MAS Makes Drastic Move To Fight Inflation

Source : The Straits Times, Apr 11, 2008

This comes as world oil prices hit a new record high of US$112 a barrel

SINGAPORE has trained its sights squarely on inflation, as the Government moves with unprecedented aggression to curb escalating costs faced by households and businesses.

The Monetary Authority of Singapore (MAS) said yesterday it would allow an immediate jump in the value of the Singapore dollar by moving up the range in which it allowed the local currency to fluctuate.

Heightened inflation fears seemed to be in view, as the central bank narrowed its forecast for consumer price inflation - already at 26-year highs - to the ‘upper half’ of its 4.5 per cent to 5.5 per cent range.

The currency move, which came amid a new surge in oil and commodity prices, surprised most economists, who expected the MAS to stick with the status quo, given the uncertain economic outlook.

Economists also said the MAS had already made provisions for a stronger Singdollar, albeit less drastic ones, at its last review in October.

‘The manner in which they opted to tighten is aggressive. They do this sort of thing only in a crisis,’ said Fortis Bank senior strategist Joseph Tan, one of the few analysts expecting monetary tightening. ‘In my memory, there are only two other episodes when the MAS re-centred its policy band. On both occasions, they were downward moves.’

The MAS manages the value of the Singdollar against an undisclosed trade-weighted basket of currencies. The currency is allowed to trade freely, as long as its trade-weighted value remains within limits prescribed by the central bank’s ‘policy band’. This is Singapore’s main weapon for fighting inflation, as a stronger Singdollar helps offset costlier imported goods.

The last two band re-centrings occurred when Singapore’s economy faced severe downturns - during the 2003 Sars epidemic and after the dot.com bust in early 2002.

Both were downward moves to guide a Singdollar depreciation to make local exports more competitive.

‘A band re-centring is the most hawkish and least ambiguous of the likely possible policy moves. An immediate Singdollar strengthening is the only possible intention of this choice of policy,’ said HSBC economist Robert Prior-Wandesforde.

Indeed, the local currency rose 1.8 per cent to $1.3572 against the greenback yesterday. Experts now reckon that the Singdollar could reach $1.32 by year-end.

The move came as oil prices hit a new high of US$112 a barrel yesterday, and as commodities like soybeans, corn and copper traded just below their peaks. ‘The tipping point is likely to have been the spike in food prices in recent weeks, particularly rice prices,’ said Barclays Capital economist Leong Wai Ho.

OCBC Bank economist Selena Ling said the economy’s surprisingly strong growth of 7.2 per cent in the first quarter probably gave the MAS ‘comfort’ to prioritise inflation over growth concerns.

The MAS said in a statement that oil and food prices were likely to stay high for some time. ‘Domestic cost pressures will persist due to short-term capacity constraints in certain segments of the economy,’ it added.

Inflation is expected to moderate in the latter half of the year, but experts believe policymakers should consider moves beyond currency strengthening.

‘A stronger Singdollar cannot mitigate domestic sources of inflation like higher housing costs, wage costs and road usage costs,’ said Standard Chartered Bank economist Alvin Liew.