Why Singapore's low inflation is unlikely to last

August inflation hit 2%.

According to DBS, CPI inflation for August registered 2.0% YoY, a tad higher than expectation but certainly in line with our view that lower than 2% inflation is not here to stay.

Ultimately, the sharp drop in inflation from 4.9% in February to 1.5% in April is nothing more than a policy effect due to curbs on car loans by the Monetary Authority of Singapore (MAS).

Here's more from DBS:

That brought about the sharp corrections in the COE premiums, which dragged down headline CPI inflation over the past few months. Nonetheless, such one off policy change usually has a limited “shelf life” and its effect will typically expire in 12 months’ time when the base effect lapses.

But in this instance, the effect is even more temporary. COE premiums have been rising rapidly on strong consumer demand and the high base effect is likely to be eroded very soon.

For example, average premium is already 29% higher than the bottom in April. And in the latest round of bidding in September, COE premiums are already about 8% higher than the level in the same period last year. That is, inflation will be on a steady march northward again in the coming months simply on account of the recent rise in COE premiums.

Moreover, underlying cost pressure within the economy remains extremely high. The labour market is still tight and higher business costs are cascading into higher consumer inflation. Headline CPI inflation will surely breach the 4% mark in April next year.

With the risk of higher inflation and having revised its official growth forecast for the year higher, there is limited manoeuvring room for the exchange rate policy despite the risk of a contraction in third quarter GDP.

Nonetheless, policy has to be forward looking. The balance of risk between inflation and growth in the coming quarters should keep policymakers’ feet on the brake and the policy stance on a tightening bias. Expect the MAS to maintain its current appreciation stance with no change in the slope or the width of the band in the upcoming policy review.