Please use this identifier to cite or link to this item: https://scholarbank.nus.edu.sg/handle/10635/166047
Title: AN EMPIRICAL STUDY OF INTEREST RATE DETERMINATION AND MONETARY POLICY IN SINGAPORE
Authors: CHAN KWEE WOON
Issue Date: 1990
Citation: CHAN KWEE WOON (1990). AN EMPIRICAL STUDY OF INTEREST RATE DETERMINATION AND MONETARY POLICY IN SINGAPORE. ScholarBank@NUS Repository.
Abstract: The main purpose of this Academic Exercise is to critically examine the relevance of a Keynesian Liquidity Preference view of interest rate determination in the context of Singapore. In addition, two important and interesting issues are addressed. They are : (I) Is money supply negatively correlated to interest rates ? (2) Is money supply the main instrument employed on the conduct of monetary policy in Singapore? The impact of money supply on interest rates has been one of the most frequently discussed and controversial economic issues amongst the economists. Broadly speaking, while the Keynesians postulated a negative correlation between money supply and interest rates, other economists viewed money supply to be positively correlated to interest rates. Recently, Mishkin ( 1981, 1982) reported that the coefficients associated with unanticipated movements in the real income and inflation are statistically significant and they are of the hypothesized signs. However, he found no evidence to support the proposition that money supply and interest rates are negatively correlated. His findings contradicted the results obtained in other empirical works [e.g. Hardouvelis ( 1987) and, Feldstein and Chamberlain ( 1970)], which provided strong empirical evidence for the existence of a negative correlation between money supply and interest rates. One possible explanation for the difference in results is that while Mishkin adopted the efficient markets approach in his study, the other studies did not impose the consraints implied by the efficient markets in their models. To state it differently, the second issue questions the exogeneity of money supply in Singapore. It has been asserted by numerous economists [e.g. Lim C. Y. ( 1988) and, Kapur ( 1981 )] that money supply is an endogenous variable in the Singapore economy. This phenomenon is explained based on the argument that Singapore being a small, open economy is extremely vulnerable and sensitive to the influences of external forces. A number of domestic empirical studies [e.g. Simkin ( 1984) and, Lee S.Y. ( 1987)] have found no relationship exists between MI and interest rates. Subsequently, the Keynesian Liquidity Preference view of interest rates determination is not supported. However, one possible shortcoming of the approach employed in these studies is that the efficient markets assumption is not incorporated into the models. According to Mishkin, misleading results may arise if an efficient market is not assumed. Hence, this Academic Exercise will attempt to fill this void. In spite of the different approach employed. results similar to the previous domestic studies are found in this research. The conclusion, which states that the Keynesian Liquidity Preference view is not relevant to a small, open economy like Singapore, has serious implications on how monetary policy should be conducted in such an environment. A critical examination of the monetary policy indicated that effective f0reign exchange management is the dominant monetary instrument used to control the economic development in Singapore. Subsequently, the a priori view the· in an open economy money supply in not an exogenous variable but is dependent on other forces is confirmed. In sum, the findings implied that while domestic monetary policy has limited applicability in an open economy, external monetary policy has a significant role to play in achieving economic targets.
URI: https://scholarbank.nus.edu.sg/handle/10635/166047
Appears in Collections:Bachelor's Theses

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