Assess the extent to which an improvement in the standards of living within an economy requires prioritising the management of inflation.

‘The Monetary Authority of Singapore’s [MAS] traditional defense of a strong Singapore dollar policy is built on balancing imported inflation against export competitiveness.’

– The Straits Times, 29th July 2014

Assess the extent to which an improvement in the standards of living within an economy requires prioritising the management of inflation.      [25]

INTRODUCTION

SOL refers to the level of comfort and material goods available to people in a certain geographic area or of a certain socio-economic status. It includes both material and non-material aspects of life.

Inflation refers to a sustained increase in GPL within an economy.

WHY and HOW ‘MANAGING INFLATION’ MAY LEAD TO AN IMPROVEMENT IN SOL

Inflation erodes away purchasing power of consumers, which reduces their ability to consume goods and services assuming income level stays constant.

·        Persistently high inflation may deter investors due to high cost of production and lack of predictability on the effects on profits

·       Countries like Singapore use an exchange rate policy and allow for a modest and gradual appreciation stance in order to bring down prices of imported goods àthis helps to reduce prices of imported goods (essential for resource-poor countries like Singapore)

·        Low inflation may also help to maintain export competitiveness since it helps to keep prices low àincrease in (X-M) àincrease AD àincrease in RNY (via k process) àhigher material SOL 

Figure 2: Effects of a fall in (X – M)

WHY “MANAGING INFLATION” AS THE TOP ECONOMIC PRIORITY MAY NOT NECESSARILY MEAN AN IMPROVEMENT IN SOL

1. Trade-offs in Managing Inflation

2. An appreciation of the exchange rate may directly reduce the export competitiveness since exports become more expensive for foreigners with a stronger domestic currency àfall in (X – M) àfall in AD àfall in RNY and increase in unemployment àdecrease in SOL

·        (RWA) Other countries may use contractionary demand management policies to manage inflation. While contractionary demand management policies might bring about a fall in inflation, there may also be a corresponding fall in RNY and an increase in unemployment (refer to Figure 2)

·       Managing unemployment should be the preferred priority

MANAGING INFLATION DOES NOT HELP NON-MATERIAL SOL

Managing inflation deals largely with promoting growth and allowing people to maintain their purchasing power but has very little to do with improving the non-material SOL.

·       For example, stress levels, environmental pollution and healthcare standards are not really significantly altered through managing inflation.

Conclusion

While managing inflation would generally help improve SOL within an economy, more details regarding the means by which inflation is managed would have to be known. The management of inflation through contractionary demand management policies must be complemented with appropriate policies to mitigate the negative impacts of the former, if the economy is already operating at excess capacity.

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