SINGAPORE (Dec 31): The arc of great stories often traces a glorious rise, a dramatic fall from grace, followed by a bittersweet redemption. Malaysia’s general election on May 9 was arguably its day of redemption, after rapid economic develop­ment in the 1980s and 1990s, followed by a long period of social and political malaise in the wake of the Asian financial crisis (AFC). After nine years under former prime minister Najib Razak, who presided over the misappropriation of billions of dollars, Malaysian voters defied political pundits and polls and booted out the Barisan Nasional (BN) coalition that had ruled the country for more than six decades.

Malaysians were jubilant at having overcome the bribery, race-baiting and gerry­mandering that many were convinced would keep Najib and BN in power despite their excesses. It seemed like the political fabric of the country had changed overnight, and that Malaysians would be less susceptible to being manipulated by their leaders. Within days of the elections, the Malaysian Auditor General’s report on the scandal-ridden 1Malaysia Development Bhd was declassified, and the police were seizing bags of cash, jewellery and luxury handbags from residential properties linked to Najib and his family.

On the other hand, foreign investors were nervous about the return of Dr Mahathir Mohamad, with the ragtag coalition of political parties he led to victory. Mahathir and the so-called Pakatan Harapan coalition had loudly promised to abolish the much-hated Goods and Services Tax (GST), and halt mega projects such as the High Speed Rail link from Kuala Lumpur to Singapore. For investors, this potentially spelt a bigger government budget deficit and slower GDP growth. Indeed, in the immediate aftermath of PH’s victory at the polls, Malaysian stocks and the ringgit suffered a knee-jerk bout of selling.

Malaysia has not stopped making headlines around the world since then, and it is likely to continue being watched closely in 2019. For one thing, the PH government is now trying to bring everyone involved in the 1MDB scandal to justice. Low Taek Jho, better known as Jho Low, the Penang-born wheeler dealer said to have been the mastermind behind the whole affair, has already been slapped with charges in absentia in Malaysia and the US, mostly for money laundering. Najib himself has been charged with money laundering, criminal breach of trust and tampering with an audit report on 1MDB. Arul Kanda, former CEO of 1MDB, as well as several other former 1MDB officials have also been charged.

With the active cooperation of Malaysia, investigators around the world might now uncover more interesting facets of the complex heist. Singapore has so far ordered two Swiss private banks to shutter their local operations, fined other large banks, seized assets and banned at least eight people from the finance industry for their involvement in 1MDB-related transactions. Now, the US authorities are moving in on Goldman Sachs. In November, Goldman Sachs ex-partner Tim Leissner pleaded guilty to conspiring to launder money and violating anti-bribery laws. The US authorities have also charged Leissner’s former deputy at Goldman Sachs, Roger Ng.

According to Leissner’s testimony, Goldman Sachs’ then CEO Lloyd Blankfein was present at two separate meetings that included Jho Low. The first of these was back in 2009, and was also attended by Najib. The revelation had analysts and investors worrying about a broader investigation into Goldman Sachs, and the possibility of the bank being hit with big penalties, which sparked a significant selloff in its stock.

This month, Malaysia filed the first criminal charges against Goldman Sachs, alleging that the US bank knew that proceeds from 1MDB bond sales it arranged would be misappropriated and that it had misled investors. The Malaysian government is seeking fines well in excess of both the US$2.7 billion ($3.7 billion) of allegedly misused funds and the US$600 million in fees received by Goldman Sachs on the deals. “Their fraud goes to the heart of our capital markets,” Malaysian Attorney General Tommy Thomas said in a statement in announcing the charges. “If no criminal proceedings are instituted against the accused, their undermining of our financial system and market integrity will go unpunished.”

Meanwhile, the electoral defeat of BN in May has sparked a far-reaching realignment of Malaysia’s politics, which could continue surprising the market in 2019. Mahathir has pledged to hand over the post of prime minister by May 2020 to Anwar Ibrahim, his former deputy whom he sacked in the wake of the AFC. So far, he has not wavered from this promise. Barely a week after the May election, Anwar was pardoned and released from prison, where he had been serving a five-year sentence. In October, Anwar won a by-election and returned to parliament.

Anwar, 71, is widely seen to be the only other politician besides the ageing Mahathir, 93, with sufficient stature to hold the PH government together. He is also head of Parti Keadilan Rakyat (PKR), the largest component of PH, with 50 of the coalition’s 119 parliamentary seats. By comparison, the Democratic Action Party (DAP) has 42 seats, and Parti Amanah Negara has 11 seats. Mahathir’s own recently formed Parti Pribumi Bersatu Malaysia (PPBM) has only 16 seats. Yet, these dynamics could shift dramatically in the event of turmoil within the PH coalition parties, or if Umno — the linchpin of the BN coalition — were to disintegrate amid defections by its members.

The shifting outlook for the Malaysian economy is another reason the country is likely to continue making headlines in 2019. Malaysia has been facing the headwinds of tightening global financial market liquidity over the last couple of years. Some market watchers see respite in 2019, if the US Federal Reserve slows the pace of its interest rate hikes. On the other hand, softening oil prices could weigh on its government revenues, making it harder for the government to keep its projected budget deficits in check and maintain the confidence of credit ratings agencies.

As it is, Malaysia is saddled with a relatively high external debt load compared with other emerging-market countries. Moreover, its current account surplus has shrunk significantly over the last few years. That could limit its options in keeping economic activity steady as it addresses the fiscal mess left behind by the previous BN government.

Support from Petronas

Lim Guan Eng, who was appointed Finance Minister of Malaysia shortly after the May elections, claimed after taking up his post that the government had debts topping RM1 trillion ($328.3 billion), much higher than reported figure of RM685.1 billion at the time. It also came to light that the government had coughed up some RM7 billion to repay and service 1MDB’s debts since April 2017.

Details of the payments the government made on behalf of 1MDB had been found in secret “red files” that were inaccessible to even Malaysia’s Auditor General. The red files were also said to have contained information on several lopsided government contracts that put the country at a disadvantage.

Lim later revealed that the government owed some RM19.4 billion in GST refunds dating as far back as 2015, the year Malaysia implemented GST. Yet, the trust account that was supposed to hold these refunds had less than RM1.5 billion. Lim alleged that the previous government had “pilfered” the difference by placing them in the government’s consolidated fund, from which the monies were spent.

The revelation provided one explanation for why Malaysian consumers and businesses had complained so bitterly about GST, even as analysts extolled its virtues as an efficient and broad-based tax collection system. Holding on to the GST refunds resulted in the cash flows of businesses being restricted more than they ought to have been by the GST system, resulting in a cascade of higher costs being pushed onto consumers, Lim said.

With the new PH government repeatedly emphasising that its priority was to put the country’s financial house in order, many market watchers were bracing for an austere budget for 2019. But it was not as bad as expected. In November, Lim unveiled a budget allocation of RM314.55 billion, which was 8.3% larger than the revised estimate of RM290.35 billion for 2018. This included a return of some RM37 billion in outstanding tax refunds — RM18 billion related to income tax, and RM19 billion related to GST.

The government is projecting revenue of RM261.81 billion for 2019, up from 10.7% from a revised estimate of RM236.46 billion for 2018. That is despite stopping GST since June 1, and replacing it with the Sales and Service Tax since Sept 1. Included in the projected government revenue for 2019 is a special dividend of RM30 billion from Petroliam Nasional (Petronas).

These numbers translate into an expected budget deficit of 3.4% of GDP, lower than the 3.7% chalked up for 2018. “The Harapan administration is committed to maintaining a path of fiscal consolidation to achieve a deficit of 3.4% in 2019, 3% in 2020 and 2.8% in 2021. Over the medium term, we expect the deficit to be reduced further to the region of 2%,” Lim said in his budget speech.

Achieving this consolidation could be a challenge, though. Without the benefit of further special dividends from Petronas beyond 2019, the government will probably have to introduce new taxes in the future to lift its revenues, or find ways to cap its expenditure. At the same time, it will have to ensure overall GDP keeps growing at a healthy clip, even as global economic conditions turn less benign. Malaysia’s GDP is forecast to grow 4.9% next year, versus 4.8% in 2018.

Intriguing politics

The PH government also faces big challenges on the political front. While it won the May elections convincingly, it does not have a two-thirds majority in parliament, and it does not have a lock on the support of the Malay-Muslim community, which accounts for the bulk of Malaysia’s population. Indeed, the two key parties within PH — PKR and DAP — are ostensibly multiracial, though DAP is widely seen to be dominated by its Chinese members. That enables Umno and Parti Islam Se-Malaysia (PAS) to keep PH on the back foot when it comes to issues of Malay rights and the preeminence of the Muslim faith.

Recently, Umno and PAS scored a victory by appearing to have pushed the PH government into doing a U-turn on its plans to ratify the United Nations (UN) International Convention on the Elimination of All Forms of Racial Discrimination. Mahathir had indicated his willingness to ratify ICERD during a speech at the UN, but changed his mind when it became clear that the move would unsettle the Malays. On Dec 8, Umno and PAS went ahead with a march in Kuala Lumpur to express opposition to ICERD, even though PH had already changed its mind. Mahathir displayed his legendary political guile by reframing the march as a celebration of his government’s decision not to ratify ICERD. But the politics of race and religion is likely to continue to haunt PH.

PH could also be tested by internal rivalries and a surge in defectors from Umno, a story that has been developing in recent weeks. While some senior officials of PKR and DAP have stated they will not accept defectors from Umno, Mahathir has been more ambivalent. In October, he cited the case of former senior Umno official Mustapha Mohamed, who was once a cabinet member. Mustapha, who is a member of parliament (MP), quit Umno on Sept 18 but joined Mahathir’s PPBM only on Oct 26. “We have stipulated that the conditions for joining Bersatu are for them to leave Umno, become independent for a period of time and then apply to become a member of our party,” Mahathir said.

This past month, Umno suffered a major setback in the East Malaysian state of Sabah. On Dec 12, five of its six MPs from the state and nine out of 10 of its state assemblymen quit Umno. A couple of days later, on Dec 14, six more Umno MPs informed the party that they were quitting. That, along with earlier defections, whittled the number of parliamentary seats held by Umno to 37, down from the 54 it won in May. If these and other defecting Umno lawmakers attempt to join Mahathir’s PPBM, it could stoke tensions between him and leaders of PKR and DAP.

Separately, Anwar’s daughter Nurul Izzah announced on 17 Dec that she was resigning from all her party posts at PKR, which turned the spotlight on factional tension within the party, particularly between groups aligned to defeated deputy presidential candidate Rafizi Ramli and the winner, Economic Affairs Minister Azmin Ali. Meanwhile, former Umno Youth chief Khairy Jamaluddin, 42, Rafizi, 41, and Nurul Izzah, 38, have recently been expressing mutual admiration for one another on Twitter.

Against that backdrop, Malaysia’s political scene is looking as unpredictable as its economic outlook, and looks set to keep analysts, investors and news reporters on the edge of their seats in the year ahead.

This story appears in The Edge Singapore (Issue 863, week of Dec 31) which is on sale now. Subscribe here