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.

Surianor Kamaralzaman @ UiTM Shah Alam 1

 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.

Surianor Kamaralzaman @ UiTM Shah Alam 2

 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.

Surianor Kamaralzaman @ UiTM Shah Alam 3

 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.

Surianor Kamaralzaman @ UiTM Shah Alam 4

 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.

Surianor Kamaralzaman @ UiTM Shah Alam 5

 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 6

 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 7

 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.

Surianor Kamaralzaman @ UiTM Shah Alam 8

 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 9

 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

Surianor Kamaralzaman @ UiTM Shah Alam 10

 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

Surianor Kamaralzaman @ UiTM Shah Alam 11

 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.

Surianor Kamaralzaman @ UiTM Shah Alam 12

 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.

Surianor Kamaralzaman @ UiTM Shah Alam 13

 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.

Surianor Kamaralzaman @ UiTM Shah Alam 14

 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.

Surianor Kamaralzaman @ UiTM Shah Alam 15

 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

Surianor Kamaralzaman @ UiTM Shah Alam 16

 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.

Surianor Kamaralzaman @ UiTM Shah Alam 17

 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 18
 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.

Surianor Kamaralzaman @ UiTM Shah Alam 19

 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.
Surianor Kamaralzaman @ UiTM Shah Alam 20
 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.

Surianor Kamaralzaman @ UiTM Shah Alam 21

 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.

Surianor Kamaralzaman @ UiTM Shah Alam 22

 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.

Surianor Kamaralzaman @ UiTM Shah Alam 23

 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.

Surianor Kamaralzaman @ UiTM Shah Alam 24

 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.

Surianor Kamaralzaman @ UiTM Shah Alam 25

 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
Surianor Kamaralzaman @ UiTM Shah Alam 26
 contd..FUNCTIONS OF BNMBanker To The Banks

Licensing of banks and non-banks

a)

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 areSurianor
required to maintain a capital according to a risk 27
Kamaralzaman @ UiTM Shah Alam
based capital framework
 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.

Surianor Kamaralzaman @ UiTM Shah Alam 28

 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.

Surianor Kamaralzaman @ UiTM Shah Alam 29

 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.

Surianor Kamaralzaman @ UiTM Shah Alam 30

 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

Surianor Kamaralzaman @ UiTM Shah Alam 31

 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

Surianor Kamaralzaman @ UiTM Shah Alam 32

 Sources and Uses of Funds of Bank Negara
Malaysia

Sources of Funds Uses of Funds

Capital Deposits with other FIs
Reserve Loan and advances(Banking and
Profit Fis,public sectors,private sector
Demand deposit and foreign)
Other deposits(banking and Securities(treasury
financial institutions, public bills,commercial bills,MGS)
sector, private sector and foreign) Gold and FOREX reserve
Borrowings Other assets
Funds from other FIs
Insurance, provident and pension
funds
Other liabilities
Surianor Kamaralzaman @ UiTM Shah Alam 33
 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.

Surianor Kamaralzaman @ UiTM Shah Alam 34

 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.

Surianor Kamaralzaman @ UiTM Shah Alam 35
 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 ill-

gotten gains through laundering.

Surianor Kamaralzaman @ UiTM Shah Alam 36
 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.

Surianor Kamaralzaman @ UiTM Shah Alam 37

 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:

Surianor Kamaralzaman @ UiTM Shah Alam 38

 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.

Surianor Kamaralzaman @ UiTM Shah Alam 39