Governor for politicki.ba: Consistency in currency board is a guarantee of the monetary stability 3/3/2023 Tweet “According to official statistics, inflation, measured by consumer price index, in 2022, amounted to 14% According to Eurostat data, this was not the highest inflation rate recorded in Europe, even if Turkey is excluded.” Interview by: Sead Numanović Senad Softić is the head of the Central Bank of Bosnia and Herzegovina. He has managed this institution in times of serious challenges related to the coronavirus pandemic which faced the global economy with a strong turmoil. The world has not recovered from the shock, when another one followed - Russian aggression on Ukraine. In the interview by Politicki.ba, Governor Softić spoke about the challenges which the Central Bank of BH faced, inflation and danger of recession in BH, interest rates, loans, real estate prices... He also commented on occasional ”attacks” on the CBBH reflected in requests for printing money. He has also answered a question if he would be removed from duty by the new authorities. The year 2022 is behind us. How would you describe it? Recently, at one of regular briefings with journalists in the Central Bank, you said we were living in a crisis which had not been seen in recent 50 years. Could you elaborate that view. The previous year was very challenging, and all but typical, with relations among macroeconomic segments not corresponding to standard business cycle. We witnessed a rare episode where trends in global and national economies are not in accordance with economic theory. Unfortunately, this episode is not short-lasting. Despite disrupted global production and supply chains, and exceptionally high inflation, particularly in developed countries, Europe and USA, real economic growth in 2022 proved to be stronger than expected in mid year. Stressed tightening of monetary policy of leading central banks, with purpose of mitigating inflation shock, still does not result in strong effects. Although the first signs of desired effects of the measures taken by the European Central Bank (ECB) and the Federal Reserves (FED) are observed, inflation in the EU is still far above the desired level, with the ECB signalising further monetary tightening. In the USA, unemployment is at a very low level, signalising that economy is still overheated and that further price growth is possible, despite strong increase of benchmark interest rates. Euribor, average interest rate at which the largest bank are extending funds, up to one month, is currently below the ECB deposit facility rate. Frictions are really strong, as shocks exist both in supply and demand, so we are seeing unusual global, regional trends and trends in the country for three years. Time passing, before the signs of serious and permanent global slowdown of inflation and increase of economic activity, imbalances in financial flows and flows of goods and services are increasing globally, which, then, raise the risk of financial and public debt crises in a number of countries in the world. All said indicates that 2022 was the year of huge shocks and uncertainties, which did not take place for decades ever since oil shocks of the seventies of the last century. Inflation recorded in the USA in mid 2022 was the highest since 1981, while the highest inflation in the euro area member countries in 40 years was recorded in October. How high is inflation in BH? What was the inflation rate in Bosnia and Herzegovina in the end of 2022? Is that rate one of the highest in Europe and why is that so? -According to official statistics, inflation, measured by consumer price index, in 2022, amounted to 14%. According to Eurostat data, this was not the highest inflation rate recorded in Europe, even if Turkey is excluded. Baltic states, EU members, recorded annual inflation rates higher than 17%, some of them even close to 20%. Higher inflation rates, compared to BH, with quite rough assumption that our measures are similar, were recorded in 2022 in Czech Republic, Hungary and Poland. Inflation rates in North Macedonia, Serbia, Bulgaria and Romania were close to that in BH. Croatia, Slovakia and the Netherlands had slightly lower levels compared to the group of countries from the region and BH. So, BH was not an exception, and we did not record the highest inflation among European countries in 2022. It should be taken into account that some of the countries took measures such as lowering tax rate, administrative restrictions on the prices of some goods and services, or they financed from the budget significant subsidies for companies and households. All these taken measures weaken the country’s fiscal position, being already under pressure due to the measures introduced with purpose of mitigating the effects of the pandemic. Finally, it should be taken into account that countries significantly differ in respect of the primary cause of average price growth, and initial inflation levels, before the pressures which started in the end of 2021 and the additional inflation pressure in the beginning of the war in Ukraine. After the pandemic and chaos, the war in Ukraine started. This is a large turmoil for global economy. As I am not an expert in this field, it seems to me that the last year was only an announcement of even a more difficult year and years to come. But, the recession was avoided? Am I mistaken? If so, why? If not-what are the indicators of even worse situation? In November, the CBBH published medium-term projections of key macroeconomic variables, including inflation. As early as in 2023, we expect considerable slowdown of consumer price growth to 6.1% at the annual level. Our current inflation projection for 2024 is 3%. So, we cannot speak of a decline of average consumer prices, but the slowdown of their growth. There are several factor which make expectations of a lower inflation in the current year realistic. Firstly, this is related to base effect. Following such strong growth in 2022, which will be the base period for comparison, slowdown of growth in 2023 can certainly be expected. All the data from international markets currently point out that the pressure of energy and food prices will be lower in the current year. In the fourth quarter of 2022, we already saw the signs of consumer price inflation slowing down in BH. We expect the trend to be continued in the first half of 2023, although there are significant risks the materialisation of which could make the current assessment underestimation. A significant impact on inflation trend in 2023 could come from electric energy prices in the domestic market, but also pressures from labour market. The fact is that we recorded a significant outflow of qualified workers for several years, which additionally intensified after the revoke of COVID measures and huge demand for labour in Europe. Such trends can significantly increase labour costs and unit production costs in the country. There are, off course, potential shocks from international markets, which are completely unpredictable, however, global markets are not pointing them out at the moment. In respect of medium term economic activity, in the EU and countries of the region, we expect a slowdown in 2023, and gradual recovery in 2024. Our current projections of real GDP growth for 2022, 2023 and 2024 amount to 4.1%, 0.9% and 1%, respectively. In other words, we do not expect recession in medium term, but low external demand, brought about by expected slowdown of economic growth in the countries which are the main trade partners, and also specific features of the country, could result in low economic growth for the country at our level of economic development. Candidate status and reforms are the path to economic activity growth Prices will not be growing? Or they will? Bosnia and Herzegovina, as a vulnerable economy, depending mainly on the EU, will continue to suffer. What can and should be done to decrease the suffering as much as possible? In the CBBH, we can see a medium term trend of inflation and real economic activity, very harmonised with the trends in the EU and countries in the region. On the basis of our medium term macroeconomic projections, we expect inflation to be declining in time, but for a while we will stay above the average for the period 2010-2019. Inflation in 2022 was exceptionally high and followed the pandemic which had lasted for almost two years. Persistent and high inflation changes patterns of consumption as it decreases real available income. In such environment, this is not about short-term decrease of demand for luxury goods. On the other hand, decrease of real available income results in decrease of household consumption, the category which in BH is the most significant in GDP structure under the expenditure approach. The expected slowdown of private consumption is one of the main factors, in addition to low external demand, why the projected rate of real GDP growth is low in the current and next year. Yet, we can also see some factors which could result in a significant upward revision of economic activity projection in the years to come, which were not known in November, when the last round of projections was prepared. Firstly, receiving of candidate status for the EU membership, especially if followed by a strong reform momentum in BH and adoption of consolidated budgets for all the government levels, could generate a significant growth of economic activity. Economic activity growth would not be necessarily followed by inflation growth. I believe that, as early as in medium term, serious commitment to improvement of macroeconomic conditions and business climate in the country, would result in weakening of negative trends in labour market, and private investment growth. This would not only strengthen economic activity in medium term, but also long-term economic potential. Interest rates are growing. What does it mean for economy, BH market, and for the cost management of average BH family? Will we have to save and in what way? How much will we have to reduce costs? In theory, when benchmark interest rates of leading central banks in the world are growing, growth of local interest rates is expected. However, there are numerous frictions in transmission mechanism. In current environment, it will certainly make sense for banks to increase interest rates on loans, partly because a part of the existing agreements on loans is agreed at variable interest rates. On the other hand, they are aware that a dramatic growth of interest rates on existing loans would result in increase of the number of clients with difficulties in repayment, and additional decrease of demand for new loans, which is not very high anyway. In that regard, a considerable growth of deposit rates is not likely, at least in short term period, as banks will try to maintain their profitability, deposits, unlike loans, rarely bearing a variable interest rate. I think that 2023 will be quite uncertain, marked with resetting of interests, business plans and policies, both of banks and their clients. Currently, real interest rates on loans are negative, which makes them unstimulating for banks which want to increase nominal rates so that their interest could include a significant lending expansion. Let me just note that real interest rate is a difference between nominal interest rate and inflation rate. On the other hand, I do not see such a strong demand for loans, despite current interest rates, as clients are aware of their restrictions and uncertainty of future available income. However, in medium term and long term, the period of very low nominal interest rates is certainly behind us, with the rates significantly higher than the average of the last decade staying for a longer time. Regarding deposit interest rates, as long as liquidity in banking system is so high, and brought about by small number of alternatives in respect of savings and investment, we do not expect that they will follow a growth of interest rates on loans. At the mentioned briefing with journalists, you also said that real estate prices will have to start decreasing. Will that happen? -The latest data show the slowdown of growth of real estate prices in the EU members, with some countries already recording a decline. Due to current high real estate prices, demand by citizens with average income is expected to go down. In medium term, prices of materials in construction industry are expected to decline. At the same time, a possible decline of real estate prices does not automatically mean they will be more affordable for citizens with average income. As I said, the period of exceptionally low interest rates is over, and costs of borrowing will be certainly going up in medium and long term, which can have a negative impact on demand in current surrounding. When could the crisis end? -As I already said, according to our macroeconomic projections, we do not expect recession in medium term. Also, inflation is quite likely to slow down in medium term. The results of the CBBH operations are recognised internationally. What is the situation with the Central Bank of BH? What are you proud of, and what is bothering you as a problem? -The Central Bank has worked and is working completely in accordance with its mandate defined by the Law and has fulfilled its role completely. The currency board was never questioned by the local public, investors, and relevant domestic or international supranational institutions. Our convertible mark enjoys full confidence. Payment systems in the country function smoothly and we constantly improve them. We fulfil all the obligations as banking and fiscal agent of the country. Even in the periods of a significant demand for cash, such as the beginning of the pandemic, or in February and March 2022, due to the exclusion of Russian Sberbank from SWIFT, the clients of our banks did not experience the lack of cash, either KM or EUR. Every special request of commercial banks for cash was met, which shows best how we performed currency management operations, i.e. cash operations. The Central Bank has also been recognized by the European Commission, in official progress reports, as an institution actively contributing to the country’s progress in the EU integration process. Our medium term macroeconomic projections, nowcasts of economic activity and inflation, and other analytics are recognised as reliable, with highly transparent preparation process, and regularly discussed with the Commission, the European Central Bank and other relevant institutions. Statistics produced by the CBBH are improved continuously and adjusted with the best global practices, and we regularly report, according to requirements, and in the agreed form, a number of international organisations and institutions, from the Eurostat to the IMF. The Central Bank is regularly the first contact point of international institutions, organisations and representative offices regarding assessment or information on macroeconomic trends or financial system. We are proud of the fact that we always meet any request for discussion, so that someone from foreign countries could better understand economic situation in the country, while contacts are made on almost daily basis, ranging from potential investors, economic departments of foreign embassies, foreign bank groups to rating agencies. The good performance of the CBBH is also confirmed by international financial and other institutions, which is very important for us and for Bosnia and Herzegovina as a country. I would stress the fact that the CBBH was awarded by respectable magazine Capital Finance International in 2022 in even two categories: best central bank governance in Central and Eastern Europe, and exceptional contribution to the economic development of Bosnia and Herzegovina We remain persistent in improving our processes and capacities in the future. We will continue doing this according to the best global practices of central banking, as it was the case by now. Central/national banks of Turkey and Croatia are purchasing gold again. Why? Is BH purchasing gold? Or is it selling it? Why? How much gold do we have in our reserves? -Strategic decision of the CBBH, based on the assessed level of market risk acceptable for the central bank functioning within currency board arrangement and the fact that gold has high volatility, is that the share of monetary gold in the total portfolio of foreign exchange reserves is from 0% to 3%. According to the above, the share of gold in foreign exchange reserve portfolio has been around 1% since mid last year. The way of investing, i.e. selection of instruments where foreign exchange reserves are invested, and the use of foreign exchange reserves, depends on institutional setting of the central bank and the monetary policy implemented in the specific country. Thus, I am not able to comment on investment decisions of other central banks. I would just like to clarify that the Croatian National Bank, for the needs of meeting the conditions from the Statute of the European System of Central Banks and the European Central Bank, had to buy gold in the market. According to the Statute, the CNB, when joining the Eurosystem (euro has become the legal tender in Croatia from the first day of 2023), had to transfer a part of foreign exchange reserves to the ECB in precisely regulated form: 85% of the amount is transferred in US dollars and 15% in gold. In December 2022, the CNB acquired adequate amount of the so-called unallocated gold, i.e. without physical transport to Croatia. The CBBH will continue managing the foreign exchange reserve portfolio according to the Law on the Central Bank of Bosnia and Herzegovina and internal regulations based on the best practices in central banking. This is done by continuously monitoring market trends, adjusting our portfolio to current circumstances and expected future trends and making investments as defined by regulations on the CBBH operations. The CBBH will also continue the practice of not commenting individual business decisions from its competence, but the public will be adequately informed on relevant decisions in timely manner, including the independent external auditor’s opinion. Are there still pressures on the Central Bank to print currency and spend its cash according to wishes of politicians? - Such initiatives occasionally appear in public, primarily for daily political purposes. Those who know monetary economy circumstances are aware that currency board does not allow printing currency without coverage, and that there are no “excess” reserves in the CBBH. The Central Bank will remain consistent with the Law on the CBBH and strict implementation of currency board which has shown to be a good peg for BH economy and guarantee of monetary stability, which was estimated as a foundation of the country’s macroeconomic stability by rating agencies and the European Commission. What about you? Are you staying as Governor, leaving? -The Law on the CBBH defines that the Presidency of BH appoints members of the CBBH Governing Board who select Governor among themselves. I can only say that I am proud of everything that has been done, preserved and improved in the previous period and that I am the head of such successful state institution. As I already said, our success is best seen in awards mainly coming from respectable foreign financial and other institutions. Recognition of our efforts gives us strength to continue working according to our legal authorities and in the best interest of the state of Bosnia and Herzegovina, its economy and citizens.
