Serbia’s central bank (NBS) reduced its one week key repo rate by 25bps to 11% on June 6, sustaining its monetary easing stance for the second straight month, citing declining near-term inflationary pressures. The NBS’s rate cut somewhat surprised the market as most analysts expected an on-hold decision as the euro-dinar exchange rate touched a record low this year of RSD 113.54 on June 6.

 The dinar’s depreciation was largely driven by investor’s concerns over Serbia’s rising fiscal imbalances. The central bank attributed the current developments in the FX market to “trends in international financial markets and greater investor risk aversion.”

In May, both the IMF and the country’s independent fiscal council warned the 2013 budget gap will exceed the government’s target of 3.6% of GDP due to lower tax revenue.

The government will undertake additional austerity measures which will eliminate uncertainty over future economic policies, the NBS said. Furthermore, low aggregate demand and falling food prices due to the onset of the new agricultural season will also help bring y/y inflation within the NBS target tolerance band of 2.5% -5.0% by October 2013, the NBS underscored.

Annual inflation ticked up to 11.4% in April from 11.2% the month before due to rising vegetable prices.

Serbia’s growth outlook could benefit from further lowering of borrowing costs as the economy struggles to return to growth after contracting by 1.7% in 2012.  Nevertheless, the IMF warned in May, the NBS should ease its monetary policy stance only “when fiscal consolidation firmly takes hold, provided that there are no adverse shifts in capital flows.”