Following is the unofficial transcript of an interview with Elvira Nabiullina, Russian Central Bank Governor by Geoff Cutmore of CNBC.
Geoff Cutmore (GC): What I want to do is start off by taking you back to the events in 2014, if I may, and just that moment after you've taken dramatic action to stabilize the currency - you put up interest rates, and finally, you won the battle against the speculators. I wondered if you'd be able to just talk me through how that felt. Did you open a bottle of champagne with high-fives inside the central bank? When did you realize that you had started to bring the currency back to a more stable level, and how did you celebrate that?
Elvira Nabiullina (EN): Indeed, by the end of last year, there evolved quite a complicated situation in the financial market because the Russian economy and the Russian financial system it went through two very serious external shocks, which was the closing of the external financial market under the influence of sanctions, and a very dramatic oil price decline, which definitely affected the financial market environment. And in order to stabilize it, we had to apply a comprehensive set of measures – some of them being very unpopular, such as raising an interest rate, very serious raising of our key interest rate, that we let the exchange rate into a free float, and seized to intervene following the predictable rules which were known to the market. Simultaneously, we introduced a certain unconventional instruments – I mean unconventional for the Russian central bank, in terms of the hard currency rate policy. We started providing foreign currency to banks on loans so that they could go through the tribulations. So everything we were doing was aimed at stabilizing the currency market, the currency was under a huge stress, under a huge pressure – that was the first objective. The second one was to play down the inflationary expectations. We as the central bank, which only at the beginning of last year switched over to a new mode of inflation targeting, were very cognizant of the inflationary expectations and the situation started showing stability sometime by the end of January under the influence of these measures and later on, it was further supported by the oil price rebounding, where the rouble started appreciating, and by the end of the first quarter we realised that yes indeed, the situation in the financial market, in the currency market is showing stability. And that could've been seen by different indicators, the spreads and interest rates which started going back to the level of the pre-turbulent level by the end of the year. So, right now, one may say that overall, the financial system and the payment balance have adapted to this new reality, which is something that you cannot attribute to the economy, generally speaking, so I do believe that it's premature to drink champagne.
GC: So there wasn't a moment where you suddenly all breathed a big sigh of relief and you thought, "we've beaten the speculators"?
EN: Well, I can't say that I breathed a sigh of relief. But that was a positive fact that the situation in the market gradually is stabilising. But at the same time we were facing, you know, huge objectives to reduce inflation. Our objective is to reduce it down to 4%. As you know, right now it's too high, but we feel that it's quite realistic to bring it down, so one shouldn't relax just yet.
GC: Did you have a moment where you were angry, where you thought that some of Russia's own exporting companies could have been trading against the central bank?
EN: Well, I can't say that I was angry because it was not about emotions. The way the exporters behaved before we let the exchange rate into the free float, it was a natural one, quite objective, for companies, you know, having very high deflationary expectations. They hold onto their currency, and not selling it, and using persuasion or to force companies to sell it would've been quite difficult because one indeed had to let the currency into a free float so that it would find its market balance, so that the market players could trust that this is the balance and the deflationary expectations should be disseminated. And this indeed happened because of a very dramatic depreciation of the exchange rate, and I believe that the exchange rate found its market level. And I believe that to be an advantage. And although the transition to it happened under very dire conditions, but the inflationary targeting that many were afraid of and are still being afraid in this country, but that is a great benefit both for the economy and for the financial system.
GC: Though my understanding is some of the trading divisions of the energy companies were trading against the action of the central bank. And I just wonder how you view that. Whether it felt like an unpatriotic thing to be doing or whether you just view them as just one more market participant who is legitimately active in financial markets?
EN: We indeed viewed them as yet another category of market players who were acting legitimately in the currency markets. Although we organised meetings with them and told them about the consequences of the free float regime, because they had to understand that they were taking on the currency risk that the central bank is not going to control the exchange rate. And under the influence of the objective situations, the exchange rate may strengthen or may weaken, and they should be ready for it. And so, for them to be able to control their currency exposure, it would be beneficial to gradually release their currency revenue, and I would say that they have mastered it, and so right now, they are being quite even in terms of selling their currency without any pressure either from the central bank or from the government.
GC: They say that past events, particularly for central bankers, often shape future actions. Having gone through that experience last year, how do you think that's changed the way you think about shaping policy going forward?
EN: These kind of changes to teach everybody a lesson – both the central bank as well as the economic entities, we have to juxtapose to the external conditions as well as to the new central bank policy, which is exactly what is going on right now.
GC: They say that when it comes to central bankers, quite often, they're fighting the last war. So if you think about the Germans, they're always fighting inflation. If you think about the Americans, they're always fighting the depression. In the Russian context, you experienced '98, you've gone through last year. Does that mean you're always fighting rouble instability?
EN: No, no. It does not mean this. And indeed until last year, practically the Rouble exchange rate, in as far as all of the economic entities were concerned, was a nominal anchor so to say. Something that all of the companies and banks were watching. And that was the responsibility of the central bank. But because we are moving over to the inflationary targeting regime now the key point to us is our interest rate policy, like the cost of money, the cost of Roubles for the economy. And through this interest rate policy, we are influencing inflation. And we want to teach the market players that our interest rate policy is a much more important component. And so, this kind of change of attitude towards our policy is currently taking place. But certainly, the economic entities find it still hard to get used to a floating exchange rate which can change itself either way, but they started paying much more attention right now to our key rate, to our decisions about the key rate that we take during the board of directors meetings. This is something that people are really looking forward to. We haven't had that a year and a half ago. I mean the central bank rate has always been a key discussion point. But the exchange rate was much more important. Now the inflationary targeting will turn the interest rate policies into our main instruments. But we're in the very beginning of our path, and the economic entities will have to grow used to it, therefore take some time to reorganise, to change their attitude towards this policy. That's what they will have to do.
GC: So, they're all wrong when they come out, like they have done after the latest rate decision, and say, "this is not about inflation – this is about the Rouble once again." What you're saying to me it seems is, "take on board the fact that we've now moved to inflation targeting with a floating Rouble. The door is now closed. We are not going back to targeting a specific level of the currency."
EN: Well, exactly right. We are not planning on targeting any particular level of currency exchange. And all of our decisions pertaining to the interest rate we are making in order to achieve our inflation target, which in the midterm perspective for us, is to reduce inflation down to 4%. Effectively, we are making our decisions, analysing what is going on in the economy, and the economic slowdown. We take into account the factor of to what extent it is of a structural or a cyclical nature, and respectively we make our decisions. But the kind of policy we are pursuing, I would like to underscore again – we are confident that it would lead to inflation going down to 4%.
GC: And 4% is your expectation. You know, that's your own guidance. So, the market is still asking the question, I think, what are those big inflation risks that Ms. Nabiullina sees out there that she can't bring rates down more quickly?
EN: First of all, inflation is showing very active reduction already. Although on year-to-yea basis it remains quite high. But if we look at a monthly inflation, it has shown a serious reduction. In January it was 3.9% per month, but in April and May point-four, point-five percent. And during the recent weeks, inflation has been at a level of 0.1%, which is the level which we used to have before all of the external events started taking place. And so, as our perspective and creating our outlooks, we see inflation is going to subside. Based on our expectation, it's going to be less than 7% in 12 months' time. So, undoubtedly like any central bank, we ought to evaluate all of the inflationary risks and make our decision based upon the risks that may promote the inflation strengthening. We identify them. They are related to the oil price, and the way this particular factor may influence the exchange rate, and exchange rate pass-through on domestic prices. That is also the government decision over the regulated tariffs. You know that we have quite a big share of government regulated tariffs. We also take into account the risks related to the market response to a possible normalisation of the monetary policy of the Federal Reserve System, because we are an emerging market and if a decision is made by the Federal Reserve System to raise interest rates to a certain extent, that may affect us as well. So we are trying to take all of this risks into account when we decide on our monetary policy.
GC: Is it your expectation then that we will see a rate hike in the United States in September?
EN: Without doubt we do take into account this as a possibility. But nobody can be very certain about when it will happen. But the markets are expecting the normalisation of the monetary policy. At the same time we don't have any specific risks related to the monetary policy normalisation in the United States. And there are two scenarios possible that raising of this particular interest rate may have a gradual manner, bearing in mind that the market players are expecting this particular event, and in many ways they have priced it into valuation of their assets. And in this case, they're not going to be any dramatic changes in the market environment. But the second probability is also possible. The markets may respond in a very nervous way, and then generally speaking through an increased global turbulence that may affect the Russian economy as well. So, we are trying to take all of these factors into account although I shall repeat it again. In terms of specific risks which may be related to high interest rates, we don't see them.
GC: And can I ask you, are you modelling what the implications of a Greek exit from the Eurozone would mean for potential turbulence in money flow in Europe?
EN: We do consider this scenario as one of possible risks which would increase turbulence in the financial markets in the European market, bearing in mind the fact the European Union is one of major trading partners, and we are definitely worried by it and whenever we make our outlooks in our quarter reports on the currency monetary policies, we do assess all of the important events which are taking place in the global commodity markets, in the global financial markets, and this is the kind of risk which we are taking into account.
GC: Do you feel that the likelihood of it happening has increased in recent days?
EN: It is difficult for me to come up with this assessment. I would rather avoid making it.
GC: Obviously one of the consequences if the Greeks were to leave would be the fear that other economies in southern Europe that have had challenges with debt, might be encouraged to be more aggressive in their demands. Again, is that something that you have thought about and tried to understand what the consequences would be for the Russian economy?
EN: Yes, indeed. There will be possible consequences. And there is a possibility of this kind of sentiment becoming stronger, which could reduce the rate of the development of the recovery of the European economy, and bring down the demand for our products. There are links like that, but that manifests itself more through the trading relations I would say.
GC: And would you be inclined, if any of these scenarios unfold, to provide more liquidity into the Russian banking system or to take steps to lend capital where it was necessary to smooth over some of the volatility either in the Rouble or in lending rates?
EN: We've been always ready to respond to the risks of the financial instability no matter what they are related to, because these risks are being produced under the influence of very diverse external circumstances in what the most consistent factors is the oil price obviously, and quite a few others. So these kinds of risks may happen and we see that whole world has been volatile recently. There is a higher level of uncertainty and volatility in the global financial markets and we are ready to face these risks. We are ready to provide foreign currency liquidity. We did it last year when our banks and companies could not have access to the international financial markets and they came to the Russian financial markets. And the Russian banking system has been growing its lending activity to such companies. In many ways, the external funding was being substituted with the internal sources. We've got special instruments that I referred to in order to eliminate excessive volatility related to the financial stability risks in the currency market. I mean instruments of foreign currency refinancing, we are eagerly doing it, and like in the case of many central banks as we used to say previously, if the situation turns out to be very complicated we would be ready to go into the currency market because our reserves enable us to do so in order to cushion these risks.
GC: Just so the market understands, you're comfortable with somewhere between 50 to 55 to the dollar, but anything much out of that might illicit a response?
EN: Not at all. We feel comfortable with any rate, because this is a floating rate – a floating exchange rate. The risks happen either when it's very quick, or very dramatic change, which may create, not always they create, but may create risk of financial instability when there is a very dramatic inflation expectation manifested itself. And so we feel comfortable against any exchange rate.
GC: Obviously you have a stability mandate. You have an inflation mandate. But you also have a growth mandate for the Russian economy. Well, to assist the economy or provide at least stability for the economy, perhaps not in the same terms as the Federal Reserve, but do you think that it's time that you had a mandate to provide financial support to the undercapitalised banking system – perhaps a funding-for-lending program because I know that you won't do QE, you said that on many occasions, but is there room within your remit perhaps for some form of funding-for-lending for businesses that are starved of capital at the moment, without breaching your remit?
EN: Our mandate is different from the mandate of the Federal Reserve System. Our fundamental mandate is price stability, and through price stability, we are creating conditions for a stable economic growth. It is true that a dual mandate is something that we see in the case of some countries, but mind what we're facing right now is a very obvious goal to reduce inflation. The inflation reduction in itself or maintaining it at a low level is the most important factor of the investment environment and a stable economic growth. And I do think that the central bank is making a contribution into sustaining economic growth through in the first place creating stable pricing environment. Why is it important? Because the future of economic growth in Russia is first and foremost is related to attracting more investments, private investments and for such private investments it is very important to be able to predictably plan market economics. And low inflation is so significant in this sense. So our basic objective in terms of how to maintain lending and investment growth is to reduce inflation, so that with low inflation the companies and manufacturers could gain access to inexpensive lending, it could reduce inflation and lending is not going to be expensive.Undoubtedly we have a certain set of instruments, very limited one, which we are currently applying where the market fails. For example, these are small instruments to support lending to the small or medium sized businesses, and investment projects when they are limited in terms of their scale and do not produce an effect over the general lending and monetary policy and interest rate.
GC: But like the ECB in a way, you could declare special measures because the sanctions regime has made in incredibly difficult for companies to find access in western capital markets to other sources of capital. So in those circumstances you could say special measures, we need to step in and provide more liquidity. It will be for a limited time frame and very targeted. Look at the stock market, you know, the level of liquidity in the stock market has really fallen dramatically. Participants in the market feel starved of capital. As a lender of last resort, you could provide capital. Why not?
EN: Well, first of all, the measures that for example ECB has undertaken with the QE policy don't fit Russia, I shall repeat it again because our objectives are quite contrary. We've got to reduce inflation, and attempts to reduce the interest rates too fast or even acquire certain assets may simply lead to a stronger inflation, to an outflow of capital, to dollarization of the economy and that would be slow down the economic growth, other than promote it. So I shall repeat it again, our main objective is to reduce inflation. Now, in as far as capital is concerned, this is a very important issue. Capitalisation of the banking industry, where in our case primarily we've got the banking funding for economic development, the stock market, although it is developing but not at the higher rate as far the banking lending is concerned. In support of it, capital is very important, and that is why the government made a decision to additionally capitalise the banks within this very complicated period and the resources which the government is making available they would enable the fully utilised to increase the capital of the banks by about an additional 12%, which is a very substantive kind of measure which would facilitate economic lending in this difficult period.
GC: I think what I'm trying to get to really is trying to understand whether there is a growth dialogue taking place with the president, with the prime minister at this point involving the central bank?
EN: Without doubt, because the problems of growth and development is something that both the society is facing, the government and the central bank. And here, just through the monetary lending policy measures and reducing the interest rates from high levels won't support the required economic growth because the economic slowdown, yes, to a certain extent it is of a cyclical nature, but in the foundation we see the structural slowdown of the economy which started before the oil price decline. And in order to achieve the high rates of economic growth, you require some very serious structural changes. And as I stated, these structural changes should be aimed in the first ways at having private investors finding it lucrative to invest into the Russian economy. And our responsibility as a central bank is to create market stability for this purpose as well as predictably low level inflation in order to support investors and decision and without doubt, the main thing one has to do is provide structural reforms.
GC: But given that you have a regulatory responsibility as well, does it not concern you that businesses that are starved of capital may be seeking it in other markets that are quite volatile? China, for example. We've had a casino like stock market and provinces that have very high debt levels and yet Russian companies are being forced to go and look for capital from Chinese banks. That to a certain extent must alarm you.
EN: The Russian companies indeed are trying to raise capital from the overseas markets. If some of the markets are closed they go to other kinds of markets. This is an absolutely natural process. For us it is much more important That the internal sources of capital should develop , and that is why we are very considerate of developing of non-government pension funds as a source of funding and thanks to the government which stated cumulative pension funding will be developing, which would help us create long-term resources. We are going to develop life insurance.We should develop the kinds of institutions which would make it possible for companies to develop their long-term resources on their own.
GC: Some of the large oil and gas businesses would like to tap into some of those pots of liquidity, which are state-owned. Do you think that that's a responsible thing to allow them to do?
EN: Well, this is the government mandate to decide how the money from the National Wealthfare Fund will be invested. But i as far as the central bank we are not giving funding to support any specific companies or particular sectors of the economy. Our responsibility is to provide liquidity to the banking sector and to manage and control the interest rates in order to achieve our objectives.
GC: I think there are still, what, over 800 lenders in the Russian economy. There are those analysts who feel that that number should come down considerably, possibly to somewhere between 200-300. You have, I know, revoked licenses over the last 18 months. A considerable number. But do you think that this is a work in progress? Would you expect that we might see another 100 institutions close over the next 12 months? Can you give us some guidance in terms of what you're planning to do?
EN: The work we do to achieve health of the banking industry, including license revocation, doesn't come from our intention to reduce the number of banks in Russia. We don't have any quantitative targets in terms of how many banks the country should have. Most importantly, they should be healthy. They could be big banks, small banks, regional banks, as long as they are sound. We revoke licenses either because of their financial trouble or because of them being involved in dubious operations. This is another area that we're very mindful of and where are certain results have been achieved so far. We have serious reduction (WAS INAUDIBLE) in the number of banks which were servicing the shadow economy. There are certain complexities which we see in the financial market because of what is going on in the economy in general, but this is no reason for us to stop what we are doing and we intend to continue it. Without doubt we will continue watching over the quality of the banking asset over the economic slowdown. In some very natural way, the quality of the asset base is worsening, and we are pursuing a very strict policy so that the banks made enough provisions for bad debt, and they do that, and generally speaking, the banking system is quite stable. We continuously run stress tests analysis and work with the banks, and we believe of course there are difficulties and challenges but the banking system is coping with it.
GC: You've been buying a lot of gold, gold is an increasing part of the reserves it seems and I'm just interested as to the thinking that's going on behind that. Why would you be adding significant amounts of gold at this time when you could be taking euros or dollars or other foreign currencies to makeup reserves?
EN: Well we base ourselves upon the principles of diversification of our international reserves and we bought gold not only last year but during the previous years. Our gold mining industry is very well developed and it is ready to supply gold. That is why our attitude towards here is based upon diversification of our reserves.
GC: But it's not about supporting the domestic gold industry at a time when it's difficult for them to export abroad?
EN: Not at all because we don't run the objective to support any specific industry. In terms of the share of gold, actually we are not holding the records because there are countries that have a bigger share of gold in their reserves.
GC: I understand you have been looking at bitcoin, can you see a time in the near future where you may be looking to hold any reserves of bitcoin or you might authorize the use of bitcoin in Russia as a legitimate currency of exchange?
EN: So far I can't imagine a situation where bitcoins would be considered a reserve currency but we are looking at how this market is developing, we are noting certain risks there and we've informed the market players that we identify these risks and because there are(inaudible) many representatives in that particular sector that could be resorted to some dubious operations and transactions. You know the kind of policy we conduct about dubious transactions, but we are watching over the development of this market and see that for consumers there are certain attractions in bitcoin's mobility, expediency, low cost, so this is something definitely the market will be welcoming so we will be watching with attention and, if necessary, regulate it.
GC: We obviously have the St. Petersburg Forum, in the month that follows Brussels will make a decision along with the Americans on whether they rollover sanctions against Russia. Can I just wrap up by asking you – One, what you hope may come out of the forum? What will those western participants and others from around the world takeaway as they think about Russia and they think about the economy here? And two, is it time for an appeal to say it's an end to sanctions this is not doing anyone any favours? What are your views on the risks associated with the rolling over?
EN: Well, without a doubt, sanctions shouldn't have been introduced in the first place. They do bear negative consequences both for the Russian economy and for our partners. This is a double edged weapon. But one should say that now since the sanctions are there the economy and the financial sector has felt its effect but our financial system and our payment balance have adapted to the sanctions which have been initiated and the economy is adjusting itself gradually. As I used to say we are going through a substitution of the external sources of funding with the internal ones. We're developing them. We're going through the import substitution processes. so these sanctions seem to me to be negative in their effect on all parties because that destroys traditional trading relationships that also undermines the potential for developing employment. So this is abnormal but the Russian economy is sufficiently stable and resilient and it will be able to preserve through any development because we have got all the necessary buffers and gold and currency reserves, we've introduced floating exchange rate in order to absorb all kinds of different shocks and so on. As far as the st. Petersburg forum is concerned, we're all looking forward to participate and this is the way for us to better understand what is going on in the world, what is the global context that we live in and certainly share with our partners and friends from other countries the future that the Russian economy may go into despite the difficult environment right now there are good potential opportunities. The economy is adjusting itself, new niches are opening up and so the (agenda?) of the structural reforms is important and the way it's going to be implemented and this is something I believe is going to be the agenda of the St. Petersburg forum.
GC: Can you repeat sanctions answer in English?
EN: (English) the prospective of the Russian economy growth is will be best on the structural reform agenda. It's not only the monetary policy that could help to withstand difficulties but we need very strong agenda of structural reforms to boost our economy.