The recent continuous depreciation of the ruble has brought significant challenges to the Russian economy, while also increasing the pressure on the Russian central bank to raise key interest rates. Market forecasts suggest that the rate hike this time could be the largest since the outbreak of the Russia-Ukraine conflict.
Ruble Depreciation Triggers Inflation Crisis
According to data from the Russian central bank, the ruble has depreciated nearly 8% against the dollar since November 21, when the US sanctioned approximately 50 Russian banks. Since the beginning of the year, the ruble has depreciated by 19% against the dollar, making it one of the worst-performing currencies in emerging markets. This decline has sharply increased inflationary pressures, forcing the Russian central bank to consider further raising interest rates to curb the rise in prices.
Currently, the benchmark interest rate of the Russian central bank has reached 21%, an all-time high. The central bank stated that if the inflation situation does not improve, it is prepared to further increase borrowing costs with the aim of bringing the inflation rate back to the 4% target by the end of 2024. However, policymakers face a dilemma: on one hand, raising interest rates could further hamper economic growth; on the other, inaction could let inflation spiral out of control. The market generally believes the central bank may lean towards choosing the former.
External Pressures and Changes in Domestic Demand
The depreciation of the ruble partly reflects the profound impact of international sanctions on the Russian economy. Throughout this year, Russian exporters and importers have faced international payment difficulties, especially after the US threatened to impose secondary sanctions on financial institutions cooperating with Russia. The new round of restrictions may complicate foreign trade transactions and reduce exporters' willingness to repatriate foreign exchange funds into Russia.
Amid fears that further sanctions could limit foreign capital inflows, local market demand for foreign currency has surged. However, the negative effects of the exchange rate collapse are becoming apparent, with the inflation rate accelerating for three consecutive weeks, presently exceeding twice the central bank's target. The latest forecasts from the Russian central bank indicate that even before the recent ruble depreciation, the price growth rate by the end of 2024 was predicted to be 8%-8.5%.
Central Bank Policy Choices: Interest Rate Hikes and Market Intervention
In response to the ruble's fluctuations, the Russian central bank announced on Wednesday that it will halt domestic market foreign currency purchases until the end of 2024, in an attempt to ease market tensions. Moreover, although officials have consistently emphasized that ruble depreciation benefits exporters, an increasing number of economists believe that reduced foreign exchange liquidity will have a profound impact on the domestic market.
Despite the interest rate hike in October failing to curb inflation, the Russian central bank may have no choice but to resort to more significant rate adjustments to address the risk of uncontrolled inflation. However, this will inevitably further drag down already weak economic growth.
Outlook
Market analysts warn that the combination of ruble depreciation and the inflation crisis could have long-term adverse effects on the Russian economy. With escalating international sanctions and tightening domestic financial conditions, the next step of the Russian central bank will be crucial. This policy adjustment could determine the direction of the Russian economy for the coming years and will also be a focus of international market attention.
