Question

Demonstrate with a diagram, how the Monetary Authority of Singapore (MAS), using a managed float exchange rate approach as in between a fixed exchange rate and a free floating exchange rate systems, suits Singapore’s nature as a small and open economy. Note that Singapore has a high marginal propensity to import (mpm) and high marginal propensity to save (mps) to consider its policy for balance of payments.

Answer 1

There has been a growing consensus that the only sustainable exchange rate regime for emerging markets either a currency board or exchannge floating regime. Singapore stands to this conventional wisdom.

It provides MAS flexibility to deal with shocks while at the same time maintaining th purchasing power of SGD.

The demand for a currency under the managed float exchange system increases. If the increase is small, although the exchange rate will rise, if it still falls within the policy band, the central bank will not intervene in the foreign exchange market. However, if the increase is large, the exchange rate will breach the upper bound of the policy band. If this happens, the central bank will intervene in the foreign exchange market by selling domestic currency and buying foreign currency to bring the exchange rate back into the policy band.

Singapore operates under the managed float exchange rate system due to the small and open nature of the economy. As a small and open economy, the exports and imports of Singapore are high relative to the national income.

The Monetary Authority of Singapore (MAS) holds the view that the exchange rate is the most effective policy instrument for achieving low inflation in Singapore.

Furthermore, due to Singapore’s diverse trade links, the MAS manages the exchange rate of the Singapore dollar against a trade-weighted basket of currencies of Singapore’s major trading partners and competitors within an undisclosed policy band. The trade-weighted exchange rate of the Singapore dollar, or the nominal effective exchange rate of the Singapore dollar (S$NEER), is a trade-weighted average of the bilateral exchange rates between the Singapore dollar and the currencies of Singapore’s major trading partners and competitors.

The composition of the basket is revised periodically to take into account changes in Singapore’s trade patterns. Exchange rate policy in Singapore, which the MAS calls monetary policy, is reviewed on a semi-annual basis to provide recommendations on the slope and width of the exchange rate policy band consistent with economic fundamentals and market conditions.

Thereby ensuring non-inflationary sustained economic growth over the medium term. The MAS publishes a semi-annual Monetary Policy Statement (MPS) in April and October which explains its assessment of Singapore’s economic and inflationary conditions and outlook, and sets out its monetary policy stance, or more precisely, its exchange rate policy stance.