Our Analytics 15 december — 14:51

Why does Central Bank stubbornly protect manat's stability? (Our analysis)



Board of the Central Bank of Azerbaijan (CBA) has decided to reduce the discount rate by 25 basis points from 7.75% to 7.5%. The lower threshold of the interest rate band has been reduced from 6% to 5.75%, the upper - from 9.5% to 9.25%. This is the eighth discount rate reduction this year. In just ten months, the Central Bank lowered its rate by 2.25% - from 9.75% to 7.5%. Four more times - from 15% to 9.75% - the discount rate was reduced last year. Thus, in less than two years, the refinancing rate has decreased by exactly half. What is the reason for this?

Before answering this question, let us recall that on the eve of the deep economic crisis that swept Azerbaijan in 2014-2017, the discount rate went down even below 5%. But the crisis shook the stable monetary policy of the Central Bank, which was forced to raise it to 15% in a short period of time. And after 2017, the situation began to improve, including in the foreign exchange market, the hype in which threatened to destroy the country's economy as a whole. And since last year, the country's main bank began to deliberately reduce it, based on statistical data that clearly indicate the growth of the economy.

The main factor putting pressure on the discount rate is inflation. But since the last meeting of the CBA's board on monetary policy, inflation did not go beyond the predicted trajectory and remained below the average value of the target range. A surplus current account balance, a stable exchange rate, adequate monetary conditions, and low inflation expectations had a stabilising effect on prices. And the risks for the medium term are mainly associated with external factors: a slowdown in the global economy, which affects oil prices, and continued growth in prices on the world food market.

There are, of course, internal risk factors. And, oddly enough, they are associated with improving the social status of the country's population. The increase in budget expenditures associated with higher salaries, pensions and other benefits led to an increase in the money supply. And the presence of big money among the population, as well as the expansion of consumer loans, cause increased inflationary expectations.

But the Central Bank is coping with this task, and promises to make future decisions on the discount rate in accordance with the level of real and forecast inflation, changes in the macroeconomic situation and the likelihood of projected risks. That is, depending on the degree of deviation of actual inflation from the stated goal, changing macroeconomic conditions and the likelihood of risks. But the fact remains below forecasts, inflation expectations remain stable. This is due to the protection of stabilising factors in the balance of inflation risks in the short term. And in the medium term inflationary risks make it necessary to maintain real interest rates in the positive zone.

Thus, the low level of actual inflation and the stability of the manat exchange rate stabilise inflationary expectations. And taking into account the latest trends, the CBA lowered its inflation forecast for the end of this year. Updated forecasts show that by the end of the year inflation will be in the range of 2.8-3%. Moreover, if the existing macroeconomic trends continue, significant changes in the dynamics of inflation are not expected in 2020. And the discount rate is likely to decline next year. That is why the CBA so stubbornly protects the stability of the manat.

On the other hand, the easing of monetary conditions negatively affects deposits, but since the beginning of the year, deposits in the national currency have grown by 26.9%. The dollarisation of deposits of individuals fell from 62.5% at the beginning of the year to 54.1% in November. Including dollarisation on deposits of individuals-residents decreased from 54.6% to 49.5%. At the same time, easing monetary conditions had a positive effect on lending activity. Since the beginning of the year, lending by banks and NBCOs has grown by 16.1%. True, the consumer loan portfolio increased by 21%, while lending to legal entities - by 11.6%. But at the last economic meeting, Azerbaijani President Ilham Aliyev called on the banking system to rectify the situation in this imbalance. And by the way banks accepted this appeal, one can judge - the wait is not going to be long.

But if the growth of business lending is yet to come, then the growth of the country's strategic foreign exchange reserves (joint reserves of the Central Bank and the Oil Fund) is already very encouraging. Since the beginning of the year alone, they increased by 12.7%, and today make up $50.4 billion against $44.8 billion at the end of last year. Favourable conditions on world oil markets and the growth of non-oil exports allow us to maintain a high level of the balance of payments surplus.

It is appropriate to note such a fact. The average price of oil on world markets over the past eleven months since the beginning of the year was $64.1 per barrel. Last year, this figure was much higher - 72 dollars per barrel. And the volume of oil production in accordance with the distribution of OPEC+ has significantly decreased. But this did not prevent to increase the country's total export this year by 2.3%. Moreover, non-oil exports increased by 17.5%. The statistics of the Central Bank only confirms that large-scale reforms in the country's economy are already bearing fruit.

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