Singapore is at an important turning point. In the past 1½ years, there has been much discussion on a whole range of issues — population policy, foreign worker inflows, productivity growth, social safety nets and education reforms. Much needs to be done to address deficiencies in our economy and to accommodate new trends that are emerging in the region. The next one to two years will see a number of important policy decisions that will shape Singapore's economy for a long time to come. It is important for businesses and investors to understand how these will unfold.
Population policy will be clarified soon — major implications
The immediate issue will be the population policy as the government's white paper on population will be released in January. This policy pronouncement is important because the projected rate of population increase will have considerable implications for the potential growth rate of Singapore's economy, investments in infrastructure and housing that will be needed and the likely increase in wage and other business costs. After all the debate over the past year, it will become clear just how much immigration will be allowed and what the composition of that immigration flow will be. Reports released by the government in the past few months on issues related to population seem to suggest that the end result will be a policy of continued growth, albeit at a more moderate pace, in the country's population despite the sharp increase it has already experienced since 2004. Another area of policy focus will be strategies to raise the total fertility rate of indigenous Singaporeans, so as to ensure that there will be a core of Singapore citizens. Since previous policies focused on fiscal incentives for procreation have not worked, it will be interesting to see if bolder and more innovative measures — such as subsidised paternity leave — are introduced.
One of the key questions that will be answered will be whether the recent restrictions on foreign worker inflows will be further tightened or whether they will be relaxed to appease the demands of businesses that are struggling with sharply higher wage costs and a shortage of workers. We see no let up in the curtailing of the supply of low-skilled foreign workers outside the construction sector because only by doing so and by raising labour costs will adjustments to raise productivity be incentivised.
Strategy to raise productivity needs to be re-thought
Indeed, the need for more effective policies to raise productivity growth is now compelling. Productivity growth has been disappointing in recent years outside the manufacturing sector. While higher wage costs will spur productivity-enhancing corporate adjustments, this is not enough. A substantial re-think of existing strategies might be needed — clearly, measures such as the Productivity and Innovation Credit have had limited effects. Such measures have failed because the intended beneficiaries found little of use in them — policymakers need to shift their approach from tinkering with individual measures to building the appropriate eco-system.
In our view, Singapore should model its strategy on the impressive small and medium-size enterprises (SMEs) at the heart of the success of economic powerhouses such as Germany and Japan. These companies consistently improve productivity without government having to urge or incentivise them to do so. They have the independent capacity to adjust and adapt that is missing in Singapore because they can leverage off a highly supportive eco-system that Singapore lacks. What Singapore needs to do is to complement the government's emphasis on MNCs by, for example, building financial mechanisms (such as the small regional banks that focus on SME lending in Germany), creating the linkages between government agencies, large companies and SMEs that are the key elements of this successful eco-system and ensuring a more level playing field between SMEs and large companies including government-linked companies.
This effort to support local enterprise should go beyond just the productivity drive. Any competitive, resilient and dynamic economy should have a diverse eco-system of companies. For too long, Singapore has depended on MNCs disproportionately without giving sufficient attention to the development of local companies that are committed to and rooted in Singapore. Given that there is so much uncertainty about future trends in the global economy, it makes sense to not depend excessively on one single class of corporations — if there is a major change in the strategy of such corporations, say, about where they locate production in economies such as Singapore, we could be hit very hard.
New approach to containing business costs also needed
Rising business costs in Singapore have reached a point where policy responses will probably turn more aggressive. There are several dimensions to this challenge. At the macro level, Singapore's inflation rate is now higher than that of its trading partners — something that has not been the case for a long time. This means that Singapore businesses are losing cost competitiveness relative to their competitors. Indeed, recent trade data shows a consistent pattern of our electronics exports underperforming traditional competitors. At a local level, surveys by business groups have shown a rising tide of concern over how surging wage, rental and input costs are hurting companies' profitability and even survival.
Policymakers need to discern carefully the areas of rising costs that are necessary to boost productivity — such as wages — while combating those elements that represent windfall gains for some economic agents at the expense of others. One area that really needs action is soaring rentals — such cost increases directly and indirectly push up a range of other costs in the economy without achieving any valid economic purpose. Policymakers still have options that they have not tried yet — government could commit to substantial increases in the supply of commercial and industrial space and consider hefty taxes on landlords' windfall rental gains.
Another approach that has not been tried is a more aggressive approach to competition policy and consumer protection so as to bring down costs in sectors that lack sufficient competition. One example is the cost of pharmaceuticals — often double the price available in Johor, just kilometres away from Singapore, because of price discrimination by the pharmaceutical companies. There are other areas where costs to consumers appear unreasonable — for example, the embarrassing controversy over the costs of sports channels in Singapore points to flaws in the regulatory framework governing this sector.
Building of social safety nets will result in major tax and other changes
The next key area where policy change is expected will be on the related issues of social safety nets, income inequality and social mobility. There is already a shift in Singapore towards more government support for addressing rising healthcare costs and the care of the elderly in a rapidly ageing society. However, there appears to be no consensus yet on boosting retirement funding or supporting low-income groups and other less fortunate fellow citizens such as the unemployed. This may not be tenable for long. Although a recent academic paper suggested that most Singaporeans will be able to retire with sufficient income, it did find that older workers would struggle to achieve a comfortable retirement. Moreover, its benign findings rested on fairly narrow assumptions, which may not hold for many Singaporeans. Further measures are likely in the coming years to address these issues.
Whatever the exact policy decisions, Singaporeans can be sure of one thing: Government spending as a proportion of GDP will have to rise significantly over the next 10 years or so, probably by seven to eight percentage points of GDP. This will have to be funded in some way. If it is through higher taxes, Singaporeans will face a higher tax burden after years of tax cuts. The other option could be for government to use a higher share of investment income to fund spending. It is difficult to assess how feasible this option is because the government does not release data on the level of our reserves; nor does it give full and detailed information on the exact amount of investment income the government earns each year.
Increasing regional integration — how will Singapore respond?
Economic integration is progressing at different levels within Southeast Asia. At the Asean level, the Asean Economic Community (AEC) is to be in place by end-2015. True, progress towards the AEC has been slow and disappointing, but that does not mean Singapore can ignore the AEC. Dozens of liberalising measures are being implemented all over the region that will help increase the flow of goods, services, capital and people around the region. As this unfolds, more economies of scale will emerge in the region, creating business opportunities for Singapore companies. Policy measures may be needed to support Singapore companies expanding in the region. For example, the government has been studying whether an Export-Import Bank might be needed. Even if a full-fledged Ex-Im Bank is not set up, government support to provide some of the financial mechanisms associated with such a bank could be extended.
At another level, Singapore is likely to see an accelerated pace of integration with southern Malaysia as the Iskandar Region there reaches critical mass. This year, the large education, tourism, healthcare and logistics projects have started operations while the relocation of manufacturing activities from Singapore to Iskandar is gathering pace. It is entirely in Singapore's interest that Iskandar succeeds. More than that, it is also in Singapore's interest that this area of integration expands beyond Iskandar to also encompass at least the Riau Islands of Indonesia, and perhaps even some parts of southern Sumatera. Costs in Iskandar are already rising as it takes off. Moreover, if Iskandar is the only location Singapore companies can shift operations to, it may well see too disproportionate a Singapore presence, creating unwanted political reactions.
Rather than wait for potential problems to emerge, Singapore could take the initiative by reintroducing the idea of the Singapore-Johor-Riau Growth Triangle — which was proposed in the 1990s but fell apart when the Asian financial crisis erupted. For example, Singapore could undertake to help finance iconic mega projects to substantially boost physical connectivity among the three legs of the triangle by building bridges, pipelines and electricity transmission lines that would weave the region together.
Conclusion: Change in policy approach likely
Singapore has not shied away from bold policy changes in the past. The big bang of financial liberalisation after 1999 and the taboo-breaking decision to build integrated resorts in 2004 are just some examples. Singapore is approaching such a moment again — when incremental policy changes have to give way to more transformational changes. Investors have to be prepared for important changes in this regard.
This story first appeared in The Edge Singapore weekly edition of Dec 31, 2012-Jan 4, 2013.