Russia Hawks Brace for Frustration as Inflation Takes Back Seat

  • Credit Suisse says Bank of Russia should tighten policy
  • Traders betting on biggest rate increases since December

Even the most hawkish of Russian economists urging the central bank to raise interest rates don’t believe it will.

Policy makers are prioritizing the economy and are less worried about the higher inflation that will follow the ruble’s plunge to a closing low this week, according to Alexey Pogorelov, an economist at Credit Suisse Group AG. He was one of five analysts who forecast the central bank would hold its key interest rate in July when policy makers cut by 50 basis points.

Ruble's drop threatens to spur inflation, prompting calls to tighten monetary policy
Ruble's drop threatens to spur inflation, prompting calls to tighten monetary policy

“Monetary-policy tightening would be the most appropriate measure to support the ruble at the moment,” Pogorelov said by e-mail on Tuesday. At the same time, “it looks like nobody wants a repetition of the 2014 rate-hike experience,” he said, referring to the 650 basis-point emergency increase to halt the ruble’s slide in December.

While traders are showing the biggest bets for higher rates since that move, no economists agree. Instead, they see Russia staying focused on keeping borrowing costs low to rescue the economy from its worst recession since 2009. Far from being a problem, the ruble’s depreciation is an economic aid as it increases earnings from crude exports when converted from dollars and boosts competitiveness.

Inflation Woes

The policy is short-sighted, say Pogorelov and the rate hawks. Inflation is forecast to reach 12 percent by year-end, according to the median estimate of 23 economists polled by Bloomberg. That compares with 11.4 percent last December and 6.2 percent before Russia’s annexation of Crimea in March 2014. After staying unchanged since July, consumer prices grew 0.1 percent in the week to Aug. 24, statistics data showed Wednesday.

“Both the government and the central bank are running too accommodative of a policy that isn’t consistent with inflation targets,” Pogorelov said. That’s “putting at risk the stability of the financial system,” he said.

While hoisting borrowing costs helped the ruble rebound 9.8 percent in the first half, the most worldwide, monetary authorities don’t want to repeat that tactic and their focus has shifted toward alternative measures, such as "soft capital control," Pogorelov said. Prime Minister Dmitry Medvedev sought to calm currency traders at the weekend, saying exporters will start selling hard currency in the very near future to support the ruble rate.

Different Situation

The key difference between the current retreat and the drop in December is that the most recent spate of weakness is purely due to tumbling oil, whereas in December it was companies and individuals buying foreign currency that drove the rout, according to Dmitry Polevoy, the chief Russia economist at ING Bank Eurasia JSC in Moscow.

The ruble weakened 0.9 percent to 69.499 as of 5:13 p.m. on Wednesday, extending its drop this quarter to 20 percent compared with a 32 percent slump in the price of Brent.

A rate increase would be "harmful" and it makes no sense to resist pressure on the ruble from falling oil, said Evgeny Gavrilenkov, an economist at Sberbank CIB in Moscow. The central bank stopped defending the currency in November by switching to a freely floating exchange rate to conserve its foreign reserves.

Forward-rate agreements show derivative traders pared their bets for rate increases in the next three months to 22 basis points on Tuesday, compared with 46 basis points the day before. The Bank of Russia reduced benchmark borrowing costs 600 basis points to 11 percent this year.

“There are indeed risks of a rate hike, but I think the central bank would only use this tool if the situation in the currency market deteriorates further, for example, if the population will begin massively buying up dollars,” said Yury Tulinov, head of research at Rosbank PJSC. “So far, the reasons for the ruble’s drop are primarily global.”

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