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WhyItMatters

Sing$ surprise not a bad idea

The central bank's decision to change its exchange rate policy, to one that will involve a zero appreciation of the Singapore dollar, took most economists by surprise.

Many had expected the Monetary Authority of Singapore (MAS) to keep the previous policy of allowing for a modest and gradual appreciation of currency. This outlook was buttressed by the fact that the economy managed to log 1.8 per cent growth in the first three months of the year according to the advance estimates, beating market expectations of 1.6 per cent growth.

So what gives?

This is the first time the MAS has moved to a zero- appreciation stance since 2008 when the financial crisis was raging. It did so as it was clear the country was heading into one of the worst recessions since independence.

This time round, Finance Minister Heng Swee Keat has said that a recession is not on the cards yet, although the growth outlook remains poor.

But growth is not the main reason why it switched to a looser monetary policy on Thursday. A weaker Singdollar has mixed effects on the economy, according to MAS studies. The actual driving force is still inflation, the main target of MAS monetary policy, which is aimed at keeping price levels stable. Headline inflation has been negative for the past 16 months, largely due to falling rents and private car prices. But with a weaker economy, even core inflation, which excludes accommodation and private road transport, has started to trend lower.

The biggest fear is one of deflation - where general prices fall over a sustained period of time. This will, in turn, stymie growth, with people preferring to save rather than spend as their money will be worth more in the future. Foreign central banks have pulled out all the stops to prevent this, including imposing negative interest rates.

Loosening monetary conditions in a disinflationary environment like this is really not a bad idea at all.

A version of this article appeared in the print edition of The Straits Times on April 16, 2016, with the headline 'Sing$ surprise not a bad idea'. Print Edition | Subscribe