With sluggish global demand and government restrictions on foreign labor hitting the manufacturing sector, the Singapore economy contracted in the second quarter of this year, dampening the mood ahead of Singapore’s 50th anniversary celebrations.

The Ministry of Trade and Industry (MTI) showed on Tuesday that the decline in gross domestic product amounted to a 4.6% quarter-on-quarter contraction in April-June. The sharp slump came totally unexpected — the first quarter clocked in a 4.2% expansion. The manufacturing sector contracted 14% on quarter.

With already weak inflation numbers — annual core inflation hit a five year low of 0.1% in May. Some economists believe the poor GDP reading could force the Monetary Authority of Singapore (MAS) to ease its exchange-rate based monetary policy at its October policy review.

Singapore’s economy is heavily trade-reliant. Subsequently, the Singapore dollar crumbled to a one-month low of 1.3622 versus the U.S. dollar soon after the GDP report.


Poor Numbers Across the Board

A commodities slump, China’s slowdown — a major market for Singapore — and uneven recoveries in the United States and Europe have damped the exports that power many ASEAN economies.

With Singapore’s industrial production having already been very weak in recent months, the economy experienced an unexpectedly strong crunch in the second quarter of the year, as slowing demand from key export markets China and Europe hit its manufacturing.

The services and construction sectors also experienced a contraction — the services sector shrank 2.6% on-quarter, a rare contraction for the sector, and construction slowed by 0.2% . According to data compiled by Bloomberg based on previously reported figures, the contraction in the economy is the worst since the third quarter of 2012.

Private economists immediately downgraded their forecasts for the full year, despite the figures still showing the economy expanding at a rate of 1.7% on a yearly basis. Hak Bin Chua, economist at Bank of America-Merrill Lynch, said, “We cannot rule out a technical recession.”

The recent Chinese stock market meltdown increases the risks that Chinese growth could further weaken in coming months, which would further headwinds for the trade-reliant economy. According to the median estimate of a Bloomberg survey ahead of data due Wednesday, China’s second-quarter economic growth may have slowed to 6.8% from 7%.

There is some hope, however, that global demand could recover slightly during the following months, believes Rajiv Biswas, Asia Pacific chief economist at IHS. According to Biswas, the agreement between the European Union and Greece for a third bailout package “may help to limit downside risks for Singaporean exports to the EU as well as removing the near-term contagion risks to Singapore and the rest of Asia that could have arisen” if Greece exited the Eurozone.

Besides slowing global demand, a “labor crunch is really inhibiting companies’ ability to grow, their ability to take on new orders,” said Irvin Seah, senior economist for DBS Bank.

The domestic labour crunch has been forced by government measures aiming to curb the inflow of foreign workers. For the island nation, the large presence of overseas workers has become a heated political issue. Some local citizens complain that foreigners are causing overcrowding, straining public transport and to the dismay of many competing with locals for jobs — it is expected, a general election will be called within the year.

It is now expected GDP will expand 2.4% this year, down from its previous forecast of 3.2% – the slowest in six years. After the unexpected ease in January, these sluggish numbers could exert pressure for the MAS to consider further easing in their monetary policy.

“The weaker-than-expected GDP release raises the risk of a policy shift in October,” analysts at Nomura Holdings Inc said in a research note on Tuesday. “With core inflation below the target range, a weaker property market and bank lending, the GDP release could increase market expectations for easing.”

Irvin Seah sees risks of core inflation turning negative in the next few months.

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