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PP RUEHCHI RUEHDT RUEHHM RUEHNH
DE RUEHKL #0613/01 0950515
ZNY CCCCC ZZH
P 050515Z APR 06
FM AMEMBASSY KUALA LUMPUR
TO RUEHC/SECSTATE WASHDC PRIORITY 6328
INFO RUCNASE/ASEAN MEMBER COLLECTIVE
RUEATRS/DEPT OF TREASURY WASH DC
RUCPDOC/DEPT OF COMMERCE WASHDC
RUEHGV/USMISSION GENEVA 1363

C O N F I D E N T I A L SECTION 01 OF 04 KUALA LUMPUR 000613 
 
SIPDIS 
 
SIPDIS 
 
TREASURY FOR OASIA AND IRS 
STATE FOR USTR - WEISEL AND JENSEN 
STATE FOR FEDERAL RESERVE AND EXIMBANK 
STATE FOR FEDERAL RESERVE SAN FRANCISCO - TCURRAN 
USDOC FOR 4430/MAC/EAP/JBAKER 
GENEVA FOR USTR 
 
E.O. 12958: DECL: 04/04/2016 
TAGS: ECON EFIN ETRD EINV MY
SUBJECT: TREASURY UNDER SECRETARY ADAMS' VISIT TO MALAYSIA: 
 FRANK CONVERSATION ABOUT THE RINGGIT 
 
Classified By: Ambassador Christopher J. LaFleur, 
for reasons:  1.4 (B) and (D) 
 
Summary 
----------- 
 
¶1.  (C) In meetings with the government of Malaysia's 
financial leadership, Treasury Under Secretary Tim Adams 
sparked a frank discussion about Malaysia's exchange rate and 
foreign reserve policies, including a 90 minute dialogue with 
Bank Negara Malaysia Governor Zeti Aziz.  Adams also 
discussed global imbalances, protectionist trends in the U.S. 
Congress, and the crisis the world economic system would face 
if the U.S. economy were to rebalance too abruptly.  Adams 
asked Zeti to pass these messages to her colleagues in China 
and told her that he would do the same.  Zeti emphasized her 
concerns over rapid movement of funds due to speculation and 
the risks this posed for a small, highly open economy such as 
Malaysia's. 
 
¶2.  (C) Comment:  Zeti's policy mindset is dominated by her 
experience of the 1997 financial crisis.  She clearly is not 
prepared to introduce a fully floating exchange rate.  She 
views ringgit stability as being important for Malaysia's 
export-led economy.  Zeti did agree that the current global 
imbalances, in particular the United States' current account 
deficit, cannot be sustained and that adjustment will happen, 
whether abrupt or soft.  Although she recognizes the danger 
this poses to Malaysia, she does not seem inclined to change 
course in any fundamental way.  With United States-Malaysia 
Free Trade Negotiations beginning this summer, post 
recommends Treasury continue this useful, behind-the-scenes 
dialogue as the best vehicle for influencing Malaysia's 
currency and financial policies.  End Comment. 
 
Bank Negara: Stability In Defense of Social Goals 
------------------------------------------- 
 
¶3.  (SBU) Bank Negara Governor Zeti Aziz emphasized the need 
for stability in her discussion with Under Secretary Adams. 
She cautioned that Malaysia is small, open economy and cannot 
afford to risk too much volatility.  She argued that if 
exchange rates were to move too fast, it could be 
destabilizing.  Without Bank Negara's actions to smooth the 
transition from the peg, the rate could have depreciated to 
RM 3.90 or RM 4.00 to the dollar.  Conversely, the ringgit 
could have appreciated to RM 3.00.  Zeti asserted that a 3.00 
to 4.00 shift is too large for a small country.  Her 
experience during the 1997 financial crisis has made her wary 
of too much volatility.  Referring to that experience, she 
noted:  "There were individual transactions of $300 million 
and $500 million each.  It overwhelmed the system and the 
currency depreciated by 40%.  The bank managed reserves 
carefully to face this speculative onslaught.  Lots of banks 
were making lots of large orders.  The stock market fell by 
70%.  Bank Negara had to 
 restore stability." 
 
¶4.  (SBU) Zeti acknowledged that Malaysia communicated with 
China when it depegged the ringgit from the U.S. dollar.  She 
said Bank Negara was forced to act to prevent huge 
speculative flows once China moved, as there were large 
levels of funds held in deposits, treasury bills, and 
short-term paper instruments waiting for the exchange rate to 
change.  On July 21, 2005, there was an orderly transition in 
Malaysia's exchange rate regime and reserves stood at 
approximately $80 billion.  In an August report to the GOM, 
Bank Negara identified calls on reserves and how flows might 
go the other way.  As short-term speculative funds flowed out 
of Malaysia during the last half of the year, Bank Negara's 
reserves dropped by $12 billion in three months.  Zeti said 
that the rate bounced from RM 3.8 per U.S. dollar to RM 3.74 
and then back to RM 3.79.  (Note:  the rate now stands at 
approximately RM 3.70 to the U.S. dollar).  The outflows 
subsided by December and the currency has appreciated 
gradually in recent months. 
 
 
Financial Sector Obligations 
---------------------------------- 
 
¶5. (SBU) Zeti highlighted Malaysia's multi-ethnic character 
 
KUALA LUMP 00000613  002 OF 004 
 
 
and linked economic stability to political stability.  She 
related how Malaysian banks since the earliest days have had 
little town branches.  "Obviously, this is less profitable 
for the banks and they don't like it.  But there is a need 
for a formal system to give access to little towns so that 
there is job creation and no unemployment or crime.  I have 
been challenged or criticized on this issue.   But I tell the 
banks that you have a stable social environment for growth 
and benefit from that positive environment," Zeti said. 
 
¶6.  (U) Zeti then launched into a critique of Citibank and 
its for-profit style, relating how it had posted a profit in 
1997 when the rest of the nation was undergoing a crisis. 
(Comment:  Zeti mentions Citibank's actions during the crisis 
in every meeting with U.S. officials.  She obviously feels 
very strongly that foreign banks, such as Citibank, are not 
to be trusted entirely because they put profit motive and 
their responsibilities to their shareholders ahead of the 
Malaysian socio-economic agenda.  End Comment.)  She 
explained that foreign companies in Malaysia deliver high 
returns for their parent companies and shareholders.  In 
2005, Zeti continued, Citibank's after-tax profits exceeded 
its capital in Malaysia, in part due to tax concessions. 
 
¶7.  (SBU) Zeti described Malaysia's Financial Services Master 
Plan (FSMP), which she said follows a Swedish model.  In 
1997, Malaysia had 71 banks; now there are 29.  As of 2006, 
Bank Negara has relaxed most of the capital requirements and 
completed a round of mandated bank mergers.  A new waive of 
mergers is taking place today with the recent consolidation 
of Bank Bumiputra and CIMB into Bumiputra Commerce and 
Bumiputra Commerce's very recent hostile take over of 
Southern Bank.  Bank Negara also is interested in capacity 
building, adoption of best practices, and risk management, 
often based on the performance of foreign banks operating in 
Malaysia.  Zeti maintained Bank Negara is pursuing 
liberalization at a measured pace, pushing some reforms ahead 
of the 2007 deadline for full liberalizations.  (Comment: 
The FSMP never actually specifies dates for full 
liberalization nor exact benchmarks for what that 
liberalization might mean for international players.  Most 
local observers assume that Bank Negara will a 
ctually slide the date from 2007 to a later implementation 
date.  End comment.) 
 
A Global Problem and Treasury's Role 
--------------------------------------------- - 
 
¶8.  (U) Under Secretary Adams lauded Bank Negara's move to 
depeg and adopt a new exchange rate mechanism on July 21.  He 
said that it was difficult for Americans to understand the 
scarring effect of 1997.  He then described some of the 
economic challenges that the U.S. faces:  huge global 
imbalances and a U.S. current account deficit of 6.5-7%.  He 
explained that he is trying to figure out how the system can 
sustain itself, and believes that it is obvious that there 
will be an adjustment.  He made clear his preference to let 
the markets work and to use government policy to help the 
markets' imperfections. 
 
¶9.  (C) Acknowledging that the United States must raise 
national savings, raise household savings, and reduce the 
deficit, Adams called for flexibility in exchange rates 
globally.  Adams explained that other nations -- Japan, 
Europe, and China -- have been saying that it is the United 
States' job to balance the global economy, but if only the 
U.S. adjusts it would produce a serious contraction in the 
global economy.  Adams noted that it has been estimated that 
the U.S. would have to contract 6% to balance the external 
account by 2010, which would be the biggest contraction since 
the Great Depression.  The United States does not want to see 
such a sharp adjustment.  Other nations need to "look at what 
it would do to your economies.  This has to be a shared job," 
related Adams. 
 
Don't Single Out Malaysia 
------------------------------- 
 
¶10.  (SBU) Zeti, while acknowledging Adams' comments, 
countered that, although the U.S. has a current account 
deficit and Malaysia a current account surplus, one must look 
at Malaysian outflows in terms of profits and dividends 
 
KUALA LUMP 00000613  003 OF 004 
 
 
flowing out from Malaysia to the U.S.  United States 
companies in Malaysia have been sending profits out.  They 
create jobs and there is a multiplier effect but capital is 
still flowing out.  Adams, in turn, asked why was there so 
much Malaysian investment flowing into the U.S. 
 
¶11.  (SBU) Zeti said Malaysia is trying to adjust in two 
ways:  there is more domestic and regional consumption and it 
has floated its exchange rate.  She explained that Malaysia 
has seen increasing domestic demand.  With a larger middle 
class market in Malaysia and  regionally, too, the middle 
class is buying more and more of Malaysia's goods and 
services.  Still, the region must integrate better. 
Malaysia has also floated its exchange rate.  Zeti asserted 
her displeasure that Malaysia was singled out as a possible 
currency manipulator and Singapore was not.  She related that 
Singapore operates in the same way as Malaysia but, due to 
good public relations, they were not criticized by the U.S. 
Zeti found this criticism very unfair.  Adams promised that 
Malaysia would not be singled out in the upcoming Treasury 
exchange rate report. 
 
 
Tell Your Friends In China 
----------------------------------- 
 
¶12.  (C) Adams asked Zeti to "tell your friends in China that 
we need to see more movement.  We are going to lose the 
policy battle and disrupt vital trade relations and 
bi-lateral relations."    He urged changes in three 
components of Chinese policy - exchange rates, domestic 
demand, and modernization of financial services - but noted 
that the exchange rate has become symbolic in Washington of 
what is seen as an unfair relationship.   Zeti responded, 
"China is going to move.  Because Malaysia's financial 
liberalization is so institutionalized, Malaysia was more 
confident.  China needs time to become confident." 
 
Meeting with New Ministers 
----------------------------------- 
 
¶13.  (U) Adams also met with Effendi Norwawi, Minister in the 
Prime Minister's Officer in charge of economic planning and 
Awang Adek, Deputy Minister of Finance, focusing on the 
upcoming FTA negotiations in both meetings.  Minister Effendi 
explained that his biggest fear would be the FTAs impact on 
local firms.  He explained that the Prime Minister and the 
government are behind the FTA.  All agree that it is a 
critical step to take, but there are sensitivities.  Effendi 
asserted that there may be synergy between FTA negotiations 
and 9th Malaysia Plan initiatives -- for example, in 
technical education.  Effendi would like to see the U.S. and 
Malaysia focus on these synergies during negotiations. 
 
¶14.  (U) Deputy Finance Minister Awang Adek mirrored Governor 
Zeti's concern with stability, and similarly drew a 
connection between economic and political stability.  In 
addition to exchange rate stability, he said that Malaysia 
hopes to see more oil price stability, even if that means 
lower prices for Malaysian's energy exports.  He expressed 
concern that Malaysia is not as competitive for foreign 
investment as in the past.  "What used to come easily to us 
is not coming as easily as before.  We are not at the center 
of growth," he said.  He also noted the government's efforts 
to control inflation, suggesting that Bank Negara would start 
to be more proactive in raising interest rates.  He 
discounted, however, a suggestion from Under Secretary Adams 
that ringgit appreciation might help with inflation, adding 
that this had not been a consideration in the decision to 
move away from a fixed exchange rate. 
 
Comment 
----------- 
 
¶15.  (SBU) Zeti's views on capital flows and the danger of 
speculation due to a volatile exchange rate were formed 
during the 1997-98 Asian financial crisis.  In her 
conversation with Under Secretary Adams, she was visibly 
uncomfortable with the idea of allowing the ringgit to 
experience short-term fluctuations.   In addition, Zeti is 
also wary of foreign financial institutions because their 
choices and actions are governed by profit motive and 
 
KUALA LUMP 00000613  004 OF 004 
 
 
responsibility to shareholders rather than Malaysia's 
development agenda.  When asked to pick between allowing the 
market to operate freely and Malaysia's development goals, 
Zeti will always pick the latter (or someone above her will 
pick it for her). 
 
¶16.  (SBU) Under Secretary Adams' visit sparked a small 
amount of public discussion about the value of the ringgit, 
with reporters questioning Zeti, Minister of Finance (II) Nor 
Yakcop and, even, Prime Minister Abdullah.  Even if Malaysia 
does not take action in the way that the United States would 
wish, Adams sent a clear message to the financial leadership 
about our concern with Malaysia's policy stance.  Further, 
whether Zeti agrees with Adams' proposed actions to solve 
global imbalances is unknown, it is clear that she recognizes 
the danger an abrupt adjustment holds for Malaysia's economy. 
 
 
¶17.  (SBU) Zeti clearly was miffed at the mention of Malaysia 
in November's Foreign Exchange Report and will expect that 
Malaysia not "be singled out" again.   Maintaining a quiet 
dialogue between Treasury and Bank Negara officials is likely 
to have greater influence on Malaysia's policies than public 
"jaw boning."  End Comment. 
 
¶18.  (U) Under Secretary Adams cleared this cable. 
LAFLEUR