Russia Cuts Rate On Risk Of Inflation Overshoot, Signals More Ahead

Russia central bank cut its key interest rate on Friday by half a percentage point, citing the risk of inflation overshooting the 4 percent target over the medium term, and signaled that further reductions are possible over the next two quarters.

The Board of Directors decided to cut the key rate by 50 basis points to 8.50 percent, the Bank of Russia said in a statement. The reduction was in line with economists' expectations.

Previously, the bank had slashed the rate by 25 basis points each in June and March, and by 50 basis points in April.

Policymakers noted that inflation is close to 4 percent, while the economy keeps growing. While inflation expectations have resumed their decline, they have not yet anchored at a low level, the bank said.

"Medium-term risks of inflation overshooting 4 percent dominate over the risk of its steady downward deviation from the target," the bank said.

"In order to maintain inflation close to the 4 percent, the Bank of Russia will continue to conduct moderately tight monetary policy."

The bank "deems it possible to cut the key rate further" during the next two quarters.

Inflation eased to 3.3 percent in August amid declines in price growth in both food and non-food groups.

Going forward, the bank expects inflation to deviate from the 4 percent target both to the upside and to the downside and hence, it is keen on make inflation expectations less sensitive to price movements.

Citing the positive trend set by the second quarter growth figures, the central bank revised up this year's growth forecast to 1.7-2.2 percent.

The bank still assess that the economy is close to its potential and expects growth to be constrained by insufficient production capacity. Further, the possible skilled labor shortages affecting certain segments of the labor market.

"We think the large amount of spare capacity in the economy will continue to keep a lid on price pressures," Capital Economics economist William Jackson said.

"And we expect the headline rate to remain below inflation target over our forecast horizon," the economist said.

Capital Economics still expects that the policy rate will be lowered to 6.00 percent by the end of 2018, which is more easing than the markets are currently pricing in, Jackson added.

The next policy session is scheduled for October 27.