Yesterday, the CBR released its Quarterly Monetary Policy Report. The key messages are as follows.
Growth outlook. The CBR has downgraded its 2014 growth expectations to 1.5-1.8% (from 2.0% back in 4Q13) amid the weaker than expected business activity recently.
Output gap. The regulator acknowledged there was a cyclical component to the slowdown, as suggested by alternative measures of slack on the labour market and its estimates of output gap in fan charts (-0.6-0.7% of GDP). Looking ahead, the negative output gap is not expected to narrow before 2016.
Inflation outlook. The CBR believes elevated CPI is driven by supply-side shocks and although it is expected to remain sticky over 1H14 (5.8-6.1%) on food and FX pass-through, inflation is likely to drop to the targets in 2H14 and into 2015-2016 on fading supply-side pressures, slower tariff growth, soft domestic demand and a moderation in inflation expectations.
Risks. Risks to the inflation outlook are assessed to be tilted to the upside. The impact of supply-side shocks (particularly those related to FX pass-through) on broader inflation in the environment of yet unanchored expectations pose the main upside risk. Downside risks are related to a more significant slowdown in domestic demand.
As was signalled last Friday, the CBR has switched to a hawkish bias. Should the regulator find evidence that supply-side factors (FX pass-through, food) are contaminating broader inflation, it is ready to tighten policy. We believe the CBR underestimates the disinflationary impact from demand slowdown and thinks risks to the inflation outlook lie to the downside. Hence, we do not expect policy rate changes over 1H14. Nevertheless, were CPI persistently to exceed its expectations (5.8-6.1% 1H14), that might constitute a trigger for rate hikes.
On a separate note, it is encouraging that the CBR dispelled fears of unconventional policy tightening (tighter liquidity provision and hikes to FX swap rate) in order to stem RUB decline.