In a surprise move, Singapore's central bank tightened its monetary policy yesterday, as it expects rising inflation and aims to en-sure price stability over the medium term.
The Singapore dollar jumped about 0.3 per cent just after the announcement to hit a three-week high of 1.3475 per US dollar, before paring its gains to the greenback to trade at 1.3497.
In its tightening move, the Monetary Authority of Singapore (MAS) slightly raised the slope of its Singapore dollar nominal effective exchange rate (S$NEER) policy band, up from zero per cent previously.
The width of the policy band and the level at which it is centred remain unchanged.
MAS said: "Growth in the Singapore economy is likely to remain above trend in the quarters ahead. Barring a resurgence of the (Covid-19) virus globally or a setback in the pace of economic reopening, output should return to around its potential in 2022.
"At the same time, external and domestic cost pressures are accumulating, reflecting both nor-malising demand as well as tight supply conditions."
MAS expects core inflation this year to come in near the upper end of its zero per cent to 1 per cent forecast range, and is expected to increase further to 1 per cent to 2 per cent next year.
Overall inflation will come in at around 2 per cent this year, at the top end of MAS' forecast range, and average 1.5 per cent to 2.5 per cent next year.
MAS uses the S$NEER as its main policy tool rather than interest rates because Singapore is a small and open economy with a heavy dependence on trade.
The S$NEER is the exchange rate of the Singapore dollar managed against a trade-weighted basket of currencies of the country's major trading partners. It is allowed to float within an unspecified band. If it goes out of this band, MAS steps in by buying or selling Singapore dollars.
MAS thus changes its monetary policy by adjusting the slope, width and midpoint of this band based on assessed risks to the country's growth and inflation.
It said: "This appreciation path for the S$NEER policy band will ensure price stability over the medium term while recognising the risks to the economic recovery."
In an earlier poll by Bloomberg, economists had tipped MAS to signal a potential tightening of monetary policy next year, while holding steady for now.
This is amid rising inflation risks from supply chain disruptions and surging energy prices.
MAS also expects the Singapore economy to sustain a "firm pace of growth" in the coming quarters, with growth in the trade-related and modern services sectors to be supported by the resilient electronics cycle and improving business activity.
"Barring the materialisation of tail risks such as the emergence of a vaccine-resistant virus strain or severe global economic stresses, the Singapore economy should remain broadly on an expansion path," it said.
"The slack in the labour market should continue to be absorbed and the negative output gap close in 2022."
CIMB Private Banking economist Song Seng Wun said this slight tightening, which marks the start of a new growth cycle for Singapore's economy, is in line with similar moves by central banks in the region.
Professor Lawrence Loh of the National University of Singapore Business School said: "The current tightening signals that we are expecting economic growth to pick up locally and even globally sooner - thus it is necessary to adapt earlier.
"Many major economies are opening up and seeking a steady state to live with Covid-19 and if there are no significant new coronavirus variants that appear, we expect the current economic momentum to be sustained."