After the key interest rate was raised dramatically and urgently to 17% per annum in December 2014, two months later (on 2 February 2015) the Central Bank of Russia started to lower it quickly (by 1.0 p.p.-2 p.p) though the headline inflation kept speeding up. The maximum was attained in March 2015 when consumer prices rose by 16.9% against the respective period of the previous year; the only exception was the indicators of January-February 2002.

The rate of easing of the monetary policy was reduced by the regulator only in July 2015 when the key rate was cut by 0.5 p.p to 11% per annum with the headline inflation speeding up in August to 15.8% against the respective period of the previous year. In that period the regulator set for the first time a rather ambitious goal to reduce the rate of inflation to 4% by the end of 2017. The next steps to ease the monetary policy were taken by the Central Bank of Russia only in July and then in September 2016 when decisions to reduce the key interest rate by 0.5 p.p. were approved. It is to be noted that from 19 September 2016 it remains at the level of 10% per annum despite more than twofold slowdown of growth rates of consumer prices (in October 2016 their growth exceeded 6.1% against the respective period of the previous year).

Speaking at the plenary meeting of the State Duma, Elvira Nabiulina clearly outlined short-term plans, having declared that in the next 1.5 years the regulator was planning to carry out a moderately tough monetary policy by maintaining interest rates in the area of positive values, that is, at the level exceeding the consumer price dynamics. It is crucially important that the Chairman of the Russian Central Bank attributed both depreciation of the ruble and the expected higher attractiveness of currency deposits or, in other words, growth in dollarization of the Russian economy to factors which were behind substantiation of inexpediency of dramatic cuts in the key interest rate that were able to produce only a short-term positive effect on the economy. It is to be noted that the Central Bank of Russia does not call into question further reduction of interest rates claiming only that there is a need of pursuing a weighted policy of interest rate cuts following the rate of inflation.

Also, it is noteworthy that reduction of interest rates can weaken households’ saving activities as households’ funds placed on bank accounts are traditionally the source of formation of the resource base of credit institutions and, consequently, financing of investment activities. It is to be noted that in the pattern of credit institutions’ liabilities the share of households’ funds rose from 30.7% as of the end of December 2015 to 32.6% as of the end of October 2016. If the outflow of households’ funds from bank deposits results in credit institutions’ higher demand on borrowed funds of the Central Bank of Russia, dollarization of deposits will lead among other things to inefficiency of the monetary policy’s transmission mechanism.

In addition to the above, experience shows that as compared to currencies of leading developing countries which target inflation the Russian ruble is more sensitive to changes in the US Federal Reserve’s monetary policy. In response to appreciation of the federal fund rate in December 2015, the Russian ruble depreciated by 10.8% in January-February 2016 as compared to December 2015, while Mexican peso, South African rand and Brazilian real, by 8.7%, 5,2% and only 2.7%, respectively, in similar terms. Throughout 2016, in postponing an interest rate increase representatives of the US Federal Reserve repeatedly declared their readiness to raise it “literally” at their next meetings. Probably, the above factor is behind tensions on the global financial market and determines the vector of central banks’ policy, primarily, that of leading developing countries.
The situation on global financial markets got much worse after the Brexit referendum when first the Bank of England and the European Central Bank and then the Bank of Japan made a decision to ease the monetary policy. Also, there is a lack of harmony in activities of central banks of developing countries which factor points to existence of high uncertainties. So, for example, if in 2016 the key interest rate was raised in Mexico and South Africa from 3.25% to 5.25% and from 6.25% to 7%, respectively, in Indonesia and India it was cut to 6.5% and 6.25% per annum, respectively. However, in all the developing countries key interest rates remain in the area of real positive values and exceed growth rates of consumer prices

According to the data of the CME Group, 92.7% of surveyed experts expect that on 14 December 2016 the US Federal Reserve will raise the federal fund rate by 0.25 p.p. to 0.5%-0.75% per annum. Depreciation of the US dollar both against currencies of developed countries and some developing countries points to the fact that speculative sentiments of economic agents are on the rise in expectation of changes in the US Federal Reserve’s monetary policy. So, as compared to December 2015 in October the cost of the US dollar against the euro, the Japanese yen, the Brazilian real, the South African rand and the Indonesian rupee depreciated by 1.4%, 14.4%, 17.7%, 6.8% and 6.0%, respectively. In such a situation, raising by the US Federal Reserve of the federal fund rate will inevitably result in adjustment of exchange rates of currencies of both developed and developing countries.

It is clear that currencies which appreciated a great deal against the US dollar in 2016 will be subjected to substantial adjustments. Those currencies include the Russian ruble which exchange rate against the US dollar appreciated by 10% in January-October 2016 as compared to December 2015. Though the above trend is related to some extent to the effect of fundamental factors which include not only the end of recession (by the estimate of the Russian Central Bank in Q3 GDP grew by 0.1% quarter on quarter), but also reduction of capital flight from Russia, a federal fund rate increase may contribute to reversal of the exchange rate trend and substantial appreciation of the US dollar against the Russian ruble. In such a situation, dramatic cuts in the Russian Central Bank’s key interest rate will only increase currency risks that were steadily declining in the 2015-2016 period.

Аnna Kiyutsevskaya, Researcher