Friday, April 23, 2021

Russia raises rate 2nd time, will consider more hikes

      Russia's central bank raised its key interest rate for the second month in a row, as widely expected, and said it would consider further rate hikes in upcoming policy meetings as inflation and inflation expectations remain high and the economic recovery is continuing at a steady pace.
     The Bank of Russia raised its key interest rate by 50 basis points to 5.0 percent - in the upper end of what analysts had expected - and has now raised it 75 points this year following the hike in March, the bank's first rate hike since December 2018.
     In its medium-term economic forecast, the central bank sees the key rate averaging 5.0 to 5.8 percent this year following today's hike, with the rate rising to 5.3 to 6.3 percent in 2022.
      Russia, along with Brazil and Turkey, are among the 13 central banks that have raised their main interest rates so far this year as authorities gradually unwind the massive fiscal and monetary stimulus unleashed last year in response to the COVID-19 pandemic.
     This week Canada's central bank became the first major developed market central bank to trim its stimulus by reducing asset purchases and the Russian central bank once again warned of possible volatility in global financial markets as central banks in advanced economies may begin to normalize their "unprecedentedly accommodative policies" earlier than expected as the global economy recovers.
     "The recovery of demand is becoming increasingly steady and in certain sectors exceed their output expansion capacity," the central bank said, adding the balance of risks has shifted to pro-inflationary and "the rapid recovery of demand and elevated inflationary pressure call for an earlier return to neutral monetary policy."
     Today's rate was widely anticipated after the central bank in March, when it began the move back to a more neutral policy stance and said it was open to further rate hikes as the pace of economic recovery was faster than expected.
     Financial markets and investors appear to approve of the central bank's tightening and this week Russian President Vladimir Putin praised the central bank for maintaining financial stability and restraining inflation while Deputy Finance Minister Vladimir Kolychev told Reuters on April 20 that monetary and fiscal policy needs to be normalized faster than thought as high inflation suggests the economy has not only recovered but the scale of past stimulus might have been more than needed.
      Russia's inflation rate has been accelerating the last 10 months and rose to 5.79 percent in March, the highest since November 2016, and well above the central bank's 4.0 percent target.
     As of April 19, the central bank said inflation was estimated to have slowed to 5.5 percent but this was largely due to a low comparison base.
     "The impact of proinflationary factors may be more prolonged and pronounced amid an outrunning growth of consumer demand compared to the capacity of output expansion," the bank said, forecasting inflation will average 5.4 to 5.8 percent this year, up from 3.4 percent in 2020 and its February forecast of 4.4 to 4.8 percent.
      By the middle of 2022 inflation is seen hitting the target to average 4.0 to 4.2 percent.
      Despite a hit from new U.S. sanctions, Russia's ruble has strengthened this month and rose further today after the rate hike.
     The ruble was trading at 74.84 to the U.S. dollar today, up 0.6 percent this month, but is still down 0.6 percent this year and 17.13 percent lower than at the start of 2020. 
      In 2020 the ruble lost almost 17 percent, hit by the plunge in oil prices and the hit to economic activity from the pandemic while Russian stocks, which plunged almost 30 percent from mid-January 2020 to mid-March, have been hitting record highs in the last month, buoyed by the rebound in oil prices.
     Russia's economy is continuing its recovery from 2022, when gross domestic product shrank 3.0 percent, and at the end of the first quarter the bank said retail turnover had approached its pre-pandemic level and it expects the economy to return to the pre-crises level in the second half of this year.
     The bank forecasts GDP this year will expand 3.0 to 4.0 percent and then 2.5 to 3.5 percent next year, unchanged from the February forecast.

    The Bank of Russia released the following press release followed by a statement by its governor, Elvira Nabiullina:

"On 23 April 2021, the Bank of Russia Board of Directors decided to increase the key rate by 50 bp to 5.00% per annum. Consumer price growth rates as well as inflation expectations of households and businesses remain elevated. The recovery of demand is becoming increasingly steady and in certain sectors exceeds their output expansion capacity. In this context, the balance of risks is shifted towards proinflationary ones. The Bank of Russia’s inflation forecast for 2021 has been increased to 4.7–5.2%.

The rapid recovery of demand and elevated inflationary pressure call for an earlier return to neutral monetary policy. The Bank of Russia will consider the necessity of further increases in the key rate at its upcoming meetings. The key rate decisions will take into account actual and expected inflation dynamics relative to the target and economic developments over the forecast horizon, as well as risks posed by domestic and external conditions and the reaction of financial markets. Given the monetary policy stance, annual inflation will return to the Bank of Russia’s target in the middle of 2022 and will remain close to 4% further on.

Inflation dynamics. Inflation continues to develop above the Bank of Russia’s forecast. In March, the annual consumer price growth rate rose to 5.8% (vs 5.7% in February). According to estimates as of 19 April, annual inflation slowed down to 5.5%. However, this is related to the high base effect of April 2020. Based on Bank of Russia’s estimates, indicators reflecting the most sustainable price movements rose in March and substantially exceed 4% (annualised).

This largely reflects a steady nature of the recovery in domestic demand. Its influence on price growth rates is enhanced by supply-side restrictions and the elevated pressure from businesses’ costs. Amid the restrictions on foreign travels, the funds that households have been unable to spend for this purpose are partially redistributed in favour of domestic goods and services consumption.

Inflation expectations of households remain elevated compared to the pre-pandemic period. Businesses’ price expectations have grown. Analysts’ medium-term expectations are anchored close to 4%.

The rapid recovery of demand and elevated inflationary pressure call for an earlier return to neutral monetary policy. The Bank of Russia forecasts that the annual consumer price growth rates in the second quarter will be close to their first quarter values. Annual inflation is forecast to slow down steadily in the second half of 2021. Inflation will be in the range of 4.7–5.2%as of the end of 2021. Given the monetary policy stance, annual inflation will return to the Bank of Russia’s target in the middle of 2022 and will remain close to 4% further on.

Monetary conditions remain accommodative and have not seen any significant changes since the previous meeting of the Bank of Russia Board of Directors. Yields of medium- and long-term OFZs remain near their late-March levels, reflecting the expectations of the Bank of Russia’s return to neutral monetary policy and the movements of interest rates in global financial markets. Lending continues to grow at rates close to recent years’ highs. The Bank of Russia’s decisions to increase the key rate and the rise in OFZ yields observed since the beginning of the year will create the prerequisites for the growth in loan and deposit rates in the future. This will make it possible to raise the attractiveness of bank deposits for households, protect the purchasing power of savings, and ensure balanced lending expansion.

Economic activity. The pace of economic recovery is becoming increasingly steady. At the end of the first quarter, retail turnover approached its pre-pandemic level. The household services sector is actively recovering. This is facilitated by the consistent lifting of restrictive measures and gradual vaccination. According to the Bank of Russia’s monitoring, over a half of the surveyed companies have reported that the demand for their products has recovered or exceeded the pre-pandemic levels. Investment demand recovery is ongoing. In certain sectors, the capacity for output expansion is lagging behind the expanding demand, including due to lack of labour force. The unemployment is declining.

Economic recovery is also supported by external demand which continues to grow despite the still complex epidemic conditions in the world.

The Bank of Russia forecasts the growth rate of the Russian economy in 2021 in the range of 3.0–4.0%. It means that the Russian economy will return to its pre-crisis level in the second half of 2021. According to the Bank of Russia’s forecast, GDP in 2022–2023 is set to grow 2.5–3.5% and 2.0–3.0% respectively.

The medium-term path of economic growth will largely depend both on domestic and external conditions. Domestic demand movements will be predominantly shaped by the rate of growth in private demand. Consumer demand will be supported by a decline in households’ propensity to save along with an increase in incomes and lending. Domestic demand will be also influenced by the process of fiscal policy normalisation in view of the announced additional social and infrastructure measures. External demand movements will be mostly dependent on fiscal support measures taken in individual advanced economies as well as the pace of vaccination world-wide.

Inflation risks. The balance of risks is shifted towards proinflationary risks. The impact of proinflationary factors may be more prolonged and pronounced amid an outrunning growth of consumer demand compared to the capacity of output expansion. Their effect may be also strengthened by elevated inflation expectations and corresponding secondary effects. 

Further upward pressure on prices may continue to come from temporary disruptions in production and supply chains. Proinflationary risks are generated by price movements in global commodity markets, including supply-side factors. This may pass through to domestic prices for corresponding goods. At the same time, further movements of food prices will largely depend on the agricultural harvest prospects both in Russia and abroad.

Short-term proinflationary risks are also associated with the stronger volatility in global markets caused in part by various geopolitical developments, which may affect exchange rate and inflation expectations. Also, given that the global economic recovery is progressing at faster paces than previously expected and the need is no longer in place for unprecedentedly accommodative policies in advanced economies, an earlier monetary policy normalisation in these countries is possible. This may become a further driver of volatility growth in global financial markets.

Disinflationary risks for the baseline scenario remain moderate. Opening up the borders concurrently with a gradual lifting of restrictions may lead to a recovery in the consumption of foreign services and weaken supply-side constraints in the labour market owing to an inflow of foreign labour force. The economic recovery may be held back, among other things, by low vaccination rates and the spread of new coronavirus strains, as well as the ensuing tightening of restrictions.

Medium-term inflation is largely influenced by fiscal policy. In its baseline scenario, the Bank of Russia proceeds from the fiscal policy normalisation path stipulated by the Guidelines for Fiscal, Tax and Customs and Tariff Policy for 2021 and the 2022–2023 Planning Period, which implies a return to the fiscal rule parameters in 2022. The Bank of Russia will factor in the impact of possible decisions on investing the liquid part of the National Wealth Fund in excess of the threshold level set at 7% of GDP on the forecast.

The Bank of Russia estimates that the implementation of additional social and infrastructure measures announced in the Presidential Address to the Federal Assembly in April will not exert any considerable proinflationary effect.

The Bank of Russia will consider the necessity of further increases in the key rate at its upcoming meetings. The key rate decisions will take into account actual and expected inflation dynamics relative to the target and economic developments over the forecast horizon, as well as risks posed by domestic and external conditions and the reaction of financial markets.

The Bank of Russia Board of Directors will hold its next rate review meeting on 11 June 2021. The Board decision press release is to be published at 13:30 Moscow time.

In the follow-up to the Board of Directors meeting of 23 April 2021 the Bank of Russia released its medium-term forecast."

     Statement by Governor Elvira Nabiullina:

"We have made the decision to raise the key rate by 50 basis points to 5.00% per annum. 

Today, we have discussed two possible options: whether to increase the key rate by 25 or 50 basis points. I would like to explain why we have chosen this very option accelerating the return to neutral monetary policy.

The economy continues to recover actively. We estimate that it will bounce back to the pre-pandemic level in the second half of the year. The majority of industries have already completely recovered today. The rise in all other sectors is only constrained by the remaining restrictions largely associated with the pandemic. Accommodative monetary policy has fully played its countercyclical role, supporting the economy at the acute stage of the crisis.

Currently, the fast recovery of demand is forming steady inflationary pressure intensifying supply-side constraints. Households’ and businesses’ inflation expectations have risen notably. They have been elevated for over six months. This is a matter of our great concern. High inflation expectations are being translated into inflation movements already now. Moreover, this effect on the steady component of inflation is becoming increasingly stronger. If they are not limited, this will continue to boost inflation. Amid these inflation processes, we need to return to neutral policy faster than we assumed before. Progressive economic growth will continue in this case.  Any delay would require us to raise the key rate more significantly in the future, or even to pursue tight monetary policy.

After today’s increase in the key rate, we have approached the threshold between accommodative and neutral policy. Taking into account the time lag effects of policy, monetary conditions will generally stay accommodative for a while longer. We will be closely monitoring how the market will be adjusting to our decisions.

I would now dwell on the factors of our today’s decision.

I will start out with inflation. Today, the acceleration of price growth is absolutely obvious across a wide range of products and services. This is caused not only by one-off factors and the pass-through of higher production costs, but also by the stronger impact of the steady component of price dynamics to an increasingly greater extent. In our opinion, this growth reflects the monetary nature of inflation.

It is the fast rebound of aggregate demand exceeding the capacity to expand supply that has sped up price growth. As demand is high, this enables producers to pass through their increased costs to end-user prices. Production costs have really risen. Specifically, the growth of world prices for raw products (primarily, for wheat, steel, oil, and timber) has boosted production costs of many goods and services in the consumer basket. For instance, global steel prices have surged by 50–70% over six months. Prices for this metal impact prices for cars, household appliances, construction materials, garden tools, and other goods. These trends are also typical of a range of other products and services. However, I would like to repeat once again: it is the rapid recovery of aggregate demand that makes it possible to pass through costs to price growth.

Taking into account elevated inflation expectations and the nature of inflation processes in general, we have raised our short-term estimate of the inflation path. Previously, we believed that annual inflation would peak in March, gradually decreasing further on, while now we expect annual inflation to plateau until the middle of the year close to its readings observed in the first quarter. The annual rates of price growth will begin to slow down steadily in the second half of the year as the effect of one-off factors tapers off. However, given the period of substantially accommodative monetary policy and the time-lagged influence of our decisions on inflation, we believe that elevated inflationary pressure may persist until the end of the year due to the impact of the steady factors.

In this regard, we have revised our inflation forecast for the end of 2021. The inflation rate will equal 4.7–5.2%. This is significantly higher — by one percentage point — than was expected in February.

Our decision to accelerate the return to the neutral key rate will make it possible to bring annual inflation back to 4% by the middle of 2022. As I have already said, any delays would postpone the achievement of the target. Moreover, the key rate that would be required for this purpose would be considerably higher.

As regards the economy, I would like to stress that the majority of industries have already bounced back to the pre-pandemic level of output. Certain restrictions remain in a number of sectors, first of all in oil production where they are associated with the OPEC+ agreements. The services sector, where small and medium-sized enterprises account for a larger portion than in other industries, has not fully restored yet. The decline here was stronger and still persists, although the recovery process is quite active.

Quarterly data on GDP for 2020 confirmed our estimates that business activity did not wane during the autumn wave of the pandemic, in contrast to many other countries. Furthermore, companies promptly responded to the recovery in demand, purchasing equipment, making investments in production expansion, and forming the inventories of raw products and components. Among other things, this is evidenced by the rise in investment imports over the last six months.

Taking into account high-frequency indicators for the first quarter, we keep unchanged our GDP growth forecast for this year at 3–4%. As the reduction in GDP was slightly lower last year and demand has increased, the economy may generally reach pre-pandemic levels as early as in the second half of the year. This will be primarily driven by a more active recovery of households’ consumption, which will be supported by growth in disposable income, retail lending, and a declining savings rate.

Monetary conditions remain accommodative.  Nominal interest rates are close to their record lows. Accommodative monetary conditions support high growth rates of lending to the economy. We forecast that corporate lending will expand by 8–12% this year. Mortgage lending will continue to increase fast at 16–20%.

The rise in unsecured consumer lending which slowed down last year has accelerated. In March, seasonally adjusted monthly growth rates exceeded 15% in annualised terms. As the increase in unsecured consumer lending exceeds the growth of incomes, this entails excessive debt burden for borrowers. As before, we believe that such a situation involves significant risks. Therefore, in the near future, we will consider the issue of returning to pre-crisis risk buffers for new loans.

Accommodative monetary policy has reduced interest rates not only on loans, but also on deposits. Moreover, elevated inflation is detrimental to households’ savings: deposit rates often do not exceed inflation. Inflation threatens both people’s current incomes and savings, especially in cash. The increase in the key rate will support rises in deposit rates, on the one hand, and slow down inflation and protect households’ funds from devaluation, on the other hand.

Now, I would like to speak on external conditions and the parameters of the balance of payments.We proceed from the fact that the global economy will be bouncing back faster than we expected in February. This will be driven by a large-scale fiscal stimulus in advanced economies and the mass vaccination of people worldwide. The growth of the global economy will boost the demand for Russian exports. Taking into account this factor and the slower recovery of oil production under the OPEC+ agreements, we have raised our forecast for oil prices from 50 to 60 US dollars per barrel this year and to 55 US dollars per barrel next year. The forecast for 2023 remains unchanged at 50 US dollars per barrel.

Accordingly, we have also increased the forecasts for exports and the trade surplus. As domestic demand has been expanding, we have revised the imports forecast upwards. The current account surplus will grow to 56 billion US dollars this year from 34 billion US dollars last year.

Now, I would like to discuss in detail risks that are beyond our baseline forecast.

Proinflationary risks are primarily associated with increased inflation expectations. As inflationary pressure is stronger and supply-side factors exert additional influence on price growth, inflation expectations may stay elevated for longer time. Consequently, the saving ratio may decline faster, with consumer activity rising above expectations.

As always, there are risks related to the external sector, including changes in the geopolitical environment. We have always taken them into account. In a situation where these risks materialise, an increase in volatility in financial markets may speed up inflation, which we factor in when making our decisions.

There are also disinflationary risks, yet the probability of their materialisation is lower and they are mostly associated with the fact that demand growth may turn out to be below our expectations. This group of risks may also include a faster reopening of borders, as a result of which demand may shift from domestic consumption to foreign travels. The risk of new coronavirus strains or lower paces of vaccination persists, which, in contrast, may reduce people’s mobility and limit consumption growth, especially in the services sector.

If the situation develops not in line with our baseline scenario, we will be responding so as to bring inflation back close to its 4% target over the forecast horizon.

Winding up, I would like to comment on the future path of the key rate.

Today, we have first published the ranges of the average Bank of Russia key rate for a calendar year over the forecast horizon. According to our baseline forecast, this year the average key rate will generally equal 4.8–5.4% p.a., 5.3–6.3% p.a. next year, and 5–6% p.a. in 2023, which is in line with the range of the long-term neutral key rate.

By publishing the path of the key rate, we increase the transparency of our communication, which will ultimately improve the efficiency of monetary policy.

Thank you for your attention."


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