Inflation takes root in an economy where the rate at which goods and services are being produced is much lower than the supply of money. More money in circulation than is actually required is an economy people will end up desiring to purchase more goods and services than can actually be produced by the currently available resources. This therefore, leads to an upward movement of prices of goods and services. Consequently there is a rise on consumer prices which affects many people in the developing nations. Inflation can be controlled by the application of various instruments such as the monetary policy and the fiscal policy amongst others.
However, many nations have a preference of the use of the monetary policy as they deem it as the most effective method of dealing with inflation. In addition to this, monetary policy is normally less distracting especially to the market operations and is often easy as well alot quicker to apply in the economy as compared to the other methods. More often than not, this policy is normally carried out by the central bank that is normally government controlled.
The most common instruments of the monetary policy used to control the inflation rates in any economy include: Reserve requirement, open market operations as well as central bank lending (BBC News 3).
Singapore just like any other economy applies the monetary policy in order to deal with the problems of inflation in its economy. The Monetary Authority of Singapore is the institution in charge of the implementation of the monetary policy for which it does in order to positively influence the degree of economic activity which will eventually affect the economy’s general price level (Lu 12).
The monetary policy in Singapore has since 1981 been concentrated on the exchange rate instrument. This has enabled Singapore to maintain a good level of price stability in this small but open Singapore economy. There are various reasons however as to why the monetary policy in Singapore is generally centred on the exchange rate. This is because first and foremost, the economy is a small one and is it has the advantage being open to capital along with trade flows. The lack of resources in Singapore has resulted to the open trade policy that allows investments and foreign trade to take place.
Given the open trade policy that Singapore practises, its dollar is normally exchanged for other currencies for which the nation trades with as well as her competitors. The Monetary Authority of Singapore allows for the Singaporean dollar to float in the market. The level and direction of the exchange rate that is normally allowed to rise and fall within a policy band is normally announced at least semi- annually.
On a regular basis, the exchange rate policy band is normally carefully re- examined to ascertain that it is in line with what the economy requires for its success. This in most cases is done by the economists in order to ensure that there is no miss alignment of the local currency value. Otherwise this will end up worsening the inflation situation within the economy. A policy review is also carried out after every six months and a Monetary Policy Statement is in most cases put forward. This policy statement usually is meant to provide a means through which an in-depth analysis can be done on the exchange rates shifts and additionally provide more information on how this can be improved for better performance.