The Board of the National Bank of Ukraine has decided to keep its key policy rate at 18.0% per annum. The current and forecast monetary conditions are sufficiently tight to bring inflation to its medium-term target of 5% in 2020.
In November 2018, annual consumer price inflation came in at 10.0% and was close to the NBU’s latest forecast published in the October 2018 Inflation Report. The acceleration of inflation as compared to previous months was anticipated and driven by several reasons.
First, the underlying inflationary pressure remained high. Last month, core inflation increased slightly to reach 8.9% yoy, pushed up by the further growth in production costs, wages in particular, and the pressure from consumer demand.
Second, administered prices were a major inflation factor, as natural gas prices for households grew in November.
However, inflation is expected to decline and reach the 5.0% target at the end of 2020, as projected in the NBU’s October Inflation Report.
Tight monetary conditions will be the main factor behind the deceleration of inflation. In particular, interest rates on hryvnia household deposits continue to grow, as expected, in response to the previous key policy rate hikes. This makes saving more attractive and restrains consumer demand.
At the same time, pro-inflation risks have weakened since the previous decision due to a number of new favorable factors – both internal and external.
- the record harvest of corn and sunflower, which will make these crops and related products cheaper (sunflower oil, feed, etc.)
- a drop in global energy prices that will gradually pass through to domestic prices
- arrangements reached between the US and China to stop raising tariffs, which reduces the risk of global trade wars
- expectations of a less aggressive interest rate hike by the US Federal Reserve System next year
- favorable FX market conditions. These factors, together with a tight fiscal policy, increased the net supply of foreign currency on the interbank market, and a strengthening in the hryvnia exchange rate in November and December. The surfeit of foreign currency on the FX market enabled the NBU to further increase international reserves – since the beginning of Q4, the central bank has purchased over USD 700 million net.
Important is also the significant progress achieved in continuing cooperation with the IMF under a new stand-by arrangement, as well as receiving related financing from other official lenders. This was a key assumption of the NBU’s macroeconomic forecast.
These factors have led to a reasonably fast improvement in the inflation expectations of households, which, however, continue to exceed the central bank’s inflation target by a large margin.
However, there are significant risks which, when materialized, could delay the NBU’s meeting its inflation target:
- robust consumer demand, fueled, among other things, by higher wages, putting further pressure on prices
- a worsening of expectations, due to a new political cycle
- geopolitical risks, such as an escalation of the Azov Sea conflict, which could cut export earnings
- the expected slowdown in the global economy, including in the economies of Ukraine’s main trading partners.
When making its previous monetary policy decision in October, the NBU said that it could raise the key policy rate again if inflation pressures did not ease or even build up. In light of weakening pro-inflation risks, the NBU Board has decided to keep the key policy rate unchanged.
Meanwhile, risks to inflation decreasing to its 5% target still remain high. If these risks materialize, the NBU may raise the key policy rate to a level required to bring inflation back to its target within a reasonable timeframe.
The decision to keep the key policy rate at 18.0% has been approved by NBU Board Policy Rate Decision No. 834, dated 13 December 2018.
A summary of the discussion by Monetary Policy Committee members that preceded this decision will be published on 26 December 2018.
The next meeting of the NBU Board on monetary policy issues will be held on 31 January 2019 as scheduled.