The Central Bank of Malta has just published the second issue of its Quarterly Review for 2012, which analyses economic and financial developments in Malta and abroad during the first quarter of 2012 while highlighting some further developments in subsequent months.
The Review commences with an analysis of monetary policy decisions in the euro area and observes that the European Central Bank (ECB) left interest rates on its Main Refinancing Operations unchanged, at 1.00%, during the first quarter. The rate remained at this level throughout the second quarter, before being lowered by 25 basis points in July. This cut reflected the expectation that inflationary pressures would weaken, as economic conditions in the euro area worsened.
Meanwhile, the Eurosystem continued to implement non-standard monetary policy measures to support the functioning of the financial system in the euro area. In February the ECB carried out a second long-term refinancing operation with a three-year term to maturity that had been announced in December. In June it extended its commitment to carry on with its fixed rate tender procedure with full allotment up to mid-January 2013. Moreover, the Eurosystem also relaxed the eligibility criteria for the use of credit claims and asset-backed securities as collateral.
The Review notes that economic developments in the main industrial countries were mixed in the first quarter of 2012. While the annual rate of economic growth increased in the United States and Japan, output fell in the United Kingdom. Meanwhile, the main emerging market economies expanded at a slower pace.
In the euro area, real gross domestic product (GDP) remained unchanged compared with a year earlier, as growth in net exports was offset by declines in private consumption and investment. Meanwhile, the annual inflation rate based on the Harmonised Index of Consumer Prices (HICP) was constant at 2.7% from December 2011 until March 2011. Inflation eased slightly to 2.6% in April and to 2.4% in May. It remained unchanged at that rate in June.
According to the Eurosystem’s June projections, annual GDP growth in the euro area is expected within a range of -0.5% and 0.3% in 2012 and between 0.0% and 2.0% in 2013. The average annual rate of inflation is forecast between 2.3% and 2.5% in 2012, before easing to between 1.0% and 2.2% in 2013.
Turning to the Maltese economy, the Review reports that economic activity weakened further in the first quarter of 2012, with real GDP declining by 1.0% on a year earlier. This mainly reflected a negative change in inventories, which includes the statistical discrepancy, and, to a lesser extent, a drop in private consumption. Conversely, net exports made a significant positive contribution to GDP growth.
With regard to price developments, the annual rate of HICP inflation rose to 2.6% in March from 1.5% in December. The major factors driving the increase were developments in prices of services and, to a lesser extent, prices of unprocessed food and non-energy industrial goods. Inflation rose to 3.8% in April before edging down to 3.7% in May.
In the labour market, data for the first quarter show that employment continued to rise in annual terms. Meanwhile, data based on the Labour Force Survey show that the unemployment rate generally continued to decelerate, falling to 6.1%, its lowest level in over three years.
First quarter indicators regarding competitiveness were mixed. An increase in labour compensation together with a drop in productivity led to a rise in unit labour costs. In contrast, Harmonised Competitiveness Indicators derived by the ECB showed an improvement in Malta’s competitiveness during the quarter, driven by the depreciation of the euro.
Turning to developments in the balance of payments, the Review observes that the deficit on the current account narrowed substantially during the first quarter of 2012 when compared with the same quarter of 2011, mainly owing to a smaller deficit on trade in goods. Lower net outflows on the income account also contributed. Moreover, the surplus on services was marginally larger. As a share of GDP, the current account position swung to a surplus of 1.2% in the year to March 2012, from a deficit of 6.3% a year earlier.
The contribution of Maltese monetary financial institutions to the euro area broad money stock continued to accelerate in the first quarter of 2012, driven predominantly by the narrow money component (M1). Turning to deposits held by Maltese residents with Maltese MFIs that are included in M3, these gathered momentum, with their annual growth rate rising from 2.6% in December to 4.1% in March. Going into the second quarter, deposit growth continued to accelerate, reaching 6.8% in May. At the same time, the growth rate of credit to residents other than general government rose from 4.4% in December to 4.6% in March, contributing almost three-fifths of the overall annual increase in total credit during the period.
On developments in the domestic financial markets, the Review notes a rise in yields on three-month Treasury bills and ten-year government bonds. Going into the second quarter, the three-month secondary market yield edged up slightly whereas that on ten-year government bonds decreased. Meanwhile, the Malta Stock Exchange share index extended its downward trend over the first quarter but recovered in subsequent months.
In its assessment of the fiscal situation, the Review notes that the general government deficit widened on a year-on-year basis during the first quarter, as expenditure grew at a faster pace than revenue. Meanwhile, the general government deficit, based on the four quarters to end-March, stood at 3.3% of GDP, compared with 2.7% at the end of 2011. The general government debt also increased, from 71.6% of GDP at the end of December 2011 to 75.0% three months later. However, part of this increase arose from the Government’s commitment to provide loans for euro area countries through the European Financial Stability Facility (EFSF).
The Review also presents the Bank’s latest economic projections, which are based on information available until 24 May 2012. The Bank expects real GDP growth to moderate to 1.4% in 2012 before recovering to 2.2% in 2013. Growth is expected to be driven primarily by domestic demand. Average HICP inflation is expected to accelerate to 2.7% in 2012, before falling to 1.9% in 2013. Risks to the growth projections are judged to be on the downside, particularly for 2012, largely as a result of uncertainty surrounding the sovereign debt crisis in the euro area.
From a policy perspective, the Review notes that, according to the Government’s latest Update of the Stability Programme, the general government deficit is expected to narrow further this year and the following year. However, although quarterly budgetary data may be volatile and one-off factors played a part, the widening of the deficit during the first quarter of the year poses risks to the achievement of this aim. Additional fiscal consolidation measures may need to be taken to ensure that the deficit target for 2012 is achieved. A more ambitious fiscal consolidation effort would also help place the debt ratio on a downward path.
Meanwhile, it remains important to increase productivity and to enhance the local economy’s growth potential. This requires ongoing investment in infrastructure, education and manpower training. At the same time, banks should continue to keep adequate levels of capital and liquidity, a diverse mix of funding sources and a prudent provisioning policy. This will enable the financial sector to keep channelling savings into productive investment.