Quarterly revision of the macroeconomic projections Governor Dimitar Bogov August, 2012

CONTENTS Macroeconomic projections for 2012 and 2013 Assumptions from the external environment Basic macroeconomic scenario for 2012 and 2013 Comparison with the previous projection Projection risks Effects on the monetary policy

Macroeconomic projections for 2012 and 2013 external assumptions − During the last three months, the risks on the financial markets and the problems with the debt crisis in the Euro area increased again; − The economic prospects for the global economy deteriorated again, emphasizing the downward risks related to the projections; − New deterioration in the forecasts for the economic performances of the most important trading partners of the Macedonia, in comparison with the preceding projection; − The foreign demand trajectory for Macedonian products remains the same as in the previous projection – decrease in 2012 and moderate rise in 2013, but now with severer drop in 2012 and smaller rise in 2013.

Foreign effective demand

Foreign effective inflation Foreign effective inflation − The foreign effective inflation is lower compared to the expectations – estimates for smaller pressures on the domestic prices through the foreign inflation in 2012 compared to the preceding projection; − Moderate acceleration in 2013, on the backdrop of demand recovery and possible pressures of the food prices – upward revision of the foreign effective inflation for 2013 compared to the previous projection.

Commodity prices − The expectations for worse economic performances create downward pressures on part of the export and import prices; − Downward revision of oil and metal prices relative to the previous projection; − Estimations for decrease in the metal prices in 2012 and their stabilization in 2013; − The oil prices dynamics in 2012 is upwards – the price level is expected to decrease in 2013; − Large upward correction with the food prices, compared to the preceding projection, because of the negative shock on the supply side.

Commodity prices

Foreign interest rate Foreign interest rate − Further decrease in the Euribor, in conditions of threats for new recession in the Euro area; − Decrease in the ECB interest rate in July 2012; − Downward revision of the foreign interest rate relative to the preceding projection; − Expectations for slight increase in the following period, caused by the possible inflationary pressures arising from the monetary loosening undertaken so far.

Macroeconomic projections for 2012 and 2013 GDP − Downward revision of the foreign demand and poor performances in the first quarter of the year; − Downward revision of the GDP projection in 2012 from 2% to about 1%; − Gradual recovery in 2013 (increase of 3%, compared to 3.7% in April projection), underpinned by the improved environment, structural changes and government investments.

Macroeconomic projections for GDP Macroeconomic projections for 2012 and 2013 GDP − Reduced activity of the export sector in 2012 and recovery in 2013, given anticipated large effect of the new capacities activity on the export potential; − Moderate domestic demand in 2012 and strengthening in 2013, backed by the announced foreign investments and public investments; − Reduced import pressures in 2012 and their new intensification in 2013, in line with the intensified domestic demand.

Macroeconomic projections Macroeconomic projections for 2012 and 2013 balance of payments’ current account − High increase in the inflows from the currency exchange market in the first half of 2012 (48% annually) – high confidence in the domestic currency; − Estimates for gradual private transfers deceleration until the end of 2012 and 2013; − Stable trade deficit in 2012 and moderate narrowing in 2013; − Minor movements of the current account deficit in 2012 and 2013.

Macroeconomic projections for 2012 and 2013 capital inflows − Downward revision of the capital inflows in 2012, given lower debt-creating inflows and lower foreign investments; − Similar level of capital inflows also in 2013, given net repayments of government debt and higher foreign direct investments; − Moderate increase in the foreign reserves in 2012 and 2013 and their maintenance around the adequate level.

Macroeconomic projections for 2012 and 2013 inflation − The average inflation rate in the first half of 2012 is 2.3%; − The average inflation in 2012 and 2013 is expected to gravitate around 2.2%; − Absence of demand pressures – prolonged closure of the negative output gap to the middle of 2014; − Upward pressures of the oil prices in 2012 and their depletion in 2013; − The world food prices move upwards in 2012 and 2013, because of the supply shock; − Effect of the increase in the regulated prices on the general price level.

Macroeconomic projections for 2012 and 2013 credit growth – The credit support in the first half 2012 is larger than expected (7.5% annually, compared to 6.6%), given relaxed monetary conditions and relatively stable risk perceptions by the banks; – Moderate upward revision of the credit growth to 8% in 2012 and about 10% in 2013, given further deposit growth and disposable foreign sources of funding; – The banking system continues registering high capital adequacy ratio (17.5%), high liquidity and relatively stable share of the nonperforming placements (9.9%) in the first quarter of 2012.

Comparison with the previous projection Smaller GDP growth – revision from 2% to approximately 1% for 2012; revision from 3.7% to 3% for weaker initial conditions and worsened foreign demand projections; - downward correction of all GDP components; - structural changes and public investments – factor for relatively fast recovery and smaller dependence of the short-term growth on the situation in Europe; - the credit support is larger than expected in conditions of relaxed monetary conditions and stable risk perceptions. The inflation projection is without larger changes but with more evident upward risks - higher initial conditions and higher food prices; - lower world oil prices and deeper negative output gap. The external position is less favorable – smaller capital inflows - smaller current account deficit because of better private transfers; - large downward revision to the capital flows, in circumstances of worsened perceptions of the investors and deteriorated conditions for external financing; - th - -Foreign reserves remain around the adequate level.

Projection risks −The projection assumes short-term effects of the deteriorated global environment, which would exhaust in 2013, with certain risks: - The possible persistence or deepening of the Euro area crisis may reflect on the growth dynamics of the Macedonian economy, as well as on the capital flows dynamics; - More apparent risks of price shocks on the supply side, with potential transmission effects on the other prices.

Effects on the monetary policy – Moderate economy growth – the economy will be below the potential in the following two years; – Instable environment and enduring risks, but with positive impulse from the new private and public investments; – The inflation is within the acceptable limits, but with present upward risks; – The external position is stable, with positive effects of the new capacities, feeble domestic demand, solid private transfers and assessment for sufficient capital inflows; – The foreign reserves are around the adequate level; – Current monetary conditions are assessed as adequate, i.e. we are retaining the same interest rate; – The need for further regular monitoring of the economic developments, as well as timely reaction, if needed, remains.