Friday, March 18, 2016

Russia holds, may keep tight policy longer than planned

    Russia's central bank left its key rate unchanged at 11.0 percent, as expected, and said it "may conduct its moderately tight monetary policy for a more prolonged time than previously planned" as the risks of an increase in inflation remain high despite the recent decline and a stabilization in financial and commodity markets.
    The Bank of Russia, which has not cut its rate in since July 2015 despite decelerating inflation, added these risks include the oil market, persistently high inflation expectations and the government budget, in particular the prospects for extra indexation of pensions and wages.
    "Despite growing oil prices and ruble strengthening in the latest period, the accumulated weakening of the ruble, impacted by the drop in oil prices, between late 2015 and early 2016, is still putting pro-inflationary pressure on the economy, contributing to continued high inflation expectations," the bank said after a meeting of its board of directors.
    In a separate statement, Bank of Russia Governor Elvira Nabiullina, said the risks surrounding the budget may the the most important of the risks to inflation and "a balanced fiscal policy is essential for the economy" as a more conservative fiscal policy would allow for a softer monetary policy.
    She added that stability and caution in monetary policy was very important and in order to keep interest rates steady and low, inflation expectations have to decrease further and there has to be a sustainable low growth in consumer prices.
    "Given the situation, it would be sound not to act rashly to prevent moving in the opposite direction afterwards," Nabiulllina said, adding she wants to ensure a steady path of declining inflation to its target of 4.0 percent by end-2017, including less than 6 percent in March 2017.
   Russia's inflation rate continued to fall to 8.1 percent in February, a low not seen since September 2014, and eased further to 7.9 percent as of March 14, a faster drop than expected, as inflation is constrained by weak consumption, a dwindling share of imports in consumption so the pass-through of the exchange rate to inflation is declining, and the global downtrend in food prices.
    The central bank lowered its forecast for oil prices to average $30 a barrel this year from Decembers forecast of $50 before it gradually rises to $40 in 2018 in light of the continued oversupply in the market, slower growth in China's economy, more supplies from Iran and tighter competitions for market share.
   "This is why the certain recovery in crude prices seen in the recent weeks may prove to be unsustainable," the central bank said.
    Under its baseline scenario, Nabiullina said the central bank was forecasting a contraction in Gross Domestic Product of between 1.3 and 1.5 percent in 2016 and close-to-zero growth in 2017 before it starts to expand in 2018 as an expansion of the non-energy sector and the import-substituting sector helps the economic recovery.
    This compares with the bank's growth forecast from December for the economy to shrink by 0.5 to 1.0 percent this year as compared with 2015's contraction of 3.7 percent.
    Russia's rouble has been under pressure since oil prices started to collapse in mid-2014 with the conflict in Ukraine and the imposition of Western sanctions adding further pressure.
    But after hitting record lows in mid-January, the rouble has strengthened and was trading at 67.5 to the U.S. dollar today, up 8.7 percent since the start of this year.

    The Bank of Russia issued the following statement:

"On 18 March 2016, the Board of Directors of the Bank of Russia decided to keep its key rate at 11.00% p.a. Despite certain stabilisation in financial and commodity markets and a slowdown in inflation, inflation risks remain high. These stem from the current developments in the oil market, persistently high inflation expectations and some uncertainties surrounding budget configuration. To enable the accomplishment of inflation targets, the Bank of Russia may conduct its moderately tight monetary policy for a more prolonged time than previously planned. The Bank of Russia predicts that, consistent with this decision, annual inflation will total less than 6% in March 2017, to reach the 4% target in late 2017.
In making its key rate decision, the Bank of Russia Board of Directors took as a premise the expectations for oil prices which are lower than its December forecast. The current oil market still features a continued oversupply, on the backdrop of a slowdown in the Chinese economy, more supplies originating from Iran and tighter competition for market share. This is why the certain recovery in crude prices seen in the recent weeks may prove to be unsustainable. In recognition of this, the Bank of Russia assumed in its baseline scenario the average forecast oil price of $30 per barrel in 2016, with its gradual rise to $40 per barrel to 2018.
Despite growing oil prices and ruble strengthening in the latest period, the accumulated weakening of the ruble, impacted by the drop in oil prices, between late 2015 and early 2016, is still putting pro-inflationary pressure on the economy, contributing to continued high inflation expectations. Meanwhile, inflation slowdown is continuing. Under the Bank of Russia estimates, the annual consumer price growth rate is down from 9.8% in January 2016 to 7.9 % as of 14 March 2016. This is lower than the forecast for inflation for the year ahead, which, the Bank of Russia released in its March 2015 press release (circa 9%). Alongside with monetary policy, instrumental in the slowdown of consumer prices are the Government decisions as regards indexation of wages and pensions, as well as declining global food prices. In 2Q 2016, as the Bank of Russia forecast suggests, quarterly inflation will continue to decline. However, annual inflation may accelerate temporarily in the middle of the year as a result of the low base effect. Provided there are no new shocks emerging, subsequently annual inflation is set to resume its decline. Slower consumer price growth will be triggered by weak demand and gradually descending inflation expectations, driven by, inter alia, the moderately tight monetary policy. The Bank of Russia forcasts that, consistent with the decision, annual inflation will total less than 6% in March 2017, to reach the 4% target in late 2017.
In making its key rate decision, the Bank of Russia took into account the macroeconomic fundamentals which suggest a less severe downturn than previously estimated considering this level of oil prices. The floating exchange rate serves to partially set off the negative impact of the external shocks on the economy. The weakening of the ruble has resulted in Russian products gaining competitiveness, while it also helped economic growth in individual industries. These include agriculture, the food industry, chemicals and mining. Employment data and production capacity utilisation have recently been steady.
The economic adjustment to the low level of commodity prices is expected to continue. The Bank of Russia forecasts assume the economic downturn to slow down to 1.3%-1.5% in 2016. Also, it is expected that quarterly GDP growth rates will enter positive territory between late 2016 and early 2017. Going forward, the advancing processes of import substitution and non-energy export expansion will help a gradual economic recovery.
The Bank of Russia Board of Directors has recognised that, as a result of the Reserve Fund spending to cover budget deficit, banks show decreased demand for the Bank of Russia’s refinancing. Hence, we see softening of monetary conditions, impacted by reduced structural deficit of liquidity even if the key rate is unchanged.
The risks remain that inflation may exceed the target in late 2017. These relate to a further worsening in the oil market developments; persistent elevated inflation expectations; the global food price performance; changed rates of indexation of regulated prices, wages and pensions, as well as the uncertainty around a balanced federal budget over the medium term. To enable the accomplishment of inflation targets, the Bank of Russia may conduct its moderately tight monetary policy for a more prolonged time than previously planned.
The Bank of Russia Board of Directors will hold its next rate review meeting on 29 April 2016. The press release on the Bank of Russia Board decision is to be published at 13:30 Moscow time."


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