Russia's central bank on Tuesday increased its benchmark interest rate in an emergency move to try and halt the ruble's recent slide, which prompted a public call from the Kremlin for tighter monetary policy.
The decision to hike the key rate by 350 basis points to 12% came during an extraordinary rate meeting after the ruble plummeted past the 100 threshold against the U.S. dollar on Monday, dragged down by the impact of Western sanctions on Russia's balance of trade and as military spending soars.
The Russian currency has lost more than a third of its value since the beginning of the year. It pared gains after the decision to stand 0.3% weaker at 98.00 by 8:37 a.m. GMT, but still significantly above lows near 102 on Monday, which had not been hit since the early weeks after Russia invaded Ukraine.
President Vladimir Putin's economic adviser Maxim Oreshkin on Monday rebuked the central bank, blaming what he called its "loose monetary policy" on the weakening ruble.
He said the bank has "all the tools necessary" to stabilize the situation and that he expects normalization shortly.
Hours after Oreshkin's words, as the ruble dived toward the 102 mark against the dollar, the bank announced the emergency meeting, throwing the currency a lifeline.
"Inflationary pressure is building up," the bank said in a statement on Tuesday. "The decision is aimed at limiting price stability risks."
The bank said demand has exceeded the country's ability to expand economic output, increasing inflation and affecting "the ruble's exchange rate dynamics through elevated demand for imports."
"Consequently, the pass-through of the ruble's depreciation to prices is gaining momentum and inflation expectations are on the rise," it noted.
Though stopping the rot, analysts largely agreed that the move would not have a long-lasting impact.
"As long as the war continues it just gets worse for Russia, the Russian economy and the ruble," claimed Timothy Ash, senior EM sovereign strategist at Bluebay Asset Management.
"Hiking policy rates won’t solve anything – they might temporarily slow the pace of depreciation of the ruble at the price of slower real GDP growth – unless the core problem, the war and sanctions are resolved."
In its original statement, the central bank removed its usual hawkish guidance that it would consider future rate hikes, leading some analysts to speculate that interest rates had peaked.
But a little after the decision, the bank issued an additional statement, warning that another rate hike was possible.
"In the case of a strengthening of pro-inflation risks, an additional increase of the key rate is possible," the bank was quoted as saying by Russian news agencies.
Bank of Russia Governor Elvira Nabiullina has won plaudits for her handling of the economy since Russia began what it calls a "special military operation" in Ukraine, but the plunging ruble and high inflation have put her on the back foot, especially among pro-war nationalists.
The Kremlin's public criticism of her monetary policy adds further pressure as Russia heads toward a presidential election in March 2024, with consumers battling rising prices for basic goods.
"While such a depreciation risks boosting inflation, it is also the signal it sends out to the Russian public about the costs of the invasion of Ukraine," said Stuart Cole, a chief macroeconomist at Equiti Capital in London.
"As such, today's decision will likely have had an element of politics behind it as well as economics."
The bank last made an emergency rate hike in late February 2022 with a rate hike to 20% in the immediate fallout of Russia's despatching troops to Ukraine. The bank then steadily lowered the cost of borrowing to 7.5% as strong inflation pressure eased in the second half of 2022.
Since its last cut in September 2022, the bank had held rates but steadily increased its hawkish rhetoric, eventually hiking by 100 basis points to 8.5% at its last scheduled meeting in July. The next rate decision is due on Sept. 15.
Russia saw double-digit inflation in 2022 and after a deceleration in the spring of 2023 due to that high base effect, annual inflation is now above the central bank's 4% target once more and quickening.
In annualized terms on a seasonally adjusted basis, current price growth over the last three months amounted to 7.6% on average, the bank said.
Promsvyazbank analysts said an additional hike may be required if the ruble does not stabilize and that measures to reduce the ruble liquidity surplus were also needed.
Russia's widening budget deficit and stark labor shortage have contributed to rising inflationary pressure this year, but the ruble's rapid slide from around 70 against the dollar at the start of the year has pushed the central bank to act.
The bank, which blames the ruble's slide on Russia's shrinking current account surplus – down 85% year-over-year in January-July – has already tried to limit the ruble's decline.
Last week, it halted the Finance Ministry's foreign exchange purchases to try to reduce volatility, a step that effectively saw Russia abandon its budget rule. Analysts widely agreed that those measures alone were too minimal in scope to significantly support the currency.
"Today's rate hike will only temporarily slow the bleeding," said Liam Peach, senior emerging markets economist at Capital Economics in London.
"Russia will struggle to attract capital inflows because of sanctions," he said. "And there's little ammunition for FX intervention – the central bank has some unfrozen renminbi assets and gold reserves, but the bar for using these is likely to be high."
While President Putin has repeatedly hailed the resilience of Russia's $2 trillion economy, the strains of fighting the biggest land war in Europe since World War II and what the West casts as the toughest sanctions in history are starting to bite.
The weakening ruble has pushed up prices for a host of everyday items ahead of the presidential vote in March 2024, though higher interest rates would make life harder for borrowers, including companies and the government as it finances military operations in Ukraine.
By raising borrowing costs, the central bank is trying to fight price spikes as Russia imports more and exports less, especially oil and natural gas, with defense spending going up and sanctions taking a toll. Importing more and exporting less means a smaller trade surplus, which typically weighs on a country's currency.
After Western countries imposed sanctions on Russia over its invasion of Ukraine, the ruble plunged as low as 130 to the dollar, but the central bank enacted capital controls that stabilized its value.
