Economic Affairs

Below the surface of falling prices in Singapore

The risk to sustainable growth is not deflation but a debt spiral

April marked Singapore's 18th straight month of negative inflation, and economists reckon that this streak would have entered its 19th month once the May data is released on Thursday.

Never before has Singapore's consumer price index (CPI) been in contraction for so long. The last time prices fell for so long was back in late 1975, when the CPI went into 16 straight months of contraction in the wake of a world recession.

On the surface, this current prolonged bout of falling prices seems alarming. Previous episodes coincided with recessions in 1998, 2001 and 2008, when weak demand dragged prices lower. Often, a prolonged fall in prices is also a sign of deflation - a problem with dire consequences that are hard to reverse. In what is called a "deflationary spiral", consumers, anticipating that things can only get cheaper, save rather than spend. Firms' profits fall, wages stagnate, and so does growth.

Japan, which has had deflation for 15 years, is still struggling to stoke spending. Having exhausted better options, the Bank of Japan decided in January to set a -0.1 per cent interest rate on some deposits that banks keep at the central bank, to spur bank lending. Meanwhile, the annual interest rate on a regular savings account is just 0.001 per cent.

Is Singapore at risk of a similar plight?


To be sure, falling inflation can be good or bad, depending on the underlying demand and supply factors.


Back in 1975, Singapore was pretty glad to see prices cooling. Inflation then had hit a peak of 22.4 per cent in 1974, after the Arab oil embargo sent world oil prices quadrupling. So negative inflation meant that imported food and oil prices were stabilising, and that local efforts to stamp out profiteering had worked.

Today, negative inflation could be a good sign if it means that prices are falling because firms are using better technology to cut their production costs, or that healthy competition is driving down prices of some of the 6,600 goods and services in the CPI basket. But given the breadth of Singapore's import markets, these effects are difficult to discern.

What we do know is that after the commodities price crash in 2014, Singapore imported oil at dramatically lower prices.

On the domestic front, government intervention, rather than sluggish demand, has been the main drag on inflation.

Cheaper certificate of entitlement (COE) premiums for vehicles, falling home rents and imputed rents (a proxy for accommodation costs) have been holding the headline CPI number down.Government administrative measures and lower imported inflation do not worry economists as much as a broad fall in prices that results from sluggish demand.


What is clear is that Singapore is not facing deflation.

The complication lies with how the CPI basket is constructed. While direct oil-related items such as petrol and electricity comprise around 5 per cent of the CPI basket, accommodation and private road transport costs together account for more than a third of the index.

To give that weight some perspective, the MAS core inflation measure, which excludes accommodation and private road transport costs, has been climbing even as the CPI has fallen.

Although the official forecast is for inflation to remain negative throughout the year, the fall in prices has not been broad-based. Food prices, for example, have risen. ese reasons, Singapore is "not facing deflation", Monetary Authority of Singapore(MAS) managing director Ravi Menon explained in great detail at a media briefing last July.

Deflation, as defined by former US Federal Reserve chairman Ben Bernanke, is "a general decline in prices, with emphasis on the word general".

Sector-specific price declines, noted Mr Bernanke, are "generally not a problem for the economy as a whole and do not constitute deflation".

Likewise, the MAS prefers the term "negative inflation" to describe the Singapore price environment. The distinction is an important one.

Negative inflation acknowledges that prices are falling but not because of a wider economic malaise afflicting the economy, such as deflation. In fact, if it wished to, the Government could easily lift its policy levers to raise inflation again.

Just take the surprise move by the MAS to ease rules on car financing on May 26, shortly after Singapore crossed 18 months of negative inflation.

That weekend, car dealers saw a spike in showroom traffic. At the bidding exercise two weeks later, the COE premium for cars of up to 1,600cc jumped 14.2 per cent to a six-month high of $53,694. That's definitely making an impact on June's CPI reading.

And Singapore has more room to manoeuvre with the property cooling measures that were implemented from 2009 to 2013, after inflation hit 4.6 per cent in 2012. More importantly, the authorities have a firm handle over both the property and car markets through their control of land supply and vehicle quotas, as well as through property and car financing.

So, while home rents and private road transport costs are dragging headline CPI down, what's happening in those two markets is better described as the MAS moderating demand across time.


The CPI is the broadest measure of inflation, designed to include a wide variety of consumer items - 6,600 to be exact - which is why it is the most useful gauge of price pressures in an economy.

But the headline CPI number is not always the best measure of consumer demand. Most countries construct various measures of inflation to better understand the forces behind price pressures, and in Singapore, the MAS core inflation rate gives a better picture of the underlying trend in prices caused by demand-induced cost pressures.

Singapore has been stuck in negative inflation for the longest stretch on record, but that's partly an administrative decision and partly the effect of the commodities cycle, which will swing.

More importantly, according to a research paper published last year by the Bank for International Settlements (BIS), a central bank think-tank, falling prices of goods and services are not by themselves worrying.

Instead, it is asset price deflation - property and equity price collapses in particular - that have historically given consumers a bigger squeeze and stymied growth.

The BIS research also asked if more debt in an economy has increased the costs of deflation. The answer was yes: Since property price crashes tend to follow when a price boom is fired by easy credit, said the report, "financial cycles deserve close attention".

In this regard, Singapore's tougher lending limits and negative property inflation are not all that undesirable.

Sustainable growth requires that prices are stable so that firms face less uncertainty over returns on long-term investments. That's why the MAS has a mandate to maintain low and stable inflation.

But as the world faces the prospect of interest rate normalisation after rounds of monetary easing, the greater risk to sustainable growth is not a deflationary spiral, but a debt spiral, and it is good that the MAS has not chased inflation at the cost of higher debt.

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A version of this article appeared in the print edition of The Straits Times on June 22, 2016, with the headline Below the surface of falling prices in Singapore. Subscribe