Elvira Nabiullina about key rate: “We see room for reduction”

“One blink and half a percent at once!”

The Central Bank of Russia has reduced the key rate this year for the fifth time in a row. Before that, the regulator smoothly and accurately was lowering it by 25 bp throughout the summer, dropping it from 7,75% to 7% per annum. This level did not last long — until October 28. At the end of October, the Central Bank decided on a steep diving, cutting the rate by 50 bp — to 6,5% per annum.

This has been an absolutely unexpected turn in the policy of the Central Bank for the largest players in the financial market. Head of VTB Bank Andrey Kostin spoke about the actions of the Central Bank, perplexed: “One blink and half a percent at once!”

“The October decline of 0,5 bp was a surprise for the market,” chief economist of PF Kapital Evgeny Nadorshin agrees. According to him, two weeks before the decision of the Central Bank, a release had been was issued in which there were two comments of the regulator, but it was difficult to build accurate forecasts. “There is still no public explanation why it was impossible to smoothly decrease the key rate until the end of the year. Therefore, uncertainty around further changes in the key rate has increased.”

For example, Head of VTB Bank Andrey Kostin did not expect another decline this year. He told this to journalists on the sidelines of VTB Capital Investment Forum Russia Calling!: “I honestly do not expect more decline this year, I see no reason.”

But a few days before the meeting of the Central Bank, analysts started talking about the probability of reducing the key rate by 25 bp or even 50 bp, however, the market did not form a consensus on how substantial this reduction could be: by 25 bp or 50 bp. For this reason, experts tended to a more moderate option of key rate reduction, but they still have been surprised.

“The decision was quite unexpected, given the fact that there had been no market consensus on the magnitude of the key rate cut. At the same time, the growth of world and Russian markets, which began on Thursday, increased the probability of a cut in the key rate by 50 bp,” said Maksim Petronevich, senior economist at Otkritie Bank.

The rate is hit by inflation

Head of the Central Bank of Russia Elvira Nabiullina explained the reduction of the key rate by slowing inflation at a press conference. According to her, in October, the inflation was 2,9-3,2%, while the average had been 4,5% from the beginning of the year (at the beginning of the year it was 5,2%). In her opinion, a set of measures to curb inflation, the strengthening of the ruble and a high yield had a great impact on this. Another factor is restrained demand. This also coincided with the forecasts of experts, who cited three key factors: lower inflation, a favourable external economic background and medium-term government debt rates, which represent a good benchmark for monetary policy in the last six months. To put it simply, we are talking about low inflation expectations, the strengthening of the ruble against the background of OPEC agreements, “sanctions pause”.

Speaking about the further consequences of the rate cut, Nabiullina first noted the growth of mortgage lending in 2020. She outlined the trajectory of the decline in mortgage rates as follows: if at the beginning of the year the average rate was 10,6%, then in October — 9,4%, and in the future she sees the potential to reduce to 7-8%. According to her, the growth rate of mortgage lending next year will be 20%, although analysts call 25%.

5,5% — by the end of next year?

But the most interesting is ahead. The head of the Central Bank assured that the course for further easing of monetary policy will continue, but in the first half of the year the Central Bank intends to assess the accumulated effect of the five steps of easing the Central Bank rate.

“We see room for reduction, but it depends on a macroeconomic situation in the country when we will use this opportunity,” Nabiullina emphasized.

The head of the Central Bank said that inflation is subject to fluctuations, but the regulator has the tools to return to the level of 4% per annum. According to her, they will not publish forecasts on changes in the key rate as they see a minus in that businesses can focus on them, and forecasts tend not to come true. In general, it seemed that during the first half of the year the rate wouldn’t be changed. Elvira Nabiullina said that the results of the five reductions will be summed up at the general meeting in February.

Bankers and analysts agree that by the end of next year, the key rate will fall to 5,5%-6%. The most conservative option was voiced by Sberbank. In its opinion, the key rate will stabilize next year and change only once. “We predict that the key rate will fall to 6% — by the end of the first quarter, where it will remain,” said Oleg Zamulin, the senior managing director at the bank's Centre for macroeconomic research, on Analyst's Day. VTB CEO Andrey Kostin predicted a greater decrease — to 5,75% by the end of the year. Independent analysts are more decisive.

“I believe that the process of reducing the key rate will continue — 6%, by the end of the year it will be 5,5%,” chief economist at PF Capital Evgeny Nadorshin forecasted.

The Central Bank's rate cut cycle may affect regional banks in the long term, which will have to keep operating costs at a level comparable to 3% of revenues (this increases the cost of money). “A lot of players will not be able to afford, and it will be a big challenge at this stage for regional banks. With low rates, customers will want lower commissions, which is seen in Europe, where rates have been low for 10 years. These problems will concern not only regional banks but also all financial participants. The vast majority of the financial sector is completely unprepared for the low level of commissions and interest income,” says Nadorshin.

Industry does not need new borrowings

However, the prospects for borrowing growth in the real economy remain limited. “The difference of 1% is not a particularly radical difference. If you look at the financial markets, you can see that under the current level of rates the interest of borrowers has grown well. This means that the current rates are already attractive. Given that the economy is practically not developing, then by and large, many companies do not have the need to aggressively increase borrowings, and there are no plans for development either. Having chosen the debt capacity, which is relevant now, next year they will come to refinance, or maybe with a small increase, but not fundamentally. The lower rate is not likely to have a strong revitalizing effect,” the expert believes.