The forex scandal in early 90s

Estimated losss: As high as RM30 billion!

Some of you may have heard of the case of Nick Leeson whose exploits as a financial trader caused the spectacular collapse of the British bank Barings in 1995. He was based in Singapore and was making unauthorized speculative trades on the Japanese stock prices and interest rates. Unfortunately for him, the Kobe earthquake struck and caused the Asian markets to plunge resulting in Leeson and the bank losing more than US$1 billion. Barings could not sustain such a hugh loss and was declared insolvent. Leeson was eventually jailed 4 years for fraud and forgery in Singapore.

The case above illustrates the high risks involved in trading in financial instruments. Large profits can be made but monumental losses can result if the trades go sour.

A few years earlier in 1992-1993, Malaysia’s very own Bank Negara was also involved in risky forex trading which landed it in serious trouble and resulted in a loss estimated to be as high as RM30 billion. It is not clear exactly when such activities started but bank was supposed to have the most sophisticated trading rooms in the world which impressed Mahathir who was the PM then when he toured the trading rooms. He had given approval for Bank Negara to continue its speculative currency trading after he was informed about it.

Bank Negara’s forex trading activities were well-known at that time and a source of concern to banks across Asia. “It became the most awesome currency trader in the world” said the author of the book “Vandals’ Crown: How Rebel Currency Traders Overthrew the World’s Central Banks.” On some days, it traded US$1 billion to US$5 billion which is very unusual. Even the Bank of Japan rarely traded more than US$1 billion and only when it had wanted to intervene in the foreign exchange market to protect its currency. Central banks normally enter the forex market only to influence its own currency rate.

However, Bank Negara was trading in other currencies and was profiting from their movements. In other words, it had become a profit centre for the government using the country’s reserves to speculate in the currency market. Surely, that is not the role of a central bank. Why is Bank Negara undertaking such profit-making activities putting the country’s reserves at great risk?

Just like in the Nick Leeson’s case, it just needed an unfavorable event to cause monumental losses. Bank Negara was holding large positions betting on the pound sterling to go up. However, Britain withdrew from the European Exchange Rate Mechanism causing the sterling to collapse. This resulted in losses estimated to be between RM16 billion and RM30 billion in just 2 years in 1992-1993.

Can you imagine how much is RM30 billion? If you strike the first prize in the lottery draw of RM3 million – every single draw of the year and every year for 80 years you will get near to that astronomical figure!

Up to this day, a full account and disclosure of the forex fiasco has not been forthcoming despite the persistent efforts of Lim Kit Siang in bringing up this issue in parliament on many occasions. The following is his favourite quote from the Vandal’s Crown by Gregory J. Millman:

“Using all the resources a central bank commands – privileged information, unlimited credit, regulatory power, and more – Malaysia’s Bank Negara became the most feared trader in the currency markets. By trading for profit, Bank Negara committed apostasy against the creed of central banking. Instead of working to ensure global financial stability, Bank Negara repeatedly shoved huge sums of money into the most vulnerable market situations in order to destabilize exchange rates for its own profit” (p.226)

“(Bank) Negara operated behind a thick veil of secrecy. The bank seldom spoke publicly about its controversial trading activities. Yet it was increasingly clear to foreign exchange traders that Bank Negara’s operations in the foreign exchange markets went far beyond simple self-defense. It became the most awesome currency trader in the world.” (p. 227)

“(Bank) Negara’s market manipulation was so egregrious that one American central banker said, ‘If they tried this on any organized exchange in the world, they’d go to jail.’ However, in the unregulated international currency markets, there were neither police nor jailers. The only rule was the rough justice of the vandals, and it was this rule that eventually brought (Bank) Negara down.

“In 1992, (Bank) Negara took on a large pound sterling position, apparently expecting Britain to maintain the discipline required by the European Exchange Rate Mechanism. It was a bad economic and political judgement. (Bank) Negara lost approximately $3.6 billion when Britain withdrew from the ERM, letting sterling collapse. The next year, (Bank) Negara lost an additional $2.2 billion. By 1994, Bank Negara was technically insolvent and had to be bailed out by an infusion of fresh money from Malaysia’s finance ministry.” (p.229)

When will the country get the whole story of this biggest financial scandal in its history? Specifically, when will we get answers to some of these questions:

Why was Bank Negara speculating in the risky forex market to make profits?

Was it a proper policy for a central bank to use country’s reserves to make profits?

Who was reponsible for authorising such activities?

What were the limits on how much of the bank reserves can be used for currency speculation? Were these limits adhered to?

Was the cabinet aware that the country’s reserves were used for such risky speculation?

Wasn’t there a mechanism to monitor the currency trading?

Why wasn’t serious actions taken against those responsible for such huge losses?

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