The Bank of Russia keeps the key rate at 4.25% p.a.

On 23 October 2020, the Bank of Russia Board of Directors decided to keep the key rate at 4.25% per annum. Inflation is developing in line with the Bank of Russia’s forecast and is expected to lie within the range of 3.9-4.2% at the end of 2020. The epidemiological situation globally and in Russia is worsening. The situation in external financial and commodity markets remains vulnerable; increased volatility can be expected to persist in the near future, including in view of geopolitical factors. Inflation expectations of households and businesses have increased which is largely related to exchange rate fluctuations. Although disinflationary risks still prevail over the medium-term horizon, the effect of short-term proinflationary factors has somewhat increased. According to the Bank of Russia’s forecast, given the current monetary policy stance, annual inflation will reach 3.5-4.0% in 2021 and will stabilise close to 4% later on.

If the situation develops in line with the baseline forecast, the Bank of Russia will consider the necessity of further key rate reduction at its upcoming meetings. In its key rate decision-making, the Bank of Russia will take into account actual and expected inflation dynamics relative to the target and economic developments over the forecast horizon, as well as risks posed by domestic and external conditions and the reaction of financial markets.

Inflation dynamics. Inflation is developing in line with the Bank of Russia’s forecast and is expected to lie within the range of 3.9-4.2% at the end of 2020. Consumer price movements are influenced by competing factors, including, primarily, the weakening of the ruble and, on the other hand, a slower recovery in domestic demand compared to the summer months. In this context, annual inflation rose to 3.7% in September (vs 3.6% in August). According to an estimate as of 19 October, it was 3.8%. According to Bank of Russia estimates, current consumer inflation indicators reflecting the most sustainable price movements are close to 4% (annualised).

Inflation expectations of households and businesses have increased which is mainly related to exchange rate volatility. Analysts’ expectations of inflation for the year ahead are somewhat below 4%, which reflects that disinflationary factors prevail. Their expectations are anchored close to 4% over a longer horizon.

The remaining downward deviation of the economy from its potential creates disinflationary pressure. This pressure can increase given the worsening epidemiological situation. At the same time, the risks of inflation substantially deviating downwards from the target in 2021 are limited owing to the considerable key rate cuts already made and the accommodative monetary policy pursued. According to the Bank of Russia’s forecast, given the current monetary policy stance, annual inflation will reach 3.5-4.0% in 2021 and will stabilise close to 4% later on.

Monetary conditions have generally softened since the previous meeting of the Bank of Russia Board of Directors. Loan and deposit rates mainly declined; lending expansion continued. Longer-term OFZ yields declined amid a certain stabilisation of financial and commodity markets, remaining close to the levels observed in the middle of this year. Apart from the key rate reduction, interest rates and lending dynamics are substantially influenced by the preferential programmes implemented by the Government and the Bank of Russia as well as by regulatory relaxations. When making its key rate decisions, the Bank of Russia will assess the impact of cancelling these anti-crisis measures on monetary conditions.

Against the backdrop of a substantial decline in interest rates, financial institutions, businesses and households are adjusting to changing financial market conditions. Saving models also continue to adjust, including with respect to the redistribution of funds across different financial market instruments. This process needs time to go smoothly, without creating risks for households, businesses and financial institutions. 

Economic activity. Flash indicators of economic activity point to a slowdown in the recovery growth of the Russian economy, which is largely related to the dynamics of domestic demand. The worsening epidemiological situation negatively influences the sentiment of households and businesses, potentially affecting both demand and supply. This can have both disinflationary and proinflationary effects. However, disinflationary pressure caused by weaker demand will prevail. Taking into account this factor and the Q2-Q3 data, the Bank of Russia has revised downwards its 2020 forecast of consumer and investment demand. At the same time, according to the Bank of Russia’s estimates, the Russian economy’s contraction in 2020 will be in the range of 4.0-5.0%, which is somewhat less than it was suggested in the July forecast. This is largely associated with the lesser than expected contraction of exports.

The recovery growth rate of the Russian economy in 2021 is estimated in the range of 3.0-4.0%. In 2022-2023, GDP is forecast to rise by 2.5-3.5% and 2.0-3.0%, respectively. The economic growth path will be largely influenced by the upcoming budget consolidation, further coronavirus pandemic developments across the globe and in Russia, as well as by the nature of the recovery of private demand in the context of potential change in consumer and business behaviour. The recent reduction in the key rate will continue to support the economy this and next year.

Inflation risks. Disinflationary risks still prevail over proinflationary ones over the medium-term horizon although proinflationary risks rose somewhat over the short-term horizon.

Disinflationary risks under the baseline scenario are chiefly connected with further developments in the coronavirus pandemic situation in Russia and globally, the scale of possible measures to fight it and their impact on economic activity, as well as the speed at which both the global and Russian economies will recover. Persistent changes in consumer preferences and behaviour, including a persistent higher propensity to save, might exert a constraining influence on inflation.

Short-term proinflationary risks are in the first place connected with stronger volatility in global markets, driven by various geopolitical developments, among other factors, which may have an effect on exchange rate and inflation expectations. Upward pressure on prices may also be caused by continuing temporary disruptions in production and supply chains, as well as by additional corporate costs of protecting staff and consumers from the spread of the pandemic.

Uncertainty remains as to rather long-term structural effects of the coronavirus pandemic for the Russian and global economies, specifically, the scale of a decrease in the potential of the national economy. Potential global growth may also come under marked pressure from geopolitical factors including rising trade conflicts. The extent of the Russian economy’s deviation from its potential is, in turn, the core driver of medium-term inflation movements.

Medium-term inflation is significantly impacted by fiscal policy. In its baseline scenario the Bank of Russia proceeds from the fiscal policy path reflected in draft Guidelines for Fiscal, Tax and Customs and Tariff Policy for 2021 and the 2022-2023 Planning Period.

If the situation develops in line with the baseline forecast, the Bank of Russia will consider the necessity of further key rate reduction at its upcoming meetings. In its key rate decision-making, the Bank of Russia will take into account actual and expected inflation dynamics relative to the target and economic developments over the forecast horizon, as well as risks posed by domestic and external conditions and the reaction of financial markets.

In the follow-up to the Board of Directors meeting of 23 October 2020 the Bank of Russia released its medium-term forecast.

The Bank of Russia Board of Directors will hold its next rate review meeting on 18 December 2020. The press release on the Bank of Russia Board decision is to be published at 13:30 Moscow time.

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