The Shape Of Things To Come

Source : TODAY, Friday, May 2, 2008

The United States economy dodged an outright contraction in the first three months of the year, but its 0.6-per-cent growth announced early yesterday was so weak that it helped convince the Federal Reserve, just hours later, to cut its key policy-making interest rate by another quarter point, to 2 per cent. This is the seventh cut in as many months to the interest that banks charge each other for short-term loans. Lowering the Fed funds rate is meant to spur growth by reducing the cost of everything from credit card borrowing to business loans.

In Singapore, Prime Minister Lee Hsien Loong said that the US economy is "probably bordering on recession". Speaking at the annual May Day Rally, he warned that the shape of the US downturn was important. Addressing unionists, he painted three scenarios for the US economy and offered his take on how the chips might fall for Singapore's export-reliant economy.

V-shaped A mild recession in the first half of the year, with growth "back on track" in the later months – this is what the US Federal Reserve is projecting. Such a short-lived downturn is the "best scenario for the US, and also for Singapore", said Mr Lee.

U-shaped With the "underlying problems" of the US housing market yet to be solved, property prices will plunge further, causing "more problems" for the banks. The spiralling effect would "shrink" the banks and affect consumer spending, further depressing housing prices and causing "more serious difficulties" to emerge. Said Mr Lee: "The actions taken have been bold but they haven't solved the fundamental problems. They have only postponed the problems ... to give more time to manage and massage it away." As a result, it could be into next year before the US economy sorts itself out and Singapore would be "loaded down significantly", he warned.

L-shaped The worst-case scenario, but also the least likely, said Mr Lee. Such an extended and severe downturn – similar to what Japan experienced in the 1990s – would drag down other major economies and cause Singapore "serious difficulties". Added Mr Lee: "Fortunately, most analysts don't think this is on the cards."

"Overall, I would expect a V-shaped downturn – if we are lucky – or a U-shaped downturn in the US. We had better plan (based) on that." – PM Lee Hsien Loong