Even as the exchange rate policy remains Singapore's most potent tool against inflation, the Government is relying more on special policy tools to nip bubbles in the bud before they form.
The use of such macroprudential policies, including the recent property cooling measures, is becoming increasingly important in an era of cheap money, said Monetary Authority of Singapore (MAS) managing director Ravi Menon.
Speaking at a dinner at the opening of an economic research institute on Tuesday, he said Singapore faces significant challenges in the new era of slow growth and easy money. "Externally, Singapore is facing a wall of money and rock-bottom interest rates that could potentially set off asset market bubbles that could in turn have knock-on effects on consumer price stability and financial stability," he said.
At home, the economy is facing a "demographic cliff" of an ageing workforce, even as the economy undergoes a difficult restructuring period, he said at the Asian Bureau of Financial and Economic Research dinner.
The combination of easy money and a tight labour market resulted in inflation rising to an average of 4.2 per cent between 2010 and last year, which prompted calls for a switch away from the exchange rate policy.
Laying out a stout defence of the policy, Mr Menon noted that if the MAS did not allow the Singdollar to appreciate, headline inflation would have been about 2.5 percentage points higher than the 4.6 per cent rate last year.
He also pointed out that global oil prices have risen by an average of 16 per cent per year between 2010 and last year. But with a strong local currency, local petrol pump prices have increased by only 8 per cent over the period.
The alternative of raising interest rates will attract higher capital inflows and exacerbate asset price inflation even more, he said.
In such a scenario, interest rates hikes would have to be very aggressive to dampen higher asset prices, which could see a jump in the currency and hurt the wider economy. But even as the exchange rate policy remains effective, the Government has embarked on macroprudential policies to prevent asset bubbles.
Mr Menon noted that residential property prices in Taiwan, Hong Kong and Singapore have increased by 52 per cent on average since 2009. Here, a soaring property market saw mortgages surge 70 per cent between 2009 and last year amid the low interest-rate environment.
While there was little danger to financial stability - with household balance sheets remaining robust - there was the fear that a hike in global interest rates could leave households vulnerable.
To address this risk, the Government used measures which specifically target property prices. To date, eight rounds of measures have been introduced, with each more aggressive than the previous. "Property prices finally appear to be stabilising," he said.
He stressed that Singapore's fundamentals remain strong. "Fiscal prudence, financial discipline, minimising debt and living within our means will provide us (with) policy space and a buffer to weather whatever comes ahead. This is an advantage most countries do not have."
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