PERSISTENT INFLATION PRESSURE LEADS TO YET ANOTHER ARMENIAN INTEREST RATE INCREASE
by Venla Sipila

World Market Research Centre
Global Insight
September 3, 2008

The Board of the Armenian Central Bank (CBA) in its meeting yesterday
decided to raise the banks’ refinancing rate by 25 basis points,
taking the rate to 7.75%. This was the eighth increase of a similar
magnitude in as many months. The move was taken in the wake of the
publication of August inflation figures, which had shown consumer
prices falling by 0.7% from July, but rising by an accelerating rate
of 11.5% in annual comparison (see Armenia: 1 September 2008: ). The
CBA Board noted that the strength of inflation pressures was to an
important extent determined by continued, stable increase in prices
of bread products, instead of their expected decline.

This, further, was attributed to the recent events in the region,
the CBA here referring to the security instability caused by the
military conflict between Georgia and Russia. The CBA further stated
that even if external inflation pressures continued to moderate
over last month, these tendencies where not comparably reflected in
the domestic market. Following its arguments in previous months,
the CBA noted imperfections in some domestic community markets as
the reason for this. However, the bank added that, also import
disruptions resulting from the region’s instability were partly
to blame this time. It concluded that if import obstacles prove
persistent, inflation risks grow substantial, whereas additional
inflation pressures from the demand side otherwise should not play a
role. Finally, the CBA stressed the importance of lowering inflation
expectations in order to bring inflation closer to target. Further
rate revisions will depend on regional developments and the response
of domestic commodity markets to global trends.

Significance:The further increase in the Armenian policy interest
rate was expected, as the inflation rate keeps running far above
the central bank’s target rate of 4%. The CBA has in recent years
proven fairly competent in its monetary policy, showing ability and
willingness to control inflation within the means it has. The Armenian
government has also recently pledged wide-ranging efforts to curb
rapid price rises. However, the central bank’s key tool for curbing
inflation in the still relatively undeveloped financial environment
has been letting the dram appreciate considerably in response to
strong remittance and foreign investment inflows. If import obstacles
recede, the moderation in inflation pressure from food costs should
start having an easing impact on inflation with the new crops, as the
cost of food has been a major factor recently in boosting Armenia’s
inflation also in annual terms. However, as of yet there has been
no clear indication of moderating demand-side inflation pressures,
as economic growth remains robust and fiscal spending high.