Economic Analysis - Monetary Policy Framework - JAN 2018

Long-Term Inflation Outlook: Maintaining price stability is the primary objective of the Central Bank of the Republic of Armenia (CBA). We forecast annual inflation to average 3.3% over our ten-year forecast period to 2027, down from 4.6% over the previous decade. Consumer prices declined significantly in 2015 and 2016, entering deflation largely as the economic crisis in Russia hit growth in Armenia. In order to spur inflation, the CBA began to gradually reduce the refinancing rate from the second half of 2015. Looking ahead, inflation is expected to gradually accelerate as economic growth rates in Armenia pick up in line with a resurgent Russian economy. We also expect the Armenian dram (AMD) to follow a relatively stable trajectory, with positive implications for the stability of domestic price levels. That said, the main inflation risk will nonetheless stem from external factors. Armenia's ties with Russia are strong, meaning another economic crisis in Russia would put downside pressure on the dram, resulting in rising inflation. Our subdued forecasts for commodity prices over the coming decade suggest manageable supply side pressures.

Inflation Credibility:In 1994, the CBA formulated its first monetary policy program. In a short period of time, the CBA succeeded in reducing the inflation rate from as high as 1761% in 1994 to 32.2% in 1995, and the inflation rate has since broadly stabilised in the single-digits. The introduction of a fully-fledged inflation targeting strategy in 2006, alongside progress on dedollarisation significantly improved the monetary transmission mechanism in Armenia. Before this regime switch, the effects of monetary policy on the rate of inflation was relatively weak.

Following 2006, there was less reliance on the exchange rate channel and the policy rate began playing a larger role in influencing consumer prices. Furthermore, the appreciating trend of the dram and a period of macroeconomic stability increased confidence in the domestic currency, fostering dedollarisation. This improved the link between the policy rate and the real economy, strengthening the interest rate channel. However, this has reversed somewhat following the financial crisis, which has seen bouts of rapid capital outflows place pressure on the exchange rate, causing inflation to ramp up at times and dedollarisation to reverse, with the latter impacting the monetary transmission mechanism. Reflecting this, dollarisation in bank deposits stood at over 61% in 2016 from 59.7% in 2013.

Lower Inflation Ahead
Armenia - Consumer Price Index
BMI Calculation/CBA

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