31.03 Analytics

The decline in inflation may be temporary, as its structural causes remain unresolved


Price growth in Russia is slowing significantly. Annual inflation remains in double digits for now, but by the end of March, it could drop below 10%. Inflation expectations among both citizens and businesses are decreasing, though not rapidly.

However, both experts and the Central Bank are cautious in assessing this trend and do not consider it sustainable. This time, the Bank of Russia did not discuss the possibility of raising the key interest rate, but it does not rule out the need to return to this measure in the future. The outlook for declining consumer activity and corporate lending remains uncertain, and the strengthening of the ruble – another factor contributing to disinflation – may be temporary.

Experts point out that inflation also declined at the beginning of last year, only to surge again in the summer.

Meanwhile, output in the civilian sector is stagnating, and business sentiment is deteriorating. There are no prospects for expanding consumer goods production, as the economy has virtually no free resources.

Tight monetary policy is putting pressure on businesses (a disinflationary factor), while incomes and consumer activity remain high (an inflationary factor). In production, the trend is the opposite: the military sector is growing, while the civilian sector is not. As a result, inflationary pressure persists.

If business problems worsen, the Central Bank will face a difficult choice. Given the still-high inflation, easing monetary policy would likely trigger an uncontrollable inflationary spiral.

For inflationary pressure to ease, the war must end, and the Russian economy must undergo a reverse structural transformation. This means that resources must at least partially shift from the military sector to the civilian sector, and consumer demand pressure must decrease.

Slowdown in the fog

In recent weeks, price growth in Russia has noticeably slowed down. According to Rosstat, from 18 to 24 March, inflation stood at 0.12% compared to the previous week, and since the beginning of the month, it reached 0.35% compared to February. This suggests that March’s total inflation may be around 0.5% compared to the previous month. In November 2024, this figure was 1.43%, in December it was 1.32%, in January – 1.23%, and in February – 0.81%. The slowdown is evident and ongoing. In February, annual inflation was in double digits (10.2%), but by the end of March, it may return to below 10%.

The slowdown in inflation has become widespread, according to a new report by experts from the Centre for Macroeconomic Analysis and Short-Term Forecasting (CMASF). Both core inflation and price growth for non-food goods (excluding petroleum products and cigarettes) are significantly lower than usual for this period. Inflation expectations among both citizens and businesses are declining. According to a survey of enterprises conducted by the Central Bank, the corresponding business sentiment index was 27.5 in January, 23.1 in February, and 20.3 in March. Inflation expectations among citizens have also declined, though less sharply, reaching 12.9% in March compared to 13.7% in February and 14% in January. However, the perceived inflation rate in surveys has remained steady at 16.5% for the past three months.

Such dynamics, according to the experts of CMASF, is determined by two key factors: the contraction of consumer lending and the strengthening of the ruble. It is therefore unsurprising that during the recent meeting of the Central Bank's Board of Directors on the key interest rate, a rate hike was not even considered. The discussion instead focused on signaling to the market, ultimately settling on a middle-ground message: the Central Bank remains open to raising rates but sees a lower likelihood of doing so.

Consumption momentum

Central Bank Governor Elvira Nabiullina’s post-meeting statement suggests that policymakers exercised caution for two reasons. First, the Central Bank lacks sufficient data to assess the potential slowdown in consumer activity and corporate lending. Second, the ruble’s appreciation may be temporary.

The prohibitively high key interest rate has constrained consumer lending growth. According to the Central Bank's report on the development of the banking sector, the total volume of consumer loans shrank by 0.9% in February compared to January, following a 0.3% decline in January relative to December. However, private consumption continues to grow due to rising real incomes. In 2024, real incomes increased by 8.5%, Prime Minister Mikhail Mishustin recently announced – an even higher figure than Rosstat’s preliminary estimates. This growth, as well as current consumption figures, was likely influenced by the shift of annual bonus payments from the first quarter of this year to December of the previous year, ahead of the 1 January increase in personal income tax rates.

In February, real consumer spending remained at January levels, according to the Sberindex project. In January, spending had increased by 1.1% compared to December. As a result, annual growth slowed to 3.8% in February from 4.9% in January. Mid-March saw a sharp acceleration in spending, followed by a return to February levels. However, the pace of spending growth is expected to decelerate less sharply compared to last year’s peaks.

The consumer sentiment index, calculated by the Central Bank based on InFOM survey data, has risen for the third consecutive month, reaching 109 points in March – three points higher than in February but still 4.3 points lower than in March 2024. Both the assessment of current conditions and respondents' expectations have improved. The Levada Centre's consumer sentiment index also shows growth, reaching 113 points in February – four points higher than in December 2024

The Central Bank anticipates that wage growth will slow this year, but experts worry that consumers may not realise this and could therefore 'miscalculate when making decisions on spending, saving, and borrowing,' according to Alexei Zabotkin, Deputy Chairman of the regulator. His boss, Elvira Nabiullina, also suggested in her post-meeting comments that high demand in early 2025 may have been fuelled by Russians spending their bonuses and year-end incentives.

Yet even if income growth slows, it will remain high and continue to outpace productivity growth, Nabiullina acknowledged. The labour market, however, is only showing mild signs of cooling, according to Central Bank analysts in their ‘Regional Economy’ report. The number of job openings is no longer increasing, and in some industries, it is even declining.

Temporary rate

The ruble has appreciated by approximately 15% against the dollar since the beginning of the year, but this trend does not seem stable. Furthermore, the extent to which this appreciation affects prices remains unclear. The previous depreciation of the ruble was so significant that some market adjustments still have not fully played out, according to analysts from CMASF.

The ruble is likely to weaken again, as its recent strengthening was largely driven by seasonal factors. The first quarter is traditionally characterised by a surplus in the current account due to high export revenues and relatively low demand for foreign currency.

A similar pattern was observed last year, making the ruble’s appreciation at the beginning of this year predictable – only its scale was somewhat surprising, says Ilya Fedorov, chief economist at BKS. He believes one contributing factor was that exporters sold a larger volume of foreign currency early in the year to cover ruble-denominated expenses. If the key interest rate had been lower, they might have opted for loans instead. Additionally, US sanctions against the Moscow Exchange have made Russia’s currency market fragmented and illiquid (→ Re: Russia: The Ultimate Macro-abnormality), limiting its ability to absorb large volumes of foreign currency, Fedorov explains.

Another factor behind the ruble’s strengthening may be what some analysts call ‘geopolitical optimism’: bold foreign investors selling foreign currency to buy rubles in anticipation of sanctions being eased. However, the upcoming seasonal decline in foreign currency supply from exporters and the recovery of imports will likely weaken the ruble. Analysts forecast that the dollar will trade between 95 and 100 rubles in the second quarter.

The frontline fuels the homefront

Given these dynamics, the Central Bank has strong reasons to believe that the recent inflation slowdown will not hold. This was exactly what happened in 2024, according to Telegram channel MMI and former Deputy Chairman of the Central Bank Sergei Aleksashenko. Inflation slowed noticeably at the beginning of the year but then surged from the summer onward. Aleksashenko points out that the volume of cash in circulation has remained stable despite increased consumption, indicating that inflation has not genuinely slowed. The high velocity of money is a sign of rising inflation expectations. Moreover, he notes that in recent months, the growth of balances in corporate current accounts, used for operational payments, has significantly slowed, suggesting that inflation expectations are rising among businesses as well.

The lack of business confidence in lasting disinflation could explain why corporate lending, unlike consumer lending, has not shown clear signs of slowing down. In February, the corporate loan portfolio grew by a modest 0.1% compared to January, after a 1.2% decline in January. However, as Central Bank Governor Elvira Nabiullina notes, these figures are 'noisy' due to high government spending at the beginning of the year. In the first two months of 2025, budget expenditures reached 8 trillion rubles – 31% more than during the same period last year. State contract executors had less need for loans and likely used some of their funds to repay existing debt. Nabiullina believes that a clearer picture of corporate lending trends will emerge only after the second quarter.

Meanwhile, industrial output has stagnated since the beginning of the year. Excluding military production, output remains below pre-war levels, according to analysts at CMASF. In February, output was unchanged from the end of 2024, with a 0.4% month-over-month increase driven by weather conditions and the defence sector – without these factors, there would have been a decline of 0.4-0.5%. Year-over-year growth is nearly zero, standing at just 0.2%.

The aftermath of ‘military Keynesianism’

A key structural driver of accelerating inflation is the gap between the economy’s high liquidity – due to government spending – and the sluggish growth of output in the civilian sector. There are no prospects for expanding consumer goods production, as the economy is already operating at full capacity. As a result, under the current ultra-tight monetary policy, civilian goods production may even begin to contract further.

According to Rosstat surveys, business confidence in the manufacturing sector has declined sharply in recent months. Fewer respondents expect to increase output in the next quarter, and confidence in an improved economic outlook over the next six months is weakening. Sources in the Russian Union of Industrialists and Entrepreneurs (RSPP) told RBC that manufacturing companies are facing payment delays, with state-owned corporations placing funds in deposits instead of paying contractors on time, sometimes delaying payments for months. Profitability has not yet declined. In fact, by the fourth quarter of 2024, it had moderately increased, analysts of the CMASF noted. However, more industries now have profitability levels lower than the yield on risk-free federal loan bonds, making both investment and ongoing operations unviable. This currently applies to machine-building and woodworking, while the chemical industry, food processing, light industry, and construction materials production are on the brink.

The economy remains stuck in a contradictory cycle: strict monetary policy is squeezing businesses (a disinflationary factor), yet incomes and consumer activity remain high (an inflationary factor). Industrial trends reflect this imbalance – the military sector continues to grow, while the civilian sector stagnates. As a result, inflationary pressures persist.

If business conditions deteriorate further, the Central Bank will face a difficult choice. With inflation still high, any monetary easing could trigger an uncontrollable inflationary spiral, warn analysts at the Bank of Finland Institute for Developing Economies (BOFIT). In their view, the Central Bank may even have to raise rates further. For inflationary pressures to ease, the war must end, and the Russian economy must undergo a structural reversal, meaning that resources must at least partially shift from the military to the civilian sector, and consumer demand must subside. Former Deputy Finance Minister and Central Bank Chairman Oleg Vyugin made a similar argument in his article for Re:Russia (→ The 2025 Crossroad).