This report evaluates the monetary policy of Singapore and its contribution to the economy. It discusses the history, importance, tools, and pros and cons of the monetary policy. It also explores the future direction of Singapore's monetary policy.
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Running head: INTERNATIONAL FINANCIAL MARKET AND INSTITUTIONS International financial market and institutions Name of the Student Name of the University Author Note
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INTERNATIONAL FINANCIAL MARKET AND INSTITUTIONS Executive summary: The report is prepared for evaluating the monetary policy of Singapore in terms of its contribution to the economy. In this regard, the report demonstrates the history of the monetary policy and its importance to the economy. It has been found from the analysis that Singapore has unique monetary policy that does not regulate interest rate; however, it is centered on the exchange rate. Furthermore, the current monetary policy of Singapore and anyalterationsinthepolicyframeworkhasbeenexplained.Theadvantagesand disadvantages of the existing monetary policy has also been demonstrated in the report.
INTERNATIONAL FINANCIAL MARKET AND INSTITUTIONS Table of Contents Introduction:...............................................................................................................................2 Discussion:.................................................................................................................................2 History of monetary policy:.......................................................................................................2 Importance of monetary policy:.................................................................................................2 Tools and role of monetary policy:............................................................................................2 Exchange rate system and monetary policy:..............................................................................2 Current monetary policy in operation:.......................................................................................2 Pros and cons of monetary policy:.............................................................................................2 Future direction of Singapore monetary policy:........................................................................2 Conclusion:................................................................................................................................2
INTERNATIONAL FINANCIAL MARKET AND INSTITUTIONS Introduction: The monetary policy of Singapore is based on controlling of the exchange rate that is promoting stability in price intended to support sustainable economic growth. Such policy is managed by the monetary authority of Singapore by making alterations in exchange rate instead of change in rate of interest. This enables the dollar of Singapore to fall or rise against its main trading partner currency using a policy band that is not disclosed and is based on then nominal effective rate of exchange.An ideal intermediate target of monetary policy in the open and small economy of Singapore is represented by exchange rate (Schnabl 2016). Discussion: History of monetary policy: In the early 1970s, monetary policy was conducted by relying on the minimum reserve requirement of the banks intended to curb inflation and manage economy. The core aspect of the monetary policy of Singapore is based on the exchange rate since 1981 with the objective of promoting price stability. Historical development of monetary policy of Singapore was founded in 1819 by the British. The positioning of the country as regional trading centre led to the outcome of monetary and currency arrangements. Through the early 1890, the monetary policy of Singapore evolved with exchange rate at its center (Arize et al. 2017). Such policy emerged as the outcome of achieving the objective of price stability. Therefore, the exchange rate of Singapore is managed by monetary authority of Singapore against a trade weighted basket of currencies. Any change in the trade pattern of Singapore is accounted by periodically revising and reviewing the composition of basket.
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INTERNATIONAL FINANCIAL MARKET AND INSTITUTIONS Currency is allowed to appreciate or depreciate depending upon the factors such as domestic price pressure and world inflation. There is an undisclosed target band that helps in maintaining the trade weighted exchange rate. Reviewing of monetary policy is done semi annually for ensuring that the policy is consistent with market conditions and economic fundamentals (Krušković 2017). Importance of monetary policy: Monetary policy of Singapore not only helps in supervising and regulating the financial sector but also in sustaining and promoting the economic growth. All the aspects of The monetary policy of Singapore with exchange rate at its centre is considered as an anti inflation tool and it is evident from the rate of inflation of Singaporean economy. For the last thirty years, the rate of domestic inflation has been relatively low from 1981 to 2013 averaging 2.1% per annum (mas.gov.sg 2019). Due to the long record of low rate of inflation, the expectation of price stability has become more entrenched. Tools and role of monetary policy: The instrument of monetary policy is conducted by managing the index of trade weighted exchange rate instead of relying on monetary aggregates and short term interest rate. The operations of money market are regarded as effective initiative undertaken by monetary authority of Singapore. It has been found that the main objective of monetary policy in Singapore is to control inflation and there are two major focus of the policy. Using trade weighted index as the tool of policy, it aims to maintain the output at the potential level and stabilize the expected inflation. The timing and amount of operations of money market in thepolicyinstrumentistheimplementationtool.Theoperatinginstrumentfor implementation of monetary policy since year 1981 has been the exchange rate. Under this
INTERNATIONAL FINANCIAL MARKET AND INSTITUTIONS approach of the instrument of monetary policy, the interest rate is reactive not only to the output gap and inflation but also to the movement in the exchange rate (Neely 2015). Central bank is entrusted with the responsibility of adjusting the exchange rate in a manner similar to using interest rate as instrument of operation. The economic growth and low rate of inflation in the country has been supported by the use of exchange rate as instrument of monetary policy. Exchange rate system and monetary policy: The monetary policy of Singapore uses exchange rate as the instrument which represents an ideal intermediate target in the context of open and small economy. The final target of the policy is to predict the relationship of the exchange rate with price stability by directly intervening in the exchange market (nytimes.com 2019). Using exchange rate as the tool of monetary policy reduces the scope of using interest rate as it is difficult to target. Some of the features of exchange rate monetary policy are listed below: The basket of currencies of major trading partners is managed against the dollar of Singapore that helps in making the currency movement less volatile (Hnatkovska 2016). For the Singaporean dollar, a managed flat regime is operated by monetary authority of Singapore. There is a policy band under which traded weighted exchange rate is allowed to fluctuate that helps in accommodating any short term fluctuations that helps in managing the exchange rate by permitting flexibility (Boon et al. 2017). Moreover, the need for constant interventions in the foreign exchange is minimized by the bank from operational point of view. The incorporation of crawl feature in the band helps in adjusting the exchange rate and avoiding misalignment.
INTERNATIONAL FINANCIAL MARKET AND INSTITUTIONS The prime objective of formulation of exchange rate is to maintain the stability in domestic price in the context of non inflationary and sustainable economic growth. For achieving the policy objective, one of the important instruments used by Singaporean government is exchange rate. The volatility in the exchange rate is smoothened out by the intervention of monetary authority of Singapore. Such intervention is considered necessary because any short term fluctuation in the exchange rate significantly influences the long term credibility of the exchange rate policy. However, the role of monetary policy is not obviated by the exchange rate policy. In order to foster the stability in the money market conditions for promoting the in inflationary and steady growth, it is required to regulate the liquidity in the banking system along with the policy of exchange rate (Baharumshah et al. 2017). Current monetary policy in operation: For the first time in six years, the monetary policy of Singapore is tightened which is done by slightly increasing the slope of policy bank of dollar while leaving the levers of policy that is width and the midpoint of the band unchanged. Management of monetary policy in Singapore is done by making alterations in the exchange rate which iscentered on managing the basket of trade weighted exchange rate. One of the important policy variables is the monetary policy is the quantity based that helps in targeting some of the monetary aggregates (Woo 2015). In the current scenario, the central bank of Singapore is likely to tighten its monetary policy by making adjustment in the slope of appreciation rate of Singaporean dollar within the policy band of nominal effective exchange rate. The level at which the band is centered and the width of policy would remain unchanged. Management of monetary policy is done by the monetary authority by making changes to the exchange rate under which the exchange
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INTERNATIONAL FINANCIAL MARKET AND INSTITUTIONS rate can appreciate or depreciate against the currencies of its main trading partner on its nominal exchange rate within an undisclosed band of policy (Shin 2016). The decision of the monetary authority is supported by creation of upward pressure on core prices, steady economic growth that has been underpinned by the sound dynamics of labor market. The growth of economy was well enough that resulted in shifting away of the stance associated with the acute weakness period and core inflation is running at higher pace. The appreciation rate of policy band of Singaporean dollar has increased from zero percent to a neutral stance which has been kept by the central bank for last two years. Furthermore, the risks of trade relations between US and China are outweighed by the signs of improvement and growth momentum has also resulted in tightening of the policy. Pros and cons of monetary policy: Pros of monetary policy: The monetary policy of Singapore with exchange rate instrument is seen as an effective anti inflation tool that has helped in keeping the inflation rate at low level. Any effect of the short term volatility impacting the real economy has been mitigated with the help of exchange rate based monetary policy (Basnet et al. 2015). Thepolicybanduponwhichthemanagementofthedollarisbasedhelpin accommodating the short term fluctuations in the market of foreign exchange and flexibility in exchange rate management. A stronger Singaporean dollar would help in moderating the external demand for the local services and goods that would help in easing the domestic inflationary pressure for resources like labor and land input.
INTERNATIONAL FINANCIAL MARKET AND INSTITUTIONS Any change in the equilibrium value of dollar is accommodated by the flexible managementusingfloatingsystemandtherebypreventingthecurrencyfrom becoming misaligned. Cons of monetary policy: Endorsing of appreciation rate of policy band is argued on the fact that with such appreciation, there would be more cash and more capital in the local market. This could result in creation of more inflationary pressure and downward pressure on the domestic interest rate. The monetary policy that is based on the policy band of exchange rate has its downside that affects both the export and import. It becomes hard for Singapore to compete in imports when the dollar is appreciated and there will be fall in demand for import even when the products are cheaper. It becomes difficult for country to compete in the foreign export market when it is ascertained that the margin would suffer (Lim 2016). In light of revalued currency, one of the weaknesses is attributable to the system unsuitability where the pressure of inflation and currency being the main policy. It is so because the demand for Singaporean export could suppress due to slowing down of economies of Europe and United States. In order to have complete flexibility in several policy levers, it is suitable to have higher interest rate and weak currency. Such policy is not enjoyed by the country as the policy is conducted by guiding the currency within a “trade weighted band” (Ouyang 2016). Another factor that leads to criticizing of monetary policy is that the economic growth in the country is driven by domestic housing and investment demand which is more sensitive to the interest rate rather than currency.
INTERNATIONAL FINANCIAL MARKET AND INSTITUTIONS Future direction of Singapore monetary policy: The central bank of Singapore has been prompted to tighten the monetary policy in light of continued inflation and steady economic growth. In recent years, it is expected that the economy of Singapore would remain on the path of steady expansion. The future direction would be to increase the policy rates by tightening the monetary policy for the first time in six years. The modest appreciation of the currency is guided by increasing the slope of exchange policy band to normal rate from zero percent. Singaporean dollar would be strengthened by a steeper upward slope. It is expected that over the course of years, there would be creation of upward pressure in the economy that would underpin by making an improvement in the labor market. The growth rate of gross domestic product was at a three year high of 3.6% (Schnabl 2016). Tightening of the monetary policy is being done by central bank on the back of rate hikes by US and steady domestic macroeconomic conditions. Therefore, the future direction of the monetary policy is to raising the policy rates that is by appreciating the policy band. Conclusion: From the analysis of the monetary policy of Singapore with exchange rate at its center can be deduced that it intends to preserve the purchasing power of the dollar for maintaining confidence in the currency. However, the conduct of monetary policy has become more challenging due to the recent financial crisis. The unique framework of monetary policy of Singapore is attributable to the particular characteristics of country. In the past three decades, country has experienced micro economic stability due to the close coordination between monetary and fiscal policy. Nevertheless, it can also be seen that in the current economic scenario, the central bank has tightened the exchange rate monetary policy by appreciating the rate of policy band.
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