July 29, 2009
1.1 The Singapore authorities would like to thank the IMF staff for the 2009 Article IV Consultation. The focus of the Consultation, on policy responses to cushion the domestic economy from the adverse impact of the current global recession and to ensure it is well positioned for the eventual recovery, was appropriate and constructive. The discussions at this year’s Consultation were among the most engaging in recent years.
2 Recent Economic Developments and Outlook
2.1 Singapore is one of the most open economies in the world. Given its deep and extensive integration with international markets, the economy could not be insulated from the unfolding global recession which gathered momentum towards the end of last year. In Q1 2009, domestic economic activity experienced its second consecutive quarter of double-digit contraction on a quarter-on-quarter seasonally-adjusted annualised rate (q-o-q SAAR) basis, with the GDP level falling to 10% below its Q1 2008 peak. Industries with a high degree of external orientation, such as manufacturing and trade-related services, bore the brunt of the downturn.
2.2 More recent data, including the Advance Estimates released by the Ministry of Trade of Industry, showed that the domestic economy has likely reached a trough. The Singapore economy rebounded strongly by 20% q-o-q SAAR in Q2 2009, regaining some of the previous output losses. This recovery has to be seen in the context of the sharp retraction in economic activity which took place during Q4 2008 and Q1 2009. Businesses have started to rebuild inventories to levels that are more sustainable and consistent with underlying demand, which has stabilised somewhat amidst easing financial conditions. In the domestic financial sector, several segments posted gains in the second quarter. Notably, stock market turnover was supported by improved investor sentiment, while domestic non-bank loans remained firm.
2.3 Nevertheless, the Singapore economy is unlikely to witness a sharp and decisive recovery this year, as that would be contingent on a sustained recovery of final demand in the G3. Given continued stresses in the global financial system and sluggishness in labour market conditions in the major economies, domestic GDP growth is thus likely to be concomitantly slow and uneven in the near term. Indeed, Singapore is facing the most challenging external environment in recent history. GDP growth in eight out of our top ten trading partners is expected to be negative this year, compared with five in ten during the Asian Financial Crisis. Against this backdrop, the domestic economy is forecast to contract by 4-6% in 2009, and continue to register below-trend growth in 2010.
2.4 Domestic CPI inflation has been on a downward trend since hitting a peak of 7.5% y-o-y in Q2 2008. It fell sharply to 2.1% in Q1 this year before turning slightly negative in Q2 (-0.5%). The steep falloff in inflation is attributed first to the dissipation of the impact of the Goods and Services Tax hike in Q3 2008 and, subsequently, to the collapse in global oil prices. Other drivers of inflation in 2008, such as escalating global food prices and elevated domestic business costs, have also moderated. More recently, administrative measures from the government’s FY2009 Budget have also lowered inflation through reductions in public housing maintenance costs.
2.5 CPI inflation is likely to remain slightly negative for the rest of the year, due largely to the drag from oil-related items. While global oil prices have recovered from the trough reached in February, they are expected to remain significantly lower this year compared to 2008. The slack in demand and easing domestic costs would also cap increases in consumer prices. This period of disinflation is characteristic of the adjustment process taking place during an economic downturn, although exaggerated by the sharp run-up in prices a year ago. For the whole of 2009, CPI inflation is likely to average between -0.5% and 0.5%.
3 Policy Responses
3.1 Amidst the rapidly evolving economic conditions over the past few quarters, the responses of monetary policy have been deliberately graduated, underpinned by its core objective of maintaining price stability in the medium term. In October 2008, MAS eased monetary policy by shifting to a 0% appreciation of the Singapore dollar nominal effective exchange rate (S$NEER) policy band in light of the weak economic environment and easing inflationary pressures. This was followed by a re-centring of the policy band to the prevailing level of the S$NEER in April this year, while keeping the 0% appreciation path. Notwithstanding the sharp economic rebound in Q2 2009, growth remains below trend and inflationary pressures continue to be muted. At this juncture, the current policy stance remains appropriate to support the economic recovery and ensure medium-term price stability. The Singapore dollar continues to play the anchor of stability role for our small and open economy.
3.2 At the same time, fiscal policy has contributed in a significant way to the required adjustments in the overall macroeconomic stance. The FY2009 Budget was announced about one month earlier than usual in response to the economic crisis. The $20.5 billion (8.2% of GDP) Resilience Package comprised measures that targeted the multiple stress points confronting businesses and households, such as supplementing their cash flows in the short term, while providing resources for building long-term capabilities. This objective was carefully balanced against the need to ensure that the measures would not distort the market incentives for companies and workers to take the necessary steps to adjust to the new realities in the global economy. The Resilience Package is estimated to result in a deficit in the Basic Balance1 of 6.0% of GDP, and an overall budget deficit of 3.5% of GDP.2 However, Singapore will not need to borrow to finance this deficit. The authorities remain vigilant to the continuing risks in the external environment and their ability to implement fiscal policy measures quickly will ensure a timely response as the situation requires.
3.3 The authorities noted the IMF staff’s suggestion to strengthen the automatic stabilisers by assessing taxes on the basis of current rather than previous year’s income. The authorities will continue to review this, bearing in mind the higher administrative and compliance costs that come with a current year basis of assessment. In the meantime, the authorities have implemented various counter-cyclical measures to mitigate the tax impact on individuals and companies, including personal income tax rebate, enhanced loss carry-back, and deferred installment payments for taxpayers with short-term financial difficulties.
3.4 Singapore’s financial system has weathered the crisis well. The banking system and insurance sector had low exposures to toxic assets and remained profitable, liquid and well-capitalised. There were no disruptions to inter-bank funding markets in domestic currency and credit flows to the economy. Going forward, MAS’ continuing efforts to strengthen financial stability include focusing financial institutions’ attention on managing risks and safeguarding the robustness of their liquidity, earnings and capital. MAS is also shaping and adapting new international regulatory standards, strengthening the corporate governance of financial institutions, and improving safety net arrangements in Singapore such as the deposit insurance fund and the policy-owners protection fund.
3.5 Aside from cyclical policy responses, the authorities have embarked on a review of Singapore’s medium-term economic growth strategies amidst the structural changes occurring in the global landscape. Moreover, as the economy transits to a more developed phase, growth would have to be increasingly underpinned by improvements in productivity. Against this, the Prime Minister has tasked a newly-established Economic Strategies Committee (ESC) to develop strategies for Singapore to build capabilities and maximise opportunities as a global city in a new world environment. Chaired by the Minister for Finance and comprising representatives from both the public and private sectors, the Committee will focus its work on five broad areas: seizing growth opportunities, strengthening corporate capabilities, growing human and knowledge capital, creating quality jobs and real wage growth for Singaporeans, and optimising the use of scarce resources. To facilitate this, eight sub-committees have been formed to undertake in-depth reviews of the various issues.3 The ESC aims to put forward its key recommendations in January 2010, while the full report is expected to be released by mid-2010.
4 Final Remarks
4.1 The global economy is going through an unprecedented downturn. Accordingly, an ultra-open economy like Singapore has had to confront an extreme deterioration in external conditions. While domestic GDP growth has taken a sharp hit, the solid fundamentals of the economy have ensured that cyclical adjustments have not derailed macroeconomic and financial stability. As the global economy is restored to health, the recovery in the Singapore economy will also pick up in pace, although the authorities recognise that this could be a slow and extended process. Appropriate macroeconomic policy settings have and will be formulated with these prospects in mind. The authorities remain fully committed to engagement in global markets and are confident that Singapore will continue to reap the full benefits of its outward-oriented development strategy.
4.2 The Singapore authorities are pleased to inform the Board that they are agreeable to the publication of the Staff Report associated with the 2009 Article IV consultation and will be releasing the Buff Statement at the same time.