CHAPTER 2 BANK NEGARA MALAYSIA

Learning Objectives: At the end of the lesson, students should be able to: Explain the objectives and functions of Bank Negara Malaysia. Elaborate the Monetary Policy instruments. Identify the sources and uses of funds of Bank Negara Malaysia. Elaborate Exchange Control Notices of Malaysia (ECM). Define the meaning of Money Laundering & Counter Terrorist Financing.
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2.0 INTRODUCTION

The possibility of having a Central Bank for Federation of Malaya and the Crown Colony of Singapore was seriously considered following the recommendations of the World Bank Mission of 1954.
The achievement of political independence by the Federation of Malaya in August 1957 lent a new sense of urgency to the Federations interest in having a Central Bank. In 1958, the Federation Government announced its decision to set up its own Central Bank. With the assistance of the Banking Advisor, a senior official seconded from the Commonwealth Bank of Australia, the Federation Government finally worked out the details of its own Central Bank, the Central Bank of Malaya. It was established on 26 January 1959.

The establishment of the Central Bank in 1959 can be fundamentally attributed to the recognition then for the need for deliberate management of the money and credit situation in the country.
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OBJECTIVES OF BANK NEGARA MALAYSIA

Main Objectives (6)
1) To issue currency and keep reserves while safeguarding the value of the currency. BNM is required by law to maintain a minimum cover of 80.59% in external assets against its notes and coins in circulation. Maintaining a strong reserve position is also important to both the short term objective of economic recovery as well as the long term aim to maintain a sustainable external position. A large reserves cushion is indeed a key element in protecting the country against unforeseen destabilizing developments.
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Contd.....Main Objectives

2) To act as banker and financial adviser or agent to the government Managing the liabilities of the government, both in Malaysia and abroad. Advices the government on its loan programmes, including the terms and timing of the loans and issue of new types of securities. BNM is responsible for trading, registering, settlement and redemption of government securities through its computerized trading and settlement system. BNM provide temporary advances, Known as ways and means advances, to the government to cover any deficit in the budget revenue, there are legal limitations to the amount and the duration of loans that BNM can make available to the government.
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Contd.....Main Objectives

3) To promote monetary stability and a sound financial structure Price stability is a key prerequisite for sustained economic growth, in the absence of which the mobilization of resources and the efficient channeling of resources to productive investment would be adversely affected. It is necessary for the conduct of monetary policy. An essential element for the promotion of financial stability is the existence of a strong and effective prudential framework, to ensure that banking institutions operate in a sound and prudent manner, thereby minimizing the risk of bank failures, which could be disruptive with adverse implications on economic activity.
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Contd.....Main Objectives 4) To influence the credit situation to the advantage of Malaysia 5) To be responsible for the supervision, regulation and development of the insurance industry 6)To be directly responsible to the government on exchange control matters, administers the Exchange Control Act 1953 (amendment made in 1989).

Surianor Kamaralzaman @ UiTM Shah Alam

FUNCTIONS OF BNM(5)

1) Bank for currency issues. 2) Keeper of international reserves and safeguarding the value of the ringgit. 3) Banker and financial adviser to the government. 4) Agency responsible for monetary policy and management of financial system. 5) Banker to the banks.

Surianor Kamaralzaman @ UiTM Shah Alam

1) Bank For Currency Issues

Any Central Bank in the world is known as the bank of issue. By this the BNM can help the country to attain effective supervision over legal tender money and control over credit expansion in the banking system. The BNM started to issue its own currency on JUNE 12, 1967. With this it replaced the Board of Commissioners of Currency, the sole currency issuing for Malaya, Singapore, Sabah, Sarawak and Brunei as the sole currency issuing authority. The Malaysian currency was named ringgit and sen from dollar and cents under the Malaysian Currency (Ringgit) Act 1975.
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2) Keeper of International Reserves and Safeguarding the Value of The Ringgit

International reserves comprise of gold, foreign exchange, reserve position with International Monetary Fund (IMF) and holdings of Special Drawing Right (SDRs).

The BNMs function of holding the nations international reserves was automatically
derived from its function as the bank of issue. Gold and foreign exchange has been the major component of external reserves held by BNM.

To safeguard the external the value of ringgit, the CBO 1958 provides for the
maintenance of a minimum external reserves baking of 80.59% against the currency issue, but in the practice the ringgit is fully backed by external reserves.

On JUNE 21, 1973 due to the international monetary turbulence that happened until

early 1970s had prompted the government to allow the ringgit to float upwards.
Since SEPTEMBER 27, 1975, the external value of the ringgit has been determined in terms of a composite basket comprising the currencies of the major trading partners of Malaysia and the principal currencies used in external settlements.

Surianor Kamaralzaman @ UiTM Shah Alam

3) Banker, Financial Advisor And Fiscal Agent To The Government The function of BNM as the banker and financial adviser to the

government can be explained further by dividing this function into:

a) management of government accounts

b) source of funds to government c) management of national debt

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contd.. Banker, Financial Advisor And Fiscal Agent To The

Government

a) Management of Government Accounts In keeping the banking accounts of the government, BNM perform the functions of providing cheque facilities, accept funds and makes payment on behalf of the government and undertakes the foreign exchange business of government. b) Sources of Fund To Government The CBO 1958 empowers the Central Bank to provide temporary advances to the Government to cover any deficit in the budget revenue. There are legal limitations to the amount and the duration of loans that the Central Bank can make available to the government. The limitations are: The advances should not exceed 12.5% of the budget revenue of the Government. The advances be repaid as soon as possible and not later than three months after the end of the Government Financial year in which it is granted. Additional funds cannot be made available to the Government unless the previous advances have been repaid The Central Bank has the discretion to determine the rate if interest to be charged for its advances

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contd.. Banker, Financial Advisor And Fiscal Agent To The

Government

c) Management of national debt

BNM manages the public debt and is responsible for the floatation of
government loans in Malaysia or abroad. BNM advises the government on its loan programmes, example: the terms and timing of loans and the issue of new types of securities.

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4) Agency Responsible For Monetary Policy And Management Of The Financial System

Responsible for Monetary policy BNM is responsible to the government for promoting monetary stability and a sound financial structure, and for influencing the credit situation to help achieve the nations overall economic objectives. BNM is obliged to ensure that the supply of money and the volume of credit are sufficiently elastic to the demands in the domestic economy, without creating undue pressure on resources. BNM seeks to maintain monetary stability through ensuring that growth in bank credit and money supply are just adequate to nurture growth in the economy, without causing inflationary pressures. The primary objective of monetary policy is to regulate the nations supply of money and credit. In understanding the nature and mechanics of these instruments(as discussed below), we will appreciate how the use of these instruments by BNM, will affect bank credit and money supply in particular and in general the money and foreign exchange markets. It regulates the volume of money and the generation of credit by the banking system through a range of instruments, including quantitative (general monetary control) and qualitative controls (selective monetary control).The general instruments of monetary control are used to influence the level of bank reserves while the selective instruments are used to create an impact on money and credit.

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Contd.. Agency Responsible For Monetary Policy And Management Of The

Financial System

Management of the Financial System To enhance the stability of the financial system, the central Bank has the responsibility to manage the banking system . The introduction of the Banking and Financial Institution Act (BAFIA) in 1989 represents a major move by the Central Bank to modernize and streamline the laws relating to the banking and financial institutions, thus providing stringent rules to eliminate illegal activities.

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contd.. Agency Responsible For Monetary Policy And

Management Of The Financial System Monetary Instruments and its impact The primary objective of monetary policy is to regulate the nations supply of money and credit. In understanding the nature and mechanics of these instruments(as discussed below), we will appreciate how the use of these instruments by BNM, will affect bank credit and money supply in particular and in general the money and foreign exchange markets. It regulates the volume of money and the generation of credit by the banking system through a range of instruments, including quantitative (general monetary control) and qualitative controls (selective monetary control).The general instruments of monetary control are used to influence the level of bank reserves while the selective instruments are used to create an impact on money and credit.

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contd.. Agency Responsible For Monetary Policy And

Management Of The Financial System QUANTITATIVE MEASURES: Statutory Reserves Requirement (SRR) Liquidity Requirements @ Statutory Liquidity Requirement(SLR) Money Market Operations Discount Operations Open Market Operations Direct borrowing and lending QUALITATIVE MEASURES: Interest Rate Ceiling Selected Credit Control Moral Suasion

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contd.. Agency Responsible For Monetary Policy And

Management of The Financial System.QUANTITATIVE MEASURES
1) Statutory Reserves Requirement (SRR) SRR was introduced in 1959 The use of SRR was prompted by the need to ensure the underlying large excess liquidity is locked in with BNM on a more permanent basis to reduce inflation. Banking institutions are required to maintain a certain percentage of their reserves with BNM (under Section 37 (1) )in the form of cash reserve. SRR is defined in terms of a banks eligible liabilities (EL) which comprises of deposits (including Negotiable Certificates of Deposit (NCDs) and repurchase agreement (REPOs) and net interbank borrowings) SRR is an instrument available to BNM because it affects the level of deposits and loans. An increase in the ratio would reduce the amount of deposits and loans at given level of reserves available to the banking institutions. A reduction in the ratio would increase the level of deposits and loans of the banking institutions. Reserve do not earn interest, therefore the cost will be passed on to the customers by increasing interest on loans.

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contd.. Agency Responsible For Monetary Policy And

Management of The Financial System.QUANTITATIVE MEASURES 2)Liquidity Requirement @ Statutory Liquidity Requirement (SLR)
Banking institutions are required to observe a minimum liquidity ratio (under Section 38(1) of Financial Institutions ACT, 1989.) In BAFIA Act 1989, banking institutions are required to observe a minimum liquidity ratio in order to ensure there are liquid assets at all times to meet customers withdrawals and as a selective credit policy to influence liquidity situation in the system. SLR is also expressed as a percentage of the EL base. Statutory liquid assets are kept in the banks. SLR is immobilized in the banking institutions and therefore earns a return. An increase in ratio will provide less scope for a banking institution to liquidate its liquid assets to support an expansion of loans. The uses of liquidity ratio are: To ensure that the banks always maintain liquid assets to safeguard the interests of the depositors To be used for credits policy purposes or for credit creation To be used as a means to ensure continuous and ready financing of the governments development projects. Liquid assets include: Cash Clearing balances with BNM Money at call Treasury Bills Government securities Government investment certificates Cagamas Bonds Bill discounted or purchased Bank Negara Bills BNM certificate State Government securities Surianor Kamaralzaman @ UiTM Shah Alam

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contd.. Agency Responsible For Monetary Policy And

Management of The Financial System.QUANTITATIVE MEASURES

3) Money Market Operations (MMO) MMO introduced by BNM to influence the liquidity situation in a system. During tight monetary policy, the BNM will reduce liquidity by issuing or selling government papers to market participants. During easy monetary policy i.e. BNM will repurchase the government papers from market participants in order to increase liquidity. MMO can be conducted either through borrowing or lending by the BNM in interbank market and open market operations through selling and buying government papers in open organized markets. Money rates - During tight market - BNM inject funds into the market through purchasing of papers or outright supply of funds. During liquid market - vice versa.

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contd.. Agency Responsible For Monetary Policy And

Management of The Financial System.QUANTITATIVE MEASURES 4) Discount Operations Discount Operations is used by the BNM to influence the interest rate and liquidity situation by rediscounting of eligible short-term assets or through secured advances. This arrangement is governed by two conflicting functions of BNM: an obligations as a bankers to act as a lender of last resort A duty to regulate the volume of bank credit. Commercial banks and investment banks may borrow from BNM by discounting treasury bills and other bills or seek an advance secure by paper eligible for rediscounting by using government securities or any other collateral acceptable to the bank. Access to the discount window can take the following form: rediscounting of MGTBs ( eligible only to principal dealers) Rediscounting of Bas (others) of 21 days and less to maturity. MGS repos Advances made against MGS as collateral. Increases in discounting by BNM will add to the reserves of banks Decrease in discounting reduces the flow of bank reserves thus will affect the growth of money and credit.
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contd.. Agency Responsible For Monetary Policy And

Management of The Financial System.QUANTITATIVE MEASURES 5) Open Market Operations Direct intervention of BNM in the open market through the sale and purchase of Government papers in the money market. This operation affects directly the reserve of banks and therefore the flow of bank credit and money. Operations are conducted either outright or through repurchase agreements. The distinctive feature of open market operations is that the initiative is solely taken by BNM.

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contd.. Agency Responsible For Monetary Policy And

Management of The Financial System.QUANTITATIVE MEASURES 6) Direct Borrowing and Lending To facilitated the day to day management of reserves to smoothen fluctuations in liquidity. Short term borrowings were used on a large scale to sterilize the large inflows of funds Operations were taken in short term maturities of one to three months. The main advantage is that the term (maturity, rate structure and amount0 can be varied according to the needs of BNM to influence the liquidity situation.

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contd.. Agency Responsible For Monetary Policy And

Management of The Financial System.QUALITATIVE MEASURES
QUALITATIVE MEASURES:

1) Interest Rate Regulation/Ceiling BNM had exercised influence on bank liquidity and the availability and cost of bank credit through the regulation of interest rates charged on bank loans as well as the rates of interest offered for bank deposits. Prior to OCTOBER 1978, a system of Administered interest rates was prevalent in Malaysia. BNM was involved in the setting of the minimum lending rates for bank loans (best customers rate) and a ceiling on interest rates that may be offered by banks for deposits accounts. By end of the 1970s, BNM had begun to encourage a market oriented system of interest rate determination in order to reflect the true cost of funds and to reduce the distortions in the market. On November 1, 1983 the base lending rate (BLR) was introduced and BNM administered the BLR. On February 1, 1991 the banking institutions were free to quote their own BLR in order to reflect each institutions cost of funds.
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contd.. Agency Responsible For Monetary Policy And

Management of The Financial System.QUALITATIVE MEASURES

2) Guidelines on Lending to the Priority Sectors and Selective Credit and Administrative measures
The imposition of lending guidelines to the priority sectors and selective administrative measures are meant to target only specific sectoirs of the economy. It is necessary to ensure that the economic and social objectives are met, consistent with objectives. In the case of selective credit measure,such credit controls are imposed to influence the direction of lending activities to specific sectors.These measures are used in regulating the volume and direction of credit.

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contd.. Agency Responsible For Monetary Policy And

Management of The Financial System.QUALITATIVE MEASURES

3) Moral Suasion Moral suasion has on occasions been relied upon to influence the direction of activities of the banking industry. A technique used by BNM to induce voluntary response from the financial system to its policy initiatives. The implementation of policies could be made more effective if financial institutions on their own accord take the necessary action to fulfill the role required of them. The effectiveness of moral suasion depends on these factors i.e. prestige, standing of the monetary authority and the degree the financial institutions are convinced the actions to be taken.

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contd..FUNCTIONS OF BNMBanker To The Banks

5) Banker to the banks

This function of BNM is carried out through: a) Licensing of banks and non-banks b) Banking relationship c) Currency distribution d) Inspection and investigation of banks and non-banks e) Lender of last resort f) Promote a sound financial structure
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contd..FUNCTIONS OF BNMBanker To The Banks Licensing of banks and non-banks To get the licenses, licensed institutions need to get approval from BNM. Licenses are issued by the Minister of Finance upon recommendations from BNM. In order to get the license, a bank should fulfill minimum criteria such as banks shareholding structure should be in accordance with the economic policy Maintain minimum net assets so that it is sufficient to safeguard depositors interest All banks operating in Malaysia whether Malaysian or foreign controlled must be incorporated in Malaysia and banks must maintain certain level of minimum capital funds. All banks operating in Malaysia whether Malaysian or foreign controlled must be incorporated in Malaysia The law also stipulates limits on individual ownership to facilitate prudential controls The law does not permit the operation of any licensed institution owned or controlled directly or indirectly by a foreign government or an agency of a foreign government Banking institutions are required to maintain a capital according to a risk 27 Surianor Kamaralzaman @ UiTM Shah Alam based capital framework
a)

contd..FUNCTIONS OF BNMBanker To The Banks

b) Banking relationship Banks must have two types of deposits account with BNM which are current account and SRR. SRR account is required for purposes of monetary control The current account constitutes normal current account and clearing account. The normal current account mainly records cash transactions between the banking institutions and BNM including cash withdrawals when the institutions need to replenish their supply of currency. The clearing account is maintained by the banks for interbank settlements, after the daily clearing of cheques is made in the BNM, which provides the clearing house facilities as one of its services to the banking system.

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contd..FUNCTIONS OF BNMBanker To The Banks c) Currency distribution This is done by providing cash required by the commercial banks and also for the acceptance of cash from the commercial banks. Banks need to order currency from BNM in order to replenish their cash supply. BNM in return will charge this to the current account of the concerned bank. If banks have extra cash, cash can be handed over to BNM.

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contd..FUNCTIONS OF BNMBanker To The Banks d) Inspection and Investigation of banks and non-banks

BNM has the power to inspect licensed banks and do investigations in order to ensure sound and prudent conduct of operation to safeguard the interest of depositors in particular and the public in general. Inspections are done in the areas of investment, lending policies, state of its assets, quality of management, compliance with SRR and guidelines and directives given by BNM.

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contd..FUNCTIONS OF BNMBanker To The Banks

e) Lender of last resort BNM is ready to provide lender of the last resort facilities to the licensed institutions if an unforeseen circumstances arises and an institution is temporarily short of funds, BNM stands ready to extend credit to tide temporarily the institution over its temporary difficulty. This is done through rediscounting of eligible bills government securities, trade bills and commercial papers with BNM by licensed institutions. Besides that, BNM can also: Give injection of capital from SRR account Direct borrowing against collateral with interest charged Rediscounting of eligible bills Placing of short term deposit Buying of short term asset at a discount
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contd..FUNCTIONS OF BNMBanker To The Banks

f) Promote a sound financial structure BNM cooperates closely with the financial institutions to promote and maintain a range of banking and other services for the public, enhance efficiency and strengthen the institutions prudential standards, discipline and moral fibre. BNMs relationship with other financial institutions are bined with three main of legislation which are:
The Central Bank Ordinance 1958 The Banking and Financial Institutions Act (BAFIA) 1989 The Islamic banking Act 1983

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Sources and Uses of Funds of Bank Negara Malaysia

Sources of Funds
Capital Reserve Profit Demand deposit Other deposits(banking and financial institutions, public sector, private sector and foreign) Borrowings Funds from other FIs Insurance, provident and pension funds Other liabilities

Uses of Funds Deposits with other FIs Loan and advances(Banking and Fis,public sectors,private sector and foreign) Securities(treasury bills,commercial bills,MGS) Gold and FOREX reserve Other assets

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EXCHANGE CONTROL NOTICES OF MALAYSIA(ECM)

The government of Malaysia has decided effective September 1, 1998 to implement a series of measures to insulate the Malaysian economy from the risks and vulnerabilities of such external developments. The main changes in the exchange control rules are: External Accounts: Approval is required for transfer of funds between External Account. Transfers to residents accounts are permitted only untill 30 Sept 1998(thereafter, approval is required). Withdrawals of ringgit from External Accounts require approval, except for the purchase of ringgit assets. Authorized Depository Institutions: All purchases and sales of ringgit can only be transacted through authorized depository institutions. Trade settlements: All settlements of exports and imports must be made in foreign currency.
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ContdEXCHANGE CONTROL NOTICES OF MALAYSIA(ECM) Currency held by travellers: With effect from 1 October. 1998, travelers are allowed to import or export ringgit currency of not more than RM 1,000 per person. There are no limits on the import of foreign currencies by resident and

non resident travelers.

The export of foreign currencies by resident travelers is permitted, up to a maximum of RM10,000 equivalent. To export of foreign currencies by non resident travelers is permitted up to the amount of foreign exchange brought into Malaysia.
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Anti money laundering

Definition Money Laundering is the process by which criminals attempt to conceal the true origin and ownership of the proceeds of criminal activities. If successful, the money can lose its criminal identity and appear legitimate.

Illegal arms sales, smuggling and the activities of organize crime for
example, drug trafficking and prostitution can generate huge sums. Embezzlement, insider trading, bribery and computer fraud schemes can also produce large profits and create the incentive to legitimize the illgotten gains through laundering.
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contd..Anti money laundering

In summary, the money launderer wants to: Place his money in the financial system, without arousing suspicion. Move the money around ,often in a series of complex transactions crossing multiple jurisdictions, so it becomes difficult to identify. Then move the money back into the financial and business system, so that it appears as legitimate funds or assets.

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Counter Terrororist Financing

Definition UNs 1999 Inter national Convention explains terrorist financing in the following way: Any person commit an offense within the meaning of this convention if that person by any means, directly or indirectly, unlawfully and willfully, provides or collects funds with the intention that they should be used or in the knowledge that they are to be used, in full or in part, in order to carry out:

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ContdCounter Terrorist Financing

a)An act which constitutes an offence within the scope of and as defined in one

of the treaties listed in the annex(see 1-9) below

OR
b) Any other act intended to cause death or serious bodily injury to a civilian
or to any other person not taking an active part in the hostilities in a situation of armed conflict, when the purpose of such act, by its nature or context, is to intimidate a population, or to compel a government or an international organization to do or to abstain from doing any act.
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