Russian central bank raises key interest rate to 17% from 10.5% to stop rouble's freefall

Passers-by being reflected in a Moscow shop window displaying bags labelled with currency signs for the euro, US dollar and rouble on Dec 10, 2014. -- PHOTO: REUTERS
Passers-by being reflected in a Moscow shop window displaying bags labelled with currency signs for the euro, US dollar and rouble on Dec 10, 2014. -- PHOTO: REUTERS

MOSCOW (REUTERS) - Russian central bank has decided to hike its key interest rate to 17 per cent from 10.5 per cent, it said in a statement on Tuesday.

It added that the decision, effective from Dec. 16, was taken in a move to curb increased devaluation and inflationary risks.

The rouble plunged around 10 per cent against the US dollar on Monday, its sharpest fall since 1998, and Russian assets sold off across markets, testing the firepower of the central bank and posing a major challenge for President Vladimir Putin.

Traders said the slump in the rouble, down 50 per cent against the dollar this year, forced the central bank to intervene in the market on Monday to defend it against the threat of new U.S. sanctions over Ukraine, tumbling oil prices and one-sided bets that the currency would fall.

Intervention has become a near-daily routine since the start of the month. Neither rate hikes nor tough talk from senior policymakers have been able to stem the currency's decline.

Putin's popularity, based partly on providing stability and prosperity, is at risk from the rouble's decline, which is stoking already galloping inflation and damaging Russia's credibility among investors.

On Monday, the rouble weakened beyond 60 roubles per dollar for the first time, hitting a record low of 64.44 to the dollar on the Moscow Exchange, almost 10 per cent weaker than the previous close, and 78.87 versus the euro.

In U.S. trading, the rouble sank further to 65.90 to the dollar after it broke through the upper limits of a price boundary set by the Moscow Exchange, meaning the exchange did not accept offers above 64.4459 in the evening session.

The dollar-denominated RTS share index closed down 10 pe rcent at a five-year low and Russian companies' dollar bonds sold off.

The central bank has spent close to US$80 billion propping up the rouble this year, including over US$5 billion this month. It has raised its main lending rate 5 percentage points this year in response to Ukraine-related market turmoil.

It said on Monday the Russian economy would likely contract in the first quarter of next year and that it could shrink by around 4.5 per cent in 2015 as a whole if oil prices average US$60 a barrel.

A bill passed by the U.S. Congress after Russian markets closed on Friday set out tougher sanctions on Moscow, putting pressure on Russian assets.

U.S. President Barack Obama has not signed the bill into law and has opposed further sanctions on Russia unless Europe joins in, but the draft law nevertheless soured the market mood.

Crude oil prices came under renewed pressure on Monday, and Brent hit five-year lows of nearly US$60 a barrel. That in turn hurt the rouble because sales of oil and gas are Russia's chief source of export revenue.

"Unless the situation in Ukraine improves and we see a big change in oil prices it's not trivial to go in and buy Russia,"said Bhanu Baweja, head of emerging market strategy at UBS in London.