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 fallen significantly in March 2023, down to 14.53 percent from 15.52 percent in February, recording thus a considerable drop from 16.37 percent at end-2022. It was noted that in 2023 Q1 the inflation dynamics had posted the first contraction in nine quarters, in line with expectations, driven mainly by the exogenous CPI components. Their disinflationary impact had increased during that period following the sizeable decline in the dynamics of fuel and electricity prices, under the impact of significant base effects and the change made to the energy price capping and compensation scheme starting 1 January 2023.
In turn, the annual adjusted CORE2 inflation rate had halted its rise in Q1, given that, after its lower-than-expected advance in the first two months of the year, it had declined to 14.6 percent in March – a level similar to that in December 2022 –, amid the faster-than-anticipated deceleration in the growth rate of processed food prices. At the same time, the annual dynamics of the non-food sub-component of core inflation had recorded a significantly slower pick-up, yet amid hefty or steeper monthly price increases in the non-food and services segments, warranted only in part by the hike in the VAT rate in the hospitality industry starting 1 January 2023, several Board members pointed out.
Following the analysis, members agreed that the major drivers of the recent behaviour of adjusted CORE2 inflation were disinflationary base effects, falling prices of commodities, especially agri-food items, as well as the downward adjustment of short-term inflation expectations, reflected also by surveys, particularly among economic agents in industry, services and trade. Those factors had fully offset the opposite influences that had continued to come during that period from the gradual pass-through of increased costs of materials and wages into consumer prices, as well as from the preserved profit margins, in the context of the resilience of consumer demand, but also from the hike in the prices of some imported consumer goods.
In that context, Board members noted the turning point at the beginning of the current year in the annual growth rate of industrial producer prices on the domestic market; after having been on an upward path for the past two years, it had reported notable declines in January-March 2023, following the deceleration in the non-durables price dynamics too. Nevertheless, longer-term inflation expectations of financial analysts had seen wider fluctuations, thus remaining above the variation band of the target in the first four months of the year, while the erosion in the consumer purchasing power had seen a halt in January-February, as the annual growth rate of the net nominal wage had caught up with the falling annual inflation, several Board members underlined.
As for the cyclical position of the economy, Board members showed that the new provisional version of statistical data reconfirmed the stronger-than-expected economic growth in 2022 Q4 as well, at a 1 percent quarterly pace, i.e. only mildly slower than the 1.2 percent pace seen in Q3, implying a new rise in excess aggregate demand in that period.
In addition, data reconfirmed the step-up in the annual GDP dynamics to 4.5 percent in 2022 Q4 from 3.7 percent in the previous three months, yet amid a change in the structure of aggregate demand, Board members noted. According to the new data, in the final quarter of 2022, household consumption had become again the main driver of economic growth, its sizeable contribution being followed at a short distance by the contribution from gross fixed capital formation. Furthermore, the impact of net exports had remained only marginally contractionary, as the dynamics of the import volume recorded in that quarter had declined visibly faster than those of the export volume of goods and services. Against that background, the annual rate of increase of the trade deficit had halved, while that of the current account deficit had posted an even stronger decline, inter alia due to the improvement in the evolution of the secondary income balance, on account of inflows of EU funds to the current account.
For the period ahead, Board members agreed that economic growth was likely to post a subdued slowdown in 2023 Q1 and Q2 overall, after the steadily faster-than-expected advance in GDP in the previous quarters, implying a more moderate decline in the positive output gap in that period than anticipated in February 2023 and from a relatively higher level, as well as a mild deceleration in the annual GDP growth in the first three months of 2023 versus the same year-ago period.
According to the latest high-frequency indicators, the annual economic growth was assessed to have been further bolstered in 2023 Q1 mainly by private consumption, but also, to a significant extent, by gross fixed capital formation. At the same time, net exports were likely to have had a neutral or even marginally expansionary impact, given the positive differential reported in January-February 2023 between the annual change of the exports of goods and services and that of imports thereof, amid the much more pronounced decline in the latter, probably owing inter alia to the improved terms of trade. Consequently, trade deficit and current account deficit had also posted a significant narrowing compared to the first two months of the previous year, Board members remarked.
Looking at labour market developments, Board members underlined the mixed signals sent by the new data and surveys, showing that the growth in the number of employees economy-wide had lost further momentum in January-February 2023, while the labour shortage reported by companies had posted a swifter decline in the first month of Q2. At the same time, the ILO unemployment rate had receded to 5.4 percent in March, after its pick-up to 5.7 percent in 2022 Q4, whereas employment intentions for the near-term horizon had increased in April above the average levels for the last three quarters.
Moreover, it was observed that average gross nominal wage had seen a somewhat brisker, two-digit annual growth rate in the first two months of 2023, also as a result of the hike in the gross minimum wage economy-wide and that in the construction sector, while the particularly fast annual dynamics of unit labour costs in industry had continued to accelerate.
It was deemed that those developments could halt the easing of labour market tightness seen in the previous two quarters and could raise wage pressures in the private sector that would increase unit labour costs above expectations, considering, inter alia, the structural deficiencies of the market, but also possible additional hikes in the public sector. However, in certain areas, increases were expected to be moderated by firms’ constraints from elevated costs and tighter financial conditions, but also by the weaker domestic and foreign demand, as well as by the outlook for a relatively fast disinflation in the current year, according to some Board members.
At the same time, the cessation in the future of government support measures, as well as the need for technology integration, could lead, in the context of high costs, to new restructuring or bankruptcy of firms, with increasing effects on labour market probably coming also from the expansion of automation and digitalisation, alongside the higher resort by employers to workers from outside the EU, several Board members reiterated.
Looking at financial conditions, Board members pointed to the relative slowdown in the downward adjustment of main interbank money market rates in April and to their position vis-à-vis the policy rate, as well as to the small fluctuations in the yields on government securities – relatively in line with developments in advanced economies and in the region –, under the influence of successive revisions in investor expectations on the Fed’s prospective monetary policy stance, amid the banking system turmoil.
Moreover, it was remarked that the EUR/RON exchange rate had stuck in April to slightly lower values than those prevailing in 2022 H1, reflecting the high relative attractiveness of investments in domestic currency, but also the improvement in the trade balance. In that context, the leu had strengthened significantly versus the US dollar, as the latter had resumed its depreciation trend against the euro.
Risks to the behaviour of the leu’s exchange rate continued, however, to come from the considerable size of the external imbalance, as well as from the higher uncertainties surrounding budget consolidation at the current economic and social juncture, some Board members cautioned. Nevertheless, it was agreed that, over the near term, the opposite influences from the differential between domestic and international interest rates would probably continue to prevail, also amid expectations on the Fed’s and the ECB’s monetary policy decisions, as well as the broadly favourable risk perception towards financial markets in the region.
At the same time, it was observed that the annual growth rate of credit to the private sector had slowed its decrease even more visibly in March, shrinking only marginally versus February, to 10.2 percent. That reflected the new moderate loss of momentum of the leu-denominated component, inter alia amid the smaller contribution from government support programmes, alongside the mild steepening in the uptrend of the particularly high dynamics of foreign currency loans. Therefore, the share of leu-denominated loans in credit to the private sector had continued to fall relatively swiftly, reaching 67.8 percent in March from 68.3 percent in February.
As for future macroeconomic developments, Board members pointed out that the new assessments reconfirmed the inflation outlook in the February forecast, indicating that the annual inflation rate would remain on a downward path almost similar to that envisaged earlier. Therefore, the annual inflation rate would probably drop to a one-digit level in the following quarter and to 7.1 percent in December 2023, against 7.0 percent in the previous projection. It would then shrink to 4.2 percent in December 2024, the same as in the prior forecast, and to 3.9 percent in March 2025, remaining slightly above the variation band of the target at the end of the projection horizon.
It was observed that the decrease in the annual inflation rate would further be driven by supply-side factors, whose disinflationary impact was expected to rise progressively over the following quarters and to strongly affect the evolution of exogenous CPI components, but also core inflation dynamics to a certain extent. The major influences were anticipated to stem from disinflationary base effects and downward corrections of some commodity prices – including of agri-food commodities, amid the easing of wholesale markets –, as well as from the considerable improvement of global production and supply chains. To those would add the presumed impact of the current setup of energy price capping schemes.
However, uncertainties persisted about the future dynamics of fuel prices, dependent on oil price developments, but also about the prospective evolution of VFE prices, as well as of other agri-food prices, considering – on one hand – the adverse weather conditions and the recent shocks to vegetable output in Europe and regionally and – on the other hand – the underlying premises for a good agricultural year domestically, Board members agreed.
Underlying inflationary pressures were expected to be stronger than previously anticipated and more progressively on the wane, Board members concluded, given the prospects for a gradual shrinking of excess aggregate demand from the rising level seen in 2022 Q4, implying that the output gap would close only at the end of the forecast horizon. Moreover, unit labour cost dynamics would probably pick up further during the current year overall, albeit much more modestly than in 2022, some members deemed.
It was noted that core inflation would, however, increasingly reflect the disinflationary influences stemming from base effects and from downward adjustments of commodity prices – particularly in the processed food segment –, as well as from the improvement in the functioning of global value chains. To those would add the influences from the gradual, although faster-than-previously forecasted decrease in short-term inflation expectations, as well as in the dynamics of import prices, yet from a rising level in 2023 Q1 too and higher than the forecast. At the same time, the inflationary effects from corporate costs and profit margins would probably abate shortly, before fading out, inter alia amid weakening consumer demand and the slowdown trend in inflation, several members argued. Under the circumstances, the annual adjusted CORE2 inflation rate was expected to go down gradually as of 2023 Q2 and fall to 9.3 percent in December 2023 versus 9.8 percent in the prior projection and to 4.3 percent at the end of the forecast horizon, against the previously-anticipated 4.7 percent for December 2024.
Looking at the future cyclical position of the economy, Board members showed that, in the context of inflation and still high costs, as well as given the monetary policy stance and the fiscal consolidation, economic growth was expected to decelerate in 2023 and 2024. However, the deceleration was seen to be more modest during the period overall than previously anticipated, amid the robust performance in 2022 H2 and the faster absorption of EU funds, inter alia under the Next Generation EU instrument. The outlook made it likely for excess aggregate demand to shrink relatively more slowly and from a higher-than-expected level reached in 2022 Q4, implying that the output gap would close at the end of the forecast horizon, three quarters later than previously projected.
It was noted that private consumption would probably remain the major driver of GDP advance, yet its growth would slow down, particularly in 2024, against the background of higher lending and deposit rates for households, of labour market developments and the uncertainty induced by the protraction of the war in Ukraine. Their impact was envisaged to be only partly offset by the restoration of households’ purchasing power, once with the decline in the inflation rate.
Moreover, it was remarked that economic growth would further be markedly supported by gross fixed capital formation as well, whose dynamics were expected to decline significantly in 2023 and pick up slightly in 2024, but to remain particularly high from a historical perspective. That would be due to the assumed absorption of a sizeable volume of European funds under the multiannual financial frameworks and the Next Generation EU programme, yet in a domestic and external environment marked by still high uncertainties and costs, as well as by tighter financial conditions.
At the same time, Board members were of the opinion that net exports might exert a neutral economic impact during the current year, but a slightly contractionary one in 2024. They pointed to the relatively more moderate deceleration anticipated for the dynamics of the export volume of goods and services in 2023, as well as to the likelihood for a somewhat more visible reacceleration of the dynamics of the import volume next year, in correlation with the growth rate of domestic absorption and the evolution of external demand.
Consequently, the current account deficit as a share of GDP would probably see a sizeable correction in 2023, inter alia amid the improvement in the terms of trade and in the primary income balance, but would shrink only mildly in 2024, thus staying way above European standards, Board members showed on several occasions. Against that background, the need was advocated for a marked adjustment, via a mix of policies, of the current account deficit and the budget deficit, which – given their size and twin-deficit identity – represented major vulnerabilities and posed risks to inflation, to the sovereign risk premium and, ultimately, to economic growth sustainability.
However, significant uncertainties and risks to the outlook for economic activity, hence to medium-term inflation developments, stemmed further from the protracted war in Ukraine, as well as from the turmoil in the banking systems in the US and Switzerland. All that could have adverse effects domestically, primarily by affecting the economies of developed countries and the financing costs in Central and Eastern Europe, Board members underlined.
Also from that perspective, Board members reiterated the importance of attracting EU funds, especially those under the Next Generation EU programme. That was conditional on fulfilling strict milestones and targets for implementing the projects, but was essential for carrying out the necessary structural reforms and energy transition, as well as for counterbalancing, at least in part, the contractionary impact of supply-side shocks, compounded inter alia by the tightening of economic and financial conditions worldwide.
Heightened uncertainties and risks were, nevertheless, associated with the fiscal policy stance, Board members agreed. They referred to possible actions taken for furthering budget consolidation in line with the commitments under the excessive deficit procedure, but also to the recent characteristics of budget execution, as well as to potential additional increases in budget expenditures carried out in the current challenging economic and social environment domestically and globally. It was shown again that, under the circumstances, a balanced macroeconomic policy mix and the implementation of structural reforms, also by using EU funds, to foster the growth potential over the long term, were of the essence in preserving a stable macroeconomic framework and strengthening the capacity of the Romanian economy to withstand adverse developments.
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.