June 15, 2018 / 3:02 PM / a month ago

Russia's planned tax hike drags on central bank's cutting cycle

MOSCOW (Reuters) - The Russian central bank kept its key interest rate unchanged at 7.25 percent on Friday and said a move to lower rates would now take longer following a government proposal to raise value-added tax.

A view shows the Russia's Central Bank headquarters in Moscow, Russia February 22, 2018. REUTERS/Sergei Karpukhin

The Russian government said on Thursday it wanted to raise value-added tax from 2019, a move that the central bank warned would translate into higher inflation.

Central Bank Governor Elvira Nabiullina, presenting the rate decision, said the higher VAT could boost inflationary expectations and result in a preemptive adjustment in prices.

The proposed increase in VAT, from 20 percent from 18 percent now, would take annual inflation closer to the central bank’s target of 4 percent in 2018, Nabiullina told a news conference, from 2.4 percent seen in May.

Friday’s board meeting became the second consecutive one in which the bank kept its key rate on hold RUCBIR=ECI. Friday’s decision was predicted by 16 of 25 analysts polled by Reuters.

“Taking into account the impact of the suggested fiscal measures on inflation and inflation expectations, the transition to neutral monetary policy needs to be slower,” the central bank said in a statement.

Nabiullina told Reuters this month that would require lowering the key rate to between 6 and 7 percent, but keeping it closer to the upper boundary of this corridor.

FILE PHOTO - Russian Central Bank Governor Elvira Nabiullina gives an interview to Reuters in Moscow, Russia May 31, 2018. Picture taken May 31, 2018. REUTERS/Maxim Shemetov

The central bank has previously said it plans to switch to a so-called neutral monetary policy by the end of 2018.

But speaking after the rate decision on Friday, Nabiullina said the move to a neutral policy was now more likely to happen in 2019 because of the government’s tax increase proposal.

“At this point in time, we cannot afford the remaining one or two downward steps in the key rate, which would take us to fully neutral monetary conditions,” she said. “The realised inflation risks spell the need to carry on with a slightly tight monetary policy stance.”

Nabiullina’s comments prompted analysts to review their outlooks, which will be fully reflected in Reuters monthly poll due to be published on June 29.

“We now think the easing cycle will be slower (but not smaller) than we had previously anticipated,” Capital Economics analysts said in a note.

The central bank’s next rate-setting meeting is scheduled for July 27.

The rouble firmed briefly in response to the central bank’s decision, trading at 62.74 versus the dollar compared with 62.85 seen shortly before the rate announcement RUBUTSTN=MCX, but later pared gains.

Nabiullina also said the soccer World Cup, which kicked off in Russia on Thursday and runs until July 15, could add up to 0.2 percentage points to economic growth figure this year but was likely have a limited impact on domestic inflation.

Nabiullina’s words confirmed economists’ view that the World Cup will only have a short-lived impact on the economy of its host Russia, despite Moscow’s hopes that the billions of dollars spent on preparations for the tournament will lead to an economic boost.

Reporting by Andrey Ostroukh and Jack Stubbs; Editing by Alison Williams

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