In a previous article I introduced the Singapore economy and business environment. Here I will expand on fiscal and monetary policies most relevant to the Singapore dollar's exchange rate trajectory.
In addition to forex traders, investors in iShares Singapore (EWS) and iShares Singapore Small Cap (EWSS) get exposure to SGD, since those are not hedged. For direct exposure without a forex account, one can also buy the CurrencyShares ETF (FXSG).
Fiscal Policy And Central Providence Fund
The Singapore Government's fiscal policy is to run a surplus - in fact the constitution requires a balanced budget across every five-year election period. The estimated surplus for 2013 is 5% of total revenue or about S$2 billion (US$1.6bln). As mentioned on my article on deficits, this surplus can be seen as mildly deflationary - more dollars are taken out of circulation by the fiscal authority than it puts in. The conservative spending policy has been in place for many years. As a result, Singapore has zero foreign held debt, and has over S$400 billion (US$322bln) in assets - not including the central bank's holdings.
The second critical pillar of background knowledge is the Central Providence Fund (locally referred to as CPF). Workers in Singapore are required to contribute 20% of income (up to S$1000 (US$800) per month) to CPF while the employer contributes an additional 16% (there are adjustments for older workers and low paying jobs). These accounts are split into retirement and medical expense savings. These accounts earn nominal interest (2-4%), but are "risk-free" (guaranteed by the government). The CPF uses these funds to purchase Special Singapore Government Securities. Some other uses of the contributions are allowed - the main being purchase of a home. As a result, Singaporeans own a large amount of Singapore dollar denominated assets. The Monetary Authority is loathe to devalue the citizens' retirement funds.
Official long term policy statement :
Singapore's monetary policy has been centered on the management of the exchange rate since the early 1980s, with the primary objective of promoting medium term price stability as a sound basis for sustainable economic growth. The choice of our monetary policy regime is predicated on the small and open nature of the Singapore economy.
There are three main features of the exchange rate system in Singapore.
- The Singapore dollar is managed against a basket of currencies of our major trading partners.
- MAS operates a managed float regime for the Singapore dollar with the trade-weighted exchange rate allowed to fluctuate within a policy band.
- The exchange rate policy band is periodically reviewed to ensure that it remains consistent with the underlying fundamentals of the economy.
For practical purposes this means that the Singapore Dollar exchange rate will reliably stay within a range fixed by MAS. The trick then is to figure out what the range is and keep track of adjustments to it. The band is set based on two principles. As stated in point 3, one is economic reality - even a central bank can't fight the underlying economy's trends - thus demands for Singapore dollars and economic growth relative to the world will affect exchange rate trends. The second is MAS's active influence on the exchange rate to control inflation and moderate volatility.
Point one tells us that the band is managed against a basket of Singapore's trade partners:
Thus the basket is distributed over Malaysian Ringgit, Yuan, US Dollars, Euros, Rupiah and smaller contributions from Won and Taiwan dollars.
Singapore has enormous trade for its size - exports and imports are about 140% of GDP each. Additionally Singapore has consistently been a slight net exporter.
This means a long standing, if moderate, current account surplus. The surpluses have generated considerable foreign reserves - around S$200 billion (US$161bln) at the central bank, more in the government overall. Additionally, Singapore has a little over 10% of GDP in factor income (repatriated investment income). On the outflow side, Singapore makes foreign investment at slightly over 10% of GDP, and has a smaller net outflow of remittances (due to large imports of labor). The net balance of payments is a surplus - indicating a net demand for Singapore dollars. This should result in a mildly appreciating Singapore dollar over the medium term.
To manage the exchange rate, MAS generally uses the USD/SGD pair: "Intervention operations may take the form of a purchase of S$ against the US$ to stem the depreciation of the S$, or alternatively a sale of S$ against the US$ to moderate its appreciation." MAS also uses futures, swaps, borrowing and other methods on a tactical basis. MAS is careful to point out that they 1) avoid intervention unless needed to maintain the policy band - to generally stay out of the market - but 2) may intervene before the band limits are reached, or allow the bands to be breached temporarily - giving flexibility in dealing with speculative attacks - and 3) may intervene to reduce volatility within the band.
Nonetheless, with the history of policy statement releases and charts of actual USD/SGD rates, we can estimate the effective band on USD/SGD. The policies are summarized in the following graph from MAS - policy statements are published every six months in April and October:
I will concentrate on 2009 to Q1 2013. During 2009, Singapore implemented a massive fiscal stimulus (~10% of GDP) and quickly recovered from the global financial crisis. With interest rates below 1%, global QE, and a healthy economy Singapore inflation returned to or above targets. Thus from 2010 onwards, MAS has called for an appreciating Singapore dollar to control prices. We can see this in the USD / SGD exchange below. I have added trend lines based on my estimate of the policy bands as implied by the MAS statements:
USD / SGD 2009 to present
Let's zoom in on the more recent periods,
USD / SGD 2011 Q3 to present:
My forecast is included in the image above. HSBC forecasts 1.22 for most of the year. The current SIBOR interest rates show expectations that USD/SGD will be flat or slightly dropping over the next 3-9 months.
Singapore's central bank will continue to implement monetary policy through control of the exchange rate. The strong government balance sheet and balance of payments surplus make the Singapore dollar a safe and stable asset. The high domestic savings and persistent inflation at or slightly above target gives MAS incentive to maintain a gradually appreciating Singapore dollar. Singapore's relative success in the crisis recovery has placed the Singapore dollar near all time highs, so in the short term (3-9 months) the US recovery may lead to some improvement against SGD. But in the long term it is likely the Singapore dollar will continue to strengthen.
Additional disclosure: I am long Singapore Dollars