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Chinese businesses in Malaysia watch cautiously as Mahathir, Beijing move ahead on railway

Key Points
  • Many in Malaysia are hopeful that Prime Minister Mahathir Mohamad will be able to smooth ties with China during his upcoming visit to Beijing.
  • Chinese businesses in Malaysia were awaiting signals from the renegotiation of a multibillion-dollar rail project that has caused uncertainty in the China-Malaysia relationship.
  • Last Friday, the Malaysian Prime Minister's Office released a statement announcing the resumption of the project at a reduced cost.
Malaysia's Prime Minister Mahathir Mohamad (R) and China's Premier Li Keqiang (L) inspect Chinese honour guards during a welcoming ceremony at the Great Hall of the People in Beijing on August 20, 2018
Wang Zhao | AFP | Getty Images

Malaysia's relationship with China is under scrutiny in the Southeast Asian country ahead of Prime Minister Mahathir Mohamad's expected April visit to Beijing.

Mainland Chinese businesses in Malaysia, in particular, are hopeful that the 93-year-old leader will be able to smooth ties with Asia's dominant economic power.

There are already positive signs as the two countries renegotiated a previously stalled multibillion-dollar rail project that caused uncertainty in the bilateral relationship.

Last Friday, the Malaysian Prime Minister's Office released a statement announcing the resumption of the project at a reduced cost of 44 billion Malaysian ringgit ($10.7 billion) — two-thirds the original cost of 65.5 billion ringgit ($15.9 billion)

That could be a turning point for other deals with Chinese companies and entities, which have been awaiting a signal on the future of the bilateral relationship.

After all, the stalled train line had "more or less hurt the confidence of Chinese enterprises" operating in the Southeast Asian countries, said Keith Li, the president of the China Entrepreneurs Association in Malaysia.

In fact, there have been a "small number" of projects and developments put on hold as the Chinese companies involved take a wait-and-see approach, Li told CNBC in Kuala Lumpur last month. He declined to go into detail about those deals that had been affected.

Li's association represents the interests of mainland Chinese businesses in Malaysia, of which there are an estimated 1,000. Li, who runs a travel agency, said he is a permanent resident of Malaysia and has lived in the country for over 20 years.

The planned rail project on Peninsular Malaysia was thrown into uncertainty after Mahathir's party stunned international prognosticators with a win against the incumbent Najib Razak in a general election last May. Mahathir's administration then decided that costly projects authorized by the previous administration would be cancelled or renegotiated, sparking concerns among mainland Chinese enterprises in Malaysia.

There is much at stake.

Malaysia's finance minister, Lim Guan Eng, said in March that foreign direct investment planned by manufacturers from China rose from 3.9 billion Malaysian ringgit ($948 million) in 2017 to 19.7 billion ringgit ($4.8 billion) in 2018, an increase of over 400 percent, local media reported.

In 2018, China was one of the largest contributors to the manufacturing sector in Malaysia alongside Indonesia, the Netherlands, Japan and the U.S., government news agency Bernama reported, citing official figures.

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However, even though there was some anxiety over Malaysia's commitment to fulfilling contractual terms after a regime change, the emerging economy remains attractive to many mainland Chinese businessmen due to a comprehensive and sound legal framework, a skilled workforce and lower costs of investment for high-value manufacturing activities compared with neighboring Singapore, according to Li.

Mainland Chinese businessmen also feel comfortable in a culture where there is a significant ethnic Chinese population that can speak Mandarin, he added.

"Taking all factors as a composite, Malaysia is a compelling investment destination," Li said in Chinese to CNBC.

There may be some upside to come as Malaysia calibrates its relationship with not just China but also its next door neighbor Singapore. Both countries rank among Malaysia's top trading partners and investors.

Mahathir said during a March conference for international investors that even though there may be differences in views, China and Singapore remain close partners with Malaysia, Bernama reported.

"They are our top two key trading and investment partners. With mutual respect we will always find ways to benefit from mutual interest," he reportedly said.

In fact, Mahathir recently told the South China Morning Post that he would prefer to take sides with China over the U.S. if his country was forced to choose in the trade war.

China woos Malaysia with lower rail cost, trade

The major issue under the spotlight has been the East Coast Rail Link project that the previous administration signed with contractor China Communications Construction.

Mahathir's administration wanted to suspend the deal due to cost, but has been giving mixed signals for months, leaving the market guessing.

The administration is now hoping to leverage on improved ties amid the new rail agreement to ink new palm oil deals, particularly since Beijing had offered to buy more palm oil products from Malaysia.

The commodity is an important cash crop for Malaysia, but is under threat of a sharp decline in demand as the European Commission has deemed palm oil-based biofuel to be unsustainable due to excessive deforestation.

Malaysia is also an up and coming destination for Chinese tourists, with arrivals surging 30 percent in 2018 from a year ago.

A women is seen in Kuala Lumpur with a Malaysia flag as a background.
SOPA Images | Getty

There may be more areas the two sides can collaborate on in the future.

The relationship has "very strong potential," said Tan Yew Sing, president of the Malaysia-China Chamber of Commerce, a private association.

"There's a lot of matching, enhancing each other. Our strength may not be theirs, their strength is not ours," Tan told CNBC.

While Malaysia may benefit from China's investments, Tan said the Southeast Asian nation is a compelling destination for Chinese businesses that want to set up high-tech manufacturing plants abroad— particularly as Beijing remains locked in a trade fight with Washington.

In addition to Vietnam, Malaysia is the country in the region where higher tech products can be manufactured at a lower cost, Tan explained.

Avoiding debt trap criticism

Observers say Beijing will benefit from the renegotiation of the East Coast Rail Link deal with Malaysia.

China has come under increasing criticism for its massive infrastructure partnerships, which has put countries into a so-called debt trap. So, by negotiating better terms — and thereby helping Malaysia handle its national debt — China can better position itself against criticism that it has more sinister motives in lending money to countries for infrastructure development, Tan told CNBC.

Shock waves rippled throughout the developing world when Sri Lanka handed over a strategic port to Beijing in 2017, after it couldn't pay off its debt to Chinese companies. It was seen as an example of how countries that owe money to Beijing could be forced to sign over national territory or make steep economic concessions if they can't meet liabilities. The phenomenon has been dubbed debt-trap diplomacy, and Chinese President Xi Jinping's government has denied any involvement in it.

"If Malaysia becomes a debt-ridden country, Malaysia will be the best weapon the U.S. can use to attack China — by saying that the rail project was a debt trap," said Tan.

"By renegotiating the terms to make it more favorable for Malaysia, China will be able to show that its 'Belt and Road Initiative' project is used to help the countries it spans, " he added. "The message that this can send is something money cannot buy."

—Nyshka Chandran contributed to this report.