By CentralBankNews.info
Russia’s central bank lowered its policy rate for the fifth time this year, as widely expected, but left open the option of further cuts as the risks of higher inflation still dominate the outlook and inflation expectations “remain elevated.”
The Bank of Russia cut its key rate by 25 basis points to 8.25 percent and has now cut it by a total of 175 basis points this year. This follows cuts of 100 basis points in 2016 and 600 points in 2015 as it has gradually lowered the rate from a high of 17 percent in December 2014.
Looking ahead, the central bank’s board said decisions will be based on how the balance of risks for inflation deviate from its target and it is “leaving open the option of further rate reduction at its upcoming meetings.”
Today’s rate cut was well-telegraphed by the central bank to investors after Igor Dmitriev, head of the bank’s monetary policy department, last week said financial market expectations about the rate matched the bank’s view and the board was unlikely to keep the rate on hold.
Dmitriev also said the central bank was expecting inflation to tick up in October after it continued its steady decline below the bank’s 4.0 percent target to 3.0 percent in September.
While the central bank has faced criticism, most recently by Finance Minister Anton Siluanov, for not cutting rates faster this year, the central bank said the downward deviation in inflation against forecasts was due to temporary factors and inflation will again rise toward 4.0 percent as these factors run their course.
The recent drop in inflation was mainly due to a stronger-than-expected fall in food prices as there is a shortage of warehouses for storage so a good harvest has boosted supply.
Inflation is now seen close to 3.0 percent by late 2017, below the bank’s previous forecast of 3.5 to 3.8 percent.
As in recent policy statements, the bank’s board underscored that inflation expectations remain high and their decline has yet to become sustainable and consistent. The risks of higher inflation – labour shortage, a shrinking propensity to save and the exchange rate – still dominate over the risks that inflation will deviate on the downside.
“Given the balance of risks for inflation the Bank of Russia’s ongoing transition from moderately tight to neutral monetary policy will be gradual,” the bank said.
The central bank has said it plans to cut the rate to 6.5-7.0 percent after inflation has been anchored around its 4.0 percent target.
Russia’s economy developed as expected in the third quarter, the bank said, with the recovery in consumer demand becoming steadier, shored up by real wage growth from lower inflation. The bank’s estimate of growth this year and in the medium term remained unchanged.
In September the central bank revised upwards its 2017 growth forecast to 1.7-2.2 percent from a previous 1.3-1.8 percent. In the second quarter of this year Russia’s economy grew by an annual rate of 2.5 percent, up from 0.5 percent in the first quarter.
Russia’s ruble has been rising steadily since January 2016, despite a recent dip in June from new U.S. sanctions.
In response to today’s policy decision, the ruble fell and was trading at 58.4 to the U.S. dollar, down from 57.8 yesterday. But it was still up almost 5 percent since the start of this year.
The Bank of Russia issued the following statement:
“On 27 October 2017, the Bank of Russia Board of Directors decided to reduce the key rate by 25 bp to 8.25% per annum. The Board notes that inflation holds close to 4%. Its downward deviation against the forecast is driven mainly by temporary factors. The economy continues to grow. Inflation expectations remain elevated. Their decline has yet to become sustainable and consistent. Medium-term risks of inflation overshooting the target dominate over the risks of its persistent downward deviation. In recognition of this, the Bank of Russia’s ongoing transition from moderately tight to neutral monetary policy is gradual. Moving forward, the Bank of Russia’s key rate decisions will be based on its assessment on the balance of risks for inflation significantly and persistently deviating in either direction from the target, as well as consumer price movements and economic activity against the forecast. The Bank of Russia Board of Directors leaves open the option of further rate reduction at its upcoming meetings.
In making its key rate decision, the Bank of Russia recognised the following factors.
Inflation dynamics. Annual inflation holds close to 4%. Estimates as of 23 October 2017 indicate that annual inflation is 2.7%. Its downward deviation against the forecast is driven mainly by temporary factors. In September, food prices showed stronger-than-expected annual price decline, on the back of larger supply of farm produce. This extra supply owes its origin to growing crop productivity and the shortage of warehouse facilities for long-term storage. The slowdown of inflation was also triggered by exchange rate movements.
Inflation is projected to be close to 3% by late 2017; going forward, as the temporary factors run their course, it will approach 4%.
Inflation expectations remain elevated. Their decline has yet to become sustainable and consistent.
Monetary conditions lay the groundwork for inflation holding close to 4% and not constraining economic growth. Nominal rates on banking transactions continue to trend downwards, tracking the key rate path in the expectation of its reduction. Rates in real terms remain in positive territory. Non-price lending conditions are gradually becoming looser for reliable borrowers but are tight nonetheless.
The current conditions encourage incentives to save and ensure that consumption growth is balanced. Gradual loosening in monetary policy alongside low risk appetite of both banks and borrowers is bringing about conditions for a gradual transition from a savings behaviour model to consumption growth.
Economic activity. According to Bank of Russia estimates, Q3 GDP growth continued in line with the forecast. Farm output increased while mechanical engineering output, freight turnover and the production of durable consumer goods all showed a positive trend. The recovery in consumption is becoming steadier. Consumer demand is shored up by real wage growth driven by inflation slowdown. Unemployment is at a level at which it does not affect inflation.
The Bank of Russia’s estimate of the economic development path throughout 2017 and in the medium term has remained unchanged.
Inflation risks. A number of factors bear the risk of inflation deviating from the target both upwards and downwards. On the short-term horizon, among these factors are food price movements triggered by the supply of farm produce. In the forthcoming months, food price growth will largely depend on crop quality and preservation. Price movements on global commodity markets pose a risk in the medium term if they deviate considerably upwards and downwards from the forecast. The fiscal rule will set off the impact of external economic conditions on inflation and the domestic economic environment as a whole.
Medium-term risks of inflation overshooting the target dominate over the risks of its persistent downward deviation. The main risk sources of inflation overshooting the target in the medium term remain unchanged. First, increasing structural labour shortage may cause labour productivity growth to considerably lag behind wage growth. Second, inflationary pressure may stem from households’ shrinking propensity to save. Third, inflation expectations remain elevated and subject to fluctuations caused by movements in prices of certain goods and services and the exchange rate.
Given the balance of risks for inflation the Bank of Russia’s ongoing transition from moderately tight to neutral monetary policy will be gradual.
Moving forward, the Bank of Russia’s key rate decisions will be based on its assessment on the balance of risks for inflation significantly and persistently deviating in either direction from the target, as well as the dynamics of economic activity against the forecast. The Bank of Russia Board of Directors leaves open the option of further rate reduction at its upcoming meetings.
The Bank of Russia Board of Directors will hold its next rate review meeting on
15 December 2017. The Board decision press release is to be published at 13:30 Moscow time.”