I am sure there is only a handful of Singaporeans who like me, can see the bigger picture and understand that in 22/23, MAS actually saved billions of dollars from foreign exchange revaluation losses. I am prone to holding contrarian and unique views and I assure you I am no Critical Spectator to push a fawning piece out. If you have 10 minutes, hear me out.
RMGS (reserves management government securities) is a mechanism that facilitates the central bank MAS, to transfer excess OFR (official foreign reserves) to the sovereign wealth fund GIC to better manage its investment. Some time back, I had a lengthy discussion with Jamus Lim from Workers' Party on RMGS. Our bantering centred on the issues of ‘realised’ and ‘unrealised’ exchange losses relating to the securities. That discussion was ‘open-ended’ due to certain matters we were uncertain of. He had his ideas and I had mine. But I respect that Jamus felt it an important topic to engage with me, a nobody to him, over the course of a couple of weeks.
After having possession of some missing pieces of information since, I am now in a better position to explain the full picture. The 22/23 massive loss of MAS provides an excellent backdrop for his explanation.
Core function of MAS
MAS’ responsibility is the execution of monetary policies to maintain a stable price level. It does not try to control prices of every goods and services but instead focusing on only one consolidated price indicator – inflation. To do this, MAS manages the exchange rate of SGD (some countries control interest rates). Singapore has what is known as a managed float. The rate is allowed to float within a band. In daily market volatility due to dynamics of supply and demand, MAS intervenes in the forex market to stabilise the rate. When the rate is hitting the upper band, MAS sells SGD and buys foreign currencies, forcing the rate down. On the other hand, when the rate is hitting the lower band, MAS buys SGD, forcing the rate up.
Singapore’s persistent trade surplus position puts an upward pressure on SGD rate over the years. MAS has to occasionally adjust the upper band higher, or tighten it. In 22/23 MAS carried out 5 tightening exercise. Not to do so makes SGD under-valued and the currency can come under attack.
As rate rises, MAS is forced to buy increasingly more foreign currencies. Doing so puts MAS to 2 risks. (a) A revaluation risk as foreign currency holdings depreciate in value in SGD terms when rate rises. (b) MAS intervention in forex market is always sterilised. This means the foreign currencies are purchased with borrowed SGD. So there is an interest cost to those foreign currency holdings. Thus MAS is exposed to interest rate risks.
A quick summary of the OFR (official foreign reserves)
The foreign currencies purchased are held as OFR. This serves 2 purposes. (a) It is used to protect the SGD. When rate goes down, MAS uses the foreign currencies to buy back SGD. (b) To provide liquidity to the market in times of global financial crisis when a foreign currency may dry up. Eg in 2008 crisis, Thailand, Malaysia and Indonesia were hit hard when USD dried up.
Because SGD had a long run of appreciation, MAS had been continuously buying foreign currencies till the OFR becomes too massive and far in excess of its needs. MAS has to balance needs vs risks. In this respect MAS holds the view an opitmum level of OFR is between 65% - 70% of GDP. Excess OFR is transferred to GIC to invest. The way it is normally explained, MAS investment is in short term liquid assets, it transfers OFR that is in excess of its needs to GIC to invest in longer term assets for better yields. That is technically not correct. There is nothing that prevents MAS itself to invest excess OFR in longer term riskier assets to seek better yields. But that would be an unhealthy distraction from its core mission of managing price stability. A central bank must never be profit driven. It makes more sense for the excess OFR to be managed by the sovereign wealth fund that is staffed and equipped to manage long term investments.
How excess OFR was transferred to GIC in the past
The transfer of excess OFR to GIC has been in practice for years. As a matter of fact, GIC was initially set up specifically to manage the foreign currencies of MAS. The mechanics was simple. When government has built funds in their SGD account in excess of their operating requirements, a transfer is made. This is completed by an internal FX transaction. MAS debits government SGD deposit a/c and credit foreign currency a/c. In effect, MAS sold foreign currencies to MOF for SGD. As years progressed the growth of OFR far outpaced government deposit accumulation. The consequence is huge OFR balances in MAS’ books as they could not be moved out quick enough.
How excess OFR is transferred to GIC using RMGS
The government issues RMGS and MAS subscribes. RMGS is a special non-tradeable, interest-bearing, SGD denominated security settled in specific foreign currency and open to subscription by MAS only. Exchange rate is fixed at spot rate on the ‘rate-fixing’ date. On settlement date MAS transfers foreign currency to government agency bank and receives RMGS. In MAS book, simply debit RMGS (SGD) and credit foreign currencies, ie a change from a foreign currency asset to a SGD asset.
On redemption, a ‘rate-fixing’ date is agreed. The spot rate of the day is fixed. On settlement MAS returns RMGS to government and receives foreign currencies back. In MAS books, debit foreign currencies and credit RMGS. Again, its a simple change of one asset to another.
The discerned reader will notice the spot rates on subscription and redemption will almost certainly be different, calling into question the issue of foreign exchange gains and losses. This is the major part that I wrestled with Jamus Lim. This I can now fully explain.
The conundrum of foreign exchange gains or losses
The huge foreign exchange loss of SGD21.4b was explained away as loss on translation of foreign currency holdings into functional currency SGD. It's the way the layman can understand.
Technically, this is how it works. When MAS buys foreign currency and sells SGD, it creates a spot position in the currency pair which is subject to mark-to-market giving rise to unrealised FX P&L. On settlement 2 days later, there is a realised FX gain or loss. This is the difference between the contracted spot rate and the book rate (which is normally the market spot rate on settlement date).It also creates currency mismatch in the 2 currencies. MAS is long in foreign currency and short in SGD. The open short position of SGD has no FX exposure since it is the functional currency. The open long position of the foreign currency has FX exposure and for as long as it remains open, it is revalued daily, resulting in daily FX revaluation gains and losses. In 22/23 the sum of unrealised, realised, and revaluation FX P&L totalled S$21.4b. Notice there is no reference to OFR. The focs is on FX transactions and open currency positions.
With the RMGS, this is what happens. On rate-fixing date, a rate is fixed based on market spot rate. In effect, MAS does an internal FX deal with MOF. MAS sells foreign currency and buys SGD. Settlement by MAS paying foreign currency and receiving SGD RMGS. This internal FX transaction creates an open spot position in the currency pair subject to daily unrealised FX P&L. On settlement, there is a realised FX P&L (difference between transaction rate and book rate), and a mismatch in the 2 currencies which cause a reduction in both the open short SGD and the open long foreign currency positions which are subject to daily revaluation.
In the future, when RMGS is redeemed, the exact reverse action will take place. A rate will be fixed based on market spot rate. The internal FX transaction is MAS buys foreign currency and sells SGD, settlement by MOF pays foreign currency and MAS pays SGD in the form of RMGS. This internal FX transaction creates an open spot position in the currency pair subject to daily unrealised FX P&L. On settlement day there is a realised FX P&L (difference between transaction rate and book rate) and a mismatch in the 2 currencies which cause an increase in both the open short SGD and the open long foreign currency position.
The difficult part of my online exchange with Jamus centred on grappling with trying to understand when MAS will be hit with realised loss on the foreign currency transferred via RMGS. Conceptually I think that is what most people tend to think. In practice, no one works on the basis of this batch of USD valued so much and that batch so much, so when this batch is sold the realised gain or loss is so much. Currency is fungible. That means one USD, for example, is always the same as another USD. They are all mixed up and used as one. The changes in their values as exchange rates change is captured by valuation of FX transactions for unrealised and realised FX P&L and revaluation of open foreign currency positions explained above.
In summary, we do not bother with the currency holdings. We track the FX transactions and open currency positions to determine FX P&L.
Why RMGS is a brilliant idea
Whoever conceptualised RMGS as a way for MAS to move out excess OFR, buy him/her a beer. It solved 3 big headaches for MAS:
a). The mechanism facilitated the transfer of huge sums of excess OFR to GIC to invest for better returns without the need to wait for MOF's SGD deposit a/c with MAS to build up.
b.) Huge balances in OFR attract criticisms of currency manipulation and unfair trade practices from the international community which may lead to tariffs against Singapore. The US has singled out Singapore for comments in the past. RMGS allows MAS to quickly tuck huge OFR excesses out of its book.
c). RMGS allows MAS a way to drastically reduce the open long foreign currency positions thereby minimising exposures to revaluation loses from SGD appreciation. 22/23 is an extremely good illustration. During 2022 a total of S$237.6b were transferred out via RMGS. This resulted in substantial reduction of open long foreign currency positions. Had it not been for RMGS, the forex losses could have been much higher than S$21.4b.
On second thought, buy that fella two beers!
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