18 December 2020, Baku: The Management Board of the Central Bank of the Republic of Azerbaijan decided to shift the refinancing rate to 6.25% from 6.5%. The floor of the interest rate corridor was set as 5.75%, and the ceiling as 6.75%.
Actual and forecast inflation remains below the target band center amid pandemic-driven weak external and domestic demand leaving space for monetary policy easing.
The decision taken in the environment of ongoing rebalancing in the FX market and weak growth of money supply and credit investments, is oriented towards easing the monetary condition. On the other hand, recent trends in the global energy carriers market, and prospects for their continuation in 2021 as well may support improvement of expectations of the country’s foreign position and economic agents.
Next interest rate corridor parameters related decisions will depend on the effects of the pandemic, the recovery rate of the economy and probabilities for realization of internal and external risks.
Inflation and inflation expectations. The dynamics of inflation corresponds to the projected trajectory on the recent months and is mainly driven by reducing factors. On the backdrop of low aggregate demand and output gap deficit due to the pandemic, according to official statistics, in November 12-month inflation was 2.4%, below the target band center.
Price swings on consumer basket’s main sub-categories varied.
Food inflation was 0.4% in November and 3.9% over recent 12 months. 6.5% hike in global food prices over recent 12 months weighed on food inflation.
Non-food and service inflation remains stable, mainly due to low consumer demand. Non-food prices rose by 0.1%, and services by 0.9% over recent month. 12-month change in non-food and service prices was 1.2% and 1.1% respectively.
Inflation expectations vary across sectors. According to the findings of real sector monitoring, in November inflation expectations decreased in the non-oil industry (mainly due to weaving and sewing subsectors) and trade, remained in a negative zone in services although prone to growth, and remained nearly unchanged in construction vs the previous month. In general, inflation expectations were close to actual indicators across all economic agents. According to the survey held among households in December the share of respondents who expect higher prices on upcoming 12 months decreased by 13 pp to 12% vs September.
According to revised forecast in December inflation is expected to be around 3% to the end-2020 and range 3.5-4% in 2021.
Global environment and external sector indicators. The process of recovery in the global economy is weak and not sustainable. Strict restrictive measures taken by individual countries in response to the worsening epidemiological situation in recent months, following the emergence of certain signs of global economic recovery in Q3 of this year, have increased uncertainty. Advanced economies continue the accommodative monetary policy and fiscal stimulus measures. Fluctuations in financial and FX markets of trade partners are still high.
The search for balance in global commodity markets continue. Recent advances by various pharmaceutical companies in production of safe and effective COVID-19 vaccines are translating to the oil market. Revised forecasts show that in 2021 daily demand for oil will increase. The average price for Brent oil was $41.6 in October, $44 in November and $49.3 over the past period of December. The world's leading think tanks are revising oil prices up for 2021.
Amid foreign trade surplus foreign exchange reserves of the country keep exceeding $50B and annual GDP. Foreign exchange reserves of the Central Bank have increased by 3.3% since early year.
Monetary condition. There has been no considerable change in the monetary condition.
Money base has increased by 3.3% since early year, much lower than expected.
Although in November-December interest rates on Central Bank’s deposit operations and short-term notes remained stable, yield on government securities maintained a declining trend. No serious changes are being observed in average interest rates in the internal REPO market.
Macro prudential easing and government’s preferential lending programs also positively translate to credit investments and average interest rates along with monetary policy decisions.
Low demand for loans amid the pandemic weigh on the dynamics of the interest rates of deposits, the main source of funds for banks. Deposit interest rates have been falling over recent months.
Transition of the deposit insurance mechanism to a new framework on stable terms will have a positive effect on formation of deposit rates, along with sustainable strengthening of the banking system’s resource base maintaining financial stability.
The FX market has remained stable since the last meeting. Dollarization indicators are falling amid rebalanced FX market.
Economic activity. In the environment of a downward effect of the pandemic on aggregate demand and supply, according to the official statistics, over 11 months GDP decreased by 4.3% in real terms and by 2.9% on the non-oil sector. The pandemic affects different sectors of the economy differently depending on the level of contact. Non-oil industry, one of the low-contact sectors of the economy, grew by 11.3% and agriculture by 2%.
Operational indicators on economic activity show that the real sector is recovering. According to real sector monitoring, in November, the Business Confidence Index tended to grow in the non-oil processing, trade and service sectors compared to the previous month, and remained on the same level in construction.
Economic growth is expected to resume in 2021 due to improvement of the external environment and activation of pent-up demand. Uncertainties remain about long-term effects of the pandemic on the structure of the national economy.
Fiscal stimulus and measures aimed at preventing decline in credit flows will also support realization of economic growth forecasts for 2021. Large-scale economic development plans in the liberated territories will further support optimism about the recovery of economic growth in 2021.
Inflation risks. There have been no considerable changes in risks balance since the last meeting dedicated to the monetary policy.
Factors that reduce inflation in the short run remain dominant. Rising world food prices and high anti-epidemic spending are neutralized by declining aggregate demand. Stable exchange rate of the manat and low demand for credit against the background of significant uncertainties in the economy are the main factors for price stability in the short term.
In the medium term, recovery of aggregate demand and thus economic growth will be one of the main factors influencing inflation. Along with the improvement of the external environment, pent-up demand and credit investments, fiscal activity, which provides for implementation of construction plans in deoccupied territories, will also give a positive impetus to the recovery of aggregate demand. Over this period, a macroeconomic framework that ensures price stability and balance in the FX market will be one of the main conditions for managing possible shocks from the external environment and restoring economic growth on a sustainable basis.
The Central Bank will continue to monitor the processes in the economy and in all segments of financial markets, and use all the tools and means at its disposal to safeguard macroeconomic and financial stability.
The decision takes effect on 18 December 2020. The next decision of the Management Board of the Central Bank on interest rate corridor parameters will be announced on 29 January 2021 and a press conference will be held in this regard.