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 decision, based on the data and analyses on current and future macroeconomic, financial and monetary developments submitted by the specialised departments, as well as on other available domestic and external information.
Looking at the recent developments in consumer prices, Board members noted that the annual inflation rate had climbed to 7.94 percent in October 2021, from 6.29 percent in September, before falling to 7.80 percent in November under the impact of the capping and compensation of electricity and natural gas prices for households, thus mildly exceeding the forecast at the end of the first two months of Q4. It was remarked that the increase had also been mainly driven by exogenous CPI components, the same as in the previous quarters, and that the main contribution had come that time round from the hefty hike in the prices of fuels, i.e. the non-petrol-diesel subgroup, and to a smaller extent from higher VFE prices. The influences from electricity and natural gas prices had been much more subdued during that period, as the schemes designed to compensate and cap price hikes had partly offset the notable price increases by natural gas suppliers in the two months and had led to a significant decline in the electricity price in November.
The annual adjusted CORE2 inflation rate had also continued to rise somewhat faster than anticipated, up from 3.6 percent in September to 4.0 percent in October and 4.3 percent in November. Almost 80 percent of the advance had however come from processed food price increases that had been widespread and higher than expected, primarily under the impact of the hikes in international commodity prices as well as higher energy and transport costs, Board members pointed out. At the same time, the relatively equal contributions made by the non-food and services sub-components had been minor, even amid a large range of products and services having recorded new small price increases, most likely reflecting rising production costs on the external and domestic fronts, inter alia in the context the fourth pandemic wave.
Following the analysis, Board members agreed that the further relatively fast upward trend of the annual adjusted CORE2 inflation rate was ascribable to adverse supply-side shocks, particularly to external ones, whose direct and indirect effects had been fuelled domestically by increasingly higher short-term inflation expectations. Members underlined the sharp rises posted over the recent months by industrial producer prices at European level, as well as domestically – under the impact of the climb in the prices of energy, other commodities and transport, but also as a result of the semiconductor crisis and other persistent bottlenecks in production and supply chains. Those rises were seen likely to affect with a time lag, but also depending on demand, the prices of almost all consumer goods and services, inter alia via imports. Furthermore, Board members emphasised the new significant upward adjustments in economic agents’ short-term inflation expectations, but also the relative rigidity of longer-term inflation expectations – which had seen only small increases –, as well as the steep erosion trend of the purchasing power of consumers, as shown by the dynamics of the average real net wage entering and falling deeper into negative territory over the recent months.
As for the cyclical position of the economy, Board members showed that economic growth had slowed down considerably in 2021 Q3, to 0.4 percent from 1.5 percent in Q2, contrary to expectations. It was concluded that the evolution made it likely for excess aggregate demand to shrink in that period to a much lower value than forecasted in November 2021, also due to the recent notable downward revision of statistical data on the pace of economic advance in 2021 H1, which implied as well that in Q2 the pre-pandemic GDP level had been surpassed by a relatively more modest margin.
Moreover, it was remarked that the annual economic growth rate had seen in Q3 a visibly stronger-than-anticipated decline, i.e. to 7.4 percent from 13.9 percent in Q2, while remaining however high from a historical perspective, mainly on the back of household consumption, but also of the unusually large contribution made, in that period as well, by the change in inventories. On the other hand, the contribution of gross fixed capital formation had unexpectedly turned marginally negative for the first time in the past 11 quarters, mainly on account of a sharper contraction in capital repair works, which had outweighed the impact of the slight annual increases in new construction works and net investments in equipment (transport equipment included).
Net exports had further made a negative contribution to annual GDP dynamics, albeit significantly lower versus the previous quarter, even amid a somewhat faster decline in the annual change in exports of goods and services than that in imports thereof. However, trade deficit had deepened in annual terms at a much stronger pace, given the relatively more unfavourable developments in the prices of imported goods, while the current account deficit had continued to increase against the same year-ago quarter, yet somewhat more slowly, its cumulative value for the first 9 months of 2021 exceeding by almost 55 percent that reported in the same year-earlier period. The developments were viewed as particularly worrisome by Board members, although they could be partly attributed to incidental factors, and the current account deficit coverage by foreign direct investment and capital transfers had seen a slight improvement during the first three quarters as a whole.
Looking at labour market developments, Board members noted that the broadly favourable developments on the market had been impacted over the autumn months by the worsening epidemiological situation and tighter mobility restrictions, as well as by more severe disruptions in global supply chains and sharp increases in energy and other commodity costs. Thus, the number of employees had ceased to rise in September and had gone up only marginally in October, very slightly exceeding the pre-pandemic level. Moreover, in September, the ILO unemployment rate had reversed only part of the significant increases seen in the previous two months, while in October it had remained unchanged at 5.3 percent, visibly above pre-pandemic values.
The job vacancy rate had however posted a slightly faster pick-up in Q3, several Board members remarked, so that the ratio of labour demand to the available supply had continued to increase relatively fast, without however touching the high pre-pandemic values. In addition, it was observed that the latest surveys indicated strong employment intentions for 2022 Q1, except for industry, where they tended to weaken, most likely owing to disruptions in production and supply chains and elevated costs. Board members also cited labour shortages in certain labour market segments, which could generate pressures on wages, especially amid the upward movement in the inflation rate, as well as the influences, albeit relatively modest, stemming from the hike in the economy-wide gross minimum wage at the beginning of 2022, but also the opposite effects probably caused by the public-sector wage policy envisaged for the current year.
Nevertheless, near-term labour market prospects continued to be marked by significant uncertainty, Board members agreed, given the persistent bottlenecks in global supply chains and the very high commodity prices, mainly energy prices – with a potential major adverse impact on the activity in some sub-sectors –, as well as the likely nationwide expansion of the new pandemic wave entailed by the more contagious Omicron variant. The risks induced by the evolution of the pandemic were however cushioned by the less severe restrictions possibly reinstated and by the enhanced capacity of firms to operate in such a context, as well as by the extension of government’s job retention schemes, according to several Board members.
Looking beyond the short-time horizon, uncertainties persisted over the ability of some businesses to remain viable after the cessation of government support measures, in the context of the high costs of energy and other commodities, as well as amid supply chain bottlenecks and the need for technology integration, possibly leading to restructuring or winding-up. The implications of a likely expansion of automation and digitalisation domestically, as well as an increasingly higher resort by employers to workers from outside the EU remained also relevant for future labour market conditions.
Turning to financial market conditions, Board members showed that the main interbank money market rates had gone further up at a relatively fast pace in November and December 2021, hitting almost two-year highs, following the new policy rate hike, as well as amid tight liquidity conditions and expectations on a further increase in the key rate, strengthened also by developments in the region. Yields on government securities had continued to rise as well, albeit at a slower pace, also in the context of abating political tensions and the mixed behaviour of long-term government bond yields in the advanced and emerging economies, remaining however significantly above those in the region across the entire maturity spectrum. At the same time, the IRCC had reversed its trajectory at the onset of the current year and its upward path would steepen probably markedly in Q2, some members pointed out.
At that juncture, the EUR/RON exchange rate had stayed relatively stable at the higher readings recorded in the closing month of 2021 Q3, even amid larger hikes in key rates implemented by central banks in the region. Risks to the leu’s exchange rate were, however, elevated and with potential adverse implications for inflation and external vulnerability indicators, Board members cautioned. They referred mainly to the external imbalance widening trend and the uncertainties surrounding budget consolidation in the context of the energy crisis and the pandemic developments, as well as to the probable step-up in the normalisation of the Fed’s monetary policy conduct, likely to affect global risk appetite.
Board members also remarked the steadily rising annual growth rate of credit to the private sector, which had climbed further in double-digit territory October through November, given the protracted increase in the particularly strong dynamics of the leu-denominated component, supported inter alia by government programmes, but also on account of a mild step-up in forex loans. Mention was made of the high levels recorded by both the flow of leu-denominated loans to non-financial corporations and that of housing loans – only slightly smaller than the historical high reached in September. Hence, the stock of the domestic currency component had seen its pace of increase accelerate to 19 percent in November, its share in total private sector credit widening to 72 percent.
As for future developments, Board members observed that, according to the new data and assessments, the annual inflation rate would probably rise gradually over the months ahead, thus exceeding the slightly decreasing values shown over that time horizon by the November 2021 medium-term forecast. It was reiterated that the latter had envisaged the inflation dynamics peaking at 8.6 percent in June 2022, followed by a downward adjustment to 5.9 percent in December 2022 and then to 3.3 percent in September 2023 – slightly below the upper bound of the variation band of the target.
The renewed worsening of the short-term inflation outlook was fully ascribable to the direct and indirect effects – both recent and future – of adverse supply-side shocks affecting in the period ahead both the evolution of exogenous CPI components and core inflation dynamics, Board members repeatedly underlined. Determining factors were the expected higher increases in electricity and natural gas prices – even amid the implementation of measures to compensate and cap such hikes – as well as in processed food prices, mainly due to the advance in energy and agri-food commodity prices. Additional influences were anticipated from the rise in prices of tobacco products, but also of some non-food items, imported ones included, under the impact of higher costs and of bottlenecks in production and supply chains. All of the above were likely to amplify and further prolong the positive deviation of the annual inflation rate from the upper bound of the variation band of the target, especially after the measures to compensate and cap energy price increases ceased, but also to trigger disinflationary base effects over the longer time horizon, Board members observed.
However, elevated uncertainties still lingered over the effects of temporary schemes to compensate and cap the hikes in energy prices, as well as over how they would be assessed and included in the CPI calculation, while the overall balance of supply-side risks to the inflation outlook remained tilted slightly to the upside in the short run, Board members concluded. Nevertheless, a downward correction of energy commodity prices in the latter part of 2022 and a more obvious improvement in global production and supply chains, currently at an early stage, could not be ruled out.
Against that background, Board members expressed serious concerns over the magnitude likely to be reached in the near run by the inflation bout triggered by supply-side shocks and over the risk that it might generate significant second-round effects, possibly through a wage-price spiral. Under the circumstances, the need for anchoring medium-term inflation expectations was repeatedly underscored, also from the perspective of central bank credibility, via a new monetary policy response. At the same time, members agreed that any potential central bank attempt to ward off the direct inflationary effects of adverse supply-side shocks would be not only ineffective, but even counterproductive, in view of the sizeable losses it would cause in economic activity and employment over a longer horizon.
As for demand-side inflationary pressures, Board members observed that the new assessments pointed to a standstill in economic activity in 2021 Q4, followed by a modest recovery in 2022 Q1 – inter alia in the context of the new pandemic waves, the energy crisis and bottlenecks in production and supply chains –, compared to the gradual slowdown in growth anticipated in November 2021. That implied a much more pronounced decline in annual GDP dynamics during the two quarters as against earlier forecasts. The developments made it likely for excess aggregate demand to shrink again over the period as a whole and decline to much lower values than in the previous forecast, also due to the recent considerable downward revision of statistical data on the dynamics of economic activity in 2021 H1. Thus, the aggregate demand surplus was expected to exert minor inflationary pressures, implicitly much more subdued than previously anticipated, Board members concluded.
At the same time, it was noted that, according to recent developments in high-frequency indicators, behind the decline in the annual dynamics of economic activity during 2021 Q4 had stood mainly private consumption, given inter alia the pandemic wave and the erosion of households’ and firms’ income by costlier energy, fuels and food. A slightly improved contribution was, however, to be expected from gross fixed capital formation, on account of public investment. Net exports could make a smaller negative contribution to the GDP advance, although exports of goods and services had recorded in October a much heftier contraction in their annual rate of change than imports, under the unfavourable impact of developments in external prices, leading to a further pick-up in the annual growth of trade deficit. Against that background, but also as a result of the renewed considerable worsening of income balances, the current account deficit had seen its annual dynamics accelerate strongly in October, its cumulative value for the first 10 months of 2021 exceeding by around 58 percent that reported in the same year-earlier period, some members pointed out.
Board members observed that the energy crisis and supply bottlenecks were significant sources of uncertainties and risks at the current juncture, through their potential impact on Europe’s economies, but also domestically – on consumer demand, as well as on firms’ activity, earnings and investment plans, with implications also for the economy’s growth potential over a longer horizon.
Moreover, it was deemed that significant uncertainties and risks continued to stem from the evolution of the pandemic and the ensuing containment measures, at least in the near run, amid the nationwide expansion trend of the pandemic wave entailed by the more contagious Omicron variant, as well as given the insufficient progress of vaccination domestically, but also the challenges posed recently by that wave to numerous European countries.
At the same time, Board members continued to voice concerns about the outlook on the absorption of EU funds, especially those under the Next Generation EU programme, conditional on fulfilling strict milestones and targets for implementing the approved projects, hence on improving the institutional capacity in that respect. It was frequently underlined that the absorption of those funds was of the essence for carrying out the structural reforms needed by the Romanian economy and for counterbalancing, at least in part, the impact of the gradual budget consolidation.
The fiscal policy stance remained, however, a source of uncertainties and risks to the forecasts, Board members agreed. They highlighted, on one hand, the 2021 government deficit potentially smaller than the target and, on the other hand, the coordinates of the budget programme for the current year, aiming at fiscal consolidation progress, in line with the commitments under the excessive deficit procedure, yet in a challenging economic and social environment domestically and globally.
Board members were of the unanimous opinion that the current juncture called for another increase in the monetary policy rate, amid the gradual normalisation of the monetary policy conduct, so as to bring back and maintain the annual inflation rate in line with the 2.5 percent ±1 percentage point flat target, inter alia via the anchoring of inflation expectations over the medium term, in a manner contributing to sustainable economic growth.
The majority of Board members were in favour of a 0.25 percentage point increase in the policy rate, associated with the second step in normalising the interest rate corridor, given the nature of shocks accountable for the worsening of developments in headline and core inflation, as well as the probably much smaller and recently decreasing size of excess aggregate demand, implying subdued and much softer-than-previously-anticipated inflationary pressures, at least in the short run. It was shown that a gradual increase in the key rate was also warranted by the high uncertainties associated with the future action of underlying inflation factors and by the primarily downside risks posed by them inter alia to the medium-term inflation outlook – the one which monetary policy instruments can aim.
A 0.50 percentage point rate hike was also discussed, the main reasons cited being the very high and rising annual inflation rate, alongside labour market conditions, which could entail higher risks to wage dynamics and future inflation, as well as the approaches by central banks in the region and the level of real interest rates. Some members leaned toward that action.
At the same time, the importance of the dosage of policy rate adjustment was underlined, which pleaded for maintaining the 0.25 percentage point step at the moment, in the context of the current fast pace of raising the key rate, manifest in the region as well, meant to anchor inflation expectations over the medium term amid the swift, sizeable and relatively protracted pick-up in the annual inflation rate, also over the near term.
Furthermore, it was shown that maintaining firm control over money market liquidity and extending the interest rate corridor to the standard width of ±1.00 percentage point were conducive to strengthening the uptrend in interbank money market rates, also in the context of expectations on the policy rate adjustment that they incorporated. Moreover, the importance of closely monitoring domestic and global developments was reiterated, 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 decided with a majority of votes, i.e. 7 for and 2 against, to increase the monetary policy rate to 2.00 percent from 1.75 percent. Two members voted for a policy rate hike to 2.25 percent. Furthermore, the NBR Board decided with a majority of votes, i.e. 7 for and 2 against, to extend the symmetric corridor of interest rates on standing facilities around the policy rate to ±1 percentage point from ±0.75 percentage points and unanimously decided to maintain firm control over money market liquidity. At the same time, the NBR Board decided to keep the existing levels of minimum reserve requirement ratios on both leu- and foreign currency-denominated liabilities of credit institutions.