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The recent decision by the Central Bank of Russia (CBR) to maintain the key interest rate at 21% is a significant development that has caught the attention of financial marketsMany analysts were anticipating further rate hikes in response to soaring inflation rates that had exceeded 9% on an annualized basisHowever, the CBR's move suggests that the impacts of previous rate increases may be taking effect more than expected, allowing the bank to pause its tightening measuresThe central bank believes that the stringent monetary policy enacted in recent months is laying the groundwork for a future decline in inflation, which is expected to become apparent by early 2025.

Since the second half of 2024, the Russian economy has experienced a surge in what can be termed its 'heat,' with this energy translating into increasing prices for goods and servicesAs a result, the CBR found itself compelled to raise interest rates three times within a short span to try to decelerate the rapid rise in prices

Yet, the effectiveness of these measures appears to be inadequate as inflation continued to rise, leading to renewed concerns among economists and market watchers alike.

According to recent data, Russian society is currently grappling with significant inflationary pressuresThe central bank’s reports indicate that from October to November 2024, the seasonally adjusted annualized growth rate for average prices reached an unsettling 11.1%. This represents an uptick from previous months and reveals that underlying inflation escalated, with core inflation soaring to 10.9%, a stark rise from 7.6% just a quarter earlierAs new weekly data for December continues to surface, the trends suggest persistent inflationary pressure.

Elvira Nabiullina, the Governor of the Central Bank, has publicly acknowledged that inflation pressures have picked up in recent monthsVarious short-term factors have contributed to this trend, notably adverse weather conditions that have led to significant drops in agricultural yields

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The prices of certain food items, particularly vegetables, have been accelerating as a resultNabiullina attributes much of the high inflation recorded from October to early December to the overheating of domestic demand observed over recent quartersAdditionally, inflation expectations are complicating the situation, with rising demand expectations pushing prices higher, which in turn fosters more inflationary outlooks.

This cyclical issue presents a considerable challenge for both consumer households and businesses, as rising inflation expectations can create a self-fulfilling prophecyFor instance, in December, both consumer inflation expectations and business pricing expectations moved upward, prompting analysts to revise their inflation forecasts for 2025 to 2026 higher still.

The inflation situation has not gone unnoticed by the highest levels of governmentPresident Vladimir Putin, during a nationwide live broadcast on December 19, 2024, expressed concern over the ongoing inflation, noting that while inflation rates are hovering around 9.2% to 9.3%, real wage growth is stagnating at 9%. He cited supply constraints failing to meet demand as a key factor contributing to price increases, compounded by rising international prices and increased transportation costs due to sanctions.

In light of these developments, the Central Bank's decision to forgo further interest rate increases stems from various considerations

The effects of the previously tightened monetary policy began to manifest in November 2024, as evidenced by a notable slowdown in overall loan growthThis marked the first year-on-year decline in corporate loan portfolios in a considerable timeData reveal that lending activities continued to wane during the first few weeks of DecemberOn the other side, higher deposit rates have encouraged more savings among residents, hinting at a shift in consumer behavior.

Looking ahead, Nabiullina has projected that with the tightening of monetary policy underway, inflationary pressures should gradually begin to diminishThe central bank anticipates a slowing credit growth rate in 2025 as banks adopt a more conservative approach in assessing borrower riskNabiullina stated, “We are witnessing a significant slowdown in credit, which will produce notable deflationary effectsDue to the accumulation of inflationary inertia and the lags in monetary policy, these effects will gradually become evident.”

Meanwhile, adding to this discourse, Anatoly Aksakov, a member of the Russian State Duma's Financial Markets Committee, noted the CBR's decision to keep the key rate unchanged may signal a structural shift in monetary policy

He remarked that the continued tight monetary policy is already yielding positive outcomes, including cooling retail loan growth, increasing savings among residents, and a decline in corporate lending ratesAksakov anticipates that as consumer spending subsides in early 2025, inflation pressures could further alleviate, allowing the CBR to initiate a gradual reduction of interest rates by the end of 2025. He expressed hope that rates could be lowered to an annualized level of around 17% by year's end.

Nevertheless, the Central Bank remains cautious about making any short-term adjustments to interest ratesThey have indicated that they require additional time to adequately assess the broader impacts of the current monetary policy on the economy at largeCome February 2025, the central bank will face crucial decisions—either maintaining the current interest rate levels or implementing further hikes