07 June 2019, Baku: The Management Board of the Central Bank of the Republic of Azerbaijan decided to reduce the refinancing rate to 8.5% from 8.75%. The ceiling of the interest rate corridor was set at 10.5%, and the floor at 6.5% (±2% symmetric range).
This decision was taken in view of the fact that the inflation rate is below the midpoint of the target band (4±2%), inflation expectations are stable, external environment remains favorable and in light of updated macroeconomic forecasts.
Inflation. Inflation follows the expected trajectory. In April 2019 inflation made up 3.1%, within the 12-month inflation target. Price hike for food and services (3.5% and 3.8% respectively) was within the target band. Non-food prices increased by 1.4%. Prices for food products with a significant share in the consumer basket cheapened in May due to seasonal factors.
Inflation expectations. Current behavior of consumer prices and the balanced forex market keep inflation expectations stable. According to the real sector monitoring, price expectations dropped in trade, services and construction and remained unchanged in non-oil processing over the recent month.
Agricultural products will have a downward effect on food inflation in upcoming several months due to seasonal factors. Inflation is forecast to remain within the target band (4±2%) as of the end-2019.
External condition. Positive dynamics continues in the external sector. Over 4 months of the current year exports (export of goods) increased by 25.4%, including 19.9% rise in non-oil export; external trade surplus amounted to $ 2.5 B.
On the backdrop of a balance of payments surplus strategic foreign exchange reserves increased by 6.2% to $47.5 B vs early year.
International conjuncture remains favorable for Azerbaijan. Oil prices have increased by 24% since early year.
In April global food prices y/y decreased by 2.2% (source: UN Food and Agriculture Organization).
Economic activity. Economic growth keeps its positive dynamics. Over 9 months of 2019 real economic growth y/y stood at 2.1%. The non-oil sector grew by 2.1%, driven by trade. The real sector monitoring based business confidence index has increased in non-oil processing and services over the recent month.
Economic growth is driven by both external and domestic demand. In January-April retail commodity turnover growth rate (2.7%) y/y lagged behind that of population’s income (5.5%), attributable to the fact that for the time being households follow consumer behavior not pushing significant inflation pressure.
Inflation risks. In the short run inflation’s risk balance is assessed to be balanced, which includes favorable international conjuncture, balance of payments surplus, balanced forex market, anti-inflationary monetary condition and seasonal factors.
In the medium run risk balance is complicating. Main uncertainty in the external sector relates to the dynamics of oil prices amid deteriorating global economic growth outlook, a new wave of trade wars and geopolitical tension. If the fall of oil prices started in May continues, it may have negative impact on economic expectations. Another risk source includes continuing price hikes in global food markets and potential import of inflation. The risk of uncertainty relatively subdued in financial markets of trade partners owing to lower expectations related to tougher monetary policy in advanced countries.
Realization of domestic risk factors will depend on the scale of transmission of social fiscal stimuli and financial sector related decisions to the consumer market and the monetary sector. Developments of recent months show that these effects are spread out by time. How much the said factors will pass through to inflation will have been fully shaped by the end of the year. The prerequisite of sustainable macroeconomic stability includes fiscal policy implementation within existing rules and tough linkage of the fiscal and monetary policies in a single framework in complicating external environment.
Monetary condition. As of the end-May money base in manat increased by 6.6% vs early year, an acceptable level from the standpoint of attaining inflation target. Lower outstanding amount on Central Bank’s sterilization operations relates to regulation of money base within the target amid fiscal surplus.
Banking system’s liquidity position is still in structural surplus on the backdrop of low lending. In January-April lending decreased by 0.1%, including 2.7% drop on legal entities. Falling lending activity of recent years undermines both macroeconomic and financial stability by negatively influencing economic growth and expansion of aggregate supply. In this context banks’ foreign investment activity in the current year calls attention.
Upcoming decisions on the parameters of the interest rate corridor will be adequate to comparison of actual and forecasted inflation, inflation expectations, changes in external environment and financial markets’ related response.
The decision is taking effect on 7 June 2019. Next disclosure by the Management Board of the Central Bank on the interest rate corridor parameters will go public on 26 July 2019.