Publication Date 22.12.2010
At today’s meeting of 22 December 2010, the Supervisory Council of the Bank of Albania analyzed and approved the Monthly Monetary Policy Report for December. After scrutinizing the latest economic and financial developments at home and further to discussions on their future outlook, the Supervisory Council of the Bank of Albania decided to keep the key interest rate unchanged at 5.00%. In the Council’s view, the current monetary conditions are appropriate for meeting the inflation target in the medium run.
Let me provide a brief overview of economic developments and the key issues discussed at today’s meeting that motivated the foregoing decision.
Our analyses, which are based on the latest available economic and financial data, corroborate the persistence of positive economic growth rates in the second half of 2010. The assessment of economic growth by aggregate demand components shows its greater reliance on foreign demand for Albanian goods and services, whilst the growth of domestic demand remains moderate.
The latter’s performance has been highly determined by the withdrawal of fiscal stimulus, which was particularly pronounced in the second half of the year. On the other hand, the increase in consumption and private sector investment remains poor, mainly due to the more conservatory behaviour of households and businesses in their expenditure and investment-related decisions. Economic growth rates, albeit positive, are below potential, thus yielding downward inflation rates during 2010.
The analysis of monetary indicators corroborates the presence of subdued inflation pressures in economy in the medium run. At this juncture, annual CPI inflation maintained downward rates during the second half of 2010. In November, it marked 2.8%, slightly below the Bank of Albania’s target.
In more elaborate terms, the latest data on world economy attest to a more moderate economic growth and trade exchange rates in the second half of the year. In the large industrialized economies, the persistence of economic growth was hampered by the progressive correction of economic agents’ balance sheets, the poor labour market performance and the low consumer confidence.
In the meantime, economic recovery in emerging countries was more stable than in industrial economies, albeit more moderate than in the first half the present year. Against a background of negative output gap at a global level, inflation pressures remain by and large subdued.
Going back to developments in the national economy, indirect data suggest sluggish increase in consumption and private investment in the third quarter of 2010. Despite the higher income – as evidenced by the performance of real wage, number of employed and remittances – consumer demand remains subdued.
The performance of consumer spending is mainly affected by the uncertain outlook as indicated by consumer survey results. In the meantime, the correction of Albanian households’ financial balance sheets is required less than in other countries.
Although indirect indicators like the stable growth of investment loans and the increase of FDI in the third quarter of 2010 show positive growth rates during this period, private investment in economy remains subdued. However, in the presence of free capacities in economy and still tight lending terms, particularly for SMEs, private investment growth has been slow.
Future-oriented, I find it appropriate to reiterate the message delivered numerously by the Bank of Albania that the development outlook for the Albanian economy remains positive. We consider that there is room for the Albanian businesses and consumers to review their cautious behaviour adopted on their investment and consumption-related decisions.
Following the countercyclical approach pursued in 2009, fiscal policy in 2010 oriented towards fiscal consolidation and keeping the budget deficit and public debt in check. The data available until October show that budget revenue increased moderately, whilst budget spending was lower y-o-y.
This prudent fiscal approach yielded a deficit of ALL 23.3 billion, down by 53% y-o-y. The persistence of this fiscal approach, oriented towards keeping the long-term sustainability of public debt in check, will provide enough room for lowering the risk premium, keeping macroeconomic balances under control and developing the private sector in the future.
Data on trade exchanges with other countries show a positive contribution of foreign demand to economic growth, albeit more moderately versus the first half of 2010. The annual increase of exports by 63.4% in October was in line with the increase in the third quarter, but lower than in the first half of 2010.
This slowdown owes mainly to the expected reduction in electrical energy exports; however, the increase of exports continues to have a wide basis. On the other hand, the increase of imports in the third quarter and onward reflected in lower correction of net export deficit. This deficit narrowed by 10.7% y-o-y during this period versus the average of 18.5% in the first two quarters.
This dynamics suggests that the external position remains a structural weakness of the Albanian economy, which requires due addressing by macroeconomic policies and structural reforms.
The persistent negative output gap, complemented with a stable exchange rate, termination of the effect of the rise in some administered prices and the anchored inflation expectations, materialized in the further decrease of annual inflation rate in November.
Annual inflation marked 2.8%, falling below the Bank of Albania’s target for the first time over the course of 2010. Annual core inflation marked 2.0%, thus corroborating the presence of weak demand-side pressures.
Monetary developments were broadly in line with the performance of real economy indicators. Broad money, M3, grew by 11.7% in October, quite close to its historical average. Our assessments show that money supply growth is in line with the real demand of economic agents for money.
The moderate private sector demand for money reflected in bank lending activity as well. Private sector credit grew at low historical rates, up 8.0% y-o-y in November. Loans for business investment purposes recovered during 2010, being also sustained by the increase in foreign currency lending. Mortgage and consumer loans show a poor performance. Our analyses show that there is still room for the lending terms applied by the banking system, mainly “non-price” lending terms, to ease further.
However, the main concern behind the non-satisfactory performance of lending is the low business and household demand. The Bank of Albania considers that once credit demand recovers, the banking system will meet all the required preconditions for carrying out its financial intermediation function. The banking system remains liquid, both in Lek and in foreign currency, and well-capitalized.
The financial markets were calm and featured low risk premium. Short-term interest rates in the interbank market stood very close to the key rate. Government security yields in the primary market dropped further as a reflection of the ample banking system liquidity and the low Government demand for funds. The interest rate on Lek loans remains at low historical levels, while that on Lek deposits dropped further.
The Lek continued to narrow its depreciation against the foreign currencies. The trading of the latter in the domestic market was relaxed and featured low volatility.
Our projections suggest that economic activity in 2011 will perform broadly in line with its performance during the current year. Economic growth will be positive, but the Albanian economy will continue to suffer the presence of non-utilized capacities, thus generating an environment of subdued inflation pressures. Inflation expectations will be anchored around the Bank of Albania’s target for inflation. CPI inflation is forecast to continue to mark rates close to our 3% target in 2011.
The distribution of risks around this baseline scenario is relatively balanced.
On the upside:
A better performance of the Albanian economy due to the rapid increase in trade exchanges with abroad or the higher fiscal stimulus,
Further rise in administered prices; or
Further rise in global primary commodity prices,
may elevate the inflation pressures.
On the downside, the lack of private sector capacity to offset the downward contribution of foreign demand may widen the negative output gap and be followed by subdued inflation pressures.
Based on these considerations, the Supervisory Council concluded that the monetary conditions are appropriate for meeting the inflation target in the medium run. The Council decided the keep the key interest rate unchanged at 5.00%.