POLICY OBJECTIVES AND MACROECONOMIC INSTRUMENTS IN THE SINGAPORE ECONOMY

Abstract

The empirical finding of the Phillips' curve has given rise to discussion on the trade-off between full employment and price stability. Pertinent to any policy of inflatio11 management is the degree of unemployment that can be tolerated: attempts to reduce the unemployment rate usually lead to higher rates of inflation while attempts to reduce the rate of increase of prices usually lead to higher rates of unemployment. Yet, over the period 1960-98, Singapore has succeeded in achieving low rates of inflation, along with high employment and output growth. This is confirmed in the formal regression analysis conducted in chapter one, which suggests that there is an insignificant trade-off between inflation and unemployment (and growth) in Singapore. These results present a puzzle for us and invite analysis, which this thesis attempts to do. Some observers see the high employment (output) growth achieved under price stability as proof of the 'magic' of the marketplace, an experience other countries can emulate. Others think the Singapore experience is a one-off matter, the outcome of the island's size, location and political stability, and so on. Neither view gives much weight to the role of macroeconomic management, missing an important element in Singapore's success story. The aim of this thesis is to highlight this element and provide an understanding of how macroeconomic policies has spurred growth and curbed in inflationary pressures.

This thesis will be approached from two angles. Firstly, it will analyse the problems faced in different episodes of Singapore's macroeconomic history, and identify the instruments (or policies) used to attain the two main targets of low inflation and high growth (and employment). Secondly, it will examine how Singapore has responded to shocks in two particular episodes: the 1985 and current recessions; and give a critical evaluation of the policies the government has chosen to curb the two recessions, which are namely the massive cost-cutting measures, with the CPF cut being the major component, and exchange rate policy.

A major contribution of this thesis is the theoretical finding in chapter 5, which evaluates the effects of a cut on the employers' CPF contribution on the Singapore economy using a Long-term Wage Contract and Rational Expectation Model. In a rigid labour market due to the presence of long-tenn wage contracts and downward stickiness of nominal wages, an adverse demand shock, such as the current crisis, will lead to persistent high unemployment and output loss. However, our mathematical analysis based on the model above suggests that a CPF cut can lead to neutrality results in face of an anticipated adverse demand shock, because the CPF cut re-introduces some form of flexibility in the labour market despite the implicit or explicit wage contracts. The analysis provides some insights into the rationale behind the government's move to implement the CPF cut in the 1985 and current recessions, despite some contractionary effects on the aggregate demand.