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VIEWPOINT: KAUTILYA
Mahathir's
Mantra
Malaysia's politics is messy but its economic performance
has many lessons
By Jairam Ramesh
Atal
Bihari Vajpayee is in Malaysia for four days beginning May 13. The south-east
Asian country has a population the size of Haryana, of which roughly 8
per cent is of Indian origin. Although he hates it being mentioned, Malaysian
Prime Minister Mahathir Mohamad's grandfather came from Kerala. Mahathir
is a great champion of indigenous Malay interests. The word used to describe
his strong pro-Malay policies is bhumiputra-pure Sanskrit for sons of
the soil.
Malaysia played an important role in triggering
a new economic thinking in India in 1990. In the first week of June that
year, our then prime minister V.P. Singh went to Kuala Lumpur for a Commonwealth
Heads of Government meeting. After this visit, Singh confessed to his
aides that he had been stunned by the progress in Malaysia since his previous
trip there in 1974 as deputy minister of commerce. Malaysia has generally
been known mainly as a commodities producer with a global presence in
tin and palm oil. What impressed Singh apart from the urban renewal in
Kuala Lumpur was how Malaysia became a major exporter of electronics,
emerged as a major producer of crude oil and natural gas and attracted
huge foreign investment in manufacturing.
Singh asked his economic adviser Montek Singh
Ahluwalia to prepare a paper on economic policies that would help India
emulate Malaysia's spectacular success. Singh did not know this but along
with Suresh Tendulkar, another distinguished Indian economist, Ahluwalia
had advised the Malaysian government in the early 1970s as part of a World
Bank team. Ahluwalia's paper, prepared in June 1990 and later referred
to in the press as the "M" document, was a comprehensive blueprint
for liberalisation. It was discussed extensively but political instability
prevented its implementation. The 1991 economic reforms derived much inspiration
from it.
 Malaysia
is of significant interest to economists for another reason. In mid-1997,
when after almost two decades of over 7 per cent growth in per capita
income east Asia began collapsing, Thailand, Indonesia and South Korea
went to the International Monetary Fund (IMF) for emergency bail-out packages
in quick succession-Thailand in July-August 1997, Indonesia in October-November
and South Korea in November-December. However, Malaysia did not go to
the IMF. But under the then deputy prime minister Anwar Ibrahim, elements
of the orthodox IMF prescription were introduced-the IMF package without
the IMF as it came to be called. Interest rates were raised to stem the
depreciation of the ringgit. Drastic cuts in government spending and on
imports were announced and tight measures to regulate Malaysia's banks
were introduced. But all this failed to control capital flight, reduce
interest rates and bolster investor confidence.
It was against this background that on September
1, 1998, Mahathir abandoned Ibrahim's IMF-style policies and announced
sweeping controls on both capital inflows and outflows to end speculation
against the ringgit. He also moved swiftly to fix the exchange rate, cut
interest rates and restore government spending. There is an "impossible
trinity" in macro-economics which states that a country cannot simultaneously
achieve independence of monetary policy, exchange-rate stability and full
capital mobility. At most, a country can achieve any two of these objectives.
By giving up capital mobility, Malaysia sought to achieve exchange-rate
stability and monetary independence. Mahathir also had non-economic reasons
for his new economic policies: by then he was at war with his one-time
protege Ibrahim and also because of his nexus with Malaysian companies.
Mahathir's package caused a furore. The only
mainstream economist who supported him was Paul Krugman of MIT, who lauded
his policies in an article published in Fortune magazine in September
1998. After a disastrous 1998, the east Asian economies have recovered.
A recent research paper, "Did the Malaysian Capital Controls Work?",
by two Harvard economists Ethan Kaplan and Dani Rodrik and published by
the National Bureau of Economic Research concludes that compared to the
performance of Thailand, South Korea and Indonesia while they were undergoing
IMF programmes, Malaysia's non-IMF policies produced faster economic recovery,
lower inflation, smaller declines in employment and inflation-adjusted
wages and a more rapid turnaround in the stock market.
The wheel has turned full circle. On July 1,
Ahluwalia will take over as the IMF's first independent evaluator, reporting
to the organisation's board directly. And among his first tasks will be
to pronounce on how effective the IMF was in east Asia and what lessons
the Malaysian experience with capital controls has for the future.
(The author
is with the Congress party. These are his personal views.)
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