Statements by central banks regarding the future development of the economy in the respective countries are always awaited with great interest, writes Radu Krachun in his personal blog. BNR ratings are no exception to this rule.

The economic analysis and modeling departments of these institutions use the best human and technical resources to predict future economic developments with the highest probability. Such assessments are critical for the correct calibration of monetary policy and the achievement of the main goal of price stability with minimal damage to the economy.

This means that for the business environment, BNR estimates are relevant both from the point of view of economic development and from the point of view of expectations regarding future monetary policy decisions, especially regarding changes in interest rates. The year 2022 began with warnings from the BNR about the danger of the economy entering a recession, which requires a cautious increase in interest rates in the fight against inflation.

Today, economic analysts’ forecasts for economic growth in 2022 range between 5 and 7%, that is, very far from the recession that worried the BNR at the beginning of the year. Of course, it can be argued that a lot can change in 6 months and that even the prudence with which BNR started the rate hike cycle has since given way to a more temporary approach with more significant jumps.

But if a lot can happen in 6 months, it is not very clear how much can happen in 2 weeks… At the beginning of this month, on the occasion of the meeting of the Board of the BNR on monetary policy, the communiqué states, among other things: “The latest data and analysis indicate a quasi-stagnation of the economic activity in both the second and third quarters of the current year under the influence of the war in Ukraine and related sanctions”.

Things are not so easy to accomplish as the INSSE estimates also raise some questions

Just 2 weeks later, the INSSE press release reports growth in Q2 compared to Q1 of 2.1% and compared to Q2 2021 of 5.3%. Such figures do not even speak of “quasi-stagnation”. In contrast, the increase in the first two quarters of this year indicates economic growth above potential, which usually calls for a more aggressive approach to inflation and higher interest rates.

Does this mean that BNR has problems with the quality of its forecasts and, implicitly, with the quality of monetary policy decisions? Things are not so easy to accomplish as the INSSE estimates also raise some questions. Given the quarterly periodicity and the delay with which the change in GDP is reported, commercial bank analysts as well as BNR use econometric models based on high-frequency data.

That is, models that have as input economic data that is reported monthly, thus trying to track the evolution of the economy monthly, and not just quarterly, as GDP is calculated, and with some delay. But all these analysts said their models did not predict economic growth of this magnitude. Apparently even the BNR model used to calibrate monetary policy did not predict this, which then begs the question: why did all the models used fail to predict the INSSE reports?

The dilemma must be solved urgently, given that BNR needs reliable indicators to fight inflation

The dilemma must be solved urgently, given that BNR needs reliable indicators to fight inflation and the most accurate econometric model. And most importantly, don’t forget that he has an INSSE phone number. Because I won’t get tired of saying that reducing inflation should be a zero priority, especially since the recession debate doesn’t have a solid foundation yet.

Paul Volcker was the chairman of the Fed, who in the 1970s and early 1980s managed to end double-digit inflation in the United States after 15 years of failure by his predecessors, persistently promoting an aggressive increase in the monetary interest rate to a level close to 20%.

He made his motivation as clear as possible: “Inflation is considered cruel, and perhaps the cruelest tax, because it hits differently, unplanned, and hits the worst people on fixed incomes. And there is a lot of evidence, even though it was initially thought that it affects poor people more than the richest, who have more flexibility and ways to protect themselves “(…)