Belka: We waited higher inflation out with no panic reactions

“The new inflation projection shows that there is room for a safe decrease in interest rates, and so the Monetary Policy Council made a fairly radical cut. The Council had been moderate in its responses to the increase in inflation, whose sources were external. Inflation targeting strategy is about responding flexibly, not frantically,” said Professor Marek Belka, President of the NBP, in an interview for Financial Observer.

Financial Observer: For many weeks, the MPC was being persuaded to respond to what is happening in the economy, the slowdown, more firmly. When the Council actually did, everyone is surprised. Doesn’t it show that the Council has a communication problem?

Marek Belka: It is quite normal that the Monetary Policy Council comes under pressure, primarily from the government, to make monetary policy less rather than more stringent. The Council and the NBP look after monetary stability, while the government is responsible for economic growth and always wants to have easier access to money, even at the cost of exposing the economy to inflation. The threat of inflation is long-term, while the government’s planning horizon is shorter. This is not something to hold against the government; in developed countries there is, by design, a degree of tension between the government and the central bank. It is nothing unusual.

When it comes to communication, analysts and economists from major Polish banks said that the Council’s decision was surprising, but correct. The unfavourable opinions appeared in a few analyses by foreign banks. Perhaps those banks had suffered some losses… But I would not agree that the communication was poor. The Council is composed of ten people. They hardly represent the same views, but they all make public statements. The message will never be uniform. As the Council Chairperson, I must express a balanced opinion, although I do have my personal preferences. This is something one has to live with.

So the Council has made a decision the government looked forward to, money has become easier to obtain, less expensive.

There is a new projection of inflation and economic growth. It did not change the outlook for, or the perception of the economy by Monetary Policy Council members, suddenly. Yet, the projection is more pessimistic in terms of economic growth than the previous one, the autumn one, so the Council decided to reduce the rates. Also, the projection shows that there is room for a safe decrease in interest rates. Therefore, the Council decided to make a fairly radical cut, and I think it was the right thing to do.

Maybe one of the reasons behind the decision was to prevent accusations of acting late again?

The projection has shown that the Council is not late. There will be a negative output gap throughout the projection’s time span, i.e. until 2015. It shows that economic recovery will be very, very gradual and there will be no inflation pressure – one originating inside the economy – for a long time. We can say figuratively that it would be better for the economy if the revival at our doorstep was strong. Only then would it be justified to criticise the Council for acting late. No, it did not act late. We can say that the Council could have acted more promptly. I would accept such criticism, but I do not accept a claim that it was a pro-cyclical measure and no longer necessary. Unfortunately, the situation is not good enough to say that the March interest rate reduction may turn out pro-cyclical.

A greater rate cut in March indicates that we should not expect further changes in interest rates in several months to come, probably until the next projection in July. Is this an attempt to link Council decisions with subsequent NBP projections more closely?

Yes, I think so. The more the projection checks out with reality, the greater its reliability as perceived by Council members. But Council members do not make their decisions solely based on projections. Some members have a more optimistic notion of the economy than the NBP projection. If it turns out that economic reality is different than the projection, I would not rule out further easing of monetary policy.

If inflation declines below e.g. 1.5%, which is discussed now?

Indeed, inflation below 1.5% is a possible scenario. It is described by our projection and the so-called expert projection. We are not after a temporary decline, but inflation permanently below the band of deviations from the inflation target. However, I would not like to continue these considerations. On 6 March, we reduced interest rates by 50 basis points and decided to assume the ‘wait and see’ strategy. I would not like to talk about further declines right now. This is not the right time. We will see what happens in the economy.

Is assuming the ‘wait and see’ approach a change in the Council’s strategy?

No, the ‘wait and see’ approach is not a policy adjustment. It’s a transition to a stage when we watch the situation develop. We want to see what inflation and GDP will be, and choose our next steps accordingly.

So the Council wants to see what happens first, and then make decisions. Yet, its image is still defined largely by the unexpected increase in interest rates in May last year.

I think the present Council will be remembered for its current cut better. There is a degree of misunderstanding as to how inflation targeting strategy should be interpreted, and this is even truer of a flexible inflation targeting strategy. There was an accusation that CPI (consumer price index, editor’s note) inflation has been above the inflation target for over 20 months and that, in fact, the Council should be held accountable.

I believe that the conduct of monetary policy and the Council’s response to inflation was appropriate. Regardless of whether the May increase was legitimate or not, it is a trifle. It is more important that throughout the period, the Council’s reaction to the accelerated pace of inflation, which was did not result from internal imbalances, was very cautious. So there was no extraordinary inflation pressure – we imported inflation though the oil and food channel, which means it was triggered by a hike in global prices of oil and agricultural produce. At the time, the gap between CPI inflation and core inflation, the latter calculated excluding the prices of oil and produce, was very wide. In fact, inflation targeting strategy consists in a flexible, not panic-driven, response to rising inflation.

Maybe in this situation the Council should focus on core inflation, not CPI?

Such a shift, if officially launched, would be confusing. One way or another, the bottom line is to wait until the increase in import prices ends while watching for the effects of the second round, i.e. wage pressure. If we had responded to the increase in the prices of oil and food excessively or frantically, we would have frozen our economy over. Interest rates would have skyrocketed, which would of course have made no sense as our rates would have had no impact on global oil prices, and the Polish economy would have collapsed much faster and much more deeply.

We have to be patient. For example, the Bank of England is in a much worse situation now. Its inflation target of 2% has been exceeded by far. What is more, Great Britain’s inflation will stay above 2% for a few more years, but the economic situation of the country is so bad that no one would even think of persuading Mervyn King or Mark Carney to tighten the Bank of England’s monetary policy.

In short, a smart inflation targeting policy means that we have to watch carefully not to let inflation break off the line, so to speak, but neither can we tug at this line too often.

From that point of view, does the current Council face up to the expectations?

Absolutely. We have waited out elevated inflation. It is close to the target again. Of course, something may go wrong in the world again. The price of oil may surge again, for example due to greater tensions in the Strait of Hormuz. Are we supposed to respond then? Of course we have to wait again until it comes to an end, while at the same time watching for second round effects, or inflation resulting from an increase in wages.

What are the chances of a more permanent inflation anchoring around the inflation target?

This is exactly how we should pursue monetary policy: with a focus on stabilisation. We should also look at the effects of our actions in other areas of economic policy. In 2011 and 2012, Poland faced a serious fiscal policy tightening. It contributed significantly to the downturn in the economy and helped ease possible inflation pressure. We have also taken important supervisory actions due to which the foreign currency lending has virtually disappeared. This has also had an anti-inflation effect. The Council does not operate in a void. Kazimierz Deyna used to say, ‘We have to have eyes in the back of our heads.’

Ok, let us say we have reached our goal, inflation is on a leash, but now economic growth is the problem. Everybody says that the ‘green island’ can only be saved by the Monetary Policy Council and the National Bank of Poland. Is that true?

Not everybody says that. And it is not true that an excessively stringent monetary policy in Poland is has contributed to the economic downturn in any significant measure. The downturn is the result of external factors, of uncertainty in the euro area. It is like some grey mist from a horror film. Our consumers and investors freeze in fear of a werewolf – the crisis – emerging from the mist. And they stop spending. This is particularly the case with investors. Polish enterprises are in a good financial condition, they have the means to invest but are too afraid.

It does not mean, however, that there are no other factors behind the downturn. A very important factor was the budgetary consolidation: from a deficit of 8%, we managed to go down to below 3% as far as structural deficit is concerned. Let me make myself clear: it was necessary, because if we had failed to do it, we would have been at risk of a serious reaction from financial markets. Yet, the consolidation resulted in losing several points on global demand.

So maybe it is time to end the tightening of fiscal policy?

I would like to draw your attention to the opinion of the Monetary Policy Council on the 2013 budget. Analysts and the media failed to see that further budgetary consolidation is unnecessary or even inadvisable as it might cause the economic situation to deteriorate. I do not know what will happen in 2013, we are somewhat anxious about this year’s budget execution, but I think that further budgetary consolidation would not be the right thing to do.

For many years, consumption has been the most powerful growth driver of the Polish economy. In your opinion, is it possible to revive internal demand?

When people are concerned about unemployment, consumption decreases, it is as simple as that.

They would have to stop being concerned about unemployment. From that point of view, should e.g. the Labour Code be amended?

The situation on the labour market is not clear. On the one hand, unemployment is rising, but the number of the employed is not declining. At the current stage of the downturn, many sectors of the economy lay people off, but what happens most often is that wages are curbed. Polish entrepreneurs have already learned that letting people go too easily may turn out very costly. When the situation improves, the people are already gone. They are abroad or have found another job. Today, educated and skilled people face greater difficulties than before, but they still manage to land a job. The most serious problem concerns young graduates with no work experience and the people who come back from emigration because they did not make it there. Our statistics do not show it because they are not precise enough, but this is how I feel about it.

When the situation changes a bit, when newspapers stop scaring people, consumption will rise again, people will start taking out loans again as there is still large unmet demand. Enterprises will also start acting rationally again, they will start investing.

Are you satisfied with the course of the current public debate on the possibility of Poland joining the eurozone?

I am happy that the discussion went in this direction, that we are discussing the terms, not dates. And how to make Poland act appropriately in the euro area to make it work for us. I read somewhere, and I liked it, that Poland’s accession to the euro area would be like Beckham’s transfer to Paris Saint Germain. It will be of utmost significance. I agree, I just wanted to point out that Beckham does not play on the team, he sits on the bench. I would not like to see Poland enter the euro area, but sit on the substitutes’ bench, and at the far end of it at that.

Interviewer: Krzysztof Bień

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