Macro

Question 1

The Monetary Authority of Singapore will continue with the policy of a modest and gradual
appreciation of the S$ foreign exchange rate to ensure medium-term price stability.
(MAS Policy Statement, 14 October 2010)
(a) Explain how exchange rates are determined in Singapore.
[10]
(b) How far do you agree with the proposition that an appreciating Singapore dollar
will lead to price stability?
[15]
(a) Introduction:
Define exchange rate exchange rate is the value of ones currency in terms of
another currency.
Context of Singapore: Singapore dollar is managed against a trade-weighted basket
of currencies of our major trading partners and competitors. The trade weighted
Singapore dollar is allowed to float within an undisclosed band. The band allows short
term, temporary movements in response to crisis; as buffer to external shocks.

Body:
Explain Singapores managed float regime in exchange rate determination
Explain how free forces of demand and supply of S$ affect the S$ exchange rate.
o Explain factors affecting demand and supply of S$ Any 2 ideas (1 each for
current account and capital account show changes both in the demand and
supply of S$)
Current account relative inflation rates, changes in income levels of
trading partners
Eg. Increase in the demand of Singapores goods and services by
foreigners increase the DD for S$ Appreciation of the S$.
Capital account inflow-outflow of FDI/Hot money flows
E.g. Fall in interest rates in other countries Relative interest rates rise
in Singapore Fall in hot money outflow Fall in DD for foreign
currency Fall in the SS of S$ in the foreign exchange market
Appreciation of S$

Explain how MAS manages exchange rate within target band
o When S$ appreciates beyond the target band set by MAS, the central bank will
increase the supply of S$ in the foreign exchange market by increasing the
demand for foreign currency, and selling S$. Increase in SS of S$ will
decrease in external value of S$ in the foreign exchange market.
o When the $$ depreciates below the target band set by MAS, the central bank will
increase the DD for S$ in the foreign exchange market by selling foreign currency
(foreign reserves). Increase in DD will lead to an appreciation of the S$ within
the band.

Illustrate the effects diagrammatically.
Explain the market mechanism how a change in DD/SS will affect the external
value of S$.




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Conclusion:
The interaction of demand and supply for Singapore currency in the foreign exchange
market determines the external value of S$.
- The change (appreciation / depreciation) of S$ can be due to a change in DD or SS
or a combination of DD and SS changes.


(b) Introduction:
- Explain what is meant by price stability low and stable inflation rate
- Appreciating Singapore dollars rise in the external value of the S$ against her
trading partners and competitors.
Body:
Thesis: An appreciating Singapore dollar can lead to price stability

- Explain how an appreciating S$ will dampen demand-pull inflation Illustrate a case
of demand-pull inflation diagrammatically (AD
0
to AD
1
P
0
to P
1
).

Appreciation of S$ rise in Px in terms of foreign currency fall in quantity
demanded for exports
Appreciation of S$ fall in Pm in terms of domestic currency rise in quantity
demand for imports
Assuming the Marshall-Lerner condition holds, where PEDx + PEDm > 1 Net
exports falls AD falls (AD
1
to AD
2
) dampening demand-pull inflation (P
1
to
P
2
).

Explain how an appreciating S$ will dampen cost-push inflation Illustrate a case of
cost-push inflation (AS
0
to AS
1
P
0
to P
1
).

Appreciation of S$ makes imports cheaper in S$ this will dampen the price of
imported factors of production fall in cost of producing of goods increase
AS (AS
1
to AS
2
) dampen cost-push inflation in Singapore (P
1
to P
2
).
This is especially important for Singapore, as she relies heavily on the imports

- Illustrate the effects diagrammatically.


















Anti-thesis: An appreciating Singapore dollar may not lead to price stability

- Explain limitations of appreciating the S$ to manage inflation
GPL
Real NY
AS
0

AD
0

Y
0

Y
2

Y
1

P
2

P
1

P
0

0
AD
2

AD
1

GPL
Real NY
AS
1

AS
2

AS
0

AD
0

Y
0
Y
2
Y
1

P
2

P
1

P
0

0

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Marshall-Lerner condition may not hold in the very short-run appreciation of
the S$ will lead to an increase in NX worsen demand-pull inflation.
Does not tackle the root cause of inflation
Domestic inflation: caused by structural rigidities, rise in wages/rent,
housing, COE, etc. Appreciation may not be effective in reducing
inflationary pressure.
Modest and gradual appreciation will limited the extent to which price stability can
be achieved.
Appreciation of S$ will reduce short run export price-competitiveness. In
the short run, there is a trade-off between policy objectives price
stability & economic growth, employment level in the export-oriented
industries.
Extent to which strong S$ can manage inflation is limited as the extent to
which the S$ can appreciate is limited due to the tradeoff.
Limits the extent to which a stronger S$ will mitigate external factors
causing inflation.
Overall Evaluation & Conclusion:
- Judgement: A strong S$ will lead to price-stability to the extent that it can dampen
demand-pull inflation and imported inflation.
- Seems to be effective given Singapores low and stable inflation rate. (in recent years,
inflation is high due to domestic factors)
- The extent to which it will lead to price stability depends on:
The root cause of inflation: will be effective if due to imported inflation and
rising DDx.
M-L condition
Short run vs long run effects
- Other evaluative comments:
LR: need other policies e.g. SS-side policies to achieve price stability over
the long term.
Costs of appreciating S$ may be high in the SR limiting the extent to
which S$ can appreciate.


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Question 2
To help Singapore achieve sustainable economic growth, the government has been reducing
income taxes and corporate taxes over the years. It also increased its reliance on indirect
taxes - raising the rate of Goods and Services Tax (GST) from 5% to 7% in 2007.
Discuss whether the changing tax structure will improve current and future living standards in
Singapore. [25]

Candidates are expected to examine how the change in tax structure may affect
actual growth and potential growth,
equity given the regressive nature of GST and as the income tax system gets less
progressive
non-material indicators such as pollution and stress level
tax revenue and tax base, and how that may impact on government ability to spend in areas
to improve livings standards, and
and how these points above may have an effect on current and future living standards

Suggested Outline:

Introduction:
- Living standard refers to the material and non-material welfare of each citizen in the country.
- Increase in current material SOL arises largely from a rise in actual growth and possible
increases in future SOL arises from the increase in AS due to raised productive capacity.
- Rationale for increased reliance on indirect taxes:
It is a trend amongst DCs to rely more on indirect taxes especially with a rapidly ageing
population that reduces the revenue from income taxes.
For Singapore, income taxes are less progressive (being capped at 20% at the highest tier
and at 15% for foreign workers) than most other developed countries as the government
wants to prevent brain drain and attract foreign talent. Corporate taxes were reduced to
17% with the objective of attracting FDI and encouraging entrepreneurship. The loss in tax
revenue thus has to be compensated by an increase in GST.
Thus, the under-lying objectives are more to affect AS than AD, though the effect on AD
cannot be ignored.

Body: Explain impact of changing tax structure on standard of living
Thesis: SOL may rise

Anti-thesis: SOL may not rise/or may not rise
that significantly
A. Effect on Actual Economic Growth
1. Effect of fall in direct taxes:
households disposable income rises
firms post-tax profits rise,
entrepreneurship is encouraged and
increased influx of FDI
as a result, AE rises - through multiplier
process real GDP increases
link to impact on material SOL
increases ability to consume more goods
1. Effect of fall in direct taxes:
rising AD can cause over-heating, thus
causing real GDP to rise by less
more importantly, it may worsen inequity
since the % rise nominal wages of the lower
income group may be rise less than that of
inflation rate , causing their real wages to fall


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and services

Note that there must be at least an explicit
recognition that real GDP per head,
instead of GDP, is the measure of material
SOL

Example:
Thus real GDP per head may rise,
assuming popn size relatively stable
In line with governments long-term plan
to increase the population size, a more
conducive income tax can attract more
foreigners to set up home in Singapore,
thus population size may also rise in the
LR link to effect on real GDP per head
effect depends on size of k

C as small % of GDP due to small domestic
market

unpredictable effects of taxes

2. Effect of rise in GST
With rise in GST which falls on firms:
AS decreases (upward shift in horizontal
segment of AS curve)
Ceteris paribus, this may lead to cost-push
inflation and a fall in real GDP


Synthesis
evaluate the relative impact on SOL due to rise in GST vs fall in direct taxes
effect of rise in AE possibly greater than fall in AS since the last GST increase was in
2007 while income taxes and corporate taxes have been reduced more significantly
with income taxes capped at 20% and corporate taxes reduced to 17%.
Over LT, increased population size due to more immigrants may increase C as % of GDP,
and could reduce Singapores dependence on X?
B. Effect on Future Living Standards
Future SOL may rise due to potential growth
and possible future realized growth

effect of reduced income taxes:
may increase incentive to work
increase in quality and quantity of
labour as Singapore retains and
attracts foreign talent

increased I (on plants and machines)
due to lowered corporate taxes

the above effects serve to raise
productive capacity and thus AS, with a
positive impact on future SOL
full employment frontier shifted
outwards, thus allowing for further
increases in AD
reduces inflationary pressures
brought about by increases in AD



Whether SOL rises depends on the extent to
which the corporate tax cut can attract FDI
- theoretically, one can look at MEI which
itself is affected by business prospects
- applied to the Singapore context, we face
competition from the region in terms of
attracting FDI

also issue of whether investment can be
labour-displacing



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Synthesis:
That the effect on AS may be more pronounced than the effects on AD, given Singapores
small k and small domestic market

C. Effect on Equity
The change in tax structure may worsen inequity
regressive nature of GST worsens inequity
as it takes a larger % of the poors income
furthermore, GST is broad-based and
necessities are not exempted
since demand is price inelastic, again
more adverse impact on the lower-income
group as their purchasing power is
reduced
compounded by the fact that Singapores
income tax is relatively less progressive, and
cuts in tax rates are more likely to benefit
those at the higher income brackets

Evaluation: that inequity can be reduced as government has in place transfer payments to
help the needy such as Workfare Supplement Bonus, GST and utilities rebates etc.
D. Effect on Tax Base and Tax Revenue
GST widens tax base and may be more
conducive for government efforts in
sustaining living standards
ageing population reduces size of
labour force and may reduce direct
income tax revenue
a switch to reliance on indirect tax
allows government to sustain its tax
revenue to finance spending in areas
to increase living standards
While there may be may be a temporary
fall in direct tax revenue due to the tax
cuts, this could be more than offset by
the rise in revenue as real national
income rises

E. Effect on Non-Material Welfare
1. Stress level
income effect: preference for leisure since
disposable income has increased

substitution effect: reduced income taxes
may increase incentive to work. Longer
working hours may reduce quality of life
increased stressed level due to competition
for jobs with influx of foreign labour
strain on infrastructure eg. public transport
and amenities with more foreign labour
Synthesis:
Recent studies have shown that Singaporeans have over-taken the Japanese and Koreans in
terms of the number of working hours. This could be due to factors like competition for jobs
which in itself may be a result of the change in tax structure.

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The impact on environment may not be
adverse

type of investment Singapore attracts
are more the technology-intensive
types and service-oriented eg.
biotechnology, biomedical,
pharmaceutical and integrated
resorts
if there is an increase in manufacturing
investment which is still vital to any economy
including Singapores, there may be more
negative externalities generated due to
pollution

or how increased growth and spending
power leads to increased car usage and
more pollution

Conclusion & Overall Evaluation:
- Recognize that sustainable growth and resultant impact on SOL may not be brought
about by a changing tax structure alone
- Whether SOL rises for everyone still depends on government efforts to trickle fruits of
masses down to the masses eg. through subsidies in education and healthcare
- Looking forward: how impact can be affected if GST rises further and some brief
suggestion on how system can be tweaked eg. exempting necessities from GST


Question 3

Many advanced countries like USA and UK have been adversely affected by the recent
financial crisis and increasing competition from emerging economies such as China and India.

(a) Explain the causes of unemployment in these advanced countries in recent years. [8]
(b) Discuss whether a change in interest rates is the best policy to reduce unemployment in
these countries. [17]
(a) Introduction:
- Define unemployment and identify types of unemployment.

Body:
Explain how the recent financial crisis in US and UK caused a recession by causing
an autonomous fall in Aggregate Demand and rise in unemployment:

Banking crisis:
credit crunch banks unwilling to lend money high risk of default =>
difficult for firms to get bank loans I falls
negative wealth effect fall in value of assets (financial and physical) => feel
poorer fall in C
Aggravated by bleak economic outlook C falls, I falls.
Use of AD-AS framework to explain how this leads to cyclical unemployment. If
diagrams are used, they must be integrated into the explanation.
C, I and X components of AD => AD falls fall in national income / output fall in
demand for labour (derived demand) demand-deficient /cyclical employment in
these economies.

Explain how increasing competition from caused unemployment.
Increasing competition from emerging economies loss of comparative advantage:

Greater competition in the global market exports of emerging economies
more competitive given lower cost of production due to cheaper inputs

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(relatively more abundant supply) fall in labour-intensive X, increase in M
=> C of domestically produced goods and services falls AD falls
Collapse of labour-intensive import-substituting industries in the US and UK
as consumers switched to cheaper imports from China and India.
Emerging economies China & India huge domestic market => proximity to
such markets is an important consideration and response to changing market
conditions => Possible exodus of foreign direct investment from advanced
economies as firms relocate to take advantage of the cheaper resources too
I falls.
Influx of foreign workers (cheaper source of labour) in advanced economies
increase in unemployment in advanced economies.
Outsourcing of jobs to China and India give examples of jobs that are
outsourced e.g IT-related jobs to India
Advanced economies in the face of such competition need to restructure
shift in production mismatch of skills => structural unemployment.

(b) Introduction:
Identify expansionary monetary policy: to reduce unemployment in these countries
expand money supply reduce interest rates
Define scope of analysis: Reduce cyclical unemployment and structural
unemployment.

Body:
Thesis: Interest rate policy is the best policy to solve unemployment
Explain how the policy works to solve unemployment
o Explain the transmission mechanism of fall in interest rate
o Explain how a fall in interest rate can help to boost employment through job
creation
Interest rate = price of loans.
Fall in interest rate => cheaper loans increase in investment, ceteris
paribus explain with reference to MEI function. Increase in volume of
investment job creation income generation increase in demand
for goods and services i.e multiplier effect)
Fall in interest rate => lower returns on savings / lower opportunity cost of
consumption increase in household expenditure, ceteris paribus
increase in demand for goods and services job creation boosting
employment.
Fall in interest rate => lower reward for saving => save less, consume
more => C increases.
o Is it the best policy to reduce unemployment?
If firms and households respond to the fall in the interest rate because of
good business outlook. Extent of job creation depends on the size of the
multiplier.
Possible evaluation: what is the possible size of multiplier in USA & UK
and therefore its impact on job creation.
External effect: outflow of hot money depreciation of countrys
currency which results in exports being cheaper in terms of foreign
currency, ceteris paribus. This can counter, to some extent, the initial loss
of X competitiveness to the emerging economies.
Possible evaluation: is this a long term solution to the unemployment
problem? How dependent are these advanced economies on imported
inputs from the emerging economies?

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Anti-thesis: Interest rate policy is the not the best policy to solve unemployment
Explain limitations of the policy:
o For policy to be effective, firms and households to increase investment and
consumption. However,
MEI inelastic less than proportionate increase in I when interest
rate falls. Therefore, is less effective. I more dependent on animal
spirit.
Is there already a liquidity trap? If yes, then fall in interest rate is
ineffective and thus not the best policy.
FDIs not affected by changes in interest rate alternative sources
of funds
More importantly, demand-management tool and does not solve
structural unemployment.
Effect on I and C is uncertain. Much depends on the economic
outlook e.g if pessimistic lower interest rate may not induce firms to
increase
Identify and explain alternative policies that are better than interest rate policy to
solve unemployment

o To counter the element of uncertainty in impact, government may want to resort
to expansionary fiscal policy.
E.g Fiscal stimulus increasing G on public works projects boost
demand increase in production and income fall in cyclical
unemployment. Better than interest rate policy? Analysis of merits
and demerits.
Merit: G increases amount injected into the circular flow can be
controlled by the government i.e first round of increase = the amount
that by which G is increasedk works its way through to bring about
an increase in income that is a multiple of this increase in G.
Demerit: crowding out. Its another demand-management tool that
can help to solve only cyclical unemployment. Therefore government
needs to implement supply-side policies too to solve structural
unemployment.
Recognise that reduction in personal and corporate income taxes
which is aimed at increasing C and I, like a fall in interest rate, does
not yield a predictable outcome.

o Supply-side policies (beware; not all are appropriate and thus students must be
discriminating in choice of supply-side policies) to solve structural
unemployment Analysis of merits and demerits of supply-side policy to solve
structural unemployment brought about by competition from China and India.
Education and training new skills, higher productivity lower unit
cost -- enable them to compete with the cheaper labour from China
and India to some extent.
Need to re-structure from industry from which US and UK had lost
comparative advantage to new sunrise industry.

Note: If R&D is used as a point in your answer, it must be linked to the search for
a new niche area, to regain comparative advantage (in context of preamble), to
compete with China and India. At the same time, candidates must recognise that
1) R&D, when in progress, does not generate many jobs given its very
specialized nature. 2) R&D requires a longer time to yield results than demand-

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management policies but it is necessary if USA and UK want to solve structural
unemployment.

Conclusion & Overall Evaluation:
While a fall in interest rate can reduce only demand-deficient unemployment it is still
a necessary but insufficient policy that is needed to solve the current unemployment
problems in the US and UK. If the root cause of structural unemployment is to be
dealt with, then interest rate is not the best policy and it has to be supplemented by
other policies esp supply-side policy .
Qn to ask: Is there really a best policy?


Question 4
The relative importance of the components of circular flow of income for a small, resource
scarce and open economy, such as Singapore, is likely to be different from a large and
developing economy, such as China, with vast reserves of cheap labour and a government
committed to opening up its economy to rapid economic growth.
a. Explain this statement. [10]
b. Discuss the likely economic impact on both developed and other developing economies of
the integration of an economy like China into the world economy.
[15]

Suggested Content Ideas
Part (a)
Introduction
Explain what is meant by the circular flow of income, with explicit reference to injections (I, G and
X) and withdrawals (S,T and M) within the 4 sector circular flow. Diagram to be used to illustrate.
Identify and explain the various components within the 4 sector circular flow of income.

Body
Explain the differences in the size of various components of the circular flow of income for a small,
open economy like Singapore and a large country like China.
For consumption C, it is obvious that C would likely take up a significantly smaller proportion of
GDP for Singapore as compared to China:
o it has a significantly smaller domestic market compared to China.
o at a higher level of development and hence lower marginal propensity to consume.
o higher propensity to save due to various savings scheme and virtue of thrift
Any changes in C would be relatively more significant in changing the GDP for China as
compared to Singapore, thus accounting for its relative importance to China.
For export revenue (X) and import expenditure (M), it is likely that X and M individually take up a
very large and significant proportion of GDP (more than 100% of GDP) as compared to China:
o it has a small domestic market hence higher reliance on the external market to generate
income and growth through export of its goods and services (export oriented). Large external
market also allows firms to produce on a large scale so as to enjoy IEOS.

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o it is resource scarce hence need to import practically everything from raw materials /
intermediate goods for her industries to basic necessities / consumer durables for her
consumers.
Any changes in X and M would be relatively more significant in changing the GDP for Singapore.
In comparison China, that proportion might be of lesser importance (although not insignificant).
This importance to Singapore was also seen in the 2009 economic crisis where Singapore went
into a recession as a result of her major trading partners fall in demand for her exports.
For government expenditure G, one can expect the size of G to be a relatively larger component
of GDP for China as compared to that of Singapore:
o the government committed to opening up its economy to rapid growth. This implies that the
Chinese government would most probably be increasing its expenditure on improving
physical as well as telecommunications infrastructure etc
o still a welfare state to a large extent, hence needs to take care of the needs of its large
population
o largely no handouts by Singapore government, believes in meritocracy and most key
industries have been deregulated over time (utilities, power and gas, public transport,
telecommunications)

Conclusion
Due to the different unique characteristics of China and Singapore, the relative importance of
each component that makes up the circular flow of income is vastly different. In addition, active
government intervention through its policies has also brought about differences in these
components.

Part (b)
Introduction
Identify that the increasing integration of China with its vast resources, into the world economy is
a result of globalization.
Define globalization - increasing integration of global economies, facilitating higher volumes of
cross border transactions in terms of goods and services, capital flows as well as exchange of
knowledge, skills and ideas.
Recognise that the rise of China and its integration into the world economy will bring about both
positive and negative effects to developed as well as other developing countries across the world.

Body
Impact of Chinas integration on developed countries eg, US, UK, Singapore
China with its vast supplies of relatively low-skilled labour, results in China having a comparative
advantage in labour-intensive and low-tech intensive production (eg. manufacturing). Hence the
integration of China leads to an erosion of CA among developed countries such as USA, EU and
even Singapore in labour-intensive and low-tech production.
This results in developed countries experiencing a fall in X revenue of their manufactured goods,
leading to a fall in their AD ceteris paribus. Firms in these industries will shut down as profitability
declines and they are unable to compete with low-cost production from China, giving rise to
structural unemployment.
In addition to a fall in export revenue (X), developed countries may see a rise in import
expenditure (M) of relatively Chinese manufactured products as their own consumers switch to
the cheaper import substitutes. The rise in M leads to a fall in AD. (However, this may work out to
be advantageous for consumers in developed countries as they get to consume cheaper goods,
enjoy greater variety raising consumer satisfaction and welfare).

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The structural unemployment is magnified when labour-intensive industries in the developed
countries outsource or offshore their production processes to China in order to take advantage of
the relatively lower costs of production. With such outsourcing/offshoring, there will be a likely fall
in investments within the developed countries, also leading to a fall in AD.
The outflow of investment worsens the capital/financial account, while the loss of X and a rise in
M from China will lead to a worsening of the BOT and hence current account. Together, this
results in a worsening of the BOP position of the developed countries and hence a possible
depreciation of their exchange rates.
Although there is a fall in X from labour-intensive, goods from developed countries due to
increased competition from China, there may also be a higher level of X from capital intensive,
knowledge intensive goods (e.g. capital equipment, machinery and consultancy services)
exported by developed countries to China to aid in Chinas economic growth. Hence the overall
impact on X of developed countries will depend on the relative magnitudes of the changes in X
o If the loss in X > gains in X, there will an overall fall in AD among the developed countries,
leading to lower production levels, higher unemployment levels and adverse effects on the
actual growth for developed countries.

The loss of jobs in the labour-intensive sectors coupled with the growth of the exporting capital-
intensive sectors may result in greater levels of income disparities within the developed countries.
While the integration of China into the world economy brings about many threats to the developed
world, countries also benefit from the influx of cheaper Chinese goods, as these help to reduce
inflationary pressures at home. Besides, with more competition from the Chinese manufacturers,
domestic producers in developed countries will be forced to engage in more efficient methods of
production thereby cutting costs and raising the quality of their products through R&D etc. This
further reduces inflationary pressures at home and also increases consumer welfare.
Countries like Singapore would be likely to benefit from an increase in FDIs from other developed
countries such as US or EU, despite the increasing competition from China. This is because
Singapore possesses the necessary infrastructure that facilitates the setting up of their
bases/headquarters, allowing these foreign investors to monitor their production processes in
China.
By taking advantage of lower COP in China, this may help to generate cost savings for foreign
firms in China and hence boost their X competitiveness in the long run. The repatriation of profits
from will also allow developed countries to experience an improvement in their current account.
This would have the effect of improving their BOP as well as appreciating the exchange rates for
developed countries.
The inflow of skilled talent from China into the developed countries as a result of globalization will
also benefit the developed countries as there would be greater transfer of skills, knowledge and
the enhanced synergy would help raise productivity levels within the developed countries, hence
contributing to potential growth of the developed countries.
Impact of Chinas integration on other developing countries eg. India, Vietnam
Other developing countries that possess the same factor endowments as China (eg. vast supplies
of relatively low-skilled labour) will face greater competition in terms of X of labour-intensive
products and may therefore be adversely affected by the integration of China into the world
economy. The fall in X will then result in a fall in AD in these countries.
Due to Chinas pursuit of economic growth, she may have courted FDIs with more incentives,
leading to an FDI diversion away from these developing countries into China instead. The loss of
FDIs will thus also lead to a fall in AD in these developing countries affecting actual and potential
growth as well as employment.
Chinas rapid economic growth and industrialization would also have resulted in a heightened
demand for global commodities such as oil, leading to the bidding up of prices of such global
commodities and hence imported inflation for countries that require these imported raw materials.
However, while the integration of China into the world economy may create largely negative
effects on developing countries, competition from China also forces labour-intensive industries in

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these countries to be more productively efficient and this would, in the long run, be beneficial to
the developing countries.
Conclusion:
The integration of China into the world economy creates both positive and negative effects on
other economies. Therefore, it is important for governments across the world to leverage on the
growth of China while at the same time, implement policies to mitigate the negative effects.
Q5. RJC 2009 Prelims
Singapore's network of Free Trade Agreements (FTAs) has expanded to cover 13 regional and
bilateral FTAs with 23 trading partners, including countries such as the US, China, India and Japan.
FTAs have been instrumental in helping Singapore-based businesses strengthen cross-border trade
by eliminating or reducing import tariff rates and easing investment rules. Source:
http://www.fta.gov.sg
Discuss the extent to which Singapores network of FTAs will help to achieve her macroeconomic
objectives. [25]
Suggested answer scheme
Introduction
- Definitions
Singapores key macroeconomic indicators
Sustained economic growth
Low & stable inflation
Low unemployment rates or full employment
Balanced BOP in LR & stable exchange rates
FTA
An agreement between countries to facilitate cross-national boundary movement of
Goods & services
Capital
Labour
Body
- movement of goods & services
achieved through the reduction or elimination of tariff and non-tariff barriers due to
reduction/elimination of tariffs, Singapores exports are cheaper in member countries.
This will lead to an increase in Qx, and hence X increases actual growth
X AD more than proportionate NY due to multiplier process
reduces unemployment in export sector, moves economy closer to Yf
improves current account due to increases in X revenue
S$ appreciates and/or accumulation of foreign reserves
Due to FTA, COP falls due to greater availability of cheaper imported raw materials,
leading to increase in SRAS hence moderating cost-push inflation.
However,
Dd-pull inflation may occur if economy is operating at intermediate or classical range
with greater reliance on X for NY growth, economy may experience volatile NY growth
which is tied to economic performance of other countries
due to reduction/elimination of tariffs, Pm falls and Qm increases hence M expenditure
increases if PEDm > 1
This increase in M may increase unemployment in import substitution sectors, hence
cause demand deficient and structural unemployment

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If M exp increases more than X rev, current account worsens.
Effects on economy is dependent on changes in (X-M), which is influenced by terms of
trade, price elasticity of demand for X and M, competitiveness of Singapores export
industry, competitiveness of Singapores import substitution industry, absence of
protectionist tariffs even before signing of FTA

- movement of capital
achieved through lowering non tariff barriers such as ownership restrictions and
eliminating restrictions on movement of funds
increase in FDI into Singapore increases economic growth as I AD & AS
sustained economic growth
importation of technology AS
However, while unemployment is reduced, it may cause demand-pull inflation in SR. Also, it may cause
wage-push inflation due to increase in demand for labour
improves capital account appreciation of S$ and/or accumulation of reserves may
create Dutch disease due to appreciation of S$
in longer term, worsening of current account due to repatriation of profits
reliance of FDI for economic growth may lead to physical crowding-out, possible
financial crowding-out if funds are raised in Singapore

- Growth of industries which Singapore has CA (i.e. growth of knowledge and technology
industries)
enhances Singapores economic growth
However, the highly specialised structure makes Singapore more susceptible to industry-specific shocks.
- increase in FDI out of Singapore (into foreign countries)
may increase structural unemployment
outsourcing of labour intensive industries causes structural unemployment
worsens capital account in the short run
in longer term, BOT, current account may improve due to repatriation of profits

- improves competitiveness and profitability of Singapore firms by tapping on cheaper land and
labour factors of production, GNP may increase despite fall in GDP
Effects on economy depends on
Net FDI into the country which is influenced by
o ease of setting up operations and doing business in Singapore
o corporate taxation framework / incentives framework
o quality of infrastructure and availability of supporting industries
Type of FDI into Singapore and Type of FDI out of Singapore
o upgrading of Singapores economic structure if investments are in knowledge
and technology intensive industries
o re-allocates human capital for more productive uses (in LR) if labour intensive
processes are outsourced

- Policies to support FDI policy
o training of skilled labour for knowledge and technology industries
o retraining of workers in labour intensive industries for deployment in service industries

- Movement of labour
movement of labour into Singapore to augment Singapores labour pool

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influx of lower skilled workers reduces wage-push inflation, maintains COP and
competitiveness. However, depressing wages of lower skilled local workers
worsening inequity
influx of highly-skilled workers increases productivity allows the development of
knowledge and technology intensive industries
movement of labour out of Singapore reduces Singapore labour pool. if these are
highly skilled workers Loss of human capital AS compromises economic
growth
Effects on economy depends on
- ability to control the inflow of lower-skilled workers
- Work permits & Employment pass system
- ability to attract foreign and local talent
- Personal income tax structure
- Quality of living in Singapore
Conclusion
- The network of FTA presents opportunities and threats to the Singapore economy
- The extent to which Singapore benefits from the FTA network (in terms of achieving the
macroeconomic objectives) depends on
competitiveness of the local economy
its ability to attract the right type and sufficient amount of FDI
its ability to retain local talent and attract foreign talent
ability to mitigate negative effects such as structural unemployment and rising inequity


Question 6
Our prospects have never been better. The key reason is globalisation. Capital, enterprise and
talent are flowing to countries where the government can be trusted, where the workforce is
well-educated and skilled, and where the quality of life is high. (Budget
Speech, 2007)
To what extent has globalisation brought more benefits than costs to Singapore in recent
years? [25]

Students are expected to interpret what is meant by globalisation and to discuss the effects of
globalisation on the Singapore economy. They are also expected to make a judgement as to whether
the positive effects outweighed the negative effects in recent years.

Introduction:
Define Globalisation
o Globalisation is the growing economic interdependence of countries worldwide through
increasing volume and variety of cross-border transactions due to freer trade in goods
and services, freer flows of international capital and greater mobility in the movement of
labour.
o Brought about by technological advancements, FTAs etc.

Effects on Singapore economy:

o Microeconomic Effects: Efficiency and Income Inequality

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o Macroeconomic Effects: Economic growth, Unemployment Rate, Inflation Rate and
Balance of Payments/ER
Body:
Approach: Discuss by issue T-A-S
Issue 1: Freer flow of trade in goods and services
Economic Framework: Removal of trade barriers diagram/AS/AS framework






Benefits Costs
1. Removal of trade barriers on Singapores
exports in the global market will enlarge
Singapores export markets as exports
become more competitive. This is because
free trade will enable countries to trade
according to the theory of comparative
advantage. As Singapore has CA in the
capital-intensive and knowledge based
industries, this will lead to an increase in Qty
DD for Singapores exports in these sectors
as she has lower opportunity costs in the
production of these goods and services
assuming PEDx > 1 this will lead to an
increase in export revenue and rise in NX.

Effects on the economy
Micro Effects: Increase export markets
will lead to greater efficiency in production
due to IEOS. Greater competition for
domestic industries will lead force
domestic firms to be productively efficient
and dynamically efficient. Trade creation
overall improvement in societys
welfare.

Macro Effects: If NX increases overall, will
lead to EG, lower UN rate, improvement
in BOT and BOP.
Cheaper imports (due to more sources of
1. Removal of barriers on imports increases in the
quantity demand for imports. This will lead to
competition for import substitution industries due
to loss in CA in these industries e.g. labour-
intensive production fall in DD for
domestically produced goods. This will lead to
rise in import expenditure and fall in NX.

Effects on the economy
May lead to structural unemployment in
import substitution industries.
If NX increases overall, may lead to demand-
pull inflation in the SR if economy is near full
employment.
P
Q
GPL
Real NY
D
S
Pw+ tariff
Pw
AD
0
AD
1

AS
0

AS
1

Use diagram to explain
lower price of imports
and/or lower price of
Singapores exports.
Use diagram to explain
the effects of lower price
of imports and more
competitive exports on the
Singapore economy.
P
0

P
1

Y
0
Y
1


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imports as more countries engage in
international trade) and greater
competition will lead to fall in GPL and
dampens inflation.

Synthesis:
Whether Singapore benefits more than costs depends on the overall net effect on net exports. If
net exports increases, benefits > costs Benefits from economic growth, lower unemployment
rate, improvement in BOT and BOP will outweigh the costs of higher inflation and structural
unemployment.
In recent years, Singapore has restructured its economy to focus on new niche areas of growth.
This has ensured that Singapores exports are competitive in the world economy and to benefit
from globalisation.
May evaluate that Singapore is unlikely to be negatively impacted because Singapore has minimal
import tariffs imposed even before the breaking down of trade barriers globally.
Issue 2: Freer capital flow
Economic Framework: AD/AS diagram







Benefits Costs
1. Freer capital flow will lead to FDI inflows.
This will lead to increase in investments in
Singapore.
Effects:
If there is net inflow of FDI AD and AS
increases NY increases (through the k-
process) EG (actual and potential
growth), lower UN rate.
Will lead to an improvement in the capital
account and BOP in the short run.
Attracting FDIs will help Singapore to
develop CA in new niche areas.


2. Singapore firms have greater access to
foreign markets. Outsourcing more
efficient and lower cost production.
Improves competitiveness of Singapores
1. Freer capital flow will lead to outflow of FDI.
Singapore may not be as competitive as
other developing countries.
Effects:
May lead to structural unemployment as
domestic firms outsource the production
process.
If net inflow of FDI over-heating in the SR
DD-pull inflation.
Crowding out of domestic investments
over-reliance on FDI for economic growth
more susceptible to international shocks.
Worsening of current account in the LR due
to repatriation of profits.


GPL
Real NY
AD
0
AD
1

AS
0
AS
1

Use diagram to explain
the effects of FDI flows on
the Singapore economy.
P
0

P
1

Y
0
Y
1


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exports if they outsource parts of the
production process.
Synthesis:
Whether the benefits > costs depends on net capital flows. It is likely that Singapore will benefit
more than the costs because of the ease of setting up businesses, coupled with favourable
government policies in Singapore. In recent years, Singapore has positioned itself well to attract
net FDI inflows.
Singapore has a small domestic base, so it is beneficial for Singapore gain easier access to
overseas markets.
While it has led to over-heating in Singapore, enough policies in place to boost productivity and
potential growth.

Issue 3: Freer movement of labour
Economic Framework: Labour market diagram/AD/AS diagram







Benefits Costs
1. Freer movement of labour will lead to
increase in the supply of labour in
Singapore both highly skilled and low
skilled.

Effects:
Lower wages: reduces wage-push
inflation and Singapore remains
competitive as costs of production are
maintained.
Increase in productive capacity
increase in AS with increases in AD
Singapore will be able to achieve non-
inflationary sustainable EG.
Influx of foreign talent allows Singapore to
develop new niche areas in the
knowledge based industries and also a
transfer of skills that can boost
productivity.

1. Freer movement of labour will lead to brain
drain, where local talents chose to work
overseas. fall in labour supply fall in
AS limits potential growth.
2. Inflow of labour into Singapore

Effects:
Dampens wages especially for the lower-
skilled workers. Rising income inequality.
Low cost labour fall in rate of productivity
growth no incentive to innovate and
improve efficiency not sustainable?
Worsens current account due to repatriation
of profits.
Increases DD-pull inflation due to rise in C.
(housing prices etc.)
Synthesis:
It is likely that Singapore benefits from the movement of labour (net inflow of labour) because we
GPL
Real NY
AD
0

AD
1

AS
0
AS
1

Use diagram to explain
the effects of labour flows
on the Singapore
economy.
P
Q
D
S
1

Q
0

Use diagram to
explain effects on
wage rates.
S
0

W
1

W
0

Q
1


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are able to attract and retain talent through favourable tax policies and high standard of living.
Labour flows are also necessary to boost economic growth given our low birth rate.
However, cost of living in Singapore has increased quite significantly with inflation rates highest in
recent years. (Evaluate if it has do with inflow of labour)
While there are groups of people in Singapore who are made worse off, there are government
policies to reduce the impact of income inequality.

Overall Evaluation and Conclusion:
Given the nature of the Singapore economy, globalisation has worked in Singapores favour,
leading to more benefits than costs to Singapore. We achieved healthy economic growth
rates, low unemployment rates, BOP surpluses.
However, Singapore has become more susceptible to external shocks with globalization as
seen from the recent recession in 2009 economy is a lot more volatile as we are influenced
by the performance of other countries.
However, these benefits and costs of globalization are not even in Singapore.
While not everyone in Singapore has benefitted from globalisation and costs such as
inflationary pressure has worsened the standard of living for some groups of people,
government policies may help to alleviate these costs.


Question 7
The globalization of trade puts pressure on natural resources around the world,
helping to drive the rapid depletion of tropical forests and the collapse of many ocean
fisheries. On the other hand, some countries has benefited from the flow of labour
into their countries.
(a) Explain how pattern of trade will change as a result of the changes in factor
endowments stated above. [10]
(b) Discuss the role of government in the age of globalization. [15]

Suggested answer
a. Explain how pattern of trade will change as a result of the changes in factor
endowments stated above. [10]

Introduction
Pattern of international trade is based on the theory of CA. Based on the theory of CA,
countries should specialize in the production of goods that they have comparative advantage
in and export it for goods it does not have CA in producing. The amount of factor
endowments a country has affects the comparative advantage a country has.
Body
Explain theory of CA and how pattern of trade is determined based on a countrys
comparative advantage in producing a good.

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Use examples such as China, being labour abundant, has comparative advantage in the
manufacturing of labour-intensive goods such as toys and textiles. Singapore, after years of
strategic human and capital investment, has a comparative advantage in the production of
electronic goods and pharmaceutical products.
Application to context:
Lets assume a country A, with tropical forests that a rapidly depleted. It would imply that the
country would face a decrease in the exports possible and would have to look for another
product, which it has comparative advantage in to export. In other words, country A cannot
rely on exporting of wood to generate export income for the country. If country A consumes
a lot of wood, she may end up being a net importer of wood.
Lets assume a country B, with abundant fish and timber could have been exporting timber
or fish due to her having abundance of it and CA in producing these products.
With the depletion of such resources, another country, C, which breeds fish in fish farms but
had a higher opportunity cost previous, could now have a lower opportunity cost compared
to country B and should now be exporting the fish instead of Country B, based on the theory.
If there is country D, which previous lack skilled labour and now has open immigration
policies that allows and attracts skilled labour from into the country, the country could now
have a comparative advantage on the production of high end electronics and hence should
specialize and export that.
Conclusion
Pattern of trade will change when the factor endowments change.

(b) Discuss the role of government in the age of globalization. [15]
Introduction
Define globalization: Globalization is often used to refer to economic globalization,
that is, integration of national economies into the international economy through
trade, foreign direct investment, capital flows, migration, and the spread of
technology.
The age of globlisation brings about many challenges as well as opportunities for
countries. As a result, there is a need for the government to step in to reap the
benefits and minimize the costs.

Body
(There are many possible points the answer must cover the problem/ benefit brought
about by globalization and evaluate the role the government has to play.)
What comes with globalization?
Increase in international trade at a much faster rate
Increase in international flow of capital including foreign direct investment

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An increase in movement of labour across boundaries
An increase in international outsourcing and offshoring by multinational corporations
(MNCs)
Riding above the wave of globalization to reap its benefits:
Sustained economic growth via maintaining export competitiveness
The government can remove trade barriers to allow for greater specialization based
on CA and reap the benefits of increased consumption.
Trade policies signing of FTAs, lower tariffs higher export sales growth of X-
oriented industries meet the higher increase in AD by increasing production and
create employment.
Supply side policies subsidise R&D to improve the non-price competitiveness of
our exports

Attract more FDI
Government can have policies that will attract FDI such as low corporate taxes or
good infrastructure. increase I higher AD in SR and increase AS in LR.
Flexible wage system to keep labour costs low

Attract more foreign talent
Lower income tax
Immigration law less stringent grant PR-ship to diploma holders and not just
graduates.

Illustrate with AD-AS AD and LRAS increase lead to higher actual and potential
growth and also price stability.
Limitations of all policies or any negative implications:
To compensate for the loss in government revenue due to lower direct taxes, the
government has to increase indirect taxes such as GST or VAT. This may lead to tax-
push inflation. Government will then need to off GST-offset packages to help the poor
to tide over the rise in cost of living.
Policies to curb the ill-effects of globalization:
Contagion Effect susceptible to cyclical unemployment
Countries that are open to free trade will be more prone to contagion effects of other
countries economic crisis. These shocks can be transmitted from one country to
another through various channels - trade, financial and mechanical spillovers.
Governments will have to have sufficient policy tools and leeway to adjust to the rise
and fall due to the contagion effects.
Expansionary demand management policies to increase AD in the SR: the
effectiveness of such policy is limited since recession is externally induced
and especially when the affected country is highly dependent on trade.
Diversification of export products and more countries to spread the risks. At

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the same time, make demand for exports more price-inelastic via R&D. Once
again the effectiveness is questionable as the world is interconnected and
trading partners of one are usually of others. Through FTAs with many
countries, it at best slows down the contagion effect but it cant prevent it from
happening. Also, when income falls, even if exports are price inelastic wont
help. As long as its normal goods, demand will fall with income. A country
also cant just diversify into any kind of exports as it should be producing
goods it has CA in.

Structural Unemployment and growing income gap
If the globalization leads to rapid economic changes, this can result in various
negative outcomes/ cost such as high unemployment in the sunset industries that
have lost CA.
This leads to growing income gap: Wages of lowly skilled labor will generally grow
slower than that of highly skilled labor.
Thus rapid growth might not necessarily improve the standard of living for the
majority. In fact, people in countries in US might even face problems of
unemployment due to outsourcing e.g. of call centres to India and the textile
manufacturing to China.
Government may want to protect the industry in the short run but concurrently retrain
the workers in these industries to equip them with skills to work in industries that the
country has CA in. This is because protection is a SR policy and cannot solve
the root of the problem. The country needs to go through structural change
and equip the people with the correct skills in the new industries. So there is
a need to use supply-side policy retraining of workers allow for better
match of skills and jobs available while speeding up its restructuring of the
economy
Infant industries will also not be able to realize their potential. Government should
protect these industries till they are competitive. But it may be difficult for the
government to remove the BOE later.

Susceptible to import-price push inflation
For Singapore, it can maintain a strong S$ to reduce the imported inflation a
gradual appreciation to prevent cost escalation of imported raw materials as well as
final goods and services.
Prices and income policies - cushion the impact of rising import prices but they are
only temporary.
Supply-side policy to improve productivity to reduce unit costs in the SR to offset
the higher import prices and increase productivity in the LR

Conclusion
Globalisation results in cost and benefits. Governments have a key role to play to maximize
the benefits and minimize the cost of globlisation.
OR


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Conclusion/Evaluation
There is a need to constantly review current policies to ride on waves of globalisation
Coping with globalisation is about coping with change. To sum up, markets open to trade
and investment and which instill competitive pressures among businesses ultimately
increase our material well-being. At the same time, highly dynamic markets represent a
source of insecurity for workers and the costs of adjustment can fall on a number of
people.
The appropriate response is not protectionism. Rather, it calls for more open, well-
governed markets coupled with policies that facilitate adjustment, while addressing the
needs of vulnerable workers and spreading the benefits of globalisation. This way,
countries like Singapore will benefit fully from the spoils that stem from market openness
while the adjustment costs are minimised.


Question 8
Globalisation of trade and investment can raise global output. Unfortunately, the
impact on prosperity both between and within different countries is very variable, with
some groups suffering an absolute decline in incomes.
Examine the claim that globalisation whilst beneficial overall has adverse economic
consequences for certain firms and households. [25]
Approach:
This question focuses on material and non-material benefits / costs related to
globalisation. Reference must be made to selected micro / macro objectives related to
globalisation. Eg: economic growth, unemployment, efficiency and equity as these will
have impacts on firms / households
In discussing the benefits of globalisation, some issues that could be raised include
global output, higher consumption possibilities, choices, EOS, rising income. In the case
of adverse consequences of globalisation, issues include rising income inequity,
structural unemployment and negative externalities
The essay should discuss issues related to
o the country / countries as a whole
o different extent of gains made by different countries (eg: LDCs vs DCs)
o different extent of gains made by different sectors within the country eg industries
with CA vs those without, skilled vs unskilled workers
As the question calls for impacts on firms and households, hence explicit links must be
made to them. Concepts related to
o Firms: revenue, costs, profits, efficiency, market share and producer surplus
o Households include a) providers of factors of production; and b) consumers:
price, choice, wages, consumer surplus
Use of contrasting country examples is important in this essay to enhance the quality of
discussion.

Outline
- Explain the meaning of globalisation and how it brings about reorganization of production,
trade and the integration of financial markets. For example, with the lowering of transport

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costs and communication costs, barriers to movement of goods and services, labour,
and capital are lowered.
- Explain the benefits to countries that are engaged in globalisation:
Explain that with freer movement of goods and services, countries could
specialise and trade in goods in which they have comparative advantage, that
is, those in which they could produce at lower opportunity costs according to
differences in their factor endowments. [Give contrasting examples of
countries with an abundance in unskilled labour [China?] and
capital/technology/expertise [USA? Japan? Germany?], and the goods they
would specialize in, Highlight the benefits:

Micro concepts:
More consumption possibilities [beyond their PPC] given that
resources are more efficiently utilized. Quantity increases, prices fall,
increasing households material welfare. Trade is not limited to
countries with differing factor endowments. Countries with similar
factor endowments such as Japan and Germany also trade with each
other in goods such as cars, giving households more variety too.
[intra-trade]
Firms will see larger markets for their products, TR increases. EOS
reaped due to larger global market higher revenue, increase
productive and allocative efficiency, lowers unit cost more profits for
firms
Cost is further lowered outsourcing the more labour intensive
production processes [such as simple assembly and call centres] by
firms (from DCs) to LDCs lower unit costs and higher profits for
firms as the wages in China and India are relatively lower.
When these cost savings are passed onto consumers, households
enjoy lower prices and higher material welfare.
Faced with more global competition, firms would also have to be more
efficient to maintain their price and non-price competitiveness. This
again would benefit households in terms of production quality, variety
as well as prices.
Specialisation according to different factor endowments meant that
DCs which are likely to be endowed with skilled workers in capital /
knowledge based industries or capital owners will benefit from greater
production. Similarly, LDCs CA in labour intensive products and the
lower-end manufacturing sector will gain due to higher employment for
lower-skilled workers and hence income for them
FDI are likely to rise in DCs / LDCs based on the countries factor
endowments the above group of workers will further reap the gains
from these investments. In addition, rise in I rise in AD rise in
actual EG
Macro Ideas
Export revenue for both DCs and LDCs would increase. Countries can
also expect an increase in FDI. This increase in AD, this would lead to
more real economic growth and employment opportunities, increasing
the material welfare of households, especially those who are in sectors
in which the countries have comparative advantage.

An increased flow of FDI and technology, and unrestricted access to markets
in DCs will benefit LDCs to a greater extent and help them move up to higher

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value added sectors and catch up with the DCs. The higher productivity
means LDCs enjoy increasing productive capacity and can potentially earn
higher income and greater consumption ( rise in AD & AS rise in EG)

- Explain the adverse consequences to countries that are engaged in globalisation:
[Note: It would be good if candidates can highlight that DCs and LDCs face different
problems]
Structural unemployment this is likely to affect the DCs more than LDCs.
This could be due to: a) Globalization exposing firms in DCs, esp those in
more labour intensive sectors such as manufacturing [e.g. tyres and steel in
the USA] to competition from low cost countries such as China and India. b)
Outsourcing: This means that workers in certain industries eg production
workers in manufacturing industry in the US and service-sector workers in
industries where the business processes have been outsourced like IT
software design or auditing may be unemployed. c) influx of cheap labour
displacing local blue-collar workers. The demand for low-skilled workers
would fall. Furthermore, theseworkers may have difficulty acquiring relevant
skills to move up to higher value added sectors such as finance,
biotechnology etc in which DCs enjoy CA.

Income inequality [this follows naturally from structural unemployment]
This problem is likely to apply more to DCs. Given that DCs specialize in
high-end goods, skilled workers will see a rise in demand for them. Given the
inelastic supply, the income of workers in these industries will rise very fast.
Eg mind" workers like engineers, attorneys, scientists, professors, journalists,
consultants are able to compete successfully in the world market with
globalization. On the other hand, unskilled workers in DCs are likely to see a
fall in demand for their services, and hence a fall in wages. Worse, supply of
these workers from the LDCs is increasing, depressing wages further. Hence
different sectors within the economy will see different extent of gain, leading to
widening income gap.
[Not required in this question, but good to know if you want to develop this
point further: The inequality may be worsened by trade unions of these
industries with weak negotiating power since they now hold less power over
firms that are able to easily replace workers, often for lower wages, and have
the option to not offer unionized jobs anymore. Hence workers in such
industries may see a decline in their income or be unemployed. However, it
can also be argued that these lower-skilled workers (those in the lower /
middle income groups) may potentially enjoy more from free trade. This is
because they are likely to spend a larger proportion of their income on low
end manufactured good eg clothes, shoes, and the like whose prices are
often directly affected by free trade. On the other hand, the higher income
group tends to spend more on services eg education, leisure and these are
less subject to competition from abroad.]
In LDCs, the income gap could arise due to geographical immobility. Most
industries are found along the coastal / urban areas due to better transport
and infrastructure facilities [e.g eastern coastal states in China vs the western
ones]. Globalisation implies that production is like to take place in these
places leading to increasing income disparities between urban and rural areas.

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Negative externalities experience by LDCs due to weak policing of its
resources. Households / firms who are not involved in the production /
consumption of these products may incur external cost like healthcare or
lower productivity of its workers due to pollution or depletion of its resources
worsen non-material SOL. Examples: China has the most polluted cities in
the world. Amazon forests in Brazil are cut down to make way for
urbanization. Excessive dependence on primary sectors as seen fast
depletion of natural resources in Russia and Brunei.
Exploitation of child labour: In many LDCs, globalization will result in MNCs
utilizing workers to take advantage of the lower wage rates. This could mean
exploitation of child labour with low pay. An example is the use of sweat
shops by sports shoe manufacturers like Nike. The factories are often set up
in these countries where employees agree to work for lower wages than
would be required in DCs. However, one could argue if this is really
exploitation. Will these workers be better off without globalization? Or is the
lower wage rate offered a reflection of the countrys CA?
Nature of products exported: the main export of LDCs is usually agricultural
goods which are income inelastic. On the other hand, DCs exports mainly
manufactured goods which are income elastic to the LDCs. Given rising
income over time, this means that DCs are likely to see a faster rise in
demand for their goods than LDCs. This translates into faster increase in
revenue for firms in DCs than in LDCs
Assumptions of CA principle: it assumes fair trade ie no dumping etc so that
all will benefit from the higher trade volume. However, in reality, this is not
true and LDCs are often accused of dumping their goods to markets in DCs.
Like the issue on child exploitation, is it a question that LDCs possess CA in
these areas or is it a manipulation of currencies ( eg China). However, when
DCs dumped its products to LDCs, it is usually not due to CA.
Volatility: the close interconnectedness due to globalisation implies that any
crisis in one country may have adverse impacts on others. Eg: collapse of the
subprime mortgage market in the U.S. led to a global financial crisis and
recession in other countries, especially those very reliant on external demand
such as Singapore. Such unpredictability can reduce a countrys long term
growth

Conclusion
In the long run, globalization is an important determinant of long run growth and rising
living standards and arguably benefits would outweigh the costs arguably for most
nations For example, globalization has played an indispensable role in lifting many
people in emerging developing countries such as China and India out of poverty.
However, the gains and costs ,maybe unequally distributed between different
countries and between different firms and households in a particular country.
Furthermore, not all countries stand to gain from globalization. For example, while the
African countries, have a lot of potential to gain from trade, they continue to be
undeveloped and poor largely due to corruption and weak institutions. The role of
governments is therefore critical. Through policies such as retraining, transfer payments,
strengthening environmental and labour regulations, as well as R&D to identify and
develop potential areas of CA, the government could help in minimizing the adverse
consequences and maximize the full benefits of globalization. These policies would also

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go a long way in ensuring a more equitable distribution of the benefits between different
parties.


Q9 RJCJC2PreliminaryExaminations2008
The sources of growth can be internal or external, but countries like China will need to prepare for a
futureinwhichitreliesmoreonthestrengthofgrowthathomeratherthanonthestrengthofgrowth
intherestoftheworld.
Discussthisassertion. [25]
Possibleapproach
Theessaycanbeapproachedintwoparts:theexplanationofsourcesofgrowthandthediscussionof
therelativemerits/demerits/importanceofexternalsourcesandinternalsourcesofgrowth.
Introduction&Clarification
Defineeconomicgrowthpotentialandactual
It is preferred that an economic framework (PPC or AD/AS) be used to illustrate the difference
betweenpotentialandactualgrowth.
Clarifyprepareforafuturesustainedeconomicgrowth

Developmentofanswer:
(I)Explainthatsourcesofgrowthcanbeinternalorexternal
1.Growthduetointernalsources
- ASside
o Abundantnaturalresources
Inputsintoproductionofgoodsandservices
E.g.,hugelandarea,abundantmineraldeposits
o Abundanthumanresourcesofhighquality
Utilisenaturalresourcesandturnthemintoproducts
Quantitylargerpopulationsize+longerworkweek=highergrowth
Qualitybettereducation+health+mobilityofworkers=highergrowth
o Highrateofcapitalformation
Stock of equipment and structures that are used to produce goods and
services
Quantitymorecapital=moreproduction=moregrowth
Qualityuptodate
Dependsonrateofsavingswhichdeterminestherateofinvestment
o Advancedtechnology
Givenamountofresourcestoresultinlargeroutput
E.g., new production techniques, improvement in performance of machines,

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better organisation and management, more efficient transport and
communicationsystems,etc
- ADside
o Supply side factors alone is insufficient must have increase in AD to absorb the
extragoodsandservicesproduced
o Depends on changes in the components of C, I and G, which in turn may depend on
manyotherfactors,e.g.,expectations,affluence,governmentpolicies,etc
- Othernoneconomicreasons
o Politicalstability
o Socialharmony

2.Growthcanbeduetoexternalsources
- ASside
o Foreigntalentsabroadmaymoveintothedomesticcountry
Mightbeduetolowwagesinforeigncountries(pushfactor)
Augmentsthequalityandquantityoflabour
Possiblyalsoreduceslabourcostinthedomesticcountry
o FDIinflow
Mightbeduetopoliticalinstabilityinhomecountry(pushfactor)
Maybringintransferoftechnologicalknowledge
- ADside
o Stronggrowthintheregionorglobally
Improves external demand for exports from domestic country (X M)
affected
Especiallyrelevantforopeneconomies
- Governmentpoliciesindomesticcountriesmayinfluencedomesticsourcesofgrowth
o Duetorelaxeddomesticimmigrationlawspullfactorforforeigntalent
o DuetodomestictaxincentivesforMNCspullfactorforFDI
o DuetodomesticexportsubsidiesthatlowerpriceofexportstoforeignersinducesX

Some candidates provided a different approach to the first part of this question. Instead of
approaching the question in terms of internal and external sources of growth, they approached the
questionviasourcesofactualandpotentialgrowthbeforesubdividingthemintointernalandexternal
sources.Suchanapproachwasalsoaccepted.
(II)DiscusswhetherinternalgrowthorexternalgrowthismoreimportantforChina
1.Thesis:InternalgrowthismoreimportantforChina
- Supplyside
o Increasing competitiveness from other developing countries to attract FDI (e.g.
Vietnam,Indonesia)increasingdifficultytoattractFDI
o Internally,ChinabecominglessattractivetoFDI(risingwages,qualityscandals)
o Benefits from FDI diminishing (scope for transfer of technology and knowhow will
diminishasChinacatchesup)
o MoreFDImeanslessprofitretainedinChinalowercontributiontoSoLcomparedto
domesticI
- Growthinaggregatedemand
o Need to rebalance economy to insulate from external shocks (Xdependency means
recessionsinforeigncountrieswillhavealargerdragonChineseeconomy)

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o HighIandXcomparedtoCmeansSoLislowerthanitpotentiallycouldbe.
- Othernoneconomicreasons
o Nationalisticfeelingssupportlocalbrands!

2.Antithesis:ExternalgrowthismoreimportantforChina
- Supplyside
o Large swathes of China (Northwest) are not geographically conducive to investment.
Need foreign knowhow to develop it (e.g. need foreign technology to make mining
activitiesprofitable)
o Population dividend will run out soon (onset of ageing population). Need foreign
sourcestomakeupforshrinkinglabourforce
- Demandside
o Whilemiddleclassisgrowing,purchasingpowerofChinesestillnotenoughtosustain
currentlevelsofeconomicgrowth(i.e.CcannotreplaceXandI(FDI)asdriversyet)
3.LinktoAD/ASframework
Conclusion:
Makeastandandjustify
Ultimately,internalandexternalgrowthsourcesarecomplementary.Oneneedstolookatthetrade
offtodeterminewhetherthisistherighttimetobemakingaswitch.


Q10

GCEALevelsNovember2010
Whentherearelargeincreasesinthepriceofoilandotherprimaryproducts,theyareusually
expectedtoleadtorisinginflationthroughouttheworldseconomies.
Discuss the extent to which these factors are likely to affect the rate of inflation in Singapore.
[25]
Introduction
Defineinflationandidentifytypesofinflation:demandpull,costpush
Body
ExplainhowlargeincreasesinthepriceofoilandotherprimaryproductsleadtoinflationinSg
Sgisanimporterofoilandotherprimaryproducts
Increases in the price of oil and other primary products represent an increase in costs of
productionASshiftsupinflation
Explainhowtheremaybeotherfactorsthatleadtoinflation
Government action: Expansionary fiscal or monetary policy, devaluation (demandpull +
imported)
Demand pull inflation due to increased population and consumption (increase C increase
AD)

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DemandpullinflationduetoinflowofFDI(increaseIincreaseAD)
Demand pull inflation due to inflow of hot money (increase MS lower i/r increased C
andI)
Otherpossibledemandpullfactors
Imported costpush due to currency changes (depreciation *note: not the same as
devaluation)
Costpushduetoincreasedlabourcosts
Evaluatetheextentthateachfactorislikelytoaffecttheinflationrate
Governmentaction:Effectoffiscalpolicyissmallduetosmallmultiplier(smallshiftinAS).Sg
government cant affect interest rates so cannot have inflationary effects due to fall in i/r.
Devaluation may have significant effect but SGD longterm path is largely one of mild
appreciation.MAShasnothadanysignificantdevaluationsinceAFCin1997.
Increases in price of oil and primary products: Effect should be significant for two reasons.
First,increasesinprices werelarge. Also,Singaporeimports closeto100%ofthese products.
No chance of substituting with domestic (and presumably cheaper) products. Second, these
products affect the prices of other secondary products that Singapore imports. Increase in
costsisfeltatalllevels.
Increased population: Only leads to inflation in the event of economy operating close to full
employment.However,increaseinpopulationlargelyduetoinflowofforeignlabour.ASshifts
outatthesametime.Hence,inflationaryeffectsmoderated.
FDIinflows:Similarargumentasincreasedpopulation.FDIalsoincreaseproductivecapacityof
economy.
Hotmoneyinflows:Extentofinflowsmaynotbegreatasportfolioinvestmentshaveseena
trendofgoingtowardsdevelopingeconomies.Also,CandIinSgmaybei/rinelasticduetothe
generallackofborrowingtospend(forC)andhighbusinessconfidence(forI).
Currency changes: Sg did not show depreciation during this period. In fact it appreciated and
tooktheedgeofftheimportedinflation.
Increasedlabourcosts:Nosignificantincreaseinwagesinthisperiod.Infact,inflowofforeign
labour increased labour supply and moderated wages. Effect especially apparent in more
labourintensive industries (e.g. construction) where wages take up the highest proportion of
costs.
Conclusion
Increasedpricesofoilandprimaryproductsmusthavecontributedtoinflationarypressuresin
Singapore. However, extent of effect depends on how much the SGD appreciated too.
Additionally,althoughotherfactorswerelikelytoindividuallyhavehadweakeffects,thesum
of them all may diminish the proportion that higher prices of raw materials contribute to
inflation.




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Question 11
In the light of America's growing twin deficits (budget deficit and current account
deficit), the US government is putting pressure on China to revalue her domestic
currency.

a. Explain the problems faced by a country if it incurs a twin deficit [10]
b. Discuss whether conflicts in achieving macroeconomic objectives will arise for
the Chinese authorities when she revalues her domestic currency. [15]

Suggested outline
Part (a)
Introduction:
Clarify key terms: Twin deficits i) Budget deficit (G>T),
ii) Balance of trade deficit (M>X)
Body:
Explain the problems faced by a country if it incurs a growing budget deficit (G>T)
i. Expansionary FP inflationary pressures problems associated with
high inflation
ii. Financing problems/How to finance
1 Borrow from other countries
a. Indebtedness to other countries
2 Borrow from public
a. Crowding out effects
b. Inter-generational equity problems
3 Print money inflationary pressures
4 Any others
Explain the problems faced by a country if it incurs a growing balance of trade deficit
(M>X)
iii. If the growing balance of trade deficit results in growing balance of
payments deficit, => total currency outflow > total currency inflow => net
increase in dd for foreign currency / net increase in ss of domestic
currency domestic currency will be under pressure to depreciate /
Central Bank under pressure to devalue her currency.
1 For countries operating on a fixed exchange rate regime
Central Bank must buy domestic currency and sell foreign
reserves to support the domestic currency.
i. However, if unable to do so because of insufficient foreign
reserves domestic currency will depreciate.
ii. Consequence:
1. Prices of imports in terms of domestic currency
increase hurt ability to buy imports and greater risk
of imported inflation especially if heavily reliant on
imports => compromise on cost competitiveness of X
and cost of living.

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2. If depreciation is excessive speculative attacks on
the domestic currency => higher degree of uncertainty
=> difficult for investment plans and trade.
2 Countries operating under flexible exchange rate regimes will see
their currency depreciating
i. This will reduce their ability to buy imports
ii. Imported inflation rising
iii. The impact on the United States of America is different (the
US$ is still strong relative to other foreign currencies)
because the US$ is being demanded by other countries as
a reserve currency
iv. Contractionary effect on the economy slowdown in economic growth
v. Indebtedness to other countries
vi. Inter-generational equity problems
May consider broad characteristics of America in the answer (optional)

Conclusion:
Make a stand on what the main problems are that these countries will be facing
i. Combined effects on a country if it incurs a twin deficit
1 Inflationary pressures intensifies due to demand-pull inflation and
cost-push inflation rising (problems arising from high inflation)
2 Financing problems
a. Indebtedness to other countries domestic currency weaken
b. Inter-generational equity problems
-Higher taxes in the future will contract the economy even
further
Part (b)
Introduction:
a. Clarify that a revaluation of the Chinese Yuan suggests that China gives in to the
pressure from US government (preamble)
i. Allow the Chinese domestic currency to appreciate against US$
ii. State and explain briefly the 4 macroeconomic goals: Low inflation rate, economic
growth, full employment and external balance.

Body
Thesis: Revaluation of the Chinese domestic currency can lead to conflicts in
achieving macroeconomic objectives for the Chinese authorities
Slowdown in actual growth and rise in unemployment
Revaluation of the Chinese domestic currency P
x
in terms of foreign currency
increases while P
m
in terms of domestic currency falls according to the Marshall-
Lerners condition, so long as the sum of PEDx and PEDm is greater than one, a
revaluation of the Chinese Yuan will worsen Chinas balance of trade and in turn,
balance of payments, ceteris paribus.
Fall in BOT will lead to a fall in AD and hence a more than proportionate fall in
National Income ceteris paribus.
Burden of debt

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The slowdown in economic growth results in increased unemployment social
instability and other costs of unemployment.
(Use AD/AS framework for analysis)
Anti-thesis: Revaluation of the Chinese domestic currency need not lead to conflicts
in achieving macroeconomic objectives for the Chinese authorities
Ease of inflationary pressure
Imported inflation will fall as price of imported raw materials fall in terms of domestic
currency assuming China imports a significant amount of raw materials for her
industries reduce cost of production (increase in AS) fall in cost-push inflation.
Positive effects on economic growth and employment
The benefits of achieving low domestic inflation relative to foreign inflation can also
bring about improvement in export competitiveness economic growth (actual) and
reduction in unemployment
Cheaper imports including import of cheaper capital goods larger volume of import
of capital goods and equipment lead to capital deepening in the long run,
increase in potential growth for China.

Conclusion: (Possible evaluation)
1. Make a stand and explain your stand taking into consideration the context of China, that
is, they should take into account some of the characteristics that are unique to China.
For eg, consider the extent of revaluing the Chinese domestic currency and whether it
will have a significant impact on the 4 macroeconomic goals starting point in pricing of
their products. Even if Chinas exports are more expensive to the foreigners after
revaluation of the Yuan, given that the prices of Chinas exports were relatively much
lower than what the rest of the world could offer, the impact of this revaluation could be
might just be minimal.
2. Other evaluative points:
More of a political decision to revalue the Chinese domestic currency rather than an
economic one
The decision to revalue the Chinese domestic currency is in line with economic
principles based on the Theory of Comparative Advantage that in the absence of
protectionism, gains from specialization and trade can be maximized
China should implement complementary policies (e.g supply-side) to mitigate ill-
effects /minimize the potential conflicts between macroeconomic objectives arising
from revaluing her domestic currency