered an annual growth of 18n per cent over the period 1980-1999 to reach6
  7. 7. RM 10,857 million. The insurance products offered have also become increasingly more sophisticated to serve the diversified needs of consumers (BNM, 1999). The last decade has also witnessed an impressive development of Islamic insurance business in Malaysia.  Other Institutions such as building societies, trusts properties, leasing companies, investment agencies specific and specialized financial institutions such as Cagamas and Credit Guarantee Corporation.  Money and Foreign Exchange Markets - The money market provides an avenue to channel short-term funds with maturities usually less than 12 months. It provides liquid funds for market participants who face temporary shortages of funding and serves as an investment outlet for those with temporary surplus funds. The openness of BNM’s policy since the 1980s has resulted in little intervention in the Malaysian money market ( Lin and Chung, 1995). The money market instruments mainly include deposit and short –term securities (e.g bankers acceptances NCD, treasury bills Cagamas notes). The key players in the money market are commercial banks, merchant banks, discount house, and other eligible finance companies. Thus, development in the financial system and money market are closely related. The foreign exchange market is a whole is a wholesale interbank market for the sale purchase of foreign currencies. It provides a facility for the trading of foreign currencies. It provides a facility for the trading of foreign currencies, which can be conducted through the spot market or the forward and swap markets. The key participants in the foreign exchange market are commercial banks and some designated merchant banks. The Kuala Lumpur Foreign Exchange market has long been dominated by transaction in US dollars against the ringgit. However, in recent years there has been a significant increase in the share of euro and yen transaction against the US dollars ( BNM, 2004)  Derivatives Markets - Derivatives include forwards, future, options and swaps. The trading of derivatives in Malaysia began with the establishment of Kuala Lumpur Commodity Exchange ( KLCE ) in 1980. In 1995, financial future emerged in the market following the introduction of the Kuala Lumpur Option7
  8. 8. and Financial Futures Exchange ( KLOFFE ), and the 3-month Kuala Lumpur interbank Offered Rate Futures on the Commodity and Monetary Exchange ( COMMEX ) in 1996. Although KLOFFE and COMMEX are allowed to operate on a self-regulatory basis, these markets are supervised by the securities Commission, which was set-up in 1993 as the market watchdog to oversee the regulation and supervision of the securities industry ( Hussein, 1994 ).  Offshore Financial Market - The Offshore financial market in Malaysia was set up following the establishment of the Labuan of the Labuan International Offshore financial Centre ( IOFC ) in 1990, with the aim of promoting Malaysia as a regional financial services Authority Act 1996. It is an integrated financial offshore centre, which seeks to provide a wide range of offshore financial products and services to customers worldwide, particularly those in Asia. These include banking services, insurance activities, trust business, capital market activities, Islamic finance, etc. At the end of 1999, more than 2.100 offshore and supporting companies had been set up. There were 63 offshore banks, 50 insurance-related companies, 20 trust companies, seven offshore leasing companies, and six fund managers operating in Labuan ( BNM, 1999 ).DEVELOPMENTS IN THE FINANCIAL SYSTEM I. Development of Financial Markets  Conducive environment for greater financial inclusion  Create a diverse range of financial service providers that thrives and competes  Enhance distribution channels to ensure widespread access to financial services  Ensure a minimum level of banking products and services are provided at reasonable costs  Improve financial literacy, advisory, awareness and consumer education  Strengthen the supporting financial infrastructure and enabling environment  II. Institutional and Capacity BuildingIII. Consumer Protection Arrangements 8
  9. 9. IV. Human Capital Development V. Islamic banking One distinctive feature of the feature of the Malaysian financial system is the presence and promotion of Islamic banking, which has become an increasingly important component of the financial structure. Malaysia is the pioneer of the dual banking system, where Islamic banking operates in parallel with conventional banking. Malaysia is also the only country that has an Islamic interbank money market The introduction of Islamic Banking in 1983, following the enactment of the Islamic Banking Act 1983, was an important development in the evolution of the banking system in Malaysia. During that year, Bank Islam Malaysia Berhad (BIMB) was established as the first Islamic bank under the legislation. It had a paid up capital of RM80 million and a branch in Kuala Lumpur. The Bank was created for Malaysian Muslim who wanted the services of a modern banking but did not want to pay or receive interest, which is forbidden by their religion. As with other banking institutions, BIMB is supervised and regulated by BNM. BIMB carries out conventional banking services based on Islamic principles. For example, saving and current deposits are offered under the concept of Al- wadiah (guaranteed custody) and investment deposits are offered based on the principle of Al-Mudharabah (profit sharing)ISSUES AND FUTURE CHALLENGES IN FINANCIAL SYSTEMIn Malaysia, some people think this global recession seemed to be a new threat the country isfacing. Impact of the collapse of the American financial system into a chain effect on othercountries including over developed countries such as Japan and the European Union. Then in theMalaysian Parliament have called upon the government to review the National Budget 2009.There are four underlying factors which decrease in world oil prices will affect income countriesmore than 40 percent dependent on petroleum products. Second, commodity prices plummeted particularly crude palm oil (CPO) and rubber thatnot only have an impact on national income but also the explorers, small farmers and the rural 9
  10. 10. population. Third, the exhaustion of the country’s exports due to economic turmoil in the U.S.and Europe with the possibility of shrinking demand and his mustache products manufacturingof electrical and electronic products industry. Fourth, the effects come and pressure increasedcapital outflows due to loss of investor confidence. When the government was confident of achieving growth of 5.7 percent for 2008 and 5.4percent in 2009, a calculation should be done because of the global financial turmoil. Malaysiafelt that this crisis will be faced as possible but cannot remain complacent and remain vigilant inthe context of the daily changing turmoil. Meeting of the ASEAN Finance Ministers in Dubai 7-8 October 2008 believe the effectsof global financial turmoil will hit countries around the world, depending on how long the crisisand the recession in the U.S. and Europe. Malaysia’s well diversified economy. This financialcrisis caused new alternatives sought. This alternative already exists in Malaysia. One of the chances in relation to Islamicbanking. Malaysia is one of the largest banking centers in the world and when funds from WestAsia losses in the U.S. and Europe, they are encouraged to Malaysia. Middle East investors canalso invest in development projects in Malaysia and vice versa by buying assets in the U.S. andEuropean icons that have already experienced a lot of loss in value and profitability remainsuncertain in high-risk situation. Malaysia did not suffer a banking crisis, by being in a different environment to the U.Sand Europe because of this country’s banking system remained strong with an unexplained lowlending and risk-weighted capital ratio high, according to Second Malaysia Finance Minister,Tan Sri Nor Mohamed Yakcop, as reports Bernama (Utusan Malaysia, 10 October 2008). Malaysia has also taken precautions mitigate the impact of slower global economicgrowth this. Follow the economic stimulus package introduced to give confidence to the privatesector. These measures are expected to promote rapid domestic economic activity that is thebackbone of economic growth. Malaysia is actually more confident with the banking andfinancial system itself. We can conclude on issues related under some parts. Among these are : 1) Financial Crisis  Weakened banking system 10
  11. 11.  Reduced credit availability  Economic slow down2) Economic Shocks From Greater Market Volatility  Interest/Exchange rates  Asset prices  Liquidity3) Structural Transformations  Financial conglomeration  Larger and more complex financial institutions  New business models4) Globalization  Breakdown of geographical barriers  Increased cross-border flows & linkages5) More Contestable Markets  Dismantling of traditional boundaries between intermediaries  Emergence of structured products  Increasing importance of pooled funds (pensions, life insurance, mutual funds, investment trusts) as channel of savings6) Advances In Financial Engineering  Securitization Nowadays, the nature of attacks is more active rather than passive. Previously, the threats were all passive such as password guessing, dumpster dives and shoulder surfing. Here are some of the techniques used by the attackers today: • Trojan Attack. The attacker installed a Trojan, such as key logger program, on a user’s computer. This happens when users visited certain websites and downloaded programs. As they are doing this, key logger program is also installed on their computer without their knowledge. When users log into their bank’s website, the information keyed in during that session will be captured and sent to the attacker.11
  12. 12. Here, the attacker uses the Trojan as an agent to piggyback information from the user’s computer to his backyard and make any fraudulent transactions whenever he wants. • Man-in-the-Middle Attack. Here, the attacker creates a fake website and catches the attention of users to that website. Normally, the attacker was able to trick the users by disguising their identity to make it appear that the message was coming from a trusted source. Once successful, instead of going to the designated website, users do not realize that they actually go to the fraudster’s website. The information keyed in during that session will be captured and the fraudsters can make their own transactions at the same time.  Challenges 1. Lack of scale While the industry has gone through a phase of consolidation, some segments like investment banking and brokerage remain fragmented. Even in the commercial banking sector where consolidation has been most pronounced, many or our banks are still significantly smaller than regional powerhouses. On the capital markets side, Malaysia lacks the critical mass to attract significant levels of investment. For example, Malaysia’s total market capitalization accounts for 3.2 of MSCI Asia excluding Japan index. 2. Lack of liquidity and diversity in capital markets. From the Asian financial crises, Malaysia’s capital market has lost some of their vibrancy. Malaysia’s liquidity ranking in Asia has dropped. There also limited diversity in the market is in terms of investors, in terms of products or in terms of currency. 3. Low levels of financial literacy. The level of personal financial literacy today is low. With growing consumerism as well as changing customer expectations, there is a need to reinforce greater financial literacy to help the rakyat to better manage their personal finances in line with our move to a high-income economy.12
  13. 13. 4. Competition from other regional financial centers’. While Malaysia continues to face negative perception issues stemming from the capital control measures implemented during the Asian financial crisis, these financial centre’s have developed their reputations as being open and pro-business to find established financial centers’ that enjoy greater scale, visibility and liquidity, such as Singapore and Hong Kong.ANOTHER ISSUE 1. Islamic Finance in Malaysia and Infrastructural IssuesIn October 2010, KPMG wrote about the new agenda for Islamic finance institutions globallyand three months on, we would like to examine how the industry has fared specifically on anumber of areas that were discussed.Malaysia continues to lead in terms of regulatory infrastructure and the strong regulatory supportand push for Islamic finance has allowed the industry to outpace the development in morepopulous Islamic nations. The Central Bank of Malaysia Act 2009 gave further credence to theNational Syariah Advisory Council and firmly established its position as the ultimate authority inthe event of disputes.The financial sector liberalization has been fast racked by BNM and further to the announcementof the 4 family Takaful license, there is interest in the announcement of the 2 new mega banklicenses. Elaf Bank which is an Islamic investment bank based in Bahrain, has recentlyannounced its intention to apply for a branch license in Malaysia.More recently, industry players witnessed the formation of the International Islamic LiquidityManagement Corporation (IILM) that was established on 25 October last year and that is aimedat addressing the liquidity management issues that IFIs face specifically for cross bordertransactions. The IILMs membership presently consists of 12 central banks including Malaysiaand two multi lateral agencies namely the Islamic Development Bank (IDB) and the IslamicCouncil for the Development of the Private Sector (ICD). Further special privileges may be 13
  14. 14. accorded to the IILM to strengthen its position further. Tan Sri Dr Zeti Akhtar Aziz, Governor ofthe Central Bank of Malaysia has been appointed the first Chairperson of its Governing Board.The push for Islamic Finance has continuously come from the very top and the Prime Minister ofMalaysia in his recent budget speech announced the increased prominence of Islamic financewithin the financial services sector and the further mainstreaming of its presence. The financialservices sector is one of the 12 National Key Economic Areas (NKEAs) and the relevance andimportance of Islamic finance is outlined in one of the four strategic thrusts where thegovernment has made clear its aspiration to be the global hub.The recent developments however have also highlighted that while there was enormous interestin the sector post-crisis, the rise of Islamic finance was not in line with the interest mainly due tothe limitations in the regulatory and legal infrastructure in many markets. Indonesia which isbeing touted as the next key growth market has shown cautious growth partly due to the lack ofawareness and promotion by players but also due to the nascent regulatory regime. Whilemarkets are pushing for parity in their tax laws to encourage the structuring of products, a leaftaken out of the Malaysian page would indicate that the take up would only arise as a result ofincentives such as tax breaks and other stamp duty waivers that have been key to the growth ofthis sector.A sampling of the performance of IFIs in Malaysia seems to support this. While the local bankscontinue to dominate in terms of profitability, and the foreign Islamic banks seem not to havefully recovered from the crisis, some banks show recovery of high initial capital investmentswhile others demonstrate the effects of growing too fast and write-offs required recently. Theindustry’s limitation in terms of sector diversification also resulted in some of the players beingaffected by the crash in real estate prices.Black Money Scam in Malaysian BanksBlack Money Scam sometimes also known as the "wash wash scam", is a scam where conartists attempt to fraudulently obtain money from a victim by persuading him or her that piles ofbanknote-sized paper in a trunk or a safe is really money which has been dyed black or anothercolor (e.g. to avoid detection by customs). The victim is persuaded to pay for chemicals to washthe "money" with a promise that he will share in the proceeds. 14
  15. 15. The black money scam is a variation of what is known as advance fee fraudBlack money is not a unique phenomenon. It is observed all over the world, sometimes inequivalent local language such as le travail au noir, schwarzarbeit or svarta sektor, andsometimes by different names such as: underground money or economy, grey, cash, dual, covert,hidden, illegal, informal, irregular, marginal, parallel, moonlight, second, shadow, bootleg,subterranean, twilight, under-the-table, unobserved, unofficial, unrecorded, or unreported. Otherthan Japan and Switzerland where the black money economy has been estimated to be less than5%, scholars report that the black money in developed economies ranges between 10 to 25% ofeach nations GDP. In case of certain economies such as Greece, the estimates for black moneyrange between 25 to 55%. These estimates suggest an annual underground economy in the rangeof US$100 billion to over US$1 trillion per developed country. The ratio of undeclared anddeclared economic transactions are higher in nations or commodities with high taxes (tobacco),excessive regulations or opaque bureaucracy.Schneider estimates, using the dynamic multiple-indicators multiple-causes method and bycurrency demand method, that the size of Indias black money economy is between 23 to 26%,compared to an Asia-wide average of 28 to 30%, to an Africa-wide average to 41 to 44%, and toa Latin America-wide average of 41 to 44% of respective gross domestic products. According tothis study, the average size of the shadow economy (as a percent of “official” GDP) in 96developing countries is 38.7%.Security Policy Issues in Internet Banking in MalaysiaTechnological developments particularly in the area of telecommunications an informationtechnology are revolutionizing the banking industry. With the proliferation of Internet expansionand computer usage, the electronic delivery of banking service has become ideal for banks tomeet customer’s expectations. Compatible with the revolutionary components of the electronicmarketplace, Malaysia has actively developed e-banking services since mid 2000. On June 1,2000, the Malaysian Central Bank gave the green light for locally owned commercial banks tooffer Internet banking services. On June 15, 2000, Maybank, the largest domestic bank becamethe first bank to offer Internet banking services in Malaysia. On August 7, 2002, 8 MalaysianCommercial Banks started offering Internet banking services. They are the Alliance Bank 15
  16. 16. Malaysia Berhad, Ambank Berhad, Bumiputra-Commerce Bank Berhad, Hong Leong BankBerhad, Malayan Banking Berhad, Public Bank Berhad, RHB Bank Berhad and SouthernBankBerhad. In 2002, 25,000 Maybank’s customers and 10,000 HSBC’s customers were subscribed to Internet Banking (Yu,2002; Bernama, 2002) and these two financial institutions are the leading banks in providing Internet banking. In a recent study by Raju, Thiagarajanand and Seetharaman (2007), it was discovered that Malaysian consumers strongly agreed that they refused to adopt Internet banking because of lack of security and reliability of transactions over the internet. This was clearly supported by statistics from household use of the Internet survey in 2008 by Malaysian Communications and Multimedia Commission (MCMC) which revealed that Internet banking usage in Malaysia was only 31.8 percent in 2008. Clearly, in order to grow consumer Internet banking demand, banks must make key improvements that address consumer concerns. The purpose of the chapter is to highlight what are the security issues concern in Internet banking in Malaysia and propose an Internet banking security mechanism framework which will help in the Malaysian Internet banking security bank frauds, and illegal trade in arms. Some of these offences are included in the schedule of the Prevention of Money Laundering Act 2002. The ‘corrupt’ component of such money could stem from bribery and theft by those holding public office – such as by grant of business, leakages from government social spending programmers’, speed money to circumvent or fast-track procedures, black marketing of price-controlled services, and altering land use regularizing unauthorized construction. 2. Electronic Banking Issues Although it is evident that the electronic revolution has commenced in Malaysia, widespread electronic banking may still be several years away. Star (Friday, September 3, 1999, p12/Business) reported that a research survey conducted by PriceWaterhouse- Coopers on 40 to 50 senior executives of financial institutions based in Europe, North America and Asia Pacific had indicated that banks are not fully prepared for the ‘paradigm quake’ with the advent of information technology which is set to rock the banking industry. One of the main factors, which would be essential for the success of 16
  17. 17. electronic banking, is setting up of the appropriate infrastructure. Once the infrastructure is in place then the commercial banks can start to push customers to accept the new delivery channels by ensuring that the necessary security measures are in place. Next, even if the infrastructure were ready, the obvious question would be are the potential customers large enough to ensure a critical mass for the economic viability of providing the electronic banking services. If the critical mass criteria, is not fulfilled then the banks may not be able to profitably use these delivery channels. In the case of ATM’s there is no doubt about the critical mass because almost every adult who has a bank account would have an ATM card and ATM‘s are available in every town, in every state in Malaysia. As far as tele-banking is concerned, the existing four million fixed line telephone subscribers would imply that there is an adequate critical mass for tele-banking services In the case of internet banking there are at present 500,000 Internet account holders in Malaysia and this is assumed to imply at least 1.5 million effective Internet users in the country which is about 7.5% of the Malaysian population. Can this be considered as a sufficient critical mass for harnessing the new delivery channel? If the critical mass has not been reached, should the banks wait until it has before offering their products and services through the new delivery channels or should the banks introduce the new delivery channels and persuade or push the customers to use them? These are questions that need to be answered in implementing electronic banking not only in Malaysia but also in any part of the world. According to an article, gleaned from the web, it was reported that a Cybercitizen Finance Study by Cyber Dialogue had indicated that as at end of 1998 though the number of consumers banking online had grown to 6.3 million, 3.1 million US adults had also discontinued their use of online banking. More than 50% of those who had discontinued found the service too complicated or were dissatisfied with the level of customer service. This indicates that for successful implementation of electronic banking in Malaysia, providing banking products and services through the new delivery channels alone is not sufficient. The banks should in fact ensure that consumption of the services through these new delivery channels are simple, easy and of sufficiently high quality to ensure17
  18. 18. customer satisfaction in order to maintain their online customers. This is going to be all the more difficult because of the lack of personal touch in electronic banking. Another problem associated with electronic banking is electricity power cuts, which can be disruptive. What will happen to transactions, which are being processed when a power cut occurs? Thus, one infrastructure requirement that is essential from the outset is stable power supply, which is not a basic feature in most, less developed and developing countries including Malaysia. In addition, to power stability is the issue of connectivity. In some countries the local internet service providers may not be very efficient in terms of connectivity. An article from Electronic Payments International (August 1996), reported that when America On Line (AOL) shut down for 19 hours on August 7th 1996, business users were unable to surf the net, send electronic mail and make online payments. To this extent, many information publishers complained of losing thousands of dollars in access fee and advertising revenues. Thus, for the successful implementation of electronic banking in Malaysia or in any other part of the world, adequate legal and physical infrastructure are major prerequisites. Then, the customers must also be made to feel confident about the privacy and security issues associated with electronic banking. Finally, quality service would certainly be a very important determinant for the success of electronic banking.THE CRISISThe Asian panic reached Malaysia by contagion from its neighbors’. Malaysia was hit withoutreal justification in 1997, but it should be accepted that the country would have met its fate sometime in 1999 or 2000, owing to a number of negative factors inexorably piling up. First among them is the property market. It is very fragile. Office and retail sub-sectorsare forecast to face a serious oversupply problem post-1997. To the credit of Malaysia’sregulators, when problems started hitting the country’s neighbors, in April 1997, Malaysia took anumber of measures to cool down the banking system. In particular, those measures aimed tolimit lending secured by shares and facilities to the property sector. This last guideline wasconsiderably diluted when vested interests started suggesting it would kill the property market 18
  19. 19. and create more problems than it was solving. As a result, exemptions were allowed. They are sowide that the measures only have a limited effect. In any event, this is shutting the door after thehorse has bolted, as the property market is already seriously in trouble. Strategic decisions insuch matters take years to affect supply. The considerable oversupply of office, retail andresidential space over the 1999-2000 horizons would have created problems even without theregional crisis. In retrospect, the changes affecting the banks’ asset mix and asset growth in the past fewyears are frightening. Loan growth, from over 30% in 1995, stabilized at a still high 27% in 1996and 26% in 1997, with most of the growth directed at property and business services. By the endof 1997, over 28% of total lending was directed at real estate, not an excessive ratio. Butindividual figures for some of the smaller banks are in a range of 32% to 46%. Moreover, it isthe growth of the exposure that is frightening: in 1996 alone, lending for the construction ofcommercial complexes and office buildings grew by 51%. There was less worry on residentialproperties, as strong demand still existed before the crisis at the lower end of the price spectrum.However, condominium units are already suffering and it is obvious that the regional crisis andthe economy’s slowdown will dampen demand over the whole range of the residential market. Interms of supply, much more worrying is the office sector. At last count, total office space wasexpected to increase by around 55% and retail space by around 60% by the end 1998, a leaddifficult to digest even in the best of circumstances. As stated earlier, direct exposure by thebanks is not exceptionally high, but another problem is going to him them. Most collateral valueheld by the banks in the form of property has not been “marked-to-market”, in the present casedevalued downward. When this takes place, loan loss provisions will have to rise drastically, andloan loss coverage is bound to decline. Malaysia is very focused on stock market activities. In fact the stock market is a giantcasino, making up for very restrictive laws on gambling. Before the crisis, its marketcapitalization, at a huge level of 300% of GDP, was much higher than that of major OECDcountries. Even recently, after the collapse of the region’s stock markets, Malaysia’s ratio of marketcapitalization to GDP was seven times that of Korea and 20 times that of Indonesia. As much asAsia’s financial troubles found their source in the weaknesses of its banks, Malaysia is addinganother dimension to the picture. The central bank report indeed indicated that, at the end of 19
  20. 20. 1997, a full 9.3% of the banking system’s lending in Malaysia was directly or indirectly exposedto the vagaries of the weak stock market. Naturally, the real figure is likely to be much highersince the official classification often misses the final destination of funds. This proportion isvastly superior to anything seen in the rest of the region and will cost some Malaysian financialinstitutions dearly. Weak stock market conditions do not hurt Malaysian banks’ shareholder funds directly asthey do in Japan, since Malaysian banks normally do not hold equity investments outside of theirown financial subsidiaries. But the weak market creates problems for banks in two importantways. The market’s weakness effectively dries up an important source of financing for manycompanies, causing them to turn to banks for interim financing, which is getting more risky forthe banks and more expensive as interest rates increase. It also diminishes the collateral valueheld by banks against several types of loans, most importantly margin-trading loans. By nature,securities houses carry the highest proportion of share financing loans, but several banks areinvolved in such activities beyond reason. Banks have remained extremely secretive about their strategy in the face of a collapsingmarket. It is not clear whether they would exercise their rights under the “forced-sell;” ruleswhen share prices fall below the maintenance margin (usually fixed at an average 60% of theoutstanding loan), for fear of making the situation even more delicate. One should remember that the Thailand crisis was triggered by defaults in financecompanies. But in Thailand, the non-banks were operating pretty much independently frombanks. In most cases, the relationship was limited to banks holding a minority stake in one ormore non-banks. Even where the investment was more substantial, banks were not lending totheir subsidiaries. By contrast, in Malaysia, the relationship between banks and the variousfinance companies, securities houses and merchant banks is more intimate. The share of total loans to manufacturing firms fell from 19% in 1995 to 9% in 1996. Bythe end of 1997, loans to the finance and business services sectors were a high 35% of totallending, Business services include non-banks, securities houses and holding companies whoseexposure to property and stock is usually high. It is not difficult to see how dangerous thesituation had become and how the crisis in Thailand acted as a late – much too late – wake-upcall for Malaysia. 20
  21. 21. A detailed analysis of bank asset quality brings in some good news and some bad news.On the positive side, capital ratios along BIS guidelines were high at 12.4% in 1995, 12% in1996 and 11% in 1997. Also there appears to be a high coverage of official NPSs, at 101% in1996 and still a strong 91% in September 1997, against only 48% in the trough of 1987. Thisseems to provide some comfort to the banking system. It should be remembered however that, under the new guidelines forcing the recognitionof loan delinquency after three months instead of six months, NPLs would mechanically jump byover two percentage points, reaching about 5.3% at the end of 1997, according to officialstatistics. One should adjust for the fact that restructured loans disappear from statistics and thatother arrangements make it possible to minimize official NPLs. As such, a better estimate ofwhat lies ahead in terms of NPLs would be approximately 15% in mid-1998 and probably muchmore by the end of the year – the official figure was just shy of 10% at the end of March 1998. Apositive point, however, is that Malaysia has relatively stringent rules on the actual recognitionof non-performing assets. Also on the positive side is the fact that local banks have lent relativelylittle in foreign currency, compared to Thai banks. But some Malaysian companies haveborrowed in US$ and the decline of the ringgit has hit them as surely as the decline of the bahthas ravaged the Thai domestic borrowers. This is bound affect their ability to service their debtsin all currencies, including the ringgit. When the crisis erupted in mid-1997, about 48% of Malaysia’s total foreign debt wasaccounted for by the private sector, with about 75% of the total expressed in US$. The publicsector debt is, according to the government, mostly long term in nature, making it less of aburden in terms of immediate liquidity. Infrastructure projects carried out by certain bank clients,both from the public and the private sector, are heavily exposed to currency fluctuations due to ahigh import content, for example power plants, mass rapid transport system, ports andcommercial buildings. By the end of December 1997, Malaysia had only about US$21 billion inforeign reserves. By the 1998, it was recognized that many non-bank financial institutions were in serioustrouble and the government engineered a rescues operation through merges. It forced the smallestand the weakest non-banks to seek partners. The ambition was to regroup non-banks into eightunits. It is perhaps appropriate at this stage to reiterate the view that merges are not necessarilythe best solution when a vast proportion of the institutions are in trouble. Mergers will only result 21
  22. 22. in the creation of larger but still weak entities. By the end of March 1998, the 39 financecompanies were integrated in their parent bank, merged with a bank or consolidated into sixlarger finance companies. Market sentiment is jittery especially in respect of finance companiesand local banks despite repeated assurances by the government. Heavy withdrawals of depositsfrom local banks led to transfers to foreign banks. But recently such transfers have somewhatstabilized after Bank Negara’s assurance.THE FUTUREAt the time of writing, Malaysia is the only one of the five distressed countries that had not yetseen a change of the top team. The same people in charge during the build-up period leading tothe crisis are still there today. Changes in Korea and the Philippines came naturally as seniorposts were up for election. The Thais and the Indonesians have squarely put the blame on theteams in place before the crisis erupted. In Malaysia, the politicians are very shrewd, and theyhave had remarkable success in deflecting any domestic criticism to concentrate the wrath onforeigners. In a simplistic way that seems to appeal to the Malaysians, the West is accused ofconspiring to put an end to Asia’s, and particularly to Malaysia’s, development. If the situationwere not so tragic to many, the battle of words at the top would give it a touch of comedy. Is Malaysia another Thailand in the making? Probably. Is the Asian crisis going to hitMalaysia as devastatingly as it did Thailand? Probably not. There are a number of similarities,the most striking being that currencies and the stock markets have declined sharply. There aredifferences as well. At various stages of development, there is an oversupply of property in bothcountries, but the lower end of the property market in Malaysia was healthy before the crisiserupted, while even that sector in Thailand was overpriced and is now in shambles. Assetinflation was much more pronounced in Thailand. Malaysia was much less reliant than Thailandon foreign currency short-term borrowings. Transparency and the regulatory environment arebetter in Malaysia. Yet Malaysia is much weaker than Thailand in respect of the relationshipbetween the various segments of the financial system, and in respect of the exposure of financialinstitutions to the ailing stock market. It would be impossible to determine which of thosepositive or negative factors will be of the highest relevance to the evolution of the crisis, but itlooks difficult to remain optimistic for Malaysia. 22
  23. 23. On the positive side, Malaysia can claim to have a relatively strong central bank, capableof implementing tough regulations. The country has been, so far, politically stable. Malaysia canlearn from the way Thailand, Korea and Indonesia have handled the crisis. Malaysia is determined not to seek help from the IMF, which is comforting in a way.Some commentators have suggested that the conditions the IMF would undoubtedly attach to itssupport package would create serious social and political problems. Among the IMF conditionsalways stands a clear recommendation that all market imperfections be ironed out. This wouldimply for Malaysia a traumatic revision of the rules redistributing wealth, education support andother government-sponsored support schemes along racial lines. Riots with racial overtones havetaken place over the years in Malaysia as well as in Indonesia. The Indonesian riots of early1998, with their broadside attacks on Chinese businesses, are a reminder that some tinkering withequity is sometimes useful. The Chinese Indonesian have accumulated wealth in a proportionvastly superior to that seen in Malaysia, where the seemingly unnatural redistribution of wealthto bumiputras may have taken some steam out of potential racial disturbances. Alas, one shouldnot count too happily on that: human greed makes people quickly get used to wealth and wealways build our expectations from ever-higher bases. The IMF would also insist on more transparency and better protection of minorityshareholders. A few unsettling episodes have taken place where the authorities permitted orfostered the unhealthy restructuring of ailing companies. Some of them are said to be linked topoliticians or to political parties. In short, while nobody should level the same accusations atMalaysia that were leveled at the Philippines in the 1970s and Indonesia in the 1990s, it looksincreasingly difficult to rank Malaysia among the cleanest countries of Asia. Malaysia was heading towards a crisis in any event. The economy was clearlyoverheating. Investments in prestigious but unwise projects were bringing serious imbalances inthe economy. The PETRONAS twin towers are adding too much office space to the capital city.The Kuala Lumpur International Airport (KLIA) is too big and too far away, while the Subangairport was still serviceable. The railway linking KLIA to the city may not be completed foryears. Malaysia’s own Silicon Valley-style corridor will likely remain a dream for some time.Then there is the Bakun Dam, a huge hydro-electric project, and much more. While the private sector was largely responsible for the mal investment that felled theThai banking system, it is the public sector that carries that opprobrium in Malaysia. Yet, banks 23
  24. 24. can run up delinquent loans on their own in the private sector: they do not need any promptingfrom the government to do so. The situation has become much more serious than the authoritieswould have admitted earlier on. Malaysia correctly states that its dependence on foreign currencyborrowing was fairly limited, sparing the banking system currency-led problems. This reinforcesthe view that the present difficulties would have hit the country independently from the currencycrisis, which has acted only as a catalyst. Hong Kong has always attracted the darker side of Malaysia’s wild capitalism. TheCarrian case will remain a sad memory for all involved. More recently, rumor has it that somewell-connected Malaysian firms have borrowed funds from the Hong Kong subsidiaries ofMalaysia financial institutions in order to finance dubious investments in other countries. Suchfirms do not have to go that far to find offshore funds. Malaysia has established in Labuan (EastMalaysia) a self-contained offshore centre. It is far from reaching the excesses of Thailand’sBIBF, but more than 50 banks operate from there, including Malaysian banks. Together thebanks has extended over US$17 billion in US dollar offshore loans in 1997, of which US$11billion went to Malaysian companies. Some of the funds borrowed by the companies wereinvested abroad, mitigating the foreign exchange risk, but most of the funds ended up incountries whose currencies went down during the financial panic. The amounts involved aremore modest than those which destroyed Thailand’s banking system, but they are still verysubstantial and they will likely create serious headaches for Kuala Lumpur. In early June 1998, details came out on Malaysia’s Asset Management Corporation(AMC), a government-funded vehicle that will acquire dud loans from banks. NPLs in thebanking system are rising rapidly. The official figures, subject to the usual adjustments, at theend of March 1998 pointed at a ratio of NPLs to total lending of 9.3%. The AMC will be fundedby government-backed bonds to the tune of Ringgit 25 billion (approximately US$6billion). TheAMC will select distressed assets and buy them from banks at a discount, so that the banks willbe able to start lending afresh. Although the announcement repeatedly stressed that AMC will actin full transparency, some observers have wondered whether it would be at all possible to avoidfavoring some distressed banks over others. The very fact that the asset sale will be made at adiscount and without recourse brings about the question of whether the assets can be marked-to-market on a really transparent basis. Proper pricing is a difficult task in the best of circumstances,but Malaysia is in a serious crisis. 24
  25. 25. With some substantial variations, the AMC runs into the same conceptual problem asJapan’s CCPC, Korea’s KAMC and Indonesia’s IBRA: it goes only half way down the road tonationalization, while it opens itself to accusations of selective favoritism. The government saysthat AMC will buy dud loans from banks at market-driven value. This achieves nothing in termsof solvency. The banks are better placed than anyone to collect their own delinquent loans. It isvery doubtful that the banks, should they keep the loans in their books, would eventually collectless than the transfer price: if that was the case, then the transfer price would obviously be toohigh, negating the claim to neutral transparency. The AMC approach does achieve something interms of liquidity though, since the banks will receive cash for their loans and will be able tolend again, as the plan goes. But if creating that liquidity was the aim, then the central bankcould achieve it through other means, much more straightforward than the convoluted AMCarrangement. Meanwhile, factor nationalization has taken place owing to the fact that the central bankhas guaranteed all deposits of banks, merchant banks and finance companies. In such a situation,the banks’ assets are virtually at the disposal of the authorities. Should the crisis deepen, it isprobably the only way out. A full-scale nationalization of all weak financial institutions wouldhave the added benefit of preventing the international financial community from putting itshands on Malaysian banks, if this is politically important. Malaysian Financial System also effected with Future Technology Developments FacingUncertainty. Modern technology will continue to be the key drivers influencing the futuredevelopment and competition in financial services in the new millennium. Information andcommunication technology (ICT) is changing all aspects of banking is unprecedented. It led toradical changes in the operation and structure of the financial markets, and in the roles andrelationships among service providers, intermediaries and investors, and regulators. Thechallenges will comes when increasingly global financial institutions and specialized. The newcompetitive environment driven by the revolution in communication technology has become animportant way to gain competitive advantage through economies of scale and access to globalappearance. Appearance is also driven by the increase in demand for international investmentand financial solutions among customer’s wealthy customers. 25
  26. 26. CONCLUSIONThe changing economic and business environment as well as rapid technological advances overthe last decade has had significant impact on the development of the financial system,domestically and globally. In fact, they have redefined the rules of the game and changed theplaying field. The Malaysian financial system has developed and shown its mantle, since theAsian financial crisis, to be robust and dynamic. The Malaysian financial system has to continueto evolve in tandem with changing world trends and conditions, to be more dynamic in meetingthe changes and the challenges these bring along. Realizing the important functions of thefinancial institutions, the FSMP set its focus on meeting the following challenges envisaged asabove. Towards this end, FSMP seeks to develop a robust and resilient financial system. Thethrust of banking policies is to focus on enhancing the domestic banking institutions’ efficiencyand capability while reinforcing their resilience and stability. The main agenda is to create astrong, efficient, competitive and resilient banking system that will better withstand futureshocks and be competitive with the international players. To further promote the financialsystem’s dynamism, developmental efforts to broaden and deepen the financial markets as wellas the financial infrastructure as outlined in the FSMP have been taken. Under the FMSP, thedesign of banking policies is to enhance the foundation and environment for banking institutionsand NBFIs to efficiently deliver quality customer-driven products and services. As the financialsystem advances to the next stage of development, this evolution will be important to ensure thatit continue to support the needs of the economy, while maintaining financial stability.REFERENCES: 1. Financial Development And Economic Growth In Malaysia By James B.Ang 2. The Monetary And Banking Development Of Singapore And Malaysia By Lee Sheng-Yi 3. Sistem Kewangan Dan Perbankan Di Malaysia By Johnson Pang 4. Asia In Crisis ( The Implosion Of The Banking And Finance System) By Philippe F.Dehaise 26