Explain the economic impact of the COVID-19 pandemic and how discretionary fiscal policy can help support recovery during a recession.
The COVID-19 pandemic has caused a sharp downturn in economic activity both in Singapore and around the world. This has been driven by a combination of supply chain disruptions, widespread travel restrictions, and a sudden drop in demand. As a result, Singapore’s economy is expected to enter a recession, with GDP growth forecasted to range between –4% and –1% for the year.
Source: Macroeconomic Review, April 2020, MAS
a. Explain the economic impact of the COVID-19 pandemic and how discretionary fiscal policy can help support recovery during a recession. [10]
Introduction
The COVID-19 pandemic triggered one of the most severe economic contractions in modern history. For an open and highly globalised economy like Singapore, the impact was particularly stark. With widespread travel restrictions, supply chain disruptions, and falling consumer confidence, both aggregate demand and aggregate supply were hit concurrently, leading to a deep and broad-based recession. Discretionary fiscal policy—where the government deliberately adjusts its spending or taxation policies—played a crucial role in cushioning the downturn and supporting economic recovery.
Economic Impact of COVID-19 on Singapore’s Economy
Fall in Aggregate Demand (AD)
The first and most immediate effect of the pandemic was a sharp fall in aggregate demand. With movement restrictions and social distancing measures in place, domestic consumption (C) declined significantly. Households reduced spending on non-essential items, and services such as dining out, entertainment, and retail saw severe contractions.
Simultaneously, Singapore’s exports (X) were negatively affected. With international borders closed and air travel at a near standstill, Singapore’s large tourism and hospitality sectors collapsed. In addition, global demand weakened, leading to a reduction in manufactured exports and trade-related services. Imports (M) also fell, but the fall in exports was relatively more significant.
This fall in both C and (X–M) led to a leftward shift in the AD curve, resulting in a fall in real national income (NY) and a decline in economic growth. Firms, facing lower sales and profitability, responded by cutting back on hiring, which caused a rise in cyclical unemployment.
Fall in Aggregate Supply (AS)
COVID-19 also disrupted aggregate supply:
Short-run aggregate supply (SRAS) was affected by global logistical disruptions. For instance, container shipping costs surged, and delivery times lengthened due to port closures and labour shortages. This raised the cost of production (COP) for firms reliant on imported raw materials and intermediate goods, causing the SRAS to shift left.
Long-run aggregate supply (LRAS) also took a hit. Many firms, particularly small and medium-sized enterprises (SMEs), were forced to shut down due to sustained losses. Moreover, mandatory work-from-home (WFH) arrangements reduced productivity in some sectors, especially where on-site collaboration or physical presence was crucial. This reduced the overall productive capacity of the economy, shifting the LRAS curve leftwards.
As both AD and AS fell, the economy faced a deep recession with rising unemployment, falling output.
How Discretionary Fiscal Policy Can Support Recovery
In response to the crisis, the Singapore government implemented discretionary fiscal policy on an unprecedented scale. These were deliberate and temporary changes to government spending aimed at stabilising the economy.
The government introduced multiple support packages, totalling nearly S$100 billion, aimed at stabilising income, protecting jobs, and supporting businesses.
Jobs Support Scheme (JSS): This wage subsidy scheme saw the government paying a significant portion of local employees’ wages to help firms retain workers. By lowering firms’ cost of production, it reduced the incentive to retrench workers, thereby dampening the rise in cyclical unemployment.
Increased direct hiring: The government also created public sector job opportunities, including Safe Distancing Ambassadors, healthcare support roles, and digital traineeships for fresh graduates. These temporary jobs provided incomes to workers affected by layoffs or delays in employment.
Infrastructure investment: The government also brought forward planned infrastructure projects, such as transport expansions and construction work. This not only created jobs in the construction and engineering sectors but also generated positive multiplier effects throughout the economy.
The increase in G caused a rightward shift in the AD curve, leading to a multiplied increase in real NY. As output began to rise, firms gradually resumed hiring, reducing cyclical unemployment. The combined effect of these measures was to soften the blow of the recession and lay the groundwork for recovery.
Conclusion
In summary, the COVID-19 pandemic dealt a significant blow to both demand and supply in Singapore’s economy, causing GDP to contract by 5.4% in 2020 and pushing unemployment above 3% from a pre-pandemic low of 2.3%. Discretionary fiscal policy played a vital role in mitigating the impact. Through targeted government spending on wage subsidies, job creation, and infrastructure projects, the government was able to raise aggregate demand and support employment.
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