The Bank of Russia said the external environment for the Russian economy remains "challenging" and "significantly constrains economic activity."
Russia's central bank on Friday held its key interest rate at 7.5% for a second consecutive meeting, but noted that inflationary risks are rising.
The Bank of Russia has cut rates six times so far this year. The key rate was held steady at 7.5% in October, following a September reduction of 50 basis points, down from 8% prior. The Bank of Russia last raised rates in late February, following Moscow's invasion of Ukraine — taking the key rate from 9.5% to 20% at the time.
In its statement of Friday, the Bank said consumer prices are currently growing at a "moderate rate," while consumer demand is "subdued."
"Inflation expectations of households and businesses, essentially unchanged, remain elevated. At the same time, pro-inflation risks are up and prevail over disinflationary risks," the Bank said. "This comes as a result of rising inflation pressures from the labour market, worsening foreign trade conditions and a softer fiscal stance."
Russian annual inflation was estimated at 12.7% in December, according to the Bank of Russia, well above its 4% target. The Bank's own forecasts now project a decline in annual inflation to between 5% and 7% in 2023, before returning to target in 2024.
"Moving forward, in its key rate decision-making, the Bank of Russia will take into account actual and expected inflation dynamics relative to the target and economic transformation processes, as well as risks posed by domestic and external conditions and the reaction of financial markets."
Since the invasion of Ukraine, the Russian economy has been hit by a barrage of punitive economic sanctions from Western powers that have damaged its growth outlook and all but ostracized Moscow from the global financial system.
The International Monetary Fund (IMF) projects Russia's GDP will shrink by 3.4% in 2022 and contract further next year, while annual inflation will hit 13.8% in full-year 2022.
However, there is debate among Western economists as to the extent of the damage inflicted by sanctions. The IMF has noted short-term signs of resilience in the Russian economy, while others have argued that Russia faces "economic oblivion," citing long-lasting costs from the exit of foreign firms and diminished access to critical imports of technology and inputs.
Economic outlook remains 'challenging'
The bank clarified, "This relates in particular to the logistics problems that still exist in many industries. However, high-frequency indicators suggest some growth in business activity in the fourth quarter."
Russia has vowed to undergo a structural economic transformation to mitigate the long-term impact of Western sanctions. The Bank said this initiative was causing a change in the "structure of aggregate demand," with consumer demand remaining subdued.
The Bank said the government's fiscal policy easing would begin to support economic activity in 2023.
"The Bank of Russia takes into account the decisions already made regarding the mid-term expenditure path of the federal budget and the fiscal system as a whole," it said.
"In case of a further budget deficit expansion, tighter monetary policy may be required to return inflation to target in 2024 and keep it close to 4% further on."
The Bank added that future policy decisions would take into account "actual and expected inflation dynamics relative to the target and economic transformation processes," along with "risks posed by domestic and external conditions and the reaction of financial markets."
Its next policy meeting will be held on Feb. 10.