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RUSSIAN ECONOMY: TRENDS AND PERSPECTIVES INFLATION AND CREDIT AND MONETARY POLICY N.Luksha According to the December 2009 results, CPI in Russia amounted to 0.4 per cent, what is nearly twice lower than in the relevant period of preceding year. Thus, the increase in consumer prices in 2009 amounted to 8.8 per cent, having reached the historic minimum. In January, inflation has traditionally been accelerated, amounting to 1.7 per cent in the four weeks of the month, but remained below the last year level. After a three-months strengthening of the real ruble exchange rate it began to decline again: in December the decline made 1.6 per cent. In December, foreign currency reserves of Russia have also declined: their volume on January 1 amounted to USD billion. In January, after a few weeks of moderate growth they were somewhat adjusted, and on January 22 amounted to USD 435.6 billion. The Bank of Russia continued mitigation of monetary policy: on December 28, the refinancing rate was lowered to 8.75 per cent per annum.

Consumer price index in December was the minimum for this month over the past ten years, having reached 0.4 per cent (for comparison: in December 2008 it reached 0.7 per cent) (see Fig. 1).

The largest contribution to the prices growth in December made foodstuffs (+0.6 per cent).

Growth in prices for food products doubled as compared with November, when it was 0.3 per cent. It was promoted mainly by the price growth for fruit and vegetables, which went up by 3 per cent. The price for butter was getting up (+3.5 per cent). Like in November, prices were getting down for cereals and beans (-1.6 per cent), pasta (-0.6 per cent), fish and seafood, sunflower oil (-0.per cent), meat and poultry (-0.3 per cent). Again prices started to rise for sugar, having increased by 0.4 per cent.

In December there was also observed an increase in prices for commercial services, the prices of which rose by 0.5 per cent (against 0.1 per cent in November, 2008). On the eve of New Year and during Christmas holidays prices have traditionally increased for overseas tours (+1.8 per cent), for passenger transport (+1.5 per cent) and healthcare and resort services (0.1 per cent). Prices for household and healthcare services, as well as services of cultural organizations continued to grow (by 0.7 per cent). There was no reduction in prices on any group of services sector in December.

In the last months of 2009 prices for non-food goods have grown by 0.2 per cent, however, their growth compared with November slowed by 50 per cent. Like in November, prices were growing for knitwear (0.8 per cent), tobacco, clothes and underwear (at 0.6 per cent) and medicines (0.5 per cent). Motor gasoline again has fallen in price (- 2 per cent).

Therefore, in December, consumer price growth was lower than the indicator of the last year figure by 0.3 percentage points. In the first three weeks of the month prices increased by 0.4 per cent, and during the last week the inflation was zero.

Capital outflow from the country as of the year results and the downfall of consumer and investment demand have created the prerequisites for inflation reduction. As a result, on the basis of last year the CPI amounted to 8.8 per cent, which is 4.5 percentage points lower than in the preceding year. Despite this fact, as per 12 months results, Russia became one of the three European countries with the highest inflation, following only its neighbors - Ukraine (12.3 per cent) and Belarus (10.1 per cent)1. On average, in the EU countries consumer prices increased over 2009 by 1.4 per cent.

Within the four weeks of January, consumer prices increased by 1.7 per cent (versus 2 per cent for the relevant period of the preceding year). Accelerated inflation is quite typical for January due to seasonal factors. The main reasons were the traditional growth in prices for fruit and vegetables, increased tariffs for the services of natural monopolies (for the period from January 1 to 25 payment rates for water supply and sewerage increased by 14.3 per cent, for electricity, heating, hot water - by 11-12.3 per cent), as well increased budget expenditures in late 2009. According to the estimates 1 RBC News (http://top.rbc.ru/economics/26/01/2010/365222.shtml), 26.01.2010.

INFLATION AND CREDIT AND MONETARY POLICY of A. Ulyukaev, First Depu- 3,5% ty Chairman of the Central 3,0% Bank, in January 2010, in2,5% flation was to be 1.4-1.5 per cent1, however, already by 2,0% January 25 actual inflation 1,5% has exceeded this forecast.

Excessive inflationary pres- 1,0% sure, in addition to seasonal 0,5% factors, was provided by in0,0% creased excise duies on alcohol and beer (the latter was -0,5% upgraded by three times)2.

Since February, according to A. Ulyukaev, inflation will Source: RF Statistical Service.

start to decrease sharply in comparison with January3.

Fig. 1. The Growth Rate of the CPI in 2002 2009 (% per month) As a result, it is expected that the average growth rate of consumer prices in the I-st half of the year will vary within the range of 0.3-0.4 per cent. It will be supported (with a lag), by some growth of monetary supply in the II-nd half of 2009, low consumer demand and changes in the structure of the population expenditures (in favor of priority of savings over consumption). In the II-nd half of the year increase in inflationary risks is possible due to capital inflows, expansion of monetary supply and global inflation. Nevertheless, according to Mr. Ulyukaev, the year-end inflation will not exceed 7 per cent. The official inflation estimates, made by the Ministry of Economic Development in 2010 should amount to 7-7.5 per cent.

The basic CPI of consumer price index4 in December has made 0.4 per cent (versus 0.8 per cent in the relevant period of 2008).

As of November results, the monetary base (in broad definition) has grown by 3.9 per cent and amounted to RUR 6467.3 bln. The growth rate of the monetary supply made 23.9 per cent, which demonstrated the greatest result since December 2003. Sharp increase in monetary supply in the last week of December happened apparently due to financing of the RF consolidated budget deficit.

The December upsurge in monetary supply will provide inflationary pressure with a time lag of around six months.

Cash in circulation with regard to the fund balances in credit organizations on January 1 has reached RUR 4.6 trillion (+15.1 per cent as compared with November), correspondent accounts of credit organizations in the Bank of Russia made RUR 900.3 billion (+35.4 per cent), mandatory reserves made RUR 151.4 billion (remained unchanged since November), banks deposits with the Bank of Russia made RUR 509 billion (-1.8 per cent), the value of shares of the Bank of Russia with credit organizations made RUR 283.7 billion (increased by 2.6 times).

In December, the excessive reserves of commercial banks5 have grown again, amounting as a result of the month to RUR 1,693 billion. Therefore, the growth made RUR 641.5 billion, or 61 per cent. Excessive liquidity growth was again observed in the banking system.

Despite the Central Bank policy of smooth interest rate decline (started back in April of the last year) in order to support the banks credit activity, the credit portfolio remained practically unchanged. Thus, according to G. Melikyan estimate, the First Deputy Chairman of the Central 1 RBC News (http://www.rbc.ru/fnews.frame/a//top///////20100120170010.shtml), 20.01.2010.

2 Interfax (http://www.ifx.ru/txt.asprbr=1492&id=1399596), 27.01.2010.

3 RBC News (http://www.rbc.ru/fnews.frame/a//top///////20100120170010.shtml), 20.01.2010.

4 Basic index of consumer prices is an indicator of the inflation level without regard to seasonal price reduction (fruit and vegetable products) and to administrative measures (tariffs for government-regulated services, etc.). It is estimated by the RF Statistics Service 5 RIA News (http://www.rian.ru/economy/20100115/204718318.html), 15.01.2010.

Jul Jul Jul Jul Jul Jul Jul Jul Jan Apr Jan Apr Jan Apr Jan Apr Jan Apr Jan Apr Jan Apr Okt Jan Apr Oct Oct Oct Oct Oct Oct Oct RUSSIAN ECONOMY: TRENDS AND PERSPECTIVES Bank, within the period since the beginning of 2009 to December 1, the growth of credit volume was only 1.5 per cent in nominal terms1.

In December, the Russian banks have once again reduced the credit portfolio on non-financial sector, as well as on individuals. In general, credit portfolio of the banking sector has decreased again - by 0.2 per cent ( wed like to remind, that in November, after several months of interruption credit portfolio of banks has slightly increased - by 0.3 per cent)2.

In December, the share of banks overdue loans to non-financial sector has slightly declined by 0.18 per cent, and in general decreased by 2.5 per cent under the banks credit portfolio.

According to A. Uljukajev, the First Deputy Chairman of the Central Bank, by the end of Russian banks may increase the nominal amount of credits by 15-20 per cent as compared to the current levels3. Basically it will be achieved due to corporate segment, recovery of active crediting to legal entities can start already at the end of the I-st or at the beginning of the II-nd quarter of 2010. As to retail crediting, it will be activated only by the end of the year, due to the high-level of the risk to individual borrowers.

The main reasons for credit growth in the new year will become, according to Mr. Ulyukayev: 1) increased competition on the part of the Western banks, which are more than ever before willing to provide credits to the Russian borrowers due to the decrease in devaluation expectations and 2) the issue of negative margin of domestic banks due to expensive funding obtained in 2009. Thus, within the second half of 2009, banks were actively involving public funds for deposits. With the Central Bank reducing rates, this type of financing became increasingly expensive to them, so the banks will seek new highly profitable ways to invest borrowed funds.

Similar trends are currently observed in many economies. However, unlike Western countries, in Russia they are likely to be more sustainable. European and American banks have an alternative of corporate credit in the form of investments in securities of emerging markets. For understandable reasons, Russian financial institutions have virtually no alternative.

In December the growth of the volume of cash in circulation by 15.1 per cent with stable mandatory reserves urged the expansion of monetary base in narrow definition (cash plus mandatory reserves)4 by 14.6 per cent (see Fig. 2).

In December the volume of international reserves of the RF Central Bank decreased by 2 per cent and by the end of the month amounted to USD 439 bln. After almost 11 per cent reduction in 2008, international reserves in 2009 again showed an increase by USD 11.95 bln, or by 2,8 per cent. In January, after a few conseclusive weeks of insignificant growth, by January 22 they made USD 435.6 bln.

According to tentative estimates of the Central Bank, in the IV-th quarter of 2009 inflows of foreign capital to the country amounted to USD 11.6 bln. Therefore, in general, the net capital outflow as of 2009 results amounted to USD 52.4 bln, having exceeded the official estimates by USD 40 bln. Major capital outflow took place in the I-st and III-d quarters of the year, when the outflow from the country made USD 35.1 bln and USD 33.4 bln, accordingly. Nevertheless, capital outflow in 2009 was by 2.5 times lower as compared with 2008.

As a result of capital inflow to the country in the IV-th quarter, there was noted growth of the real effective ruble rate by 3.1 per cent. The outflow of capital in the last month of 2009 has urged a reduction of the real effective exchange rate by 1.6 per cent. Index of real effective exchange rate as a result of the month made 131.75 (see Fig. 3). In general, within the year the weakening of the 1 The same.

2 From the speech of A. Ulyukaev, Deputy Chairman of the Central Bank of Russia at the conference Russia and the World: Challenges of the New Decade, organized by the Institute for Economy in Transition, the Academy of National Economy under the RF Government and the Expert Council under the Government Committee to improve the sustainability of the Russian economy on January 22, 2010.

3 We would like to remind, that the monetary base in the broad definition is not a monetary instrument, it reflects the obligations of the Bank of Russia in national currency. The monetary base in narrow definition is a monetary instrument (one of indicators of the volume of monetary offer), which is under total control of the RF Central Bank.

4 Wed like to remind, that the monetary base in the broad definition is not a monetary instrument, it reflects the obligations of the Bank of Russia in national currency. The monetary base in narrow definition is a monetary instrument (one of indicators of the volume of monetary offer), which is under total control of the RF Central Bank.

5 The level of January 2002 is accepted as 100 per cent.

INFLATION AND CREDIT AND MONETARY POLICY ruble in real terms to the basket of currencies reached 4350 5.6 per cent compared to its strengthening by 5.1 per cent in 2008.

4050 The main characteristic of the ruble rate changes 3750 to the dollar for December 2009 and January 2010 is, of course, their high volatil- 3450 ity. Nevertheless, the range of fluctuations of the dollar does not exceed two rubles, staying within RUR 29.0730.75 to USD since the beMonetary Base (billion rubles) ginning of December 2009 to Gold and Foreign Currency Reserves (billion dollars) January 27, 2010. Another important feature of recent Source: RF Central Bank.

months is enough to neutral Fig. 2. Changes in the Monetary Base and in the Gold and Foreign Currency reaction of households and Reserves in 2007 business to the sharp changes in the ruble rate. This is evidenced, in particular, by a smooth decrease in the share of foreign currency in the bank assets.

During the period from December 1, 2009 - February 1, 2010 the nominal exchange rate of RUR against USD grew by 4.7 per cent, to RUR 30.43. And Euro, by contrast, has fallen down by 3 per cent to RUR 42.46. As a result, the value of the two-currency basket1 started to decline again, having amounted to RUR 35.84 as of February 1 (-0.4 per cent).

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