By allowing an unjustified depreciation of the national currency against US dollar, the NBK has created conditions for transmission of inflationary pressure on the economy through foreign currency channel. In general, if the current exchange rate is maintained until the end of this year, we expect that inflation will go beyond of targeted inflation band (will be more than 7%), as a result the NBK will be forced to increase the base rate, which together with and increased inflation will have a negative impact on growth of economy of Kazakhstan.
On 3 September, the National Bank of Kazakhstan (NBK) decided to keep the base rate at 9%. Rationale for this decision was that "Increased impact of pro-inflation factors, both on the part of recovering domestic demand and global economy, reduces the potential for slowing inflation in medium term". Further, "the nature of inflationary background is determined largely by factors on the part of supply, that is formally independent of monetary policy of the National Bank».
Also on September 4, the regulator issued a press-release "on inflation forecast" which described in more detail factors that produce pressure on inflation at present. In particular, the document says:
"This (a slight increase in inflation in August-HF) was caused by observed weakening of the national currency due to depreciation of the Russian ruble and other currencies of developing countries; deterioration of external inflationary background associated with possible excess of inflation in the Russian Federation targeted level; tightening of external monetary conditions; expectation of an increase in quotations for crops due to lower inventories and an increase in world consumption. Also, inflation trends will determine positive dynamics of domestic consumer demand due to the growth of real incomes of population, maintaining a high level of price index in manufacturing (in annual terms)”.
In general, we can note that the NBK's rhetoric becomes tougher on monetary policy. If the July decision on the base rate it was said that there was a limited potential for easing monetary conditions in the current year, in September, the regulator has already mentioned that "does not exclude a possibility of tightening monetary policy”.
We agree with the NBK, that the current positive dynamics of domestic consumer demand causes a certain pressure on the inflation, as a consequence of a relatively small increase in real money income of the population and consumer lending, however this inflation factor is insignificant in comparison with the other.
We also agree with the NBRK, that the supply factors are the main determinants of the inflationary background in the republic, however there are two parties. Unlike the regulator, we believe that one of these sides directly depends on the monetary and credit policy of the regulator.
First, we would like to point at the growth of production costs, on which the regulator has no influence. This mainly concerns the rise in prices for fuel (diesel, gasoline, gas, coal, and so on). It remains unclear how fuel pricing is formed, however, this factor is putts an increasing pressure on inflation. A significant increase in fuel prices translates into overhead costs, which in turn leads to an increase in inflation for all goods and services.
However, we believe, that most important driver of inflation, at the moment, is the devaluation of the national currency, which does not correspond to the current state of fundamental factors. We believe that in mainly this direction there are significant shortcomings of the monetary policy of the regulator.
According to our assessment, USDKZT and RUBKZT exchange rates were in line with the fundamental factors during the period from the end of January to the begging of April. At the same time, the price for Brent fluctuated around 65-70 USD per barrel, the USDKZT exchange rate was around 319-323, and RUBKZT exchange rate was in range of 5,55-5,65.
Since the introduction of new sanctions against Russian Federation (early April 2018), the KZT exchange rate has ceased to correspond to the fundamental factors. Today the situation looks like this. Beginning the 20th of August, oil was traded at around USD 75 per barrel. During this time, the KZT has steadily weakened against USD from 360 to 370, and RUBKZT exchange rate fluctuated in the range of approximately 5.35-5.45.
Thus, based on the averaged figures, from the period when, in our opinion, the rate of KZT corresponded to the fundamental factors, the national currency so far weakened to USD by about 14%, and appreciated RUB by about 4.5%. Such a change in KZT exchange rate will definitely lead to a significant rise in the cost of imports to Kazakhstan and a significant acceleration of inflation by the end of this year. This directly relates to the structure of imports into Kazakhstan.
Commodity imports from the Russian Federation to Kazakhstan account for about 37% of the total. According to the official data of the Central Bank of the Russian Federation, in currency structure of settlements for goods and services under foreign trade agreements with Kazakhstan, the share of RUB in 2017 was 62,9% (the average value from 2014-2017 is 61,8%) . Meaning that only 23% of all imports to Kazakhstan are paid in RUB. The remaining imports are mostly paid in USD and to a much lesser extent in other currencies, against which the tenge has significantly weakened.
Thus, allowing unjustified depreciation of the national currency against USD, the NBK created conditions for the transmission of inflationary pressure on the economy through the currency channel and led to an increase in devaluation expectations the population and business.
Based on the share of imports paid in RUB , the impact of the Russian currency on KZT exchange rate against USD should be relatively small. According to our calculations, after the sanctions imposed against Russia this year, fundamentally justified exchange rate USDKZT today is about 345, and RUBKZT is about 5.0. Such exchange rates will produce relatively small pressure on inflation, and at the same time will naturally balance the structure of imports and exports.
We also wanted to note that we do not observe a strong impact on inflation of such external factors as: the growth of inflation in countries as the main trading partners; and the tightening of the monetary and credit policy of the US Federal Reserve.
First, we do not agree with the statement of the NBK that the policy of the US Federal Reserve on raising key interest rates will lead to a further weakening of KZT. Indirectly, this can happen due to weakening of RUB. However, in terms of capital outflow from emerging markets, such an event will not produce significant pressure on the KZT. Thus, the volume of state financial instruments, held by non-residents, in July fell to a level that can no longer influence the KZT exchange rate. In turn, interest channels of pressure on KZT are quite limited.
Overall, if the current USDKZT exchange rate maintains by the end of the year, we will highly likely observe inflation to go beyond the targeted range (will be more than 7%), as a result of which NBK will have to increase the base rate, which with the increased inflation will negatively affect the economy growth of Kazakhstan.
