News Analysis: Singapore's surprise easing policy highlights challenges facing economy

The Monetary Authority of Singapore's unexpected easing of monetary policy on Wednesday may be seen as an outcome of deflation worries, but analysts' views differ on what the move implies about the state of Singapore's economy.

Just one day ahead of the U.S. Federal Reserve's policy decision and almost a week after the European Central Bank's announcement of a massive quantitative easing program, the Monetary Authority surprised markets by easing policy ahead of its half-yearly review due in April.

The Monetary Authority cited the easing inflation outlook amid the decline in global oil prices as the reason for the policy change and the move put the Singapore dollar on a less steep appreciation path against a basket of currencies of the nation's key trading partners.

As the country's trade flow dwarfs its domestic activity, the Monetary Authority uses currency as its main policy tool, instead of interest rates as adopted by many central banks around the world.

Indeed, the Monetary Authority lowered its inflation forecast for 2015, with headline inflation now projected to come in between minus 0.5 percent and 0.5 percent, from between 0.5 percent and 1. 5 percent expected in October 2014, while core inflation is expected to be between 0.5 percent and 1.5 percent, from between 2 percent and 3 percent projected earlier.

Most analysts agreed that the year-on-year fall in headline consumer price index (CPI) last November and December, the first time in five years that Singapore has seen prices decline, may have prompted the central bank to act earlier than expected.

Some saw the move as a positive for the economy. Phillip Capital said Singapore's export performance has been impacted by a strong Singapore dollar and high pass-through labor costs. Now with the easing policy, the export and hence the broader economy are expected to improve, as goods and services become more regionally competitive.

But HSBC Global Research believe the urgency and the magnitude of the Monetary Authority's decision reflects more than just concern about the domestic inflation outlook owing to lower oil prices. HSBC said the easing move underlined concern about weaker economic fundamentals of Singapore today.

With the mixed outlook for the global economy, the economic growth of the city-state is also likely to be more subdued this year than projected in 2011 and 2012, HSBC Global Research said.

ING Bank said Singapore's easing may highlight its difficulty of labor tightening. Referring to the Monetary Authority's statement on the easing move, ING noted the pass-through of cost pressure from the tight labor market to consumer prices has to date been slightly weaker than anticipated.

The restrictions on foreign worker numbers had not raised productivity sufficiently to justify higher wages, which was a source of the inflation threat cited by the Monetary Authority in its past policy statements. Instead, the productivity drive has increased the vacancy rate rather than wages, said ING.

Finally, the surprised easing is seen by some as an early move in anticipation of more central banks following suit in the wake of strong disinflationary pressure affecting the global economy.

Bank of America Merrill Lynch Research said with 76 percent of developed markets today having inflation below 1 percent, it is only a matter of time that more central banks have to ease their monetary policies to fight the deflation threat that they are now still underestimating. Endi