Bank of Russia – shooting into the sky

Today on 11 December 2014 Russia’s central bank hiked its key rate by 100bp to 10.50% as consumer prices continued to accelerate quickly to 9.4% y/y as of 8 December 2014. The hike was expected by the consensus (we had expected a 250bp rate hike), which moved up by 50bp a day before the announcement. As the rouble has lost around 15% against the US dollar and the euro within the last 30 days, inflation expectations have been deteriorating further, pushing the central bank to act. The central bank is also admitting that Russia’s counter sanctions to ban imports of certain foods are pushing consumer prices up. The Bank of Russia expects 2014 year end CPI to be around 10% y/y. It furthermore estimates that the cumulative effect on the CPI from the weakening rouble and the foods import ban will amount to 4.9pp by the year-end. We believe that double digit inflation will be seen through all Q1 15, forcing the central bank to hike further. However, despite its consistent monetary policy aiming more and more to target inflation, the 100bp hike was a disappointment for rouble bulls. Before the decision, up to 500bp was already priced in. Thus, the realised hike has been seen by the markets as a disappointment, leaving the rouble to tumble further.

Recently the central bank has been seeing more political pressure to add stability to rouble’s spot rate. It has been aggressively spending FX reserves to support the rouble, selling over USD5.3bn since 1 December 2014, an action we would call throwing money on the fire. The spot market saw tiny temporal reliefs after the interventions, but the rouble weakened further in line with the falling oil price.

Neither rate hikes, interventions nor tightened liquidity are helping the rouble to stay stable. As the oil price is approaching USD64/bbl, we expect that the rouble will be heading to its new equilibrium price of around 58 against the USD and 72 against the EUR. A further squeeze of money supply and rate hikes will damage the Russian economy, spreading the lagged effect into 2016 as well. Thus, we see our current 2015 GDP forecast of -1.8% y/y as optimistic, because downside risks are constantly rising. The central bank expects 2015-2016 GDP growth to be close to zero on weak private consumption and shrinking fixed investments. Despite, the weak economic situation the central bank is ready to hike further on accelerating inflation. The next meeting on the key rate will be held on 30 January 2015.

Unchanged in Hungary and the Czech republic next week

Our call for rate decisions in both the Czech Republic and Hungary is for unchanged decisions next week. It is also the consensus expectation. While we expect both central banks to stay on hold, the pressure on them to ease monetary policy further is increasing.

The Czech central bank is perhaps in a somewhat easier position as the floor on EUR/CZK introduced in November last year clearly helped to avoid deflation. However, inflation is clearly increasing less than the Czech central bank (CNB) expects. Even though further easing is becoming more warranted, we do not expect the CNB to lift the floor next year. That said, we expect the CNB to acknowledge that inflation is rising less than expected, hence the need for weaker CZK increases. We believe that the CNB will use verbal intervention to keep the CZK closer to 28.0 against the EUR.

The Hungarian central bank (MNB) has been fairly neutral recently. The MNB continues to say that Hungary needs to maintain loose monetary policy for a sustained period of time, but on the other hand it doesn’t indicate the possibility of further easing. However, as deflation in Hungary deepens, we cannot any longer rule out that the MNB will have to cut interest rates further going into next year. Our inflation models currently indicate that if the Hungarian central bank does not cut interest rates and ease monetary policy further, deflation will deepen over 1% early next year.