Ukraine central bank cuts key rate to 6%, its lowest level ever

Ukraine central bank cuts key rate to 6%, its lowest level ever
The National Bank of Ukraine will cut the key policy rate to 6% from June 12. / bne Intellinews
By bne IntelliNews June 11, 2020

The board of the National Bank of Ukraine (NBU) will cut the key policy rate from the current level of 8% to 6% from June 12.

This is the lowest level of the key policy rate since Ukraine gained its independence in 1991, the regulator said in a statement on June 11.

"Consumer and investment demand is most likely to remain subdued for longer than forecast in April. On the one hand, this will keep inflation below the target level for longer than projected in the April forecast. On the other hand, this means that the Ukrainian economy will face a deeper contraction than expected. This requires the central bank to continue its monetary policy easing in order to support the economy as the country gradually lifts quarantine measures," the central bank added.

The NBU has also decided to narrow its interest rate band on standing facilities, from the key policy rate +/- 2 percentage points (pp) to the key policy rate +/- 1 pp.

This means that with the new key policy rate, overnight refinancing loans will be issued at 7%, and overnight certificates of deposit will be placed at 5%. By changing the width of the band, the NBU will be able to achieve the operational goal of its monetary policy, which is to keep hryvnia interbank rates close to the key policy rate, and within the band of interest rates on standing facilities, according to the regulator.

In April, the NBU cut the key policy rate by 2 pp to 8%, "continuing to ease monetary policy. Together with other measures taken by the NBU, such as expanding its set of liquidity support tools and the introduction of preferential terms for borrowers by banks, this will provide the economy with the impetus required to provide support for households and businesses in these difficult times, and to ensure that business activity picks up quickly once the quarantine is lifted," the regulator said in a statement at the time.

The NBU said in the June 10 statement that inflation in April-May hovered around 2%, being lower than expected and below the target range of 5% ± 1 pp.

"Inflationary pressures remained weak primarily due to a significant drop in consumer demand for food and non-essential goods. Moreover, price growth was restrained by lower energy prices, increased supply of vegetables, and frozen prices for many services during the quarantine. These factors offset the effects of the hryvnia’s weakening in March and the sustained high demand for some goods in early April – these effects having completely vanished as of now," the regulator added.

Further on, inflation will grow moderately, albeit likely heading towards the target range more slowly than anticipated.

According to the NBU, consumer and investment demand remain subdued, although business activity has started to pick up gradually as the quarantine restrictions are eased. The fiscal and monetary policy measures taken with the aim of supporting businesses and households will only partially offset the decline in consumer demand. The recovery of consumer demand will be gradual even after the quarantine is lifted.

Secondly, the FX market, which has a major impact on the price of the basket of goods, is favourable for low inflation. Since the start of April, the supply of foreign currency on the interbank market has exceeded demand. Imports of goods remain below pre-crisis levels across almost all categories of goods, while exports are declining more slowly.

As a result, the hryvnia strengthened and since early April the NBU has used this opportunity to purchase around $1.8bn in order to increase international reserves. In this way, the NBU has become a net buyer of foreign currency since the start of the year, having compensated for the outflow of foreign currency from international reserves in March due to high demand for foreign currency.

Thirdly, inflation expectations are improving among households and financial analysts. According to the NBU, their current expectations of inflation in 12 months have aligned with the NBU’s medium-term target.

"At the same time, the NBU’s key assumption of continuing co-operation with the International Monetary Fund (IMF) has [been] implemented," the central bank added.