17 September 2021, Baku: The Management Board of the Central Bank of the Republic of Azerbaijan decided to increase the refinancing rate to 6.5% from 6.25%, the floor of interest rate corridor to 6% from 5.75% and the ceiling to 7% from 6.75%.
The decision related to refinancing rate was made taking into account higher global inflation, in particular rising transmission effects of food and raw material prices, transportation and logistics expenses to the national economy, as well as supply lagging amid high deferred aggregate demand, and forecasting of short- and medium-term inflation factors in light of the effect of liberalization of regulated prices and tariffs.
The mentioned factors, by strengthening the role of inflation factors in the balance of risks of price stability weaken neutralizing effects of the monetary and fiscal policy.
Preventing inflation from deviating from the target on the forecast horizon represents the exit of the monetary policy from a standby phase.
Next decisions on the parameters of the interest rate corridor will be taken in light of changes in actual and forecasted inflation indicators, changes in the balance of risks, as well as the current state of the economy and its growth prospects in the medium term.
Inflation. The annual inflation rate has risen since the last meeting of the Management Board dedicated to the monetary policy. According to official statistics, in August, the inflation rate was 0.5%, overall 12-month price hike was 6.7%. Average annual inflation stood at 4.8% in January-August. Average annual core inflation calculated by excluding swings in regulated prices and prices for seasonal agricultural products was 3% in January-August 2021.
The food price index increased by 0.8% in August, annual food inflation was 7.8%. Average annual food inflation was 5.4% in January-August. Historical analyses of seasonal factors suggest that although cumulative deflation every May-August of recent 10 years has been 3-7%, deflation over the relevant period of the current year was only 0.8%. Food inflation is mainly driven by high global food prices. According to the UN Food and Agriculture Organization, global food prices increased by 3.1% in August and by 32.9% over the recnt year.
In August, prices hiked by 0.3% on non-food products (annual inflation 5%), by 0.2% on services (annual inflation 6.4%).
The producer price index tends to rise as well. In August, the PPI y/y increased by 23% in manufacturing and by 2.6% in agriculture. The above mentioned suggests that pass-through of external and internal cost factors varies across economic areas. The fact that the growth rate of the agricultural PPI lags behind the food inflation rate indicates high inflation import for food products.
In general, the factors contributing to the upward trend in annual inflation include the dynamics of global food and non-food prices, accelerating inflation in trade partners, intensification of postponed demand, liberalization of state regulated prices and tariffs.
Currently, inflation is rising and deviating from targets in major countries of the world. In August, annual inflation in the euro area reached 3%, historical highs of recent 117 months; 5.3% in the USA, historical highs of 156 months; 6.7% in Russia, historical highs of recent 60 months; 8.7% in Kazakhstan, historical highs of recent 56 months; 9.8% in Belarus, historical highs of recent 56 months; 10.2% in Ukraine, historical highs of 39 months; 12.8% in Georgia, historical highs of recent 123 months and 19.3% in Turkey, historical highs of recent 28 months.
There has been no considerable change in inflation expectations. According to real sector monitoring, in August, inflation expectations increased in trade and construction compared to previous months, and decreased in the non-oil industry and services. Price expectations are in a rising zone across all monitored sectors, except for services.
Taking into account mainly the effect of external and internal cost factors, the inflation forecast for the end of 2021 was revised up in September. According to forecasts, in the current year average annual inflation is expected to stand at 5.4-5.8%, and annual inflation at 7.0-7.5%. In 2022, annual inflation is forecasted to stand at 4-5%.
External sector. Despite high spread of coronavirus in the world over recent months, leading countries avoided strict restrictions and continued economic stimulus measures, which allowed economic activity to remain high. The IMF forecasts 6% growth in the global economy in 2021. As the global economy recovers to the pre-pandemic level, central banks of a number of countries are tightening the monetary policy, taking into account inflationary pressures. Central banks have taken decisions on shifting the refinancing rate up for 29 times since early July. No central bank has decreased the policy rate over the same period.
Rapid growth in global demand for oil compared to supply means that prices will continue to rise. The average Brent oil price exceeded $67 over the past period of 2021 and $72 in September. In general, the global oil market is expected to be balanced until the end of the current year.
In Half I 2021 current account surplus in the balance of payments amounted to $1.9B (8% of GDP). Favorable oil prices and high growth of non-oil exports enables to predict balance of payments surplus by the end of the year.
Strategic foreign exchange reserves increased by 4.8% ($2.4B) to $53.2B over 8 months. Over the same period, Central Bank’s reserves increased by 10.6% and exceeded $7B. The inflow of funds allocated to Azerbaijan within the quota during the distribution of the SDR by the IMF played an important role in the increase of the Central Bank's foreign reserves.
The balance of payments surplus supports supply in the FX market and exchange rate stability, the main anchor of price stability. Over the past period of the current year supply exceeded demand at 85% of auctions held at the Central Bank.
Monetary condition. The monetary condition is anti-inflationary.
Yield on government securities and interest rates at the interbank market keep decreasing. There has been no considerable change in nominal credit and deposit interest rates. The fact that nominal interest rates remain unchanged in the face of rising inflation leads to decrease in real interest rates.
Surplus in execution of the state budget and the dynamics of the treasury account led to low growth rate of money base – the money base increased by 4.5% over 8 months.
High economic activity and consumer optimism push demand for loans. The lending portfolio of the banking system increased by 1.6% in August (7.4% over 8 months). Consumer loans increased by 12.9%, while mortgage loans by 12.2%.
De-dollarization trends continue. In August, dollarization decreased to 44.7% of savings of individuals and to 26.8% of the lending portfolio.
The Central Bank also pays attention to attractiveness of savings in the national currency and balanced growth of credit investments when making monetary policy decisions.
Economic activity. On the backdrop of ongoing macroeconomic stimulus and rising foreign and domestic demand, the economy is on a growth trajectory.
Aggregate supply is keeping pace with aggregate demand expansion. GDP increased by 3.6% in real terms, and by 5.7% on the non-oil and gas sector over 8 months. Economic growth was 18.7% in the non-oil industry and 5% in agriculture.
Over 8 months retail trade turnover y/y increased by 2.7%, consumption of paid services by 4.9%. High consumption was to some extent driven by spending of savings accumulated during the strict quarantine period, lending recovery, and rising demand for internal services due to restriction of visits abroad. The consumer confidence index considerably improved over the recent quarter vs the previous one. However, uncertainties persist about prospects of aggregate demand in the context of possibility of new waves and new strains of the pandemic.
According to CBA’s real sector monitoring findings, in August, the business confidence index (BCI) decreased in the non-oil industry, trade and services, and increased in construction vs the previous month. The BCI is positively zoned across all sectors.
Non-oil output gap is estimated to remain in a positive zone by the end-year.
Balance of risks. The role of price-rising factors in the balance of inflation risks keeps expanding.
Rising prices in world commodity markets and partner countries, rising costs of imported goods, production and logistics chain problems induced by pandemic and demand exceeding supply push up inflation. The balance of payments surplus and rebalancing in the FX market underpin the exchange rate stability – the key price stability anchor. However, the epidemiological situation still has the potential to change the direction of the impact of aggregate demand on inflation. Balance in the FX market requires adoption of a sustainable macro-fiscal framework for the next year and the medium term and acceleration of reforms to diversify foreign exchange revenue sources.
Next decisions on interest rate corridor parameters will be taken in light of changes in actual and forecasted indicators of inflation, changes in the balance of risks, the current state of the economy and its medium-term growth outlook.
The decision takes effect on 17 September 2021. The next decision of the Management Board of the Central Bank on the interest rate corridor parameters will be announced on 29 October 2021 aided by a press conference.