In the wake of the renewed assault on oil prices and the rouble, the bank extended the pause in its easing cycle and even warned that renewed inflationary pressure could evoke a rate increase later in 2016.
IHS perspective | |
Significance | Concern over the inflationary impact of further depreciation of the rouble compelled the board of the central bank to keep its key rate on hold once again in January 2016. |
Implications | The fall in year-on-year inflation in early 2016 due to the effect of a higher base of comparison was not enough to allay concern. |
Outlook | The bank warns that inflation could pick up again in the second quarter of 2016, and in the face of greater risk to macroeconomic and financial stability it cannot rule out the tightening of its monetary stance. |
At its regularly scheduled meeting on 29 January 2016, the board of the Central Bank of Russia (CBR) opted to keep its key interest rate on hold at 11.00%, where it has stood since July 2015. The rate, which is the minimum one-week repo auction rate, was boosted to 17.00% in December 2014 in an effort to stanch the outflow of capital from the Russian private sector that was taking a severe toll on the exchange value of the rouble and stoking inflationary pressures and inflationary expectations. Rate cuts were introduced through the first half of 2015 – the last in July – as the stubbornly high rate of year-on-year (y/y) inflation prompted the board to call a temporary halt to the cutting cycle. Nevertheless, thereafter the bank's statements continued to maintain that the y/y rate of inflation would slip to 7% by the end of 2016 and 4% by the end of 2017; furthermore, as soon as risks due to inflationary expectations receded, the bank intended to resume cutting interest rates. However, the tone of the January 2016 statement is quite different, although the established targets for end-year inflation are still in place.
The press release notes that risks to price stability increased between the December 2015 and January 2016 board meeting in the wake of renewed downturn in the world-market price of oil. This is due to the ongoing excess supply of oil on the world market, the slowdown of the Chinese economy, and the increase in US interest rates by the Federal Reserve. In turn, the bank states that this has led to downward pressure on currencies and asset prices in emerging markets, including Russia. The depreciation of the rouble has resulted is increasing inflationary pressures in Russia and feeding inflationary expectations, the press release points out, despite the recent decline in headline inflation. Compared with an average rate of inflation in 2015 of 15.5%, the y/y rate fell to 12.9% in December 2015, and the bank estimates it will be around 10% in January 2016. The bank expects average inflation rate for the first quarter of 2015 in the range of 8–9% y/y but suspects that inflation could pick up again somewhat in the second quarter owing to a lower base of comparison. While disinflation should resume beyond that point, the bank acknowledges the risk that the targets for end-2016 and end-2017 could be missed.
Turning to the state of the real economy, which must also be taken into account when formulating monetary policy, the bank believes the risks of a continued decline of economic activity have risen as well. Additional factors being considered in this context include the heavy debt burden borne by Russian companies and the affect of high interest rates on both banks and their borrowers. The CBR clearly realises that oil prices in 2016–17 will be lower than earlier assumed in its baseline scenario. Nevertheless, the float of the rouble is expected to compensate somewhat for the impact of low oil prices on the economy given the need for the economy to further adapt to the new conditions, bringing about a more substantial downturn than earlier predicted in the baseline scenario (around 0.5–1.0%) and keeping a return to growth in 2017 very modest. However, the bank will continue to balance these risks to economic performance with the concern that low oil prices will also contribute to the risks of higher inflation and entrenched inflationary expectations. In this case, the bank states that it does not rule out tightening its monetary policy.
Outlook and implications
Given the recent renewed assault on oil prices and the rouble exchange rate, the markets had already assumed that the CBR would not change the key rate at its January meeting. Moreover, it now seemed evident that the interest rate would not come down until there were clear signs of disinflation. However, the language in the most recent press release on monetary policy was considerably tougher than might have been expected given the strong indications in the past several months that the CBR planned to cut the key rate at one of the next several board meetings. Instead, the CBR now warns that it may have to raise interest rates in the course of 2016 to combat inflationary expectations. This is despite the further deterioration projected for the real economy compared with the CBR's earlier baseline scenario. One factor the bank did not cite that could contribute to inflationary expectations is the ongoing relaxation of the country's fiscal stance. Although the government is drawing up plans to cut back expenditure at the federal level by 10% from the budget legislation in order to preserve a deficit level of 3% of GDP, past performance and the exclusion of defence and social security expenditures from the cuts on the order of President Vladimir Putin in this election year suggest that the deficit could well exceed the target. The next meeting of the CBR board is scheduled for 18 March 2016.