Will costs erode Singapore's edge?

The city-state remains attractive to investors but needs to plough on with its restructuring journey

By Alvin Foo Economics Correspondent

LAST week, Singapore captured headlines at home and abroad for an unsettling reason: It was named the world's most expensive city by the Economist Intelligence Unit (EIU).

The EIU study aims to help companies calculate how much they should pay expatriates and business travellers, so it may not have been a good reflection of everyday costs for locals, as politicians and academics were quick to point out.

But it still crystallises what Singaporeans have known for a while: This country is becoming increasingly expensive to live and work in. Inflation averaged 3.1 per cent in the last five years, from 2.4 per cent in the five years before that.

The EIU's findings also underscored an intense discussion during the Budget debate in Parliament last week about rising costs for businesses here.

Several MPs rose to plead the cases of local firms, which have been buckling under the weight of soaring labour and rental expenses amid a manpower and space crunch.

Companies had asked for more cost cushions in this year's Budget. But no new aid was forthcoming as the Government had unveiled a three-year package just last year to help firms deal with rising costs through the Wage Credit Scheme, the Productivity and Innovation Credit Bonus and corporate tax rebates.

Local bosses are still struggling, though. A survey by the Singapore Business Federation ahead of the Budget found that three in four companies said their key challenge this year would be high labour costs.

Between the third quarter of 2009 and the first quarter of last year, unit business costs rose 19 per cent for the manufacturing sector and 25 per cent for the service sector, the Trade and Industry Ministry said recently. For the whole of last year, overall unit business costs rose 1.5 per cent across all sectors.

Singapore has long been an attractive destination for companies to set up shop. But as living and business costs head ever higher, is the Republic in danger of losing its economic competitiveness?

Costs on the rise

A NUMBER of factors are driving up costs more rapidly in Singapore than in other cities.

Some are structural. Land is scarce in Singapore, leading to relatively high land and property costs. Cars here are also among the priciest in the world as the Government tries to control traffic on the roads.

With no natural resources of its own, Singapore also relies on energy and water imports, which raise utility costs here compared with other countries, the EIU noted.

A more recent reason is Singapore's strong rebound from the 2008 global financial crisis. The economy has grown steadily in the last few years and is now operating at around maximum capacity.

This has led to strong demand from companies for industrial and commercial space as well as for workers, raising these costs.

Singapore's robust economic fundamentals have also attracted higher investments and capital inflows, pushing up the Singapore dollar.

At the same time, Singapore's central bank has kept the Singdollar on an appreciating path to guard against inflation.

As a result, the Singdollar has hit all-time highs in the past few years against international and regional currencies, making it even more costly for multinationals that want to operate here.

"Over the last decade, a 40 per cent currency appreciation coupled with solid price inflation has consistently pushed Singapore up the ranking," said the EIU.

Some government policies have exacerbated the cost situation. Over the last decade, the Government has sold off a chunk of industrial land to private sector players such as real estate investment trusts (Reits).

Only about 16 per cent of industrial space is leased out by Reits, but some companies complain this has led to rental hikes of up to three-fold when leases are renewed.

Industrial rents have shot up by double digits each year from 2010 to 2012, although growth eased to 5 per cent last year.

Since 2010, the Government has also been tightening the tap on foreign labour, as it restructures the economy towards higher productivity. This has raised unit labour costs by 5.3 per cent in 2012 and 3.1 per cent last year.

Losing our edge?

THERE is little doubt that Singapore's high costs challenge the country's competitive edge. This was flagged in a study by Swiss business school IMD, which showed Singapore's global competitiveness slipping from No. 1 in 2010 to No. 5 last year.

"Sometimes driving up (business) costs is the cost of success," said Bank of America Merrill Lynch economist Chua Hak Bin. "Rents go up because companies want to expand their space here."

OCBC Bank economist Selena Ling said companies know Singapore has never been a cheap place.

The key question is whether the value Singapore adds to their business will continue to outweigh the growing costs of operating here - especially now that other regional cities are also steadily modernising.

So far, the signs are still positive. For one thing, Singapore is not the only place where costs have been rising.

Barclays regional economist Leong Wai Ho said: "Singapore has become pricier in recent years especially after the property boom, but we are still noticeably cheaper than London or Switzerland. Fortunately, most Asian cities have also experienced cost increases."

Mr Paul Yeo, group managing director of Fagerdala Singapore, which makes shock protection products like the foam used in electronics packaging, said business costs in regional countries such as China and Malaysia are also fast rising.

It is common to see wages in China jump 15 per cent yearly and industrial rents rise 40 per cent every three years, while Malaysia now has a minimum wage, he said.

Economists also point out that higher costs have not dampened Singapore's high rankings on other global measures including competitiveness, business environment and transport superiority.

Despite awarding Singapore the cost crown this year, the EIU forecast last June that the Republic will be the world's third-most competitive city in 2025, behind New York and London but ahead of regional peers Hong Kong and Tokyo.

The study ranked 120 cities based on their expected ability to attract capital, businesses, talent and tourists.

Singapore has also been ranked by the World Economic Forum (WEF) as the globe's second-most competitive economy behind Switzerland for three years running.

The WEF lauded Singapore for having more efficient markets, stronger institutions, a sounder financial market, and better infrastructure and education.

In addition, the Lion City has been perched on top of the World Bank's league table as the most business-friendly economy for the eighth straight year, and also boasts the world's best airport and its second-busiest container port after Shanghai.

"As long as Singapore remains on or near the top of these positive global indicators, it will still remain attractive to MNCs and keep its position as the key financial and business hub in Asia," said CIMB regional economist Song Seng Wun.

"Singapore still remains a magnet for talent," added Bank of America Merrill Lynch's Dr Chua.

"The rising costs have not deterred MNCs and companies (which) want to come here."

Adding value

ONE major point in its favour is Singapore's persistent positioning of itself as a safe and sophisticated gateway to a rising Asia.

This has encouraged a host of multinational giants to expand operations here recently, despite higher costs.

In the field of energy, ExxonMobil expanded its vast chemical plant on Jurong Island to the tune of an estimated US$5 billion (S$6.34 billion).

Last year, Royal Dutch Shell relocated its global integrated gas business headquarters from Holland to Singapore, and Chevron shifted its Asia-Pacific headquarters from California to Singapore, to be closer to the Asia-Pacific market.

Cheaper is also not always better for business. In industries such as oil rig building and ship repair, Singapore is still thriving despite foreign labour constraints and rising competition from cheaper alternatives such as China and South Korea.

That is because Singapore's yards boast their own competitive edge - on-time delivery and costs that are kept within budget. These translate into substantial cost savings for its clients.

Bank of America Merrill Lynch's Dr Chua believes that there will be a reversal of the strong-Singdollar currency effect in the next few years, as countries like the United States and Britain unwind their massive money- printing regimes, thus raising living and business costs in those developed nations.

Meanwhile, Singapore must continue down its current economic restructuring journey to ensure its value-add keeps up with its rising costs.

"We need to get productivity up as much as possible to create value," said Barclays' Mr Leong.

Ultimately, Singapore's natural constraints mean it cannot avoid being an expensive country.

But the key is to make sure it is not more expensive than necessary.