Government does not want you to know MAS is printing money for Covid-19 aid package

DPM Heng said the $22b aid package is 'fiscally neutral' and MOF clarified that it is funded from 'loan capital'. Both explained nothing and got away with it. Local media does not know or bother to ferret out the truth. And so the conversation ends in Singapore, nobody the wiser.

'Fiscally neutral' basically means there is no expenditure by the government. 'Loan capital' in business terminology refers to loans taken by companies usually in securitised structure such as Debentures or Bonds and are long term in nature. These two cheesy financial terms do not explain the $22B funding.

Mr Heng and MOF were reticent in their explanation to Singaporeans who are unfamiliar with the intricacies of high finance. Was it because they did not wish the cat out of the bag? MOF did mention that they are doing what other international countries are doing, but what exactly is that? The answer is the government is funding the S$22B aid package with money out of thin air. It's the same playbook used by the Fed, Bank of England, Bank of Japan and European Central Bank.

In my previous blog I mentioned Enterprise SG is the special purpose vehicle in the funding programme. I like to correct this, now that things are clearer. ESG is a govt agency which helps SMEs in corporate development. It has various financial grants and aids for SMEs, one of which is a working capital loan (WCL). The government guarantees these loans up to 70%. For Covid-19, the govt up the guarantees to 90%. Another aid package for Covid-19 is a temporary loan package (TLP) which is open to companies across all sectors. The government also guarantees 90% to banks. The term is up to 5 years with moratorium of repayment in year 1. Loans are extended by participating banks. The increase in government guarantee is to encourage banks to provide more credit to cash-strapped companies.

The MAS steps in to ensure availability of liquidity in the money market for participating banks. It sets up a MAS SGD Facility for participating banks to draw on when they make WCL and TLP loans to qualifying companies. The cost of funds is priced low at 1% to let banks pass on lower cost to their borrowers. Term is 2 years. The loans to banks are on fully secured basis or by repos. Thus MAS capital is safeguarded.

But where does MAS gets its money. It simply credits the borrowing bank's reserve account and debits loan account.  Money is digitally created in the mechanics of book-keeping entries. This is the magic of central bank high finance. Creating money by MAS is nothing novel. In normal times, it routinely creates or prints money digitally in its Open Market Operation which is where it buys or sells government securities in the secondary market. When money is tight in the market, MAS buys securities where it simply credits the seller's bank reserve account to pay for the purchase (debit to securities account). Thus it pays for the purchases with money created out of nowhere. This way MAS pumps liquidity into the market.

This $22B aid package is unique. It's a paradigm policy shift that marks the unprecedented move of MAS to print money to fund aid packages in a financial crisis. When it prints money to buy securities or provide loans, it is building up its balance sheet. Singapore is now going down the same path as US, EU, UK and Japan with central banks who have been building balance sheets in the past decade. Huge chunks of assets in their economies landed up in central banks' books, creating an overhang of valuation risks to the sovereign and a splitting headache of how to manage its eventual contraction. In Jan 2020, MAS balance sheet size was S$392B. By Mar 2020 when the aid package opened for application, it had shot up to S$410B. Latest data May 2020 it was S$438B. In the month of June alone, companies applied for $700 million under the WPL-TLP programme. Yes, Singapore is taking the first few steps into the rabbit hole.

Printing money this way has very serious consequences and there is no conversation about this in Singapore. When new money is created, it increases the money supply in the country. The balloon is blown bigger by the multiplier effect of fractional banking. Banks can lend a certain percentage of customers deposit money thus expanding further the new money created by MAS.  For deposit liabilities they carry, banks have to maintain 3% minimum cash balance and 16% in liquid assets. That means for each $100 deposit, banks can lend out $81. The $22B created for the aid package can theoretically add $94B to the money supply.

Prior to the 1980s, M2 money supply chart was flat. In the 1980s as our economy took off, M2 began a gradual climb since money supply has to expand with the economy. Two serious financial crisis in 1987 and 1997 saw sharp rises due to central bank open market operations to increase liquidity to stimulate the economy. (MAS prints money to buy securities in open market operation). In the 2007 sub-prime crisis, MAS did the usual pumping liquidity to stimulate the economy. This crisis taught many central banks of a need to have strong forex reserves as global currencies dried up. MAS began building up its forex reserves, paying for currency purchases with printing money. M2 chart began to take a steep climb. And here we are in 2020. The unprecendent printing of money to fund financial aid packages is causing a vertical climb on the M2 chart.

Excessive money supply causes inflation and $ devaluation. Is there a danger of serious inflation post Covid-19 brought on by the $22B money printing? It would be naive to disregard the high possibility. The increase in GST is almost a certainty, perhaps as early as 2021 even though its an election promise to delay this till after 2022. Taxation sucks some of the liquidity out of the economy.

In the past decade, US, UK, EU and Japan have central banks printing money and building up their balance sheet. The liquidity pumped into the economy forced interest rates down. Theoretically, low interest rates will spur the economy. but these countries appear to be caught in a liquidity trap. Some unusual scenario is being played out. The economies cannot take off, but on the other hand, the huge money supply never created any hyperinflation as some feared. Inflation has in fact been on the low band. 

The impact of the huge overhang of money supply is actually very obvious. There is no inflation in real goods and services but in the asset market. Property, equity, and bond markets have been driven to record highs. The era of extremely cheap money is a boon to the wealthy class. With easy access to credits, they leveraged to invest, thus driving up the asset values. The huge disparity of wealth in all these first world countries meant that the explosion of money supply never flow to the lower segment of the demographics. Thus aggregate consumption remained stagnant with no stimulus to expand the economy.

Against this backdrop, it is pretty clear Singapore is moving in exactly the same direction. Our GDP, median wages, and productivity have not improved much despite the steep climb in money supply. Interest rates and inflation remained low. But property and stock markets have climbed significantly over the years. When so much money is pumped into the economy, it has to go somewhere. It is obvious it has gone into assets where values have reached record levels.

Printing money to get out of such financial crisis is not a bad thing per se. It is perhaps the only way to deal with the situation. Prudent management is critical and that means having a cap and ready plans to deal with what's coming in the headwinds. We are nowhere near danger zones such as the US where the printing of US$6 trillion by the Fed for Covid-19 is causing fears of an impending collapse of the US currency.  

We are a small nation with huge reserves built up over the years. The government has steadfastly remained a conscionable Shylock, refusing to dip into our reserves for social spending. It dipped into the reserves for the first time to fund aid packages in the 2007 crisis. For Covid-19 it has done well to use reserves to helicopter drop $71B in aid packages. These reserves dug up for use did not come from the two sovereign wealth funds GIC and Temasek. The two agencies do not have the ready liquidity when needed, forcing the government to print $22B. Reserves are meant to be used on rainy days. Some reflection is needed as to why GIC and Temasek failed to provide the reserves for use when needed - they failed the test for the very reason of their existence.

Post Covid-19 may well see the need for GIC and Temasek to re-strategise and build a separate liquid portfolio for crisis contingencies. Or perhaps the unprecendented use of the magic of central bank printed money has established a new standard for the future. The genie has gotten out of the bottle.