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Rationale behind the decision of the Bank Board of the NBS on the set levels of the NBS interest rates

The Bank Board of the NBS discussed the Situation Report on Monetary Development in the Slovak Republic in December and approved the Medium-Term Forecast which consistently provides a picture both on the current and expected macroeconomic developments in the Slovak economy.

In 2006, the inflation exceeded the set inflationary target (2.5%), in particular due to developments in energy prices, which is the factor beyond the scope of monetary policy.

In December, inflation measured by the Harmonized Index of Consumer Prices achieved a lower level than the NBS expected, due to a more favourable development in energy prices. The achieved inflation figure was above the target set by the NBS, and this mainly due to a dynamic growth in regulated energy prices, which reflected a remarkable rise in oil prices in 2005 and in the first half of 2006. In regard of the fact that the above cost factors are beyond the scope of monetary policy, in the course of the previous year the NBS’ reaction included rise in interest rates in order to prevent the emergence of secondary effects which would follow the expected rise in regulated prices.

In its discussion on the Situation Report, the Bank Board of the NBS concluded that a moderate deceleration of growth rate of some industrial sector development indicators for output receipts on a monthly basis was caused by the volatile character of their development, when the key export sectors were still reporting high growth. The Bank Board of the NBS similarly perceived the release of recent data on the foreign trade deficit in November, when the NBS assumes that, owing to the expected increase in export performance, in particular in automotive and electronic industries, foreign trade deficits should go down markedly.

Owing to the NBS intervention in December, as well as to maintaining the available excessive liquidity in the banking sector, the exchange rate development was stabilized in January. These activities of the NBS in the foreign exchange and money markets were focused on influencing the sentiment of short-term foreign investors and domestic commercial banks; as a result, the exchange rate development started to substantially deviate from the economic fundamentals development. Following the exchange rate developments, the monetary conditions were tightened, According to the Bank Board of the NBS, such development should be currently of short-term and temporal character only.

The current development of economy in the first quarter of 2006, together with recent information on development of regulatory prices, have markedly influenced the values of the main macroeconomic indicators in January Mid-Term Forecast.

Dynamic GDP growth in the third quarter of 2006 indicated that the output capacity of the economy is increasing at a quicker pace than expected. The NBS expects that the current development of added value will also continue in the years to come. Having considered the above facts, the NBS increased the GDP dynamics estimate for the overall forecasting horizon. In the light of the growth structure of the economy, which will concentrate in the higher export output, the NBS does not expect additional inflationary impulse, as such development correlates with the growth potential of the economy. It means that the unwanted overheating of the economy should not happen. Growth of the economy should be based in particular on labour productivity, which should be reflected in profitability and investment activity growth; however, it should not be reflected in nominal wage growth.

Inflation achieved in 2006, lower than formerly expected by the NBS, should be reflected in lower inflationary expectations in 2007. The NBS assumes that, based on the lower than formerly estimated energy prices, the inflation target will be met in 2007.

As there is a time lag for the impact of monetary policy to be shown in the economy and inflation, it is necessary that the central bank, in its decision on monetary policy, considers also the inflation developments in 2008. As compared to the previous forecast, the inflation measured by the Harmonized Index of Consumer Prices does not change and remains at the inflationary target level. However, both domestic and external risks remain. These include, in particular, developments in the area of energy prices and wages related to the labour productivity. In view of the above risks, the Bank Board of the NBS considers the current setting of monetary conditions as adequate. Therefore, the Bank Board of the NBS does not consider it necessary to make any changes to the current levels of interest rates.

The proposal for lowering the set levels of interest rates did not win sufficient support, and the Bank Board of the NBS voted on the proposal for lowering the set levels of interest rates of the NBS as follows: out of 8 appointed members of the Bank Board of the NBS 2 members voted for this proposal and 5 members voted against.

Igor Barát
Spokesman of the NBS

National Bank of Slovakia
Public Relations Department, Press Section
Imricha Karvasa 1, 813 25 Bratislava, Slovak Republic
Tel.: +421-2-5787 2161,+421-2-5865 2161, +421-2-5787 2166, 421-2-5865 2166

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