In a decisive move to combat rising inflation, the Central Bank of Russia (CBR) has recently increased its benchmark interest rate by 100 basis points, setting it at 19%. This action comes in response to persistent inflationary pressures that have continued to escalate beyond prior forecastsThe bank attributes this inflation primarily to the burgeoning domestic demand that exceeds the capabilities of goods and services supply, leading to an inevitable rise in pricesThe CBR has indicated a resolute intention to tighten monetary policy further, aiming to lower inflation expectations and restore inflation levels to target rates by 2025. Notably, the possibility of additional interest rate hikes at the upcoming monetary policy meeting next month remains on the table according to official statements.

This recent adjustment marks the seventh consecutive interest rate increase by the CBR since mid-last year

Currently, the interest rate stands at a significant high, nearing the previous level of 20% that was enforced during March to April 2022. At that time, Russia was facing an unprecedented wave of sanctions that resulted in a sharp downturn of the economic landscape, forcing the CBR to adopt aggressive monetary policies to mitigate external and internal shocks.

Even though more than a year of continuous interest rate hikes has started to yield some positive results, the measures have not completely achieved the desired effectAccording to CBR Governor Elvira Nabiullina, there has been a recent tightening of the currency, leading to a noticeable slowdown in loan growth, particularly in the retail sectorYet, despite these efforts, inflationary pressure remains stubbornly high, with prices increasing beyond what is considered normalIn fact, data released by the CBR indicates that the annualized price growth in August was 7.6% after seasonal adjustments, while the core inflation rate stood at 7.7%. Though these figures are lower than the average levels observed in the second quarter of 2024, they are still above the first quarter averages

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Economist Dmitry Belousov has commented that while the phase of accelerating inflation may be past, it is still premature to declare victory over inflation.

The inflation expectations among households and businesses in Russia continue to rise and remain at elevated levels, reflecting a sense of inflation inertia among the populaceExperts assert that a significant driving force behind the rise in prices stems from the anticipated expectations of inflation; many individuals believe and expect prices to keep climbingThis prevailing sentiment fuels increased market demand while simultaneously highlighting a supply shortage, which in turn drives prices even higher.

Consequently, the continued rise in interest rates has become the primary strategy for regulatory bodies aiming to suppress stubborn inflationNabiullina revealed that the CBR had previously considered three potential solutions: maintaining the existing rate of 18%, raising it to 19%, or even pushing it up to 20%. Given that the prior rate hikes have yet to fully demonstrate their intended impact, there is a necessity for tighter monetary policies

In light of the current economic sentiments, the CBR has resolved to showcase its determination to mitigate inflationIndicators from the Russian economy show early signs of slowdown, with second-quarter GDP data for 2024 alongside economic indicators from July to August suggesting reduced economic growthThis downturn is attributed mainly to constraints on the supply side and a decline in external demandRemarkably, regulatory authorities have expressed a firm commitment to restoring inflation to target levels.

From various official statements, it appears that the Russian government intends to influence inflation trajectories through interest rate hikes from two key angles.

Firstly, the approach aims to exert more pressure on the demand sideAccording to a report by the Russian parliamentary publication, Valery Ak41sakov, chairman of the Financial Market Committee of the State Duma, noted that rising interest rates should quell lending activities and alleviate the demand pressure on the market, thereby preventing price escalations

Ak41sakov emphasized that legislative authorities are hopeful that adjustments in the key interest rate will be adequate to amend the disparity between commodity supply and demand, ultimately mitigating the continued spike in inflation, while signaling that prices remain within the Central Bank's control.

On the flip side, there is a focus on influencing market inflation expectationsAlexey Savychenk, the Deputy Chairman of the Financial Market Committee, stated that a one-percentage-point hike in the key rate would not fundamentally alter the overall economic conditions, likening the increase more to a psychological toolHe claimed that the decision to raise the interest rate to 19% was a proactive measure to preemptively address potential severe inflation-linked scenariosHence, this hike should be viewed as a temporary measure.

It is essential to note that the current "cooling" policies being implemented by Russia predominantly center around "dampening demand". Market analysts suggest that, with favorable financing policies in place, strategic industries within Russia are unlikely to face a loss of financial support

The critical issue, however, lies in the import-dependent consumer goods sectorComplicated payment processes due to sanctions have resulted in slowed delivery speeds, leading consumers to fear that the situation surrounding imports will worsen, consequently intensifying current consumption patternsExperts from the Institute of National Economic Forecasting of the Russian Academy of Sciences caution that without investments aimed at expanding production capacity, overcoming supply-side difficulties will remain unattainableThus, Russian officials have indicated that if inflation trends cannot be reversed with tightened monetary policies, discussions on additional measures to support domestic production may become necessary.

In summary, the effectiveness of Russia's recent interest rate hikes in achieving their intended outcomes remains to be seen with the passage of timeGiven the inherent lag in policy effects, tightening monetary measures are likely to persist