Russia’s macro: CBR promises more rate hikes despite moderate growth, lower inflation

RUSSIA ECONOMICS - Report 08 Apr 2021 by Evgeny Gavrilenkov and Alexander Kudrin

As Russia’s y-o-y inflation has remained high in recent months, the Central Bank of Russia has become more hawkish. After the 25 bps rate hike at its latest meeting, it warned of more hikes this year. Historically, the key rate was usually a few months behind inflation, especially at tipping points. This is not the first time the CBR has provided some kind of forward guidance so that several months later it might start sending different messages and acting differently.

By the end of 2021 inflation can get close to the 4% current target, and it will decline further in 2022. Historically the CBR has not yet tried to hike the rate amid decelerating inflation. This year, however, the regulator could attempt to make another 25 bps move up – just to try to show that it is sticking to its earlier guidance – but it makes little sense. At some point the CBR may reconsider its current hawkish vision on the key rate, including its desired nominal and neutral levels.

* The most recent hints from the CBR suggest that the regulator sees the neutral mid- to-long-term level for the key rate at 6-7% while inflation is targeted at 4%, meaning the real key rate varying between 2% to 3%, and the output gap should be at zero level under these assumptions.

* Russia's statistics show that the deceleration of economic growth (to below potential) may not necessarily cause inflation to decelerate as well, and vice versa – accelerating growth (above potential) may not necessarily be causing higher inflation.

* The pandemic is not over yet and, despite the current optimism, the risks of another phase coming cannot be ruled out, which is one more reason not to tighten monetary policy too much. Russia's economic recovery is expected to be moderate this year, and could even be fragile. The expected 3.2-3.3% GDP growth this year does not look like a great achievement in the aftermath of the 3.0% contraction last year.

* This year's federal budget expenditures are expected to be lower than in 2020, and the inflationary effect of the budgetary spending should diminish. The y-o-y inflation rate is expected to decline in April, then it is likely to stay relatively flat or decline further, but only slightly, in the summer. In 4Q21 inflation is expected to decelerate faster irrespective of the CBR decisions on the key rate.

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