The Bank of Russia cuts the key rate by 25 bp to 6.25% p.a.

On 13 December 2019, the Bank of Russia Board of Directors decided to cut the key rate by 25 bp to 6.25% per annum. Inflation slowdown is overshooting the forecast. Households’ inflation expectations continue to decrease. Price expectations of businesses remain overall unchanged. The growth rate of the Russian economy increased in Q3; however, its stability has yet to be assessed. Risks of a substantial global economic slowdown persist. Disinflationary risks still exceed pro-inflationary risks over the short-term horizon. Given the monetary policy stance, annual inflation will come in at 3.5–4.0% in 2020 and will remain close to 4% further on.

If the situation develops in line with the baseline forecast, the Bank of Russia will consider the necessity of further key rate reduction in the first half of 2020. 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 slowdown is overshooting the forecast. The annual consumer price growth rate declined to 3.5% in November (from 3.8% in October 2019) and was close to 3.4% according to the estimates as of 9 December. November results show that annual core inflation also decreased to 3.5% as compared to 3.7% in October. According to the Bank of Russia’s estimates, inflation indicators reflecting the most sustainable price movements are close to or below 4%. The Bank of Russia forecasts that inflation will range between 2.9–3.2% at the end of 2019.

In November, disinflationary factors continued to exert considerable influence on inflation. Annual growth in prices of food products and non-food goods continued to decline. Such one-off factors as a good harvest and expanded supply in individual food market segments help maintain low growth rates of food prices, seasonally adjusted. The ruble appreciation since the beginning of the year alongside with inflation slowdown in Russia’s trading partners limits growth of import prices. Subdued demand continues to influence inflation, including external demand. However, inflation acceleration registered in November in the services sector where prices are determined by the market may point to a revival in consumer demand.

In November, households’ inflation expectations continued to decrease, while remaining elevated. Business price expectations remain overall unchanged. Annual inflation slowdown paves the way for a future decline in inflation expectations of households and businesses.

In accordance with the Bank of Russia forecast, given the monetary policy stance, annual inflation will come in at 3.5–4.0% in 2020 and will remain close to 4% further on. Meanwhile, annual inflation will be below 3% in 2020 Q1 when the effect of the VAT rate hike is factored out from its calculation.

Monetary conditions. Monetary conditions have continued to ease since the last Board meeting. OFZ yields and deposit and lending rates have been down. The Bank of Russia’s decisions to cut the key rate and the decline in OFZ yields create conditions for a further reduction in deposit and lending rates; this will support the expansion of corporate and mortgage lending. The Bank of Russia will assess the effect of the adopted key rate decisions on monetary conditions and inflation movements.

Economic activity. In 2019, the GDP growth rate may be close to the upper bound of the Bank of Russia forecast of 0.8–1.3%. This is primarily associated with a higher-than-expected GDP growth rate in Q3. However, the stability of such economic growth rates has yet to be assessed.

Domestic demand dynamics improved somewhat in Q3—Q4. A slight increase was registered in investment activity, among other things, on the back of a rise in budget capital expenditure. In October, the annual growth rate of retail trade turnover increased. Industrial production continued to grow in annual terms. However, leading indicators point to a still weak business sentiment in industrial sector, which is mostly specific of export orders. Economic activity continues to be constrained by weakening external demand for Russian exports on the back of a global economic slowdown.

The labour market creates no additional inflationary pressure. The fact that unemployment remains near historic lows is not driven by expanding labour demand but rather by a simultaneously contracting number of employees and the labour force.

In the second half of 2019, fiscal policy started to encourage economic growth on the back of, among other things, the implementation of national projects planned by the Government. Going forward, the rise in government expenditures, including investment ones, will contribute to economic growth.

The Bank of Russia has left the 2020–2022 GDP growth forecast unchanged. The GDP growth rate will gradually increase from 0.8–1.3% in 2019 to 2–3% in 2022. This will be possible should the Government’s measures for overcoming structural constraints, including the implementation of national projects, be realised. However, reduced global economic growth expected over the forecast horizon will continue to exert a constraining impact on growth of the Russian economy.

Inflation risks. Disinflationary risks still exceed pro-inflationary risks over the short-term horizon. This is primarily related to the state of domestic and external demand. Disinflationary risks associated with movements in prices of certain food products persist, including on the back of a rise in supply of farm produce.

Meanwhile, pro-inflationary factors should be taken into consideration. Risks that food market trends may reverse cannot be ruled out, given that the ratio of temporary and permanent factors for this market is hard to estimate. At the same time, the monetary policy easing that has already been undertaken may have a stronger upward effect on inflation than the Bank of Russia estimates. Should the global economic slowdown be more pronounced, including due to tightening international trade restrictions and on the back of other geopolitical factors, this might lead to strengthened volatility in global commodity and financial markets, affecting exchange rate and inflation expectations. That said, pro-inflationary risks posed by budget expenditure growth in 2020 hold low because the rise in expenditures is likely to be distributed over time.

A number of internal conditions continue to pose pro-inflationary risks over a longer-term horizon. Significant risks are posed by elevated and unanchored inflation expectations. The mid-term inflation dynamics may also be affected by fiscal policy parameters, including decisions on the investment of the liquid part of the National Wealth Fund in excess of the threshold level set at 7% of GDP.

The Bank of Russia leaves mostly unchanged its estimates of risks associated with wage movements and possible changes in consumer behaviour. These risks remain moderate.

If the situation develops in line with the baseline forecast, the Bank of Russia will consider the necessity of further key rate reduction in the first half of 2020. 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 13 December 2019 the Bank of Russia released its medium-term forecast.

The Bank of Russia Board of Directors will hold its next key rate review meeting on 7 February 2020. The press release on the Bank of Russia Board decision and the medium-term forecast are to be published at 13:30 Moscow time.

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