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Macroeconomic Developments January– September 2005 Radovan Jelasic, Governor Belgrade, November 3, 2005 1 Contents • Prices (inflation, interest rates, wages, productivity) • The dinar exchange rate • External position (current account, capital inflow, foreign exchange reserves, indebtedness) • Economic growth • Fiscal policy • Моnetary policy and developments • Оther Measures to be undertaken by the NBS... • Raising the reserve requirement ratio on enterprises’ foreign exchange deposits and external borrowing from 29% to 35% as of November 10, 2005; • Lowering the reserve requirement ratio on dinar deposits from 20% to 18% as of November 10, 2005; • Lowering the reserve requirement ratio on citizens’ foreign exchange savings from 41% to 40% as of December 10, 2005; • Introduction of obligatory 20% deposit and a monthly installment of 30% of overall household income on all loans, apart from housing loans, for the period of 10 years instead of the present 5 years – otherwise, a higher provisioning level will be needed; • As of February 1, 2006, physical persons will be required to obtain a report of the Credit Bureau when taking a loan or lease - otherwise, a higher provisioning level will be needed; • The requirement for leasing companies to report to the Credit Bureau on all transactions with physical entities; • The requirement to disclose the unique leasing fee as of February 1, 2006 • Strengthening the role of repo operations. ... and expected effects • Curbed inflationary pressures as a consequence of reduced domestic demand; • Decelerated external borrowing; • Lower euroization level; • Further strengthening of dinar and foreign exchange savings; • Strengthening of NBS foreign exchange reserves, which will positively affect the dinar exchange rate! During 2005 inflation will shoot past the projected level; it has been on the rise since 2003 Monthly inflation trends in 2004 and 2005 у% 3.0 у% 2.7 2.5 1.7 1.5 1.4 1.5 1.0 0.9 1.0 0.8 0.8 1.7 1.4 0.4 17.0 1.1 0.4 0.4 Маrch Аpril Маy Јune 12.0 10.0 7.8 6.0 0.5 14.0 13.0 February 13.7 8.0 0.0 Јаnuary 16-17 14.8 15.0 0.8 0.6 0.5 16.0 16.0 1.1 0.8 18.0 Inflation in period 2002-2005 14.0 2.0 2.0 19.0 у% 18.0 Јuly Аugust September Оctober 4.0 2.0 0.0 2002 2004 2005 2003 2004 2005 Interannual growth rates Source: RSO Source: RSO • Inflation is not just “one of the indicators” of the efficiency of economic policy, but one of the most significant indicators; • From the viewpoint of the NBS, high economic growth does not justify the high inflation level! • Out of 13.7% price growth in the first ten months, 6.2% was driven by: – Petroleum products2.5% - Utilities 2.2% – Еlectricity 0.5% - Effect of VAT introduction 2.0% Rise in core inflation primarily points at aggregate demand growth Core inflation and money supply M1 trends interannual rates, % 30 25 20 15 10 5 0 1 3 5 Source: RSO and NBS 7 2004 9 11 М1 1 3 5 7 2005 9 Core inflation • In the first 10 months of 2005, core inflation accounted for almost 50% of overall inflation; • In the second half of the year, money supply rose substantially mainly in respect of the conversion of foreign exchange into dinars due to foreign capital inflow, which negatively affected the inflation rate. With a view to increasing sterilization and due to higher inflation rate, the NBS offers a higher interest rate NBS reference weighted interest rates and NBS securities placement in 2005 2005 % at the annual level CSD mill. 20.0 25000 18.0 20000 16.0 15000 14.0 10000 12.0 5000 10.0 0 February Маrch Аpril 14 days Source: NBS Маy 30 days Јune Јuly Аugust September Оctober 60 days NBS securities • The 14-day repo rate will be used as a reference rate by the NBS; • Sterilization will be stronger albeit it implies higher costs for the NBS and possibly a higher level of interest rates in the short run! Average wages in Serbia have reached CSD 18,345 (EUR 217), and the rise of real wages stands at 5.9% showing an upward trend Average real net wages у% 20 18 16 14 12 Interannual growth Тrend 10 8 6 4 2 0 12 2002 2 4 Source: RSO 6 2003 8 10 12 2 4 6 2004 8 10 12 2 4 6 2005 8 Wages in the public sector declined by 0.5% in real terms, reaching CSD 20,677 (EUR 245) with a stable tendency Average real net wages in the public sector % 40 35 30 25 20 Interannual growth Тrend 15 10 5 0 -5 -10 12 2002 3 Source: RSO 6 2003 9 12 3 6 2004 9 12 3 6 2005 9 Labor costs and productivity grow, but employment is on the decline Productivity and real wages trends in industry (2004=100) • Real gross wages growth in the industry (10.4% in the first nine months) is higher than productivity growth (5.6%), i.e. unit labor costs in the industry went up by 4.5%; 120.0 110.0 100.0 90.0 80.0 • However, at the level of the overall economy, unit labor costs have been reduced. 70.0 60.0 1 Source: RSO 3 5 7 2003 9 11 Productivity 1 3 5 7 2004 9 11 1 3 Real gross wages 5 7 2005 9 The NBS pursues an exchange rate policy that balances influences both on inflation and balance of payments Trends of retail prices and the dinar exchange rate** by quarters 2005 % 16.0 13.7 12.0 8.0 5.1 0.3 0.0 -4.0 3.6 2.8 4.0 -2.7 -2.1 -2.2 -2.3 -0.2 -1.5 -8.0 -7.8 -12.0 I Retail prices II III January-October Euro nominal exchange rate Real effective exchange rate** * Negative rate implies depreciation of the dinar, and positive rate implies appreciation of the dinar. Source: NBS and RSO ** Real effective exchange rate calculated against the currency basket. A considerable depreciation or appreciation would exert a negative impact on either inflation or balance of payments. The role of the market in determining the exchange rate is gradually becoming stronger Trends of the euro nominal exchange rate against the dinar у% in CSD 86.0 0.6 85.5 0.4 85.0 0.2 84.5 0 84.0 83.5 -0.2 83.0 -0.4 82.5 -0.6 • Banks should develop more efficient risk management; 82.0 July August Daily changes* September Оctober Level of exchange rate * Negative rate implies depreciation of the dinar, and positive rate implies appreciation of the dinar. Source: NBS • Significant daily fluctuations reflect market relations; • Banks should (if they wish to advise their clients in a professional manner) inform their clients of the existing risks. The NBS encourages the interbank foreign exchange market (IFEM) development, and its interventions are becoming increasingly less important Sale of foreign exchange by the NBS at the IFEM session and interbank trade outside the IFEM session in EUR mill. in EUR mill. 700 2,000 1,763 1,604 1,750 1,607 577.7 600 1,545 1,373 1,500 1,250 1,015 400 462.6 452.7 500 386.8 358.0 370.4 1,000 789 300 750 200 500 192 100 250 0 0 2002* 2003 Banks-NBS (IFEM) Source: NBS 2004 Јаn-Oct. 2005 I Bank-bank * Total since the introduction of the fixing session on May 14 until Dec 12, 2002 Source: NBS. II 2005 Banks-NBS (IFEM) III Bank-bank Current account in 2005 is much more favorable mainly owing to export boost Export and import trends by quarters in EUR mill. 7,000.0 +4.9% 6,000.0 Coverage of import by export of goods and services in 2004 stood at 44.6%, whereas in the first nine months of 2005 it reached 54.6%. 5,000.0 +26.5% 4,000.0 3,000.0 +15.1% +6.2% -8.2% 2,000.0 +15.2% +38.0% +29.3% 1,000.0 0.0 Export I quarter Source: NBS Import Export Import II quarter 2004 Export Import III quarter Export Import Total (I-III) 2005 Current trend of export growth is sustainable in the long run • Export determinants – preferential status on EU markets; – better quality of export supply, especially supply of privatized companies; – effect of VAT introduction; – the key factors behind export growth are the following: ferrous metallurgy, nonferrous metals, sugar, grain, clothes and footwear (almost 2/3 increment in the nine months of 2005). Import determinants – effect of VAT introduction; – growth of crude oil prices in the world market; – the key factors behind import growth are the following: energy, ferrous and nonferrous metallurgy (increment higher by around 25%). Current payments deficit and capital inflow in EUR mill. 3000.0 505 1619 Indebtedness -1371 Current account balance 1747 901 935 -1350 -1362 Foreign direct investments 925 1203 1000.0 1118 780 2000.0 1116 0.0 -886 -1000.0 -2234 -2000.0 FX reserves -3000.0 2002 2003 2004 Jan-Sept. 2005 Projections 2005 Source: NBS • Structure of capital inflow has improved – foreign direct investments have for the first time sufficed for financing the deficit in the first nine months of 2005; • Determinants of capital inflow: lower risk, high interest spread and high demand for capital; • The structure of the 2005 current account so far is sustainable in the long term! Although external debt balance has been on the rise during 2005, the share of public debt is decreasing Level and structure of external debt of the Republic of Serbia* in EUR mill. % 14.0 62.0 11.3 12.0 8.8 9.0 10.0 8.0 60.0 9.8 37,1% 25,8% 27,2 58.0 Private debt 32.2% 56.0 6.0 4.0 65.4% 2.0 8.8% 64.0 % 8.7% 59.4% 55.0% 54.0 52.0 8.4% 7.9% 0.0 50.0 2002 2003 Public debt 2004 Kosovo and Metohija Jan-Aug. 2005 Share in GDP (right scale) *In all observed years, the debt towards the London Club has stood at USD 1.08 billion, while the debt towards the Paris Club has been reduced by USD 730 million. The share of debt of Kosovo and Metohija for the previous period has been calculated on the basis of the debt structure in 2005 Source: NBS The expected GDP growth in 2005 will be around 5% Real GDP growth by quarters in 2004 and 2005 % Sectors “responsible” for growth: 10.0 8.0 6.0 7.1 6.8 5.3 4.8 5.8 6.1 4.0 • Financial services – 5.9% of GDP 2.0 0.0 So urce: RSO • Trade – 7.7% of GDP I 2004 II Total (I-II) 2005 • Transport – 7.7% of GDP Role of fiscal policy remains crucial from the viewpoint of inflation CSD billion Consolidated public revenues and expenditures 850 Consolidated public revenues and expenditures % GDP 46 800 45 750 44 700 43 650 600 42 550 41 500 40 450 39 400 2003 2004 Source: Ministry of Finance 2005 Revenues 2006 Expenditures 38 2003 2004 Source: Ministry of Finance 2005 Revenues 2006 Expenditures • In 2005, consolidated government revenues rose by around 19.5% compared to 2004 (the planned increase in 2006 is 15.4%); • In 2005, consolidated government expenditures rose by almost 16.1% compared to 2004 (planned increase in 2006 is 13.7%); • A surplus has been recorded, but both revenues and expenditures witnessed a high rise – the reduction of expenditures is still the main challenge facing the fiscal policy. Monetary policy challenges and key instruments Challenges • Lowering of the inflation rate; • Reduction of the euroization level; • Growth of dinar savings; • A more moderate rise in lending to households. Instruments • Strengthening the influence of interest rates; • Open market operations; • Banking sector liquidity; • Required reserves; • Deposit and credit facilities. The largest change sustained by lending activity was that of its structure, with the share of household lending registering a steep rise CSD billion 90.0 81.2 80.0 66.4 70.0 legal entities 53.2% 60.0 50.0 23.6 30.0 20.0 59.8% 37.3 40.0 29.6 23.7 46.1% 20.3 13.1 71.9% 10.0 28.1% 0.0 37.4% 47.3% 62.6% 77.8% 22.2% 2004 2005 I quarter 60.2% 52.7% 2004 2005 II quarter 46.8% 40.1% 39.8% households 53.9% 2004 2005 III quarter 2004 2005 Total (I-III) Source: NBS Average monthly growth of household lending in 2005 amounted to CSD 4.6 billion, whereas in 2004 it stood at mere CSD 2.6 billion!