Speech by DPM Lee Hsien Loong at Nomura Securities' function

Dr. Junichi Ujiie, President Nomura Securities,

Distinguished Guests,

Ladies and Gentlemen,

INTRODUCTION

1. The last five years have been tumultuous ones for Southeast Asia. The Asian financial crisis abruptly halted two decades of steady growth and economic development, and triggered off far-reaching social and political changes. In Indonesia it brought down the Suharto government, sending Indonesia on a new and uncharted path. The first shock of the crisis passed sooner than expected, and within two years the Southeast Asian economies picked up. But before the economies could recover properly they were hit again, first by the US recession last year, then by September 11th, and the discovery of terrorist groups in the region linked to Al Qaeda.

2. Located in the middle of Southeast Asia, Singa-pore could not be unaffected by these momentous developments. During the Asian crisis we were lucky, and avoided the contagious loss of confidence and flight of capital that afflicted our neighbours. But the US recession last year, and the global electronics downturn, hit Singa-pore hard, and we experienced our most severe recession in decades. Now our economy is growing again, but this has not just been a cyclical downturn. Singa-pore is at a turning point. Our environment has changed permanently. We are reassessing the prospects and changing our strategies, in order to maximise our chances and to continue to grow in the new environment.

CHINA - CHALLENGE AND OPPORTUNITY

3. The competitive landscape in Asia has changed. China is rapidly transforming itself. Its capabilities have increased, and the business environment that it offers investors is steadily improving. China now produces and exports many goods which hitherto have been manufactured in Southeast Asia. It is competing for investments by MNCs, and capturing share in world markets. Investors are focussed on the attractions of China, while Southeast Asia is not prominent on their radar screen. In the early 1990s, Southeast Asia received twice as much foreign direct investment as Northeast Asia. Today, the ratio is reversed.

4. However, China's rapid transformation also opens up new opportunities for the rest of Asia. As China prospers it will import more from the rest of the world, especially now that it has joined the WTO. Singa-pore's trade with Greater China (i.e. PRC, Hong Kong and Taiwan) reached almost US$20bn in the first half of this year, surpassing our trade with the US. In services too, such as tourism, health care and education, there is potential for Southeast Asia to benefit from the spending power of a new and burgeoning Chinese middle class. During the financial crisis, tourists to Singapore from all sources declined, but arrivals of Chinese tourists continue to grow at double-digits.

5. From a longer term perspective, there are good reasons for investors to continue paying attention to Southeast Asia. Southeast Asia is a large market of 500 million people, about half the size of China's market. So while investors want to be in China, they also need to tap the Southeast Asian market. MNCs need to spread their investments and risks, and not concentrate them in one or two countries. Southeast Asia offers a competitive alternative to China as an investment base. While Southeast Asia has its risks and uncertainties, so does China. MNC's investments in Southeast Asia will complement those in China. Japanese investors, who have a long and significant presence in Southeast Asia, well appreciate this.

6. Of course, to benefit from China's growth, Southeast Asian countries will have to strengthen their economies and competitiveness, both individually and as a group. Indeed Southeast Asia is working towards closer economic integration. The ASEAN countries have made progress liberalising trade in goods. From this year, practically all manufactured products will be traded tariff-free within the ASEAN-6 countries. This makes the region a more attractive common production space, and encourages investors to exploit the complementary strengths of ASEAN countries.

7. Economic cooperation need not always involve all the ASEAN members. There are many opportunities for cooperation at the sub-regional level. Singapore's cooperation with the Indonesian islands of Batam and Bintan is a good example. Batam and Bintan have ample land and low-cost workers. Singapore has expertise in engineering, design, logistics and quality control. These twin advantages make Singa-pore, Batam and Bintan a very attractive combination for manufacturing activities, and a viable alternative to China.
8. Externally, ASEAN is strengthening its linkages with its trading partners. Last year, the leaders of ASEAN and China agreed to establish a Free Trade Agreement (FTA) in 10 years. When realised, it will be the largest FTA in the world, of 1.8 billion people. With the FTA, Southeast Asia can be a launching pad for exports into China. Studies have shown that the ASEAN-China FTA could increase ASEAN exports to China by almost 50%.

9. With Japan, ASEAN is discussing a Comprehensive Economic Partnership Agreement, which was proposed by Prime Minister Koizumi in January. Japan has already signed and ratified an FTA with Singa-pore. This is the Japan-Singapore Economic Partnership Agreement, which will come into effect before the end of this year. The JSEPA is Japan's first bilateral FTA with any country. It will boost Japan's economic relations with Singa-pore, offer a model for broader ASEAN-Japan economic engagement, and give Japan a headstart in Southeast Asia.

10. Following the FTA with Japan, Singapore is now negotiating one with the US. We aim to conclude the negotiations by the end of this year. This will enable Japanese and other companies in Singa-pore to enjoy preferential access to the US market. We hope that the US-Singapore FTA will blossom into a larger ASEAN-US relationship, just as the Japan-Singapore Economic Partnership Agreement has done.

POLITICS AND SECURITY

11. In the areas of politics and security, there have also been significant developments in Southeast Asia. Political stability and security are essential for maintaining confidence, and for governments to concentrate on promoting economic development and social progress. How Southeast Asian countries handle these non-economic challenges will determine whether they can seize the new economic opportunities, attract fresh investments and sustain growth.

12. In Malaysia, the government has adopted a progressive, secular approach in order to modernize the country. This has been particularly driven by Prime Minister Dr Mahathir, who is currently pushing hard to have science and mathematics taught in schools in English instead of in Malay which is the national language. However, this approach and world-view is fiercely resisted by the opposition Islamic party, PAS, which wants to create an Islamic state in Malaysia. PAS enjoys significant support from the majority Malay community in Malaysia, especially the rural Malays. This struggle for Malay support is likely to be long- and hard-fought. If PAS were to win power, Malaysia would go in quite a different direction. But it will not be easy for PAS to defeat the governing party, because to do so it would need also the support of the non-Malays, who form one-third of the population.

13. Dr Mahathir has announced that he will be retiring in October 2003, and that his successor will be the present Deputy Prime Minister, Abdullah Badawi. Abdullah Badawi is expected to continue Dr Mahathir's progressive approach, which will be positive for Malaysia and for Singapore.

14. A stable Indonesia is even more critical to Southeast Asia. Should Indonesia become divided, politically unstable and economic weak, it would have deep repercussions for the region. Under President Megawati, a measure of political and economic stability has been restored. President Megawati has shown commitment to broad-based economic reforms and managing domestic political threats. As a result, Indonesia has won debt-restructuring support from the IMF and international organisations. The question is whether this stability and continuity in current policies can be sustained for the long term, especially given Presidential elections in 2004.

15. One major issue is clearly the problem of terrorism by extremist Islamic groups in Indonesia. The disastrous bombing in Bali this week is a vivid demonstration of seriousness of the terrorist threat, and the need for a decisive response by the Indonesian authorities. The Indonesian Defence Minister has publicly linked the bombing with Al Qaeda. Analysts, investors, and other governments involved in the worldwide fight against terrorism will be watching closely how Indonesia handles this threat. Will the government be able to act against the small but dangerous minority of extremists while retaining the support of the majority of the Muslim population? If so, order will be progressively restored, and gradually confidence, tourists and investments will return.

16. For the Indonesian government, this problem of terrorism is complicated by the resurgence of political Islam. The tension between secularism and political Islam is an enduring feature of Indonesian politics. Indonesia is not an Islamic state, even though 90% of its population are Muslim. During the Suharto regime, political Islam was kept under strict restraint, but after the fall of Suharto, various Islamic groups, including the militant ones, use the new found political space to impose their agenda on the nation. In August this year, several Muslim parties tried to amend the constitution to introduce Islamic law in Indonesia. They failed; but had they succeeded, it would have unravelled all the achievements done under President Megawati.

17. Extremist Islamic groups also exist elsewhere in Southeast Asia. The Malaysian government has been taking firm action against such groups. So has the Singa-pore government. Singa-pore has arrested several dozen members of the Jemaah Islamiyah group. This group has roots in Indonesia and links with to Al Qaeda, and seeks to set up an Islamic state in Southeast Asia by violent means.

18. It is not possible to eliminate the problem of Islamic extremists entirely. The large Muslim population in Southeast Asia offers a natural host within which the extremists can conceal themselves and find political cover, even though the vast majority of the Southeast Asian Muslims are peaceful and moderate in their beliefs and practices.

19. Terrorism is a worldwide problem which no region is exempt from. But through decisive action and close cooperation, Southeast Asian governments can contain the problem and maintain a safe and secure environment for investors as well as their own populations.

ECONOMIC RESTRUCTURING

20. Given these challenges and uncertainties, Singa-pore has no choice but to restructure our economy. Globalisation, technology, the rise of China and the advent of political Islam are changing the complexion of the region, and we need to move quickly.
21. Even before this crisis, we have been liberalising our economy, to harness the power of private enterprise and free markets, especially in sectors which were previously tightly regulated. For example, two years ago, we opened up our telecommunications sector completely to free competition. We are also restructuring and deregulating the power industry. We have been liberalising our financial sector despite the crisis, freeing up protected industries like banking and stockbroking, regulating the industries on the basis of disclosure rather than merit, and easing the restrictions on the use of Singa-pore dollars by non-Singaporeans, in order to promote the growth of capital markets. In manufacturing, we placed a long term bet on the life sciences, with the aim of attracting MNCs and developing a fourth pillar of our manufacturing sector, together with electronics, chemicals and engineering.

22. However, the changed situation called for a more comprehensive approach. So last year, we established the Economic Review Committee (ERC), to holistically and fundamentally review our economic policies and strategies. The Committee is progressively publishing its recommendations, which have already resulted in several major policy changes.

23. The first area the Committee focussed on was our overall macro-economic competitiveness - taxes, the Central Provident Fund, wages and land costs. We need to keep the burden of taxes on the economy as low as possible, especially the burden of direct taxes on companies and individuals. We are therefore reducing corporate and personal taxes, to bring the top rates down from around 25% to 20% over 3 years. In order to partially make up for the loss in revenue, we will be raising the Goods and Services Tax - our consumption tax - from 3% to 5%. There is a worldwide trend towards lower direct taxes, and we have to lower ours too, to remain competitive, attract foreign investment and talent, and encourage Singa-poreans to create wealth.

24. We are also refocusing our Central Provident Fund (CPF) which is our social security and pension fund system, to concentrate on its core purpose of providing for the basic financial needs for majority of our people, namely saving for retirement, home ownership, and medical expenses. We are tightening the use of CPF for buying properties, so as to leave more for retirement needs. We are reducing the coverage for higher income Singa-poreans, who should be able to plan and provide for their own retirement needs. We are lowering contribution rates for older workers, to minimise the burden on them and their employers, because this group is most vulnerable to losing their jobs. These are important policy shifts to ensure the financial security of our people, prepare ourselves for a rapidly ageing population and make our labour market more flexible.

25. By making adjustments in taxes and the CPF, and in the wage and land markets, we are moving towards an economy that is more flexible, more responsive to market forces and more dependent on individual drive and responsibility.

26. This brings us to the second set of recommendations, which aim to promote entrepreneurship. In a rapidly unfolding environment, we depend on the initiative and enterprise of our people to take risks, seize new opportunities, and to stay ahead. As regional markets like ASEAN, China and India open up, our people must have the drive and spirit to create new business ideas and venture abroad. We want more Singa-poreans to want to start business and strike out on their own. Even if they work for MNCs or the public sector, we want them to be innovative and create value for their organisations.

27. Going forward, we need to change our cultural mindset, and create incentives for Singa-poreans to venture. We cannot do this by passing laws. But we can create more conducive conditions for entrepreneurs. To begin with, we need a culture that accepts diversity and failure, and embraces a broad notion of success. We need to start with our young. Our education system needs to nurture the spirit of inquiry and enterprise. We need to cut red tape in Government agencies. We are further improving protection for intellectual property, so that innovations are duly rewarded. We are trimming back safety nets to focus on the truly needy, and reduce the people's dependency on the state.

28. A third focus is the development of our human capital. In the past, we have relied on good infrastructure and investments from MNCs for economic growth. Moving forward, we must leverage more on the knowledge, skills and talents of our people. Singaporeans already excel at technical competencies. But we must go one step further, to strengthen our skills at analysing problems, communicating ideas, and managing people. We must inculcate values such as resilience and openness, and imbue our people with outward-looking, global mindsets. We plan to set up a National Continuing Education Body to entrench the habit of life-long learning, and to prepare adult workers for the new jobs being created.

29. We will also open our doors to foreign talent, to supplement our own talent. This includes attracting talented entrepreneurs to Singa-pore, to take advantage of the opportunities and the environment we offer, to start and grow their businesses here. This will help make Singapore a vibrant and diverse metropolis; a great place for both local and foreign talent to work and play. The new arts centre which we just opened last week will help to make Singa-pore a fun place to live.

30. A fourth focus is to upgrade our manufacturing sector. Manufacturing will continue to be a key growth engine. It accounts for more than half our exports, and is a significant contributor to employment and growth. It is not obvious that an economy at Singa-pore's present level of development will be able to retain its manufacturing industry. But after examining the matter carefully, we are convinced that we can stay competitive against lower cost locations like China, and remain a manufacturing hub.

31. We can stay competitive by cooperating with our neighbours to achieve a better division of labour, as we are doing in Batam and Bintan. We need to improve our infrastructure and provide shared facilities which will help manufacturers derive economies of scale, as we have done with our petrochemical complex on Jurong Island. We will encourage companies to set up innovation centres which carry out development work, and regional HQs which oversee activities and funds all over Asia.

32. We need to attract companies which will benefit from the premium environment that we offer. In Singa-pore, conditions are stable and predictable, rules are transparent, intellectual property is protected, workers are hardworking, everything works and will continue to be so. An investor building a $2 million shoe factory may opt for the cheapest location, but an investor building a wafer fabrication plant costing $2 billion and with an operational life of 10 to 20 years will seriously consider Singapore. This is why we now have 15 wafer fabrication plants in Singa-pore.

33. A fifth focus is to promote the growth of services, especially exportable services. Services and manufacturing are not just the twin engines of our economy; they reinforce each other. A strong manufacturing engine contributes to the growth of trading & logistics, and likewise, a strong logistics industry makes factories in Singa-pore more competitive.

34. We need to expand these exportable services to serve a larger catchment area beyond our traditional markets in Southeast Asia. The Chinese and Indian markets offer huge opportunities in health, education, tourism and private banking. Singapore has the reputation and capabilities to become a world class service supplier. To tap these opportunities, we need to further upgrade our service industries to be globally competitive.

35. Since the Asian crisis, our exportable services have lost market share in Asia. This is partly because our immediate neighbours have not been doing well, but it is also because we opened up our service sectors to competition slower and less decisively than our manufacturing sector. The deregulation and liberalisation of industries like finance and telecommunications will remedy this.

36. A sixth area of focus is our domestic enterprises. Our local sector should be a breeding ground for new wealth creators and revolutionary ideas. Local companies have to be efficient and productive, because they employ a large proportion of our workforce, and also because in Singa-pore no business is safe from international competition. Ours is a small and open economy, and practically all sectors are tradable. If people are dissatisfied with the shopping in Singa-pore, they will simply cross the border to Malaysia to shop, or order items over the internet. We cannot afford to maintain a protected, inefficient domestic sector of our economy.

37. We have many dynamic and innovative local companies. But there is a group of traditional companies, particularly in retail and personal services, which have difficulty adapting to the new economy. We need to help them to rationalise, upgrade themselves and meet the needs of a new generation of customers.

38. A final area of focus is to help Singa-poreans cope with economic restructuring. Restructuring causes pain and dislocation. We need to manage these difficulties so that they will not cause Singa-poreans to resist urgent and essential changes. There is no easy solution to this problem, which all societies are facing in this era of rapid change. But we can do much to help workers understand the changes taking place and what they imply for us. We can provide workers with training and job counselling and match up retrenched workers with new jobs. And we must help those who are out of work to tide over difficult times, especially those with young families.

39. These seven issues - macroeconomic competitiveness, entrepreneurship, human capital, manufacturing, services, domestic enterprises, and coping with restructuring - constitute a comprehensive programme to remake the Singa-pore economy. The Economic Review Committee will publish its final report in January next year, but many recommendations have already been taken up and acted upon. This ability to react quickly will give us a headstart over our competitors, and offer an advantage to investors in Singa-pore.

CONCLUSION - JAPAN'S ROLE IN ASEAN AND SINGAPORE

40. Historically, Japan has been a key player in Southeast Asia's economic development. The wave of Japanese investments into Southeast Asia following the Plaza Accord in 1985 helped to transform the whole region. It generated many jobs, and raised the quality of life for many Southeast Asians. Today, Japan remains Southeast Asia's second largest foreign investor after Europe. In Singapore, Japan has for many years been our second largest foreign investor after the US.

41. But since the end of the bubble economy, the Japanese economy has been going through difficulties. As a beneficiary of Japan's prosperity in the past, Singa-pore looks forward to the Japanese economy recovering, and resuming its role as an engine of growth for the whole region.

42. Globalisation and the changes in our environment are realities. We can either ignore them and suffer the consequences, or we can make a hard-headed appraisal of the changed outlook, and tackle the challenges imaginatively and resolutely, in order to maximise our chances and improve the lives of our people. This is what Singa-pore is doing. Despite the difficulties that currently beset the region, Southeast Asia still offers possibilities and potential. I hope Japanese firms will work with us to take advantage of these opportunities, and strengthen Japan's ties with the region, to the benefit of both sides.

43. I wish you a fruitful seminar.