The board of directors of the National Bank of Ukraine by a majority of votes – 6 votes for, 3 votes against – decided to raise the interest rate of the monetary policy to the level of 5.50%, according to the minutes of the discussions published on Friday.

In the near term, Council members see a quasi-stagnation of economic activity compared to the first quarter of the current year under the influence of the war in Ukraine and related sanctions. (N. ed. which did not materialize as the INS recorded astonishing GDP growth).

Events predict a decline in annual GDP growth in the second quarter from a particularly high value reached in the first three months of the current year (again, refuted by statistical calculations)

Concern:

• The reduction in coverage of the current account deficit by direct foreign investments and capital transfers is becoming more and more noticeable.

• Nominal wages continued to rise, not keeping pace with inflation. It was about raising wages in the budgetary sphere, which is at the stage of legislative registration.

• The ability of some firms to remain viable will be tested by the end of state support measures.

• The pressure of fundamental factors will exhaust its moderate inflationary nature and become disinflationary starting from the third quarter of 2023, the members of the Council concluded, taking into account the prospect of a significant slowdown in economic growth in the second half of the current year.

• The war in Ukraine and related sanctions continue to create significant uncertainty and risk due to potentially greater multi-channel effects on consumer purchasing power and confidence.

The degree of coverage of the current account deficit by direct foreign investments and capital transfers is decreasing

High and growing levels of short-term inflation expectations of economic agents since the end of the second quarter, as well as a quasi-ceiling of long-term inflation expectations of banking analysts, as well as a more obvious trend towards a decrease in purchasing power of consumers were also highlighted, which was reflected by a deepening in the negative dynamics of real average net wages in April-May.

However, the negative balance of the trade balance again accelerated its growth in annual terms, mainly against the background of relatively less favorable dynamics of import prices, and the current account deficit significantly emphasized the tendency to its deepening due to the outflow of reinvested profits and distributed dividends.

It is noted that the latest high-frequency indicators point to a further acceleration of the annual growth of private consumption in the II quarter, mainly due to the base effect, while significant effects of the opposite direction on the annual dynamics of GDP are likely from the part of investments, but also from net exports.

Although this is partly due to cyclical factors, trends were considered particularly alarming by members of the Council, taking into account the increasingly pronounced decrease compared to the end of 2021 in the degree of coverage of the current account deficit by direct foreign investments and capital transfers.

Nominal wages continued to rise, but not in line with inflation. It was about raising wages in the budgetary sphere, which is at the stage of legislative registration

Some Council members found the development troubling, even if it was largely due to a significant annual drop in labor productivity in the first months of this year amid supply chain bottlenecks and rising energy and raw material costs. Recent measures to increase the minimum wage in certain sectors were also mentioned, as well as a wage increase in the public sector, which is in the legislative process.

At the same time, it was noted that beyond the near term, the ability of some companies to remain viable/profitable in a high-cost environment will also be tested by the end of government support measures, as well as the need for technology, which may lead to restructuring or bankruptcy of companies.

In July, the lei showed a slight upward trend against the euro, which had a positive effect on inflation and confidence in the national currency, the members of the Council noted.

Risks to the behavior of the lei/euro exchange rate, however, continue to stem from the strengthening of external imbalances and uncertainty related to fiscal consolidation, as well as from a possible further deterioration of risk perception related to financial markets in the region in the context of the continuation of the war in Ukraine , warned some Council members.

The BNR is talking about the prospect of a significant slowdown in economic growth in the second half of the current year

The strong inflationary effects of energy prices will be strongly highlighted after the end of the price cap schemes in April 2023, when they will lead to a temporary halt in the decline in the annual rate of inflation, which will, however, recover later and be strengthened in the middle of next year and then in April 2024 .

Fundamental pressures, however, will quickly exhaust their modestly inflationary character and become disinflationary starting in the third quarter of 2023, Council members concluded, given the prospect of a significant slowdown in economic growth in the second half of the current year and somewhat more moderate in 2023, including relative to previous forecasts, which makes it likely that excess aggregate demand will narrow rapidly and close in the middle of next year – several quarters ahead of the previous forecast – with further gradual deepening of the GDP gap in negative territory.

Regarding the future cyclical position of the economy, Council members noted that forecasts for economic activity have been significantly revised upward for 2022, but solely as a result of its growth significantly above expectations in the first quarter and for 2023. they are significantly revised downwards in the context of the expected stronger adverse impact of the war in Ukraine and the imposed sanctions, which is only partially balanced by the effects of the absorption of European funds related to the next generation EU instrument.

It was noted that private consumption is likely to remain the main driver of GDP growth, taking into account the significant acceleration of its growth in 2022, but with a further pronounced decrease in dynamics in 2023, including under the influence of a gradual increase in interest rates on household loans and deposits.

The development of European funds depends on the fulfillment of clear goals and guidelines

The war in Ukraine and related sanctions continue to create significant uncertainty and risk due to potentially greater multi-channel effects on consumer purchasing power and confidence, as well as business activity.

At the same time, as the members of the Council have repeatedly emphasized, the development of European funds, mainly those related to the EU Next Generation program, is conditioned by the fulfillment of clear targets and stages in the implementation of approved projects, but this is important for achieving the necessary structural reforms, including energy transition, as well as to balance, at least partially, the contractionary effect of shocks on the supply side, exacerbated by the war in Ukraine. Absorbing and maximizing the use of these funds is vital in the current climate, several Council members argued.

However, the main uncertainties and risks are also related to the conduct of fiscal policy, Council members agreed, referring to the implementation of the budget in the first half of the year and the requirement to continue budgetary consolidation in the context of the excessive deficit procedure. and the general tendency to strengthen financing conditions, but highlighting, above all, the current difficult economic and social situation at the domestic and global levels, as well as the set of measures applied to support the population and companies, which may have negative consequences for budgetary parameters. From this point of view, the coordinates of the expected budget correction were considered particularly important.

A 1.00 percentage point increase in the key interest rate was also discussed

Most Council members agreed that the overall analyzed context justified an increase in the monetary policy interest rate by 0.75 percentage points to anchor medium-term inflation expectations and stimulate savings to ensure a stable return to the annual inflation rate in line with the stationary target of 2.5 percent ±1 percentage point in a way that contributes to sustainable economic growth.

The importance of measuring and calibrating monetary policy in the current environment was re-emphasized in order to avoid as much as possible a significant slowdown in economic growth, taking into account also the main contractionary effects caused by large supply-side shocks, especially the energy crisis, as well as the demand for progress in fiscal consolidation .

A 1.00 percentage point increase in the key interest rate was also discussed, the main reasons for which were the high level of annual inflation and a moderate upward revision of its projected trajectory, as well as recent decisions on the monetary policy of central banks. banks along with the calendar of Monetary Policy Council meetings, which provides for a relatively longer time gap between the current and the next monetary policy meeting. Some members of the Council were inclined to this.

At the same time, the need to maintain tight control over liquidity on the money market was unanimously supported, and the importance of continuing to carefully monitor events in the domestic and international environment was confirmed, which allows checking the adequacy of the tools available to the National Bank of Ukraine to achieve the main goal of price stability in the medium term.