Ardian Fullani: Latest economic and financial developments in Albania
Speech by Mr Ardian Fullani, Governor of the Bank of Albania, at the press conference on
the monetary policy decision-making of the Supervisory Council of the Bank of Albania,
Tirana, 27 April 2011.
* * *
Today, on 27 April 2011, the Supervisory Council of the Bank of Albania reviewed and
approved the quarterly Monetary Policy Report. Based on a thorough analysis of Albania's
latest economic and financial developments and following discussions on their performance
outlook, the Supervisory Council of the Bank of Albania decided to leave the key interest rate
unchanged at 5.25%. The Supervisory Council holds that the actual monetary conditions are
appropriate for meeting the inflation target and for continuing to stimulate the economic
activity.
Let me now proceed with an overview of economic developments and main issues discussed
at today's meeting of the Supervisory Council.
The Albanian economy is deemed to have had a positive performance during 2011 Q1.
Economic activity increased, main macroeconomic balances improved, and risk premiums
and interest rates in financial markets dropped. Economic growth during 2011 relies on
foreign demand for Albanian goods as well as on domestic demand. Consumption and
investments in the country remain slow, beyond the seasonal effect that characterises the
first quarter. Rapid expansion of exports and moderate growth of imports have led to an
improvement in trade deficit, contributing to the balancing of demand and supply for foreign
currency and retaining the national currency value.
Demand-generated inflationary pressures remain contained, due to the existence of free
capacities in the economy and controlled consumption, while import prices increase was a
principal contributor to the price rise in the country.
In March 2011, inflation pointed to 4.3%. During the first quarter of 2011, inflation averaged
4.0%, i.e., one percentage point above the mid-term inflation target. The country's economy
continued to grow during the fourth quarter of 2010, and indirect available data suggest that
even the first quarter of 2011 was positive. On average, this growth is estimated to have
been lower than the potential growth of the economy, suggesting that domestic demand
inflationary pressures have been weak. The rapid upsurge in prices over the last two months
is mainly due to the effect of food and oil prices increase in international markets, thus
leading to light increase of inflationary pressures and initial appearance of second round
effects, in February. In response to this phenomenon, the Bank of Albania increased the key
interest rate by 0.25 percentage points at the end of March 2011. Inflationary expectations
remain anchored close to the mid-term target of the Bank of Albania. In addition to the
domestic demand, the relative stability of the exchange rate contributed to preventing further
inflation increase.
More specifically, during 2011 Q1, inflation reflected a hike in prices of some food items,
further increase of oil prices as well as an upturn in medication prices. With the warmer
season approaching, domestic agricultural output is expected to contribute to an upward
domestic demand, thus buffering high pressures from export prices.
The Bank of Albania deems that policies to encourage domestic production, which reduces
the exposure of the Albanian economy to external shocks, are necessary.
Annual inflation of tradable goods sector in 2011 Q1 was 4.9%, explaining about 75% of the
headline inflation. Primary reasons for this conduct were the actual and expected aggravated
conjunctures of commodity prices, unusual geo-political situation in large economies of oil
and agro-industrial products, as well as unfavourable weather conditions that has damaged
agricultural production. Inflation of non-tradable goods of the CPI basket, which represent
internal pressures, in the first quarter of 2011, reached 2%. This value is close to that of the
previous year and comparable to its historic average.
Inflation trend, without counting temporary effects on it, that is core inflation, was close to
3.0%, reaching high historical values. This long-term inflation component shows that
inflationary outlook in the economy, though reflecting a value that is relatively higher, remains
well anchored with the Bank of Albania target.
In the future, inflationary pressures along the time span of action of the monetary policy are
forecasted to be high, but their intensity will be falling over the course of the year. I would like
now to address, in more details, the factors that determine inflation developments and
relevant risks.
During 2011 Q1, world economy demonstrated growth, while unemployment remains high.
Economic growth is expected to intensify, mainly owing to the private sector, hence providing
the conditions for attracting the public sector.
As a result of high divergences among countries, authorities have to deal with diverse
challenges; in advanced economies focus is on reducing public debt and adjusting economic
agents' financial balances, while in emerging economies the main risk appears to be about
overheated economy and rapid credit growth. Inflationary pressures are considered to follow
an upward trend due to supply shocks in the oil and other commodity markets. On the other
hand, as a result of a rapid increase of demand in some developing countries, prices of
factors of production, such as energy, raw materials and labour, increased. The forecasts
reveal a heightened level of insecurity, as a result of social and political turmoil and natural
disasters in some countries of the world. Price increases worldwide and the extent of their
transmission to various economies, has affected decisions on interest rates applied by some
central banks. Therefore, as a result of anticipation for an inflation rate above the targeted
level, the European Central Bank decided to increase the key interest rate by
0.25 percentage points. Likewise, in international financial markets is noticed a slight
increase of interest rates factorising anticipation for a higher inflation.
Domestic economic activity over the fourth quarter recorded a growth of 5.4% year-on-year,
significantly narrowing the negative output gap. Economic growth was supported by the
external demand and was boosted in positive terms by a consistent recovery of the global
economy. An acceleration of the annual growth rate of real GDP during the fourth quarter
was triggered by a higher positive contribution of the industry sector. Meanwhile, the added
value of the services and agriculture sectors contributed positively, albeit at a lower level, to
annual real GDP growth.
Latest data on 2011 Q1 from the business confidence survey, the external trade
performance, and monetary and fiscal indicators support a continued domestic economy
recovery, mainly due to the positive contribution of the production sector.
Partial data available on household consumption suggest a rapid rise y-o-y during 2010 Q4.
In the meantime, partial data for the first quarter suggest a moderate contribution of
consumption to the aggregate demand. First quarter 2011 surveys show that uncertainty for
the future is considered as high by consumers, affecting the stability of consumption for
upcoming periods. The Bank of Albania considers that in the short run, the Albanian
consumer has the space to adopt a more rational behaviour towards expanding
consumption. As regards investments, their performance is assessed to have been more
stable over the last two quarters. The increase of the external demand for producing
businesses, positive expectations on demand in some producing sectors as well as easing of
funding terms and conditions during the last quarter of 2010 signal a continuation of the
positive contribution of private investments during the current year. Nonetheless, producing
capacity utilization remains low and the internal consumption situation remains unclear,
suggesting that the economy continues to operate below its potential.
In 2011 Q1, government expenditures are estimated to have given an important contribution
to keeping demand at positive levels, in contrast to the trend of the preceding year. At the
end of 2011 Q1, budget deficit reached ALL 11.8 billion, against the surplus of ALL 0.7 billion
recorded in the same quarter of the previous year.
During this period, budget expenditure increased in nominal terms by 16.8% year-on-year,
mainly due to increased current expenditures. Maintaining similar growth rates over the rest
of the quarters is expected to be translated into a higher contribution of expenditures to the
aggregate demand, as compared to 2010. Developments observed both on revenues and
expenditures side have led to a drop of the primary balance to negative values during 2011
Q1, after an apparent improvement in the last quarter of 2010.
In 2010 Q4, net position of the current account was estimated in a deficit of EUR 373.6 million
or 16.4% of nominal GDP. In contrast to the first three quarters of the year, which posted a
narrowing of the annual current-account deficit, in the fourth quarter of 2010, this deficit has
expanded by 15.1% in annual terms. The main factor for the expansion of the current account
deficit was the expansion of the trade deficit, albeit a high rise in exports of goods and
services by 20.7% year-on-year. Foreign demand continued to support economic growth in
the first two months of 2011. Good performance of exports contributed to a narrowing of the
trade deficit by 5.9% y-o-y for this period. Average ratio of covering imports with exports was
47.3% recording its highest historic peak. Trade annual growth was 30.4% during the first two
months of the year. Exports value continued its accelerating upward trend, which had started
in the first quarter of 2010, and expanded by 66% in annual terms.
The three-digit growth in the electric energy exports was a key contributor to this
performance, while processed metal exports and textile re-exports continued to contribute
positively to the value of annual export performance.
In the post-global-crisis period, domestic economy is adapting to a new growth model, which
requires significant structural changes. During this process of reallocating resources to most
efficient sectors of the economy, as well as a more conservative behaviour by Albanian
households towards consumption, its potential output is expected to be lower for the
mid-term horizon. According to the demand components analysis, improvement of growth
rate in the last two quarters may have significantly narrowed the negative output gap, but the
existence of spare capacities in the economy even during 2011 suggests that the Albanian
economy will continue to operate below its potential, generating weak inflationary pressures
by the internal demand.
On the supply side, increasing productivity during 2010 Q4 and a slower rise in unit labour
cost, generate lower inflationary pressures from the labour factor. Inflationary pressures over
the level of domestic prices, which come as a result of fluctuations in the prices of oil and
food items in international conjunctures, are estimated to be present during the current year,
but with a continuous downward trend. Due to the aggravated geo-political situation in the
world, the uncertainty that surrounds these expectations remains high. The absorbing
capacity of the domestic economy to these shocks and avoidance of steady pressures on
inflation will be a function of the Albanian economy performance and the control of agents'
inflationary expectations.
Monetary indicators performance has reflected a slowdown of the money supply over the first
two months of the current year, confirming contained monetary inflation pressures. The M3
aggregate marked an annual average increase by 11.2%. The currency component of the
money supply provided a downward contribution to the broad money expansion; however,
the use of foreign currency at high levels in the banking system and the economy remains
one of the weaknesses of the Albanian economy. As an expression of its interest in
addressing this issue, in today's meeting, the Supervisory Council of the Bank of Albania
decided to waive the remuneration of the mandatory foreign reserve. This measure will
encourage commercial banks effectively to reduce their funds collection costs and will favour
intermediation in the national currency. The level of the demand for money by private and
public economic agents has increased. Our assessments indicate that monetary expansion
is in conformity with the private sector demand for real money. The performance of loans to
the private sector has been in line with its seasonal behaviour at this period of the year,
increasing on average by 10.1% in annual terms. Although insofar credit developments have
been slow, there are encouraging signs for a better performance of lending in the future.
Private sector's demand for loans, whose low levels have been a primary obstacle for the
revitalisation of lending, increased during the first quarter of the year and is expected to grow
in the next quarter as well. The banking system enjoys good health and liquidity conditions
for supporting a growing demand for loans, with even better lending conditions. The Bank of
Albania supports the banks' initiative to clean up their balance sheets, aiming at increasing
transparency and creating free funds to support lending.
The overall performance of financial markets for the first quarter of 2011 has been positive.
In light of its primary objective to maintain price stability, the Bank of Albania decided to
increase the key interest rate at the end of March. This decision was reflected in higher
interest rates in the inter-bank market, while it is expected to be transmitted into other
markets during the upcoming period. In parallel with this move, the Bank of Albania has
supplied the inter-bank market with the necessary liquidity for a normal functioning. In the
meantime, in the deposit market, the downward tendency of their interest rate continued.
Interest rates in the credit market varied; increased in lek and decreased in euro, though this
development is deemed to represent special bank policies for certain segments of the
economy. Lastly, the nominal effective exchange rate for the seventh consecutive quarter
reduced its depreciating trend. Our analysis indicates that, overall, fundamental factors of the
economy support a new equilibrium of the exchange rate, which, albeit higher than three
years ago, is adjusting to domestic financial and economic equilibriums, supporting the
strengthening of the competitiveness of the Albanian economy in international markets. The
stable performance of the exchange rate has contributed to a further consolidation of the
domestic financial stability, without exercising pressure on the banks' activity and conduct of
economic agents.
Our future projections support the maintaining of a positive performance of the Albanian
economy even in 2011. Consumption and private investment are expected to grow further,
while the fiscal sector is expected to give a positive contribution to the economic growth, after
a slowdown in 2010. Notwithstanding this, demand growth is expected to be below the
potential of our economy even in 2011.
This will condition downward pressures on inflation from the domestic economy, which are
expected to balance the effect of rising foreign prices. The Bank of Albania is determined to
take all the necessary measures in due time to comply with its inflation target in the mid-term
horizon.
Taking into consideration the information set out above, the Supervisory Council deemed
that inflationary pressures for the medium term horizon are added; however, they remain
subdued. Consumer price performance is expected to be under the pressure of price
increase in international markets. On the other hand, insufficient demand will continue to
condition below-potential domestic capacity utilization rate, exercising downward pressures
on inflation. Inflationary anticipations continue to be anchored around the inflation target of
the Bank of Albania.
At the end of its discussions, the Supervisory Council concluded that the monetary conditions
are appropriate for compliance with the mid-term inflation target and decided to keep the key
interest rate unchanged at 5.25 %.