Russia hikes interest rates to battle soaring inflation

The Bank of Russia has raised the main interest rate from 16 to 18 percent. This drastic move is aimed at combating rising inflation. This decision is a response to the overheating war economy and the consequences of a rapid increase in budgetary expenditures.

Russia has raised interest rates significantly—from 16 to 18 percent. As noted in a commentary by Bartosz Sawicki, an analyst at fintech company Cinkciarz.pl, "such a sharp move was expected after the June meeting, at which additional monetary tightening was withheld, suggesting that it might become inevitable if further signs of runaway inflation emerged."

The analyst emphasizes that "Russian monetary authorities are forced to maintain a restrictive stance due to the overheating war economy and the consequences of a rapid increase in budgetary expenditures." However, Sawicki adds that "today's increase, the first this year, is likely to remain a one-time adjustment and not turn into a series of changes to the cost of money."

According to Sawicki, Russia's inflation accelerated for the sixth consecutive month in June. The Cinkciarz.pl analyst writes that "the CPI dynamics increased to 8.6 percent year-on-year, more than twice the inflation target." The expert points out the main reason for this situation: "Massive war expenditures at around 7 percent of GDP have led to significant macroeconomic imbalances, which are becoming more evident with each passing month."

Sawicki highlights serious problems in the Russian labor market. He writes, "the draft and the escape of some Russians abroad have resulted in huge labor shortages, leading to a sharp increase in wages." The analyst adds that "the unemployment rate, approaching 2.5 percent, has reached record low levels this year."

The Cinkciarz.pl expert notes that "the labor market situation, combined with generous social transfers, is leading to a consumption boom." He provides specific data: "in 2023, individual consumption rose to 6.6 percent year-on-year. This year, it will maintain several percentage points of growth, keeping economic growth above 3 percent year-on-year."

In his commentary, Bartosz Sawicki points out that "persistent price pressure forced the Bank of Russia to abandon previous plans to start lowering rates in the second half of the year and compelled additional tightening of policy." The analyst also reports other actions by the monetary authorities: "They recently withdrew from the program of mortgage interest subsidies, in which interest rates were halved."

The Cinkciarz.pl expert emphasizes that the Bank of Russia cannot ignore factors beyond its control. He writes, "With unstable, double-digit, and rising inflation expectations, the monetary authorities cannot overlook the consequences of factors beyond their control."

Sawicki lists several such factors: "An abrupt rise in food prices contrary to seasonal patterns following spring frosts." He also adds that "the increase in the cost of international payment transactions, as a consequence of international sanctions, and the decline in the refining system's capacity, which is a target of Ukrainian drone attacks, also contribute to inflation."