For a long time, growth has been one of the most important subjects of study for economists. In recent decades, in particular, the issues of erratic growth patterns experienced by emerging economies have increasingly caught the attention of academics and policymakers. Volumes of literature have been written on theories and strategies on growth for emerging economies in attempts to explain why initial spurts of growth experienced by them ran out of steam by the 1980s. Related to the issue of erratic growth pattern is the increasing macroeconomic volatility experienced by many of these emerging economies. Notably, the causal link of the two issues works both ways. In some instances, macroeconomic shocks arose as a result of endogenous imbalance caused by erratic or unhealthy growth. In others, the volatility from exogenous macroeconomic shocks eventually impacted adversely on domestic economy, causing growth to sputter.

In recent years, the tackling of the twin-problems of growth and volatility have taken up new urgency as financial and real economic crises happen in increasing frequency and intensity and hurt growth. As the global markets become more and more integrated, volatility spread rapidly especially within a region as a result of contagion. The emerging economies are especially susceptible to the increasingly hostile external environment because of their inability to build a firewall to isolate their domestic economy against the full wrath of such external shocks as well as their lack of resources and institutional mechanisms to implement countercyclical measures quickly to ameliorate the adverse impacts of such external shocks.

The emerging economies have long faced a number of difficult challenges in designing macroeconomic policy frameworks that would help to promote monetary and financial stability. Their central banks, in particular, face a unique set of challenges.[1] To start with, many central banks lack independence. Many are under the statutory purview of the finance ministry and end up eventually as the government’s cash till. Even if they are statutorily independent, they can be buffeted by various political forces, resulting in the loss of operational independence. Very often, operational independence is also constrained by other conflicting macroeconomic objectives. For example, the objective of maintaining a fixed exchange rate can often limit the scope that the central bank has in using policy instruments such as the interest rate to pursue an independent domestic monetary policy aimed at managing domestic activity and inflation.[2]

Second, central banks in emerging economies also face the problem of fiscal dominance. The root of the issue is that in many of these countries, fiscal policy serves important redistributive functions and their governments builds its legitimacy to rule based on fulfilling that.  As a result, monetary policy often became adjunct to a fiscal policy that is characterized by persistent deficits and rising public debts. For example, central bank may be coerced to maintain low interest rates to minimized government’s debt financing burden. This, however, complicates monetary policymakers ability to manage inflation expectations.[3]

Third, the conduct of monetary policy for emerging economies is often hampered by a weak transmission mechanism arising from the underdevelopment of the financial system. Generally, deep and liquid financial markets not only provide important feedback to the government through their market actions about market sentiments and expectations with regards to the monetary policy, they also facilitate the transmission of the monetary policy. In the absence of well-developed financial markets, therefore, central banks may be handicapped in its use of policy tools such as money stocks and interest rates.

Next, central banks in emerging economies are also finding it difficult to isolate monetary policy from external influences as a result of the increasing openness of their economy. Even though many have imposed capital controls to better manage their exchange rates, money stocks and interest rates.  Despite so, increasingly, sophisticated international and domestic investors have managed to bypassed capital controls measures put in place by government of emerging economies. Take, for example China whose policymakers are determined in tightening controls on inflows to dampen asset inflation and speculation. Yet, money has been pouring in through different channels in recent years.[4]

Finally, in addition to the abovementioned institutional limitations, many central banks in emerging market economies are also constrained by their lack of technical capacity to model the economy to help them implement monetary policy. Structural changes in the economy also demand that modelling and forecasting techniques evolve to stay relevant. The problem is often further compounded by the dearth of accurate and timely macroeconomic data upon which simulations can be carried out and decisions made.

In short, all the institutional and technical constraints faced by central banks inexorably translate into macroeconomic volatility that in turn contributes to the sputtering growth patterns faced by many emerging economies. Of course the challenges mentioned are by no means the only problems faced by emerging economies in managing macroeconomic volatility. A sampling of the plethora of issues that have been raised by economists includes the following: What are the pros and cons of different monetary policy frameworks? Has rising openness to trade and financial flows made monetary policy less effective in achieving domestic objectives? What institutional frameworks can help in increasing the effectiveness of monetary policy transmission in less developed economies?  How can capital controls be imposed to reduce volatility without sacrificing growth? How should monetary policy respond to endogenous and exogenous shocks?

As early as the 1990s, the World Bank began a series of reviews as part of the overall efforts to build sustainable growth among developing countries. It was noted that not all emerging economies experienced the same inconsistent growth patterns. In particular, eight East Asian economies – Japan, South Korea, Taiwan, Hong Kong, Singapore, Thailand, Malaysia, and Indonesia – stand out because of their ability to sustain unusually high growth rates over an extended period of time. Collectively, these highly successful East Asian economies were dubbed as the ‘East Asian Miracle” by the World Bank in 1993.[5] Among them, Singapore, as one of the four Asian Tigers, became one of the most quoted examples of a successful example of a low value-add labour-intensive economy succeeded in transforming itself into not only a high value-add technology-intensive manufacturing base but also a hub providing professional services to businesses within the region.

Since its independence in 1965, Singapore has gone against the tide and achieved consistent economic growth for the past four decades despite its puny size and lack of natural resources. Even though Singapore began at the same start line with many developing countries which gained independence after the end of the Second World War, the city-state has chalked up an impressive average growth rate of 8.1% between 1965 and 2007. Today, Singapore is one of the few non-OECD countries that have a living standard comparable with the developed countries.

It is against this background that I first looks into the issue of volatility and tries to provide a perspective of how Singapore has managed to achieve macroeconomic stability over the last few decades when many other developing countries were constantly embroiled in one financial crisis after another. In particular, special attention is given to the roles played by exchange rate-centred monetary policy as well as its increasingly matured financial markets in fostering economic growth and overcoming financial crisis. In-depth analysis will also be conducted with regard to Singapore’s strategies in responding to challenges posed by two recent crises (i.e. the Asian Financial Crisis in 1997 and the Global Financial Crisis in 2008) to see how they can serve as lessons for other developing countries. Lastly, this dissertation will also show how Singapore consistently attempts to turn crises into opportunities. The exploitation of emerging opportunities in the aftermath of crises has helped to reposition the city state to enable it get ahead of its regional competitors which are less responsive in responding to the challenges because of structural and financial constraints.

---

[1] See Hammond, Kanbur and Prasad (2009)

[2] See Goodfriend. (2004)

[3] See Sims. (2005).

[4] See Prasad and Wei. (2007).

[5] See World Bank. (1993).