Case Study I.

Exchange Rate Policy at the

Monetary Authority of Singapore

Emily Barr and Danny Purvis

 Basic Information
• Currency: Singapore Dollar (S$ or SGD)

• US $1.00 = S$ 1.2780

• One of the highest per capita GDP

• Exports provide main source of revenue

• Electronics, chemicals, service

• Port of Singapore:
• Busiest port in the world
• (Total Shipping Tonnage)
 Exchange Rate Systems
Fixed Exchange Rate
 Advantages
 Minimizes International
Trade/Investment Risk
 Elimination of Destabilizing
Speculation
 Requires Discipline in Economic
Management
 Disadvantages
 Large holdings of foreign
reserves are required
 Fixed rates can also be
unstable (devalue/revalue)
 Loss of Freedom in terms of
Internal Policy (interest rates)
 Countries are vulnerable (and
dependent) on the economic
conditions of other countries
Floating Exchange Rate
 Advantages
 Countries are more protected
from the economic conditions of
foreign countries
 Central Bank interventions are
not needed
 Freedom in internal operations
 Disadvantages
 Promotes currency speculation
 Exchange Rate Risk
 Investors and MNCs must
spend considerable resources
to protect against
 Inflation
 Trends in Exchange Rate Systems

 Overall Shift…
 Fixed Exchange Rates  Freely Floating
 In 1975, approximately 87 percent of developing countries
had some type of fixed exchange rate.
 By 1996, that percentage had dipped well below 50
percent.
 Spurred by dissolution of the Bretton Woods Era
History of Singapore’s
Foreign Exchange Policy

 Prior to 1970: SGD pegged to Pound

 1972: Pound came under speculative attack

 SGD briefly floated, than switched to US$ peg

 1973: Major devaluation of the U.S.$

 Collapse of Bretton Woods, SGD floated again

 1974-1981: Shift of exchange rate policy towards

money market operations and monetary policy for
control

 1981-2001: Managed Float

Current Exchange Rate System:
Managed Float
Since 1981, Singapore has focused on management of the Exchange Rate
 SGD managed against a
basket of currencies based
on major trading
partners/competitors
 Managed Float
 Trade-weighted exchange rate
is allowed to fluctuate within
undisclosed policy band
 Periodically Reviewed
 Typically every 3 mo.
 Ensure currency valuation is aligned
with fundamentals of economy
 Choice of Exchange Rate for
Target of Monetary Policy
 Implies that Singapore gives up
control over domestic interest rates
(and thus money supply)
 “Unholy Trinity”
 Monetary Authority of
Singapore (MAS)
 Mission: Promote sustained, non-
inflationary growth and a sound and
progressive financial center

 MAS is the central bank of Singapore

 Has the authority to regulate all elements of
monetary, banking, and financial aspects
within the country of Singapore

 Vision for Singapore: Be a World Class

Financial Center
 Full service provide in capital and money
markets
 Regional hub for retail and wholesale
financial services
The “Unholy Trinity”
 The “Unholy Trinity”
 Illustrates various tools a country can use when determining
monetary policy

 A country can exercise 2 out of the 3, but cannot utilize all 3

concurrently (“tri-lemma”)
 Monetary Independence
 Ability to control the supply of money in circulation (and thus
influencing the interest rates)
 Exchange Rate Stability
 Altering the exchange rate by various methods in order to
depreciate/appreciate and maintain a stable ER
(3) Financial Integration
 The free and continuous conversion of currency for FDI and
changes in the holdings of stocks, bonds, loans, bank accounts,
currencies, etc
 The “Unholy Trinity”:
Singapore’s Trade-Off
 Trade (in terms of exports/imports) is the cornerstone to
Singaporean Economy
 Imports and Exports consistently > GDP
 Because of this, it is essential that Singapore maintain an open capital
account

 Interest Rate Control vs. Exchange Rate Control

 Historically, larger economies are more responsive to changes in interest rates
because they have an expansive domestic banking industry
 Changes in Exchange Rates: yielded much quicker results
 Since trade was imperative to everyday life
 The Difference Between Real and Nominal Exchange Rates

Nominal Exchange Rates

 The nominal exchange rate is the value of a
country’s currency in relation to other currencies
without the adjustment for inflation.

 The nominal exchange rate measured the ratio

at which Singapore dollars were traded for other
dollars on the spot market.
 The Difference Between Real and Nominal Exchange Rates

Real Exchange Rates

 The real exchange rate is the actual exchange
rate for the two currencies of concern adjusted
for inflation.

 The real exchange rate measured the ratio at

which Singapore dollars were equivalent to other
currencies in terms of purchasing power.
 Singapore’s Exchange Rates
Prior to 2001

 From 1981 to 2001 the Singapore dollar had been

on an appreciating trend against the main
global currencies, including the United States.

 During this time, Singapore experienced rapid

economic development, high productivity
growth, and a high savings rate.

 The S$ nominal exchange rate appreciated by

74% while the S$ real exchange rate
appreciated by 92% from 1981 to 2001.
 How Pegged Currencies Led to
the Asian Financial Crisis
(1997-98)
 Some Asian countries pegged their currencies to
the US dollar from 1995 to 1997

 For most countries that were impacted, it began

from a belief that domestic debt denominated in
foreign currency would no longer be serviceable
if the currencies were allowed to float.
 How Pegged Currencies Led to
the Asian Financial Crisis continued

 Many of the Asian currencies were not able to support the

peg because of weak economic conditions and the
depreciation of their currencies against the US dollar.

 In July 1997 the Thai Baht collapsed and this spread to the
rest of the region.

 What started out as a currency crisis quickly spread to the

wider economy and led to economic downturns in several
countries.
 Overall Impact:
The Financial Crisis and Asian Countries

 Many foreign investors began to panic, and lost

confidence in the currencies of those countries
and their overall economies.

 In the countries that were most affected by the

crisis, such as Thailand, banks and other
companies collapsed or had to be rescued.

 This resulted in massive unemployment

 Asian Financial Crisis:
The Impact on Singapore

 Singapore was not directly hit by the crisis, but still

suffered from the effects of the economic
slowdown of its neighbors.

 As a result, Singapore fell into a recession during

the second half of 1998.

 Overall, the Singapore economy declined by

1.4% in 1998 in terms of real gross domestic
product.
 Singapore vs. Thailand:
The Varying Affects of the Crisis

 Singapore engaged in several positive financial

policies

 The MAS signaled a willingness to allow the

nominal exchange rate to depreciate
somewhat, but in an orderly manner.

 The MAS widened the band within which the

exchange rate would be allowed to fluctuate.
 Singapore vs. Thailand:
The Varying Effects from the Crisis
continued

 Fiscal policy was adjusted by implementing significant cost-

cutting budgetary measures

 Employer contribution rates to the Central Provident Fund were

reduced, which lowered the effective cost of labor.

 The Singapore government also aimed to further reduce costs

to businesses by implementing a 10% corporate tax rebate
Recovery from the Financial Crisis

 During the crisis, Singapore still experienced a

healthy inflation rate between 0-3%

 By the beginning of 1999 the Singapore

economy had already experienced a positive
growth, powered by a strong rebound in the
manufacturing sector

 The recovery sustained through the year and

overall GDP for the year increased by 7.2%
 Recommendation
 Our Recommendation: Maintain the Managed Float
 Freely Floating Rate would introduce too much volatility and likely
result in investors/MNCs re-evaluating trade/investment decisions

 Fixed Rate would provide stability, but may skew the actual value
of the currency
 Hong Kong example

 Managed float allows Singapore with flexibility to deal with

sudden changes in the global economy while simultaneously
preserving the purchasing power of the Singapore dollar.
 Recommendation continued
 Historically, Singapore has been famous for low inflation rates.
 A freely floating exchange rate system would go against the
primary goals of MAS
 Freely floating system may actually encourage inflation since it
allows the cost of imports to rise while the exchange rate falls

 The country can attribute much of its success to the managed

float that they have maintained and perfected over the
decades
 As of August 2010, Singapore has the fastest growing economy in
the world with an estimated 17.9 percent increase in GDP for the
first half of the year
 Recommendation continued
 Singapore is still relatively small.
 Because of this, coordinated monetary and fiscal policy actions
are possible
 Primary advantage of having a freely floating exchange rate
system is to have the ability to pursue an independent
monetary policy
 Which at this point in time is not a feasible strategy for
Singapore.

 Conclusion: altering the exchange rate system would be

detrimental to Singapore’s economy as a whole, since the
economy is almost entirely based on a stable currency that
promotes international trade and investment
Thank You!