Russia's first weekly deflation in years could facilitate key rate cut

Russia's first weekly deflation in years could facilitate key rate cut
Russian inflation is falling slowly again #bneChart
By bne IntelliNews August 4, 2016

Weekly consumer prices in Russia shrank for the first time since September 2011, which is good news for the Central Bank of Russia (CBR) and its fight against inflation.

Russian CPI posted a 0.1% w/w deflation on the week from July 26 to August 1, according to a data release by RosStat statistics agency on August 3. Russian consumer prices usually contract in the summer months after many retreat to their dachas for the long summer holiday and grow their own food.

The weekly decline of consumer prices will help the CBR which wants to cut rates to encourage a return to growth, but has made it clear that it will not cut rates at the cost of allowing inflation to rise. The regulator decided not to lower the key interest rate  from 10.5% at its policy meeting in July despite an economic contraction of 0.9% over the first half of 2016 y/y.

In previous three weeks w/w inflation amounted to 0.1%. M/m and d/d indicators posted 0% growth, but are negligible as only one day on the reporting week was in August.

“The sharp shift to a decline in CPI at end July came as a positive surprise,” Gazprombank said on on August 4, attributing the deflation to weaker consumer demand, tight budget execution, absence of exchange rate shocks, all amid seasonal deflation in fruits and vegetables. 

As of August 1 annual inflation amounted to 7.1% y/y, RosStat estimated, inching below the 7.2% annual inflation rate estimated by the Central Bank of Russia on July 29 when it decided to keep the key interest rate on hold at 10.5%.

The decision to hold off on monetary easing  at the last meeting was expected amid slightly intensified inflationary pressures and reinforced CBR's position as a conservative inflation-minded regulator. It also asserted the central bank's independence under governor Elvira Nabiullina amid recent Kremlin demands to use monetary instruments to weaken the ruble.

In the press release accompanying the decision, the central bank focused on inflation and the influence of the latest economic trends on inflationary dynamics.

The CBR commented that despite inflation, "generally being in line with base-case targets", core and seasonally-adjusted inflation stopped the downward trend. At the same time, weak domestic demand, slower tariff indexation, and a strong grain crop in the autumn are expected to bring inflation down again.

According to previous RosStat reports, inflation in June accelerated to 7.5% y/y from 7.3% y/y in March, April and May.

“Given the w-o-w statistics, we estimate m-o-m inflation in July at 0.5-0.6%, down from 0.8% a year earlier,” Sberbank CIB estimated on August 4, adding that y/y inflation probably slowed to 7.2-7.3% y/y as of end July from 7.5% y/y at end June.

The CBR still expects annual consumer price growth to slow to 5% by July 2017 and to 4% by the end of 2017, in "conditions of preserved moderately tight monetary policy".

The next meeting of the CBR will be held on September 16. Gazprombank previously saw the pause in the monetary easing as creating an opportunity for some slowdown of inflation to levels below 7.0% y/y by September.

“The w-o-w deflation at the end of July increases the likelihood of very low inflation (or even deflation) in August, when agricultural output is likely to rise,” Sberbank argues. This would significantly increase the likelihood that y/y inflation will come at 6% or lower in 2016, and could prompt the CBR to start cutting rates again when it meets on September 16, the bank believes.

Even usually the most conservative Alfa Bank in note to clients on August 4 allowed for a possible policy rate cut in September given strong 0.3-0.4% m/m deflation in August, “all things being equal”. 

“We reiterate our view that deceleration of CPI below the 7.0% y/y level would create an opportunity for the CBR to cut the key rate by 50 bps at its September 16 meeting,” Gazprombank also argues, but still warns of inflationary pressures on the fiscal side.

Alfa Bank, in turn, sees risks in the rapid nominal salary growth in January-June, which “dictates that we maintain a cautious view on the strength of the deflationary trend this and next month”. 

Gazprombank believes that “the potential for a key rate cut this year is limited to 50bp vs. market expectations of 100-150bp”.