Russia’s Inflation and Currency Struggles Highlight Discord Between Kremlin and Central Bank
Russia is currently experiencing rising inflation and a plunging currency, which has brought attention to a growing disagreement between the Kremlin and the country’s central bank.
In an emergency meeting on Tuesday, the Central Bank of Russia (CBR) raised interest rates by 350 basis points to 12% in an attempt to stabilize the declining ruble currency. The ruble had fallen to a 17-month low of nearly 102 to the dollar on Monday.
This sudden action came after Maxim Oreshkin, President Vladimir Putin’s economic advisor, argued in an op-ed that loose monetary policy was to blame for the recent inflation acceleration and currency depreciation. Oreshkin claimed that the central bank had the necessary tools to address the situation.
The central bank stated that the rate hike was aimed at limiting price stability risks, as inflationary pressure was building up. The current price growth over the last three months has averaged an annualized 7.6% on a seasonally adjusted basis, with core inflation rising to 7.1% over the same period.
The central bank’s board explained that steady growth in domestic demand, exceeding the capacity to expand output, was contributing to inflationary pressure and impacting the ruble’s exchange rate dynamics through increased demand for imports.
Despite the central bank’s efforts, the ruble’s decline continued even after the bank had halted foreign currency purchases on the domestic market until 2024 to reduce volatility. Russia often sells foreign currency to offset declines in oil and gas export revenues and buys if it has a surplus.
Prior to the Kremlin’s intervention, the Bank of Russia attributed the inflation and currency difficulties to the country’s shrinking balance of trade. Russia’s current account surplus fell over 85% year on year from January to July.
Anatoly Aksakov, chairman of the Duma Committee on Financial Markets, stated on Telegram that “the ruble exchange rate is under state control,” according to a Google translation.
The Kremlin and the Bank of Russia, after collaborating on measures to minimize the impact of economic isolation and sanctions, now seem to disagree on the causes of the currency troubles.
Analysts suggested that the government’s direct influence on the central bank’s monetary policy actions indicated underlying problems in the country’s economy.
Agathe Demarais, global forecasting director at the Economist Intelligence Unit, supported the central bank’s earlier assessment that the collapse in Russia’s current account surplus was the main factor behind high inflation. She pointed out that Western sanctions were curbing Russia’s export revenues and increasing import costs, leading to a vicious circle for the Russian currency.
Following Russia’s invasion of Ukraine and the imposition of Western sanctions, the ruble initially plummeted to 130 to the dollar in February 2022. The central bank implemented capital controls to stabilize the currency, eventually bringing it back to a range of 50 to 60 to the dollar by the summer of 2022.
The central bank later relaxed these capital controls to support the economy as sanctions took effect. Demarais argued that this, combined with a period of low interest rates, further reinforced the negative trend for the ruble.
She stated that blaming the central bank had become an easy tactic for the Kremlin because there were limited tangible options to improve the situation.
Recent reports suggest that Russian authorities are considering reintroducing capital controls, such as compulsory sales of foreign currency revenues for exporters, as the central bank’s rate hike only slowed down the ruble’s decline.
Back to Capital Controls?
Stephanie Kennedy, economist at Julius Baer, agreed that the most likely scenario going forward would be for the CBR to strengthen capital controls and enforce the rule that exporters must exchange their earnings from US dollars into rubles.
Kennedy explained that currency collapses are often triggered by nervous international investors or domestic capital flight. Since Russia is isolated from the international financial system due to sanctions and capital controls, trading in the ruble, especially against the US dollar, remains limited. The devaluation is primarily caused by the relative flow of exports earning foreign currency versus imports that must be paid for with these earnings.
Although the current account surplus has decreased significantly, Kennedy noted that it remains at a tolerable level and within its historical average. A weaker currency benefits Russia’s oil revenues but also increases import costs.
In June, Russian Deputy Prime Minister Andrey Belousov stated that a ruble value of 80-90 to the dollar would be ideal for the country’s budget, importers, and exporters.
Julius Baer expects the reinforcement of capital controls and the introduction of the rule on exporters. However, they believe that the ruble will still be around 92 to the dollar in three months and 95 in 12 months. The uncertainty surrounding the outlook for the ruble is high due to limited tradability and ongoing geopolitical factors.