Looking at the world through the lenses of Singapore A level Economics =D

Third Inter-Governmental Project based in Chongqing

The biggest news this week is indisputably the visit by Chinese’s President Xi Jinping to Singapore. The visit is a historical moment. Besides the increase in economic cooperation that China will continue to have with Singapore, Singapore also acts as a 3rd party facilitator to the meeting between Chinese President, Xi Jinping, to Taiwan’s president, Ma Ying-jeou. However, what particularly caught my attention was also the decision by China and Singapore to embark on a third inter-governmental development project.

A Look at Historical Project between China and Singapore

Given the close bilateral ties between Singapore and China, Singapore has been a forefront of China’s development as it seeks to reform its economy at different stages. Given Singapore’s experience in this area, from the 1960s to now, we have aimed to share our experience with the Chinese government.

  1. Suzhou Industrial Par– The Suzhou industrial park emerged as a concept in 1994 where after the famous Southern visit by Deng Xiaoping in 1992, the government was looking to further open up to investments after the ideological crisis previously. The Chinese government was particularly impressed during the Singapore visit by the formation of various industrial parks by Jurong Town Corporation(JTC) and was considering the replication of this model to China. Contrary the popular belief, the project was not a complete success. Cultural reasons and also misunderstanding from the emergence of a similar industrial park in Suzhou known as the Suzhou New District resulted in increased competition and the lack of complete success to the project. In 1999, current Transport Minister, Khaw Boon Wan, declared that Singapore will sell 30% of its share in the project to the Suzhou managerial board and retreat from the majority shareholder to that of a minority. Nonetheless, the project was an important stepping stone to future collaborations between both nations. Singapore will learn from the experience.
  2. Tianjin Eco-City– In 2007, as China’s manufacturing economy had fundamentally matured. A new problem emerged for the administration. Economic development had largely come at the expense of the environment. Various food safety issues emerged and 7 of the world’s 10 most polluted cities were situated in China. The Sino-Singapore Tianjin Eco-City was declared as a second governmental-project that serves to act as a model for sustainable development in China. Singapore had a massive edge in the development of clean-water technology(Hyflux), urban planning and transport planning. The project aimed to capitalize on this areas to develop a sustainable city-model that could be potentially replicated across various areas in China.
  3. Guangzhou Knowledge City – By 2009, many of the coastal cities were experiencing slowing growth. This was surprising given Guangzhou’s undisputed status as China’s fasting growing region. Guangzhou is as the forefront of China’s development but many of its capital-intensive industries were gradually shifting out. In 2011, the Guangzhou Knowledge City emerged as a possible growth model for the wealthier regions. Its focus were high end manufacturing industries such as Information & Communication Technology (ICT), Biotechnology and Pharmaceuticals, Culture & Creative Industries, and Science & Education service. The project was a private sector initiative supported by the government. Though it is not considered an inter-governmental project, it still holds particular significance as it reflects Singapore’s position in every stage of China’s development. The Guangzhou Knowledge City is clearly a reflection of China’s intention to reform its coastal economies to high-end technological manufacturing to sustain its economic growth.

Where are we headed?

The next inter-governmental project will be officially known as the “China-Singapore (Chongqing) Demonstration Initiative on Strategic Connectivity”. Chongqing, with a population of 33 million, beat Chengdu and Xi’an to secure the project. The fact that all 3 possible locations for the collaboration are situated in the western region of China is no plain coincidence.

Firstly, as China now revises its growth towards 6.5%, it is clear that it is at an important crossroad where it must reform its economy to avoid the middle-income trap. The middle-income trap is a situation faced by developing countries where they experience sluggish growth as they are sandwiched in between the undeveloped high-end manufacturing sector, financial and service sector and the gradual erosion of their comparative advantage in labour-intensive industries. Many of its coastal cities are already experiencing diminishing growth, it must thus inject new energy into the economy by improving urbanization, resource allocation and encouraging innovative SMEs.

The Western regions of China is often considered less developed due to its distance away from the central capital and its lack of basic infrastructure. That’s how the idea of ‘1 China, 3 worlds apart’ emerged by the way. But, it is also an untapped region filled with precious water, metal, oil and natural gas reserves. Thus, China desperately need to improve the connection between its Western poorer regions and its rich coastal regions. This can improve trade, investment and narrow the development gap between the 2 regions. That is the fundamental reason behind why all 3 possible cities Xi’an, Chengdu and Chongqing are situated at a strategic linkage between the 2 regions.

Chongqing is probably chosen as it was ranked first in GDP development recently and many Singapore companies are already established within the city. Chengdu already hosts the Singapore-Sichuan High Tech Innovation Park and Xi’an state of development is slower as compared to Chongqing thus they may not attract as many profitable investments.

The project will also serve as a milestone to China’s regional strategie- the “One Belt, One Road” initiative which aim to boost trade and investment along the overland Silk Road Economic Belt and the 21st Century Maritime Silk Road connecting China with South-east Asia, Africa and Europe.

Which industries will stand to benefit:

The official statement declared that the four priority areas of collaboration are in financial services, aviation, transport and logistics, and information and communications technology.

While I may not be an expert in investment, we can expect the 3 local banks to be benefit from such establishments. They already have separate branches in Chongqing and the collaboration will provide opportunities for the further opening up China’s financial sector in terms of issuing corporate bonds denominated in RMB. There may also be increased application for loans as the western regions have massively untapped investments and need for financial services. Moreover, it is quite likely that Chongqing may emerge as a third financial centre after Shanghai and Hong Kong due to its proximity to the western regions and China’s desire to gradually internationalize the Yuan.

I am also drawn to the immense potential of Chongqing becoming a transport and logistics hub. While there is possibility as it emerging as an aviation manufacturing centre or in the areas of data centres as envisioned by its local government, it have an immense potential in becoming a logistical base. It stands at a strategic location bridging the gap between the coastal regions and the less developed areas. Moreover, it can also act as a center to the urbanization trend across the less developed areas. As such, it becomes a perfect place as a logistical base if key infrastructures are in placed for the distribution of goods and services especially with the emergence of online shopping and regional supply chains.

What we can expect

The new project is an important point to a further improvement of bilateral relations between both nations. However, we must be cautious as previous governmental projects have all been situated at the coastal regions, where there is inter-connectivity to global markets, while the Chongqing initiative more likely requires local investments and support. We must also be reminded that the waves of governmental projects and their increased complexity is a reminder that Singapore needs to constantly innovate to be at the forefront of the product life-cycle or we may be left behind. China proves both as an opportunity an a threat to our comparative advantage and we must improve ahead with the times.


In a Nutshell(Part 3) – A MICRO-economist’s View of the Sub-Prime Mortgage Crisis

Part 1        Part 2         Part 3

In this last part in the analysis, lets look at the Micro causes that contributed to the crisis.

BEWARE: MANY FINANCE TERMS AHEAD!(Click on the hyperlink to get a succinct explanation)

  1. Financial Deregulation

In 1933, after the outbreak of the Great Depression, Congress fundamentally reformed banking with the Glass-Steagall act. A key feature of the act  prohibited banks from being “engaged principally” in non-banking activities, such as the securities or insurance business. Firms were thus forced to choose between becoming a bank engaged in simple lending or an investment bank engaged in securities underwriting and dealing.

However, faced by a deregulation spree during Reagan’s time as a need to combat stagflation, financial institutions used this opportunity to campaign against the need for greater oversight. The act was finally repealed in 1990s as commercial banks were allowed to hold 25% of their revenues in investment banking, which were deemed to be more risky and susceptible to panic. This led to the increased involvement of commercial banks in the ‘shadow banking’ industry. This increased the risk of systematic failure as the funds from Main Street which were deposited into commercial banks were brought into the unconventional areas of financial innovation. The credit expansion resulted in massive leverage across major banks, fueling the bubble while increasing the possibility of systematic default.

  1. Market Failure – Asymmetric Information

As a result of the financial deregulation that occurred, financial innovation led to the expansion of the security market and the creation of complex financial products such as collaterized debt obligations(CDOs) and credit-default swaps.

For example, CDO was a structured financial product that brought together various cash-flow generating assets such as mortgages, bonds which were essentially debt obligations acted as collateral(essentially something you lay claim on if the borrower fail to repay you). They were sold to investors with various returns, the higher the returns the less they were protected if the borrower were to default. [BY NOW, JUDGING FROM THE DIFFICULTY I EXPERIENCE IN PUTTING IT INTO LAYMAN’S TERM, YOU UNDERSTAND HOW COMPLEX IT IS]

These financial products were seldom understood by investors and many failed to take into account the risk that they were holding. It was a classical example of the principal-agent problem where sellers understood the financial products than the buyers. Moreover, credit-rating agencies gave these financial products AAA profile which was a signal to investors as safe investment.They should be acting as an independent oversight but lacked credible information in assessing the concentrated risks that these financial products posed. Moreover, there was a conflict of interest as credit rating agencies were paid by the banks who issued these financial products. Thus, they lack incentives to scrutinize the system.

Insurance companies(AIG) joined into the mayhem through the selling of credit-default swaps(CDS). Simply put, a CDS is an insurance policy against a default. Click the diagram below for a hypothetical situation:


However, while most insurance situations such as car insurance or life insurance are isolated cases. Mortgage defaults are cumulative situations. As the prices of mortgages fall, more individuals end up in liquidity crisis thus the risk of market default grow exponentially with each individual default. In other words, blinded by profit, insurance companies failed to evaluate the risk they were taking, another case of asymmetric information.

The various degrees of asymmetric information between investors and banks, between credit-rating agencies and banks, between banks and insurance companies misallocated large amount of capital into the industry. These financial products were deemed safe and provided massive yield to various parties. However, in actual fact, they were all dependent on the growth of the real estate industry. As long as housing prices rose, the game was on. But, once the music stop, the massive panic triggered a feedback loop that involved the fire-selling of financial assets and the  massive fall in prices and liquidation. The result is an expansion of a real estate bubble that was intertwined with the financial industry and thus will destroy the financial sector as the bubble pops.

  1. ‘Too Big To Fail’ – Moral Hazard

There is a common consensus that the financial deregulation that occurred in the 1990s resulted in the rapid expansion of banks and their role in the global economy. Large corporations such as Goldman Sachs and Citibank opened up branches all over the world and they acted as key financial intermediaries to the global economy. However, their size became a major liability to the global economy. Since they were overly large, they were deemed to be overly important to the US economy for them to fail. Thus, this resulted in a form of moral hazard. Understanding that the US government will intervene provide liquidity during a financial crisis, it encouraged these major corporations to excessively pick up risks, further destabilizing the financial sector.

Loan to deposit ratio were over 100% in 2007 just before the break up of the crisis which effectively meant that banks were incapable of providing liquidity in the event of massive defaults. The default of Lehman Brothers or Northern Rock is largely a result of overly leverage portfolio that led to their susceptibility to bank runs. Moral hazard thus encouraged unwanted risk taking.

  1. Market-distorting American legalization

While there is a common consensus that the cause of the crisis was a housing bubble, the massive defaults were largely a result of the fact that 40% of all U.S. mortgages were held by sub-prime borrowers- individuals who had low credit ratings and low income who would not have acquired loans without the aid of the government and the government state-enterprises(GSEs) Fannie Mae and Freddie Mac. In 1992, Congress gave a ‘new affordable housing’ mission to both GSEs. Thereafter, it made its first ‘trillion dollar commitment’ to provide affordable housing, often to sub-prime borrowers who ran a high risk of defaulting on their debts.

Moreover, possibly politically motivated, the Community Reinvestment Act was enacted in 1995 which required that banks displayed proof that they were providing loans to underserved communities. However, though well intended to prevent racially discriminating practices, these communities were filled with large percentages of borrowers who have low credit standing that did not qualify them for a conventional mortgage loan.

To meet this new requirement and to achieve ‘affordable housing’ for various communities, GSEs bought mortgages from banks and property developers and sold them to sub-prime borrowers at discounted rates, approving lending practices that they once denounced. The erosion of credit standards posed systematic risk to the whole real estate industry.

Shortly after these new mandates went into effect, the nation’s homeownership rate–which had remained at about 64% since 1982 increased to 67.5% in 2000 under President Clinton, and an additional 1.7% during the Bush administration.

The percentage of mortgages held by GSEs over all mortgage originations increased from 37% to 57% from 1994 to 2003. Leverage ratios reached 75 to 1 which were a clear sign of government support but triggered systematic risk. Since many of these loans were offered to borrowers with low credit ratings, the result was a rapid expansion of default risk across the whole real estate industry. It thus destabilize the whole real estate industry and capital was misallocated into the industry further encouraging the bubble.


By now, you would have realized that the global financial crisis in 2008 was a result of a myriad of factors in which some I have failed to mention. Though it has been 7 years since the collapse of Lehman Brothers, we must not forget to draw important lessons from the crisis to avoid a repeat of such a disaster.

Final Pondering Questions:

  1. Is there any justification to prosecute bankers for their mistakes given the complexity of the crisis and the various groups of individuals contributing to the crisis?
  2. How has the study of Economics been affected by the crisis? Check out Behavioural Economic.
  3. An going hypothesis claims that the period of sustained economic growth and low inflation from 1987 to 2003 – ‘The Great Moderation’ resulted in the crisis? How is this possible in terms of human perceptions?

In a Nutshell(Part 2) – A Macroeconomist’s View of the Sub-Prime Mortgage Crisis

Part 1        Part 2         Part 3

From a macro point of view, there were mainly 2 macroeconomic causes that contributed to the creation of the housing bubble.

  1. Loose Monetary Policy – 2000-2007

A possible hypothesis that has emerged claims that the creation of the housing bubble was due to loose monetary policy after the dotcom bubble burst in 2001. Following the 2001 recession, a result of the burst of the technology bubble, the target fed funds rate(effectively interest rates) fell from 6.5% in December 2000 to 1.75% in December 2001 and 1%  in June 2003. As seen from the graph below, these rates have not been seen since the 1950s and it was only reverted back to normal range towards 2006.

The Taylor Rule was popularized by Noble Economist, John Taylor, as an interest rate forecasting model that acts as a ‘recommendation’ for how central banks should set their federal fund rates to stabilize the economy in the short-term while maintaining long-term economic growth.

It can be seen quite broadly that using the Taylor Rule(Blue Line) as a general guide, fund rates were consistently lower than recommended rates from 2001 to 2006. Loose monetary policy increases incentive for asset managers in financial institutions to search for higher yield investment products thus increasing risk taking. Moreover, low interest rates fuel increase lending, especially in investment, which contributed to the credit expansion of the housing bubble as more liquidity flowed into unrealistic expectations.

  1. ‘Persistent’ Global Imbalances

From 1970s to 2008, emerging Asia and many of the oil-exporting countries managed to achieve large current account surpluses due to their successful export-orientated strategy. Such a trend should have predicted a general rise in their exchange-rates.(Demand for currency is a derived demand for goods) or a breaking down of the USD due to capital flight that would have triggered a confidence,currency and financial crisis(reminiscent of the 1997 Asian Financial Crisis). The surplus countries delayed such a disaster by reinvesting the surplus funds back into the US which further expanded the monetary base, encouraging excessive consumption and risky investment. The financial crisis indeed manifested but not envisioned by experts, it came in the form of the implosion of the real estate bubble as excess liquidity resulted in unrealistic asset prices.

The imbalances were a result of the following factors:

  1. The US current account deficit can be identified as a result of excessive consumption, low household savings, accomodative monetary policy(as previously mentioned) and a gradual lost of export competitiveness in certain sectors of the economy. Moreover, the US is the world’s reserve currency which entitles it an ‘exorbitant privilege’. As previously mentioned in an older article(Check out the ARTICLE), the US is able to issue out government securities indefinitely due to the importance of its role in global trade and financial sector.
  2. On the other hand, the surplus countries especially China are disposed to assume the role of creditor as a result of domestic economic conditions.
    • Export Orientated Growth(High X-M)
    • Undeveloped financial sector results in a lack of viable local investment opportunities(Investment dearth). It thus leads to excessive savings in financial institutions that aid state-own enterprises but hurt SMEs and the rest of the population(low returns since supply of funds is big)
    • Weak social security nets encourages precautionary savings
    • Cultural reasons
    • Under-valued exchange rates sustained the export-orientated economic boom among many of the developing countries.
    • To build up large foreign-exchange reserves(US Dollar) in response to the painful experience of the Asian Financial Crisis in 1997

    The result was a global savings glut that was contrasted with a investment boom centralized in US. The excess liquidity result in the inflation of asset prices, significantly contributing to the creation of the financial bubble. Many of these financial products were also sold to investors from emerging economies as they entered the US market for investment opportunities.  The global savings glut resulted in the gradual fall in long-term interest rates which further fueled credit expansion. The financial crisis was thus a result of ‘mutual cooperation’ deemed to be unsustainable from the beginning.

Questions to ponder about:

  1. Is there a justification to burst potential credit bubbles with monetary policy?
  2. Have there been an improvement in the persistent global imbalances after the crisis?

Check out Part 3…..

In a Nutshell(Part 1) – Sub-Prime Mortgage Crisis

Part 1        Part 2         Part 3

Recently, I just finished reading “The Map And The Territory: Risk, Human Nature and the Future of Forecasting” by Alan Greenspan, who served as the Chairman of the Federal Reserve of the United States from 1987-2006 and was struck by his succinct explanation of the factors leading up to the disaster.(It is an excellent book btw, HIGHLY RECOMMENDED if you are an Economics enthusiast like I am).

As with all Economic problems, one has to look beyond the surface of evil bankers and large banks to understand the complexity of the issue and the contribution made by different parties that culminated into a large housing bubble. In this 3-part special, we will give a short and brief analysis of the micro and macro reasons that resulted in the crash.

A crisis of historic proportions

The financial crisis that struck the world beginning from the summer of 2007 is without precedent in economic history. Although its size and global impact was exceptional, it had many features that were common among other historic financial crisis. It was preceded by long periods of credit growth, low risk premiums, abundance of liquidity, strong leveraging, soaring asset prices and the creation of a massive bubble, this time in the real estate industry. Financial Institutions(Banks) overly leveraged profile resulted in their vulnerability to even small dips in the mortgage industry.

Though the crisis fully exploded towards the summer of 2007, cracks in the real estate industry were emerging by 2006, the market has been expanding over too long and space capacity was bound to emerge. There was a clear detection of over-confidence as housing prices, historically averaged around USD 150,000-200,000 but by the end of 2006 were reaching nearly USD 350,000

In its early stages, the crisis manifested itself merely as a liquidity shortage among financial institutions as mortgage defaults resulted in increased difficulty to clear their short-term debt as confidence declined. While there were increasing concerns over the solvency of banks, there were still no clear signs of systematic default. However, this perception dramatically changed after the bankruptcy of a major US investment bank, Lehman Brothers, (may have been a mistake to allow the bank to default).

From then on, there was massive market panic. Confidence plummeted, investors and financial institutions fire-sell their assets, regardless of price, to acquire liquidity which was deemed to be the safest and the stock market went into a massive downward spiral. This further depressed asset prices thus further endangering investors and banks which thus culminated into a dangerous feedback loop.

Banks distrusted one another and refused to lend which further sapped liquidity from the market. Business investment and consumer demand nose-dived and the massive layoffs were only a matter of time. Many swarmed to banks to retrieve their savings and a bank run was in way.

While the massive panic was eventually stopped, the damage has been done. Unemployment rates will eventually soar from 4% to nearly 10%.

The whole world was affected but it was the advanced economies that were hit the hardest due to their exposure to the financial sector.

In the next series of posts, we will aim to explain the factors contributing to this massive crisis.

Check out Part 2.….

The Reserve Currency – Benefits and Complications

It is a well-established fact that the US$ position as the world’s reserve currency confer it many benefits that other countries yearn for. With China’s economy booming, many have highlighted that the China RMB may eventually pose a threat to the US’s position as the world reserve currency. They worry that the RMB will replace the US$ eventually much as how the US$ replaced the sterling gradually after the first world war. That still seems to be mere scare-mongering tactics with the closed financial system of the China’s economy.

However, the questions remains:

  1. What are the benefits of being a reserve currency?
  2. What are the lesson known complications of being the reserve currency?

 What are the benefits of the reserve currency?

  1. Currency Stability

The US$ constitutes almost 80% of world transactions. More than 60% of foreign reserves of central banks and governments are US$. Given the dominance of the US$ in world trade and financial transactions, the world is dependent on the issuance of US$ to sustain the economy. Investors typically will want to avoid currency swaps to reduce profit lost. As a result, they will pick the currency that serves as the most common medium of exchange or simply the reserve currency. When the sub-prime mortgage industry imploded in 2008, the US$ in fact appreciated for a short period of time. This reflect a general swamp to a safe haven both by government and investors even though USA was fundamentally at the center of the crisis. This differs significantly from other crises such as the Asian financial crisis in 1997 and more recently the Eurozone crisis, both of which the currency has significantly depreciated. This reliance on the reserve currency allows it to ensure currency stability which further boost the confidence of investors on its economy. Currency stability ensure stable expected rate-of-return for businesses and becomes useful to sustain economic growth.

  1. Increased Borrowing due to lower bond yields

Conventionally, when a nation runs high in government debt and lands itself in a recession, it increases the risk of defaulting on its loans. Thus, bond yields rise due to a lack of investor’s confidence and credit-rating agencies lower the investment grade of government bonds. This has been the case for Greece as high government debts and the inability to produce its own currency has increased its risks of default. Bond yields have spiked to nearly 7% and credit rating agencies(Moody/S & P) have deemed its bonds as junk status. However, this situation is inconceivable in the case of the reserve currency. As a result of the reliance on the reserve currency on monetary transactions and the inertia faced in any attempt to replace it, confidence in the US$ can be considered stable and indefinite. The demand for its government bonds and currency is so significantly high that it results in an unwavering advantage. Its government can typically borrow indefinitely from the world. As of 2015, the US government debt is nearly $18 trillion dollars, constituting around 102% of its GDP and it seems to be continuing to rise indefinitely. Admittedly, there seems to be no limit to its debt accumulation. The long-term result is that the US economy can produce and consume well above other countries since many will be willing to lend to its government.

In other words, the US benefited by paying for imports with costless dollars. In turn, the US’ main trading partners enjoyed robust demand for their products, creating employment and income growth.

This all seems like a good thing for the global economy. But, is it?

 What are the problems of a single world reserve currency – Triffin’s Dilemma?

Originally raised by Belgian born American economist Robert Triffin in 1960s as a reference to the instability of the Bretten Words system in view of the peg of the world currency to the US dollar, it still shows its relevance today. Robert Triffin notes that the US dollar’s position as a world reserve currency resulted in a clash of interest between domestic objectives and international obligations.

On one hand, the world needed the US$ for liquidity purposes but on the other, this made it easy for the US to run consistently large current account deficit. Thus, it is inaccurate to blame the US consistently large currency account deficit mainly on China or lowering export competitiveness. The US$ is thus severely undermined during good economic times which destabilizes the world economy and potentially result in an ability for market forces correction and thus an eventual larger implosion of the world economy.

In the period from 2000-2007, the huge deficits brought about by excess US massive consumption produced a massive amount of liquidity in the world economy. While Triffin’s dilemma would have predicted the collapse of the dollar, foreign governments sustain the value of the US$ by reinvesting its excess dollars back into the US asset markets for several years. However, this excess liquidity flowed towards the mortgage industry and led to the spike of asset prices. The result is an unstable creation of a massive financial bubble build on shaky fundamentals. In 2007, debt accumulation peaked and the collapse of the industry created the largest economic crisis in years.

In such a crisis, the US government will aim to depreciate its currency to gain a certain exchange-rate advantage. However, the US dollar in fact was the only currency to appreciate against the other currencies since it acts as a safe haven for investors. Moreover, much of the liquidity vapourized returned to their source, pushing up the value of the dollar. The point is that in a crisis, the world currency trades above its value although its economic fundamentals is as weak as other economies. The US government may want to pursue a depreciation to increase its net-exports but its status as a reserve currency prevents such economic tools.

Moreover, its position as a reserve currency encourages reckless policies in their attempt to provide global liquidity. The inherent conflicts in the global monetary system that led to the great financial crisis has not been addressed. In fact the massive rise of the US currency in recent months despite a weak economy is a clear reflection of the relevance of Triffin’s dilemma.

Thus, unlikely what many Americans may assume, perhaps China joining the party may not be as poisonous as it seems.

Questions to ponder about:

  1. What are Special Drawing Rights(SDR) that are maintained by the IMF? How could they play a part in resolving the Triffin’s Dilemma?
  2. What is the current status of the RMB? How close are they to challenging the US position as reserve currency?
  3. What role must the Chinese government play to improve the Yuan’s role in the world currency market?

The different reactions to the Trans-pacific Partnership

After 5 years of grueling negotiations, almost 30 chapters of rules and regulations with potentially more to be added, the Trans-Pacific Partnership (TPP) multilateral negotiations are finally done. This is a massive free-trade agreement which is supposed to increase the trade and investment flows between member nations.

As with any huge and monumental event, there have been starkly contrasting views.

Screenshot 2015-10-13 21.57.11

Dr Mahathir, the former Prime Minister of Malaysia, has branded the TPP a bad idea for Malaysia. His main argument is that Malaysian companies will be unable to compete with foreign companies now that there is little means of “discriminating” in favour of local companies, i.e. protectionist measures like tariffs can’t be used anymore to give local enterprises any advantage over the competition.

Across the causeway in Singapore, the mood is very different.

Prime Minister Lee is optimistic that the TPP will give Singaporean companies, including small-medium enterprises, access to a much wider market and investors will get a fair and level playing field. The mood is almost positively buoyant!

Is there something in the TPP that causes these starkly contrasting reactions? This is unlikely. This difference in opinions stem from different starting points in each economy. Singapore has long ago embraced the idea of globalisation while Malaysia has resisted aspects of globalisation.

Singapore’s embrace of globalisation means that we understand and embrace the theory of Comparative Advantage as conceptualised by David Ricardo. When it’s obvious that our factor endowments are not suitable for a particular industry, Singapore allows the industry to decline and die out. We do not resist market forces but instead try to stay ahead of market conditions. As such, we seek new comparative advantage such that when existing comparative advantages decline, our growth and employment indicators are not affected that greatly.

For various reasons, including political and nationalistic reasons, Malaysia chooses to use protectionist measures to protect industries which has not shown evidence of comparative advantage. A classic example is the automobile industry where the tariffs imposed on imported cars allow local car brands such as Proton to have an advantage. Proton however has yet to make any headway as an export after many years in existence, providing evidence that Malaysia doesn’t have the factor endowments for car manufacturing to be considered a comparative advantage. The TPP may compel Malaysia to ease or abolish tariffs and it remains to be seen whether Malaysian companies who have gotten used to protectionism can compete.

The Oil Slump – Causes and Consequences

As oil prices now edge towards $45 a barrel, it is important that we analyze the events of 2014-2015 that culminated into this slump in prices. Oil is a key resource that affects the global aggregate demand and inflation. It also act as an important source of revenue for many oil-producing developing countries(Venezuela/Saudi Arabia) thus shocks to its price can have far-reaching consequences to the global economy.

What are the demand and supply factors responsible for the price slump? 

  1. Demand – (Income):Global oil prices are affected by the state of the world economy, as China now slows down due to its need to reform its economy towards a more consumption based economy, its demand for commodities, including oil is greatly reduced. Moreover, given the Eurozone Crisis, much of the Euro is entrenched in a structural problem of low wages, high government debt and low economic growth. Such global slowdown resulted in a decrease in world demand for oil since production levels are reduced.
  2. Supply – (Technology and Cost of Production): The OPEC countries once had an overwhelming control on oil prices but with the improvement of technology in fracking, oil sands and shale oil. The cost of retrieving oil was greatly reduced in these areas which were once assumed to be non-profitable for firms to extract out of the seabed. This massive swarm of an increase in USA and Canada producers flooded the global market with oil. The success of Texas is a reminder of the success of the shale boom.

The public announced decision by Saudi Arabia- the largest producer in OPEC- not to reduce production in view of steadily increasing world supply and the declaration of OPEC to maintain their collective production ceiling of 30 million barrels a day have all ensured that oil prices remain at low levels.

How persistent is this supply shift likely to be?

This depends on mainly 2 factors:

  1. Firstly, it depends on whether OPEC, especially Saudi Arabia, will be willing to cut oil production in the future. This in turn depends on motives behind its decision to maintain production despite falling prices. A possible hypothesis is that Saudi Arabia has found it too expensive to ensure high prices in view of increasing production from non-OPEC countries. It risks losing market share and revenue as importers search for better alternatives. If so, unless agreed upon by other heavy producers such as Russia and other OPEC countries to share the burden, the decision to continue production may be a long-term one. Another possible hypothesis is that it may be an attempt by OPEC to reduce profits, investments and eventually supply by non-OPEC suppliers, many who face higher cost of extraction compared to OPEC countries.. (The chart below shows the cost of production by various forms of oil extraction-non-OPEC countries such as USA and Canada extract a large percentage of their oil from shale and oil sands)
  2. Secondly, it depends on how investment and capital expenditure will respond to falling oil prices. Given the nature of firms to respond to current prices, overall capital expenditure by major oil companies is likely to fall. Accordingly to the Rystard Energy, the break-even price for shale oil producers lie around the price of 60USD. With oil prices hovering between 45USD-4USD currently, preliminary analysis suggest that prices may rise in the short-term. However, it is important to note that shale oil and oil sands companies have proven to be exceptionally resilient despite falling oil prices. The graph below shows falling break-even prices reflecting the ability of fracking companies to respond to falling prices. Most have improved productivity due to shorter drilling time(pad drilling) and shorter completion time(increased used of zipper fracs). Given the innovation that US firms have showed over the years, it is likely that over the long-term oil prices may hover around 50USD over a longer period of time than expected. Moreover, with the Iran nuclear deal possibly coming to a consensus, Iran may enter the picture, pushing supply higher.

The Chinese economy will take time to reform itself and its voracious demand for commodity has likely peaked. Moreover, the introduction of new producers from USA and Canada has severely undermined the control of the OPEC countries. These are budding entrepreneurs willing to adapt and innovate to stay profitable in the industry. Evidence seems to suggest that though the oil prices will continue to be subjected to high volatility due to political instability, the slump in oil prices is likely to be a long-term trend.

What are the effects of such a long term price decrease? Which economies will struggle?

With oil prices tumbling down, oil-exporting countries are bound to be affected due to low export revenues. Countries such as Saudi Arabia and Qatar have been able to ensure stability as they have sufficient fiscal space to maneuver around. But, if oil prices were to continue to remain low, it may grind down on the limited fiscal space available. Saudi Arabia especially is at risk as it is caught up in an expensive war in Yemen and its social policies are often expensive but inefficient. Other oil-exporting countries such as Venezuela and Brazil which are overly-reliant on oil export revenues, lavished on social often populist policies and failed to reform their economy during the commodity boom are already experiencing low economic growth and political instability(Petrobas scandal).

On the other hand, oil-importing countries such as Indonesia and Philippines is likely to benefit from low oil prices as disposable income rise can lead to increase in consumption and reduction in cost of production across many diverse set of goods. Energy intensive countries such as India and China will experience a more significant improvement in their economy as production costs fall due to falling energy prices. Low oil prices also provide a good opportunity for many developing countries to cut energy subsidies. For example, India was able to reduce diesel subsidies recently and there were no protests. Indonesia given its high energy subsidies should follow suit given long-term benefits.

Questions to ponder about:

  1. Why have local petrol prices remain high despite the oil slump?
  2. How have Singapore’s petrochemical industry fared in view of the oil slump?
  3. How will the oil slump affect industries? Which industries stand to benefit the most?


Blanchard, Olivier J. and Jordi Gali, 2009. The Macroeconomic Effects of Oil Price Shocks: Why are the 2000s so different from the 1970s? in J. Gali and M. Gertler (eds.), International Dimensions of Monetary Policy, University of Chicago Press (Chicago, IL), 373-428

Rabah Arezki and Olivier Blanchard Seven Questions about the Recent Oil Price Slump, .iMFDirect. Retrieved from

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