Russia’s central bank raises interest rate to 21% to fight inflation boosted by military spending
Russia’s central bank raises interest rate to 21% to fight inflation boosted by military spending
MOSCOW (AP) — Russia’s central bank on Friday raised its key interest rate by two percentage points to a record-high 21% in an effort to stem growing inflation as massive government spending on the military amid the fighting in Ukraine strains the economy’s capacity to produce goods and services and drives up workers’ wages.
The central bank said in a statement that “growth in domestic demand is still significantly outstripping the capabilities to expand the supply of goods and services.” Inflation, the statement said, “is running considerably above the Bank of Russia’s July forecast,” and “inflation expectations continue to increase.” It held out the prospect of more rate increases in December.
Russia’s economy continues to show growth as a result of booming oil export revenues and a hike in government spending, the bulk of which goes to the military as the conflict in Ukraine has dragged into a third year. That has fueled inflation, which the central bank has tried to combat with higher rates that make it more expensive to borrow and spend on goods, in theory relieving pressure on prices.
Central bank governor Elvira Nabiullina said that inflation is expected to double the bank’s target of an annual 4% and emphasized that the bank remains committed to bringing it down to the targeted level.
Nabiullina noted that inflation has overshot the goals because of increased government spending and lenient banking regulations that encouraged commercial banks to offer more loans. Years of price growth that exceeded the targets have fueled high inflationary expectations among consumers, she added.
“There is a high inertia of inflationary expectations as the inflation has exceeded the target level for four years,” Nabiullina said. “The more inflation exceeds the targets, the less people and companies believe that it could fall back to low levels.”
This is the highest key interest rate in Russia since it was introduced in 2013 and effectively replaced the refinancing rate, a similar instrument. The previous high was in February 2022, when the central bank raised the rates to a then-unprecedented 20% in a desperate bid to shore up the ruble in response to crippling Western sanctions that came after the Kremlin sent troops into Ukraine.
Russia’s economy grew 4.4% in the second quarter of 2024, with unemployment low at 2.4%. Factories are largely running at full speed, and an increasing number of them are focusing on weapons and other military gear. Domestic producers are also stepping in to fill the gaps left by a drop in imports that have been affected by Western sanctions and foreign companies’ decisions to stop doing business in Russia.
Government revenues are supported by economic growth and by continuing exports of oil and gas with less-than-airtight sanctions and a $60 price cap imposed by Western governments on Russian oil. The cap is enforced by barring Western insurers and shippers from handling oil priced over the cap. But Russia has been able to evade the price cap by lining up its own fleet of tankers without Western insurance, and it earned some $17 billion in oil revenues in July.
Chris Weafer, CEO at Macro-Advisory Ltd. consultancy, noted that with the rate hike the central bank wants to raise its “concern about the imbalances that emerged in the economy” that could lead to “serious problems down the road that could even trigger maybe a crisis or a recession.”
He noted that the booming defense spending, with over a third of next year’s budget allocated to the military-industrial complex, has driven economic growth along with soaring consumer spending but also deepened imbalances in the economy.
Labor shortages resulting from a decrease in population and exacerbated by workers leaving factory jobs to join the military have driven a massive increase in wages and fueled a consumer boom. “The central bank is trying to keep the interest rates as high as possible to try and cool that because they warn of the overheating in the consumer economy, which of course can destabilize the economy before too long,” Weafer said.
He described the rate hike as “not so much a cry for help, but a scream of pain from the central bank,” sending a signal to the government that the current high level of spending on military issues can’t continue indefinitely.
