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Business cycle and monetary policy in Romania
Lucian Croitoru
National Bank of Romania
The second ERMAS Confrence, 29-31 August 2015
Cluj Napoca
Content
I. Macroeconomic overview
II. Economic freedom and real convergence
III. GDP dynamics and its features
IV. The fiscal deficit and the cycle
V. The current account
VI. Inflation developments
VII. Monetary policy
VIII. Is a new monetary policy rate dilemma emerging?
I. Macroeconomic overview
Before the crisis Rapid GDP growth in 2001-2008 (6.5% average
annual growth) fuelled by large capital inflows: A real-estate and consumption boom emerged as
wage and credit were increasing rapidly An expansionary fiscal policy further contributed to
the overheating of the economy starting in 2005
Large imbalances were building up, rendering the economy vulnerable to negative shocks Unsustainable structural fiscal imbalances doomed
Romania to fiscal consolidation when the crisis hit Sizeable external disequilibrium (the current account
deficit peaked at 13.4% of GDP in 2007) External debt increased from euro bn. 30.9 in 2005 to
euro bn. 72.4 in 2008
The current account deficit plunged to sustainable levels (4.4% of GDP in 2012, 0.4% of GDP in 2014)
Sharp fiscal consolidation brought the deficit from 9% of GDP in 2009 to 1.5% of GDP in 2014
The public debt-to-GDP ratio increased rapidly during the crisis, but it is still one of the lowest in the EU and is estimated to stabilize below 40% of GDP over the medium term
Total external debt increased to euro bn. 100 in 2012 and decreased to euro bn. 63 in 2014.
Adjustments in the wake of the crisis
Expected economic outcomes in 2015 if fiscal plans receive approval: GDP growth estimated at 4.4% in 2015 and 4.1% in 2016
(beyond potential in both cases) O-Y-A inflation estimated at - 0.2% in December 2015 and
0.7% in December 2016. Annual average inflation of -0.2% in 2015 and -0.8% in 2016
The CA deficit, expected to deepen to -1.5 percent of GDP Budget deficit moves at 4 percent in 2016 and 5 percent in
2017 if both the Fiscal Code and the wage bill are approved
Weakened macroeconomic fundamentals would not support strong growth and would lead to further delayes in joining the Banking Union and the euro area
Outlook for 2015 and beyond
II. Economic freedom and real convergence
EU economies became more liberal in 2014 as compared to 1996 (see detailed charts at the
end of the presentation)
Economic freedom in 1996 Economic freedom in 2014
IT
GR
LI HU
PO RO
FR
0
20
40
60
80
100
120
140
160
180
40 60 80
GD
P a
t cu
rre
nt
pri
ces
pe
r h
ou
r w
ork
ed
(P
PS,
EU
15
=10
0)
Overall index of freedom
Source: author’s computations; AMECO; Heritage Foundation
ES GR
IT
LI RO
0
20
40
60
80
100
120
140
160
180
40 50 60 70 80
GD
P a
t cu
rre
nt
pri
ces
pe
r h
ou
r w
ork
ed
(P
PS,
EU
15
=10
0)
Overall index of freedom
Source: author’s computations; AMECO; Heritage Foundation
EU countries migrate to upper clusters as regards property freedom. Slow progress for
Romania Unclear property rights in Romania in 1996
Romania has made little progress until 2014; Italy and Greece show regression
GR
FR IT
RO 0
20
40
60
80
100
120
140
160
180
20 40 60 80 100
GD
P a
t cu
rre
nt
pri
ces
pe
r h
ou
r w
ork
ed
(P
PS,
EU
15
=10
0)
Property rights
1996
Source: author’s computations; AMECO; Heritage Foundation
GR
FR
IT
RO
0
20
40
60
80
100
120
140
160
180
20 40 60 80 100
GD
P a
t cu
rre
nt
pri
ces
pe
r h
ou
r w
ork
ed
(P
PS,
EU
15
=10
0)
Property rights
2014
Source: author’s computations; AMECO; Heritage Foundation
Some developed countries have lost part of
their freedom from corruption
Romania was among countries with the lowest freedom from corruption in 1996
Greece and Italy have the lowest freedom from corruption in 2014 among EA countries
DE
GR CZ
IT
PO
RO 0
20
40
60
80
100
120
140
160
180
20 30 40 50 60 70 80 90 100
GD
P a
t cu
rre
nt
pri
ces
pe
r h
ou
r w
ork
ed
(P
PS,
EU
15
=10
0)
Freedom from corruption
1996
Source: author’s computations; AMECO; Heritage Foundation
DE
GR
IT
PO
RO
0
20
40
60
80
100
120
140
160
180
20 30 40 50 60 70 80 90 100
GD
P a
t cu
rre
nt
pri
ces
pe
r h
ou
r w
ork
ed
(P
PS,
EU
15
=10
0)
Freedom from corruption
2014
Source: author’s computations; AMECO; Heritage Foundation
0.8
1
1.2
1.4
1.6
1.8
2
2.2
2.4
1995 1997 1999 2001 2003 2005 2007 2009 2011 2013
Gross domestic product at current prices per hour worked (PPS, EU15=100): Change in positions (index)
Belgium Bulgaria Czech Republic Denmark Germany Estonia Ireland Greece Spain France Italy Cyprus Latvia Lithuania Luxembourg Hungary Malta Netherlands
Romania has increased 2.21 times its GDP/hour worked as a percentage of the EU 15
Source: author’s computations; AMECO
0
20
40
60
80
100
120
140
160
180
Be
lgiu
m
Bu
lgar
ia
Cze
ch R
ep
ub
lic
De
nm
ark
G
erm
any
Es
ton
ia*
Ir
ela
nd
G
ree
ce
Spai
n
Fran
ce
Ital
y
Cyp
rus
La
tvia
*
Lith
uan
ia
Luxe
mb
ou
rg
Hu
nga
ry
Mal
ta*
N
eth
erl
and
s
Au
stri
a
Po
lan
d
Po
rtu
gal
Ro
man
ia
Slo
ven
ia
Slo
vaki
a
Fin
lan
d
Swe
de
n
Un
ite
d K
ingd
om
EA
*
Gross domestic product at current prices per hour worked (PPS, EU15=100)
1996
2014
Note: * indicates that the indicator`s value refers to the year 2000, not to the year 1996
Source: author’s computations; AMECO
Romania`s scoreboard indicators in 2013
• Public debt: 37.9 % of GDP
• Curent account (CA) deficit (average over the past 3 years): 1.9 % of GDP
• Net international investment position: -61.5 % of GDP
• Real effective exchange rate (percentage change over the past 3 years): 0.3
• Market share of exports of goods and services (percentage change over the last 5 years): 16.4
• Unit labor cost (percentage change over the past 3 years): 0.7
• Houses price index (annual percentage change): -4.6
• Private sector debt: 66.4 % of GDP
• Credit flow to the private sector: -1.5 % of GDP
• Unemployment rate: 7 %
• Financial sector total liability (annual change): 3.1 %
13 Lucian Croitoru
Romania’s indices of economic freedom for 2015 compare well to those of Germany, except for property rights, freedom from
corruption, and financial freedom
Indicator Romania (66.6; ranks 57) Germany (73.8; ranks 16)
• Property Rights (RoL) 40.0 ~ 90.0 ~
• Freedom From Corruption (RoL) 43.0 + 78.0 - • Business Freedom (RE) 69.8 - 88.2 - • Labor Freedom (RE) 68.6 + 51.2 + • Monetary Freedom (RE) 77.3 + 81.5 + • Government Spending (LG) 62.3 + 40.1 + • Fiscal Freedom (LG) 86.9 - 60.8 - • Trade Freedom (OM) 88.0 + 88.0 + • Investment Freedom (OM) 80.0 ~ 90.0 ~ • Financial Freedom (OM) 50.0 ~ 70.0 ~ Source: Heritage Foundation RoL=rule of law; RE=regulatory efficiency; LG=low government; OM=open markets; - indicates a decrease as compared to the previous year; + indicates an increase as compared to the previous year; ~ = stable
14 Lucian Croitoru
III. GDP dynamics and its features
-20
-15
-10
-5
0
5
10 1
99
0
19
91
1
99
2
19
93
1
99
4
19
95
1
99
6
19
97
1
99
8
19
99
2
00
0
20
01
2
00
2
20
03
2
00
4
20
05
2
00
6
20
07
2
00
8
20
09
2
01
0
20
11
2
01
2
20
13
2
01
4
20
15
f
ROMANIA: Annual GDP growth rates (%)
Recession I Global recession of 1991
Recession II Financial and economic crises: Asia 1997; Russia 1998; Argentina 1999-2001
Recession III The financial and economic crisis of 2007
Source: data from the National Institute of Statistics
Financial repression 1990-1996
Moderate and high capital inflows 2000-2008
Romania’s GDP growth: some features
High dependency on capital inflows
Three distinctive periods of positive growth:
The financial repression period: 1990-1996
The boom period: 2000-2008 (high capital inflows fuelled high growth)
The “free” growth period (no implicit subsidies, no high capital inflows): 2011-until now. GDP growth averaged 2 percent a year
Period
Average growth rate
Cumulated growth over the period Comments
1990-1992 -10.7 -27.8*
low private capital inflows
1993-1996 4.08 17.2
low private capital inflows
1997-1999 -2.4 -7.2
low private capital inflows
2000-2004 5.4 29.8**
MODERATE PRIVATE CAPITAL INFLOWS
2005-2008 6.9 30.6
HIGH PRIVATE CAPITAL INFLOWS
2009-2010 -4.0 -7.9
high public external borrowings
2011-2014*** 2.0 8.3
low private capital inflows
* 3 years; ** 5 years; ***growth for 2014 estimated at 2.9 percent
In Romania, GDP growth depends on capital inflows (%) (Source: NIS and author`s calculations)
18 Lucian Croitoru
IV. The fiscal deficit and the cycle
-4
-3
-2
-1
0
1
2
3
4
-10
-8
-6
-4
-2
0
2
4
6
8
10 1
99
5
19
96
19
97
19
98
19
99
20
00
20
01
20
02
20
03
20
04
20
05
20
06
20
07
20
08
20
09
20
10
20
11
20
12
20
13
20
14
Procyclical fiscal policy before and after the 2008 crisis
Source: AMECO and author's computation
Fiscal impulse (rhs, % of GDP)
Excess demand, % of PGDP
Structural balance, % of PGDP
GG balance, % of GDP
Implicit cyclical balance if at MTO, % of GDP
Implicit GG balance, if MTO, % of GDP
100
150
200
250
300
20
00
20
01
20
02
20
03
20
04
20
05
20
06
20
07
20
08
20
09
20
10
20
11
20
12
20
13
20
14
Cumulated percentage growth of wages, labor productivity (2000=100), and public pensions (2001=100)
Pensions in the public sector
Wages in the budgetary sector* *Includes the public
administratin, education , health, and recreative activities
Wages in the private sector
Labor productivity (Real GDP per hour worked)
2001-2004: average real pension growth = 7,4 % 2001-2004: average real wage growth in the public sector = 6,9 % 2005-2009: average real pension growth = 21,7 % 2005-2009: average real wage growth in the public sector = 12,4 %
Source: author's computation based on data from National Institute for Statistics, and AMECO
177.1 132.1
130.2 109.7
107.5 106.5
97.7 95.0 94.2
89.4 88.6
85.0 84.5
80.9 76.9
74.7 68.8 68.0
59.3 53.6
50.1 45.2
43.9 42.6
40.9 40.0 39.8
27.6 23.6
10.6
0 20 40 60 80 100 120 140 160 180
Greece Italy
Portugal Ireland Cyprus
Belgium Spain
France Euro area
United Kingdom European Union
Croatia Austria
Slovenia Hungary
Germany Netherlands
Malta Finland
Slovakia Poland
Denmark Sweden
Czech Republic Lithuania
Latvia Romania Bulgaria
Luxembourg Estonia
Public debt as a percent of GDP in the EU in 2014. Romania has a enviable position
85.7 74.0
62.2 61.7
58.2 53.4
47.9 45.7
32.4 31.6
30.7 30.6
29.3 27.1
26.1 25.3 25.0
23.7 19.7 19.6
17.9 16.5
14.8 11.1 11.0 11.0
7.0 5.9 5.7 5.7
0 10 20 30 40 50 60 70 80 90
Ireland Greece
Spain Portugal Slovenia
Cyprus Croatia
United Kingdom Italy
Latvia European Union
France Euro area Romania
Netherlands Finland
Lithuania Slovakia Austria
Belgium Denmark
Luxembourg Czech Republic
Hungary Germany Bulgaria Estonia Poland
Sweden Malta
Changes in public debt in the EU from 2007 to 2014 (percentage points). Significant upward adjustment in the case of Romania, but
low by comparison to other countries
16.2 7.7
7.3 6.8
6.3 5.6
5.3 4.0
3.8 3.7
3.6 3.4
3.3 3.0
2.8 2.3
1.9 1.9
1.8 1.2
0.6 0.1 0.1
-0.1 -0.2
-1.9 -2.0
-3.6
-5 0 5 10 15
Greece Romania
Ireland Spain
Portugal Slovakia
Poland Lithuania
Netherlands Denmark
Czech Republic Euro area
France United Kingdom
Latvia Italy
Belgium Austria
Germany Slovenia Bulgaria
Malta Hungary
Luxembourg Cyprus Finland Estonia
Sweden
Changes in cyclically adjusted GG balances (percentage points): Roamania performed the second largest
adjustment („-” means a increase in the fiscal deficit)
-16
-11
-6
-1
4
Euro
are
a B
elg
ium
B
ulg
aria
C
zech
Re
pu
blic
D
en
mar
k G
erm
any
Esto
nia
Ir
ela
nd
G
ree
ce
Spai
n
Fran
ce
Ital
y C
ypru
s La
tvia
Li
thu
ania
Lu
xem
bo
urg
H
un
gary
M
alta
N
eth
erl
and
s A
ust
ria
Po
lan
d
Po
rtu
gal
Ro
man
ia
Slo
ven
ia
Slo
vaki
a Fi
nla
nd
Sw
ed
en
U
nit
ed
Kin
gdo
m
Cyclically adjusted GG balances: Romania compared badly to other EU countries before 2008 and compares well prezently. Adjustments made in 2010 were key to reaching the present
good positin
2014
2009
2007
1.5 1.7 1.1
2.5 2.2
1.0
6.2
2.4 2.2 1.7 1.8
1.3
2.4
4.3 3.8
1.9 1.5
0.6
1.4 1.0
1.7
0.4
2.3 3.4
3.0 2.6
1.9 1.4
-5.0
-3.0
-1.0
1.0
3.0
5.0
7.0
Euro
are
a B
elg
ium
B
ulg
aria
C
zech
Re
pu
blic
D
en
mar
k G
erm
any
Esto
nia
Ir
ela
nd
G
ree
ce
Spai
n
Fran
ce
Ital
y C
ypru
s La
tvia
Li
thu
ania
Lu
xem
bo
urg
H
un
gary
M
alta
N
eth
erl
and
s A
ust
ria
Po
lan
d
Po
rtu
gal
Ro
man
ia
Slo
ven
ia
Slo
vaki
a Fi
nla
nd
Sw
ed
en
U
nit
ed
Kin
gdo
m
Cyclical fiscal balance in EU countries (% of GDP). Almost each country was imprudently enjoying good times
2014
2009
2007
V. The current account
6.1 5
3.5 2.7 2.5
0.3 -0.2 -0.2
-3.2 -4.2
-4.9 -4.9 -4.9
-5.4 -6.7
-7.8 -9
-9.5 -10.7 -10.8
-11.2 -11.2
-13.1 -14.5
-15.5 -16
-19.3 -26.1
-30 -20 -10 0 10
Finland Luxembourg
United Kingdom Austria
Sweden Belgium
Germany France
Italy Netherlands
Czech Republic Denmark
Poland Slovakia
Cyprus Croatia Ireland
Malta Portugal
Spain Hungary Slovenia Romania Lithuania
Greece Estonia
Latvia Bulgaria
Significant changes in current account balances (percentage points). „-” indicates a reduction in
the CA deficit
1.9
-25.2
-4.3
1.4
7.4
-15.9
-5.3
-14.6
-10.0
-1.0
-7.2
-1.3
-11.8
-22.4
-14.4
10.1
-7.3 -6.2
6.7
3.5
-6.2
-10.1
-13.5
-4.2 -5.3
4.3
9.3
-2.4
-26
-21
-16
-11
-6
-1
4
9
Be
lgiu
m
Bu
lgar
ia
Cze
ch R
epu
blic
D
enm
ark
Ge
rman
y Es
ton
ia
Irel
and
G
ree
ce
Spai
n
Fran
ce
Cro
atia
It
aly
Cyp
rus
Latv
ia
Lith
uan
ia
Luxe
mb
ou
rg
Hu
nga
ry
Mal
ta
Net
her
lan
ds
Au
stri
a Po
lan
d
Port
uga
l R
om
ania
Sl
ove
nia
Sl
ova
kia
Fin
lan
d
Swed
en
U
nit
ed K
ingd
om
Current account balances in EU countries (% of GDP)
2007 2014
4.5 6.6 4.3 5.4 2.4 2.1 2.2 2.8 5.3 6.3
2.0
2.9
13.1 12.4
4.4 3.6 3.3 2.2
-4.0 -5.4
-10
-5
0
5
10
15
20
2005 2006 2007 2008 2009 2010 2011 2012 2013 2014
In Romania, the current account was mostly financed by debt creation during the boom phase of the cycle
(EUR bn.)
NON DEBT-CREATING FLOWS DEBT-CREATING FLOWS
NET ERRORS AND OMISSIONS CURRENT ACCOUNT DEFICIT
Source: author’s computations based on NBR data
-20
-10
0
10
20
30
2005 2006 2007 2008 2009 2010 2011 2012 2013 2014
Financing of the current account by instruments in Romania (EUR bn.)
Direct investment CAPITAL ACCOUNT
Currency and deposits Trade credits and advances
NET ERRORS AND OMISSIONS Portfolio investment
Financial derivatives Loans
Other accounts receivable/payable Reserve assets (- increase/+ decrease)
CURRENT ACCOUNT DEFICIT
Source: author’s computations based on NBR data
-13.4
-0.4
-8.9
-1.5
-10.5
4.4
1.1
-15
-10
-5
0
5
19
95
19
96
19
97
19
98
19
99
20
00
20
01
20
02
20
03
20
04
20
05
20
06
20
07
20
08
20
09
20
10
20
11
20
12
20
13
20
14
Romania: the current account deficit was mostly ascribable to the private sector external deficit during the boom
(% of GDP)
The current account deficit The GG deficit The private sector deficit
Source: author's estimation based on data from EUROSTAT, NBR and UNCTAD
3.4
-2.9
2.8
6.7
4.3
-4
-2
0
2
4
6
8
Romania: public savings and investment (% of GDP)
savings Investment
Source: author's estimation based on data from EUROSTAT, NBR and UNCTAD
Decreasing investment during recession
Higher investment without much progress in infrastructure
13.0
25.8
21.2
31.7
17.7
0
5
10
15
20
25
30
35
19
95
19
96
19
97
19
98
19
99
20
00
20
01
20
02
20
03
20
04
20
05
20
06
20
07
20
08
20
09
20
10
20
11
20
12
20
13
20
14
Romania: the private sector reduced savings and increased investment during the boom and reduced them both in the
aftermath (% of GDP)
Savings investment
Source: author's estimation based on data from EUROSTAT, NBR and UNCTAD
VI. Inflation developments
A few features of the HICP consumer basket in Romania
• 32 percent of consumer bascket are given by food and volatile prices
• Had the NBR chosen the core inflation to be targeted, it would have been difficult for the public to understand the concept
• By choosing the headline inflation to be targeted, the NBR exposed itself to the reputational risk of missing the target because of high volatility of too many prices
32.4
27.9 27.7
25.8 24.9
22.8 22.3
0
5
10
15
20
25
30
35
Romania Latvia Lithuania Bulgaria Hungary Poland Czech Republic
Source: Eurostat
percent
The share of food items in the HICP consumer basket, 2015
41
.7
40
.7
38
.9
37
.5
37
.6
37
.4
37
.5
37
.2
37
.7
37
.6
37
.5
56
.3
54
.0
52
.2
49
.7
47
.6
46
.7
47
.7
48
.6
50
.0
50
.3
50
.1
0
10
20
30
40
50
60
2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015
CPI CORE3
Source: NIS
percent
Romania: the share of food items in the consumer basket
0
1
2
3
4
5
6
7
8
9
10
dec.05 dec.06 dec.07 dec.08 dec.09 dec.10 dec.11 dec.12 dec.13 dec.14 dec.15 dec.16
Romania: O-Y-A CPI inflation (%) percent
Source: NIS, NBR
2009 Q1:
- tobacco excise increase
- leu depreciation
2010 H2:
- VAT tax raised
- increase in
administered, food
and oil prices
2011 H1:
- increase in domestic and international agri-food
commodity prices
- increase of oil price
2012 H2:
- poor harvest
- increase of
administered
prices
2013 Q1:
- increase in electricity
prices
- poor food supply
- excise increase
2013 H2 - 2014 H1:
- good harvest
- bread VAT decrease
Multi-annual flat target: 2.5%
2008 H2:
- increase of
administered
prices 2007 H2 - 2008 H1:
- poor food supply
- increase of
administered prices
and of oil price
Note: Variation band of the target is ±1 percentage point.
2014 H2 :
- decrease of oil price
- abundance of food
VII. Monetary policy
Five distinct periods of inflation deviation from
the target prior to the downturn 1. The period up to the closing of the output gap (2003 Q1-
2004 Q2); 2. The following period up to the adoption of inflation
targeting (2004 Q3-2005 Q3); 3. The period between the shift to inflation targeting and
the surge in capital inflows (2005 Q4-2006 Q3); 4. The period of massive capital inflows, up to the outbreak
of the global crisis (2006 Q4-2007 Q3); 5. The period between the global crisis setting in until the
domestic economy entered recession (2007 Q4-2008 Q3), when the contribution of CORE3 inflation to the deviation of CPI inflation from the target was positive and relatively high for the first time.
Measures aimed at taming capital inflows before
downturn in 2008 Q4. Did they work? NO! (I)
Capital account liberalization (March 2003; last stage
Sep.2006)
Introduction of restrictions on mortgage lending (February
2004)
Stricter eligibility criteria for consumer loans (February 2004)
Larger exposures to one debtor from 20% to 25% (July 2004))
MRR on fx liabilities, from 25% to 30% (August 2004)
MRR lei from 18% to 16% (August 2005)
MRR on fx liabilities from 30% to 35% (January 2006)
MRR on fx liabilities from 35% to 40% (March 2006)
MRR lei, from 16% to 20% (July 2006)
Measures aimed at taming capital inflows before
downturn in 2008 Q4. Did they work? NO! (II)
Stricter criteria for household lending (LTV and Debt Service To Income)
Forex exposures limited to three times own funds (September 2005)
Unhedged borrowers (natural persons) cannot be classified into the top grade (A)
of financial performance (October 2005)
Regulation and supervision of non-bank financial institutions (February 2006)
Higher capital requirements since January 2007
Stricter eligibility criteria for the components of own funds (January 2007)
Loosening of credit standards for lending to households (March 2007)
Stricter provisioning requirements for loans to unhedged borrowers (natural
persons) (March 2008)
Exclusion of intermediate profit from own funds calculation (August 2008)
Adjustment of max DTI within internal procedures approved by the NBR
(August 2008)
-60
-40
-20
0
20
40
60
80
100
20
00
Q1
20
00
Q3
20
01
Q1
20
01
Q3
20
02
Q1
20
02
Q3
20
03
Q1
20
03
Q3
20
04
Q1
20
04
Q3
20
05
Q1
20
05
Q3
20
06
Q1
20
06
Q3
20
07
Q1
20
07
Q3
20
08
Q1
20
08
Q3
20
09
Q1
20
09
Q3
20
10
Q1
20
10
Q3
20
11
Q1
20
11
Q3
20
12
Q1
20
12
Q3
High annual credit growth rates in Romania indicating huge private capital inflows in 2004-2008 (%)
Total credit (nominal growth rate)
Total credit (growth rate adjusted for FX variation and inflation)
FX loans (growth rate adjusted for FX variation and inflation)
Source: author’s computations; NBR data
-10
0
10
20
30
40
50
Jan
-03
Au
g-0
3
Mar
-04
Oct
-04
May
-05
De
c-0
5
Jul-
06
Feb
-07
Sep
-07
Ap
r-0
8
No
v-0
8
Jun
-09
Jan
-10
Au
g-1
0
Mar
-11
Oct
-11
May
-12
De
c-1
2
Jul-
13
Feb
-14
Sep
-14
Ap
r-1
5
Faced with high capital inflows, the NBR increased minimum reserve requirements (MRR) in Romania (%). When the crisis hit Romania, the NBR reduced the MRR
CPI annual inflation Core 3 inflation
Monetary policy interest rate MRR lei
MRR foreign currency
2
3
4
5
6
7
8
9
10
-4
-2
0
2
4
6
8
10
20
05
T1
20
05
T2
20
05
T3
20
05
T4
20
06
T1
20
06
T2
20
06
T3
20
06
T4
20
07
T1
20
07
T2
20
07
T3
20
07
T4
20
08
T1
20
08
T2
20
08
T3
20
08
T4
20
09
T1
20
09
T2
20
09
T3
20
09
T4
20
10
T1
20
10
T2
20
10
T3
20
10
T4
20
11
T1
20
11
T2
20
11
T3
20
11
T4
20
12
T1
20
12
T2
20
12
T3
20
12
T4
20
13
T1
20
13
T2
20
13
T3
20
13
T4
20
14
T1
20
14
T2
20
14
T3
20
14
T4
20
15
T1
20
15
T2
A policy interest rate dilemma emerged late in 2006: should the NBR increase the interest rate to curb
inflation or lower it to tame capital inflows?
CPI annual inflation (%)
Annual GDP gap (%)
Nominal leu/euro exchange rate (quarterly average, rhs)
Annual inflation target (rhs)
Source: author’s computations; NBR data
-7
-5
-3
-1
2
4
6
8
10
2003 T
1
2003 T
2
2003 T
3
20
03
T4
2004 T
1
2004 T
2
2004 T
3
2004 T
4
2005 T
1
2005 T
2
2005 T
3
2005 T
4
2006 T
1
2006 T
2
2006 T
3
2006 T
4
2007 T
1
20
07
T2
2007 T
3
2007 T
4
2008 T
1
2008 T
2
2008 T
3
2008 T
4
2009 T
1
2009 T
2
2009 T
3
2009 T
4
2010 T
1
2010 T
2
2010 T
3
2010 T
4
2011 T
1
2011 T
2
2011 T
3
2011 T
4
20
12
T1
2012 T
2
2012 T
3
2012 T
4
2013 T
1
2013 T
2
2013 T
3
Contributions to the deviation of CPI annual inflation from the targer (pp): the monetary policy was not
procyclical
Inflation persistence GDP gap Imported inflation VAT Inflation expectations Other factors Administered prices VFE Fuel prices Tobacco, cigarettes and alcohol Deviation from the target (%)
The real effective policy interest rate (RRDPM)
The gap of the real effective policy interest rate (GRRDPM) Source: Croitoru (2014)
-8
-6
-4
-2
0
2
4
6
8
10
20
03
T1
20
03
T3
20
04
T1
20
04
T3
20
05
T1
20
05
T3
20
06
T1
20
06
T3
20
07
T1
20
07
T3
20
08
T1
20
08
T3
20
09
T1
20
09
T3
20
10
T1
20
10
T3
20
11 T
1
20
11 T
3
20
12
T1
20
12
T3
20
13
T1
20
13
T3
20
14
T1
20
14
T3
The history of contributions to the deviation of CPI annual inflation from the targer (pp)(old
coefficients of the supply curve, new NIS GDP data)
Core-3 inflation persistence GDP gap VAT Imported inflation Inflation expectations Other factors Administered prices VFE Fuel prices Tobacco, cigarettes and alcohol Deviation from target of annual CPI inflation (%)
The policy real interest rate
The policy real interest rate gap
An explanation for the criticism that the central bank did not increase the policy rate more aggressively prior to the
downturn
Critics were ignoring:
• “Distortion”-type shocks in the supply equation, such as variations in taxation rates, changes in markups pursued by firms or “cost-push shocks” (Clarida, Galí and Gertler, 2001; Smets and Wouters, 2003; Benigno and Woodford, 2003 and 2005; Woodford and Cúrdia, 2009)
• Endogenous responses (fluctuations) of the output gap to shocks (Erceg, Henderson and Levin, 2000)
• Endogenous responses of the gap between the natural level and the efficient level of output to supply-side shocks and to preference shocks (Blanchard and Galí, 2007 and 2008)
• Financial frictions, the banking sector (Bernanke, Gertler, Gilchrist, 1998; Woodford and Curdia, 2009) and real wage rigitities (Christiano et al., 2011)
The contribution to inflation of demand-pull inflation became positive in 2007 Q4-2008 Q3
Period Deviation
of annual
CPI
inflation
(pp)
Contribut
ion of
non-
CORE3
inflation
(pp)
Contribut
ion of
CORE3
inflation
(pp)
Real
monetary
policy
rate (%)
Real
monetary
policy
rate gap
(%)
Real
effective
monetary
policy
rate gap
(%)
(1) (2) (3) (4) (5) (6) (7)
2005 Q4-2007
Q3
0.25 1.58 -1.33 1.78 -0.57 -1.24
2007 Q4-2008
Q3
3.95 2.39 1.56 3.20 0.69 0.42
Table 1: The contributions of non-CORE3 inflation and CORE3 inflation to the deviation of annual CPI inflation
from the target and the real monetary policy rate
Source: Macroeconomic Modelling and Forecasting Department, NBR’s quarterly forecasting model, and the author’s
calculations.
0
5
10
15
20
25
Jan
-03
Au
g-0
3
Mar
-04
Oct
-04
May
-05
De
c-0
5
Jul-
06
Feb
-07
Sep
-07
Ap
r-0
8
No
v-0
8
Jun
-09
Jan
-10
Au
g-1
0
Mar
-11
Oct
-11
May
-12
De
c-1
2
Jul-
13
Feb
-14
Sep
-14
Ap
r-1
5
“Unconventional” monetary policy in the immediate aftermath of the crisis
Average interest rate on money market Monetary policy interest rate
(i) a speculative attack fended off also via foreign exchange market intervention, not by higher interest rate, as indicated in theory (Christiano, Braggion and Roldos,2009)
(ii) lower money market interest rates as compared to the monetary policy rate
Source: NBR data
Prudential measures implemented during
October 2008-December 2012. Will they
work? I doubt! (I)
MRR ratio on lei liabilities, from 20% to 18% (November 2008)
Reduction of loan loss provisions by considering max 25% of
collateral in case of loans classified as Loss 2 (April 2009)
Introduction of audited intermediate profit within own funds
calculation (May 2009)
Introduction of the “First Home” program (June 2009)
MRR ratio on lei liabilities, from 18% to15%; MRR ratio on fx
liabilities, from 40% to 35% (July 2009)
Balance-sheet current accounts at accounting value instead of
adjusted value (July 2009)
MRR ratio on fx liabilities, from 35% to 30% (August 2009)
Prudential measures implemented
during October 2008-December 2012.
Will they work? I doubt! (II)
MRR on fx liabilities from 30% to 25% (Nov. 2009)
Improvements to the regulatory framework on managing liquidity risk
(Dec. 2009)
Government Emergency Ordinance 50/2010 on consumer lending (June
2010). Removes abusive clauses from loan contracts
MRR on fx liabilities, from 25% to 20% (Apr. 2011)
Limits on exposures to unhedged borrowers; higher coefficients for stress-
testing fx loans (Oct. 2011)
From Romanian Accounting Standards to IFRS adoption (Jan. 2012)
Improvements to the regulatory framework on managing liquidity risk (Jan.
2012)
Banks’ aggregate exposure limits vis-à-vis unhedged non-financial
companies (Dec. 2012)
Higher inflation delayed the start of the policy rate-cutting cycle in Romania
Annual inflation rate Policy interest rates
-2 0 2 4 6 8
10
Jan
-07
Feb
-08
Mar
-09
Ap
r-1
0
May
-11
Jun
-12
Jul-
13
Au
g-1
4
EA HICP CZ CPI HU CPI
PL CPI RO CPI
Sourc: ECB, National Central Banks, and NBR`s computations
0
2
4
6
8
10
12
14
Jan
-07
Feb
-08
Mar
-09
Ap
r-1
0
May
-11
Jun
-12
Jul-
13
Au
g-1
4
EA CZ HU PL RO
Source: National Central Banks
0
5
10
15
20
25 Ja
n-0
7
Jun
-07
No
v-0
7
Ap
r-0
8
Sep
-08
Feb
-09
Jul-
09
De
c-0
9
May
-10
Oct
-10
Mar
-11
Au
g-1
1
Jan
-12
Jun
-12
No
v-1
2
Ap
r-1
3
Sep
-13
Feb
-14
Jul-
14
De
c-1
4
May
-15
Interest rates on newly-extended loans decrease
EA CZ HU PL RO
Sursa: ECB, National Central Banks, and NBR`s computations
VIII. Is a new monetary policy rate dilemma emerging?
The hypothesis of secondarity and implications for monetary policy in Romania
• Secondarity: the global surplus of savings is generated in an increasing number of countries, whereas the overwhelming part of the global deficit of savings is located in the US (Croitoru, 2015b and 2015d)
• The US are far better equipped to accommodate swift capital outflows, currency depreciation, an abrupt decline in domestic asset prices, banking system weakening, and the flagging domestic demand
-1300000
-800000
-300000
200000
700000
1200000
1700000
1980
1983
1986
1989
1992
1995
1998
2001
2004
2007
2010
2013
Illustrated secondarity: the history of savings-investment imbalances across major countries and
regions (USD mill., current prices)
UK
West Africa (WA)
North Africa (NA)
Africa (excl. NA and WA)
Former Soviet Union
Eastern European Countries
other developed countries
Germany
Euro area (excl. Germany)
Latin America and the Caribbean
West Asia (WAS)
China
Emerging Asia (excl. China and WAS)
Japan
US
Asia (total)
Global excess savings
Source: author’s calculations
based on UNCTAD data
The Romanian conundrum (I)
• The current account deficit plunged from 4.5 percent of GDP in 2012 to 0.4 percent of GDP in 2014
• GDP growth accelerated over that period • How was it possible?
– One of the implications of shifting to excess savings is the reduction in the natural rate of interest. Mutatis mutandis, the plunge in the current account deficit in Romania to almost zero was reflected in the lower natural rate of interest
– The swift narrowing of the savings deficit suggests
that the natural rate has declined at a quick pace as well
The Romanian conundrum (II)
Inflation: a downward path, largely reflecting the fall in inflation expectations. Hence, the NBR cut the monetary policy rate from 5.25 percent in December 2012 to 1.75 percent in May 2015
Thus, it is possible that, during 2013, 2014 and 2015, the nosedive of the current account deficit, the monetary policy rate cuts and liquidity management may have resulted in the money market rate running below the natural rate
A new policy dilemma?
Actual growth rates above potential will, probably, close the GDP gap in 2016
GDP growth rates above potential and low global interest rates will
pose again a dilemma to monetary policy in Romania (Croitoru, 2015c):
A higher policy rate would be needed to tame inflationary
pressure from the positive GDP gap A lower policy rate would be needed to avoid the leu
appreciation If a current account surplus emerged, as the secondarity suggests, the
policy rate dilemma would not appear However, the new Fiscal Code based on tax cuts together with wage
increases up to 70 percent would lead to fiscal deficits of 4-5 percent in 2016 and 2017, eliminating the issue of the interest rate dilemma, but creating other serious problems to the macroeconomic stability of Romania
Thank you!
Bibliography
Bernanke, Ben; Gertler, Mark; Gilchrist, Simon (1999), „The Financial Accelerator in a Quantitative Business Cycle Framework” Blanchard, Olivier; Jordi, Gali (2007), “Real Wage Rigidities and the New Keynesian Model”, (2007), Journal of Money, Credit and Banking, Supplement to Vol. 39, No. 1 (February). Blanchard, Olivier; Jordi, Gali (2008), “Labor Market and Monetary Policy: A new Keynesian Model with Unemployment”, Working Paper 13897, Nationla Bureau of Economic Research (March). Erceg, J. Christopher; Henderson, W. Dale; Levin, T. Andrew (2000) “Optimal monetary policy with staggered wage and price contracts”, Journal of Monetary Economics, Elsevier, vol. 46(2), pages 281-313, October. Christiano, J. Lawrence; Trabandt, Mathias; Walentin, Karl (2011),” Introducing financial frictions and unemployment into a small open economy model”, Journal of Economic Dynamics and Control, Elsevier, vol. 35 (12), pp. 1999-2041.
Clarida, H., Richard; Jordi Galí;Mark, Gertler (1999), “The Science of Monetary Policy:A New Keynesian Perspective” Journal of Economic Literature,Vol. XXXVII (December), pp. 1661–1707. Clarida, H., Richard; Jordi Galí;Mark, Gertler (2001), “Optimal Monetary Policy in Closed Versus Open Economies: An Integrated Approach”, NBER Working Paper 8604, pp. 5-6. Croitoru, Lucian (2014), „Teoria și critica politicii monetare în România”, în Despre economie: cu și fără formule, forthcomoing, Curtea Veche Publishing. Croitoru, Lucian (2015b), „Tendința spre secundaritate în administrarea dezechilibrelor globale”, www.bnro.ro. Croitoru, Lucian (2015c), „The Romanian Conundrum”, www.bnro.ro, NBR’s blog. Croitoru, Lucian (2015d), „Monetary policy and the global imbalances”, www.bnro.ro, NBR’s blog.
Belgia
Bulgaria
Cehia
Danemarca Germania
Irlanda
Grecia
Spania
Franța
Italia
Cipru
Lituania
Luxemburg
Ungaria
Olanda
Austria
Polonia
Portugalia
România
Slovacia
Slovenia
Finlanda
Suedia
Marea Britanie
0
20
40
60
80
100
120
140
160
180
40 45 50 55 60 65 70 75 80
GD
P a
t cu
rre
nt
pri
ces
pe
r h
ou
r w
ork
ed
(P
PS,
EU
15
=10
0)
General index of economic freedom
Fig.1: Labor productivity and the general index of economic freedom in 1996
Mostly unfree economies (EPNL)
Moderately free economies(EML)
Repressed eeconomies (ER)
Mostly free economies (EPL)
Source: author’s computations; AMECO; Heritage Foundatoin
Belgia
Bulgaria
Cehia
Danemarca Germania
Estonia
Irlanda
Grecia
Spania
Franța
Italia
Cipru
Letonia Lituania
Luxemburg
Ungaria
Malta
Olanda
Austria
Polonia Portugalia
Romania
Slovacia
Slovenia
Finlanda
Suedia
Marea Britanie
0
20
40
60
80
100
120
140
160
180
40 45 50 55 60 65 70 75 80
GD
P a
t cu
rre
nt
pri
ces
pe
r h
ou
r w
ork
ed
(P
PS,
EU
15
=10
0)
General index of economic freedom
Fig. 2: Labor productivity and the general index of economic freedom in 2014
Repressed economies (ER)
Mostly unfree economies (EPNL)
Moderately free economies(EML)
Mostly free economies (EPL)
Belgia
Bulgaria
Cehia
Danemarca Germania
Irlanda
Grecia
Spania
Franța Italia
Cipru
Lituania
Luxemburg
Ungaria
Olanda Austria
Polonia
Portugalia
România
Slovacia
Slovenia
Finlanda Suedia Marea Britanie
0
20
40
60
80
100
120
140
160
180
20 30 40 50 60 70 80 90 100
GD
P a
t cu
rre
nt
pri
ces
pe
r h
ou
r w
ork
ed
(P
PS,
EU
15
=10
0)
Property freedom
Fig. 3: Labor productivity and property freedom in 1996
ER EPNL EML Economii libere
Source: author’s computations; AMECO; Heritage Foundatoin
Belgia
Bulgaria
Cehia
Danemarca Germania
Estonia
Irlanda
Grecia
Spania
Franța
Italia
Cipru
Letonia
Lituania
Luxemburg
Ungaria
Malta
Olanda
Austria
Polonia Portugalia
România
Slovacia Slovenia
Finlanda
Suedia
Marea Britanie
0
20
40
60
80
100
120
140
160
180
20 30 40 50 60 70 80 90 100
GD
P a
t cu
rre
nt
pri
ces
pe
r h
ou
r w
ork
ed
(P
PS,
EU
15
=10
0)
Property freedom
Fig.4: Labor productivity and property freedom in 2014
ER EPNL EML EPL Economii libere
Source: author’s computations; AMECO; Heritage Foundatoin
Belgia
Bulgaria
Cehia
Danemarca Germania
Irlanda
Grecia
Spania
Franța Italia
Cipru
Lituania
Luxemburg
Ungaria
Olanda
Austria
Polonia
Portugalia
România
Slovacia
Slovenia
Finlanda
Suedia
Marea Britanie
0
20
40
60
80
100
120
140
160
180
20 30 40 50 60 70 80 90 100
GD
P a
t cu
rre
nt
pri
ces
pe
r h
ou
r w
ork
ed
(P
PS,
EU
15
=10
0)
Freedom from corruption
Fig. 5: Labor productivity and freedom from corruption in 1996
EPNL ER
Economii libere
EML
Source: author’s computations; AMECO; Heritage Foundatoin
Belgia
Bulgaria
Cehia
Danemarca Germania
Estonia
Irlanda
Grecia
Spania
Franța
Italia
Cipru
Letonia
Lituania
Luxemburg
Ungaria
Malta
Olanda
Austria
Polonia Portugalia
România
Slovacia Slovenia
Finlanda Suedia
Marea Britanie
0
20
40
60
80
100
120
140
160
180
20 30 40 50 60 70 80 90 100
GD
P a
t cu
rre
nt
pri
ces
pe
r h
ou
r w
ork
ed
(P
PS,
EU
15
=10
0)
Freedom from corruption
Fig. 6: Labor productivity and freedom from corruption in 2014
ER EPNL EML EPL
Economii libere
Source: author’s computations; AMECO; Heritage Foundatoin
-10.0
-5.0
0.0
5.0
10.0
15.0
20.0
2005 2006 2007 2008 2009 2010 2011 2012 2013 2014
Financing of the current account: mostly from the financial account (bn. EUR)
CAPITAL ACCOUNT FINANCIAL ACCOUNT
NET ERRORS AND OMISSIONS CURRENT ACCOUNT DEFICIT
Source: author’s computations based on NBR data