The Bank of Russia decided to reduce the key rate from 10.50 to 10.00% p.a

On 16 September 2016, the Bank of Russia Board of Directors decided to reduce the key rate from 10.50 to 10.00% p.a. given the inflation slowdown, in line with the forecast, decrease in inflation expectations and unstable economic activity. However, for the trend towards sustainable decline in inflation to strengthen, according to the Bank of Russia’s estimates, the current value of the key rate needs to be maintained till end-2016 with its further possible cuts in 2017 Q1-Q2. Considering the decision made and persistent moderately tight monetary policy, the annual consumer price growth will stand at 4.5% in September 2017 and will then go down to the 4% target in late 2017. When making its key rate decisions in the coming months, the Bank of Russia will assess inflation risks alongside economy and inflation dynamics’ consistence with the baseline forecast.

In making the key rate decision, the Bank of Russia Board of Directors was guided by the following considerations:

First. Inflation has demonstrated a noticeable decline in line with the Bank of Russia’s baseline forecast. By estimates, the annual consumer price growth fell to 6.6% as of 12 September 2016 compared to 7.2% in July. However, the inflation slowdown was specifically shaped by the ruble dynamics amid more favourable external economic environment than expected earlier. The reluctant slowing in non-food goods price growth observed at this juncture signals the weakening in the disinflationary effects on the part of the domestic demand. Over recent months, seasonally smoothed indicators of consumer price monthly growth remained elevated. Keeping the key rate at 10.00 % p.a. during a rather long period of time will shape monetary conditions conducive for the trend towards a further persistent slowdown in inflation under the influence of demand-side constraints. Ruble stabilisation and the good harvest outlook will also contribute to lowering consumer price growth. This will install conditions for a further drop in inflation expectations. Considering the decision made and persistent moderately tight monetary policy, the annual inflation, as forecast by the Bank of Russia, will be around 4.5% in September 2017 to reach the 4% target by late 2017.

Second. The Bank of Russia expects that the decision made and maintenance of the key rate at the level it reached will bring down inflation expectations. At present, the structure of market interest rates by maturity and survey findings indicate that, in contrast to the Bank of Russia, market players forecast a faster drop in interest rates. Additionally, their end-2017 inflation forecasts exceed the 4% target of the central bank. In reality, the decrease of nominal rates has a limited capacity, and the economy will maintain moderately tight monetary conditions for quite a long period of time. This is implied by the need to keep positive real interest rates at the level supporting demand for credit that does not raise inflationary pressure and keeps incentives for saving.

Third. Persistent revival in production activity is still unstable and patchy across industries and regions. According to Bank of Russia estimates, the moderately tight monetary conditions do not hamper recovery in economy, whereas the main obstacles are caused by structural effects. The labour market tries to adjust to new economic conditions, and the unemployment remains stable and low. Import substitution steps up and non-commodity exports expand for certain items. Industry, including technology-intensive production types, discovers new opportunities for growth. Nonetheless, they fail to ensure an overall robust positive production dynamics. At the same time, certain industries stagnate or show slowdown in output growth, while investment continues to contract. More time is needed for positive trends to develop and get rooted. Positive quarterly GDP growth is possible in the second half of this year, however in 2017, GDP growth will not be high, staying below 1%. This forecast is based on the conservative assumptions of sluggish growth in global economy, average annual oil price staying around $40 per barrel and persistent structural constraints for the Russian economic development.

Fourth. The risks of failure to deliver the inflation at the 4% target in 2017 persist mainly due to the inertia of inflation expectations and potential weaker household saving motives. Specific fiscal consolidation measures, including wage and social payments indexation, remain uncertain over the mid-term horizon. Volatility in global commodity and financial markets may produce a negative impact on exchange rate and inflation expectations.

According to Bank of Russia estimates, to strengthen the trend to a steady decline in inflation the current key rate needs to be maintained till end-2016 with a possibility to cut it in 2017 Q1-Q2. Within the next months, the Bank of Russia will assess inflation risks and economy and inflation dynamics’ consistence with the baseline forecast.

The Bank of Russia Board of Directors will hold its next rate review meeting on 28 October 2016. The press release on the Bank of Russia Board’s decision is to be published at 13.30 Moscow time.

Interest rates on the Bank of Russia major operations

(% p.a.)

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