09/12/2021

Key policy rate kept on hold

At its meeting today, the NBS Executive Board voted to keep the key policy rate on hold, at 1.0%. Using the flexibility of the current monetary policy framework, since October this year the NBS has been gradually reducing the level of monetary policy accommodation without changing the main interest rates, amid heightened inflationary pressures both at home and abroad and the need to influence inflation expectations. In addition to discontinuing securities purchase auctions by way of which banks were provided with dinar liquidity in the prior period, the NBS has been gradually raising the percentage of excess dinar liquidity which it withdraws for a week through reverse repo auctions (repo sales of securities) and the weighted average rate applied at such auctions. Since October, this rate increased from 0.11%, which had been its average since the start of the year, to 0.34%, where it stood at the latest reverse repo auction. Depending on the circumstances, the NBS will continue to tighten monetary conditions gradually in the coming period as well, by raising the weighted average repo rate, within the current interest rate corridor.

Elevated global prices of energy and other primary commodities, supply disruptions and much higher transportation prices globally, together with the effects of the low last year’s base, have led to higher cost-push pressures in the global and local markets. According to SORS data, y-o-y inflation measured 6.6% in October. Three-quarters of y-o-y inflation was determined by factors beyond the influence of monetary policy – food and energy prices. It should also be noted that prices of both groups of products had been extremely low last year amid subdued demand. On the other hand, core inflation (CPI excluding food, energy, alcohol and cigarettes), which is affected more by monetary policy, measured less than headline inflation in October, equalling 2.7% y-o-y. Core inflation has been maintained at a low level thanks to several years’ relative stability of the exchange rate which represents a powerful anchor of price stability and shall be preserved in the coming period as well, and the fact that both one-year ahead and medium-term inflation expectations of the financial and corporate sectors are within the target tolerance band. Inflation expectations have been contained also by the measures of the Serbian Government capping the prices of food staples.

Like most other central banks, the NBS expects that the factors of higher headline inflation will for their major part be temporary in character and that their effect will dissipate next year. Consistent with that, the NBS expects inflation to slow down from Q2 2022 and return within the bounds of the target (3.0 ± 1.5%) around mid-year. Inflation will then gravitate towards target midpoint, and may even settle within the lower half of the band in late 2022, given the higher base effect from this year. The NBS stands ready to respond promptly by using all monetary policy instruments on hand should any of the risks that would keep inflation above the upper bound of the target band for a prolonged period of time materialise.

In its decision-making, the Executive Board also had in mind that the positive effects of past large-scale monetary and fiscal measures on economic activity could be expected going forward and that the favourable financing conditions could be sustained at a somewhat lower degree of monetary accommodation. The Board particularly stressed the importance of Serbia’s strong growth dynamics, which outperformed expectations this year, quarter after quarter. In Q3, Serbia’s GDP grew 7.7% y-o-y in real terms, exceeding the SORS preliminary estimate of 7.4%. Export activity is also vibrant and set to record this year the highest level ever. Service sectors, which bore the brunt of the pandemic last year, continued to display positive trends. Having in mind that all sectors save agriculture, which fell victim to the drought, are likely to record growth at the annual level, and that the Q3 outcome was better than expected, our GDP growth projection of 6.5–7% is now closer to 7%. In the medium term, we expect growth to be 4.0–5.0%, supported by the implementation of large infrastructure projects. As a result of dynamic economic growth, employment rate in Serbia is at its historical high of 50% despite the pandemic.

The international environment continues to be plagued by numerous challenges, notably the new virus variant, which shook investor and consumer confidence worldwide because of the uncertain effects it might have on global growth, employment and inflation. Still, it is encouraging that economies worldwide showed a high degree of adjustment to the pandemic conditions, which is expected going forward as well. Though considerable cost-push pressures persist due to halts in global supply chains, logistics problems, shortages of some inputs, but also of labour force, supply in many global commodity markets is rising steadily. After extremely strong growth recorded by the global prices of oil and other primary commodities this year, in 2022 the supply in these markets is likely to converge to demand, which will help stabilise prices. As regards the euro area, our key economic partner, after challenges stemming from the significantly higher natural gas price and disrupted supply chains, it should see a pick-up in industrial production, notably in Germany, which should also exert positive ripple effects on our exports and economic activity. Although the ECB is not likely to raise its interest rates any time soon, the anticipated acceleration of euro area growth next year fuels expectations that it might reduce the volume of additional liquidity injected by the central bank in the financial sector. As the Fed made a similar decision in early November, this too calls for increased caution in the NBS’s monetary policy making.

As so far, the NBS will keep a close eye on developments in the local and international environment. The Board emphasizes that delivering price and financial stability in the medium term will remain a priority of the monetary policy, together with supporting faster growth of our economy and employment, a further rise in the export sector, as well as a favourable investment environment.

The next rate-setting meeting will take place on 13 January 2022.

Governor’s Office