Singapore’s faced a recession in 2009 as America faced a sub-prime mortgage crisis due
to Singapore’s reliance on export in its AD schedule and hence is vulnerable to the global
business crisis. Additionally, Singapore mainly exports high-end manufactured goods, whose
demand is income elastic. When the global income fell due to the subprime crisis in 2008
and 2009, the demand for exports from Singapore fell more than proportionately, causing AD
to contract. As AD fell, actual sales were lower than expected sales and firms experienced an
unplanned increase in stocks. This caused them to cut back on production as actual stock
levels exceeded desired levels. In doing so, firms would hire fewer workers and hence cyclical
unemployment raised. This essay will discuss the effectiveness of increased government
spending in unemployment reduction using AD-AS framework.
To reduce unemployment, the Singapore government employs expansionary fiscal policy by
increasing its spending to help business and households. The government spends part of its
budget on infrastructure and innovative technologies to help businesses. For instance, the
government increases its spending to connect the island with an advanced and
comprehensive road network and to increase energy efficiency for industries. Such measures
allow companies to operate more efficiently with lower unit cost of production and thus
maintain their profits. To help households, the government provided the Workfare Income
Supplement (WIS) Special Payment and 20% personal income tax rebate (capped at 2000) to
increase households’ disposable income. As a result, their purchasing power and
consumption(C) levels rise, contributing to the rise in AD. The rise in AD will lead to an
unplanned decrease in stocks. To increase their stocks to desired levels, firms increase
production by hiring more workers, reducing cyclical unemployment.
The increase in government spending will also cause a multiple increase in AD, assuming that
there is still spare capacity in the economy. As firms increase their stocks back to desired
levels, they hire more workers. This generates additional income for households employed
by those firms. The household will spend a proportion of the additional income on
consumption goods, depending on MPC. The increase in C causes AD to rise again. This leads
to another round of unplanned decrease in stock and gives firms incentives to employ more
workers to increase their production, reducing unemployment further. The increase in AD
and decrease in unemployment will continue until the increase in income become negligible.
The final increase in AD will be several (k) times of the initial increase in the government
spending and cyclical unemployment will fall significantly.
Also, the government, by spending on capital goods and retraining, under Skills Programme
for Upgrading and Resilience (SPUR) to pay for their courses as well as for company absentee
payrolls while the workers are retraining, not only seeks to allow workers to retain their jobs
and reduce cyclical unemployment caused by the fall in AD, but also alleviate structural
unemployment by giving them new skills so that their skills are up to date and reduce the
possibility of a mismatch between the worker’s skills and new job requirements when the
economy recovers. Skills retraining also improve their productivity by teaching them more
efficient production methods so that output per unit labour increases. As such, the
productive capacity of the workers improves and more units of suitable labour are available
for production. This shifts the vertical and intermediate range of the AS to the right. The
resulting shift in AS to the right from AS0 to AS1 and the resulting shift in AD to the right from
AD0 to AD1 will in turn increase real national income from Y0 to Y1, as from Figure 1 below
while the general price level is indeterminate. As real national income increases in the long
run, unemployment also decreases.
Figure 1 : AD-AS diagram of Singapore economy
General
AS0
AS1
Price
level
AD1
AD0
Real national income
Y0 Yf0 Y1 Yf1
However the policy may also be not very effective in reducing unemployment in
Singapore. This is because the effectiveness of the fiscal policy depends on the MPS, MPM
and MPT of the country. The higher values of MPS, MPM and MPT, the smaller the multiplier
effect hence the less effective the fiscal policy. Unfortunately Singapore has high MPS. This is
because of the national saving scheme whereby all working individuals have to make
compulsory monthly contributions to the CPF of around 30%. This compulsory aspect of
savings, together with the prudent attitude, results in Singapore having one of the highest
saving rates in the world. In addition, Singapore being an open economy has high MPM too.
Singapore does not have natural resources and this result in the dependency on imported
raw materials for production and consumption. This means that with the additional income
received, bulk of it will be spent on buying imports. As Singapore has high MPS and MPM,
the marginal propensity to withdrawal will be very high, and since the multiplier effect
k=1/(MPW), the increase in government expenditure in AD will have a small multiplier effect.
This meant that when the Singapore government increased its spending, the change in
national income will not be that big. Since the national income does not increase by much,
not many jobs will be created and thus it is not very effective in reducing employment.
Another point worth mentioning is the time taken for the increase in government’s
spending to help businesses and Singaporean households. The effectiveness is limited, firstly
by time restraints, as an increase in government expenditure (G) does not instantly cause a
shift in the short-run aggregate supply (SRAS). This is because supply-side policies subsidised
by the government, including retraining and upgrading of skills, take time for workers to
learn. Though the government launched the Skills Programme for Upgrading and Resilience
(SPUR) which provided higher course fee support for companies and individuals and
absentee payrolls for companies that send their workers for training, with course fee
subsidies increased from 80% to 90% including all specialist and advanced diplomas offered
by polytechnics, time taken to master these skills may mean that employees are unable to
secure their jobs if the economy faces an even worse recession. Productivity should also rise
with these supply-side policies put in place in time, otherwise the upward sloping range of
the AS curve will not shift left due to a reduced cost of production, and businesses will
instead layoff more workers to cut profit losses and hence be ineffective in reducing
unemployment in Singapore.
The SPUR scheme is also not fool-proof, and requires workers to have the aptitude, age and
attitude for learning new skills. Without one of the three, it will be difficult for productivity
to rise as desired as workers may not be able to internalize skills learnt and hence curb
structural unemployment in Singapore. Also, the increase in government expenditure during
the recession, coupled with tax rebates, imposes a severe strain on government budge, and
thus in 2009, the government had to draw upon its past reserves to put forth this budget.
This meant less money in the state coffers and if we do not recover from the recession
quickly, our limited reserves may be exhausted in the long run and place our government at
risk of not being able to finance our debts.
However, given the dire economic conditions as set out upon by the recession, while
the budget may be limited in reducing unemployment, it has supply-side effects that can
help to improve the economy’s productive capacity in the long run. Also, any increase in the
AD through government expenditure to improve our economic conditions and reduce
cyclical unemployment is better than none at all. As such, the government’s policy in
reducing unemployment can still be considered rather effective.