CBR keeps rates on hold at 7.5% but warns of hikes later as inflation pressures rise

CBR keeps rates on hold at 7.5% but warns of hikes later as inflation pressures rise
CBR keeps rates on hold at 7.5% but warns of hikes later as inflation pressures rise and expects inflation to end this year at 4.5–6.5% before falling to 4% next year. / bne IntelliNews
By Ben Aris in Berlin June 9, 2023

The Central Bank of Russia (CBR) kept its interest rates on hold at 7.5%, as expected on June 9, but has taken a more hawkish stance by highlighting increased risks of inflation, the bank said in a statement. (chart)

“[The CBR] delivered an even more hawkish message as it said that pro-inflation risks have increased further and that it will consider the need to hike rates at its upcoming meetings,” Liam Peach, an emerging market economist with Capital Economics, said in a note.

The CBR said in a statement that it “holds open the prospect of increasing the key rate at its next meetings” to stabilise inflation close to its target rate of 4% in 2024 and further on.

Capital Economics maintained a view that the CBR will hike rates by 50bp to 8% in the second half of this year on rising inflation pressures.

After running double digit inflation since March last year, just after the war in Ukraine started, inflation quickly peaked the next month at 17.8%. However, an emergency rate hike to 20% immediately imposed by the CBR rapidly brought inflation down to 11% as of this February. Inflation stepped down again to 3.5% this March as the low base effects of the start of the war a year earlier kicked in and is currently at a three year low of 2.3% in May.

“Today’s decision was expected by all analysts polled by Refinitiv. Actual inflation developments have been favourable for the central bank as the headline rate fell to a joint three-year low of 2.3% y/y in April, far below the central bank’s 4% target. It remains a puzzle as to why actual price pressures have been so soft in Russia recently, but the CBR seems to be looking through this and is clearly focusing on risks to the inflation outlook,” says Peach.

The CBR is expecting the low base effects to wear off as the year progresses and inflation to start rising again in the second half of this year and targets inflation of 4.5–6.5% in 2023 before returning to 4% in 2024.

The CBR warned in its most recent economic update that inflation pressures were rising, driven by rising corporate borrowing, domestic investment as companies retool to take account of the new sanctions on technology and equipment, and rising real incomes that are bolstering consumption. Indeed, the central bank warned that Russia’s economy might be “overheating.”

“Current price growth rates, including the stable indicators of inflation, continue to increase. Inflation expectations of households and businesses’ price expectations remain high. Economic activity is rising faster than the Bank of Russia’s April forecast assumed, which in large measure reflects a strong rebound in domestic demand. Accelerating fiscal spending, deteriorating terms of foreign trade and the situation in the labour market remain pro-inflationary risk drivers. The overall balance of inflation risks has tilted even more to the upside,” the CBR said in a statement.

In its statement, the CBR highlighted other inflation risks including increasing fiscal spending, deteriorating foreign trade conditions, and the extremely tight labour market where the unemployment rate is currently at a post-Soviet low of 3.3%. At the same time inflationary pressures are spreading across a broader range of goods and services.