“At the same time, private consumption was expected to be the major driver of economic growth in 2021-2022, with much higher dynamics this year than projected in May, attributable nonetheless mainly to the statistical carry-over effect and to that of the short-term action of previously pent-up consumer demand. Adjusted for these effects, the anticipated rise in private consumption over the forecast horizon was, however, below the 2016-2019 average, Board members observed. By contrast, gross fixed capital formation was foreseen to post markedly faster dynamics than the pre-pandemic average and, at the same time, significantly higher than projected in May, particularly for 2021. That would imply a relatively larger contribution of this component to economic advance, amid the broader increase in public investment expenditures and their stimulative effect on private sector investment, financed by EU funds as well,” the minutes of the monetary policy meeting show.
In turn, net exports were seen likely to reduce their contractionary impact in 2021 and 2022, yet much more modestly than expected in May, given the stronger pick-up in domestic absorption than that expected in external demand, implying higher imports, associated also with investment/reforms financed under the Next Generation EU program and with increases in some international commodity prices. In that context, the worsening outlook of the current account deficit was deemed worrisome, as the external deficit was expected to follow a sharper uptrend as a share of GDP in 2021 and to see only a marginal correction in 2022, implying its higher growth above European standards over the projection horizon, which was likely to entail risks to inflation, but also to economic growth sustainability.
During the meeting of August 6, 2021, the central bank 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 showed that the annual inflation rate had continued to rise above the upper bound of the variation band of the target in June 2021, implicitly above the forecast, climbing to 3.94 percent from 3.75 percent in May and 3.05 percent in March 2021. It was observed that the pick-up in Q2 had owed almost entirely to the exogenous CPI components, the same as in Q1, with the main contribution made by the larger-than-expected hike in fuel prices amid higher oil prices, followed by the modest influences coming from the increase in the prices of fruit and vegetables, as well as from the rise in tobacco product prices,” the minutes also show.
As for the cyclical position of the economy, Board members remarked that the second preliminary version of statistical data indicated a 2.9 percent growth in GDP in 2021 Q1 – marginally above that previously mentioned –, and its smaller decline in annual terms to only -0.2 percent from -1.4 percent in 2021 Q4, similarly to the prior estimate, therefore reconfirming the considerably faster-than-anticipated rebound in economic activity in the first three months of the year. Implicitly it reconfirmed an almost full recovery in that period of the economic contraction seen in 2020 Q2, as well as the reopening of the positive output gap two quarters ahead of the May medium-term forecast, Board members stressed.
At the same time, domestic demand was reconfirmed to be the sole driver of the economic upturn, in the context of the strong re-acceleration of household consumption, but also amid the significantly faster increase in gross fixed capital formation, even above the prior estimate. In addition, Board members noted the substantial expansion of the negative contribution of net exports to annual GDP dynamics, similar in size to that previously estimated, given the unfavourable differential between the growth rates of imports and exports of goods and services in 2021 Q1. Under the circumstances, a more pronounced widening of the trade deficit against the same year-earlier period, and especially the step-up in the annual dynamics of the current account deficit to a 14-quarter high – also in the wake of the notable worsening of the primary and secondary income balances –, were deemed to be a particular cause for concern by Board members.
Turning to near-term prospects, Board members shared the view that economic growth would probably carry on in 2021 Q2 and Q3 at gradually slower quarterly paces than in Q1, yet mildly faster during the period overall than those anticipated in May. The evolution rendered likely the widening of the positive output gap at mid-2021 H2 to a visibly higher value than that indicated by the previous medium-term forecast, Board members showed. At the same time, it implied the strong increase in the annual growth rate of economic activity in Q2 to a two-digit level significantly higher than the May forecast – amid the base effect associated with the sharp economic contraction in the same year-earlier period –, followed by its moderate decline in Q3.
It was observed that, according to recent developments in relevant indicators, private consumption had probably contributed most to the steep rise in the annual GDP dynamics in 2021 Q2, especially in the context of the unwinding of pent-up demand; however, gross fixed capital formation was also expected to have had a positive contribution. Furthermore, net exports could have improved their contribution, as the significantly faster growth in exports of goods and services April through May, amid the strong revival of European economies, had outpaced that in imports. As a result, the year-on-year increase in trade deficit had posted a mild slowdown, while, under the additional impact of improvement in the primary and secondary income balances, the annual growth rate of the current account deficit had contracted markedly, remaining nevertheless above the average values seen in 2019 and 2020.
The EUR/RON exchange rate had remained, however, quasi-stable in the first part of July, and subsequently had experienced a gradual downward adjustment, mainly owing to seasonally-driven domestic developments. Board members were of the opinion that the interest rate differential also continued to be relevant, even amid its narrowing versus some markets in the region, following the policy rate hiking cycle initiated and recently consolidated by two central banks. The economy’s external imbalance and other domestic economic fundamentals were however likely to induce risks to the future evolution of the leu exchange rate, implicitly to inflation, some Board members cautioned, especially in the event of a sudden change in the global market sentiment.
Board members observed that lending activity had continued to step up in June, inter alia, thanks to the relatively increased support of government programmes. Thus, the flow of leu-denominated loans to households had reached a new historical high, mainly on account of the peak in housing loans, while leu-denominated loans to non-financial corporations had posted a faster annual growth rate to 22.1 percent, namely, the highest since January 2009. Against that background, the annual dynamics of credit to the private sector had climbed to 11.2 percent from 10.1 percent in May, whereas the share of the leu-denominated component in total private sector credit had widened to 71.1 percent.
As for future macroeconomic developments, Board members discussed at length the anticipated inflation pattern, showing that it was again revised markedly upwards in the short term and to a smaller extent over the latter part of the projection horizon. Specifically, the annual inflation rate was expected to climb more sharply above the variation band of the target in 2021 H2 than anticipated previously, to 5.6 percent in December 2021 from 4.1 percent in the May forecast, and following the downward corrections in the first part of next year to decline and then remain marginally below the upper bound of the band, at 3.4 percent, above the 3.0 percent level forecasted previously.
“Under the circumstances, the central bank Board unanimously decided to keep the monetary policy rate at 1.25 percent, while preserving tight control over money market liquidity; moreover, it decided to leave unchanged the deposit facility rate at 0.75 percent and the lending (Lombard) facility rate at 1.75 percent. 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,” per the minutes.