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August 10, 2022

Romania – Slogging towards steadier growth (IV)

By BCR Expert’s Column

Inflation dropped back in summer

In addition to the strong base effect in July, the bumper vegetable crop in June and July helped inflation decelerate quicker than originally estimated. Inflation fell to 4.9% in July, from a high 7.9% a month before and, had it not been for the significant m/m price easing in vegetables and fruits, CPI would have actually stood at 5.5%. On a less positive note, the prices of fuels, cigarettes, water & sewerage and telephony all firmed up in July and this somewhat took the shine off the overall good inflation performance. The FX rate development is crucial for inflation, considering that the medium term pass-through in inflation stands at around 20-40%. Even though the domestic environment now seems to ease its grip on inflation, one should remember that the high share of volatile prices (14%) makes CPI less resilient, especially during bouts of rising prices.

Inflation: High uncertainties ahead, starting with the further liberalization of administered prices (still no agenda), continuing with the quality of the agricultural year and last, but not least, the developments of the international price of commodities. In a global slowing growth scenario, the latter should exert less pressure on inflation. We have reduced slightly the inflation forecast, to 3.9% for end-2012 from 4.2% in the previous scenario and we no longer see the central bank raising the key interest rate in 2012.

Leu thrown about by erratic sentiment

Renewed worries about the fiscal sustainability of peripheral Eurozone countries led to a depreciation of the leu to 4.3 in mid-August, amid low traded volumes and fears of a possible intervention by the NBR. A strong and asymmetric pass-through from the FX rate to the inflation rate (consumer prices react immediately to  a depreciation of the RON but remain almost flat when the leu strengthens) and a substantial share of FX loans in total non-government loans (~60%) usually lead to an overreaction of the consumers and companies to sudden moves in the FX rate and are strong arguments for a managed floating FX regime. At the end of August, the leu strengthened to 4.2 as global news became more positive and both the government and the president reiterated Romania’s determination to continue fiscal consolidation efforts.

FX rate: We have changed our baseline scenario and see the EURRON averaging 4.22 in 2011 (from a previous 4.17), due to the more prudent approach of investors towards emerging markets in the context of the sovereign debt problems. EURRON could remain pretty stable on average in 2012, while positive results in fiscal consolidation as well as higher inflows of EU funds and a stable C/A deficit could brighten the FX rate outlook.

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