The Central Bank of Russia (CBR) surprised the market with a surprise 100bp hike on September 13 taking the prime interest rate to 19%. (chart)

The decision comes as inflation at 9.1% is thought to have peaked and the overheated economy is cooling after the CBR teamed up with the government to use non-monetary policy methods to reduce the inflationary pressures.

CBR governor Elvia Nabiullina has been dubbed the most conservative central banker in the world and is famous for her forthright approach to monetary policy, acting decisively when the economy is out of kilter.

The CBR signalled that despite the palpable progress made in recent months, the regulator is not ruling out more rate hikes before the end of the year. According to the minutes of the previous monetary policy meeting in July, Nabiullina and some other members of the committee had pushed for an even bigger hike to 20%, but in the end declined.

The CBR has forecast that inflation will exceed the previous forecast range of 6.5-7% by the end of the year.

In its statement, the central bank pointed to a persistent mismatch between domestic demand and the supply of goods and services, necessitating further tightening of monetary policy, a point made by Russian President Vladimir Putin at the start of this month in a meeting with his top economic officials.

"Further tightening of monetary policy is required to resume the disinflation process, reduce inflation expectations, and ensure the return of inflation to the target in 2025," the CBR said in its press release, leaving open the possibility of another rate hike at its upcoming meeting on October 25.

The central bank attributed the recent economic cooling not to falling demand but to supply-side constraints and weakening external demand.

"The growth of the Russian economy slowed down slightly. This deceleration was probably caused not primarily by a cooling of domestic demand but by an increase in supply-side constraints and softening external demand," the bank noted, reports TASS.

The Bank of Russia also highlighted a shift in the balance of inflation risks toward pro-inflationary pressures, driven by worsening foreign trade conditions and high inflation expectations.

"The balance of inflation risks over the medium term has shifted significantly toward pro-inflationary ones," the statement read, adding that risks tied to external trade and the Russian economy's deviation from a balanced growth path remain prominent.

While disinflationary risks, such as a faster-than-expected slowdown in domestic demand, are present, the central bank's primary focus is on curbing inflation in the face of these mounting challenges. The next rate decision will be closely watched as the bank continues to manage inflation expectations and balance economic growth.

Russia's economy is on track to put in another year of strong growth of between 3.5% and 4%, but in a recent pessimistic medium-term macroeconomic outlook the CBR warned that economic growth will fall sharply next year and consumption, that has been contributing to the growth, could come to a standstill, as the military Keynesianism boost is almost exhausted.

“The 100bp rate hike and continued tough rhetoric confirmed our view that we remain in a cycle of monetary tightening,” Renaissance Capital commented on September 13, admitting that the analysts “had erroneously moved the rate hike forecast from September to October.”

RenCap analyst believe that CBR’s actions “reminded us that current inflation dynamics remain a crucial factor for key rate decisions” and continue to expect a 100bp rate hike in October.

The CBR’s press release indicates the regulator's “clear desire” to continue raising rates, RenCap argues. In its policy, the CBR will likely look for resolution of supply-side constraints rather than cooling demand which has been seen recently in August.

The CBR also commented that it will be watching the development of the fiscal situation with the publication of the three-year budget forecast in October.

Possible hiking of the key rate to 20% already in October “means that deposit holders will expect even more favourable offers from banks on deposits, while equity and bond markets will be looking for stabilisation only on the horizon of the next few months, when the key rate will reach a plateau,” Rosbank commented.