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Russia's central bank unexpectedly raises interest rate to 8.5%, more than expected

Russian central bank surprises with sharper-than-expected rate hike to 8.5% © Reuters. People walk past the headquarters of the Central Bank of Moscow, Russia, April 29, 2016. REUTERS/Maxim Zmeyev/File photo

By Elena Fabrichnaya, Alexander Marrow and Vladimir Soldatkin

MOSCOW (Reuters) – Russia’s central bank raised its key interest rate by more than expected by 100 basis points to 8.5 on Friday, as a weak ruble added to inflationary pressures from a tight labor market and strong consumer demand. Borrowing costs rise.

It was the first rate hike in more than a year by the bank, which had gradually raised rates to 20% after Russia sent armed forces to Ukraine last February, prompting Western sanctions on Moscow. The last rate cut to 7.5% was in September.

“Over the medium term, the risk of fueling inflation has increased significantly,” the bank said in a statement. “Growth in domestic demand has outstripped the ability to expand production, including due to limited labor resources.”

This has exacerbated persistent inflationary pressures, while the devaluation of the ruble this year “significantly magnifies inflation risks,” it said.

The central bank raised its year-end inflation forecast from 4.5-6.5% to 5.0-6.5%, currently slightly below 4%, and indicated that there is a possibility of further interest rate hikes in future meetings.

Surprising decision

The decision surprised analysts polled by Reuters, who had forecast a 50 basis point hike.

However, some analysts have revised their forecasts in recent days, expecting a bigger rise after this week’s inflation data showed a rise in household expectations for July inflation and an acceleration in weekly consumer prices in Russia.

“The well-than-expected 100% BP hike … underscores policymakers’ concerns about inflation risks,” said William Jackson, chief emerging markets economist at Capital Economics.

“While we do not think monetary tightening will continue to be so aggressive at subsequent meetings, we now expect at least 100 basis points of further rate hikes by the end of the year.”

Annual inflation has fallen below the central bank’s 4% target in recent months due to high base effects when inflation surged to its highest level in more than 20 years last year.

Inflation is currently at 3.86%, the Economy Ministry said this week, and is rising again.

Governor Elvira Nabiullina said “increased inflationary pressures are largely demand-driven”, pointing to the domestic tourism market and auto production as sectors where supply cannot keep up with demand.

Nabiullina said this demand pushed up imports, causing the ruble to weaken as exports fell.

Natalia Orlova, chief economist at Alfa Bank, said that given the other inflationary pressures mentioned that were already evident at the last central bank meeting on June 9, the rate hike looked like a reaction to money market conditions.

Nabiullina said the ruble has fallen sharply, but excess demand, labor shortages and supply constraints are key factors exacerbating the situation.

Pressure on the ruble has increased since a failed armed mutiny by Wagner’s mercenaries in late June. Risk appetite was also dampened by Moscow blaming Ukraine for attacks on Russian infrastructure.

Central Bank Governor Elvira Nabiullina will further elaborate on the bank’s forecasts and policy at a media briefing at 1200GMT.

The next rate setting meeting is scheduled for September 15th.



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