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Currently, UST deductions make 26 per cent from salary, not exceeding RUR 280 thousand per annuam, 10 per cent from the salaries of RUR 280 thousand to RUR 600 thousand 2 per cent from the salaries exceeding RUR 600.001 thousand per annum. The Ministry of Finance proposes in 2010 to raise the first threshold to RUR 1.1 million and the second to RUR 2.3 million. Therefore, the tax burden on employers will come back to the level of 2005, when the rate was established at 26 per cent. In the future the scale of UST should be indexed each year in line with the growth of wages, so that the effective UST rate would not get reduced.

The basic parameters of the RF federal budget performance within 2006 - July 2008 are provided in Table 2. Federal budget revenues have somewhat exceeded the estimated value due to an increase of revenues from oil and gas sector by 1.5 per cent of GDP during the period under review. As noted above, the current year will beat the record in the volume of oil and gas revenues. Expenditures of the federal budget within the same period remained at the level of 16per cent of GDP, which is the average indicator over the past four years.

Table Basic indicators of the RF federal budget performance within 2006 - July 2008.

(% in GDP) 2006 July 2007 2007 July Revenues 23,5 23,4 23,9 25,Expenditures 16,2 16,0 18,4 16,Deficit ()/ Surplus (+) 7,4 7,5 5,5 9,Source: RF Ministry of Finance, IET estomates.

The total volume of the Reserve Fund as of August 1, 2008 amounted to RUR 3,040.37 billion, i.e., 7.9 per cent of GDP. The gross total of National Welfare Fund made RUR 766.48 bln, i.e., 2.0 per cent of GDP. 1). Therefore, the total share of those funds in GDP continues to decline, within January-July it was reduced by over 3.5 per cent of GDP.

It is worth noting, that on August 19 of the current year, the first transfer of RUR 420 billion was made in 2008 to the Reserve Fund. By that transfer it is planned to bring the Reserve Fund amount to the normative indicator of 10 per cent of GDP.

16% 14% 12% 10% % 8% 6% 4% 2% 0% . . . . . . . .

2006 2007 Note. Indicators for April-May 2006are note available.

Fig. 1. The total volume of the Reserve Fund and National Welfare Fund in 2006-2008, per cent in GDP Monetary and Credit Policy P. Trunin As of July results, the CPI in the RF made 0.5 per cent, having declined against the CPI rate of the relevant period of the preceding year. However, the growth in consumer prices for January - July reached 9.3 per cent, which is considerably higher than the growth rate of prices in 2007. As a result of quarterly tax payments, the surplus reserves of commercial banks with the Central Bank of Russia declined by RUR 235 billion. To restrain the growth of monetary supply and inflation rates, from September 1 the Bank of Russia has increased the mandatory reserve requirements to the obligations of the Russian banks to non-residents.

Consumer price index in July made 0.5 per cent (versus 0.9 per cent in July 2007) ( See Fig. 1).

Therefore, July became the first month of this year, in which the prices growth rate was lower than the last year indicator. The utmost growth rates were observed in prices for public services, which have grown within the month by 0.9 per cent. The most expressed growth was observed in regard to health resorts (by 4 per cent), international tourism (+ 3.6 per cent), public transport (+ 2 per cent) healthcare (+1 per cent) and pre-schools (+ 1 per cent). There was no decline in any type of services in July.

Foodstuffs prices have grown in July by 0.1 per cent. Thus, in July there has been a significant slowdown in food prices, due primarily to seasonal factors: Prices for vegetable and fruit have declined by 6.7 per cent within the month. The utmost growth rates were observed in prices for grits and beans (+ 3.3 per cent), pasta (+ 2 per cent), sunflower oil (+ 1.5 per cent), bread and bakery products (+ 1.4 per cent), meat and poultry (+ 1.6 per cent). Prices for eggs and granulated sugar continued further downgrading: their average countrywide decline within the month made 3.5 per cent and 1.per cent accordingly.

In July, the growth was observed also in regard to non-food items, which prices have increased during the month by 0.7 per cent. The highest growth rates were noted in July for motor gasoline (+ 3.per cent), construction materials (1.1 per cent), pharmacy products (+1.1 per cent), detergents and cleaning agents (+ 0.9 per cent) and tobacco (+1.4 per cent). Herewith, prices for audio-video equipment have been decreased by 0.1 per cent.

Therefore, as of July results, inflation rate in the RF continued to slow down, though the gap between the level of the current year prices growth rates and the level, noted in the relevant period of preceding year, was still significant. As mentioned in the earlier surveys, downgrading of monetary offer growth rate at the beginning of current year, as well as the grown offer of agricultural products have restrained the inflation in summer. Herewith, inflation inertia stays rather explicit, what provides serious grounds for higher CPI level in 2008 against the indicator of preceding year.

The basic consumer price index3 in April 2008 made 0.8 per cent (versus the level of the relevant period of preceding year 0.9 per cent). According to our estimates, the CPI in August made 0.2 1.per cent.

In July 2008 the monetary base (in broad definition4) has been decreased by RUR 139.3 bln, to RUR 5283.6 bln (- 2.6 per cent). The volume of the monetary base in broad definition made as of July 1, 2008 RUR 5422.9 billion. Let us consider the dynamics of the monetary base in broad definition by components.

As of August 1, 2008, cash in circulation with regard to the fund balances in credit organizations made RUR 4.1 trillion (1.7 per cent growth against July 1), correspondent accounts of credit organizations in the Bank of Russia made RUR 560.2 billion (- 5.4 per cent), mandatory reserves made RUR 388 billion (plus 7.7 per cent), banks deposits in the Bank of Russia made RUR 149.1 billion (- 59.per cent), the value of shares of the Bank of Russia with credit organizations made RUR 40.7 billion.

(+ 71,7per cent). Therefore, in April reduction of excessive reserves of commercial banks has exceeded RUR 235 bln, what is based primarily by higher banks demand in liquidity due to necessity to 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 The RF monetary base in broad terms with no regard to the cash issued by the Bank of Russia and the balance of Compulsory Reserve Accounts on credit organizations in national currency, deposited in the Bank of Russia, taking into account the assets of correspondent accounts and bank deposits, allocated in the Bank of Russia.

make quarterly tax payments. In general, the situation with the bank liquidity is fairly quiet now, although the capital ourflow from Russia has renewed in August due to combat operations in Georgia and South Ossetia, which caused some growth rates in the interbanking market, as well as grown demand for Central Bank credits and budget funds, allocated on deposits in commercial banks on the basis of auctions. Nevertheless, there are no serious problems with liquidity. At the same time, in the case the trend of capital outflow is sustained and energy sources prices are declined, banks may face more serious shortages of liquidity in the nearest future.

The Growth Rate of the CPI in 2002 - 2008 (% per month).

3,5% 3,0% 2,5% 2,0% 1,5% 1,0% 0,5% 0,0% -0,5% Source: Rosstat In July the amount of cash in circulation has increased by 1.7 percent, while mandatory reserve funds have grown by 7.7 per cent, what has led to the expansion of monetary base in narrow definition (cash plus mandatory reserve funds)5 by 2.9 per cent (see Fig. 2). Herewith, foreign currency reserves of the RF Central Bank have grown by 4.9 per cent and made on August 1 USD 595.9 bln. Within two weeks of August gold and foreign currency reserves increased by another 0.3 per cent to USD 597.billion. Herewith, in July sterilization of liquidity coming, transferred to the accounts of the Government at the Bank of Russia continued: The volume of public deposits has grown within July by 10.per cent and accounted to RUR 8.26 trillion.

In July, the inflow of currency into the country has somewhat declined, leading to a slowdown of ruble in real terms. Thus, RUR real effective exchange rate remained unchanged as of July results (against -0.6 per cent strengthening in the relevant period of preceding year): the real effective exchange ruble rate made 135.4 (See Fig. 3). As a result, ruble strengthening in real terms against the two-currency basket accounted to 4.5 per cent within January-July, as compared with 5.1 per cent within January-July 2007. According to our estimates, that indicator for the year of 2008 will reach 6.6 per cent.

At the end of July the dollar to the EURO exchange rate in the world currency market has changed insignificantly. As a result, official exchange rate of USD against RUR has grown only by 1 kopec:

by the end of July the dollar rate was RUR 23.45, as compared with 23.46 as of July 1. Herewith, We should remind, that the monetary base in broad terms is not a monetary indicator, but an indicator of the Bank of Russia liabilities in national currency. The monetary base in narrow terms is a monetary indicator (one of the indicators of monetary supply), ultimately controlled by the Central Bank of Russia.

Jul Jul Jul Jul Jul Jul Jul Jan Jan Jan Jan Jan Jan Jan Oct Oct Oct Oct Oct Oct Apr Apr Apr Apr Apr Apr Apr RUR has strengthened in two-currency basket: the value of the two-currency basket6 has declined by 17 kopecs, from RUR 29.51 to RUR 29.34. As a result, EURO rate at the end of June has grown to RUR 36.53.

Changes in the Monetary Base and in the Gold and Foreign Currency Reserves in 2007 - 4500 4400 3200 Monetary Base (billion rubles) Gold and Foreign Currency Reserves (billion dollars) Source: RF Central Bank Indicators of Ruble`s Exchange Rate Dynamics 38 36 34 32 30 28 26 24 22 20 Official USD/RUR exchange rate (end of period) Official EUR/RUR exchange rate (end of period) Value of the two-currency basket Real effective exchange rate index (right scale) Source: RF Central Bank, Authors estimates.

By the decision of the Board of Directors of the Bank of Russia as of August 1, the threshold of allocations to the Fund of mandatory reserves is increased from September 1 of the current year: from Two-currency basket is the RF Central Bank operational indicator in its foreign currency policy. Currently the share of EURO in the currency basket makes 45 per cent, USD 55 per cent.

billion rubles billion dollars 1 - 7. 0 9. 3 - 9. 1 1. 2 - 8. 0 8. 9 - 1 5. 0 6. 5 - 1 1. 0 1. 8 - 1 4. 0 3. 19 - 2 5. 0 5. 21 - 2 7. 0 7. 11 - 1 7. 0 8. 22 - 2 8. 0 9. 13 - 1 9. 1 0. 24 - 3 0. 1 1. 15 - 2 1. 1 2. 16 - 2 2. 0 2. 19 - 2 5. 0 4. 10 - 1 6. 0 5. 21 - 2 7. 0 6. 12 - 1 8. 0 7. 30. 0 6 - 6. 0 7. 26. 0 1 - 1. 0 2. 29. 0 3 - 4. 0 4. 31. 0 5 - 6. 0 6. RUR Ju l 0 Ju l 0 Ju l 0 Ja n 0 Ja n 0 Ja n 0 Ja n 0 Se p 0 Se p 0 Se p 0 Ma r 0 Ma r 0 Ma r 0 Ma r 0 No v 0 No v 0 No v 0 Ma y 0 Ma y 0 Ma y 0 Ma y 0 per cent to 8.5 per cent per annum under the debts of Russia to foreign credit organizations, from 5 per cent to 5.5 per cent under the banks ruble obligations to individuals and from 5 per cent to 5.5 per cent under other liabilities of credit organizations. At the same time, the Central Bank increases averaging ratio of mandatory reserves, 0.5 to 5.5, which enables to soften the effect of raising the threshold of obligatory reserves replenishment. The upgraded standard rates of deductions to the Fund of mandatory reserves are intended to hinder excessive monetary supply and inflation rates. Wed like to remind, that on July 1 of the current year the Central Bank had already raised the rates of deductions to the Fund of mandatory reserves.

The utmost upgrading of mandatory reserve threshold was applied to the national banks debts to non-residents. Apparently, this is explained by the motivation of the Central Bank to reduce the banks external indebtedness in order to enhance their financial stability in case of problems in the global financial market. Thus, the RF Central Bank has taken measures aimed at tightening monetary policy. In our view, in the situation of a significant inflation acceleration and rapidly growing monetary demand, those measures are well justified. At the same time, the Bank of Russia should continue to monitor the interbanking credit market to avoid liquidity crisis. Moreover, it is worth noting that mandatory reserve requirements amendment is far from the most effective measures of monetary and credit policy due to its delayed and inertial effect those changes provide in economies, which are far more difficult to be assessed than operations in the open market or refinancing rate changes. Excessive growth of mandatory reserve threshold of deductions to the Fund of mandatory reserves can provoke reduction in crediting the real sector and economic growth in general.

Financial MarketsN. Burkova In August the Russian financial market dynamics was determined by the situation in the global financial markets, based on the new positive trends. Negative situation in global market is reflected in the reaction of investors to significant losses of two leading U.S. mortgage agencies, bankruptcy of three American mortgage banks, the publication of low macroeconomic data from the U.S. and a significant decline in oil prices. Downgrading in the Russian stock market is also provoked by domestic news - the tense geopolitical situationdue to the Russian-Georgian conflict, investors wait-and-see position in expectation for resolving the situation with the company "Mechel", as well as the trend to decline of the ruble rate to the US dollar. These negative trends were clearly evident particularly in the Russian stock market (decline in quotations of "blue chips" to 25 per cent), as well as on reducing the main Russian stock indices in MICEX and RTS (over 12 per cent an average) as of month results.

Upgrading of the Russian banking system rating by Standard & Poor's agency from Group 8 to a more "credible" group 7 did not provide a significant effect on the market.

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