Armenia's central bank raised its key interest rate after slashing it four times earlier this year and estimated it would need to further scale back its current stimulative monetary policy stance as inflation is expected to accelerate, boosted by rising global prices and strengthening domestic demand.
The Central Bank of Armenia (CBA) raised its refinancing rate by 100 basis points to 5.25 percent, partly unwinding the total 125 point rate increase from hikes in March, April, June and September.
The Central Bank of Armenia (CBA) raised its refinancing rate by 100 basis points to 5.25 percent, partly unwinding the total 125 point rate increase from hikes in March, April, June and September.
"Taking into account some acceleration of inflation amid the expected inflationary effects from the external sector and considering the increase in the country's risk premium, the CBA board considers it appropriate to raise the refinancing rate," the bank's board said.
The board estimated it will need to gradually reduce its current stimulative monetary stance to ensure inflation stabilizes around its target of 4.0 percent.
Armenia's inflation rate rose slightly to 1.6 percent in November from 1.3 percent in October but CBA said inflationary trends had been seen in international prices for raw materials and food.
This was now gradually being reflected in inflation rates in other countries and this would impact Armenian inflation while the start of vaccinations against the COVID-19 virus was creating a positive environment for a recovery of global demand in 2021, the bank said.
Armenia's economy has been hit hard by the twin shocks of the coronavirus and the worst military confrontation with neighboring Azerbaijan since the early 1990s.
After more than a month of bloodshed over the Nagorno-Karabakh region, Armenia, Azerbaijan and Russia on Nov. 10 signed a deal to end the conflict, with Russia deploying peacekeepers along the frontline in the region and in the corridor between the region and Armenia.
This weekend Azerbaijan's defence ministry reported the first casualties since the ceasefire while Armenia also said some of its servicemen had been wounded.
Armenia's economy shrank by 9.1 percent in the third quarter year-on-year after a 13.7 percent decline in the second quarter and CBA said economic activity will remain weak in the fourth quarter due to the negative effect of martial law, the outbreak of a new wave of coronavirus and uncertainty over the economic prospects.
However, loose fiscal policy will continue to have a positive impact on domestic demand and CBA said it had not revised its forecast for economic growth though it is ready to respond to any changes in the economy to ensure price stability at a time of great uncertainty.
The International Monetary Fund's executive board last week approved a third review of its stand-by-arrangement with Armenia, allowing it to draw down a further US$37 million. This brought total disbursements to $332 million in a 3-year deal approved in May 2019 and increased in May this year.
The IMF forecast that Armenia's economy would contract 7.25 percent this year, following growth of 7.6 percent in 2019, and said its support would help the country meet the challenge of the twin crises, which have also led to a deterioration of its fiscal position.
It added monetary policy was rightly accommodative, helping keep the banking sector liquid while the exchange rate has remained stable and inflation low.
The Central Bank of Armenia released the following statement:
"At the December 15, 2020 meeting the Board of the Central Bank of Armenia decided to raise the refinancing rate by 1.0 percentage point to 5.25%.
Inflation in November 2020 stood at 1.3%, compared to 1.1% in the same month of the previous year. As a result, the 12-month inflation amounted to 1.6%, still below the 4% target. In November, the 12-month core inflation also continued rising, which at the end of the month stood at about 2.0%.
In the fourth quarter, the world economy developments were mainly affected by the new wave of coronavirus pandemic and the coronavirus-related restrictions in some countries, which had a negative impact on global demand and economic activity. On the other hand, expectations about the possible effective use of vaccines since the beginning of 2021 have created a positive momentum for the outlook of global demand. Under such circumstances, inflationary trends have been recorded in both international commodity and food product markets, which is gradually fueling the inflationary environment of the partner countries. Based on these developments, the CBA Board expects some inflationary impact from the external sector on the Armenian economy.
In Armenia in the third quarter, in line with the CBA forecasts, a y/y 9.1% economic decline was registered, caused by decreases in all sectors of the economy, and services in particular. In the fourth quarter, due to the negative impact of the announced military situation in Armenia, the outbreak of a new wave of coronavirus pandemic, as well as heightened uncertainty, sluggish economic activity and weak domestic demand are expected to persist. On the other hand, implementation of the expansionary fiscal policy will continue contributing positively to aggregate demand. Under such conditions, the estimates of annual economic growth for 2020 have not been revised.
Taking into account some acceleration of inflation amid the expected inflationary effects from the external sector and considering the increase of the country’s risk premium, the CBA Board considers it appropriate to raise the refinancing rate. The Board also reckons that the monetary policy stance still remains expansionary, which will need to be gradually reduced over the forecast horizon, in order to stabilize inflation around the 4% target.
The Board considers that, in view of high uncertainties about economic growth outlook, risks of inflation deviating from the projection path are on the upside in the short run. The Central Bank is monitoring the developments, and should they unfold, the CBA will stand ready to react accordingly, ensuring price stability in the medium run.
You can read detailed information underlying the decision on the level of interest rate in Inflation Report (Monetary Policy Program, Q4, 2020) to be published on December 29, 2020."
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