Serbia Cuts Main Rate to Fight Recession, Deflation Threat

Serbia’s central bank cut its benchmark interest rate for the first time since November as it fights a recession and the threat of deflation amid the government’s effort to tame the budget deficit.

The National Bank of Serbia lowered its one-week repurchase rate by half a point to 7.5 percent, it said in a statement on its website. Six of 23 economists surveyed by Bloomberg predicted a quarter-point reduction, eight forecast a half-point cut and nine expected no change.

Policy makers reduced the cost of borrowing amid “increased global liquidity as a result of the ECB’s quantitative easing” program, the bank said in a statement on its website. They also took into consideration “fiscal consolidation measures and structural reforms, as well as the conclusion of the International Monetary Fund program.”

With one of the highest benchmark rates in emerging Europe, Serbia’s central bank is caught between trying to help the economy emerge from its third recession since 2009 while also shoring up the dinar, which fell after the bank’s November move. Last week, non-executive central bank Chairman Nebojsa Savic said policy makers should hold rates at least until May, when the International Monetary Fund arrives to review Serbia’s compliance with conditions of a stand-by loan.

Dinar Interventions

The central bank has sold 705 million euros ($746 million), or about 7 percent of its reserves, to slow the dinar’s weakening since the November move. It has also changed its minimum-reserve requirement rules twice, releasing euros and draining dinars to stabilize the currency.

A weaker dinar increases costs for Serbs who have borrowed more than 1 billion euros in Swiss franc mortgages. The currency has lost about 10 percent against the franc since the Swiss National Bank dropped its peg to the euro on Jan. 15.

The dinar erased a 0.6 percent loss on Thursday and traded little changed at 120.28 to the euro as of 4:33 p.m. in Belgrade, according to data compiled by Bloomberg.

Inflation accelerated to 0.8 percent in February from 0.1 percent in January, remaining below the central bank’s target range of 2.5 percent to 5.5 percent. The government expects Serbia’s $45 billion economy to contract 0.5 percent in 2015.

The central bank was expected to lower the benchmark rate to take advantage of “ample room for maneuverer, in the context of the mild inflation outlook and weak growth prospects,” taking advantage of the “ensuing honeymoon period” after the IMF loan approval,’’ Roxana Hulea, economist at Societe Generale SA in London said on a note on Wednesday. “Maintaining current levels of real rates will only defer economic recovery.”

Fiscal Tightening

The IMF, which approved a three-year stand-by loan to Serbia on Feb. 23, has called on rate setters to gradually relax policy to support domestic demand amid fiscal tightening. The lender will be checking whether Serbia is refraining from granting new subsidies and loan guarantees to money-losing state-run companies.

Vucic will need to raise electricity prices, reorganize the Serbian gas monopoly, restructure three chemical plants and close nearly 200 unprofitable state businesses to prove he’s committed to plan endorsed by the IMF.

While further rate cuts may not be excluded, the central bank “might focus on auxiliary monetary instruments, including changes to mandatory reserve requirements and cancellation of repo auctions,” Ljiljana Grubic, analyst at Raiffeisen Banka AD in Belgrade, said on Thursday.

The central bank hasn’t conducted weekly repo auctions since Feb. 18.

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