Armenia’s Central Bank has decided to cut its refinancing rate by .25%, lowering it to 7.75%.

This is probably the most unexpected move made by the CB so far this year.

The refinancing rate is the percentage the CB charges commercial banks for loans. Eight percent is quite high. In Europe and the States, the rate is .25%.

No wonder the Armenian Dram has been considered an expensive currency as opposed to the Euro and the Dollar.

It is thought that an expensive currency suppresses inflation and that an inexpensive one has the opposite effect. When the rate of inflation is high, the CB steps in and makes currency more expensive, thus suppressing demand.

This is what the CB did in August of this year by raising the refinancing rate by .5% all at once – pegging it at 8.5%. But inflation at the time was more than 9%. In October, they again lowered the refinancing rate to 8%. Today, it is even lower.

So what has forced the CB to devalue the Armenian Dram. They estimate that the inflation rate will continue to fall, reaching 5.5-6% by year’s end. In addition, there are no inflationary pressures from the international markets, and inflation in Armenia will fall in the next few months.

It was buoyed by these optimistic predictions that the CB decided to devalue the currency.

In our opinion, however, there is a more fundamental reason. Percentage rates in the market are already displaying a tendency of falling, and this has started with state debt obligations. State bonds have dropped 3-4% in the past month; something which hasn't been observed in the past 15 years. Sooner or later, the fall of bond rates will impact bank system rates – loans will be cheaper and so will deposit rates.

This is the influence of the new pension system. In a few months, the pension funds will have amassed large amounts of money; which will have to be used. It is expected that they too will lower bank rates. 

But until this happens, the CB has cut the refinancing rate in order to normalize the process with developments in the bond market.

Photo: Central Bank Chairman Arthur Javadyan