KUALA TERENGGANU, Malaysia (Reuters) – Malaysia’s government lost a key by-election on Saturday by a bigger-than-expected margin, casting doubt over whether incoming prime minister Najib Razak will be able to assert control over his party and the ruling coalition.

NAJIB WILL STILL GET THE TOP JOB, BUT FACE OPPOSITION

Najib, the country’s deputy prime minister, is set to take the helm of the United Malays National Organisation, the leading party in the National Front coalition that has ruled the country for 51 years.

That accession at a party congress in March to replace lacklustre Prime Minister Abdullah Ahmad Badawi is not in doubt as Najib is standing unopposed.

However, this is the second successive by-election that Najib has run and lost, the first being the return of opposition leader Anwar Ibrahim to parliament in August.

As a result of Saturday’s loss he will certainly face criticism from ex-premier Mahathir Mohamad, an influential figure, whose carping at Abdullah undermined his time as prime minister. He will also face criticism from Abdullah’s supporters.

There is a race for top party posts in UMNO and with Najib weakened, wins by allies of Abdullah and Mahathir could make it hard for Najib to unify UMNO.

Najib is viewed as a hardliner, he will crack down on dissent and the relative freedom that Internet-based opposition news publications and blogs have enjoyed. That crackdown could become more intense as he seeks to play to Malay ultras in UMNO.

It will be harder for Najib to liberalise the economy. He will not likely be able to loosen rules that give ethnic Malays privileged positions when it comes to company ownership, a key measure needed to restore competitiveness.

THE COALITION

UMNO is the lead party in a 13-strong coalition.

In the March 2008 election, the ethnic Indian and Chinese parties in the alliance were hit hard. The main ethnic Chinese party, the Malaysian Chinese Association (MCA) looks set to be blamed for failing to deliver the by-election swing vote.

Ethnic Chinese accounted for 11.6 percent of the electorate and around 5,000 of those were MCA members, so the MCA will be blamed for not turning out the vote.

This comes at a time when a new MCA presidency is fighting to make the party more independent of UMNO, a move that has divided opinion.

UMNO may respond by emphasising Malay supremacy and Malay rights, a move that could widen racial rifts in this country where 60 percent of the population is Malay and 34 percent is ethnic Chinese or Indian.

THE OPPOSITION

The win in Kuala Terengganu is a massive fillip for the opposition and for cooperation between its three allied parties. It will also stop some members of the Pan-Malaysian Islamic Party (PAS) leaving the coalition.

Traditionalists in PAS say that it is sacrificing its goal of establishing an Islamic state in its alliance with an ethnic Chinese party and Anwar’s largely urban party.

Some in PAS are also happier playing to the Malay vote rather than a multi-ethnic alliance.

Anwar has hinted again that he may be able to win over some government MPs to join him. This win could give him the momentum to do so after failure in September to deliver on promises to win power with the aid of government defectors hit his credibility.

THE ECONOMY

According to many private sector economists, Malaysia is headed for its first recession in eight years in 2009, although the government says that the export-oriented Asian country will grow 3 percent this year.

The budget deficit is seen at 4.8 percent of gross domestic product and will likely be more. That means there is little extra room for Najib to pump-prime the economy.

Malaysia has been losing out in the race for foreign investment in recent years to neighbours like Thailand.

Perceptions of high corruption and lack of judicial independence have damaged the country’s image. Malaysia needs to restructure its government-linked companies and reduce the amount of the stock market owned by government-controlled funds.

(Reporting by David Chance; Editing by Sophie Hares)

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