Demand continues
to expand steadily

Current inflationary pressures have considerably intensified

The upward deviation of the economy from the balanced growth path is increasing

Deposits have become more attractive, lending is growing rapidly

The Bank of Russia will determine the key rate path to bring inflation back to 4% by the end of 2024 and sustainably anchor it there

Prices are growing rapidly. In the third quarter, seasonally adjusted consumer price growth averaged 12.1% in annualised terms, with all measures of persistent price pressures staying above 4%. The main factor driving inflation up is growth in demand which outstrips supply capacity. It explains why it is easier for companies to pass higher costs on to customers, resulting in part from a weaker ruble, into prices. Given higher price growth, the Bank of Russia has raised the 2023 inflation forecast to 7.0–7.5%. The decisions to raise the key rate will help bring inflation down to 4.0–4.5% in 2024 and anchor it at 4% further on.

Inflation, inflation expectations and Bank of Russia key rate

In the third quarter, economic activity grew rapidly, which was also reflected in accelerated price growth. Investment demand was the main driver of growth. Output expansion is significantly limited by labour shortages. According to the Bank of Russia surveys, two thirds of companies face this problem, primarily in the manufacturing industry. Whenever growth in demand cannot be quickly satisfied by an expansion in output, demand will lead to price growth rather than to an increase in consumption. Taking into account the incoming data, the Bank of Russia has raised the 2023 economic growth forecast to 2.2–2.7%. GDP is projected to rise by 0.5–1.5% in 2024 and by 1.0–2.0% in 2025.

The Bank of Russia doubled the key rate (from 7.5% to 15% p.a.) between July and October. Higher interest rates make it possible for individuals to offset the costs of high inflation. As a result, their demand for bank deposits is also growing. In addition to the transfer of funds from current accounts to time deposits, banks note the inflow of previously withdrawn cash. Different segments of the lending market are adjusting to the monetary tightening cycle at different paces. Unsecured consumer lending already sees signs of cooling, whereas mortgage and corporate lending are expanding apace despite monetary tightening. This is due to subsidized mortgage programmes and high price expectations of companies. Due to the above-mentioned factors, borrowers do not regard lending conditions as tight. Taking these trends into account, the Bank of Russia has raised its estimate of growth in lending to the economy for 2023 to 17–20%. Further on, lending will slow down to 5.0–10.0% in 2024.

OFZ yields and Bank of Russia key rate, % p.a.

Proinflationary risks remain substantial over the medium-term horizon. Persistently elevated inflation expectations and their further increase pose a significant risk. Widening labour shortage, broader fiscal stimulus and a possible slowdown in the global economy remain substantial proinflationary risks. Intensified current inflationary pressures will necessitate higher key rate path to return inflation back to the target at the end of 2024. According to the revised forecast, the average key rate for 2023 has been revised up to 9.9% p.a. (the average rate is 15.0–15.2% p.a. from 30 October until the end of 2023) and to 12.5–14.5% p.a. for 2024. As in the next few years, fiscal policy will be in general more accommodative than previously expected, the Bank of Russia has also raised its estimate of the neutral key rate to 6.0–7.0%.

Bank of Russia annual key rate, % per annum