Why Higher Interest Rate May Not Be As Bad As You Think “In the short run, the market is a voting machine but in the long run, it is a weighing machine”. Those…
Inflation seems to be here to stay, according to experts like Maybank’s Dr Chua and CIMB’s Song.
While experts are predicting that inflation will ease in 2023, the general trend for inflation is going to be higher than what we are used to. It is not going to be at the 1-2% level prior to the Ukraine-Russia war.
One key driver for inflation was the disrupted supply chain as a consequence of the Ukraine-Russia war, causing energy and commodity prices to skyrocket.
If inflation is going to stay at an elevated level, then does it make sense for Central Provident Fund (CPF) Board to relook its Ordinary Account (OA) interest rates to offer CPF members more value for our retirement savings?
The one key benchmark that CPF OA returns need to keep up with is inflation. If CPF OA returns can’t even beat inflation, it is sure to draw the ire of Singaporeans. Your money gets stuck in a 30-year long pension with no other options and you can’t even beat inflation? For that simple reason, CPF OA return needs to at least stay on par with inflation.
With inflation rate at one of its highest in the last two decades, CPF OA returns seem to be losing pace compared to inflation. Logically, it makes sense for CPF OA to be adjusted to match inflation.
Supporters who are calling for CPF OA interest rates to go up point to the rising interest rates that Monetary Authority of Singapore (MAS) is offering on its short-term (T-Bills) and long-term (Singapore Government Securities aka SGS) bonds. Both of these assets can be invested using your CPF OA money via your CPF Investment Account (CPFIA).
At just 2.5%, the CPF OA interest rate is offering subpar returns compared to SGS and T-Bills. As such, it may lead to an outflow of capital from the CPF into SGS or T-Bills. After all, if you are only getting 2.5% return on your CPF OA, who wouldn’t park it in SGS or T-Bills where you can earn 1.5x of the interest? Plus, these assets are also backed by the Singapore Government anyway. It is not as though you will be investing with a riskier third party.
The Mortgage Servicing Ratio (MSR) is a mortgage servicing rule that was introduced by the MAS to curb overborrowing in the housing market. Based on the new housing cooling measures announced in October 2022, the floor interest rate used to calculate your HDB home loan eligibility (HLE) is raised to 3%. Previously, it was pegged at the prevailing CPF OA interest rate + 0.1%, i.e. 2.6%.
The new rule change to the interest rate floor for MSR means that MAS is hinting that there may be a possibility of CPF OA interest rate going up. That’s why MAS needs to account for this possible change so that HDB homebuyers do not end up overleveraging when buying their first property.
If it was just a matter of raising interest rate in a typical pension system, then it might be much more straightforward. However, in the context of Singapore, raising CPF OA interest rate has a lot of political issues at stake.
One key reason is because your HDB housing loan is tied to the CPF OA interest rate. As described in the MSR segment above, raising CPF OA interest rate means effectively raising mortgage interest rate for a significant group of Singaporeans.
Very few Singaporeans are going to be happy about it when they know you are going to raise their monthly mortgage payment. This is despite the fact that raising CPF OA interest rate will also help to boost their retirement savings that are still in your CPF OA.
Can we really withstand a change in the CPF OA interest rate right after the unpopular GST hike kicked in just last month?
Raising CPF OA interest rate is no child’s play. There’s a lot of ramification behind a simple tweak in the interest rate numbers. Besides the political implications, there’s also the consideration of sustainability. In the long run, can we really sustain growing CPF money at a higher interest rate?
Let’s say the government hypothetically decides to raise CPF interest rate to 3%. Can investment returns on the Special Singapore Government Securities (SSGS) that the CPF Board invest in be able to generate that kind of return for 50-100 years? With a rising interest rate environment, we may be able to do so for the next 1-3 years. But beyond that, it is anyone’s guess how much returns the SSGS can generate.
What happens if CPF Board raises OA interest rate to 3% next year and then only to realize that its SSGS investment can only hit 3% return for two years? Can CPF still have the option of adjusting it downwards when investment return is less than ideal? Well, we doubt so. Similar to raising CPF OA interest rates, it won’t be a decision that Singaporeans will like.
We understand how frustrating it can be when the economy is heading into a recession and CPF isn’t offering you a competitive return to at least fight inflation. However, here’s the good news. To fight inflation, you don’t just need rely on CPF OA interest rate going up.
Instead, you can find other ways to beat inflation, i.e. investing. Investing and aiming for a decent return is the best way to go about beating inflation even if CPF OA interest rate doesn’t get adjusted.
Read 5 ways to make your CPF Savings work harder
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