The lack of confidence in western central banks stems from their acquiescence to Wall Street and the financial community. The Russian Central Bank should learn from this.
As regular Russia Insider readers know, Jon Hellevig and I have for some time been baffled by the Russian Central Bank’s insistence on keeping interest rates high at 11%.
This despite the fact inflation is falling rapidly, and despite the fact the high interest rates are prolonging the recession.
The latest figures from Rosstat (the Russian Federal Statistics Service) show inflation at the end of February had fallen to an annualised rate of 8.2%, and weekly inflation had fallen to 0.1% in the last week of February.
The Economics Ministry is now predicting inflation will continue to fall in March, and will be well below 8% by the end of the month.
This is the diametric opposite of the course for inflation the Central Bank was predicting at the start of the year.
At that time the Central Bank was saying inflation would rise because of the further fall in the rouble. It even said it might reach 16%.
Jon Hellevig has explained why this prediction was wrong.
The Central Bank underestimated the degree to which it was the growth of import prices that was behind the historic increases in inflation.
Following the collapse of imports caused by the rouble’s devaluation and the ban on EU food imports, this is now a rapidly diminishing factor, which is why inflation is falling fast.
The mystery however is why, despite inflation going in the opposite direction to the one it predicted, the Central Bank is persisting with its high interest rate policy.
As of the time of writing it is hinting it will not cut interest rates until the third quarter despite pleas from the Economic Ministry that it start cutting interest rates at its next scheduled meeting later this month.
Central Bank First Deputy Governor Ksenia Yudayeva has now provided the answer in an interview to the TV station Rossiya 24.
She admitted that the level of the rouble is having less of an effect on the economy than it did last year, and that the coefficient of the exchange rate to the rate of inflation has changed.
She also admitted inflation risks are becoming less marked, though she insists it is too early to speak of this as a stable tendency, and that inflation risks remain “quite high”.
What however is holding the Central Bank back is - in her own words - the following:
"What worries us quite seriously is that medium-term inflationary expectations, in particular those of the professional community, not only economic agents, but professionals, not anchored at a level even close to 4% to this target, which we have. And us there is a very serious task is to make it so that all believe that we a) want to reach it and b) will carry out such a policy, which will allow for reaching it”.
In plain language, what principally worries the Central Bank is not inflation, the rouble’s exchange rate, the savings rate, or the general state of the economy, but the Central Bank’s credibility - or lack of it - with the financial community (ie. bankers, financial analysts and traders) who doubt it is serious about its 4% inflation target.
In other words the Central Bank is keeping the interest rates high - and the economy in recession - so that it can gain the confidence of these people.
Behind this one senses the Central Bank’s festering sense of humiliation for what happened in December 2014, when it briefly lost control of the rouble because it hesitated to raise interest rates and did not intervene aggressively enough to support the rouble in the currency markets.
All one can say about this is that gaining credibility is one thing, and running scared is another.
The route to the first is never gained through the second. The reason there is now a crisis of confidence in Western Central Banks’ ability to manage the Western economy is because for far too long Western Central Banks did whatever the West’s financial community wanted.
The Russian Central Bank should learn this lesson and should not fall into the trap of doing the same thing.
If general economic conditions point to the need for a reduction in interest rates - which in Russia they do - then the Russian Central Bank should have the courage of its convictions and just do it, and not worry too much about what the financial community thinks.
That is the way to gain credibility, and to show to the financial community who is the master.
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