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. Last Updated: 07/27/2016

Central Bank Moves to Combat Inflation

The Central Bank took markets by surprise Friday by using a wide range of measures to curb inflationary pressures and sacrificing banking-sector liquidity to defeat price growth.

The bank said it would raise the floor for its key one-day repo rate by 25 basis points to 6.25 percent, reserve requirements on ruble retail deposits by 50 basis points and on foreign currency liabilities by 1 percentage point.

"This is really a serious action -- the Central Bank raised its untouchable repo rate, which had been constant for several years," said Mikhail Galkin, an analyst at MDM Bank.

The move may hit the banking sector hard, as it is still licking its wounds after the global liquidity crunch had shut the window to international capital markets. It also represents a major policy shift after months of heavy liquidity injections.

"The repo rate hike is the most serious monetary-tightening measure among all the moves taken today. This will most likely provoke a sell-off in ruble bonds," Galkin said.

The bank also said it would raise all of its deposit rates, a currency swap rate and a rarely used refinancing rate, seen as a ceiling for its official interest rates, by 25 basis points.

The move comes as the U.S. Federal Reserve has embarked on an unprecedented monetary easing to help the economy escape looming recession, and the European Central Bank has so far made inflation its priority over growth.

The Russian economy showed robust growth rates of 8.1 percent last year, up from 7.4 percent in 2006 and 6.4 percent in 2005.

The Central Bank announced its move after markets had closed in Moscow.

"This is the most surprising move by the Central Bank in the past several years. Probably no one in the market had expected such a move in a situation of liquidity shortage," said Yevgeny Nadorshin, analyst at Trust Bank.

Inflation spiraled out of control last year, hitting 11.9 percent and becoming a major headache for the Kremlin ahead of the presidential election.

Putin made the fight against inflation a priority for his government, but the official inflation target of 8.5 percent looks unrealistic after prices spiked by 2.3 percent to 2.4 percent in January, according to preliminary estimates.

The government's leading economic policymaker, Finance Minister Alexei Kudrin, offered assurances Saturday that prices would not surge once a freeze on some goods was lifted in the spring.

"Prices will continue to grow slowly, but they will not jump after they are freed up," Kudrin said on Channel One television.

Kudrin said after a Cabinet meeting Thursday that the Central Bank might use all available instruments to fight inflation, including a nominal appreciation of the ruble exchange rate.

"It's a step in the right direction, but given the inflation problem Russia is facing, it's not enough," said Zsolt Papp, chief economist at KBS Financial Products.

The Central Bank injected billions of rubles into the banking system through its repo operations at a rate around 6.0 percent last year, a policy praised by economists and the banking community.