Serbia Unexpectedly Lowers Main Rate to 9% as Economy Slows

Serbia’s central bank lowered borrowing costs for the first time this year as economic activity slows and price pressures wane.

The National Bank of Serbia in Belgrade, the capital, unexpectedly cut its benchmark one-week repurchase rate by 50 basis points to 9 percent, according to a statement on its website today. Seven of 24 economists in a Bloomberg survey predicted a quarter-point cut, two saw a half-point reduction and 15 forecast no change.

The move may boost Prime Minister Aleksandar Vucic, whose party won an absolute majority in March 16 early elections, as he seeks to encourage investment and job creation. Serbia had refrained from easing rates this year after cutting 2.25 percentage points off the benchmark from May to December last year, saying reduced stimulus by the U.S. Federal Reserve was putting pressure on emerging-market currencies.

“Disinflation will continue in the coming period due to low aggregate demand, which is resulting from contracting credit activity, negative labor-market trends and low food production costs,” the central bank said in the statement. “Financial markets are responding positively” to the economic-policy agenda the new government announced.

The dinar, which has weakened 0.6 percent against the euro this year, traded 0.13 percent weaker at at 115.90 per euro by 2:27 p.m. in Belgrade, data compiled by Bloomberg show. Yields on Serbia’s Eurobond maturing in 2021, dropped five basis points, or 0.05 percentage point, to 4.978 percent, falling below 5 percent for the first time since May 23, 2013.

Cut Justified

The half-point rate cut was unexpectedly “robust” as unchanged rates would have been “supported by still present geopolitical risks, which the central bank cited as the key rationale in April,” when it left the rate on hold, Raiffeisen Banka AD in Belgrade said in an e-mailed note.

Lower borrowing costs may help Vucic convince banks to lend 1.2 billion euros ($1.67 billion) to private companies using 60 million euros to subsidize those loans, according to Raiffeisen.

“Geopolitical tensions related to the Ukrainian crisis and the quantitative easing by the U.S. Federal Reserve have failed to affect Serbia’s risk premium and foreign trade flows,” the central bank said today.

‘Not Overdo’

The National Bank of Serbia should “not overdo” rate cuts “given the very difficult situation in public finances that requires considerable effort and time,” Raiffeisen’s research team said after the rate announcement. The budget gap was almost 40 percent of the full-year target at the end of the first quarter and fiscal stability may be achieved in 2015, the bank said.

Economic growth slowed to 0.4 percent from a year earlier in the first quarter, according to preliminary estimates by the statistics office, falling short of central bank’s estimate of 0.5 percent. The central bank still sees full-year expansion at 1 percent. Inflation slowed to 2.3 percent in March, less than policy makers’ target of 4 percent plus or minus 1.5 percentage points.

The government needs to draft measures to save about 1.5 billion euros ($2.1 billion) through 2017, including 400 million euros this year, to convince the International Monetary Fund to endorse a loan and assure investors that policy makers in Belgrade will transform Serbia’s economy.

Serbia is working on a supplementary budget and hasn’t decided when to invite the IMF for talks on the new loan, Finance Minister Lazar Krstic said on the sidelines of a conference in St. Gallen today.

Monetary-policy easing and a weaker dinar may help the economy amid public job and wage cuts, according to Vladimir Vuckovic, a member of the Fiscal Council, a three-person body that oversees budget compliance, said on May 6.

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