RaboResearch - Economic Research

Country Report Russia

Country Report


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The Russian economy has fallen into a recession this year. A fiscal stimulus package to boost economic growth was announced in May, but we do not expect any short-term results. To gain more influence in the CIS region, Russia has resorted to strong-arm tactics.

Strenghts (+) and weaknesses (-)

(+) Strong external position

Russia has a vast amount of FX-reserves which cover ten months of imports and an acceptable external debt burden of 17% of GDP in 2013.

(+) Strong fiscal position

Russia has a structurally very low government debt of only around 8% of GDP and posts marginal budget deficits.

(-) Weak governance and weak rule of law

Corruption is deeply embedded and widespread throughout society, severely hindering the business environment, especially for foreign investors.

(-) High dependence on single commodity export revenues

The oil and gas sector dominates the economy by making up 70% of total exports and by contributing 28% to GDP.  This makes government revenues highly susceptible to global oil price fluctuations. 

Key developments

1. Economy has fallen into a recession

Russia’s economic growth continues to slow down, and actually entered into negative territory as GDP contracted in 13Q1 by 0.1% q-o-q and 0.3% in 13Q2, leaning the  economy into a technical recession. According to the GDP breakdown per sector, natural resource extraction was the strongest performer with 2.9% q-o-q growth. In contrast, three major sectors; finance, construction and manufacturing declined by 1.7%, 1.4% and 1.2%, respectively. Agricultural output was nearly unchanged, but given the reports of a bumper harvest, agricultural output is expected to rise in 13Q3.  Going forward, the PMI data show some positive signs as producer sentiment improved slightly in September. But even so, the level of the composite PMI (49.4 in September) is still not consistent with growth. Against this backdrop, we estimate growth for 2013 at around 2-2.5%. We expect the Russian Central Bank (CBR) to loosen monetary policy in 13Q4 because inflation concerns are receding. Inflation peaked this year in May at 7.4%, and has been falling since, reaching 6.1% in September as food price inflation eased. Also, government pressure on the CBR to loosen monetary conditions to stimulate bank lending has persisted amid the growth slowdown. We expect looser monetary policy to support growth from 13Q4 onwards.

Figure 1: Economic growth in 2013
Economic growth in 2013Source: EIU
Figure 2: Interest rate cuts likely
Interest rate cuts likelySource: Bloomberg

2. No short-term effects expected from fiscal stimulus

A fiscal stimulus package was announced in May and seems financially feasible given Russia’s solid fiscal position and its large reserves worth USD 170bn. More details of the stimulus plan were announced in July, which has three key elements. The first is increased support for SME’s, including improved access to credit and targeted tax breaks. This is a sound policy because smaller companies are increasingly facing difficulties to access credit, with interest rates hovering between 15-17%, according to SME Bank Russia. The second measure is to cut regulatory costs faced by banks in an effort to limit lending rates from rising. The third element is to use USD 14bn of oil savings from the Reserve and National Welfare funds for major infrastructure projects. We are relieved to see that this stimulus package focuses more on easier credit conditions and increased capital expenditures instead of higher public sector wages and pension benefits, as in 2009. However, we remain cautious and do not expect short-term positive effects for several reasons. For one, details remain patchy, which is a concern as implementation has always been a problem in Russia. What is more, the timing is unclear and many measures seem likely to take effect only next year. Finally, the size of the stimulus via capital expenditures (infrastructure projects) is rather small, USD 14bn is equivalent to only 0.6% of GDP, and is spread over several years. 

Figure 3: Sound fiscal balance
Sound fiscal balanceSource: EIU
Figure 4: Reserves provide wiggle room
Reserves provide wiggle roomSource: Bloomberg

3. Strong-arm tactics used to increase regional influence

For a while now, Russia had been trying to persuade CIS countries to join its Customs Union (CU) by offering economic incentives (access to its goods and labor markets) but also by offering defense guarantees. The CU is currently comprised of only Russia, Belarus and Kazakhstan. The Kyrgyz Republic and Tajikistan are expected to join shortly, especially as access to Russia’s labor market is very important to these small, remittances-reliant economies. However, over the past three years, the EU has also tried to economically integrate Armenia, Moldova, Georgia and Ukraine via association agreements. Since this year, Russia has been increasingly using strong-arm tactics to extend its influence in the CIS region given the intensified competition with the EU. At first, Russia tried to convince Ukraine to join the CU by offering lower gas import prices and aid with its ailing aviation and defense industries. But in July, Russian policy shifted from courting Ukraine to trying to coerce it, since Ukraine came closer to an association agreement with the EU. Russia imposed trade restrictions against imports from Ukraine and Russian officials explained that this was a taste of what Ukraine could expect if it signed the EU’s association agreement. At the same time, pressure was applied to Moldova, which was threatened with the closure of the Russian market for its wine and agricultural products (the majority of which are sold to Russia), as well as threats about a cut-off of gas supplies during the winter. Going forward, we expect such tactics to continue at the expense of Russia-EU relations, especially in the case of Ukraine, as this large economy in the CIS region is very important to the success of the CU. 

Factsheet of Russia
National factsheet RussiaSource: EIU,CIA World Factbook, UN, World Economic Forum, Transparency International, Reporters Without Borders, World Bank.

Background information

Since the fall of the USSR in 1991, Russia has shifted from its post-Soviet democratic ambitions in favour of a centralized semi-authoritarian state. Russia’s economy has undergone significant changes since 1991, moving from an isolated, centrally-planned economy to a more market-based and globally-integrated economy. Economic reforms in the 1990s privatized most industries. These privatizations were marred by corrupt conduct of the government, which resulted in an oligarchic economy and created a very wealthy and lawless elite. By maintaining a firm grip on this elite, President Putin ensures their continuing economic and political support. Nominal GDP amounted to USD 2,030bn end-2012, making Russia the 10th largest economy in the world.  Demographics are unfavorable, as the population of Russia is shrinking; it has decreased from 148 million in 1991 to 143 million in 2012 due to an unhealthy life style and alcohol abuse among men specifically. The business environment is hampered by a plethora of factors. The Russian labor force is skilled, but there are shortages in banking and other professional services. While the level of infrastructure varies throughout the country, the roads are generally poor. Corruption remains deeply embedded in Russia and is a widespread problem. Although the country’s economy is somewhat diversified, the non-energy sector is largely uncompetitive. Therefore, the economy is overly dependent on commodity production, particularly on the oil and gas sector, which accounts for around 28% of GDP and 70% of total exports. To sustain economic growth in the longer term, Russia must diversify its economy away from the hydrocarbon sector, especially by improving the business climate. 

Economic indicators of Russia
Economic indicators of RussiaSource: EIU

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