Quarterly Outlook
Fixed Income Outlook: Bonds Hit Reset. A New Equilibrium Emerges
Althea Spinozzi
Head of Fixed Income Strategy
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Russia : Arguments against another CBR rate cut in July
Christopher Dembik
Head of Macroeconomic Research
Summary: At 1030GMT on Friday, the Central Bank of Russia (CBR) is expected to announce its latest monetary policy decision. It will be followed by an online press conference with the governor Elvira Nabiullina. There is an overwhelming consensus among economists and analysts that the central bank will announce a 25/50 bps cut and indicate that the rate cutting cycle is over soon. We think that the central bank should refrain for the moment from cutting rates further, as a new rate cut would not be really macro-significant after the extraordinary 100 bps cut. Instead, it should focus on key rate guidance, which would be as efficient as another 25 bps cut, and let the door open to further action in H2 this year if the second wave of the virus, characterized by business restructuring, permanent closures and gloomy consumption, hits hard Russia.
The money market has interpreted recent comments from central bank governor Elvira Nabiullina (indicating that she fells that there is room for lower rates) and deputy governor Alexei Zabotkin (confirming that the CBR will consider another rate cut this week) as strong signals that the key rate, which was at 6.25% at the start of the year, is likely to be cut at 4.50-4.25% on Friday.
In our view, there are strong arguments against cutting rate further in July:
- The outlook for Russia is not that bad. The market has already started to rebound and is among the best performers in Europe. The MSCI Russia index in RUB is up 23% while the Middle Russia’s RTS index is up 30% since March – and it has a lot to do with oil of course. We are hopeful that higher oil prices will also reverberate positively on the whole economy.
- Lowering rate can make lending cheaper but, after an extraordinary 100 bps cut, a 25 bps cut would be a mere drop in the ocean and would have little impact on the economy. The CBR can get the same results, at lower cost, by resorting to key rate guidance and basically maintaining its dovish stance.
- By refraining from cutting rate this week when it is not really needed, the CBR can save ammunition in case the second economic wave of the virus, characterized by business restructuring, permanent closures and gloomy consumption, hit hard Russia in H2 this year.
- We think that monetary policy is currently not the right tool to use to cope with the consequences of the crisis and it is time for fiscal policy to step further. Higher oil prices should relax the budget constraints and push the government to move further away from its conservative-minded approach when it comes to spending. What is really needed at the moment isn’t lower rates but higher fiscal spending to provide a backstop against economic losses to businesses and households and contain popular discontent after years of real income decline. The government should increase spending much more than what it is initially planned, via printing fresh state OFZ government bonds, and thus taking advantage of the fact they remain very popular among foreign investors.
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