Donaldson Tan suggests a recession insurance for non-financial firms. Firms are not going to stop retrenching workers whom they deem as excess manpower regardless of wage subsidy schemes. Instead, the fiscal policy for saving jobs ought to be targeting firms that face difficulty in raising short-term credit.

An alternative to penalising labour

Donaldson Tan / Head, TOC International / London

The website of the Ministry of Trade and Industry (MTI) is a good indicator of the state of our economy. It not only publishes quarterly economic statistics, but also lists the economic milestones our country has achieved. Since 2003, the economic milestones section has not been updated. Upon further scrutiny, one would find there is no mention of success of any government scheme to support local SMEs since 1960 in the economic milestones section.

Furthermore, the gloomy GDP figures add on to the worry. Last month, Goldman Sachs lowered its forecast for Singapore’s GDP for 2009 from –4.0% to –8.0%. On Tuesday (14 March 2009), MTI revealed that Singapore’s GDP for Q1 2009 has contracted by 19.7% compared to the previous quarter, which is worse than the 16.4% contraction in Q4 2008. The revised MTI forecast for 2009 Economic Growth is –9.0% to –6.0%. Until the low cost centres in Asia start to pick up, it is unlikely that the higher cost centres such as Singapore would show any sign of economic recovery.


To citizens’ pain, the employer’s CPF contribution rate has also been revised downward at every crisis and was never restored to the initial rate. In 1986 during the S&L Crisis, the employer rate was cut from 25% to 10%. In 1998 during the Asia Financial Crisis, employer’s rate was cut from 20% to 10%. In 2003 during the SARS Epidemic, employer’s rate was cut from 16% to 13%. In 2007, during the height of the recent economic bubble, the employer’s rate was only raised back to 14.5%. The gist here is to reduce employer cost in order to maximise employment during recession. The 2009 Budget Debate in parliament revealed that PAP policymakers were contemplating between subsidising employment or further reducing employer’s CPF contribution rate, but the latter risk weakening the viability of the CPF and related financing schemes.

At every recession, workers are forced to accept a reduction in their compensation package. Such a reduction is not necessarily a cut in the base pay. Common strategies to reduce worker’s pay package include slashing the hourly rates, further reducing the monthly take-home pay. The next step would involve coercing workers to either take unpaid leave or reduce weekly working hours. The final step would be to convert permanent employees to contract workers which leads to downward revision of non-monetary benefits such as reduced medical coverage. As long as the take-home pay drops, the employer’s and the employee’s CPF contribution would definitely drop too. Further percentage cuts to the employer’s CPF contribution would only be excessive.

It actually makes more sense to temporarily reduce the employee’s CPF contribution rate because of 2 reasons. Firstly, the political obstacle to restore the employer’s CPF contribution rate is a lot more substantial than that of restoring the employee’s contribution. Secondly, every penny counts. Reducing the employee’s CPF contribution rate helps to maximise the take-home pay of each worker. Compared to CPF contribution, the worker can choose to either spend his take-home pay or save it in the bank. This flexibility would enable the worker to tide through difficult economic periods, as recessions are only a temporary phenomena in the economic boom-and-burst cycle. Even if the recession develops into a full-blown economic crisis, it is still a discontinuity between partial equilibriums. It is not a permanent long-term feature of the economy.


During a recession, the priority of any government would be to reduce job losses. Naturally, many governments would opt to reduce employer cost. Through the Job Credit Scheme, the Singapore Government subsidises the employer’s CPF contribution up to S$300 per month per employee. On top of that, the Monetary Authority of Singapore (MAS) has put up a S$15M scheme to subsidise the graduate trainee allowance of financial institutions. While these subsidy schemes sound novel, they are done at the expense of the Singapore’s reserves, as they are not supplemented by the Government’s recurring revenue.

However, such schemes may be useless due to a variety of reasons, including an overwhelming bleak economic outlook. During economic recessions, firms find themselves with excess manpower as demand drops across the sector. There are also firms that face difficulty in raising short-term credit as liquidity in the credit market dries up. Firms are not going to stop retrenching workers whom they deem as excess manpower regardless of wage subsidy schemes. Instead, the fiscal policy for saving jobs ought to be targeting firms that face difficulty in raising short-term credit. Only through improving the short-term liquidity of firms in difficult times would it actually help in minimising job losses.

The United States’ Toxic Asset Reallocation Program (TARP) attempted to improve liquidity in the US markets by injecting capital. However, TARP turned out to be an exercise of inefficient allocation of taxpayer’s monies and poor judgement of toxic asset prices. Even worse, financial institutions continue to hoard taxpayers’ monies to boost their balance sheet instead of actually unfreezing credit lines. The credit market is further plagued by distrust among financial institutions and non-financial firms on each other’s balance sheet – nobody actually believes Bank C has XXX amount of money even if its balance sheet says so.


Essentially, for capital injection to work, there must be minimal erosion of trust among firms. Perhaps there exists a form of indirect capital injection that pre-empts the erosion of trust – a dynamic mechanism that injects money into firms depending on the state of the domestic economy. One such mechanism would be recession insurance for non-financial firms administered by the government. This is not a bail out scheme fully funded by taxpayers. In a nutshell, non-financial firms would pay a regular premium and an insurance payout is triggered when a pre-determined indicator of the economy drops below a specified level.

The recession insurance essentially forces a firm to save up for economic recession during good economic times while minimal state reserves are being used to finance the capital injection from the insurance fund pool. It is actually in line with contractionary monetary policy practised during good economic times and expansionary monetary policy practised during bad economic times. For recession insurance to work, it has to be based on the market view of future output and the likelihood of severe shocks.

Essentially, this means the recession insurance would be put up for auction. While firms submit their bids (consisting of a proposal describing the insurance premium and the insurance payout) and the government sets up a tranche of recession insurance to cover a spectrum of triggers (for example, namely if quarterly growth GDP drops below 2.0%, 0.0% and –2.0%) and contractual period (from as short as 3 years to as long as 7 years). In terms of risk exposure, the government can limit its risk exposure by placing an annual quota on the primary market of recession insurance policies. Moreover, these recession insurance contracts may be sellable in the secondary market, thus setting up a market index to gauge the likelihood of a future recession.