The S$ and the big MAS policy debate

Singapore

FEW monetary policy statements in recent years have so vexed economists.

Just one day before the central bank releases its policy decision on Tuesday, the market remains divided on how the Monetary Authority of Singapore (MAS) will move.

Economists are split on how MAS will tweak its Singapore dollar policy - or whether it will even change its stance at all. They say any of three options is possible: a downward recentring; widening; or no change to the S$NEER (Singapore dollar nominal effective exchange rate) band.

But as for which is most likely to materialise on Tuesday, the market can't seem to make up its mind. Views were split more or less evenly last Friday, with seven economists calling for easing via a lowering of the policy band's mid-point, and six seeing no easing. Of the latter six, half forecast a widening of the S$NEER band, while the other half saw no change.

Part of the uncertainty stems from the fact that on Jan 28, MAS surprised with an off-cycle policy statement - decreasing the slope of its S$NEER band, while maintaining its policy of a modest and gradual appreciation of the Singapore dollar.

Typically, MAS has two policy reviews each year - one in April and another in October. January's unscheduled move was a rare one, taken on the back of a sharp drop in global oil prices.

This had prompted the central bank to cut its 2015 inflation forecasts drastically: headline inflation is now projected to come in at -0.5 to 0.5 per cent, and core inflation at 0.5 to 1.5 per cent (compared to earlier forecasts of 0.5 to 1.5 per cent, and 2 to 3 per cent respectively).

Economists who see no change to the policy band - including those from Barclays, Mizuho, and OCBC - believe it is unlikely that MAS will ease monetary policy further, since there has been no compelling evidence of fresh negative shocks to the economy since January.

On inflation, Barclays's Leong Wai Ho said: "The drivers of the fall in core inflation are largely either administrative or transitory. Even so, we believe MAS's slope reduction in January is sufficient to accommodate the weaker outlook."

And with the tight labour market exacerbating wage-cost pressures, coupled with the over 20 per cent rebound in oil prices since the January low, both Mr Leong and Mizuho's Vishnu Varathan believe inflation is set to turn modestly positive in the second half of this year.

Together with OCBC's Selena Ling, they also point out that despite soft patches in the global economy, countries are not lurching over a cliff - especially given renewed policy stimulus measures to mitigate impending tightening in the US.

Said Mr Varathan: "The upshot is that the incoming evidence points to mitigating downside to growth and inflation, if not scope for a pick-up in demand. So the case for fresh and aggressive easing is arbitrary at best, flawed at worst."

While economists from Citi, Credit Suisse and HSBC also do not see MAS easing, they disagree that there will be no change to the current policy parameters. Instead, they foresee a widening of the S$NEER band, since this would accommodate increased economic uncertainty and market volatility.

(Unlike a lower mid-point, wider policy bands are temporary and neutral, without an inherent tightening or easing bias.)

Credit Suisse economist Michael Wan said: "What has changed since January is the degree of uncertainty surrounding the growth trajectory. Band widening would be more of an insurance policy in case economic activity dips further in the near term."

To increase policy flexibility, HSBC's Joseph Incalcaterra expects MAS to widen the band to plus or minus 3 per cent. "This can accommodate rising financial market volatility, and also gives the option of de-facto easing of monetary conditions if necessary."

While a band widening is still his base case, both Mr Incalcaterra and Citi's Kit Wei Zheng think that the risk of MAS standing pat may have risen at the margin. "(This is) especially if the S$NEER remains off the band floor, and since the January inter-meeting move was intended to front-load an April policy decision," said Mr Kit.

Over the last month, more than a few economists have altered their forecasts - a testament to how close a call Tuesday's policy review is shaping up to be.

For example, Mr Incalcaterra had earlier been expecting no change in MAS's monetary policy stance, while Mr Wan had previously called for a downward recentring of the policy band.

The latter scenario seems to have attracted the most number of votes, although it is far from being the consensus view. Economists and strategists who see an easing in monetary policy - including those from ANZ, Bank of America Merrill Lynch (BAML), Bank of Singapore, DBS, Nomura, StanChart, and UOB - argue that a lowering of the policy band's mid-point would be most appropriate. This is because upward inflation risks appear to be non-existent and growth prospects look weaker.

Noting that headline inflation has come under zero for four months now, BAML economist Chua Hak Bin said: "No one is talking about inflation risks any longer, so that's completely out of the picture. With growth forecasts for Q1 on the weaker side, the government's 2015 growth estimate of 2 to 4 per cent is looking rather lofty."

Indeed, after seasonal adjustments and on an annualised basis, the market expects Q1 GDP growth to be flat in quarter-on-quarter terms; some analysts even anticipate a negative figure. With headwinds against the manufacturing sector, the consensus GDP growth estimate in year-on-year terms stands at 2.1 per cent (although some forecasts go as low as 1.6 per cent).

"Given the economy's unusual mix of low growth, no inflation, and a tight labour market, (a recentring of the policy band lower to the prevailing level of the S$NEER) seems the most sensible option. A lower band would also allow the central bank to better manage the volatility arising from further strength in the US dollar expected later this year," said DBS economist Philip Wee.

However, economists in favour of no easing were keen to point out that although Singapore's Q1 GDP growth is likely to come in weak, they say conditions do not look recessionary. "You need that sense that things are going to deteriorate significantly, or some kind of big event risk on your radar, before easing makes sense," said OCBC's Ms Ling.

Growth and inflation outlook aside, however, economists in the pro-easing camp also noted that the S$NEER had reached the policy band's lower bound in March - necessitating intervention by the central bank to keep the currency within range. "MAS has been running down its forex reserve position and an easing move would reduce depletion pressure," noted BAML's Dr Chua, echoing views from UOB's Francis Tan and StanChart's Jeff Ng.

But Mizuho's Mr Varathan - who sees no change to Singapore's monetary policy - disagrees, and not only because of the recent S$NEER rebound. "Even if they're burning through their forex reserves, (MAS's) stance should be: 'So what?' At the end of the day, it's about policy credibility. It can't be a case of the tail wagging the dog."

HSBC and Citi economists - both proponents of band widening - also disputed the calls for recentring.

Said Mr Incalcaterra: "The key advantage of band widening is that it can be temporary, whereas recentring cannot be quickly reversed without affecting policy credibility. Band widening can buy time for MAS to assess if the deterioration in outlook is severe, and more permanent than transient."

Citi's Mr Kit agreed: "Although not easing per se, a wider band may nonetheless facilitate easing of monetary conditions, while also giving greater flexibility to accommodate any recovery in H2 2015."

The gaping absence of a consensus view has made the upcoming monetary policy statement a highly anticipated one. The central bank will release its policy decision at 8am on Tuesday. The Ministry of Trade and Industry (MTI) will also give its advance estimates for Q1 GDP growth then.

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