Romania’s central bank to keep policy rate unchanged

Inflation moderated to 3.27% y/y in December from 3.43% y/y in November, below the Romania’s central bank, NBR’s 3.5% forecast. The slowdown was mainly triggered by supply-side shocks associated with falling international oil prices. Inflation moderation in the entire Q4 was driven by developments in all consumer basket components, including in the adjusted CORE2 index. However, inflationary pressure remains, fueled by labor market tightness and persistent excess demand. Therefore, some components, especially processed food, might turn inflationary if commodity price moderation reverses.

The NBR has just confirmed its medium-term inflation forecast in the latest Inflation Report assessed on Feb 7. The reconfirmation came together with rising uncertainties related to the growth in the euro area and global economies, as well as to the monetary policy of the ECB and central banks in the region. The NBR also sees as relevant higher domestic uncertainty arising from the still pending adoption of this year budget and from the hasty nature and contents of the emergency bill approved at end-2018 that introduces a set of fiscal and budgetary measures as of January 2019.

Consequently, the NBR’s board decided to leave the policy rate unchanged at 2.5% on Feb 7 and would very probably keep it on hold in the next MPC meeting on Apr 2, in our view. That is because inflation rate is estimated to remain on moderation trend while economic growth is expected to decelerate further. Inflation forecast for end-2019 was slightly revised up to 3.0% from 2.9%, mainly over a slightly faster rise in the adjusted CORE2 inflation. Even so, the central bank sees stronger price growth in 2019 to be recorded in the tobacco segment, where the government increased excises again. That inflationary pressure is seen to be cushioned by milder growth of fuel and volatile food prices.

A rate hike to support the local currency is improbable in our opinion, as it might trigger more substantial imbalances. Besides, NBR Governor Mugur Isrescu often commented that the RON depreciation is not alarming and is in fact normal, compared to the worryingly widening of the CA deficit. In addition, investment outlook remains gloomy, adding higher vulnerability to external shocks. We also note that the widening twin-deficit situation is more distressing for the governor than negative real rates, so a decision to appreciate the RON is improbable. A rate cut is also unlikely despite the substantial economic growth slowdown and often liquidity shortages in money market. The NBR assessed that GDP growth moderated just to the point where overheating risks faded, but some excess demand persists. Also, the central bank has other instruments to manage market liquidity and it does not necessarily look at the policy rate for that, as Isarescu has hinted several times.

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