Russia will only take its battle against inflation so far. Reserves and the ruble’s free float is where it draws the line.

Authorities are looking at how to keep tapping a wealth fund to cover the budget deficit even though their method of doing so floods the economy with excess cash, according to four officials familiar with the discussions. For now, the central bank wants to stick to printing rubles when the government withdraws foreign currency, instead of converting it through sales on the open market, the people said, asking not to be named because the deliberations are private.

Such sales can prevent a buildup of liquidity that threatens to spur inflation, two of the people said. But the risk is that they may fuel ruble volatility and imperil the stockpile of foreign currency that’s been a strategic buffer as Western sanctions and oil’s crash pushed Russia into its longest recession in two decades. By printing rubles for the Finance Ministry and crediting foreign currency to its own account, the central bank has kept international reserves -- which include the government’s savings -- almost intact even as the wealth fund has dwindled by more than half since 2015.

The choice highlights the competing priorities pulling at the central bank as deficit spending to reverse the second year of recession pushes the financial industry into liquidity surplus for the first time since 2011. The benefits of the central bank entering the market would pale in significance to the risk of withering international reserves or stoking ruble volatility, the people said.

Putin’s Warning

The central bank, which hasn’t sold foreign currency since shifting to a free float in late 2014, has pledged to avoid interventions unless the ruble’s swings threaten financial stability. With President Vladimir Putin repeatedly warning that Russia won’t “mindlessly burn up” reserves, in 2015 policy makers announced a goal of boosting the stockpile to $500 billion in the long term. They spent about a fifth of their holdings to prop up the ruble during a run on the currency a year and a half ago.

The approach to safeguarding foreign currency as the government draws down its savings has left reserves walled off from the turmoil battering the economy of the world’s biggest energy exporter. While international reserve assets excluding gold are down more than 10 percent in the past year in China and Saudi Arabia, Russia has boosted its stockpile by 8 percent, according to data compiled by Bloomberg.

Russian ‘Mantra’

“There’s a mantra: reserves must not be spent,” said former central bank Deputy Governor Oleg Vyugin, who is now chairman of MDM Bank in Moscow. Purchasing rubles in the market will strengthen the currency, and “the authorities are counting on a weak ruble, expecting that it will be a defense against external competition and will help economic growth to recover.”

The Russian currency has appreciated almost 15 percent against the dollar this year after a 20 percent loss in 2015, second only to Brazil’s real among emerging markets.

The Reserve Fund, which in dollar terms peaked at $142.6 billion in 2008, has since declined to $38.6 billion at the end of May. The Finance Ministry, which channeled 2.6 trillion rubles ($40.6 billion) from it into the economy in 2015, injected a further 780 billion rubles this year, or more than a third of the plan for 2016.

Mopping Up

With a liquidity surplus expected in 2017, the central bank plans to offer short-term bills over the next two to three months after already taking measures including the sale of more than half of the 207 billion rubles in government securities it held at the start of the year. To drain the excess cash, it’s also raising reserve requirements on lenders’ local-currency liabilities for the first time since central bank Governor Elvira Nabiullina took up her post in 2013.

The central bank has all the necessary tools to deal with a shift to liquidity surplus, its press service said in an e-mailed response to a request for comment, without answering why the monetary authority is not using open-market sales.

Given the importance of protecting reserves, the Bank of Russia has little choice but to develop mechanisms for mopping up liquidity, according to Vyugin, who’s also a member of Putin’s Economic Council.

“It’s a bad path forward,” he said. “The Reserve Fund was accumulated so it can be spent in the difficult years. In the end, it’s not being spent, but the budget deficit is simply financed by printing money.”