Russia’s central bank governor, Elvira Nabiullina, talks to The Banker about what is being done to address the inflation and devaluation of the rouble and the tools she is using to fortify the country’s economy against external shocks.
Q: Russia’s economy is facing a number of challenges, including high inflation, a drop in the rouble exchange rate and oil prices, as well as limited financial resources for banks and private companies. How are you using monetary policy to help promote growth?
A: Indeed, we are currently facing serious challenges. We are trying to achieve our priority goals, taking into account the current balance of risks and the new realities we face.
Recently we have moved to inflation targeting and our priority goal is to manage and bring down inflation. But when making decisions in the field of monetary policy, we take into account the general state of the economy and financial stability-related matters.
The aim of our monetary policy is to bring inflation down to 4% in the medium term. So when we decided to sharply raise the key rate in December 2014 [by 6.5 percentage points to 17%], we had inflation targeting in mind because the weakening of the rouble naturally has an impact on inflation.
When taking the decision, we were also taking into consideration that raising the key rate would help stabilise the foreign exchange [FX] market situation and our purpose was to limit the expectation in terms of devaluation and inflation that were very high at that moment.
As soon as we managed to stabilise the expectations in the field of inflation and devaluation, we considered that the economy was cooling down way too much and that we could then, without undermining our inflation target, start to gradually bring down the key rate [to 14% in March].
In our forecast, we saw that inflation, which soared in December and January, would go down because its acceleration happened due to one-off factors [such as] the weakening of the rouble exchange rate – which according to our forecast would be wearing off – inflation should go down gradually.
Q: How do you expect the inflation rate to develop?
A: In the first half of 2015 we expect inflation to be high. By the year end it will stand at about 12% to 14%. But then it will start to go down rather quickly, unless there are new shocks.
So if we look at the year ahead, next March, we expect inflation to stand at about 9% and by the end of 2016 we expect it to be about 5.5% to 7.5%, which is above our mid-term target for inflation, but we hope to achieve this target by 2017.
Q: Is there any target exchange rate for the rouble?
A: Indeed, we have shifted to the floating rate and gotten rid of the mechanism that allowed us to use certain rules to control the exchange rate and these rules were known by market players.
At the moment we do not have any overt or covert targets when it comes to the rouble rate. We have been preparing for inflation targeting and a floating exchange rate regime for a few years. The idea is to make our economy more resistant to external shocks.
Now that we have faced these strong external shocks, we can see that it was the rouble exchange rate that acted as a buffer and helped to absorb the external shocks… Objectively, this was a justified and inevitable move. In the future it is possible that we could conduct interventions in the FX market of some kind, but we will only carry them out to ensure financial stability.
Q: What is your long-term outlook for the economy and when do you expect the Russian economy to return to growth?
A: We have updated our prognosis just recently and published both the forecast for the next 12 months and for the next three years, which is our medium-term forecast.
The economic situation depends on the intensity of structural reforms, but also on the oil price. When making our forecast, we used an oil price of $50 to $55 per barrel as baseline.
According to our forecast, we expect the Russian economy to drop this year by 3.5% to 4%. Next year, the downward trend will continue but it will soften to a contraction of about 1% to 1.6%. And this time next year, the economy will be adapting to the new realities. We believe that growth will resume by the second half of 2016 and the recovery will begin in 2017, then we anticipate the economy will grow at about 6%.
I have already mentioned our inflation forecast but the macroeconomic forecast in general will strongly depend on the structural reforms that will be implemented in the country, how this will change the structure of the economy and how it will adapt to the new situation because these external shocks create challenges, but also open up new windows of opportunity.
Already we are seeing different companies and sectors of the economy taking advantage of these new opportunities. The weaker rouble offers opportunities for exporting companies, both traditional and new exporters that operate in non-commodities sectors of the economy. And due to the weakening of the rouble, we expect import volumes to drop by about 30% this year, which opens up new market niches for domestic producers.
This presents both a challenge and opportunity for the banking sector because [banks] need to find these niches in the economy where they can finance the newly profitable businesses that could be able to grow in this new situation.
Our banks are already making steps in the right direction by starting to finance major energy companies, oil and gas and film-materials companies that used to borrow abroad but now, since access to borrowing abroad is limited, they are turning to Russian banks. These are very good, sound and reliable borrowers for our banks. Reliable client selection is very important for the banks, especially now.
Q: How would you describe the health of the banking sector at the moment?
A: The situation in the banking sector naturally reflects the overall state of the economy. If we look at the end results of 2014 and the key indicators for the banking sector, we should see that it was in general a good year: assets, capital volume, lending volumes – all of these indicators grew at a good pace. So, the banking sector entered 2015 in decent health but currently the banking sector is facing challenges.
And in light of new realities and adverse external trends it would not be realistic to expect too rapid a development of the banking sector. Nonetheless, we expect that the amount of lending in the economy will continue to grow at about 10% [this year]. Consumer lending in general will slow down, but we expect mortgage lending to grow at a slow but steady pace.
Depending on the situation, the banking sector may make some profit, although the profit will be smaller than it was in 2014. But in general, according to our forecast, the banking sector will remain rather stable, [in no small part] because last year the banks made enough provisions for bad debt.
So, these will be difficult times but we anticipate the banking sector will remain stable.
Like many central banks, we do stress tests and oil prices are one of the factors we are looking at because our economy in general and our financial sector in particular are sensitive to oil price fluctuations. According to our estimates, should the oil price sufficiently decrease, with certain targeted public support, I am sure that the banking sector could withstand even more serious threats.
Q: Is there a need for further regulation of the banking sector?
A: We are constantly improving our regulatory framework and we are introducing Basel III. Last year, for instance, we introduced new capital requirements. On the agenda is the implementation of the liquidity coverage ratio later this year. We are currently discussing specific timelines and mechanisms for the implementation of counter-cyclical capital buffers with the banking community.
And in addition to international banking standards, we have our own domestic regulations. We will try to bring down risks related to beneficiary owners of the banks – related to the so-called shell companies that do not exist in real life – related to whether assets are reflected in the books properly, [but also related] to capital quality and the origin of the capital, so that we can be sure that we are talking about real and not fictional capital. We will continue to counter potentially fraudulent operations.
I understand that banks seek a predictable and stable regulatory environment but change is inevitable. We will do our utmost to make sure that the changes are predictable and to do this, we are in constant discussions with the banks, we assess all potential risks and all potential implications of any changes that will be happening.
