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Minutes of the monetary policy meeting of the National Bank of Romania Board on 9 November 2021

19 November 2021


The National Bank of Romania (BNR Board members present at the meeting: Mugur Is?rescu, 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 Nicol?escu, 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 Ru?anu, 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 consumer prices, Board members noted that the annual inflation rate had risen again above the upper bound of the variation band of the target in September 2021, climbing to 6.29 percent, i.e. significantly above the forecast, from 5.25 percent in August and 3.94 percent in June. It was remarked that its faster increase during Q3 had been triggered especially by exogenous CPI components, the same as in the first half of the year, and that the main contributor had been that time round the significant hike in natural gas and electricity prices in July, alongside influences from the further rise in fuel prices and the notable pick-up in vegetable prices in September, due only to certain goods though.


At the same time, the annual adjusted CORE2 inflation rate had followed a higher-than-expected upward path in Q3 to reach 3.6 percent in September, from 2.9 percent in June. However, nearly half of the advance had owed to almost across-the-board increases in the processed food segment, primarily under the impact of marked hikes in international commodity prices as well as higher energy and transport costs, the increase being also attributed to a significant extent to costlier compulsory motor third-party liability insurance policies in September, Board members pointed out.


At the same time, the contributions made by other categories of services and non-food items had been relatively modest, although their scope had expanded slightly, probably in line with the broad-based growth in operating costs of economic agents, inter alia in the context of the pandemic, as well as with the marginal increase in the annual depreciation of the leu against the euro in Q3.

Following the analysis, Board members agreed that the recent step-up in annual core inflation was ascribable to adverse supply-side shocks, particularly to external ones, whose direct and indirect effects had been fuelled domestically by the stronger demand for goods and services after the easing of mobility restrictions and by the upward movement of short-term inflation expectations.


Members underlined the sharp rises posted over the recent months by industrial producer prices at global and European level, as well as domestically – under the impact of the surge 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, over a certain time horizon, the prices of almost all consumer goods and services, also via imports.


Mention was also made of the significant upward adjustments in economic agents’ short-term inflation expectations, accompanied only by a slight increase in longer-term ones, as well as of the still robust annual dynamics of real disposable income, albeit on a considerable decline, inter alia due to a sharp slowdown in the annual growth of the average net real wage.


As for the cyclical position of the economy, Board members noted that the second preliminary version of statistical data indicated a more moderate slowing of economic growth in Q2 than previously estimated, i.e. to 1.9 percent. The evolution implied that GDP had exceeded more obviously its pre-pandemic level during that period and that excess aggregate demand had stood slightly higher than the August forecast. At the same time, reference was made to a more pronounced increase in the annual GDP growth rate in Q2 amid the base effect associated with its large decline in the same year-earlier period – to 13.9 percent, from -0.2 percent in Q1. The step-up had been supported by all major components of aggregate demand, but with considerably different contributions and to slightly modified extents compared to previous estimates.


Thus, household consumption had made almost the prevailing contribution, followed closely by the change in inventories, whereas gross fixed capital formation and general government consumption had both had modest contributions, with the latter in light of the new data series. Furthermore, the decrease in the negative contribution of net exports to annual GDP dynamics in Q2, albeit somewhat lower than previously estimated, had been reconfirmed, given that the particularly sharp increase in the annual change in exports of goods and services had outpaced that in imports thereof. The trade deficit had recorded, however, a faster widening versus the same year-earlier period, while the annual dynamics of the current account deficit had slowed down considerably versus Q1, under the impact of a relative improvement in income balances, remaining nevertheless above the average values recorded in 2019 and 2020.


Turning to near-term prospects, Board members shared the view that GDP growth, excluding agriculture, would probably see a more pronounced slowing in the second half of 2021 compared to prior forecasts, which would likely cause excess aggregate demand to narrow during that period, contrary to the slight advance anticipated in August. The economy as a whole was expected however to see a renewed marginal acceleration in growth in Q3, due to the very good performance of agriculture, while its annual dynamics were anticipated to post a relatively more moderate deceleration, remaining thus particularly high from a historical perspective.


It was observed that, according to recent developments in high-frequency indicators, the annual GDP growth in Q3 was probably supported by domestic demand alone – more notably by private consumption and, to a lower extent, by gross fixed capital formation –, while the negative contribution of net exports could increase, as exports of goods and services had seen in July-August a much larger contraction in their annual rate of change than imports. Against that background, the trade deficit had recorded a significantly faster deepening in annual terms, whereas the current account deficit had continued to widen, exceeding, January through August 2021 overall, by more than 55 percent the level seen in the same year-earlier period. Board members viewed those trends as particularly worrisome, inter alia amid a progressive drop in the coverage of the current account deficit by foreign direct investment and capital transfers.


Board members showed that labour market developments had been further relatively favourable in the first two months of Q3, yet amid rising supply issues and higher energy prices, as well as increased uncertainties about the epidemiological situation. Thus, the number of employees economy-wide had risen at a more moderate monthly pace than in the first part of the year, exceeding slightly the pre-pandemic level, but staying below the historical peak reached in December 2019. At the same time, after the gradual decline in H1, the ILO unemployment rate had recorded small increases in July and August and had gone down again in September to the June level of 5.0 percent, thus remaining visibly above the values before the pandemic, when labour market had however witnessed an elevated degree of tightness, several Board members underlined. Mention was also made of the relatively flat job vacancy rate in 2021 H1, reflecting a somewhat low capacity of the economy to create jobs, probably, inter alia, amid the progress in digitalisation and automation.


The deceleration in the annual growth of wage earnings in July-August against the Q2 average was, however, attributable to the base effects associated with last year’s specific developments, marked, inter alia, by the recourse to government’s labour retention schemes, some Board members remarked. Furthermore, it was observed that an increased number of business sectors had indicated a shortage of skilled/unskilled workforce, also in the context of emigration and the skill mismatch. That would likely generate pressures on wages, especially amid the upward movement in the inflation rate, aside from those stemming from the hike in the economy-wide gross minimum wage at the beginning of 2022.


Board members shared the view that, in the short run, high uncertainties would continue to surround labour market developments, given the current public health crisis and the insufficient immunisation coverage, alongside the recent tightening of mobility restrictions, but also in the context of growing bottlenecks in global supply chains, likely to cause delays or even halts in production in certain industries. Nevertheless, the entailing risks were mitigated by the reactivation of government’s job retention schemes, as well as by the lower severity of the current restrictive measures, several Board members deemed, citing also the relative resilience of hiring intentions for Q4 reflected in the latest surveys.


Over a somewhat longer horizon, however, uncertainties persisted over the ability of some businesses to remain viable after the cessation of government support measures, especially in the context of a steep pick-up in prices for energy, transport and other commodities and goods, 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 of a possibly higher resort by employers to workers from abroad remained also particularly relevant for future labour market conditions.


Turning to financial market conditions, Board members highlighted the significant upward adjustments in key interbank money market rates during October, to 17-month highs, under the influence of the policy rate hike, as well as amid the tightening of liquidity conditions and the expectations on the further increase in the reference rate, probably also fostered by developments in the region. In turn, yields on government securities had followed a considerably steeper upward path across the entire maturity spectrum, inter alia in the context of the persistence of domestic political tensions and the uptrend in long-term government bond yields in developed economies and regionally.


It was observed that, against that background, as well as amid the abatement of volatility on the international financial market, the EUR/RON exchange rate had remained relatively stable at the higher readings reached in mid-September, even in the context of the renewed policy rate hikes recently carried out by central banks in the region. Board members agreed that risks to the leu’s exchange rate remained, however, elevated, with potential adverse implications for inflation and external vulnerability indicators, in light of the uncertainties surrounding budget consolidation fuelled by the political crisis and of the external imbalance widening trend.


Board members pointed out the further climb in the two-digit range posted by the growth rate of credit to the private sector in September, due to the intense lending in local currency, supported inter alia by government programmes, particularly “IMM Invest Romania”. Reference was made to the visibly larger volume of new leu-denominated loans to non-financial corporations, but especially to the historical high reached by new housing loans in domestic currency, alongside the further high, from a historical perspective, albeit declining, flow of leu-denominated consumer credit. Hence, the stock of the domestic currency component had seen its pace of increase accelerate to 18.4 percent in September, its share in total private sector credit widening to 71.6 percent.


As for future macroeconomic developments, Board members observed that, in the current context, the anticipated inflation pattern was again revised considerably upwards, especially prominent over the short term. Specifically, the annual inflation rate was expected to remain on a steep uptrend until towards mid-2022 – climbing to 7.5 percent in December 2021 and to 8.6 percent in June 2022, way above the previously-forecasted values of 5.6 percent and 4.2 percent respectively. However, it would then witness a relatively swift downward adjustment, falling to 5.9 percent in December 2022 and returning in 2023 Q3 inside the variation band of the target, at 3.3 percent, marginally below the August projection.


The renewed considerable worsening of the inflation outlook was entirely attributable to adverse supply-side shocks, particularly external ones, Board members repeatedly underlined. Their inflationary impact was likely to amplify considerably and to protract the positive deviation of the annual inflation rate from the upper bound of the band, while generating significant disinflationary base effects subsequently, in addition to those stemming from the successive increases in energy and food prices during the first three quarters of 2021.


It was shown that the current upward revision was mainly caused by the new large hikes anticipated for natural gas and electricity prices in 2021 Q4 and 2022 Q1, amid the surge in wholesale prices domestically, as well as in Europe and globally. Additional, albeit more modest influences were also expected from the other exogenous CPI components – prices of fuels and tobacco products, administered prices and VFE prices –, but also from the rise in other commodity prices, particularly for agri-food products, and from costlier compulsory motor third-party liability insurance policies, affecting core inflation.


Board members remarked that the measures designed to compensate and cap price increases for electricity and natural gas for households, presumed to be applied temporarily during the 2021-22 winter, would entail fluctuations in the forecasted path of the annual inflation rate over the short time horizon. Thus, after a pick-up in October 2021, it was expected to decline in November and then rise again in April 2022, once prices returned to the levels stipulated in the contracts.


The way in which the impact of compensation schemes would be included in the CPI calculation was still uncertain, however, and the overall balance of supply-side risks to the inflation outlook remained tilted to the upside in the short run, Board members concluded. They referred to developments in energy and agri-food commodity prices, as well as to the chronic bottlenecks in production and supply chains, likely to affect also core inflation significantly, inter alia via import prices.


Moreover, Board members agreed that, through the much steeper and more persistent climb of the annual inflation rate above the variation band of the target, the inflation bout triggered and amplified in the near run by supply-side shocks might deteriorate medium-term inflation expectations and thus generate significant second-round effects, possibly via a wage-price spiral, given also the labour market looseness drawing to an end. The need for anchoring medium-term inflation expectations was underscored in numerous interventions, also from the perspective of central bank credibility, via a new monetary policy response. At the same time, it was reiterated that any potential central bank attempt to ward off the direct transitory effects of adverse supply-side shocks would be not only ineffective, but even counterproductive, in view of the sizeable losses it would cause to economic activity and employment over a longer horizon.

Nevertheless, underlying inflationary pressures were likely to be considerably more moderate than previously anticipated, although strengthening slightly in the quarters ahead, Board members concluded. The major reason was the outlook for a much slower rise in excess aggregate demand over the forecast horizon and to markedly lower values than in the prior projection, amid the more obvious deceleration expected for economic growth, even assuming higher disbursements of EU funds under the Next Generation EU programme, which would largely offset the contractionary impact of budget consolidation and fuel potential GDP dynamics in the future.


The likely recent exhaustion of the increase in demand for goods and services that had occurred after the easing of mobility restrictions and the impact exerted on consumer demand by the current pandemic wave and by the hefty rise in utility and food prices were also considered relevant. Reference was also made to the recent and prospective improvement in aggregate demand structure compared to the pre-pandemic period, through a larger contribution of investment to the detriment of private consumption, with implications also for the future performance of potential GDP.


Conversely, core inflation would continue to be more strongly affected in the period ahead by adverse supply-side shocks, Board members remarked, mainly via direct and indirect effects of the hike in agri-food and energy commodity prices, also reflected in higher inflation expectations over the short term, as well as via non-energy import prices. Under the circumstances, the annual adjusted CORE2 inflation rate would probably continue to increase to a 4.8 percent high in mid-2022, significantly above the previously-anticipated 3.5 percent peak, before embarking on a moderately downward path and declining at the end of the projection interval to 3.3 percent, marginally below the August forecast.


Looking at the future cyclical position of the economy, Board members showed that economic growth in 2021 would probably exceed the previously anticipated pace only marginally and solely due to the very good performance of agriculture. In 2022, it would witness a relatively steeper deceleration, slowing down also versus the pre-pandemic years, even amid somewhat more pronounced expansionary effects expected from the absorption of EU funds under the Next Generation EU instrument. The evolution implied a much slower rise in excess aggregate demand than anticipated in August, on a markedly lower path over the forecast horizon.


It was noted that private consumption would be the major driver of GDP advance, given its robust dynamics anticipated across the projection horizon, albeit markedly more moderate than previously forecasted and significantly lower than the 2016-2019 average, amid the erosion of real disposable income by the step-up in inflation and under the impact of fiscal consolidation, with implications for consumer confidence as well.


By contrast, gross fixed capital formation was foreseen to post much faster dynamics than the pre-pandemic average and only somewhat more moderate than projected in August, Board members remarked. That would owe to the larger volume of public investment expenditure – inter alia with a contribution from EU funds – and the stimulative effect thus exerted on the private sector, but also to the influences stemming from the surge in prices of energy and building materials, as well as from bottlenecks in production and supply chains.


Net exports were seen likely to exert a stronger contractionary impact in 2021, also against the prior forecast, and a moderately lower one in 2022, amid a more obvious recovery of external demand, as well as a very solid pick-up in domestic absorption, spurred inter alia by investment financed under the Next Generation EU programme. The renewed worsening of the outlook on the current account deficit was deemed worrisome. Specifically, the external deficit as a share of GDP was expected to follow a much sharper uptrend in 2021 than previously anticipated and to see only a marginal correction in 2022, implying its higher growth above European standards over the projection horizon, with potential adverse effects on inflation, but also on economic growth sustainability.


The fiscal policy stance remained, however, a major source of uncertainties and risks to the current forecasts, Board members agreed. They highlighted – on one hand – the relatively low budget deficit recorded in the first nine months versus the same year-earlier period, but also in relation to the target set for 2021, and – on the other hand – the specific determinants of the improvement in this year’s budget execution and the additional government spending to address the energy and public health crises, alongside the unknowns about the second budget revision in 2021. It was considered that, also in the context of the political crisis, uncertainties were compounded by the unavailability of the 2022 draft budget that would certify the prospective step-up in fiscal consolidation, in line with the commitments under the excessive deficit procedure.


Board members were of the opinion that a high degree of uncertainty was also associated with the outlook on the absorption of EU funds allocated to Romania via the Recovery and Resilience Facility, as well as of those under the new Multiannual Financial Framework 2021-2027. They referred to the legal and technical procedures due for completion for the disbursement of a pre-financing under the National Recovery and Resilience Plan, alongside the firm milestones and targets to be reached for further disbursements, as well as to Romania’s institutional capacity and track record in that respect.


At the same time, the fourth pandemic wave and the related containment measures continued to generate high uncertainties and risks to the forecasts, at least in the near run, Board members pointed out, amid the serious public health crisis on the domestic front and the potential implications for economic activity and labour market, but also owing to the spread of the fourth wave in other European countries, badly hit by the energy crisis and by the persistence of bottlenecks in production and supply chains as well.


Board members agreed 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 further contributing to sustainable economic growth.


The majority of Board members were in favour of a 0.25 percentage point increase in the policy rate, given the nature of shocks accountable for the substantial worsening of recent and future developments in headline and core inflation, as well as the outlook for a much slower rise and to markedly lower-than-previously-anticipated values of excess aggregate demand, hence of its inflationary pressures, over the short and medium term. It was shown that a gradual increase in the key rate was also warranted by the high uncertainties associated with the underlying inflation factors and by the primarily downside risks posed by them 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 magnitude of the upward revision of the anticipated inflation pattern and the prevalence of upside risks to the latter, stemming from supply-side shocks, as well as the recent approach by some central banks in the region and the real level of interest rates, alongside the calendar of monetary policy meetings of the NBR Board implying a relatively higher time lag between the current and the next policy meeting. Some members leaned toward that action.


The visibly more protracted upward slope of the new trajectory anticipated for the annual inflation rate was considered an additional argument in favour of a 0.25 percentage point increase, amid the currently faster pace of adjustment of the reference rate versus traditional practice – important in terms of anchoring inflation expectations over the medium term and harmonised with approaches in the region. Discussants also underlined the favourable implications for monetary policy transmission and predictability, as well as the importance and relevance of the signal conveyed, both to the real economy and to financial markets, by keeping steady the pace of increase of the monetary policy rate at the current juncture.


At the same time, it was shown that maintaining firm control over money market liquidity and extending the interest rate corridor to ±0.75 percentage points – as a first step in normalising its width – were conducive to strengthening the uptrend in key interbank money market rates, even amid the ample liquidity fluctuation probably triggered by autonomous factors towards year-end, as well as in the context of a possible revision of economic agents’ expectations on the pace of adjustment of the policy rate.


Moreover, the importance of closely monitoring domestic and global developments was reiterated, so as to enable the BNR to tailor its available instruments in order to achieve the overriding objective regarding medium-term price stability.


Under the circumstances, the BNR Board decided with a majority of votes, i.e. 7 for and 2 against, to increase the monetary policy rate to 1.75 percent from 1.50 percent. Two members voted for a policy rate hike to 2.00 percent. Furthermore, the NBR Board decided with a majority of votes, i.e. 6 for and 3 against, to extend the symmetric corridor of interest rates on standing facilities around the policy rate to ±0.75 percentage points from ±0.50 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.