Response to three letters on CPI, inflation and interest rates - ST Forum, 4 May 2012
1 We refer to the letters (ST 4 May 12) by Ms Wendy Yuen (“The joint reply has left me more confused”), Mr Christopher Teng (“Inflation: Offer more relevant figures”) and Mr Yeo Chee Kean (“Using interest rates to cool domestic demand”).
2 Ms Yuen suggested that housing prices should be used to measure the cost of consuming owner-occupied housing. We understand the intuition behind this suggestion. However, the Consumer Price Index (CPI) covers only consumption expenditures. A house is both a consumption good and an investment good. As house values could appreciate or depreciate, its inclusion will introduce capital gains or losses into the CPI. To reflect only the consumption element of owner occupancy, the actual market rental is a more suitable proxy.
3 Mr Teng suggested highlighting inflation figures that directly measure the cost experience of the majority of Singaporeans. This is indeed important. The CPI is based on a detailed survey of households’ consumption patterns. The weights in the CPI reflect the consumption behaviour of a representative household. However, individual household’s consumption pattern could differ from the representative household. The sub-components of CPI thus provide more details that might relate to the experiences of particular households. For instance, year-on-year food price inflation came in at 2.7% in March 2012. A consumption basket comprising food, fuel & utilities, and public transport, as suggested by Mr Yeo, will show an inflation rate of 4.0%, while the overall CPI inflation rate was 5.2%.
4 Mr Yeo is right that COE prices cannot be ignored because of the spillover effects on consumer prices. Indeed, the CPI captures the effects of higher COE premiums transmitting to the prices of other goods and services, including public road transport.
5 Mr Yeo also suggested that interest rates be used to control inflation. The exchange rate has a significant impact on the prices because the majority of products Singaporeans consume come from abroad. An exchange rate appreciation is thus an effective way to control inflation, but this has to be balanced against the adverse consequences on businesses. Interest rates play a larger role in determining asset prices compared to consumer prices. Since we cannot control both the exchange rate and the interest rate given free capital flows, the government relies on measures such as the loan-to-value ratio and stamp duties to manage asset price inflation. MTI and MAS will continue to place priority on addressing price pressures in the economy.
Mrs Cindy Keng Director Corporate Communications Division Ministry of Trade and Industry
Ms Angelina Fernandez Director Corporate Communications Office Monetary Authority of Singapore