ACJC H2 Prelim 2024 P2 EQ4 Solutions

4(a) Explaintworeasonswhychangingtheexchangeratecanbemoreeffectivethanchangingthegovernment spendingtoaddresshighinflationinSingapore. [10] QuestionAnalysis Commandword “Explain”● Start: Appreciateexchangerate● End: how the GPL can be reduced via the fall in AD or theincreaseinSRAS● Noevaluationneeded Concept ● Highinflationsustainedincrease(at afast rate) inGPL● Monetarypolicy–exchangerate● Characteristicsof Singapore–small andopeneconomy Context Singapore Notetostudents: To scoreanalyticallyfor thisquestion, youarerequiredtoexplainthekeycharacteristicsofSingapore and explain how the monetary policy tool of exchange rate is much moreeffective to address inflation in Singapore. This means that you are to link to how thechanges in AD/ ASdue to appreciation of SGDcan help to reduceGPL. ThefocusisonreductioninGPL, rather thantheimpact onRNO/ RNY. Requirement 1:Contractionarymonetarypolicyintermsof appreciatingtheSingaporedollar (SGD) ismoreeffective than reducing government spending to overcome high inflation in Singaporebecauseit reducesimportedcost-pushinflation. Given Singapore's limited natural resources, it relies heavily on imported factors ofproduction. This implies that rising prices of imports is one of the largest causes ofinflationinSingapore. Explainhowanappreciationof SGDcanhelpwithimportedinflation:Appreciating the SGD reduces the price of imports in local currency SGD, ceteris paribus.This lowers the unit cost of productioninSingapore, increasingthewillingnessandabilityof firmstoproduce, increasingtheSRAS(fromSRAS0toSRAS1).

Assuming that theeconomyisoperatingbelowthefull employment output, firmspassonthecost savings down to consumers in termsof lower prices, causingGPLtofall fromPotoP1.Thisovercomesimportedcost pushinflation. (For analytical reasoning – students are encouraged to provide some reasoning whyexchange rate is better than changing govt spending). Reducing government spending hasno direct effect on controlling the price of imported resources since it involves changingthegovernment spending and direct tax rates, hence cannot overcome cost-push importedinflation, whichisextremelysignificant for Singapore. Requirement 2:Contractionarymonetarypolicyintermsof appreciatingtheSingaporedollar (SGD) ismoreeffective than reducing government spending to overcome high demand-pull inflation inSingaporebecauseit targetsthebiggest component of AD–export revenue. Since Singapore has a small domestic population, it is heavily reliant on the exportrevenue as its growth engine. This means that thecomponent of X-revenuetakesupthelargest proportion of its GDP. In comparison, its domestic C, I and G are relativelysmaller as a proportion of its GDP. While reducing government spendingwouldallowADtofall, it will not beassignificant asreducingexport revenue(X). Explainhowanappreciationcanhelpwithdemand-pull inflation:In the short term, an appreciation causes the price of Singapore's exports to be moreexpensive in terms of foreign currency. This causes trading partners to switch tocheaper substitutes, reducing the demand for Singapore exports and hence exportrevenue, whichsignificantlyreducesADintheshort term, ceterisparibus.

Assuming that the economy is currently near or at full employment, this causes anunplanned rise in inventory stocks, signalling to firms to reduce output. Thus, deriveddemand for factors of production will fall, reducing the competition for the limited scarceresources, hence bidding down prices of factor inputs and lowering unit cost ofproduction. The cost savings are passed on to consumers as lower GPL seen fromthefall inP0toP1, alleviatingdemand-pull inflation. Notetostudents: R1/R2should● Recognisethat contractionarypoliciesmust beusedtoovercomehighinflation.● Identify and explainhowthecharacteristicsof Singaporeeconomymakegovernmentspending (G) less effective than appreciating the SGD (the answers should notmerelystatebut acomparisonshouldbemade)● Explain how appreciating the SGD addresses both cost-push and demand-pullinflation Level Descriptors Marks L3 ● Analysisarecompleteandaccurate● Characteristicsof Singaporeeconomyexplained● Tools of analysis like a diagram is well drawn and effectivelyexplainedintheanswers 8-10 L2 ● Analysisareincompleteandcontainseveral inaccuracies● Characteristics of Singapore economy are either unexplained(merelystated) or completelyabsent intheexplanations● Tools of analysislikeadiagramisincompleteand/ or not usedintheexplanation. 5-7 L1 ● Generallyirrelevant answer.● Severeconceptual mistakes.● Lackingeconomicanalysisandconcepts 1-4

(b) Discusswhether inflationor deflationisamoreseriousconcerntoagovernment. [15] QuestionAnalysis “Discuss”● Start: inflation/ deflationproblem● End: harmful consequencesoneither theeconomy, economicagents or conflicts with other macroeconomic objectives thatareconcerningtogovernment. Evaluation: which is more harmful and therefore a more seriousconcern to the government based on certain assumptions andpremise Concept ● Unpackthedefinitionsof inflationanddeflation● Consequencesof inflationanddeflation Context General –opencontext Students are encouraged to come up with the contexts to supporttheir justificationsandevaluations. Requirement 1: High rates and unstable inflation is a concern to the government dueto its adverse impact on the standard of living of its citizens and its impact on theeconomysuchasBOT. Inflation refers to a sustained rise in the general pricelevel intheeconomy. Whilealowandstable inflation rate is generally good for an economy, high and unstable inflation ratecould result in the rise in GPL to exceed the rise in income of households. Thisislikelyto occur when the economy continues to experience an increase in AD near the fullemployment level. Thisisalsomorelikelytooccur for fixed-incomeearnersor retirees.● As a result, households could experience a fall in real income and hencepurchasingpower.● This causes households to consume fewer and worse quality of goods andservices, reducing their tangible aspect of well being, and hence materialstandardof living. Additionally, if this reduces household access to healthcare or nutrition, it could alsoreduce the quality of health, leading to more illnesses and a lower life expectancy. Ifthe lower purchasing power reduces access to education, it coulddeter somestudentsfromfurther studies, lowering the average years of formal education. Coupled with lower lifeexpectancy, this could lower the HDI value, ceteris paribus, which suggests a lowernon-material standardof living. High and severe rates of inflation makes the country’s exports less price competitive inrelation to other countries, and hence, contribute to the lower demand for the country’sexports. This reduces the country’s export revenue and if the country is already in a BOTdeficit, this means that the BOT deficit will worsen and the country may end up borrowing

from other countries to finance its spending on imports. This leads to national debt andhenceaconcerntothegovernments. Note to students: You are encouraged to write at least 2possiblenegativeconsequencesduetohighinflationtoscorewell at theA-levels. Other acceptableanswersinclude(i) Uncertaintyfromhighandunstableinflation, fall inbusinessandconsumers’ confidencefall in consumption andinvestment expenditure, henceADnegativeeconomicgrowthviathereversemultiplier processanditsnegativeconsequences. (iii) High inflation tends to worsen income / wealth inequality. High income / wealthyhouseholds are also disproportionately owners of capital, land, property or financialassets. Income from such assets have traditionally kept pace with the rate of inflationbecause theyareabletorenegotiaterentsbasedoninflation. Hence, highinflationislikelyto increase the income of the rich more than the income of the poor, whose income ismostly fromwages for labour. This could widen the incomegap, whichcouldincreasetheGini Coefficient, reflectingariseinnon-material standardof living. Evaluationof R1:However, if the