PRESS CONFERENCE
Speech by Ardian Fullani, Governor of the Bank of Albania, on the Monetary Policy Decision of Bank of Albania’s Supervisory Council, 27 November 2013

Today, on 27 November 2013, the Supervisory Council of the Bank of Albania reviewed and approved the monthly Monetary Policy Report. Based on the latest monetary and economic developments in Albania, and following the discussions on their future outlook, the Supervisory Council decided to cut the key interest rate by 0.25 percentage points. Following this cut, the key interest rate stands at 3.25 per cent.

The key interest rate cut reflects our projections for low inflation in the period ahead, as a result of slow economic growth and downward inflationary pressures from the external economy. It reinforces the monetary stimuli in the economy and creates more favourable conditions to achieve the inflation target in the medium term.

Let me now proceed with an overview of the economic developments and key issues discussed at today’s meeting.

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Annual inflation stood at 1.7% in October, unchanged from a month earlier. After the rapid reduction in July and August, inflation increased in the two following months, confirming the temporariness of the pronounced inflation decline during the summer months, while remaining in line with the overall assessment for low inflationary pressures. During 2013, inflation volatility was driven mainly by food prices, which accounted for much of the headline inflation. On the other hand, prices of other goods and services of the CPI basket were overall steady and provided very low contribution to inflation.

From the macroeconomic perspective, the low profile of inflation continues to be determined by weak inflationary pressures, from both demand and supply side. The recent data confirm our assessment that the Albanian economy is growing below its potential. The presence of spare production capacities is accompanied by slow growth in employment, wages and production costs, hence reflecting low core inflation levels. In parallel, downward inflation in our main trading partners and exchange rate stability contributed to deceleration of imported inflationary pressures. Lastly, inflation expectations remain anchored and in line with price stability.

Available macroeconomic data point to slow economic growth rates during the third quarter of the year and a slight improvement in the fourth quarter. The volatility of growth rates over the year was driven mostly by the volatility of budget expenditure realisation levels.

On the other hand, foreign demand provided low contribution to economic growth, whereas private consumption and investments remained weak.

Private consumption and investments continue to slow down because of the high uncertainty and relatively tight lending conditions. The successive easing of the monetary policy was not reflected as expected in increased consumption and investments at home. As pointed out earlier, the Albanian consumers and businesses appear rather reluctant to make long-term commitments for consumption and investments. The Bank of Albania deems that the mitigation of uncertainties and easing of lending conditions would provide the prerequisites for a better performance of these two key aggregate demand components.

Fiscal stimulus weakened significantly over the third quarter. After rapidly increasing in the first half of the year, budget expenditure slowed down in the third quarter. The fiscal stimulus, for the first nine months, was reflected in budget deficit of about 1.2 times higher than in the same period a year earlier.

The expected increase of expenditure and budget deficit, in the third quarter, takes the contribution of fiscal stimulus to economic growth back to positive territory. Nevertheless, high debt levels limit the possibility for the fiscal policy to support economic activity in the future. The Bank of Albania deems that the fiscal adjustment in the upcoming year is necessary for returning the public debt to more sustainable parameters. The expected fiscal adjustment for 2014 and beyond would have its impact on Albania's economic activity. In the meantime, less public borrowing in the domestic financial markets would make room for lending to the private sector.

Foreign trade data reveal the positive contribution of external demand to economic activity during the third quarter. During this period, trade deficit narrowed by 17.7%, in annual terms, hence reflecting the good performance of exports and downward imports. Exports picked up 13.6%, annually, in the third quarter, whereas imports fell about 5.2%.

The period -- was characterised by downward interest rates in financial markets. The interest rates on public debt securities wend down, as government borrowing was down in this period. The performance of yields and interbank rates were in line with the easing cycle of monetary policy. On the other hand, the interest rates on deposits and credits have reacted more slowly, due to high risk premiums included in the credit price. The banking system has adopted a conservative approach to lending, in response to tighter policies imposed by parent banks and higher non-performing loans in their balance sheets. This approach has been reflected in tighter lending terms and in interest rates that do not follow the trend of the monetary policy easing. In the presence of low demand for credit, it was reflected in the downward credit during the recent months. As at end-September, lending to private sector was 2.6% lower than a year earlier.

High risk premiums for credits and the weak response of consumers and businesses to interest rates have dampened the effect of monetary stimulus’ transmission to the economy. The expected return of these two indicators to more normal parameters would enhance the transmission of the monetary stimulus and create the conditions for domestic demand recovery.

The Bank of Albania deems that inflationary pressures will remain weak in the period ahead. Evidences on the current developments have not changed significantly our macroeconomic projections, but have, instead, added risks on the downside. Economic growth is expected to remain weak and not generate inflationary pressures. This projection reflects the decelerating effect of the expected fiscal adjustment in the next year. Likewise, imported inflation is expected to remain low, whereas inflation expectations are anchored.

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At the conclusion of discussions, the Supervisory Council decided to cut the key interest rate by 0.25 percentage points. The cut is expected to be reflected in lower interest rates on credit to the economy. Taking into account the expected fiscal developments for the upcoming year, this action seeks to maintain the macroeconomic stimulus in the economy and provide for appropriate conditions to meet our inflation target. The Supervisory Council deems that the expected economic and financial developments, at home and abroad, will require maintaining the easing nature of the monetary policy, in the period ahead. Depending on the direction and intensity of the fiscal policy in the future, the Bank of Albania stands ready and remains heedful to assess and respond swiftly through the monetary policy.