Commentary: Here’s what US interest rate hikes will mean for Singapore
Singapore has enjoyed lower interest rates since the start of the pandemic, but recent US interest rate hikes and inflation may mean that households and businesses are facing a double whammy, says economist Bernard Aw.
SINGAPORE: Whenever the United States Federal Reserve raises or slashes interest rates in the US, it has a ripple effect across the global economy.
On Mar 16, Fed Chairman Jerome Powell announced the first interest rate hike since 2018 to address the worst inflation that the US has seen in 40 years. It marked the end of almost two years of “easy money policy” and the near-zero interest rates implemented during the pandemic. The central bank also projected six more successive hikes this year.
Could Singapore see a similar upward trend in domestic interest rates, such as the Singapore Overnight Rate Average (SORA)? This comes at a time when worldwide inflationary pressure is intensifying, supply chains are tightening and global demand is weakening, amid countries’ efforts to recover economically from a COVID-19 pandemic that has not seen its end.
In Singapore, an increase in SORA – the main benchmark for floating loan rates in the Singapore dollar – is expected to follow the US rate hike, though not necessarily in lockstep as the magnitude of increase may vary.
This has generally been the case. Previous peaks in US interest rates in 2000, 2006 to 2007 and 2019 saw similar trends in Singapore rates at a smaller scale.
A common trilemma in international monetary policy is this: Monetary autonomy, exchange rate management and free capital mobility. Choose two, as it’s impossible to enjoy all three. Singapore’s approach has been to give up control on the first and manage the latter two options.
What this means is that Singapore doesn’t determine domestic interest rates or the money supply. Interest rates in Singapore are largely determined by foreign rates, especially those of the US, as well as market expectations of movements in the Singapore dollar.
WHAT HIGHER INTEREST RATES MEAN FOR SINGAPORE HOUSEHOLDS
Singapore, like the US, has been in a lower-interest-rate environment since the start of the pandemic to cushion the economic fallout.
Higher interest rates mean that Singapore households will come under greater burden servicing existing debt. Home owners will find themselves having to set aside more money to repay outstanding mortgages, particularly those with floating loans.
Core inflation in Singapore is also at a near nine-year high, shrinking their real income. So not only may Singaporeans be forced to cut back on consumption, but what they spend on will also cost more - a double whammy.
The Monetary Authority of Singapore (MAS) is rightly concerned about this, as household debt has risen steadily since 2020. In its annual Financial Stability Review in December 2021, the MAS advised households to carefully assess their ability to meet mortgage obligations and urged borrowers saddled with a heavy debt load not to take on more loans, as it was already anticipating possible rate hikes.
Savers will be pleased, however, as higher interest rates would incentivise households to increase their savings.
IMPLICATIONS FOR SINGAPORE BUSINESSES
For local businesses, the increased cost of borrowing also means challenges in servicing debt on commercial and industrial property loans or taking on new loans. This potentially reduces profit margins and increases the required return on new investment projects.
But the impact may vary across industries. Sectors dominated by multinational companies, such as manufacturing, are likely less impacted. They often rely on their own financing sources, such as from their overseas headquarters.
Construction firms, on the other hand, may be more affected because they rely to a greater extent on commercial bank loans. Cash flows are tighter due to the longer-term nature of projects. And this comes on the back of having to deal with restrictions on foreign manpower and other cost pressures from the pandemic.
Higher interest rates will likely make things harder for the construction sector. It has already been trending towards a higher risk of defaulting on repayments.
The non-performing loan ratio of loans to the construction sector rose to 7.3 per cent, compared to 2.1 per cent across all commercial bank loans, in the fourth quarter of 2021. But an Evergrande situation in China is unlikely to be seen in Singapore due to differences in the property market.
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Small and medium enterprises (SMEs) similarly rely on bank loans as a key external financing source but tend to have weaker cash buffers to absorb the increased burden of debt servicing. Vulnerable SMEs, especially those in sectors hardest hit by the pandemic, are expected to remain under strain.
Some Government assistance schemes during the pandemic, such as the Temporary Bridging Loan Programme and MAS SGD Facility for ESG Loans, have been extended and could be a continued lifeline for some businesses.
NOT ALL GLOOM FOR SINGAPORE ECONOMIC RECOVERY PROSPECTS
Does this spell trouble for Singapore’s efforts to boost the post-pandemic economy? Not necessarily.
Other factors, not just higher interest rates and reduced consumption, influence the global economic landscape and weigh on the prospects for recovery - geopolitical developments such as the Ukraine war, ongoing supply disruptions, global inflationary forces and lower global growth that also raise the spectre of potential stagflation.
But the quick pace of six more US rate hikes this year may be daunting. The previous rate hike cycle from 2015 to 2018 saw a more gradual nine hikes over four years.
US interest rates are expected to reach 1.9 per cent by the end of 2022. When the federal fund rate last hit 2 per cent in June 2018, SORA and three-month SIBOR reached around 0.9 per cent and 1.5 per cent respectively.
There are no signs yet if the current hikes could cause domestic rates to go higher, but a relatively stronger Singapore dollar, compared to 2016 and 2017, could limit the extent of the need to adjust Singapore’s interest rates higher to compensate investors in Singapore dollar-denominated assets.
Could higher interest rates also have implications for Singapore’s public expenditure financing? The Government has issued new bonds to finance major and long-term infrastructure projects, including the S$2.6 billion in Singa bonds sold in September 2021 and S$1 billion in green bonds in March.
Increased bond yields may be attractive for investors, but in principle, increase the domestic debt burden on the Government. However, there are safeguards in place. The Singa framework, for example, includes caps on how much it can borrow (an absolute limit of S$90 billion) and how much it can pay out in interest (S$5 billion annually).
So, Singapore’s economy will likely be on track to continue expanding but at a noticeably slower growth momentum. But it remains to be seen if higher interest rates will have the intended effect of tempering inflation.
At home, MAS has already allowed a faster pace of Singapore dollar appreciation, raising the slope of its S$NEER policy band twice, in October 2021 and in an off-cycle meeting in January. All eyes will be on its forthcoming April meeting.
Bernard Aw is the economist for Asia Pacific at Coface.