Bank of Russia Raises Key Lending Rate to 7.5%

Central bank of Russia unexpectedly raised its one-week minimum auction repo rate by 50 basis points to 7.5 percent citing greater than expected impact of rouble devaluation on inflation.
Bank of Russia | 4/25/2014 10:59:56 AM
Extracts from Information Notice of Bank of Russia

On 25 April 2014 the Bank of Russia Board of Directors decided to raise the key rate to 7.5 percent per annum due to higher inflation risks. The probability of inflation exceeding the 5.0% target at the end of 2014 has increased substantially. This has been caused by more pronounced than expected pass-through effect of the exchange rate dynamics on consumer prices, the rise in inflation expectations, as well as unfavourable conditions in the markets for some goods. The Bank of Russia does not intend to lower the key rate in the coming months. The Bank of Russia estimates that the adopted decision would ensure the decline in inflation to no more than 6.0% by the end of 2014.

In March - April 2014, the year-on-year consumer price growth rate rose and stood at 7.2% as of 21 April 2014. Weekly inflation has persisted at 0.2%. Inflation acceleration has been mainly caused by the larger than expected impact of exchange rate dynamics. Unfavourable conditions in the markets for some goods, such as dairy products, sugar, pork, and petrol, also have contributed to higher inflation rates. Some additional inflationary pressure has come from a temporary surge in consumer demand for non-food goods amid the rise of inflation expectations. As a result, there was the increase in prices for a wide range of goods, including domestically produced goods, as well as services. In March 2014, core inflation accelerated to 6.0% from 5.6% in February.

The current economic slowdown is predominantly structural by nature and thus does not exert any noticeable downward pressure on inflation. Historically low unemployment rate constrains economic growth potential. Due to demographic trends the impact of this factor will persist in the long run. Utilisation of commercially viable production capacity remains relatively high. Labour productivity growth is sluggish, while fixed capital investment continues to contract because of declining profits in the real sector, limited access to long-term financing in both international and domestic markets, as well as low producer and consumer confidence. Uncertainty about international political situation also hampers production and investment. Besides, weak economic activity in most countries, which are Russia’s trading partners, restrains the economic growth of Russia. At the same time, persistently high oil prices have a stabilising effect on the domestic economy and public finance.

In March - April 2014, household rouble deposit rates began to grow. This was caused by the conversion of funds to foreign currency due to higher inflation expectations and by increasing bank funding costs, inter alia, as a result of the Bank of Russia’s decision to raise the key rate in March 2014. In addition, banks tighten lending conditions, in particular, by increasing loan rates. At the same time, weak economic activity restrains demand for loans and respectively curbs a rise of interest rates on loans.

Bank of Russia Raises Key Lending Rate to 7.5%