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Monetary base in a narrow definition is a monetary instrument (an indicator of monetary supply volume), which is fully controlled by the RF Central Bank. The Monetary base in narrow definition includes the cash in circulation, issued eign currency reserves of the RF Central Bank also grew by 1.4 per cent and amounted, as of February 1, to USD 483.2 bln. Within the first two weeks of February they have increased by 04. per cent more and reached the level of USD 481.3 bln. A greater share of the national liquidity inflow was accumulated in the RF Stabilization Fund, which volume as of February 1, 2008 amounted to RUR 3851.8 bln (11.8 per cent of GDP) (+ RUR 2.7 bln as compared with January 1, 2008). Within the relevant period of preceding year the volume of the RF Stabilization Fund has grown by RUR 300.3 bln. Such an explicit volatility in the growth rates is explained by the fact, that in January of this year, the Stabilization Fund was split into the Reserve Fund (RUR 3069 billion) and the National Welfare Fund (+RUR 782.8 billion) in accordance with the legislation of the Russian Federation. In all probability, the replenishment of the Funds as of results of the beginning of this year will be reflected in February statistics.

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: RF Statistical Service Fig. 1.

Dynamics in the Monetary Base (in Narrow Definition) and in the RF Gold and Foreign Currency Reserves in 2006 - 2008.

3740 2740 Monetary Base (billion rubles) Gold and Foreign Currency Reserves (billion dollars) Source: RF Central Bank Fig. 2.

by the Bank of Russia (and the balance on the accounts of credit organizations), balances on the accounts of mandatory reserves of the funds in the national currency attracted by credit institutions in national currency, deposited with the Bank of Russia.

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 billion rubles billion dollars 1-7.12.3-9.11.1-7.12.8-14.09.6-12.10.24-30.03.21-27.04.19-25.05.16-22.06.14-20.07.11-17.08.27.01-2.02.24.02-2.03.26.01-1.02.30.12.06-5.01.29.12.07-4.01.In January, the inflow of foreign currency to the country was continued as a result of sustained high oil prices. As a result, the real effective exchange ruble rate continued to grow: while in December it accounted to 131.15, it has grown to 133.1 as per January results (see Fig. 3).

In January, downgrading of US dollar in the global currency market continued due to higher expectation of further recession in the USA economy. The USD decline has resulted in its further downgrading in the RF: by the end of the month the dollar rate was RUR 24.48, against RUR 24.55 as of January 1. Ruble strengthening of against US dollar was accompanied by increased value of two-currency basket6 by 8 kopecks in January. As a result, EURO rate at the end of September has grown to RUR 36.19.

Indicators of Ruble`s Exchange Rate Dynamics over January 2005 - January 38 36 34 32 30 28 26 24 22 20 Official USD/RUR exchange rate (end pf 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 data, authors estimates.

Fig. 3.

On February 1, the RF Central Bank decided to amend the refinancing rate, interest rates on credit and deposit operations, performed with the Bank of Russia, as well as standard threshold of mandatory reserves.

Thus, the refinancing rate was increased by 0.25 per cent, to the level of 10.25 per cent per annum. Since the refinancing rate is the base rate for all credit transactions of the Bank of Russia, such amendment resulted in the relevant increase of other interest rates of the RF Central Bank.

Moreover, the interest rate for cross-currency swap transactions has also been raised from 8 per cent to 8.25 per cent, while interest rates on direct REPO transactions increased by 0.25 p.p. (from 7 per cent to 7.per cent per annum for 1 day term and from 8 per cent to 8.25 per cent per annum for a period of 7 days).

This measure was taken by the Bank of Russia due to accelerated inflation in the second half of 2007 and is addressed to curb the rapid growth of monetary supply, observed recently. At the same time, we should note, that aggravation of refinancing conditions by the Central Bank took place after the stabilization of the situation with liquidity in the national banking sector. It is also worth reminding, that in August-November liquidity shortage, caused by the outflow of capital from the country, was observed in the interbank credit market. Currently, the capital inflow is renewed, but the Bank of Russia has to monitor the situation in the market to prevent the development of financial instability.

Apparently, at this point the Central Bank is more concerned about inflation expansion, rather than tentative development of the liquidity crisis in the banking sector. That's why the bank has increased interest rates The level of 2002 is accepted as 100 per cent.

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.

RUR Jul Jul Jul Jan Jan Jan Jan Sep Sep Sep Mar Nov Mar Nov Mar Nov May May May not only on credit, but also on deposit operations under standard conditions "tom-next", "spot-next" and "on demand" from 2.75 per cent to 3 per cent per annum, "1 week "and" spot-week" from 3.25 per cent to 3.per cent per annum. This measure is aimed at raising attractiveness of deposits to credit institutions, and consequently, at restriction of excessive liquidity.

Table Interest rates on credits, provided to commercial banks by the Bank of Russia Interest rate (% per annum) Credit type Before amendment After amendment Intraday 0 Overnight 10 10,7% for the term of 7 calendar days; 7,25% for the term of Lombard 8% for the term calendar days;

within 1 calendar 8,25% for the term within day 1 calendar day Mortgage 9% 9,25% Secured 9% 9,25% 7% for the term within 90 calendar 7,25% for the term within Borrowing against bill pledging days; 90 calendar days;

8% from 91 to 180 8,25% from 91 to calendar days calendar days Source: RF Central Bank.

Finally, in addition to the measures described above, the Bank of Russia has increased the threshold of allocations to the Fund of mandatory reserves from March 1 of the current year: from 4.5 per cent to 5.5 per cent per annum under the debts of Russia to foreign credit organizations, from 4 per cent to 4.5 per cent under the the banksruble obligations to individuals, and from 4.5 per cent to 5 per cent under other liabilities of credit institutions. At the same time, the Central Bank increases averaging ratio of mandatory reserves, 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 is intended to hinder excessive monetary supply and to restrict external borrowings, made by domestic credit organizations.

Therefore, the Central Bank has taken a number of steps, aimed at tightening the 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's also worth noting that the above measures will strongly affect the inflation processes in case of a sustained trend of a vast-scale inflow of private capital and high prices for energy sources. In the background of exogenous growth of monetary supply, the only effective measure to suppress inflation could be an explicit ruble strengthening.

Budgetary and Tax Policy . Kirillov In January 2008, an explicit growth was observed in both, expenditure and revinue parts of the federal budget. Financing of national expenditures as of January results in the current year amounted to 41.9 per cent of the approved annual volume, thereby demostrating the sustained trend of irregular budget expenditures over the year. On January 31, 2008, the assets of the Stabilization Fund of Russia were transferred to two separate accounts of the Reserve Fund and the National Welfare Fund.

The trend to extension of federal government expenditures, started in 2007, was sustained in January, though in the current year the relevant indicators have significantly exceeded the level of the same period of preceding year (see Table 1).

Retention of budgetary expenditures at the high level will be most probably continued throughout the first quarter of 2008, which is explained by the RF President elections in March, as well as the liabilities to implement the planned economic projects and political decisions. To reduce irregularity in budget expenditures, the RF Ministry of Finance has approved in January expenditures in the amount of 41.9 per cent of the total annual volume of public expenditures, planned for 2008. Tresholds of budget expenses are established for federal administrators of the basic budget funds and approved by the Minister of Finance of the Russian Federation in the amount of RUR 5497.74 billion, i.e., 83.7 per cent of the total volume of the budget financial targets for 2008. The indicators of the federal budget expenditures for January 2008, broken down by the Russian Federation budget expenditure lines, as compared with the relevant indicators of 2007 reporting period, are presented in Table. 2.

Table Basic Parameters of the RF Federal Budget in 2005 2007 (% versus GDP) 2006 . 2007 2007 . Revenues 23,5 21,30 23,87 29,Expenditures 16,2 10,64 18,39 19,Deficit ()/ Surplus (+) 7,4 10,65 5,48 10,Source: RF Ministry of Finance, IET estimates Table Expenditures of the RF Federal Budget in January 2007 against January Approved Growth in Funds, allocated % in GDP for % in planned planned indica- 2008 ver- in January (by January annual indicator tors with regard sus 2007, budget lines, (with regard to to amendments, % RUR bln amendments) RUR bln 2007 2008 2007 2008 2007 2008 2007 Federal issues 1 080,5 890,7 82,4 116,1 421,1 5,8 18 10,7 47,Including expenditures associated with the servic840,9 958,3 114 97,8 691,1 4,9 29,6 11,6 72,ing of federal and municipal debt National defense 674,3 772,2 114,5 128,2 572,8 6,4 24,5 19 74,National security and law 768,1 710,4 92,5 25,8 204,8 1,3 8,8 3,4 28,enforcement National Economy 296,9 57,4 19,3 0,5 0,1 0,025 0,004 0,2 0,Housing and public utilities 8,3 9,3 112 1,3 2,7 0,06 0,12 15,7 Environmental protec291,2 315 108,2 36,4 91,7 1,8 3,9 12,5 29,tion Education 71,2 83,8 117,7 4,4 22,3 0,2 1 6,2 26,Culture, cinematography 278,2 220,3 79,2 25 93,2 1,2 4 9 42,and mass media Health care and sports 282,9 270,9 95,8 41,4 194 2,1 8,3 14,6 71,Social policy 1 942,3 2 282 117,5 298,8 456,7 14,9 19,5 15,4 Interbudgetary transfers 6 534,7 6 570,3 100,5 775,9 2 750,4 38,7 117,7 11,9 41,Total expenditures Source: RF Ministry of Finance, IET estimates.

Retention of budgetary expenditures at the high level will be most probably continued throughout the first quarter of 2008, which is explained by the RF President elections in March, as well as the liabilities to implement the planned economic projects and political decisions. To reduce irregularity in budget expenditures, the RF Ministry of Finance has approved in January expenditures in the amount of 41.9 per cent of the total annual volume of public expenditures, planned for 2008. Tresholds of budget expenses are established for federal administrators of the basic budget funds and approved by the Minister of Finance of the Russian Federation in the amount of RUR 5497.74 billion, i.e., 83.7 per cent of the total volume of the budget financial targets for 2008. The indicators of the federal budget expenditures for January 2008, broken down by the Russian Federation budget expenditure lines, as compared with the relevant indicators of 2007 reporting period, are presented in Table. 2.

The amount of cash expenditures for the reporting period made RUR 455.56 billion, or 6.9 per cent of the budget financial targets for 2008. In January 2007, cash expenditures amounted to RUR 223.47 billion, or 4.1 per cent of the approved annual volume.

Revenues of the federal budget in January, including grants and undisclosed assets, amounted to RUR 699.12 billion, or 10.5 per cent of the planned estimated federal budget revenues in 2008. This is significantly higher than in the last year, when January revenues made only 6. 3 per cent of the estimated indicator.

Tax revenue for January of this year, broken down by individudl federal tax administrative bodies, have exceeded the relevant indicators of preceding year. The structire of the basic federal budget revenues as broken down by individual federal administrative bodies is presented in Tables 3-4.

Table Amount of Revenues to the RF Federal Budget in January 2007-2008, RUR mln Planned (estimated) an nual indicators Actual January indicators Performance,% FTS of Russia 3 670 966,7 222 200,5 6,FCS of Russia 3 186 575,5 193 692,3 6,Federal Agency for Management of Federal Property 62 511,0 2 652,9 4,Other administrative bodies 523 870,2 17 616,3 3,TOTAL 7 443 923,4 436 162,0 5,FTS of Russia 3 333 280,4 373 187,6 11,FCS of Russia 2 969 844,0 274 778,00 9,Federal Agency for Management of Federal Property 50 874,4 10 668,8 Other administrative bodies 290 448,6 40 482,0 13,TOTAL 6 644 447,4 699 116,4 10,Source: RF Ministry of Finance, IET estimates Table 4.

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