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MAS stuns market by flattening Singapore dollar policy band

Central bank shifts to neutral policy stance - even without recessionary conditions - as it tempers core inflation outlook

Once again, the Monetary Authority of Singapore (MAS) caught the market off-guard - delivering an easing stroke by flattening the Singapore dollar policy band on Thursday, after tempering its core inflation forecast for 2016.


ONCE again, the Monetary Authority of Singapore (MAS) caught the market off-guard - delivering an easing stroke by flattening the Singapore dollar policy band on Thursday, after tempering its core inflation forecast for 2016.

This marked the first time the S$NEER (Singapore dollar nominal effective exchange rate) band's slope was flattened in the absence of a recession - prompting some economists to call MAS's decision "a new paradigm". One analyst even remarked that market-watchers were "stunned like vegetable" - a reference to a local song and online meme.

Amid the surprise, however, the central bank was keen to stress that its shift to a neutral policy stance of zero per cent appreciation was not a strategy to weaken the Singapore dollar.

"This is not a policy to depreciate the domestic currency, and only removes the modest and gradual appreciation path of the S$NEER policy band that was in place," emphasised MAS in its twice-yearly monetary policy statement.

This certainly didn't stop the market from reacting, though. The Singapore dollar slid by 0.93 per cent to S$1.3632 against the US dollar at 9.49am Singapore time - its biggest fall since November.

The width of the policy band and the level at which it is centred remain unchanged.

Summing up why the market was so taken aback by the move, UOB economists Francis Tan and Quek Ser Leang said: "A neutral S$NEER policy slope is typically deployed during critical situations such as the 2008 global financial crisis and the 2001 tech bubble recession, where GDP growth contracted and core inflation fell into the negative zone. The move today is a significant one and shows that the central bank is probably uncomfortable with the recent strength in the SGD, where it gained a 10 big figure in a short span of three months."

Prior to Thursday morning's announcement, most economists had expected MAS to leave its monetary policy stance unchanged. However, a small minority - including those from Citi and HSBC - had warned that it would be a closer call than most were thinking.

What many did not foresee was the subtle but discernable change in MAS's core inflation outlook. After all, the central bank has said that core inflation (which strips out the costs of accommodation and private road transport) is the most relevant indicator for monetary policy.

"For the whole of 2016, (core inflation) should come in within the lower half of the 0.5-1.5 per cent forecast range, barring upside surprises to global oil prices," said MAS - essentially narrowing its core inflation forecast.

While the central bank continues to expect core inflation to rise over the course of this year, it foresees this happening at a milder pace than earlier thought. This is due to a downward revision in the outlook for global oil prices, a reduction in labour market tightness, and weaker consumer sentiment.

Added MAS: "Over the medium term, core inflation is expected to average slightly below 2 per cent."

Inflation aside, the central bank adjusted its growth outlook too - albeit against its expectations from half a year ago (during its previous policy review in October 2015) - to bring it in line with more recent forecasts. A month after that policy meeting, the Ministry of Trade and Industry (MTI) released its 2016 GDP growth forecast of 1-3 per cent - an assessment MAS reiterated on Thursday.

Indeed, against the backdrop of a less favourable external environment, MAS flagged that the level of economic activity would be "slightly below potential".

Flash estimates by MTI - also announced on Thursday - showed that gross domestic product grew by a better-than-expected 1.8 per cent in the first quarter from a year ago, but sequential quarterly growth was flat.

In its policy statement, MAS said that the flattening move follows "measured steps" in January and October 2015, when the slope of the band was decreased.

MAS had adopted a "modest and gradual" appreciation path for the S$NEER policy band since April 2010.

"The actual outcome of S$NEER movements over the six months since October 2015 has in fact been a zero per cent appreciation compared to the preceding six-month period. The cumulative effects of past S$NEER movements and the new policy path will continue to ensure price stability over the medium term," said the central bank.

Several economists characterised MAS's decision as "pre-emptive" - one calculated to counter potential downside risks to inflation and growth expectations, linked to a less-tight labour market.

Mizuho economist Vishnu Varathan, for example, said that MAS could be responding to a "slow-burn" recession-like environment.

Added OCBC economist Emmanuel Ng: "On our end, anticipated labour market tightness we think is no longer sacrosanct and the authorities may have finally acquiesced in terms of expecting any strong pass-through effects. We think therefore that the policy shift was motivated more by inflation-related considerations as opposed to growth concerns."

Looking ahead to the next MAS review in October, some analysts believe another round of monetary policy easing is possible. "The growth data over the coming months will be crucial - and we think that recentring is a likely next step should a technical recession materialise," said HSBC researchers in a note.

But Mr Varathan warned of other unexpected side-effects from today's policy decision. "One notable unintended risk is that SOR (swap offer rate) rates could rebound if a strong USD expectations comeback is accentuated by the neutral S$NEER policy.

"This could inevitably intensify pressures on real estate and undermine loan quality for banks. But all considered, measured and lagged back-stop of downside risks is a lesser policy risk."

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