The spring of this year provided a big test of whether the fall in Russia’s inflation rate to an annualised rate of 2-2.5% which took place last year is indeed for real. The short answer is that it is.
As is well known oil prices have, somewhat unexpectedly, surged this year. Whilst this has been good news for Russia’s budget, which is now firmly in surplus, it is often overlooked that higher world prices for oil translates into higher gasoline and energy prices in Russia.
Russia’s economy is no longer run on autarchic lines, as it was during the Soviet period, and the Russian government no longer tries to fix or cap prices. On the contrary, it has a pronounced aversion to the practice.
That means that if the international oil price rises so do gasoline and energy prices in Russia.
A sharp rise in gasoline and energy prices duly took place in Russia this spring, which might once have translated into significantly higher inflation. This happened moreover during a period of rouble weakness, which might previously also have been expected to cause higher inflation.
That rouble weakness, which proved brief, was linked by the international media to the sanctions the US Treasury Department has imposed on the Russian businessman Oleg Deripaska and on his company Rusal.
Whilst the sanctions no doubt were a factor in causing the rouble to fall, the tightening of monetary policy in the US has had a big impact on the currencies of many of the world’s other emerging economies, with some like the Argentinian peso and the Turkish lira experiencing far steeper falls than the rouble has done.
In fact not only was the rouble’s fall relatively small, but it stabilised quickly and without the need for Central Bank intervention or an interest rate rise, casting doubt on whether Russia really is an ’emerging market’ economy as opposed to a developed economy.
More important however is that there has been no significant rise in inflation. The rate of price growth has remained steady at 0.1% for 14 straight weeks, and the annualised rate of inflation continues to be 2.4%, still well below the Central Bank’s 4% target.
Increases in gasoline and energy prices have been compensated for by price falls for other products (especially food products) and there is little sign that the rouble’s fall has increased inflationary pressures to any significant degree.
The Central Bank expects upward pressure on inflation to abate in June, though in its usual way it also predicts the annualised rate of inflation to grow in the third quarter for purely statistical reasons because of the base effect.
That may be true, but the more usual trend is for prices in Russia to fall in the summer, and the Central Bank has a history of overestimating the effect of the base effect.
As it happens the Central Bank has been consistently overestimating the inflationary pressures within Russia’s economy ever since the early summer of 2015. For example, it feared that the fall in the rouble in early 2016 caused by the further oil price fall in the first few months of that year would cause the inflation rate to rise again to double figures. Not only did that not happen but over the course of 2016 inflation instead continued to fall.
In fact it has been my consistent view that the Central Bank both could and should have brought interest rates down much more quickly than it did starting from the mid summer of 2015 in order to support the economy and to strengthen the recovery, and that this would not have had the negative effect on inflation that the Central Bank feared.
The one qualification I would make is that the Central Bank was probably right to hold rates steady at its last meeting earlier this spring.
With the mood febrile because of the oil price rise and the rouble fall, and with uncertainty about how the US’s sanctions policy would turn out, an interest cut at that time might have sent a wrong signal that the Central Bank was softening on its anti-inflation policy.
That might have had an unfortunate effect, putting more downward pressure on the rouble at a time when the rouble needed to be left alone to stabilise.
The Central Bank has been talking for some months now of the possibility of it moving this year from what it euphemistically calls its current “moderately tight monetary policy” – actually by far the toughest monetary policy amongst the G20 economies – towards a “neutral monetary policy”, ie. one where real interest rates are 2-3% as opposed to 5%, which they are now.
The latest news on the inflation front should give it the reassurance it needs that this is indeed the right thing to do. Not doing it will limit growth to no useful purpose, and will risk an even greater overshoot of the Central Bank’s inflation target than has already happened.
Recent comments from the Central Bank suggest that it is finally coming round to the same view, and that further interest rates cuts may indeed be on the way.
If so, with the budget in surplus, interest rates finally coming down, and most foreign debt paid off, economic conditions in Russia will become increasingly benign, paving the way for faster growth in a stable macroeconomic environment.