February 7, 2017 / 12:06 PM / 10 months ago

Fitch: Higher Oil to Keep Testing Russia's Policy Framework

(The following statement was released by the rating agency) LONDON, February 07 (Fitch) The Central Bank of Russia's (CBR) decision to leave interest rates unchanged underscores our view that monetary policy remains focused on reducing inflation, Fitch Ratings says. The coherence and credibility of Russia's monetary, exchange rate and fiscal policies remain an important part of our sovereign rating assessment as oil prices rise. The CBR left its key rate unchanged at 10% for the third consecutive policy meeting on Friday. It said that slower consumer price growth partly reflected temporary factors and that its "capability to cut its key rate in the first half of 2017 has diminished." This bolsters our view that policy will remain focused on reducing inflation towards the central bank target of 4% and anchoring inflation expectations. The implementation of inflation targeting following the adoption of a flexible exchange rate was a key element in the authorities' strong policy response to the oil price shock that supported our decision to stabilise the Outlook on Russia's 'BBB-' sovereign rating in October 2016. High real rates have underpinned a fall in inflation, which dropped to 5.4% in December, meaning the average annual inflation rate in 2016 was less than half that of 2015 (7.2% versus 15.5%). The rise in oil prices should be positive for Russia's economy and its external and fiscal accounts. But it also presents fresh policy challenges. Rouble appreciation on the back of the rise in oil prices could create risks through macroeconomic imbalances, real exchange-rate appreciation, and a loss of non-oil exports' competitiveness. The authorities have moved to address this. Russia's finance ministry last month announced a transitional budget rule that the government plans to incorporate into the Fiscal Code, whereby oil and gas tax revenues earned when prices exceed USD40/b (the 2017 budget oil price target) will be channelled into the Reserve Fund. These additional local-currency oil and gas tax revenues will be used to purchase FX (based on monthly assessments on the likely deviation from budgeted projections), in order to reduce exchange-rate volatility derived from oil prices. Replenishing the Reserve Fund (which we had thought would be exhausted this year as the government drew on its domestic savings for deficit financing) would help Russia rebuild FX and fiscal buffers. Fitch does not presently consider that the new FX purchase framework diminishes the rouble's capacity to act as a shock absorber, as we believe that, were the currency to fall sharply, the authorities would only intervene to support it if oil prices were below USD40/bbl. The use of excess oil and gas tax revenues to fund currency market intervention could effectively sterilise these purchases. The effectiveness of these new measures will partly depend on the degree of co-ordination between monetary and fiscal policy. An increase in local-currency liquidity in the event of increased budget spending or expectations of a weaker rouble could feed through to inflation expectations. Commitment to fiscal consolidation and expenditure restraint would therefore be a key support for tight monetary policy. The transitional budget rule reduces near-term risks of a shift to a pro-cyclical fiscal stance. However, medium-term fiscal measures have yet to fully take shape, and may not do so until after the presidential election due in March 2018. Contact: Paul Gamble Senior Director, Sovereigns +44 203 530 1623 Fitch Ratings Limited 30 North Colonnade London E14 5GN Erich Arispe Director, Sovereigns +44 203 530 1753 Mark Brown Senior Analyst Fitch Wire +44 203 530 1588 Media Relations: Peter Fitzpatrick, London, Tel: +44 20 3530 1103, Email: peter.fitzpatrick@fitchratings.com. The above article originally appeared as a post on the Fitch Wire credit market commentary page. The original article can be accessed at www.fitchratings.com. All opinions expressed are those of Fitch Ratings. Related Research Russia here ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: here. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEB SITE AT WWW.FITCHRATINGS.COM. PUBLISHED RATINGS, CRITERIA, AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. 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