Dear colleagues!
I’d like to greet all the participants at our traditional meeting following the Board meeting on monetary issues.
I would like to inform you that the Board of the National Bank of Ukraine has decided to leave the discount rate unchanged at 14% per annum. Our decision was prompted by the need to mitigate inflation risks to enable the NBU to meet the inflation targets for 2017-2018.
Let us first look at recent developments.
In October, headline inflation accelerated to 12.4% y-o-y, moving closer to the NBU’s inflation target for 2016.
As we expected, a return of inflation to the target level was mainly attributed to a nearly one-third annual increase in administered prices. With the start of the heating season, the upward adjustment of tariffs for heating was reflected in statistics for utility tariffs. Favorable base effects were yet another contributing factor. The gas price discount for the population, which was effective in October 2015 and throughout the heating season, was not applied this year.
At the same time, fundamental factors, as was the case before, had a limited impact on inflation. In October, core inflation remained flat compared to the previous month, standing at 6.5% y-o-y. In particular, price increases for non-foods, which are mostly imported, have slowed. These price developments helped offset price increases for highly processed foods, which were driven by faster growth in raw food prices.
Subdued consumer demand also dragged on inflation. In particular, retail trade turnover growth slowed to 0.9% y-o-y in October. Weak domestic consumer demand was largely attributed to higher household expenses on utility bills.
In November 2016, according to NBU estimates, inflation moderated slightly in line with the NBU's expectations.
This slowing of inflation was primarily underpinned by a further slowdown in annual core inflation.
In addition, price increases for unprocessed foods were moderate. Higher imports of citrus fruit and restrictions on exports of pork to Moldova, Belarus, and Armenia have contributed to a higher supply of food products in the domestic market. According to our estimates, these developments have contributed to more moderate price increases for unprocessed foods.
However, the impact of higher hryvnia exchange rate volatility on inflation was limited in November.
Heightened political tensions have triggered jitters in the FX market. Therefore, when Ukraine was faced with a bout of political instability, the NBU had to hold a FX sale to smooth excessive exchange rate volatility.
Overall, favorable fundamental factors were dominant in the FX market during the month.
First, Ukrainian agricultural companies have increased grain exports thanks to a high harvest. In November, the average daily FX receipts from nonresidents amounted to USD 282 million versus USD 254 million in October, with the bulk of FX proceeds coming from agricultural exports.
We expect this factor to continue to play a key role in shaping FX market conditions until the end of the year. According to the estimates of the Ministry of Agrarian Policy, the grain harvest may reach 64 million tons in the 2016 marketing year.
Second, the external price environment for Ukrainian exporters has improved. Supply of coking coal from China and Australia has fallen, pushing up prices to record highs since 2013. This, in turn, has fueled a stronger demand for high-grade iron ore and, consequently, pushed up steel prices. Current prices for iron ore and steel are 85% and 56% higher, respectively, than at the beginning of the year.
Following a slump, grain prices showed signs of stabilizing, although they remained lower than at the beginning of the year.
The relaxation of FX restrictions has not brought any unpleasant surprises.
In particular, as in previous months, the repatriation of dividends did not exert significant pressure on the FX market. Furthermore, FX purchases and transfers intended for dividend repatriation purposes continued to decline in November. During the month, only 2.2% of the total amount of foreign currency purchased by companies was used to pay dividends abroad, as compared with 2.7% in September-October. Overall, a total of USD 491 million was purchased by companies during June-November for dividend repatriation purposes and a total of USD 599 was transferred abroad as dividend payments.
However, the overall supply of foreign currency in the interbank market exceeded the demand for it.
As a result, the NBU mainly purchased foreign currency to replenish international reserves, although at a slower pace than in September-October. Since the beginning of November, the NBU has held seven FX purchase auctions for a total of USD 159.2 million, including today’s auction through which USD 45.6 million was purchased by the regulator.
In November, the NBU’s net FX purchases amounted to USD 122.3 million. The net FX purchases fell short of covering outlays on public debt service payments and the revaluation of reserve assets. As a result, Ukraine’s international reserves have declined by 1.6% m-o-m to USD 15.3 billion.
Where will inflation go in the period ahead?
The NBU views the 2016 year-end inflation target of 12% as achievable.
Also, the inflation targets for 2017 and 2018 (8% +/-2 pp and 6% +/-2 pp, respectively) remain within reach.
We maintain a dialogue with the NBU Council. Discussions are currently underway regarding the 2017 and medium-term Main Monetary Policy Guidelines. We hope that the NBU Council shares our aspirations to set the appropriate inflation targets in the Monetary Policy Guidelines and meet them in an effort to ensure price stability, protect the well-being of Ukrainians, and keep a coherent monetary policy in place.
It should be noted that risks for further inflation developments have increased since the previous monetary policy meeting held in late October, prompting the NBU to adopt a cautious approach to easing monetary policy to meet the declared targets.
The NBU has also taken into account the need to buffer the effects from a sharp rise in the minimum wage in 2017.
According to NBU estimates, the government’s initiative to raise the minimum wage will have a limited impact on inflation. The average wages of low-paid workers are expected to increase at a strong pace, leading to higher food consumption.
However, the impact on the Balance of Payments, and thus on the FX market, will be limited since households' additional income will be spent on domestically produced goods.
However, higher households' income will fuel consumption growth, which could add an additional 1 percentage point to headline inflation.
Therefore, to buffer the effects from a rise in the minimum wage, the NBU has decided to pursue a more restrained monetary policy.
Also, the NBU has taken into account other risks.
First, uncertainty has increased due to heightened political tensions.
Second, there is a high probability that there will be further delays in disbursements of official financing due to the slow pace of implementation of reform program measures.
Should the risks for price stability further abate, the NBU will continue easing monetary policy next year as this move will help reduce borrowing costs and support economic growth.
We are aware that supporting economic growth is essential as long as price stability is ensured.
Our next meeting on monetary policy issues will be held as scheduled on 26 January 2017.
You can find the approved schedule for NBU Board meetings on monetary policy for 2017 on the NBU’s website.
Thank you for your attention.