Near-term Prospects For Both The Russian Economy And The Rouble Continue To Be Negative
Text Matthew Partridge
It is unavoidable, though regrettable that this monthly column on Russian economic prospects has to start on an extremely pessimistic note. The collapse of commodity prices, with Urals oil declining from a peak of nearly $140 last summer to $42, has exposed the structural weakness of the Russian manufacturing and service sectors. Industrial production in January fell by 16% compared with a year ago while VTB’s survey of purchasing managers has been below 50, indicating a contraction, since the end of summer 2008. It is not surprising then that the latest estimates have GDP falling by as much as 4% in the year to January.
At the same time, monetary growth, which up until the end of last summer had been exploding at an unsustainable rate, is now negative. The latest available data shows that the six-month annualised seasonally adjusted money supply declined by 22.5% in December. This is important because there is a very strong leading relationship between money supply and nominal income. Historical experience shows that monetary shocks tend to have a substantial impact on output and inflation, with the effects lasting for up to eighteen months. Given that the money supply needs to grow at an annual rate of between 15% and 25%, to be consistent with the inflation target and trend growth, policies to boost money supply are desperately needed. The current policy of hiking interest rates in order to defend the rouble is therefore misguided, and ultimately unsustainable.
The stock market continues to take a beating. Not only is the MSCI Russia index over three quarters lower than the peak reached last May, it is down over 10% from the start of this year. Since the stock market is driven as much by psychology, as by economic fundamentals, this particular indicator should be approached with caution. However, share prices tend to react very quickly to monetary changes, confirming that the monetary supply is in a critical condition. Of course, stock prices are so low that, if and when the Russian monetary authorities come to their senses and start engaging in quantitative easing, there could be some opportunities for investors.
Oil prices are unlikely to provide any salvation for the Russian economy as the prospects of a recovery to the $60 they averaged in 2006 and 2007, let alone last years mean of $100, are very slim. Even the $50/bbl that analysis of the long term real trend suggests as the “fair price” is unlikely to occur in an environment where global car sales are plummeting. The U.S. Federal Reserve’s quantitative easing and the accompanying stimulus package will mean that the US economy, the largest global consumer of oil, is likely to resume positive growth in the second half of the year. However, until then the best that can be expected is that Urals oil continues to trade in the $40-$45 band that it has been trading in since the start of the year.
However, although Russia is clearly in an economic downturn, fears of a financial collapse, on the scale of that which occurred ten years ago, are overplayed. Even with a rouble that needs to fall even further and diminished reserves, Russia does not currently have an external debt problem on the scale of Asia during the 1997 period. Russia’s foreign exchange reserves are currently around 70% of its total liabilities, while the comparable figures for short-term debt alone in Asia was 20%. Therefore, although European banks may have problems on specific loans the risks of a 1998 style systematic banking crisis remains limited.
With effort some other positive signs can be teased out of the data. Although the Service and Manufacturing PMIs are clearly below 50, the balance was less negative in February. The fact that the Rouble has fallen by around 25% against both the dollar and the euro is also good news for exporters. At the same time those who were lucky (or wise) enough to have either kept substantial foreign currency savings or negotiated payment in sterling, dollars or euros, have experienced a substantial boost to their standard of living. Given that monetary easing and further depreciation of the rouble is both necessary and inevitable, it might be a good idea to keep one’s rouble holdings to a minimum for the time being.