Ukraine Hikes More Than Expected as Russian Tensions Hit

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Ukraine lifted borrowing costs more than expected to the highest level in nearly two years and said it saw interest rates rising further amid persistently elevated inflation and concerns over a potential war with Russia that are hitting the currency.

The National Bank of Ukraine lifted the benchmark interest rate by a full percentage point to 10% on Thursday. None of the 10 economists surveyed by Bloomberg expected the move, with a majority expecting a half-point hike. The central bank followed the decision by saying more tightening is in the cards.

“Our forecast is that another hike will come in March,” deputy Governor Serhiy Nikolaychuk said after the decision on Thursday. “This is a forecast, not our commitment, and of course our forecast depends on how we see the process of inflation developing. How the situation will change.” 

Policy makers are trying to balance efforts to bring inflation back to the official 4%-6% target range with anemic economic recovery as key industries are suffering from rising energy costs.

While the tensions with Russia could escalate, “under most moderate geopolitical scenarios we see external and fiscal risks as manageable,” Andrew Matheny and Tadas Gedminas, from Goldman Sachs International, wrote in a report. 

“The main vulnerability stems from domestic confidence risks that could trigger capital flight, but we think that, consistent with today’s decision, the NBU is ready to tighten policy pro-actively to limit these risks,” they said.

Consumer price growth has been hovering at 10% or higher since July and some central bankers worry that most inflationary drivers have already become permanent and systemic. With a 3.6% drop against the dollar this year, a weaker hryvnia is also adding to risks. 

“The NBU will continue its monetary policy tightening cycle and stands ready to act decisively if pro-inflationary factors continue to materialize,” Governor Kyrylo Shevchenko told journalists. He added: “If geopolitical risks increase, the NBU will stand ready to tighten monetary policy.”

The central bank sold $750 million in market interventions this year to help the hryvnia. Governor Shevchenko said there is no household panic on the foreign-exchange market and no need for administrative restrictions. 

For its part, the government has taken measures to shield households from higher energy costs and capped prices of bread and natural gas used by staple food producers. But the overall economic situation has been eclipsed by rising tensions with Russia.

The central bank will raise by 2 percentage points the required reserve ratio for current accounts denominated in hryvnias and current accounts and term deposits in foreign currency next month. The move will help to shore up the interest rate channel of monetary transmission and will encourage banks to take longer-term deposits while maintaining the role of required reserves in de-dollarization.

Since November, the U.S. has been warning European allies that the Kremlin may be preparing to invade Ukraine, already massing more than 100,000 troops near its neighbor’s border. President Vladimir Putin denies he’s planning an invasion.

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