At the moment we live in a world where the trend to zero interest-rates or ZIRP (P=Policy) just carried on in some places and moved to negative interest-rates. The Danish central bank made such a move yesterday as it cut the official interest-rate to -0.75% which amongst other things confirmed the analysis I had written on here the day before. I note discussions this morning that Switzerland which is involved in a similar race to the bottom may cut further from its existing -0.75%. According to a list compiled by Geneva Girl on Twitter five of the ten main Swiss banks already have plans to impose negative interest-rates on deposits.
Not in Ukraine
It was into such a world that the National Bank of Ukraine stepped yesterday.
At the same time, with a view to ensuring that the market will follow a projected path and the market situation will be kept under control, the National Bank of Ukraine will tighten the monetary policy stance. To this end, the regulator has adopted a decision (effective from February 6, 2015) to raise the discount rate from 14.0% to 19.5% per annum and adjust interest rates on NBU’s liquidity-providing and liquidity-absorbing operations.
One way of looking at the rise is that it is pretty much equivalent to what UK Base Rates were before any sign of the credit crunch! Indeed even in past times an interest-rate of 19.5% was considered to be a very unusual and extreme move. Right now it is high heat at a time of icy cold weather. Also there was another move aimed at monetary tightening.
making the discount rate more instrumental as the benchmark monetary policy rate. Interest rates on liquidity adjustment instruments will be set in line with the discount rate;
So not only is the official interest-rate shooting higher but they are trying to make sure that every other interest-rate goes with it.
Why did this happen?
The National Bank of Ukraine is a central bank which targets inflation and it summed up the situation as shown below.
The main reason behind this decision was stronger inflation risks, which are likely to remain heightened in the near term, reflecting primarily considerable uncertainty over the developments in the east of Ukraine. In December 2014, annual CPI inflation reached 24.9%. The core inflation rate picked up to 22.8%, having accelerated drastically in the past three months.
If you are wondering what the inflation target actually is well it feels the equivalent of light-years away.
Monetary policy is considered successful if it achieves and maintains a low stable inflation rate within 3-5% a year on the CPI measure in the mid term (from 3 to 5 years).
Or to use their own words then monetary policy must be very unsuccessful right now although I note that they have a least given themselves a relatively long time to get there as the usual policy horizon is more like two years. Also such a rate of inflation sticks out like a sore thumb at a time when even the UK is contemplating a negative annual inflation rate.
The driving force behind the rise in inflation has been the fall of the Ukrainian Hryvnia.
The main factor behind the higher inflation rate was the depreciation of the hryvnia exchange rate.
Up until yesterday the exchange rate of the Hryvnia had fallen from just under 9 to the US Dollar a year ago to more like 16. So we can see that inflationary pressure has built up from this source as the price of imported good and services will have risen. Even prices which have fallen in US Dollar terms such as the oil price will have been offset pretty much by such a move,everything else will have shot higher. And that is assuming that foreign companies will accept Hryvnia.
Yesterday was a frenetic and extraordinary day even for these times as the Hryvnia dropped like a stone. By the end of the day it took more than 24 Hryvnia to buy one US Dollar and as I type this it takes 24.25 of them. A factor in the fall of the Hryvnia was the fact that National Bank had indicated it was going to intervene less frequently. From Reuters.
The head of Ukraine’s central bank said on Thursday the bank’s decision not to intervene directly in the foreign exchange market does not mean a free float of the hryvnia currency.
What was that about never believing anything unless it is officially denied? A driving factor in all of this is the dwindling amount of foreign exchange reserves. From Dow Jones.
The National Bank of Ukraine said its foreign exchange and gold reserves stood at $6.42 billion as of Feb. 1, down from $7.53 billion in the previous month
Of course if we return to the inflation mandate such levels will only push the rate of consumer inflation even higher and there are dangers of what one might call a type of hyper-inflation especially in these times of general disinflation.
What is the economy doing?
Here is the official view.
A GDP fall estimated by NBU experts at 6.7% in 2014 was of structural nature and was driven by supply-side factors.
Unofficial estimates would of course be higher. If we look forwards we see this.
Ukraine’s Economy Ministry estimates that the economy may contract by around 4.3 percent this year, RIA news agency reported.
The problem here is likely to be one of understatement and this is in principle illustrated by this from the Kyiv Post.
Due to hryvnia devaluation the volume of online sales in Ukraine rose from Hr 16 billion in 2013 to Hr 21.7 billion in 2014, but in dollar terms it actually dropped from $2 billion to $1.4 billion, according to e-commerce.com.ua.
Surely if anything can cope with this situation it is the online world? You may be less surprised to read that the situation for the hotels of the Radisson Group looks dire.
The hotel’s 4-5-star segment in Kyiv alone lost about 45 percent of occupancy in 2014. Overall, the hotel chain lost about 35 percent throughout the country’s branches.
Oh and if you think that people are turning to drink and alcohol well apparently not.
Ukraine’s beer market fell by 9.3 percent in 2014.
There is of course an elephant in the room or rather two elephants as the West and Russia struggle to gain control over Ukraine in a fashion described in 1984. That will continue to play out but if we look at the economics there are two clear trends in play. Firstly this exchange-rate level if it is sustained will push annual inflation higher and higher and also lengthen the period which is out of control. The average Ukrainian is in danger of a large fall in living-standards from this alone. Indeed they are seeing one know which looks set to get larger. Secondly the economic resources will decline too as the economy continues its period of contraction. Again the ordinary Ukrainian will be hurt financially and we are talking of the Greek scale here and sadly maybe even worse.
A further deep sadness is raised by the fact that Ukraine has many natural resources such as its fertile land and its metal reserves/deposits. Yet somehow the economy only amounted to around 180 billion US Dollars in 2013 and is shrinking. Even worse on some estimates (Credit Suisse) it is already the most unequal country in the world.