Russia: Falling inflation and deteriorating economic conditions prompt Bank Rossii to cut interest rates more than expected
April 30, 2015
At its 30 April monetary policy meeting, Russia’s Central Bank (Bank Rossii) cut the one-week repurchase rate by 150 basis points to 12.50%. Although the rate cut was broadly expected, the size of the cut was not as the markets had expected the rate to be lowered by 100-basis points. This is the third time this year that the Bank has decided to lower the main monetary policy rate following the emergency rate hike in December 2014, through which the Bank attempted to stabilize the freefall of the ruble and mitigate a potential currency crisis.
In its accompanying statement, the Bank Rossii underlined that lower inflation, the rapid slowdown of the economy and the recent strengthening of the ruble were the main elements that it had taken into consideration when it decided to lower interest rates in April. Moreover, the Bank signaled that inflation is expected to fall further throughout this year and next and, consequently, monetary authorities said that, “the Bank of Russia will be ready to continue cutting the key rate.”
The Bank went on to recognize that recent economic indicators suggest a considerable economic contraction in the first quarter of 2015. Going forward, the Central Bank expects industrial production to continue contracting and it sees the labor market’s deterioration worsening. The Bank also said that, as the labor market adjusts to new tough economic conditions through a cut in wages and an increase in part-time employment, it expects private consumption to shrink further as a result. Regarding investment, the Russian economy will continue to experience a sharp decrease in fixed capital formation resulting from rising uncertainty, deteriorating business finances and tight lending conditions due to a limited ability to obtain foreign sources of funding. On the external front, the Bank’s assessment was less gloomy. It foresees that the contribution from net exports to overall economic growth will be positive due to a fall imports in the wake of shrinking domestic demand.
Overall, Bank Rossii expects that all, “these factors will lead to fall in GDP in 2015. Later on, as import substitution expands, sources of funding gradually diversify, lending conditions ease, and oil prices rise to some extent, the quarter-on-quarter GDP growth is expected to recover.” The Bank went on to state that these economic conditions, along with the gradual strengthening of the ruble, will cause inflation to fall more rapidly than it had expected previosly. The Bank now expects inflation to fall below 8.0% in the next year and hit its target of 4.0% in 2017. The next monetary policy meeting is scheduled for 15 June.
Author: Ricardo Aceves, Senior Economist