On Friday, 27 April, the board of directors of the Russian Central Bank had held the third meeting on monetary policy this year and decided to keop the key rate at 7.25%. This move was expected by most analysts.

The Central Bank commented that RUB weakening this April amid geopolitical tensions could accelerate CPI  towards 4%. At the same time, the regulator does not see upside risks to its inflation target. It maintained the inflation forecast at 3-4% by the year end and at around 4% for 2019.

The regulator sees a lower potential for the key rate cuts within a neutral monetary policy due to increased interest rates in the developed markets and higher country’s risk premium for Russia. Earlier, the Central Bank cut the key rate 5 times in a row, including by 25 bp to 7.25% at the previous meeting, on 23 March, which also met analyst expectations. At the time of those cuts the regulator indicated that inflation stayed at a sustainably low level with the forecast of 3-4% by the year end, but noted an inflation risk stemming from the labour market. The Central Bank expects to switch to a neutral monetary policy by the end of this year.

Uncertainties amid shocks

Most economists believe the regulator had to put on hold the rate cuts due to increasing external economic uncertainties amid toughening US sanctions against Russian businessmen, officials and companies. Only 3 of 36 analysts who spoke to Bloomberg expected the rate reduction by 25bp to 7%, which is the upper limit for the neutral range set by the Central Bank.

The Central Bank also mentioned a possible slowdown in rate cuts. “I think the rate reduction pattern will correct upwards a little and the reduction speed will be lower vs what we planned earlier but how much lower is still to be seen and this will again depend on the forecast for all other parameters,” Ksenia Yudaeva, first deputy chairperson of the Russian Central Bank, told reporters in Washington on 19 April.

“Most likely, the Central Bank will  pause and keep the rate at 7.25% since the economy’s reaction to shocks following a new sanction package on 6 April is not clear yet,” says Stanislav Murashov, an analyst at Raiffeisenbank. “We do not expect a rate cut. The Central Bank needs time to see how the higher market volatility will impact inflation forecasts and inflationary expectations”, added Oleg Kuzmin, chief economist for Russia and CIS at Renaissance Capital. “The Central Bank, like anybody else, does not clearly understand the sanctions’ effect on macro economy and inflation,” concludes Kirill Tremasov, analytical department director at Locko Invest.

There are other factors indicating that no drastic actions should be expected from the regulator, e.g. the upcoming domestic political events, which are the president’s inauguration and the subsequent government reshuffle. Another thing that will keep the interest rate unchanged is uncertainly regarding the government steps following its reshuffle in May, in particular concerning tax innovations and the budget policy, Kirill Tremasov says.


Drivers of monetary easing

At the same time, domestic economic factors support a rate cut. Expectations of unchanged rate at 7.25% were based on the market volatility but not on economic statistics, according to analysts from VTB Capital, who forecasted a rate cut to 7%. All factors outlined by Central Bank Chairperson Elvira #Nabiullina as the main conditions for the monetary policy easing  stay unchanged, experts were quoted as saying.

“The Central Bank will most likely cut the rate to 7%, the current inflation level and the recent inflationary expectation dynamics would support this decision,” Darya Isakova, chief economist at Sova Capital, says. She commented that weekly inflation following the rouble weakening remained at 0.1% for two weeks in a row, and inflationary expectations of the population decreased notably in April. Even taking into account statements from Ms. Yudaeva on a lower possibility of rate reduction, we still see factors favouring a 0.25bp move. “If it were not for external risks, the Central Bank could continue rate cuts but at the moment it is more reasonable to make a pause,” says Natalia Orlova, chief economist at Alfa Bank.

Analysts believe the rouble rate volatility in April was a temporary phenomenon and had a minor impact on the regulator’s decision. Following the new round of sanctions announced by the US Treasury on 6 April, and plummeting markets in the following several days, RUB dropped to 80 per euro and 65 per USD but then the rouble recovered the losses once the The Washington Post reported that US President Donald Trump postponed further sanctions against Russia. Thus, the rouble weakening on a monthly basis was not significant, no more than 5-6% as of 25 April, according to Stanislav Murashov.

Prior to the Central Bank meeting, RUB depreciated on Wednesday and Thursday, and market players could see no objective reasons behind this dynamics. On Wednesday and Thursday the dollar rate increased by RUB1 to 62.7 but then on Friday the rouble strengthened a bit. “The current wave of rouble weakening is mainly based on temporary factors, and the dollar rate will not go up to peaks seen at the beginning of April. Moreover, the Finance Ministry continues to buy hard currency”, Darya Isakova was quoted as saying.

Analysts believe the rouble rate will be stable in the longer run. “The rouble will be strengthening in May. The Finance Ministry recently almost doubled its currency purchases following a stop of its operations in the market in the middle of the month. But in the middle of May the volumes will return to normal levels and, unless we see some negative external events, the rouble could potentially strengthen to 60 per USD,” says Natalia Orlova. Another interviewee, Egor Susin, head of the strategic development centre at Gazprombank, the rouble currently is in a quite comfortable position. “I do not expect the rouble to go below 60 per dollar in the following at least 6 months and, unless there are unexpected events at the year end, it will remain in the current range of 60-65 per dollar while some RUB appreciation is possible by the fourth quarter”, he forecasts.

The regulator’s further steps will depend on the economic implications of the April shocks. If the rouble weakening following the recent sanctions has a limited impact, which is quite possible after the change in US administration rhetoric, then the Central Bank will most likely cut the key rate going forward, says Maksim Timoshenko from Russian Standard. He forecasts the key rate at 6.50%-6.75% by the end of this year. Susin from Gazprombank adds that local factors will have a rather big weight now but by the year end the regulator will continue rate cuts. His forecast for the year end is also around 6.5-6.75%.