Page 136 - RusRPTJul24

However, both these trends are a growing vulnerability which will be very painful if the military Keynesianism growth music stops playing and Russia’s economy contracts sharply.
In the meantime, falling demand for bonds has forced MinFin to hike yields from around 7% per-war to around 18% now, making domestic borrowing increasingly expensive.
The government’s looser fiscal stance has also heightened inflation and interest rate expectations. Core inflation strengthened in April, and the central bank announced that the "disinflation trend came to an end" last month. Policymakers have hinted at further interest rate hikes, with the latest weekly inflation figures pointing to month-on-month annualised inflation exceeding 6% this month, against the central bank's 4% target.
The central bank argues that Russia’s economy can handle high interest rates and that the surge in yields should not threaten financial stability. And as the prime rate is some nine percentage points higher than inflation, real wages are growing strongly fuelling a consumption boom that is further heating the economy but pleasing the population.
Debt securities account for 11% of banks’ assets, according to Capital Economics, with a significant portion being floating rate OFZs, whose prices have increased this year. The central bank estimates unrealised losses as of April at 0.8% of bank capital, a manageable level.
Despite the broader financial system's resilience, higher private sector debt servicing costs may adversely affect highly leveraged households and corporates with weak balance sheets. Nevertheless, the risks to financial stability appear limited, with good lending quality, low household debt ratios, and a large share of corporate and mortgage borrowing under preferential government programmes.
“The broader and perhaps more important point is that the situation in Russia – in which the government ramps up state spending and the central bank is forced to tighten monetary policy ever further in response – is becoming unsustainable. We argued that this was likely in a Focus in mid-2023. Large debt issuance will put further upward pressure on government bond yields and we now think another central bank interest rate hike looks likely next week, with a 200bp increase to 18.00% not out of the question,” says Peach.
The growing risk is that loose fiscal policy could lead to tighter monetary conditions, potentially causing a sharp economic slowdown. Interest rates might become prohibitively expensive for the private sector, and financial repression policies may force state banks to reduce private sector lending to absorb higher bond issuance.
136 RUSSIA Country Report July 2024 www.intellinews.com