The Central Bank of Malta has published the third issue of its Quarterly Review for 2011, which analyses economic and financial developments in Malta and abroad during the second quarter of 2011 and going into the third.

The Review begins with a commentary on the monetary policy stance of the European Central Bank (ECB). The interest rate on the Main Refinancing Operation (MRO) was raised by 25 basis points in both April and July, to 1.50%, in the light of upside risks to price stability at that time. However, the MRO rate was lowered to 1.25% in early November, as signs of a more pronounced economic slowdown in the euro area continued to emerge. Meanwhile, the Eurosystem continued to implement non-standard monetary policy measures to support the functioning of the financial system in the euro area. Between June and October the Governing Council also reintroduced or extended a number of such measures against the background of stronger signs of dysfunctional financial markets as the sovereign debt crisis intensified.

In analysing international economic developments, the Review notes that, amid heightened tensions in the financial markets, economic activity moderated in the major industrial economies. On the other hand, the main emerging market economies continued to expand strongly. Inflationary pressures persisted worldwide, mainly reflecting higher energy prices.

Economic activity in the euro area weakened during the second quarter of 2011, as real GDP expanded at a slower pace than in previous quarters, growing by 1.6% in annual terms after 2.4% in the first. The slowdown was mainly attributable to investment, although private and government consumption grew more moderately.

Meanwhile, the annual HICP inflation rate in the euro area rose to 2.8% in April before returning to its March level of 2.7% in May and June. Subsequently, it eased further to 2.5% in the first two months of the third quarter, before rising again to 3.0% in September.

With regard to macroeconomic projections for the euro area, these were revised downwards by the ECB in September. According to these forecasts, annual real GDP growth is expected to range between 1.4% and 1.8% in 2011 and between 0.4% and 2.2% in 2012. The average annual rate of inflation is expected to lie between 2.5% and 2.7% in 2011, before easing to a range of 1.2% and 2.2% in 2012.

Turning to the performance of the Maltese economy, the Review observes that, in contrast with the slowdown in the euro area as a whole, annual GDP growth was sustained in the second quarter of 2011, standing at 2.8% after 2.3% in the first quarter. Growth was mainly spurred by net exports as domestic demand continued to contract, albeit at a slower pace than in the preceding quarter. Changes in inventories, which include the statistical discrepancy, dampened economic growth significantly.

Conditions in the labour market remained broadly favourable in the second quarter, with both survey data and ETC records pointing to further increases in employment. The unemployment rate, however, edged up, with the LFS measure standing at 6.7% after 6.4% in the first quarter. Labour market indicators going into the third quarter of 2011 point to a decline in unemployment.

As regards price developments, the annual rate of inflation was higher at the end of the quarter reviewed compared with the previous quarter. It stood at 3.1% in June as against 2.8% in March. The rise primarily reflected developments in the prices of non-energy industrial goods and processed food. Inflation eased to 2.2% in July, before rising again to 2.7% in September.

Turning to competitiveness indicators, Malta’s unit labour costs (ULC) measured as a four-quarter moving average declined by 0.2% in the second quarter over the previous three-month period, as productivity gains outpaced growth in compensation per employee. However, the Harmonised Competitiveness Index (HCI) rose in both real and nominal terms, reflecting exchange rate developments and a widening in Malta’s inflation differential vis-à-vis its main trading partners.

The surplus on the current account of the balance of payments declined compared with the same quarter of 2010, mainly because larger net income outflows offset a smaller visible trade gap. Nevertheless, expressed as a four-quarter moving sum, the cumulative current account deficit as a percentage of GDP fell to 3.0% as against 3.5% in the year to June 2010.

The contribution of Maltese MFIs to the euro area broad money stock continued to expand, though at a slower pace compared with the first quarter of 2011, as growth in residents’ deposits decelerated. Meanwhile, the annual rate of expansion in credit to residents moderated further, while net claims on non-residents of the euro area contracted moderately.

In its assessment of the Maltese fiscal situation, the Review reports that the general government deficit increased on an annual basis during the second quarter of 2011, as revenue declined while expenditure rose. The stock of general government debt also continued to increase, to stand at EUR4,528 million at the end of June.

From a macroeconomic policy perspective, the Review notes that the intensification of the financial market tensions in the euro area poses negative risks to the domestic economic outlook. In this regard, therefore, the commitment to budgetary consolidation should be maintained and reinforced to ensure that official fiscal targets are met, allowing the government debt ratio to be reduced. Furthermore, it stresses the importance of an efficient use of resources and improvements in labour productivity. These would contribute positively to a sustainable level of economic growth and would help build up the economy’s resilience to adverse shocks.

The third issue of the Quarterly Review for 2011 is available on the website of the Central Bank of Malta at www.centralbankmalta.org.

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