The National Bank of Romania Board members present at the meeting: Mugur Isărescu, Chairman of the Board and Governor of the National Bank of Romania; Florin Georgescu, Vice Chairman of the Board and First Deputy Governor of the National Bank of Romania; Eugen Nicolăescu, Board member and Deputy Governor of the National Bank of Romania; Liviu Voinea, Board member and Deputy Governor of the National Bank of Romania; Marin Dinu, Board member; Gheorghe Gherghina, Board member; Ágnes Nagy, Board member; and Virgiliu-Jorj Stoenescu, Board member. During the meeting, the Board discussed and adopted the monetary policy decision, based on the data and analyses on the recent characteristics and the updated forecast of medium-term macroeconomic developments submitted by the specialised departments, as well as on other available domestic and external information.
While discussing the recent developments in consumer prices, Board members showed that the annual inflation rate had fallen slightly in June – to 3.84 percent from 4.1 percent in May –, but had remained above the variation band of the target. It was noted that its decline versus the end of the previous quarter (when it had stood at 4.03 percent) had been somewhat more pronounced than anticipated and that it had been entirely triggered by the exogenous CPI components; the main contributions had come from the decelerations during that period in the growth rates of fuel prices, on account of the oil price evolution, and of the tobacco product prices, following a base effect.
By contrast, the annual adjusted CORE2 inflation rate had seen a faster increase, even slightly above expectations, despite an unanticipated appreciation of the leu against the euro, climbing from 2.7 percent in March to 3.3 percent in June under the impact of movements in the prices of services and processed food items. It was deemed that those developments were only partly attributable to the tax levied on telecom companies and to the hike in some international agri-food prices, respectively, and that the acceleration in core inflation mirrored overall rising demand-pull and wage cost-push inflationary pressures in line with the size and trend of the economy’s cyclical position and of the dynamics of private consumption, as well as with the fast-paced rise in wage costs. It was considered that similar signals were also sent by the step-up in the annual growth rate of industrial producer prices for consumer goods on the domestic market April through May, as well as by the increase in GDP deflator in 2019 Q1 to an 8-year high. Reference was also made to the influences exerted by short-term inflation expectations that, according to surveys, had been either subject to upward adjustments during Q2 or had remained relatively high.
As for the cyclical position of the economy, Board members noted that the second provisional version of statistical data indicated economic growth rates for Q1 similar to those previously reported, i.e. 5 percent in annual terms and 1.3 percent in quarterly terms –, therefore reconfirming, the higher-than-expected advance in excess aggregate demand in that period. It was remarked that the composition of economic growth drivers on the demand side was also broadly unchanged, yet in the context of a slight downward revision of the main drivers’ individual contribution – household consumption, followed by the change in inventories and much further behind by gross fixed capital formation –, entailing a somewhat lower contribution from domestic demand. Conversely, net exports had made a less negative contribution to GDP dynamics than in the previous provisional version, in the context of a relative narrowing of the unfavourable differential between the growth rates of exports and imports of goods and services. However, Board members drew attention that balance-of-payments data continued to indicate a marked acceleration in the growth of the negative balance on trade in goods and services in 2019 Q1 from the same period of the previous year and a widening, in annual terms, of the current account deficit – albeit slower owing to an improvement in the primary and secondary income balances –, and expressed their concerns about the size, trend and financing structure of the external imbalance of the economy.
Subsequently, Board members remarked that the new data reconfirmed the previous assessment indicating a slowdown in economic expansion for Q2 and Q3, which however would continue at a relatively fast pace – as a result of its stronger acceleration in Q1 and in the context of a quarterly growth rate expected to post a gradual decline, inter alia amid an expected less favourable performance of agriculture in Q3 –, which made it likely for the positive output gap to widen further in that period. Nevertheless, the uncertainties associated with the fiscal and budgetary measures implemented in 2019 – with implications for aggregate demand, as well as for potential GDP – were reiterated. Similarly, discussions referred again to the uncertainties arising from the large contribution to economic growth persistently made by the change in inventories over the last quarters.
It was noted that the developments in high-frequency indicators showed private consumption as the main driver of economic growth in 2019 Q2 too, while also suggesting an increase in the positive contribution of gross fixed capital formation. By contrast, net exports were expected to make again a negative contribution, possibly on a slight decrease however versus Q1, considering the somewhat more obvious slowdown in the annual growth rate of imports than in that of exports of goods and services April through May, as reflected also in the relative deceleration of the annual pace of increase of the negative balance on trade in that period. Nevertheless, the current account deficit had widened year on year at a much faster rate, as a result of the substantial deterioration of the secondary income balance, while its coverage by autonomous capital inflows had seen a worsening.
Board members also continued to voice concerns over labour market tightness. Reference was made to the new record high recently reported by the number of employees economy-wide – even in the context of its slower rise, attributable solely however to developments in the private sector –, as well as to the historical low at which the ILO unemployment rate had tended to remain, and to the robust hiring intentions indicated by surveys for the coming period. It was deemed that due to severe labour shortage – enhanced by structural problems –, as well as to the demonstration effect of public sector wage hikes, wage pressures would stay high, the discussions also touching on authorities’ intention to raise the ceiling on the number of newly-admitted foreign workers to the labour market in Romania for this year. Mention was made of the two-digit annual growth rate further reported by the average gross nominal wage, as well as by the net real wage April through May, the slight moderation versus Q1 notwithstanding. The annual rate of change of unit wage costs in industry had also consolidated at two-digit levels during that period and continued to grow slightly after having recorded an almost double level in Q1. Some members remarked that labour shortage, enhanced by emigration, was broad-based in the region and that it was becoming an obstacle in the way of economic growth.
Relative to monetary conditions, Board members pointed out that in July the main ROBOR rates had seen a slightly lower positive spread vis-à-vis the monetary policy rate, whereas the average interest rate on interbank transactions had witnessed a somewhat more pronounced fall below the NBR’s key interest rate, in the context of the larger liquidity surplus on the money market, consistently mopped up by the NBR via deposit-taking operations. Reference was also made to the increase seen in June by the average remuneration of new time deposits – entirely ascribable to the non-financial corporation segment –, and especially to the decline in the interest rate on new loans to households, particularly housing loans, hinting at an increase in the mentioned month in the impact of IRCC (2.36 percent). The discussions referred to the potential effects of IRCC suddenly rising to 2.63 percent in July and remaining stuck to that level for three months and mention was again made of the uncertainties generated by the introduction of such a benchmark index for loans to households, as well as of its possible implications for the monetary policy transmission and stance and, ultimately, for the entire policy framework.
At the same time, the relative stability recorded recently by the EUR/RON exchange rate – a remarkable performance across the region – was highlighted, in the context of the ECB’s and the Federal Reserve’s signals/decisions on monetary policy easing, as well as of the higher interest rate differential versus the euro area and the stances of central banks in Central and Eastern Europe. It was considered that a lower EUR/RON exchange rate against that background could pose risks to medium-term inflation developments via the adverse impact on the current account. However, some Board members drew attention that the major current global disputes on currency and trade-related matters might unleash significant capital movements, which called, given the twin deficits in particular, on the central bank to be alert and prepared for a potential necessary prompt reaction.
Board members noticed that the annual growth rate of credit to the private sector had slowed down slightly in June, largely on the back of the leu-denominated component, whose annual dynamics had stayed on a downtrend, but had remained robust, and had even displayed double-digit readings in the case of loans to households. It was noted that the monthly flow of housing loans in domestic currency had risen faster in June and that of consumer credit had contracted only slightly against the previous month’s record high, after both components had declined in the early months of this year given the relative retrenchment of the “First Home” programme, but probably also as an effect of implementing the new fiscal and macroprudential measures. The share of the leu-denominated component in total private sector credit had widened to 66.6 percent.
As for future developments, Board members showed that the annual inflation rate would probably remain above the variation band of the target until the end of this year, and then return, but stay slightly below its upper bound, on a relatively similar path to that forecasted in the May 2019 Inflation Report. Annual inflation was expected to reach 4.2 percent in December 2019, the same level as anticipated before, and 3.3 percent at the end of the projection horizon, only marginally below the previously-projected value.
It was remarked that the outlook for the annual inflation rate to stay above the variation band of the target and then to return into its upper half was attributable to the action of supply-side factors, which was seen strengthening slightly its inflationary nature in the latter part of 2019, but turning again strongly disinflationary in 2020, mainly on the back of base effects associated with the recent developments in VFE, tobacco and fuel prices, as well as with the tax levied on telecom companies. However, mention was made of the upside risks to that outlook stemming from recent fiscal and budgetary measures – likely to have direct/side effects on the prices of some services and utilities, including electricity and natural gas – as well as from the configuration of the system of indirect taxes/fees, in the event of changes occasioned by the forthcoming budget revision. In the opinion of some Board members, opposite influences might still come from a possibly better-than-expected performance of domestic agricultural production on certain segments, sending prices of some agri-food items lower, and from potentially more favourable developments in the international oil price.
Conversely, Board members concluded that fundamentals were expected to exert gradually rising inflationary pressures, even slightly stronger than previously projected over the longer-term horizon, given the forecasts on the cyclical position of the economy, wage costs and short-term inflation expectations, as well as the dynamics of import prices in the latter part of the horizon, reflecting leu exchange rate movements as well. It was noted that the path of core inflation would, however, continue to be marked by two-way influences from the recent supply-side shocks, namely the introduction of a tax on telecom companies and the hike in international prices of some agri-food items, particularly against the background of the African swine fever. Therefore, the annual adjusted CORE2 inflation rate was projected to exceed the variation band of the target by more than previously expected over the next two quarters, reaching 3.9 percent in December 2019, and, after a slight downward correction anticipated for 2020 H1 due to some base effects, to remain marginally above the upper bound of the band, i.e. 3.6 percent at the end of the projection horizon.
As for the future evolution of the cyclical position of the economy, Board members remarked that the economic expansion would probably start losing some momentum, in annual terms, no sooner than in 2020 and, hence, it would outpace its potential rate considerably this year and somewhat more moderately next year. As a result, excess aggregate demand would increase significantly in 2019 and more slowly in 2020, to markedly higher-than-previously-projected values.
At the same time, private consumption was seen as the main driver of economic growth in the two years, also in the context of elevated employment levels and amid real bank rates that were assumed to rise very slowly. Some Board members warned, however, that the pace of growth of households’ real disposable income and consumer confidence could be affected by potential measures, also given the budget revision, adopted so as to keep the budget deficit within the ceiling set under the Stability and Growth Pact. It was deemed that such fiscal and budgetary measures and approaches could have even more detrimental effects on investment – considering that its contribution to GDP dynamics was foreseen to widen in 2019 –, given the budget execution features in the first part of the year as well as the expected impact of enacting the new pension law. In addition, uncertainties and risks continued to stem from some budgetary practices and the frequent fiscal measures and legislative amendments introduced in the past years, likely to affect the companies’ profits and confidence, but also from European funds absorption and the recently slower dynamics of industrial production and foreign direct investment.
Board members made repeated reference to the increasingly clear signs of a worsening of the euro area and global economies and to the heightened uncertainties about their outlook, especially amid the trade war and Brexit, as well as to the reaction of major central banks at such a juncture. Furthermore, concern was voiced over the considerable negative contribution of net exports expected for this year, but especially over the prospects of a further widening of the current account, developments considered to pose risks to macro-stability and economic growth sustainability. It was agreed that the recent and future deepening of the external imbalance was chiefly ascribed to the divergence between swifter dynamics of domestic absorption and softening external demand, as well as to non-price competitiveness issues in some sectors, but also to some price competitiveness losses, amid higher wage costs and leu exchange rate movements. Several Board members stressed that an orderly correction of that imbalance called for a fiscal adjustment, alongside significant structural reforms, which, nevertheless, would take time.
Against that background, Board members underlined again the need for a balanced macroeconomic policy mix to avoid the overburdening of monetary policy, with undesired effects in the economy. Moreover, the importance of an adequate dosage and pace of adjustment of the monetary policy stance was reiterated, with a view to anchoring medium-term inflation expectations and bringing the annual inflation rate back into line with the inflation target, while safeguarding financial stability. At the same time, it was deemed that, given the macroeconomic conditions and the domestic and external risks, maintaining strict control over money market liquidity was of the essence.
Under the circumstances, the NBR Board unanimously decided to keep unchanged the monetary policy rate at 2.50 percent, while maintaining strict control over money market liquidity. The deposit facility rate was left unchanged at 1.50 percent and the lending (Lombard) facility rate at 3.50 percent. In addition, the NBR Board unanimously decided to maintain the existing levels of minimum reserve requirement ratios on both leu- and foreign currency-denominated liabilities of credit institutions.