Russia Undoing Free Float a Sign to Investec of Wrong Path Taken

Russian monetary policy options are narrowing after the central bank took the “wrong path” by resuming foreign-currency purchases to build up its reserves, according to Investec Asset Management.

“It muddies the waters,” Grant Webster, a portfolio manager at Investec who helps oversee $2 billion in emerging market debt, said in an interview in London on Friday. “If you don’t have a floating currency and monetary policy is hindered because inflation is not falling as quickly, they can’t cut as quickly. And I think the central bank wants to cut.”

The Bank of Russia’s options are limited as it heads into a policy meeting on Friday after trying to combat the country’s first recession since 2009 with four interest-rate cuts this year. The ruble has lost more than 17 percent since the purchases began in mid-May, raising questions about the central bank’s pledge to avoid interventions on the foreign-exchange market unless the currency’s swings threatened financial stability.

“What the domestic economy really needs is looser monetary conditions so that we can stimulate demand in the economy and that’s what was going to come through falling rates,” Webster said. “Now the currency is getting weaker we might not get that full recovery in inflation that we were hoping for.”

Free Float

The central bank allowed the ruble to trade freely last year amid Russia’s worst currency crisis since 1998. It’s the world’s worst performer globally since May 13, when the Bank of Russia announced plans to buy as much as $200 million daily to rebuild reserves to $500 billion. It spent about $88 billion propping up the ruble last year.

The ruble slumped to the weakest in four months, losing 1.9 percent to 59.51 versus the dollar as of 3:09 p.m. in Moscow.

“All of a sudden you’ve got two monetary policy tools: you’ve got the currency and you have got policy rates,” Webster said. “It just makes it more difficult. It makes their management policy more unclear.”

Policy makers will cut their key rate by a half point to 11 percent at their July 31 meeting, according to the median of 33 estimates in a Bloomberg survey. The central bank has already lowered the benchmark by a cumulative 5.5 percentage points this year following an emergency increase in December.

The key rate will be cut by 50 basis points on Friday and fall to 10 percent by year-end, according to Investec. Inflation, which slowed to 15.3 percent from a year earlier in June, will end 2015 at 11 percent to 12 percent, Webster said.

Policy Rift

Investec is adding a critical voice to the debate over the policy shift, with the central bank defending the interventions as compatible with a free-floating exchange rate. While the ruble’s weakness is helping offset the budget revenue lost because of lower energy prices, the decline is raising “question marks” about inflation, Webster said.

“It’s been disappointing to us to see the central bank suddenly take on this new approach to build reserves, which doesn’t fit with what they were trying to do over the last two or three years,” he said. “Now they want to give reasons why they want to make cuts when the ruble remains quite weak and inflation is not falling as fast as they anticipated.’ ’

The ruble isn’t completely free, according to Webster.

‘‘It’s quite volatile still and it’s well known to the market that, relative to oil, it’s going to be managed within a range,” he said.

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