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S'pore to take a hit if Iraq crisis worsens

Inflation, growth outlook in the country will be affected if situation does not improve
Monday, June 23, 2014 - 06:00
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Singapore's inflation and growth outlook will take a hit if the crisis in Iraq - which has shown no signs of abating - escalates further. - PHOTO: AFP

[SINGAPORE] Singapore's inflation and growth outlook will take a hit if the crisis in Iraq - which has shown no signs of abating - escalates further.

So say economists, who are keeping a close watch on the unfolding events in Iraq, where a Sunni Islamist extremist group has taken wide swathes of territory in the northern and central regions.

If the violence spills over into the country's key oil-producing Southern area, analysts warn that a sharp jump in oil prices would mean a feed-through effect on imported inflation here, and a further knock-on effect on economic growth.

"It's not the base case, but if there's a major military intervention in the Middle East affecting the South of Iraq and involving Iran as well, things will get really bad," said Maybank head of FX research Saktiandi Supaat.

According to Bloomberg, Iraq accounts for 3.6 per cent of the world's oil production; Iran controls 4.1 per cent. UOB economist Francis Tan told BT: "The first line of impact will be an immediate uptick in inflation. On the business side, transport costs will rise with petrol prices. The transport and storage sector will see a big hit first, and that will affect the wholesale and retail trade segment. Households will also see higher electricity tariffs, and they could scale back on consumption."

Added Mr Supaat: "There could be a reduction in production and even exports. All this would eventually impact consumption and our growth trajectory . . . There's also the risk that (the events in Iraq) will affect sentiment. It's a double-whammy of things that may affect Singapore's GDP."

Several economists highlighted that all this would only serve to exacerbate rising business costs here - which would in turn weigh on growth.

Barclays economist Leong Wai Ho estimates that if oil prices hit US$130 per barrel, Singapore's current account balance would drop by 0.7 percentage points. Bank of America Merrill Lynch's (BAML's) Chua Hak Bin thinks that a 10 per cent increase in oil prices would lower Singapore's GDP growth by 15 basis points, and increase the consumer price index by 10 basis points.

Still, Credit Suisse economist Michael Wan thinks that elevated oil prices will only have a knock-on impact on core inflation "at the margin".

"The first round of (risk to inflation) still comes from the tight labour market. The underlying issue is not so much oil prices, but more the structural moderation in labour supply."

At the same time, unlike countries such as India and Indonesia - whose fuel subsidies and price controls would exacerbate already-swelling current account deficits - economists say that Singapore is better protected against the impact of higher oil prices.

"Although Singapore would also experience a big impact given the external reliance of its economy, its large current account surplus should insulate it from a balance of payments shock," noted Mr Leong.

While Singapore may not be as badly affected as its neighbours if the situation in Iraq worsens, economists are still staying alert to any second-degree impact that could occur, should the region suffer. After all, as a large net importer of oil, Asia is vulnerable to steep price increases.

But Dr Chua also believes that Asia is "generally in a stronger position to weather an oil price shock this year" compared to last September when the Syria crisis erupted, citing improving current account deficit positions and moderating external debt ratios.

Still, economists like Mr Supaat, Mr Leong, and Dr Chua were keen to stress that things are still "manageable as of now".

"We're not being affected in a big way yet because things haven't escalated. Right now, it's still far too early to conclude that (the instability in Iraq) is going to have a big hit on growth," said BAML's Dr Chua.

Added Barclays's Mr Leong: "All of what we are saying is just simple analysis. A regime change in Iraq is the risk scenario, because it will mean prolonged disruption. But it also takes quite a bit of geopolitical risk to push this into a persistent price increase - it doesn't take into account the Saudis stepping in to supply more, or governments supplying more from their own strategic petroleum reserves. So there are mitigating factors."