Need for sustained Singdollar appreciation fades as inflation momentum eases

SINGAPORE – The battle to bring down inflation has indeed been tough but signals abound that the fight is finally being won.

The strongest indication that the beginning of the end is at hand came on July 23, when Singapore’s central bank said that it will update its all-items consumer price inflation estimate in its monetary policy statement due on July 26.

The review of the Monetary Authority of Singapore (MAS) forecast came in

the statement on consumer price developments for June,

which showed a surprise retreat in inflation.

The headline all-items consumer price index fell to an annual rate of 2.4 per cent from 3.1 per cent in May. That is the lowest rate since August 2021 and is under the 2.7 per cent forecast in a Bloomberg poll of analysts.

Core inflation – this excludes private transport and accommodation costs – eased to 2.9 per cent, its first drop in three months and the lowest level since March 2022.

The core measure, which best reflects cost pressures on most households in Singapore, was tipped to rise by 3 per cent in the Bloomberg poll.

Still, the market narrative remains unmoved.

Most private analysts polled by Reuters on July 23 believe MAS will leave its monetary policy settings unchanged on July 26. That will mean allowing the trade-weighted Singapore dollar to appreciate.

Unlike most central banks, which manage inflation by setting interest rates, MAS maintains price stability by allowing the value of the Singdollar to move against currencies of its main trading partners within an undisclosed band.

The Singdollar policy band is referred to by MAS as the nominal effective exchange rate (S$Neer).

Surging inflation at home and abroad since October 2021 has prompted MAS to allow the Singdollar to appreciate at a quicker pace within the policy band. Most analysts estimate that it has risen 1.5 per cent to 1.9 per cent above the midpoint of the band.

This appreciation has helped absorb the impact from rising import prices and, in turn, pull down core inflation – the key measure used by MAS to assess its policy settings – from a peak of 5.5 per cent in January 2023.

However, after falling to 3 per cent in September 2023, core inflation has stuck to levels slightly higher than that, proving that the last mile is usually the hardest.

With core inflation averaging 3.2 per cent in the first half of 2024 – above the MAS comfort zone of 2 per cent – most analysts believe an appreciating currency will be needed until the fourth quarter, when the central bank estimates that the level will be heading for the 2 per cent mark in 2025.

However, some analysts disagree with the market consensus.

DBS is the only bank in the Reuters poll that saw scope for MAS to slightly ease the appreciation pace of the Singdollar’s policy band as early as July 26.

DBS economist Chua Han Teng said the inflationary pressure from import prices has eased this year, with agriculture prices well-behaved, Brent crude oil averaging below MAS’ US$89 per barrel estimate for 2024, and industrial metal prices having corrected from an earlier rally.

“Contained imported inflation gives some room for easier monetary policy,” he added.

In addition to other factors, Mr Chua said various core inflation momentum indicators – including seasonally adjusted three-month annual rates and monthly rates – that DBS tracks have eased over the past three months until May 2024.

Some other analysts, who are in the no-change camp, also believe that the downward momentum in inflation may favour an easing later in the year, probably in October, when MAS issues its last policy statement of 2024.

Mr Edward Lee, chief economist and head of foreign exchange for Asean and South Asia at Standard Chartered Bank in Singapore, said that while he expects MAS to keep its policy unchanged, the central bank will further soften the tone on the need to maintain the current policy settings.

“Over the last three meetings, the central bank has moved progressively towards a neutral stance from a relatively more hawkish tone,” he added.

Mr Lee favours keeping a restrictive policy stance, noting that the labour market is still tight, with the job vacancies-to-unemployed ratio at 1.6 times in the first quarter, higher than the 2017-19 average of 1. The economy is also showing a pickup in growth momentum. Both are key domestic sources of inflation.

Expectation that MAS will ease its tone on policy is already having an impact.

Ms Joey Chew, head of Asia FX research at HSBC, said that since the April meeting, the Singdollar has been averaging 1.4 per cent above the midpoint of the band.

“This is already a slight decline compared with the average position of 1.6 per cent above-mid during both the October 2023-January 2024 period and the January-April 2024 period,” she added.

Ms Chew also said that the monetary policy was deemed restrictive in 2023 as economic growth was on a weak trajectory, but the outlook has now changed.

Singapore’s gross domestic product growth averaged 1.1 per cent last year and is now forecast by the Ministry of Trade and Industry (MTI) to grow between 1 per cent and 3 per cent.

On July 12, MTI advance estimates showed that the Singapore economy grew by 2.9 per cent year on year in the second quarter of 2024, extending the 3 per cent growth in the previous quarter.

“Now that growth has recovered, the same policy stance need not be considered restrictive,” Ms Chew said.

“In our view, the current policy slope – 1.5 per cent appreciation per annum – by our estimate is not high compared with the historical setting of 2 per cent during full employment conditions before 2015,” she said.

While HSBC maintains that the MAS will stick to its current policy settings, the tone and language it uses in its statement will inform the market whether there is any subtle change.