Recent Economic Developments in Singapore In this presentation, I will take you through a brief overview of recent developments in the Singapore economy. The MAS recently released its semi-annual macro –review , and I would urge you to take a look at various sections of it for more details. Recent Economic Developments in Singapore

Outline for this Presentation Structure of the Singapore Economy Business Cycles in Singapore Dynamics of the 2001 Recession Characteristics of the Initial Upturn Support Provided by Policy I will first review some of the key features of the structure of the economy. This is important because it will help us understand some of the interlinkages and spillover effects that occurred during the economic downturn in 2001. We examine the 2001 recession and also make some comparisons with the earlier downturns which Singapore experiences, in 1998, and in 1985. Finally, I will review some of the most recent data, to examine the characteristics of the initial stages of the turnaround in the economy, also draw attention to the support provided by fiscal and monetary policies.

Structure of the Singapore Economy

Importance of Trade to Singapore As you might already know, trade features significantly in the Singapore economy, with the size of merchandise trade about three times the size of GDP. We are therefore very open to the global economic environment.

Structure of the Economy By Sector Business Services (14%) Commerce (18%) Financial Services (12%) Others (17%) Transport & Comm. (11%) Manufacturing (22%) Construction (6%) The twin pillars of the Singapore economy are the manufacturing and services related industries. The manufacturing sector contributes to about a quarter of the economy, and its share has been broadly unchanged over the past two decades. The services sectors make up about 67% of GDP, with strong contributions from the fin and bus services sectors. Key Services Sectors = 67%

Machinery & Equipment (6%) Fabricated Metal Products (5%) Manufacturing Output Machinery & Equipment (6%) Petroleum Products (4%) Transport Equipment (9%) Fabricated Metal Products (5%) Electronics (38%) Within manufacturing, electronics production accounts for almost 40% of total value added. The main electronics products produced in Singapore are semiconductors, computers and disk drives. The chemicals cluster includes the petrochemical and the up and rising pharmaceutical industries. Events in the world IT markets for example, will therefore have a fairly significant effect on the Singapore economy, given the heavy importance of electronics in manufacturing production. Others (21%) Chemicals (17%)

Pharmaceutical industry’s linkages with rest of the economy limited… Imports Exports (99%) Domestic (1%) Pharmaceutical Industry Accounts for only 8% of total manufacturing output Employment generation limited: 0.6% of total manufacturing employment In the next two slides, we look further at chemicals and electronics sectors. The main action in chemicals is really the production of pharmaceutical products. (click) However, this segment is still small and accounts for a mere 8% of total manufacturing output. Employment generation is also fairly limited. Being highly capital intensive, the segment accounts for only 0.6% of total manufacturing employment. (click) 99% of the sales from pharma is exported directly to markets in the US and UK, and does not contribute to further downstream activity in Singapore. There are also very little domestic input requirements required for the production of pharma products.

…unlike the electronics industry Imports Exports (72%) Supporting Industries Domestic (28%) Electronics Industry Accounts for 42% of total manufacturing output Generates higher employment: Electronics- 30% of total manufacturing employment Supporting- 37% of total manufacturing employment In contrast, the electronics sector generates substantial spin-offs to the rest of the economy. (click) The electronics industry accounts for a much larger 42% of total manufacturing output. There are also strong spillovers to a group of supporting domestic industries. These are fabricated metals, machinery and equipment, and rubber and plastic products and printing services, which account for about 20% of manufacturing output. Some raw material inputs required in electronics is purchased from supporting industries in Singapore. In terms of employment generation, the electronics and supporting industries account for 30% and 37% of total manufacturing employment respectively. (click) Thus, a strong chemical-led growth has quite different implications on the rest of the economy, compared to an electronics supported recovery. Spillover to the labour market and other supporting industries are much more limited, and strong growth in the chemicals sector is unlikely to generate significant domestic cost and price pressures. However, in a year when the global IT sector is sluggish, chemicals will play an important role in filling the gap.

Structure of the Economy: Exports by Product Electronics (61%) Oil (18%) Non-oil (82%) Turnings to exports, electronic goods comprise a fairly large proportion of our export basket. Electronics products account for about 60% of Singapore’s total non-oil domestic exports. The chemicals industry is also emerging as a significant export sector, contributing to more than 10% of non-oil domestic exports currently. Just 10 years ago, it contributed to less than 1%. Others (16%) Chemicals (13%) Misc Manufactured Articles (10%)

Structure of the Economy: Exports by Country Others 15% ASEAN-3 18% North America 23% NIE-3 15% Singapore’s exports markets are fairly well diversified. About 1/4 of Singapore’s NODX goes to North America, another 1/3 to Asia ex-Japan. The EU absorbs about 1/5, and Japan 1/10. (India: NODX 1.7%, Tot DX:1.7%, Tot X: 2.2%) Japan 10% EU 18%

Summary I Ultra Open Economy Manufacturing & Services as Twin Pillars Dominance of Electronics in Manufacturing / Exports Chemicals Rising But Less Linkages & Multiplier’s Effects To summarise, on the structure of the Singapore economy, we note the following points (click) Because we are so open to the outside world, we tend to be buffeted by developments in the major economies (click) The manufacturing and services sectors are twin pillars of support for the economy (click) Electronics continues to be a major component of Singapore’s production and exports. (click) Chemicals is increasing in importance, though at the moment its linkages and hence multiplier effects on the rest of the economy are somewhat less than electronics.

Business Cycles in Singapore

GDP Growth from 1980 Singapore’s Real GDP (LHS) Composite Foreign GDP (LHS) Global Chip Sales (RHS) This chart highlights the business cycles Singapore has experienced since 1980s. (click) It shows Singapore’s real GDP growth in yellow. You will pick-out that there is a close relationship between indicators that measure the state of the world economy, such as the foreign GDP series (in blue) (click) and the global semiconductor chip sales series in red(click) . This relates to my earlier point that shocks in the external environment affect the Singapore economy through the trade channel. It appears from this chart that the external environment seems to have experienced an increasing frequency of shocks. (click) During the past 5 years, for example, the Singapore economy had to adjust to the 1996, IT slowdown, the 1998-99 Asian crisis, and the 2001 IT collapse.

Dynamics of the 2001 Recession

World Demand-Domestic Supply Curve DS1 Price Level (Domestic currency) WD1 Before looking at the actual data for Singapore, it may be useful to consider a simple framework to summarise the shock that affected the Singapore economy. I will be using simple dd-ss diagrams to illustrate these points. On the horizontal axis we measure output or real GDP, and on the vertical, prices in Singapore dollar currency terms. Singapore faces a horizontal, perfectly elastic world demand (WD) curve. This means that we can sell as many semiconductor chips as we wish at the price that the world is willing to pay. The domestic supply (DS) curve is upward sloping reflecting rising marginal cost of production. It may eventually become vertical, when our supply-side potential is reached. Say we now introduce a shock in the form of a fall in electronics demand. This causes an oversupply in the global IT markets and a fall in the world price of electronic products, which for a given exchange rate causes the domestic currency price of our exports to fall. (click) So we get WD curve shifting downwards, WD2. This has the effect of decreasing real output. We will return to this diagram again. WD2 Q2 Q1 Real GDP

Services-Producing Industries Goods-Producing Industries The Singapore economy contracted by -2.0% in 2001 Overall Against this backdrop, we now look at data for the Singapore economy. The economy contracted by 2.0% in 2001. This compares with growth of 10% the year before, and an average growth rate of 7.7% p.a. over the 90s. Real GDP in levels contracted over 9 months between Jan and Sep 2001, before leveling off and turning around in Q4 2001. Into this year, the recovery continued into the first half of the year. Both the services and the manufacturing industries were hit badly as shown in this chart. Services-Producing Industries Goods-Producing Industries

Exports & industrial output fell sharply Fall in External Demand Drop in NODX NODX Electronics Domestic Exports Cutback in Production Overall Electronics Industrial Production The downturn started with a significant deterioration in the external environment since the second quarter of 2001. (click) According to IMF estimates (April 02), growth of the global economy halved in 2001 to 2.5%. (4.7% in 2000) The downturn was exacerbated by a severe slump in the global electronics sector. Singapore’s exports sector was hit most quickly and severely, with non-oil domestic exports contracting since Q2. Electronics exports recorded the most severe contraction in the top chart. (click) With the fall in demand for our exports, producers in Singapore cutback on production and the index of industrial production fell shown in the lower chart, with the electronics segment recorded the sharpest contractions. As we have seen, the electronics industries have strong linkages to the rest of the economy, and thus it dragged down other supporting industries in the manufacturing sector as well, which are captured in the red line.

Services exports were also affected Re-Exports ASEAN-3 Cutback in Production Fall in External Demand Drop in NODX Total NIE-3 Q1 Services Exports Overall Spillover to Services Sectors Our services sector was also affected. An important component of services is the transport related industries, which support Singapore’s trade as well as trade within the region. So as our exports fell, these industries were affected as well. In addition, as our neighboring countries were also negatively hit by the global IT slowdown, regional trade volumes fell, again dragging down the transport companies in Singapore which facilitate this regional trade flows. Travel receipts have also come down, as the number of tourist arrivals fell sharply. Transport Travel Q1

Adjustments in the Labour Market W/P LS X A LD B X LD1 C X With production coming down, Singapore businesses, also needed less workers. This caused the labour market to worsen in 2001. (click) This chart is a familiar labour demand and labour supply diagram – it measures real wages on the vertical axis and employment or labour demand on the horizontal. We have an upward slopping labour supply curve and downward slopping labour demand curve. Now, with the sharp reduction in demand for electronics output, the labour demand curve shifted downwards to Ld1. Hence, at each real wage level, employers demand less workers for workers because the final demand for goods had collapsed. From A we move to a new equilibrium B, where wages are lower and employment levels are also smaller. Note that real wage flexibility is important to prevent too severe an adjustment in employment or unemployment. If wages were sticky and remained at the levels as at point A before the recession, then the effect on unemployment would have been much greater. (In this case we are stuck at C). N

Average Nominal Earnings, SA Flexible wage response W - CPF - non CPF Average Nominal Earnings, SA 85Q1=100 97Q4=100 Moving to the data, this chart shows the behaviour of wages in Singapore (it excludes employers’ CPF). We have indexed wage levels to just before the recessions in 2001, 1998 and 1985, when it takes a a value of 100. We can see that wages has not only fallen by much more during the current recession, it has also responded more quickly, declining in the first quarter of economic contraction. In comparison, during the downturns in 1985 and 1998, wages fell only two quarters after the decline in output, as shown in the downward slopes of the blue and green lines. Moreover, in these earlier instances, it was the CPF cuts that largely brought down overall wage cost. This time CPF rates were not cut. This suggests that wages in Singapore are actually very flexible. It also meant that given the very sharp fall in production in Singapore, the impact on the labour market was lessened by the quick adjustment of wages. 00Q4=100 No. of quarters

Comparisons Across Downturns Summary of Key Indicators : Peak-to-Trough Adjustments Real GDP -10 -8 -6 -4 -3 -2 -1 2 3 4 -40 -20 -7.7 (3Q) -3.1 (3Q) -5.3 (3Q) -28.4 (4Q) -7.7 (4Q) -12.9 (2Q) Exports CPI To sum-up on the 2001 recession, this chart compares the behaviour of four important economic variables across the downturns Singapore has experienced. In particular we calculate the adjustment of exports, GDP, unemployment and prices from their peak to their trough values furing the 1985, 1998 and 2001 recessions. If the adjustment was greater, than we move further out from the origin. Thus, the larger the diamond, the greater the extent of adjustment. (click) You can see that the recession last year stood out because of the very sharp deterioration in our export performance, of almost 27%, more than twice the extent of decline in the two earlier recessions. Because exports is so important to Singapore, real GDP also fell more sharply this time round - by 7.7% compared to declines of 3-5% during the 1985 and 1998 downturns. -0.9 (3Q) -1.6 (4Q) -2.0 (4Q) 2001 1998 1985 GDP Downturn in 2.1 (4Q) 2.7 (5Q) 3.6 (7Q) Unemployment Rate

Summary II More volatile environment – 3 shocks in 5 years Cause shifts in AD curve Dynamics of Recession : Exports  Output  Services  Labour Market  Prices 2001: Deepest Recession 2001 : Wages adjusted quickly So, to quickly summarise the second section of this presentation: (click) A The external environment seems to have become somewhat more volatile(click) B And this has caused shifts in the aggregate demand schedule facing Singapore, with the consequent fall in prices and production. (click) C With the export sector hit, businesses in Singapore cut back on production. The trade related services sector also get hit, while in the labour market less workers are employed and wages fall. Prices in the economy also come down with the fall in general demand conditions. (click) D Last year was the most severe recession in terms of the extent to which real GDP levels fell.

Characteristics of the Initial Upturn Finally, I come to the most current economic developments this year. Characteristics of the Initial Upturn

Non-Residential Fixed Investment US economy Personal Consumption GDP Non-Residential Fixed Investment As is often the case, the turnaround in the world economy was led by the US, in the first quarter of this year, when it expanded by about 6% on an SAAR basis. Although, investment continued to remain weak, the economy was supported by strength in consumption. This in turn was underpinned by strong consumer sentiment, low interest rates, low oil prices and some support from tax cuts. The global IT industry also improved at around the same time.

Turnaround in domestic economic activity GDP (SAAR) The Singapore economy usually rebounds very quickly from a downturn when the external environment improves. The economy registered expansions of about 8-10% on a SAAR basis in the first 6 months of the year. This is a relatively strong pace for the initial stages of a recovery. GDP (YOY)

Manufacturing Value-Added Non-oil, Non-electronics Manufacturing driving the uptick in growth Manufacturing Value-Added Surge in manufacturing SAAR in Q4 2001 continued into Q1 2002… Non-oil, Non-electronics The improvement in the first quarter between Jan and Mar was driven mainly by the manufacturing sector. which was supported by the strong recovery momentum for non-oil domestic exports. …along with positive NODX growth in the last two quarters... NODX Electronics

Hub-related services doing well. Re-exports supported by regional trade Real Non-oil Re-exports Singapore provides hub services The trade-related services also benefited from the positive spillovers from the pickup in the domestic manufacturing activity. In addition, the transport related services also benefited from the improvement in economic conditions in the region, which can be seen from the turnaround in re-exports. Re-exports means goods exported out of Singapore that have undergone only very minimal processing domestically, such as minor assembling, re-packaging, sorting, and grading. Singapore is an important centre for such re-export activities, as it supports the trade and production network in the region. Such activities generate important business for our transport related services. In this sense, Singapore has an important role as a service transport hub for the region. Air Transhipment Cargo

Non-electronics (SAAR) Divergent Paths? Electronics-led initially Electronics (SAAR) Non-electronics (SAAR) Total (SAAR) Chemicals surge more recently Some economists have picked out a slight difference in the nature of the recovery in Jan to Mar, compared to more recently in Apr-May. In particular, the strong growth impetus in Q1 was largely due to the inventory correction in the IT sectors. (click) In other words, our exports and production received a one-off boost because sellers of electronic goods in the US wanted to build up their stocks of finished goods to a more comfortable level. Before this, stocks had come down because, production had fallen. (click) The latest industrial production numbers for Apr-May does suggest that some moderation in Singapore’s electronics sector registered has taken place following its relatively rapid expansion in Q1 . However, overall IIP growth for the first two months of Q2 remained relatively robust, boosted by a surge in chemicals output. Chemicals has less spillovers Apr-May

Support Provided by Policy Economic growth this year, is likely to be boosted by the support provided by government policy.

World Demand-Domestic Supply Curve DS1 WD1 WD2 Q1 Q2 Price Level (Domestic currency) S$175 US$1.75/S$ S$170 US$1.70/S$ Lets briefly return to this AD-AS diagram. (click) We had suffered an external shock which lowered the WD curve to WD2. Prices and quantity transacted in the economy had fallen as a result. What are the effects of monetary and fiscal policy? First on monetary policy, consider a looser exchange rate, for simplicity lets assume that the value of the S$ against the basket of currencies eases. Now, this will cause the Singapore dollar prices of our electronics exports to increase along the vertical axis. If for example, Mr Sim used to get US100 for each sound blaster card he sold to the Americans. Converting to Singapore dollars, say at the rate of 1.70, he would get S$170. But now if the exchange rate is 1.75 which means the Singapore dollar is cheaper, he gets S$175 for each sound card. This causes the domestic currency price of electronics to increase, and is shown by the WD curve shifting upwards from WD2 to WD3 (click X 2), increasing prices and real output. An expansionary fiscal policy would also have the effect of supporting the upward shift of the WD curve to WD3. However, this effect cannot be directly shown in this chart as govt spending is a component of aggregate demand, not world demand as is shown here. WD3 Q3 Real GDP

Macroeconomic Policy Mix Easier Monetary Conditions Expansionary Fiscal Policy off-budget packages multiplier effect Having seen the effect of policy, lets look at some of the numbers. In response to the recession, the government put in place a conducive macroeconomic policy mix to support GDP growth. (click) On the monetary policy front, MAS adopted an easier exchange rate policy stance. On the fiscal front, two off-budget packages were announced, in Jul and Oct 2001, which together amounted to 8.4% of GDP. The conducive policy mix should provide a moderate boost to real GDP growth this year, of about 1.3% points compared to the baseline forecast. These estimates come from a rather large and complex econometric model maintained at the MAS, and is designed such that it can calculate the multiplier effects of an expansionary fiscal and exchange rate policy on the Singapore economy. 1.3% point boost to economy

Outlook for Growth GDP Growth to come in at the upper half of the Manufacturing sector expected to turn in steady growth GDP Growth to come in at the upper half of the 2-4% forecast range Moderate rebound for the services sector Financial services sector to remain weak This slide sumamrises our outlook for growth for the various sectors. As I have been stressing throughout, Singapore’s recovery very much depends on the external environment. Here we think that the recovery in the rich OECD countries will continue, though somewhat slower that what we are used to in previous rebounds. In the world IT markets, we are looking out for a return in end-user demand, and here only the consumer electronics segment offers some promise. We are assuming about a 3-6% growth in world IT demand this year; quite modest by historical standards. [click] In manufacturing, we see a steady but moderate recovery in electronics. The potential for upside to Non-e, chemicals remains, with the huge increase in capacity that the industry has invested in. [click] With the improvement in the external environment, the services sector is expected to rebound moderately, with the trade-related services sector benefiting most from the improvement in global electronics demand. [click] However, the financial services sector is expected to contract slightly this year, with weakness of the insurance and commercial banking segments. [click] The construction sector is expected to decline further this year, dragged down by the public residential component. On balance these add up to the upper half of the 2-4% forecast range. Construction sector expected to contract further

Summary III Led by initial turnaround in the US Led by electronics & trade-related services Conducive Macro-Policy Mix Risks to Growth Consumption (Wealth Effect) Equity Markets Real Economy Investment (Profit Cycle) IT Spending Slump - Postponement of replacement demand To summarise and conclude:(click) The turnaround in the Singapore economy, was supported by the recovery in the US economy, and IT markets. (click) These developments also had spillovers to our trade-related services industries(click) More lately, there has been a slight retraction in electronics, while chemicals production has surged ahead. (click) The combination of fiscal and monetary policy is conducive for the recovery and is estimated to have a boost of about 1.3% points to growth this year. (click) We think that the recovery of the Singapore economy remains intact though this is still very dependent on the external environment. (click) We note the risks in this regard – (1) the recent volatility in the worldwide stock markets may affect consumer spending and business investment through the wealth effect. The wealth effect is when households and businesses increasing their current spending plans because for example, the increase value of their stock market holdings, make them more wealthy. (2) If stock market values fall, there is a negative wealth effect sets in, and people hold back on their spending, including on IT products, which as we have seen has an important impact on Singapore’s manufacturing sector.

(( )^4 - 1) * 100 Conventions used in data presentation V.A. (real terms) X t YOY % X t - X t-12 X t-12 * 100 QOQ % X t - X t-1 X t-1 * 100 QOQ SAAR XSAt X SAt-1 )^4 - 1) * 100 ((

% deviation from baseline XAt - XBt XBt * 100 Baseline Values : XBt Alternative Values : XAt