Topic 2 :

Structure of Financial System in

Malaysia
 Outline
• Structure of the Malaysian commercial
banking industry
• Banking system
• The role of central bank
• The role of commercial bank
• Non Bank Financial Intermediary System
 Financial System in Malaysia
Financial system acts as a mechanism that
transfers funds from the party with excess fund
to the party that needs the funs
The structure of the Malaysian financial
system is basically divided into three parts:
a) Banking System
b) Non-Bank Financial Intermediaries
c) Financial markets
a) Banking System

* Bank Negara Malaysia

* Banking Institutions
- Commercial Banks
- Investment Banks
- Islamic Banks
* Others
- Representative Offices of Foreign
Banks
- Labuan Off-shore Banks
b) Non-Bank Financial Intermediaries
* Provident and Pension Funds
* Insurance Companies/Takaful
* Development Finance Institutions
* Savings Institutions
- National Savings Bank
- Co-operative Societies
* Others
- Unit Trusts
- Housing Credit Institutions
- Leasing
- Factoring
- Venture Capital Companies
- Pilgrims Fund Board (Lembaga Tabung Haji)
 THE FINANCIAL SYSTEM STRUCTURE IN MALAYSIA

Financial System

Financial Institutions Financial Market

Money & Foreign Exchange Market

BANKING SYSTEM NON-BANK FINANCIAL 1. Money Market
INTERMEDIARIES 2. Foreign Exchange Market
1. Bank Negara Malaysia 1. Provident and Pension Funds
2. Banking Institutions 2. Insurance Companies/Takaful
 Commercial Banks 3. Development Finance Institutions Capital Market
4. Savings Institutions 1. Equity Market
• Islamic Banks
2. Bond Market
• • National Savings Bank
Investment Banks • Public Debt Securities
• Co-operative Societies • Private Debt Securities
3. Others
5. Others
• Representative Offices of
Foreign Banks • Unit Trusts
• Pilgrims Fund Board Derivatives Market
• Labuan Offshore Banks 1. Commodity Futures
• Housing Credit Institutions
2. KLSE CI Futures
• Leasing Companies 3. KLIBOR Futures
• Factoring Companies
• Venture Capital Companies
Offshore Market
1. Labuan International Offshore
Financial Center ( IOFC )
 Functions of financial system

Functions served by the financial system

in an economy:
* intermediation function
* its role in the payment system
* a channel for transmission of monetary
policy
 Development of Malaysian Banking
System
* Underdeveloped and dominated by foreign
banks in the early 1960s
* BNM’s first priority upon its establishment
in 1959 was to create the basic
infrastructure for the financial system and
develop a truly Malaysian-oriented banking
system
* In the 1970s, BNM’s efforts were focused
on introducing other financial
intermediaries like merchant banks and
development finance institutions
 Development of Malaysian Banking
System
* the enactment of the Banking Act 1973, to
strengthen the regulation and supervision
of banking institutions
* the economic recession in 1985 had
significantly affected the health of the
banking institutions and the non-bank
institutions
* the financial crisis in 1997 resulted in
deterioration in capitalisation and asset
quality of the banking sector
 Bank Negara Malaysia
• Established on 26 January 1959, under the
Central Bank of Malaya Ordinance 1958.
• Objectives:
a) Issue currency and keep the reserves
safeguarding the value of the currency
b) Act as a banker and financial adviser to the
Government
c) Promote monetary stability and a sound
financial structure
d) Influence the credit situation to the advantage
of Malaysia
a) Issue currency and keep the reserves
safeguarding the value of the currency

- BNM is responsible for the printing of

currency notes and the minting of coins
for use in the country
- the bulk of the country’s reserves are in
the form of: gold, foreign exchange,
reserves positioned with IMF, and
Special Drawing Rights
b) Act as a banker and financial advisor to the
Government

- BNM is responsible for managing the

issue of government securities
- in addition, funds from the collection of tax and
dividend payments are also placed with BNM
- BNM manages the operations of
government accounts, public debt and is
responsible for the flotation of
government loans, both locally and
overseas
c) Promote monetary stability and a sound
financial structure

- banks are required to maintain a

statutory reserve account with BNM
- BNM inspects and conducts
investigations at banks
- BNM stands ready to act as lender of
last resort in the face of “bank run”
d) Influence the credit situation to the
advantage of Malaysia

- to help achieve the country’s overall

economic objectives
- setting up of special funds to enable
borrowers from certain sectors of the
economy to obtain relatively cheaper
financing like the Fund For Food
scheme
Various Instruments:-
- Statutory reserve requirement
- Minimum liquidity requirement
- Open market operation
- Discount operation
- Interest rate control
- Credit control and lending guidelines
- Moral persuasion
Rating Framework Use by Bank
Negara Malaysia
BNM uses the CAMEL rating framework to
evaluate banks in 5 critical areas:
1) Capital adequacy
2) Asset quality
3) Management efficiency
4) Earning performance
5) Liquidity
6) Sensitivity to the market
1) Capital adequacy

 A measure of financial strength used to cushion operation and

abnormal losses

* risk weighted capital ratio – 8%

* growth in statutory reserves – should be in line with the

growth of the bank’s business

* shareholders’ funds/total assets ratio – to ensure adequate

shareholders’ funds to support the volume of business

* shareholders’ funds/contingent liabilities ratio – contingent liabilities

are off-balance sheet items which are often huge in amount and can
seriously damage a bank’s profitability if they materialize
2) Asset quality
 An important indicator is non performning loan
(NPL)

* non performing loans/total loans ratio – a low

ratio means a higher quality of loan assets and
vice versa

* recovery of non performing loans and interest-

in-suspense – this shows the recovery efforts and
success in collecting back non performing loans

* loans portfolio – how diversified and whether

any over exposure to certain sectors of the
economy
3) Management efficiency
 Difficult to measure - qualitative factors

* technical competence – management’s knowledge of

products and systems
* leadership and administrative ability – clear direction and
course to follow
* banking regulations compliance – reflects how well the
bank is run
* ability to plan and respond to
* adequacy of and compliance with internal policies – to
ensure bank’s interests are safeguarded at all times.
Additionally, all parties concerned must comply with these
policies
* Common measurement : Earning per employee
Cost per loan
4) Earning performance
To build up investors and depositors confidence

*return on assets and return on equity ratios –

must be adequate and in line with the industry
requirements

* growth in profits - must be adequate and in

line with the industry requirements

* non performing loans/total loans ratio – to

assess the bank’s earning performance. A
low ratio means a higher profit for the
bank.
5) Liquidity
Ensuring adequacy liquidity to meet customers'
withdrawal to prevent bank run.

*loan/deposit ratio – a high ratio may mean

that the bank is “over trading” i.e. over lending

* liquidity ratio – a high ratio means that

the bank is more than capable of
meeting any demands by its depositors or
borrowers
6) Sensitivity to the market
* Economic conditions (boom or recession)

FI should assesses the market risk - referring to

type of assets in its securities portfolio, the size as
well as increase or decrease in fixed income and
equitity portfolio.

Value-at-risk (VaR) of the trading portfolio/stress

test done on the FI's exposure
 Commercial Banks
* main players in the banking system
* largest and most significant providers of
funds in the banking system

were brought under BNM’s supervision

through Banking Act 1973, but this was
subsequently replaced by the BAFIA in 1989,
latest replaced by Financial Service Act 2013
Under the Financial Service Act 2013, the
business of banking is defined as the business
of:
* receiving deposits on current accounts,
deposit accounts, savings accounts or other
similar accounts;
* paying or collecting cheques drawn or
paid by customers; and

* The main characteristic of commercial banks

is the provision of current account facilities
where payments can be made through issuing
cheques.
* provision of finance which is defined as:
- lending of money;
- leasing business;
- factoring business;
- purchase of bills of exchange,
promissory notes, certificates of
deposits, debentures or other negotiable
instruments; and
- acceptance or guarantee of any
liability, obligation or duty of any
person.
* such other business as BNM, with the
approval of the Minister may prescribe
 Investment Banks
Under Financial Service Act 2013, the business of
merchant banking is defined as the business of:
 IPO
* receiving deposits on deposit accounts;
* provision of finance (Syndicated Loan);
* providing consultancy and advisory services
relating to corporate and investment matters
(merger & acquisition);
* making or managing investments on behalf of
any person
* such other business as BNM, with the
approval of the Minister may prescribe
Their main activities are:
* deposits taking and money market
operations;
* medium-term lending;
* loan syndication and acting as loan
managers;
* corporate financial services;
* fund management
 Islamic Banks
 Islamic banks are commercial banks operating in
accordance with Islamic law or Syariah Islam which
prohibit the element of interest or usury.

 There are two banks Islamic banks in Malaysia, i.e

Bank Islam Malaysia Bhd (BIMB) and Bank
Muamalat Malaysia Bhd (BMMB).

 BIMB was first Islamic Bank that operated under

Islamic Bank Act 1983, followed by BMMB which
was established in 2001.

 Repealed to Islamic Financial Service Act 2013.

 Islamic Banks…con’t…
 Islamic banking is banking activities
conducted based on the Syariah principles
known as Fiqh Al-Muamalat (Islamic rules for
business transaction).

 Islamic banking does not allow payment or

receipt of interest but encourages profit
sharing.
Islamic Banks…con’t…
There are various Syariah principles used in
the diverse range of Islamic banking products.

The principles concerned are-

Al-Wadiah principle (savings)
Al-Mudharabah principle (profit sharing)
Al-Musyarakah principle (joint venture)
Al-Murabahah principle (cost plus)
Representative Offices of Foreign Banks in
Malaysia
* Foreign banks that have established
representative offices in Malaysia, with all
concentrated in Kuala Lumpur
* Most of the banks originate from Europe
and Japan
* Representative office is merely a liaison
office and does not offer banking products
directly to the Malaysian market
 Labuan Offshore Banks in Malaysia
 On 1 October 1990, International Offshore Financial
Centre (IOFC) was set up in Labuan to enable local as
well as international companies and investors to carry
out international and financial activities at international
level.

 This activities include those related to banking,

financing corporate restructuring, insurance and credit.

 Offshore banks in Labuan are allowed to provide loans

quoted in any foreign currency but they are not
permitted to offer loans quoted in Ringgit Malaysia .
 Financial Regulations

Regulation is necessary because:

a) It promotes stability, integrity and
soundness in the financial system
b) It increases investors’ confidence
c) To keep abreast with current changes which
would influence the market like technology
and financial innovation
d) Preventive measures before financial crisis
 Non Bank Financial Intermediary System
(NBFI)
 NBFI play the role of matching the parties with excess funds
with the parties with shortage of funds.

 The difference being, banking system is directly under BNM’s

regulation, while NBFI system is under the direct control
of various government department and agencies and
indirectly under BNM through periodic reporting. Eg.
Bank Simpanan Nasional (saving institution) is under the
control of the Ministry of Finance, MIDF Bhd is under the
Ministry of Plantation Industries and Commodities.
 Non Bank Financial Intermediary System
(NBFI)
(a) Insurance Companies
 Insurance funds are funds collected in the form of
insurance premium paid by insurance policy holders for
protection against calamities such as loss of working
capability, illness, fire, accident and theft.
 Two types (life insurance & general insurance)
 Islamic insurance business was introduced on
24/11/1984 by Syarikat Takaful Malaysia SB.
 Islamic insurance is insurance business conducted in
accordance with Islamic principles.
Non Bank Financial Intermediary System (NBFI)
(b) Institutions of Development Finance.
Providing medium and long term capital as well as mobilising
savings, economies activities and expertise with an aim to
promote investment in the industrial and agriculture sectors.

For example
Bank Industri dan Teknologi Malaysia Berhad
AGRO Bank Malaysia
EXIM Bank Malaysia Bhd
Malaysian Industrial Development Finance Bhd (MIDF)
Non Bank Financial Intermediary System (NBFI)
(c) Saving Institutions
Providing and mobilising savings of the middle and lower income
groups, especially those from the rural areas.

For example
Bank Simpanan Nasional (BSN)
Co-operative Societies
 Non Bank Financial Intermediary System
(NBFI)
(d) Provident Funds, Pension Funds and Insurance
Companies
Mobilise financial resources from their members in the form of
contributions, pensions and insurance premium to retirement
schemes and insurance schemes.

For example
KWSP
Life Insurance
General Insurance
Non Bank Financial Intermediary System (NBFI)
(d) Other Non-Bank Financial Institutions
Unit Trust Companies
-provide the investors with advantages in terms of diversity, choices and
professional investment management.

Leasing
-An agreement between an asset owner (lessor) and lessee by which the
lessor agrees to let the lessee have the use of the asset and in return the
lessee pays rent to the lessor by instalments.

Factoring
- Company sells or surrenders the rights to its accounts receivable to a
factoring company, and in return the factoring companies advances 70%-
80% of the value of the accounts to the company.
 Non Bank Financial Intermediary System
(NBFI)
 Housing Credit Institutions
- Provide housing loans.

- The government focuses its effort on providing

low cost housing
- Two (2) housing credit institutions are
- Malaysia Building Society Bhd (MBSB) &
- Borneo Housing Mortgage Finance Bhd.
 Non Bank Financial Intermediary System
(NBFI)
 Venture Capital Companies
- Involves financing of high risk investments or assets
which are normally not financed by banking institutions.

- This kind of financing usually focuses on high

technology fields such as biotechnology and robot
industry

- Main problem faced by venture companies is to

determine how much risk they can take and also faces
capital related problems.
 Non Bank Financial Intermediary System
(NBFI)
 Lembaga Urusan dan Tabung Haji
- To promote and coordinate activities related to
the fulfilment of religious obligations by Muslims.

- Apart from organising the pilgrimage to the

Holy Land in Mecca, LUTH also manages funds
which largely comprise long term savings of
prospective Muslims intending to perform the
pilgrimage.