Banca Naţională a României

The annual inflation rate continued to decline over the last two months of 2020, falling to 2.14 percent in November from 2.24 percent in October and to 2.06 percent in December – visibly below the mid-point of the target and marginally below the forecast –, thus steepening its considerable drop against December 2019, when it had stood at 4.04 percent. Developments in the past two months were due to a relatively faster deceleration in core inflation, in a context in which the disinflationary impact of changes in VFE prices was counterbalanced by the influence of higher prices of fuels, tobacco products and electricity.

The annual adjusted CORE2 inflation rate (which excludes from the CPI inflation administered prices, volatile prices, and tobacco product and alcoholic beverage prices) decreased to 3.4 percent in November, from 3.6 percent in October, and to 3.3 percent in December 2020 – in line with the latest forecast –, mainly on account of the disinflationary base effects associated with the developments in the prices of some processed food items, as well as with the minor contribution from the slowdown in the depreciation of the leu against the euro in annual terms. The dynamics of this component continue to be marked by the pre-pandemic underlying inflationary pressures, reflecting, inter alia, the associated inflation expectations, to which add the influences from a rebound in consumption in the second half of 2020, as well as from supply-side disruptions and costs linked with the pandemic and with the measures to prevent the coronavirus spread.

Average annual CPI inflation rate and average annual inflation rate calculated based on the Harmonised Index of Consumer Prices dropped to 2.6 percent and 2.3 percent respectively in December from 2.9 percent and 2.7 percent respectively in October.

In Q3, economic activity reversed a significant part of its previous contraction, declining at a slower pace in annual terms, i.e. -5.7 percent compared to -10.3 percent in Q2, given the 5.8 percent quarterly rise, after dropping by 12.2 percent in Q2; the recovery momentum was severely contained by the decline in agricultural output, in the absence of which the economy would have seen a slower fall in annual terms, i.e. -3.2 percent.

The recovery owed mainly to household consumption, which saw a strong rebound after the lifting of mobility restrictions, amid, inter alia, the relatively improved labour market conditions and a renewed step-up in real disposable income. In turn, gross fixed capital formation continued to increase mildly in annual terms, in the context of a re-acceleration in the dynamics of construction, with a strong contribution from public investment, together with the support of government programmes.

At the same time, the negative contribution of net exports to annual GDP dynamics decreased visibly, given that the significant upturn in exports outpaced the recovery of imports of goods and services, entailing also a fall in the trade deficit compared to the same period of the previous year. However, the current account deficit resumed its advance in annual terms, solely as a result of a new worsening of the primary income balance, on the back of flows of reinvested earnings.

The latest statistical data point to faster-than-expected dynamics of economic activity in the first months of 2020 Q4, albeit markedly slower during the quarter overall, amid mixed sectoral developments, under the impact of a resurgence in the coronavirus pandemic and the fresh restrictions gradually implemented on the domestic front and across other EU countries, which are however less severe than those during the first wave.

Thus, October through November, retail sales fully reversed the contraction seen in spring, visibly exceeding the February 2020 level and further recording positive annual dynamics; at the same time, market services to households saw their year-on-year decline widen considerably. In addition, the volume of construction works continued to expand at a two-digit annual pace, whereas the narrowing trend of the annual decline in industrial output almost came to a halt, the same as that in the trade deficit; also against this background, the current account deficit posted a larger advance versus the same year-earlier period.

Financial market developments have recently reflected the influence exerted by the improvement in investor sentiment on the Romanian economy outlook and by the increase in global risk appetite, conducive also to the easing of money market liquidity conditions. Against this background, key interbank money market rates stuck to a downward path, which steepened afterwards, while yields on government securities followed a sharper downward course. In turn, the average interest rate on new loans went further down October through November overall versus the previous quarter’s average, dropping in October to a 3-year low.

The interest rate differential on the financial market contributed to the relative stability of the leu’s exchange rate, in the context of its gradual decrease, in early January 2021 as well.

The annual dynamics of credit to the private sector picked up further in the first two months of 2020 Q4 – reaching 4.6 percent in November from 4.0 percent in September –, amid the faster growth in leu-denominated loans to non-financial corporations, prompted by the IMM Invest Romania Programme and the overall downtrend in interest rates. The share of leu-denominated loans in total private sector credit widened to 69.3 percent in November, hitting a record-high for the post-January 1996 period.

The latest assessments reconfirm the outlook for a slight step-up in the annual inflation rate January through February 2021, under the impact of supply-side factors, followed by a minor decline at end-Q1. These developments are in line with the latest medium-term forecast published in the November 2020 Inflation Report, which sees the inflation rate running close to the mid-point of the target over the policy-relevant horizon, amid the disinflationary effects from the aggregate demand deficit.

Uncertainties and risks surrounding the inflation outlook stem from the future fiscal and income policy stance, at least until the approval of the 2021 general government budget to outline the coordinates of the necessary fiscal consolidation that will probably be initiated this year, according to some measures recently announced by the government; the consolidation requires support from the absorption of European funds allocated to Romania via the EU economic recovery package and multiannual budget.

Also important are the uncertainties associated with the liberalisation, starting 1 January 2021, of the electricity market for household consumers, with more pronounced potential implications for the CPI dynamics.

Significant uncertainties and risks also stem from the external environment, given the protraction of the current pandemic wave and of the associated mobility restrictions, weighing on the recovery of European economies, probably until the effects of vaccination campaigns become manifest.

In today’s meeting, based on the currently available data and assessments, as well as in light of the elevated uncertainty, the NBR Board decided to cut the monetary policy rate to 1.25 percent per annum from 1.50 percent per annum starting 18 January 2021. Moreover, it decided to lower the deposit facility rate to 0.75 percent per annum from 1.00 percent per annum and the lending (Lombard) facility rate to 1.75 percent per annum from 2.00 percent per annum. Furthermore, the NBR Board decided to maintain the existing levels of minimum reserve requirement ratios on both leu- and foreign currency-denominated liabilities of credit institutions.

The NBR Board considers that, given the transmission lags of the policy rate impulses, such a calibration of the monetary policy conduct is likely to provide an underpinning to the recovery of economic activity over the projection horizon with a view to bringing and strengthening over the medium term the annual inflation rate in line with the 2.5 percent ±1 percentage point inflation target, while safeguarding financial stability.

The account (minutes) of discussions underlying the adoption of the monetary policy decision during today’s meeting will be posted on the NBR’s website on 26 January 2021, at 3:00 p.m.

The NBR Board decision to suspend the calendar of monetary policy meetings remains in place and monetary policy meetings will be held whenever necessary.