The Government has always said that overseas aid should not be used as a sweetener in arms deals and Whitehall officials believe such aid may be illegal.
But Sir George Younger, who was Secretary of State for Defence in Margaret Thatcher's government at the time of the deal, admitted at the weekend that there was a link with the Pergau dam project - described as 'a very bad buy' by the head of the Overseas Development Administration.
The Government has consistently denied any linkage with the sale of pounds 1.3bn of arms, including 28 Hawk aircraft and two frigates.
But today, the Commons Public Accounts Committee will ask the former ODA permanent secretary, Sir Tim Lankester, now permanent secretary at the Department for Education, about why his specific advice not to fund the pounds 234m project was overruled by Douglas Hurd, the Foreign Secretary. It is rare for such senior advice to be rejected.
Sir George, now chairman of the Royal Bank of Scotland, told the Independent that the Malaysians kept mentioning Pergau in the 1989 arms negotiations, and he assumed 'there must have been a verbal undertaking' to link the deals, although he said he did not know who would have given such a promise. Sir George said that Daim Zainuddin, then Malaysian finance minister, repeatedly raised the question of civilian orders. 'I stuck very carefully to my defence interest. I was briefed before our meetings by the Foreign Office and Ministry of Defence that I must stick to defence.'
The civilian deals the Malaysians wanted, said Sir George, were extra slots at Heathrow airport for Malysian Airlines and what they termed 'water projects', which he took to mean Pergau. Sir George said that when the civilian matters were raised, he said they had nothing to do with him.
On the first demand - more landing and take-off rights - the Malaysians were successful. British Airways was asked by the Government to give up some valuable slots. 'I'm sure they got the slots. I remember Mrs Thatcher leaning on Lord King (then BA chairman), who didn't like it all.'
Asked what happened to the second demand - Pergau - he said he did not know.
Last October, the National Audit Office, the public spending watchdog, said Sir Tim and his colleagues concluded Pergau would not be economic until 2005 and was environmentally unsound and more expensive than other sources of power. After Sir Tim was overruled, Pergau became the most expensive project financed by Britain's hard- pressed overseas aid budget.
Following the NAO report, Mr Hurd explained: 'An undertaking had been given at the highest level that we would proceed with this project. The damage of back-tracking would have been very great.'
Mrs Thatcher signed the original memorandum of understanding to supply arms to Malaysia in September 1988, and, said Sir George, 'took a very keen interest in our relationship with Malaysia'. Barely a month after that signing the Department of Trade and Industry suggested to the ODA that it should consider giving state aid to Pergau.Reuse content