The Bank of Albania, which has now cut its rate by 50 basis points this year following last month's cut, left its overnight deposit rate unchanged at 0.25 percent while the overnight lending rate was cut by 50 basis points to 2.25 percent.
In connection with its April rate cut, the central bank also promised more stimulus this year.
"The move signals also the will of the Bank of Albania to take all the necessary measures for maintaining price stability, in according with its inflation target," the bank's governor, Gent Sejko said in a statement following a meeting of the bank's supervisory council.
The rate cut aims to support credit growth, consumption and private investments, Seiko said, adding that an accommodative policy stance is a necessary, though not a sufficient precondition for faster growth and this should be associated with a intensification of the pace of structural reforms in the economy and an improvement in business conditions to reduce risk premiums.
Although economic data for Albania in the last months has been on "down side" of the bank's expectations, Seiko said the economy was still on a positive trajectory and he expects growth to improve in the medium term and inflation to gradually return to target.
Albania's inflation rate rose slightly to 0.3 percent in March from 0.2 percent in February and the bank now forecasts that inflation will be around 1.9 percent by the end of 2016, down from its previous forecast of 2.3 percent.
In its previous quarterly report, the central bank forecast that inflation would return to its 3.0 percent target in the second quarter of 2018 and average around 2.0 percent this year.
Albania's economy grew by an annual rate of 2.15 percent in the fourth quarter of last year and Seiko said data shows a similar growth rate in the first quarter of this year.
Growth is being driven by better activity in construction and services while industry remains weak. Higher household consumption and private investments are behind improved aggregate demand.
Growth in 2016 is forecast to be somewhat higher than the 2.6 percent growth rate seen in 2015, though lower than the bank previously forecast, Sejko said. Last month he forecast growth of 3.2 percent this year.
The Bank of Albania issued the following statement by Governor Sejko:
"The new economic and monetary information for the last months has been overall on the down side of our expectations. Economic growth for the fourth quarter of 2015 resulted somewhat lower than projections, and inflation for the first quarter of 2016 recorded a strong and unexpected drop as a result of supply-side shocks.
Irrespective of these developments, the Bank of Albania deems that the Albanian economy remains on a positive development trajectory. In the medium-term horizon, we expect economic growth to improve and inflation to gradually return to target. Yet, new information illustrates the risk and uncertainties surrounding the materialisation of this scenario. Thus, the external environment appears deteriorated – in terms of both the growth of our exports and the disinflationary pressures arising from it - whereas the business confidence and climate in the Albanian economy continue to remain volatile. These developments tend to decelerate the return of the economy to equilibrium and of inflation to target.
In response to them, in line with the analysis and projections of the Monetary Policy Quarterly Report approved today by the Supervisory Council and the previous monetary policy stance, the Supervisory Council decided to lower the key interest rate by 0.25 percentage points. The lowering of the key interest rate aims at boosting the monetary stimulus to the economy. Through the lowering of interest rates in the financial market, our monetary policy seeks to support the further growth of credit, consumption and private investments. This move signals also the will of the Bank of Albania to take all the necessary measures for maintaining price stability, in accordance with its inflation target.
Let me now make an overview of our analyses and conclusions in greater detail.
In the first quarter of the year, inflation averaged 0.7%. Within this quarter, inflation recorded a sharp decline over the first two months to stabilise at the 0.3% level in March. Inflation fell due to supply-side shocks, in the form of low inflation from food items and the slump in oil prices, as well as due to technical factors of the high comparative base of the same period in the previous year. These shocks originate, to a large extent, in the global markets and are reflected in a rapid drop of inflation across all the countries of the region. Their effect on inflation is expected to be transitory. Yet, it will be present in the second quarter, to be gradually cancelled out in the third and fourth quarter. In response also to economic growth, at the end of 2016, the level of inflation is expected to be around 1.9%, down from the 2.3% projection in the previous Quarterly Report.
While the drop in inflation in the first quarter was caused by supply shocks, overall inflationary pressures at home remain low. Aggregate demand, monetary expansion and inflation expectations do not signal a rapid recovery of inflation towards the target.
Though upward, aggregate demand is not yet able to generate full utilisation of production capacities both in the labour market and the capital market. Therefore, pressures on the rise of wages and production costs remain weak, which is reflected in low core inflation rates.
According to INSTAT data, the Albanian economy grew by 2.2% in the fourth quarter of 2015. The balance of available information suggests that it has recorded similar growth rates in the first quarter of this year. From the sectorial perspective, economic growth has been driven by the expansion of the activity in construction and services, while the activity in industry showed weakness due to the unfavourable conjuncture in global markets and Albania's trading partners. From the aggregate demand perspective, economic growth is driven mainly by the expansion of household consumption and private investments.
These trends are expected to surround economic growth even during 2016. For this year, economic growth is expected to be somewhat higher than the 2.6% rate registered in 2015, but somewhat lower than our previous assessments. The expansion of economic activity will be supported by the continuation of the positive trend in consumption and private investments. Their growth is expected to be financed mostly by private sector savings and foreign direct investments projects. It will also benefit from more favourable financial conditions that are expected to exist for 2016.
In response to the accommodative monetary policy stance and reduction of public borrowing in domestic markets, the financial environment is characterised by ample liquidity and low interest rates. In addition, the exchange rate is stable, financial balance sheets of firms, households and the banking sector improved, and credit standards eased. These stimulating financial conditions, however, have not been translated yet in steady credit growth, as a result of the reluctance amid economic and financial agents. Excluding the effect of the loan write off from banks balance sheets, the portfolio of credit to the private sector recoded 2.4% average annual growth in the first two months of the year.
The Bank of Albania judges that the banking system should be more realistic and bold in its decisions to lend. The complete transmission of monetary policy effects in financial markets will be accompanied with an increase in banks' interest to lend. Moreover, the success of the plan of measures for reducing non-performing loans will contribute to lowering the perceived credit risk. Both factors create premises for a better outlook of credit performance.
In the medium-term, economic growth is expected to improve over 2017 and 2018. In this horizon, it is expected to reflect better the effects of the accommodative monetary policy and find greater support from the improved global environment. The Albanian economy is expected to return gradually to equilibrium during 2017, contributing to the return of inflation to target around the end of 2018. Both projections show a slight deviation from the previous forecast, while the balance of risks remains on the down side.
To create more adequate monetary conditions for achieving the inflation target, the Supervisory Council decided to lower the key interest rate to 1.25%. Also, the Supervisory Council decided to keep the overnight deposit facility rate unchanged at 0.25%, and cut the overnight lending facility rate to 2.25%.
Based on the available information, the Supervisory Council deems that the monetary stimulus may increase further during 2016, while the upward cycle of interest rates will not start out before 2017.
Concluding, the Supervisory Council points out that the accommodative monetary policy stance is a necessary, though not sufficient, precondition for generating faster and steadier economic growth. This policy stance should be associated with the intensification of the pace of structural reforms in the economy, and constant efforts for improving the business climate and reducing - actual or perceived - risk premiums in the economy."