The aggregate consumption puzzle in Singapore
The aggregate consumption puzzle in Singapore
The aggregate consumption puzzle in Singapore
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570 T. Abeys<strong>in</strong>ghe, K.M. Choy / Journal of Asian Economics 15 (2004) 563–578<br />
Kong—have not witnessed persistent decl<strong>in</strong>es <strong>in</strong> their APCs (Table 1). As we noted earlier,<br />
the <strong>in</strong>itial decl<strong>in</strong>es experienced by these countries <strong>in</strong> the 1960s and 1970s are likely to have<br />
been caused by demographic shifts affect<strong>in</strong>g their work<strong>in</strong>g populations—an explanation<br />
emphasized by the proponents of life-cycle theory themselves (Ando & Modigliani, 1963).<br />
Demographic change has <strong>in</strong> fact been cited as another important factor expla<strong>in</strong><strong>in</strong>g the<br />
upward trend <strong>in</strong> S<strong>in</strong>gapore’s private sav<strong>in</strong>g rate (Husa<strong>in</strong>, 1995; Monetary Authority of<br />
S<strong>in</strong>gapore, 1993). It was argued that the susta<strong>in</strong>ed period of growth experienced by<br />
S<strong>in</strong>gapore co<strong>in</strong>cided with a significant fall <strong>in</strong> both young and old dependents <strong>in</strong> the<br />
population. However, the statistics suggest that if this had any role to play at all <strong>in</strong><br />
expla<strong>in</strong><strong>in</strong>g the APC, it cannot be beyond the mid-1980s, when the ratio of the work<strong>in</strong>g age<br />
population to the total population stabilized at 70%. Yet the APC has cont<strong>in</strong>ued its<br />
precipitous decl<strong>in</strong>e <strong>in</strong> the 1990s.<br />
In a provocative article, Ermisch and Huff (1999) claimed that forced sav<strong>in</strong>g <strong>in</strong><br />
S<strong>in</strong>gapore, extracted through compulsory CPF contributions and the manipulation of<br />
the <strong>in</strong>ternal terms of trade by the major statutory boards provid<strong>in</strong>g utilities and telecommunication<br />
services, have been responsible for the high sav<strong>in</strong>gs rate and hence for<br />
‘‘spectacular drops <strong>in</strong> <strong>consumption</strong> as a share of GDP’’ (p. 30). But it will do well to<br />
remember that private <strong>consumption</strong> as a share of disposable <strong>in</strong>come, and not just GDP, has<br />
also exhibited a pronounced downward trend. Given the way we have measured disposable<br />
<strong>in</strong>come, this suggests that ris<strong>in</strong>g CPF contributions and <strong>in</strong>creases <strong>in</strong> government fees and<br />
charges could not have been the reasons beh<strong>in</strong>d the APC’s decl<strong>in</strong>e. By the same token, high<br />
personal <strong>in</strong>come taxes are not a feasible explanation; as a matter of fact, tax rates have been<br />
progressively reduced over the years. However, <strong>in</strong>creases <strong>in</strong> the CPF contribution rate, by<br />
reduc<strong>in</strong>g disposable <strong>in</strong>come, might have <strong>in</strong>duced people to save more for precautionary<br />
purposes or to meet unexpected cont<strong>in</strong>gencies. We tested this hypothesis of ‘forced sav<strong>in</strong>g’<br />
through the CPF by <strong>in</strong>troduc<strong>in</strong>g the overall CPF contribution rate <strong>in</strong>to the standard<br />
<strong>consumption</strong> function. As expected, its impact was <strong>in</strong>significant.<br />
A potentially important determ<strong>in</strong>ant of sav<strong>in</strong>gs behavior which has not been considered<br />
by exist<strong>in</strong>g studies is the rate of <strong>in</strong>terest (Bl<strong>in</strong>der & Deaton, 1985). In theory, the after-tax<br />
real <strong>in</strong>terest rate is the relative price that <strong>in</strong>fluences <strong>in</strong>tertemporal substitution between<br />
present and future <strong>consumption</strong>. Hence, <strong>consumption</strong> is expected to be negatively related<br />
to movements <strong>in</strong> the real <strong>in</strong>terest rate. Moreover, Deaton (1977) has hypothesized that<br />
unexpected <strong>in</strong>flation could lead to decreases <strong>in</strong> consumer spend<strong>in</strong>g because households<br />
mistake nom<strong>in</strong>al price <strong>in</strong>creases for real price <strong>in</strong>creases. In particular, an absolute rise <strong>in</strong> the<br />
price of all goods and services is confused with a relative price rise for the good that the<br />
consumer is consider<strong>in</strong>g buy<strong>in</strong>g.<br />
S<strong>in</strong>ce it is difficult to calculate the effective tax rate on <strong>in</strong>terest <strong>in</strong>come <strong>in</strong> S<strong>in</strong>gapore, we<br />
<strong>in</strong>vestigated the sensitivity of <strong>consumption</strong> to changes <strong>in</strong> the pre-tax real <strong>in</strong>terest rate. <strong>The</strong><br />
latter is computed as the difference between the prime lend<strong>in</strong>g rate and the annual rate of<br />
change of the CPI—a crude, albeit convenient, proxy for expected <strong>in</strong>flation. We simultaneously<br />
perform a simple test of the ‘‘Deaton effect’’ by add<strong>in</strong>g both the real <strong>in</strong>terest rate<br />
and the actual <strong>in</strong>flation rate as arguments to the <strong>consumption</strong> function. Although the real<br />
<strong>in</strong>terest rate appears to be significant, <strong>in</strong>flation clearly is not, thus reject<strong>in</strong>g Deaton’s<br />
hypothesis. This result is perhaps not surpris<strong>in</strong>g given S<strong>in</strong>gapore’s low<strong>in</strong>flation record<br />
(except for the spikes <strong>in</strong> prices caused by the oil shocks <strong>in</strong> the 1970s). Still, no evidence of