By Boo Kok Chuon
I still vividly remember 10 years back, when I was an economics student, I had been struggling with the grasping of the abstract idea of the liquidity trap in Introduction to Economics. Ironically, when I progressed into my final year, this turned out to be my favourite topic for the Monetary Economics paper. Throughout my professional career, the concept remained as abstract as it used to be, never would I ever expect that this nightmarish term, first coined by Sir John Maynard Keynes, would potentially become a worldwide ailment of the global economy, as widespread as its underlying cause: the COVID-19.
Regionally, our neighbour, Malaysia, seems to be already showing signs of being “infected” by the “virus” of the liquidity trap. With the latest findings from ING, the inflation rate of close to -3% for the last quarter triggered their revision of their initial annual inflation forecast of -1% to -2.5%. Even with the already record-low interest rate of 2% for the past decade, rates are expected to cut further and could possibly hit an all-time low of 1% by the end of this year. All these signs point towards the risks of the economy heading towards the direction of a liquidity trap — a situation where monetary policy becomes ineffective. It is an especially tricky situation for Malaysia, especially with the additional stimulus budget of RM10 billion, which would increase its budget deficit to 4.7% coupled with the recent lockdown and fall in oil price. Bank Negara already hinted that future borrowings could be possibly sought in the future “if needed”.
The situation in Singapore is not that promising either, with interest rates trending towards zero and deflation creeping in, and the impairment of various business sectors due to the Circuit Breaker, are suggestive signs that the economy is heading towards the vicious cycle of a liquidity trap too. It is a worrisome situation as if the economic prospects continue to be volatile, it could damage consumption further, which subsequently affects internal absorptions. And what more, the restrictions in travel and cross border activities will hurt current account balances too, and given the fact that Singapore is a net-importing nation, current account deficits could aggravate due to increasing scarcity and increasing protectionism of its trading partners. On the bright side, it is encouraging that the government has taken steps to inject liquidity into the economy through fiscal expansions, which in my opinion, is considered timely. After all, it takes time for the Keynesian multiplier effect to kick in when a fiscal expansion is introduced. There remain good odds for Singapore to conquer the storm with success. However, inevitably, worsen unemployment rates and a recession is bound to stay.
I personally remain hopeful that the liquidity trap could be avoided, as besides impairing the monetary authority from stimulating the economy with monetary policy, it is in fact a vicious cycle in its own right, where it instills fears in consumers, which discourages spending, and on the other hand deem lending unattractive to lenders given the low rate of returns. This would cause internal absorptions to further deteriorate and eventually leads to a prolonged period of depression.
Mr. Boo Kok Chuon is CEO of Iconomy Holdings Pte Ltd, co-author of the book “Corporate Directions” and a serial entrepreneur. Mr. Boo received his trainings in economics, finance and law from the University of London.
