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; Leonardo Badea, Board member and Deputy Governor of the National Bank of Romania; Eugen Nicolăescu, Board member and Deputy Governor of the National Bank of Romania; Csaba Bálint, Board member; Gheorghe Gherghina, Board member; Cristian Popa, Board member; Dan-Radu Rușanu, Board member; Virgiliu-Jorj Stoenescu, Board member.
During the meeting, the Board discussed and adopted the monetary policy decisions, based on the data on and analyses of recent macroeconomic developments and the medium-term outlook submitted by the specialised departments, as well as on other available domestic and external information.
Looking at the recent developments in inflation, Board members showed that the annual inflation rate had gone down in June, in line with forecasts, to 10.25 percent from 10.64 percent in May and 14.53 percent in March, hence posting a considerably faster drop in 2023 Q2. It was noted that the decrease had been driven during that quarter too, mainly by the energy and fuel price dynamics, which had followed a steeper downtrend, under the impact of base effects, developments in crude oil prices and capping schemes for electricity and natural gas prices.
It was observed that a significant disinflationary contribution had come in Q2 also from core inflation, given that the annual adjusted CORE2 inflation rate had continued to decrease gradually, reaching 13.5 percent in June from 14.6 percent in March. The drop had been entailed by the strong deceleration in the growth rate of processed food prices, while in the non-food and services segments the dynamics of prices had gathered momentum during that quarter too, in the context of new significant monthly hikes in the prices of certain goods and market services, Board members noted.
It was agreed that the deceleration in core inflation had stemmed mainly from base effects and the decline in the prices of commodities, primarily agri-food items, as well as from the downward adjustment of short-term inflation expectations, which had gained speed in April-June, particularly among economic agents in trade and construction. The increasingly strong disinflationary impact of those factors had surpassed the opposite influences that had continued to come from the gradual pass-through of higher corporate costs, including wage costs, into consumer prices, in the context of the preserved profit margins amid a still robust consumer demand, as well as from the hike in the prices of some imported goods, several Board members remarked.
Moreover, it was noted that the annual dynamics of industrial producer prices for consumer goods on the domestic market had decreased at a faster pace in Q2, mainly following the developments in the non-durables prices, while financial analysts’ longer-term inflation expectations had declined in July, after the fluctuations in 2023 H1, thus nearing the variation band of the target. At the same time, however, the consumer purchasing power had strengthened its recovery in April-May, especially following the decrease in the annual inflation rate, several Board members pointed out.
As for the cyclical position of the economy, Board members noted that the new provisional version of statistical data reconfirmed the significant slowdown in economic growth in 2023 Q1 – to 0.2 percent from 1.0 percent in the previous three months –, which implied a relatively pronounced narrowing of excess aggregate demand over that period.
In addition, data reconfirmed the decrease in the annual GDP dynamics to 2.4 percent in 2023 Q1 from 4.5 percent in the previous three months, yet amid a mild change in the structure of aggregate demand, Board members remarked. According to the new data, the decrease was driven by the change in inventories, while the rate of increase of household consumption had posted a more visible step-up in Q1, fully offsetting the impact of the slight slowdown in the dynamics of gross fixed capital formation.
Moreover, the impact of net exports had become expansionary again, contrary to previous assessments, given the widening of the positive differential between the dynamics of exports of goods and services, in terms of volume, and those of imports, amid the continued faster decline in the latter. Consequently, trade deficit and current account deficit had recorded substantial decreases in 2023 Q1 versus the same year-ago period, owing inter alia to the improved terms of trade.
In the near term, Board members agreed that economic growth was likely to post a subdued, and more moderate than previously anticipated, economic growth in 2023 Q2 and Q3, implying excess aggregate demand shrinking during that period to lower values than those forecasted in May, as well as the annual GDP dynamics remaining relatively low.
It was deemed that high-frequency indicators pointed to private consumption as the main driver of economic growth in 2023 Q2 too, albeit at a slower annual pace of increase, as well as a notable positive contribution from gross fixed capital formation. Moreover, the annual change in the exports of goods and services had continued to outpace significantly that of imports in April-May, although it had fallen somewhat more strongly. Under the circumstances, trade deficit had seen a slightly faster annual decline over that period, whereas the current account deficit had almost halted its year-on-year narrowing, mainly as a result of the sharp worsening in the primary income balance, on account of the outflows of reinvested earnings and dividends distributed, several Board members remarked.
Looking at the labour market, Board members underlined the convergent developments in its parameters in recent months, showing a brisker monthly increase in the number of employees economy-wide in April-May, primarily on account of hiring in the private sector, and the further drop in the ILO unemployment rate in June, after having decreased to 5.5 percent in Q1 and holding relatively steady afterwards. At the same time, employment intentions over the very short horizon had neared record highs in early Q3, while the labour shortage reported by companies had risen, in industry as well.
Moreover, it was observed that average gross nominal wage had further stepped up its double-digit annual growth rate in April-May, albeit more modestly than in Q1, and the annual dynamics of net real wage had moved more significantly into positive territory, amid the considerable decline in the annual inflation rate. A matter of concern from the perspective of inflation developments was considered especially the particularly fast pace of increase of unit labour costs, which had followed a steeper upward trend in industry in the first two months of 2023 Q2.
It was deemed that, over the near-term horizon, the pressures on wages and labour costs in the private sector could be fuelled or even amplified by the growing mismatch between labour demand and supply, at least in certain segments, as well as by potential new hikes in the public sector and in the minimum gross wage economy-wide. Several members argued that in certain areas, however, wage increases were expected to be constrained or moderated by firms’ elevated costs and tighter financial conditions, as well as by the downward path of the inflation rate and the higher resort by employers to workers from outside the EU. Some members were of the opinion that at the same time the potential additional increases in unit wage costs would probably be absorbed, at least partially, in profit margins, amid the weaker domestic demand.
Turning to financial conditions, the Board members showed that the main interbank money market rates had continued to decrease slowly in July, while yields on government securities had seen a faster decline in the first part of the month, before embarking on an upward course – in line with developments in advanced economies and in the region – amid investors’ revised expectations on the prospects for the Fed’s monetary policy stance, given the stronger-than-expected growth of the economy and the resilience of the labour market in the USA.
Moreover, it was observed that the local currency had posted a strengthening trend vis-à-vis the euro for most of July, inter alia under the influence of one-off or seasonal domestic factors, after having softened mildly in the prior two months, whereas against the US dollar it had recorded a notable appreciation, as a result of the significant weakening of the American currency on global financial markets in the first half of the period.
Risks to the behaviour of the EUR/RON exchange rate could however increase again, several Board members warned, referring to both the still considerable size of the external disequilibrium and the heightened uncertainties associated with fiscal consolidation given the budget execution in 2023 H1 and the narrowing domestic interest rate differential vis-à-vis developed countries, amid the monetary policy tightening cycle by the Fed and the ECB, also with an impact on global risk appetite.
At the same time, Board members pointed to the further significant decline in annual growth rate recorded in June by credit to the private sector, down to 6.4 percent from 7.9 percent in May, as the particularly fast dynamics of the foreign currency component had posted a steeper decline and the change in leu-denominated credit had remained marginally positive. Against this backdrop, the share of leu-denominated loans in credit to the private sector had halted its descending path, inching up to 67.9 percent in June from 67.6 percent in May.
As for the future macroeconomic developments, Board members showed that the new assessments reconfirmed the outlook for a further fall in the annual inflation rate over the next two years, on a somewhat higher-than-previously-anticipated path only in the medium segment of the projection horizon. Accordingly, the annual inflation rate would drop to single-digit levels at the beginning of 2023 Q3 and subsequently would fall at a rather slower pace, touching 7.5 percent in December 2023, 4.4 percent in December 2024 and 3.8 percent in June 2025, against 7.1 percent and 4.2 percent respectively, as foreseen previously for end-2023 and end-2024.
It was observed that the future decrease in the annual inflation rate would further be driven primarily by supply-side factors, mainly disinflationary base effects and the improvement of global production and supply chains, alongside the downward corrections of some commodity prices, especially of energy, crude oil and agri-food items, seen in the recent quarters amid the easing of wholesale markets. The base effects would continue to be manifest particularly in the energy segment, as well as in the processed food segment, implicitly in the pace of core inflation, yet gradually slowing down over the quarters ahead, and the influences of lower commodity prices would probably feed through progressively and incompletely to the growth rate of consumer prices, Board members remarked.
However, the uncertainties and risks to the inflation outlook from supply-side factors rose significantly over the short time horizon, Board members deemed, citing the potential disinflationary influences stemming from the temporary cap on the mark-ups on basic food products, but especially the implications of potential hikes in indirect taxes and charges to be made in the near future with a view to furthering the necessary fiscal consolidation. The direct inflationary impact of price increases could be relatively modest overall, but likely to raise the descending path of the annual inflation rate above that depicted over the short term in the current forecast, still considerably above the variation band of the target, Board members showed in several interventions.
At the same time, it was agreed that fundamentals were expected to exert somewhat more moderate inflationary pressures over the near-term horizon than in the previous forecast, but easing more gradually thereafter, in view of the prospects for a relatively slower contraction in excess aggregate demand starting in 2023 H2 and a more moderate decline in the pace of private consumption. Moreover, unit labour costs were seen gaining considerable speed this year as a whole, also when compared with earlier forecasts, that increase being, however, likely to be absorbed, at least partly, into firms’ profit margins, several Board members underlined.
Core inflation would also continue to experience strong disinflationary influences, albeit on the wane, stemming from base effects and downward adjustments in some commodity prices – particularly in the processed food segment – as well as from improvements in global production and supply chains. They would be accompanied by influences from the gradual decline in short-term inflation expectations, as well as the dynamics of import prices, on a somewhat higher path, however, than in the previous forecast, Board members noted.
Against that background, the annual adjusted CORE2 inflation rate would probably continue to decline gradually, on a higher-than-previously-anticipated path, yet at a somewhat faster tempo than headline inflation, down to 9.9 percent in December 2023, 5.0 percent in December 2024 and 4.0 percent at the end of the projection horizon, compared to 9.3 percent and 4.8 percent, respectively, as projected in May for end-2023 and end-2024.
As for the future cyclical position of the economy, Board members discussed the outlook for economic growth, pointing out that growth was foreseen to lose more momentum in 2023 than previously anticipated – amid still high inflation and costs, as well as given the monetary policy stance – but to rebound in 2024, contrary to previous forecasts, under the impact of the slowing fiscal consolidation and the recovering external demand, as well as of the faster absorption of EU funds, inter alia under the Next Generation EU instrument. The outlook made it likely for the output gap to narrow more slowly starting in 2023 H2 and remain mildly positive at the end of the projection horizon.
At the same time, it was observed that, according to the new assessments, household consumption would boost its majority contribution to GDP growth amid its pace of increase moderating slightly in the 2023-2024 period, in a context of high interest rates on household loans and deposits, as well as the probably brisker recovery in real disposable income dynamics, also as a result of public sector pay rises.
It was pointed out that a significant contribution to GDP growth would also further come from gross fixed capital formation, whose dynamics were expected to remain particularly high in 2023 and 2024 from a historical perspective, amid the absorption of substantial EU funds under the overlapping multiannual financial frameworks and the Next Generation EU programme, implying large public investment projects as well.
At the same time, net exports would probably halt their contractionary impact this year, and in 2024 their contribution would return to only slightly negative values, implying nevertheless a modest correction of the current account deficit, as a share of GDP, which would thus remain well above European standards in that period, Board members remarked.
The implementation of the package of fiscal measures under discussion, but not yet adopted, would be likely to enhance the correction of the current account deficit, together with the cut in the fiscal deficit, with favourable consequences also on the financing costs of the economy and the behaviour of the leu’s exchange rate, the Board members noted on several occasions. Furthermore, the fiscal adjustment programme would facilitate a somewhat earlier return of the annual inflation rate inside the variation band of the target, by weakening and exhausting more swiftly the inflationary pressures from fundamentals, thus helping ensure the stability of the economy, Board members showed. Under those circumstances, the heightened uncertainty about the current inflation forecast was underlined, especially given the unknowns regarding the nature and magnitude of the measures to be adopted and their implications. At the same time, it was reiterated that the adoption of a substantial package of fiscal measures to carry on budget consolidation was a requirement also in light of the excessive deficit procedure and the commitments made, but also of the conditionalities attached to other agreements signed with the EC.
In that context, Board members again underscored the importance of absorbing and effectively using EU funds, especially those under the Next Generation EU programme, which were essential for carrying out the necessary structural reforms and energy transition, as well as for raising the growth potential and strengthening the resilience of Romania’s economy.
It was also agreed that a source of uncertainties and risks to the prospects for economic activity, implicitly to medium-term inflation outlook, remained the war in Ukraine and the related sanctions, given also the potential stronger effects on the economies of major trading partners, already affected by elevated inflation and tighter financial conditions.
Board members were of the unanimous opinion that the reviewed context overall warranted keeping the monetary policy rate unchanged, with a view to bringing the annual inflation rate back in line with the 2.5 percent ±1 percentage point flat target on a lasting basis, inter alia by anchoring medium-term inflation expectations, in a manner conducive to achieving sustainable economic growth.
Moreover, Board members reiterated the importance of further closely monitoring domestic and global developments so as to enable the NBR to tailor its available instruments in order to achieve the overriding objective regarding medium-term price stability.
Under the circumstances, the NBR Board unanimously decided to keep the monetary policy rate at 7.00 percent. Furthermore, it decided to leave unchanged the lending (Lombard) facility rate at 8.00 percent and the deposit facility rate at 6.00 percent. In addition, the NBR Board unanimously decided to keep the existing levels of minimum reserve requirement ratios on both leu- and foreign currency-denominated liabilities of credit institutions.