Russia takes steps to avoid luring more speculative inflows

Time of article published Feb 8, 2011

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Russia, the only one of the Bric (Brazil, Russia, India and China) countries without capital controls, is following China and Turkey in relying on reserve requirements to drain cash from the economy and stem speculative investment inflows.

“We stand ready to continue increasing mandatory requirements, if needed,” Russia’s Bank Rossii chairman Sergey Ignatiev said on Friday. Policymakers would “act decisively to meet the forecast” for 2011 annual inflation of between 6 percent and 7 percent.

The central bank on January 31 increased the mandatory reserve ratio while unexpectedly leaving its deposit rates unchanged after inflation in the same month accelerated to the fastest in 15 months. Policymakers cited the threat of rising capital inflows driven by higher oil prices.

Emerging economies are weighing the need to curb inflation against the risk of attracting speculative capital from near-zero interest rates in the US and Europe. The threat of a stronger rouble and stifled exports might prove to be a “big headache” for Russia, central banker Alexei Ulyukayev said last month.

The rouble is the third-best performing currency against the dollar among more than 20 emerging market currencies, having gained 3.9 percent so far this year.

Consumer prices in January surged 9.6 percent from a year earlier, triggered by the worst drought in at least 50 years, while monthly inflation was 2.4 percent, the quickest in two years. Grain costs climbed an annual 70 percent last month and fruit and vegetables increased 51 percent.

Central bankers have kept the refinancing rate at a record low 7.75 percent since June last year, opting to increase the deposit rate in December. Last week they raised the mandatory reserve level for liabilities to 3.5 percent for non-resident companies and 3 percent for individuals and others, both from 2.5 percent.

The policy response in countries including Turkey and Russia was “highly unorthodox” and might lead to more aggressive rate increases as inflationary expectations mounted, said Maria Gordon, a London-based emerging market equity portfolio manager at Pacific Investment Management.

“I would be looking for a combination of maximum fears, when the local markets will start pricing in a large degree of tightening, and I would start taking positions on interest-rate sensitive stocks,” she said in Moscow last week.

Traders are pricing in 88 basis points of rate increases over the next three months, forward rate agreements show.

Emerging markets risked a “hard landing” as they started raising interest rates to fight inflation, New York University economics professor Nouriel Roubini said at a conference in Moscow last week.

China set record high reserve requirements, raising the level four times in about two months. Latin American nations from Brazil to Peru are lifting the ratios and returning to capital controls to stem rallies in their currencies.

Bank Rossii raised the reserve level for liabilities to the highest level since 2008 after lowering the ratio at the height of the financial crisis to help lenders weather the credit squeeze. It last lifted the requirement level in August 2009.

Banks including Sberbank and VTB Group, the country’s two largest, may need to set aside about 100 billion roubles (R23.8bn) to meet the new requirements, according to calculations by BNP Paribas and Raiffeisenbank.

Policymakers in Moscow are also reluctant to increase interest rates to avoid throttling economic growth, which they said was “uncertain”. Gross domestic product (GDP) grew 4 percent in 2010 after shrinking 7.8 percent in 2009.

The government predicts GDP will rise 4.2 percent this year, or less than half the 10 percent target set by President Dmitry Medvedev to pull the country in line with China, Brazil and India.

“Raising reserve requirements is the only available instrument for monetary tightening in these conditions,” Pavel Pikulev, a Moscow-based fixed-income strategist at Gazprombank, the lending arm of Russia’s gas export monopoly, said on Friday.

The US Federal Reserve’s plan to buy another $600bn (R4.3 trillion) of treasuries means countries that rely on natural resources faced an “onslaught of more capital”, Nobel prize-winning economist Joseph Stiglitz said in Moscow last week.

Capital inflows to Russia this year could exceed the official $15bn estimate after three years of capital flight, Ulyukayev said.

Russian-focused equity funds inflows extended to a tenth week last week, posting the only gain among Bric countries and taking in $196 million, Alfa Bank said, citing data compiled by EPFR Global.

“In many countries there are more active policies aimed at preventing capital inflows,” said Stiglitz. There was “more sensitivity on monetary policy, keeping the interest rate down and using other instruments like reserve requirements to restrain domestic aggregate demand. You see a lot of interesting experiments going on.” – Bloomberg

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