There are quite a few analysts and some investors that are insisting that Russia has finally turned the corner and that real economic growth will return soon. They point to the recent action by the Russian Central Bank in lowering the benchmark interest rate from 14% to 12.5%. The reduction in the cost of borrowing came in addition to the success of the government in auctioning bonds in April, after months of suspension. Earlier in the month the Governor of the Central Bank had announced that the ruble was again stable and Russian President Vladimir Putin stated that the worst is over for the domestic economy. However, these are politicians talking. It is to their benefit to have investors believe that Russia has reached a new equilibrium.
Capital Outflow From Russia, Billions of USD
Western sanctions, a volatile currency, an ongoing military stalemate in the Ukraine, and much lower energy prices had fostered a rapid decline in foreign investment. In fact money was being withdrawn from the country at an alarming rate by not just foreigners, but wealthy Russians as well. As a result, there has been a disruption and reduction of foreign owned firms inside of Russia. This coincides with the diminution of most domestic companies as well.
A number of foreign firms are experiencing heavy losses in revenues. A noteworthy example is the auto industry. At one time the Russian market was seen as a major growth area. Now most companies in the industry are downsizing significantly or even ceasing operations altogether. The decline in purchasing power and the higher interest rates have substantially reduced business activity in this sector, across the board.
Currency Exchanger In Moscow. The Majority Of Banks In Russia Have Tables Only With Four Digits, While In December 2014 Some Banks Set Exchange Rates That Needed Five-Digit Tables.
The reason for the previous intermission in the sale of bonds, was because there were no real buyers of Russian debt available. This was the result of investors abandoning the ruble in droves. In response the government was forced to direct the central bank to spend down precious holdings of foreign currency reserves, to keep the economy afloat.
The ruble had fallen near 40% in value last year as the sanctions imposed in August 2014, continued to bite the Russian economy and the all important international price for oil plunged 50% in price. The country had become quite dependent over the years on energy exports, especially oil and natural gas to earn foreign exchange.
There has been a small recovery in oil prices since the beginning of the year. This has provided some help to the economy of Russia, but it will be limited. Unless there is an interruption of supply from the Middle East, it is unlikely that oil will continue an upward trajectory in valuation given that Saudi Arabia is still pumping record amounts of crude. That country is now the largest and lowest cost producer of oil in the world. This is important because it has been estimated that for every $10 USD (United States Dollar) drop in the price of oil, a cut in the Russian GDP (Gross Domestic Product) of 2% is the result.
Russian Crude Oil Production (Red) And Crude Oil Exports {Black)
The price for crude has been increasing this year from the lows of December of 2014. This has helped to allow the ruble to recover some 17% of its previous value. It is now worth close to 50 rubles per American dollar. This has enabled the Central Bank of Russia to cut the key interest rate a total of 3 times in 2015. In turn this has allowed the government to make an attempt to deal with the economic crisis Russia is experiencing at present.
The Russian stock market has recovered somewhat and can be considered one of the best performers so far this year, but only because of the near collapse just a few months ago. The central government is taking in more revenues than expected and their has been a partial replenishment of foreign exchange reserves. The estimate is near $10 billion USD for the central bank. Unfortunately these new funds will likely be needed to be spent, on bailing out various sectors of the economy still in recession.
Oil And Natural Gas Pipelines In Europe
However, these normally constructive signs do not constitute a long term overall economic recovery. The aforementioned energy sector and the mining industry already reeling for low commodity prices in general, along with the lack of investment in infrastructure, has created a real downturn in the industry that will not be turned around easily. In addition, both Europe and the United States now forbid the export of advanced technology in exploration and extraction, so future growth is also unlikely. It matters enormously since the Russian economy is highly dependent on the exportation of natural resources.
The government of Russia would like businesses and corporations in the country to use domestic alternatives. To help this agenda companies now need to submit equipment purchasing plans. It has only complicated the situation further. Import substitution as an overall government objective, has been limited in success up to this point.
Giant energy behemoths in the country are heavily indebted and will need assistance from the central government in order to stay solvent. Rosneft an oil giant alone, is seeking help in dealing with a debt that is equal to $42 billion USD. Gazprom the giant natural gas corporation, saw revenues plunge 86% between 2013 and 2014. This company will also need a government bailout. The same story exists for the other two jumbo energy firms Lukoil and Novatek.
Russia Natural Gas Production (Red) And Exports (Black).
It is no different in the mining industry. Many companies in this sector are also deeply in arrears with declining revenue and sales. Mechel for example a major player in the production of coal, iron ore and finished steel products, lost close to 75% of asset value in 2014. To make matters worse, the company is burdened with nearly $6 billion USD in debt, that will soon need to be paid. This one company employs over 70,000 individuals, so it is highly unlikely that the government will let them go out of business. So many of these companies will be deemed too big to fail, under the present economic situation.
Foreign businesses across the spectrum in Russia, are having a difficult time as well. Hard currency continues to be an issue for firms in both the import and export sectors. These industries are being hit as part of the sanctions regime as well, regardless of being owned from investors outside of Russia.
Everyday Russians are suffering under rapidly rising prices especially food. Credit is still difficult to obtain for those citizens that may wish to make an investment or to finance anything. Social unrest continues to be a danger, as the situation continues to deteriorate. Political propaganda has limited appeal in the face of shortages and rising prices for consumer products.
Yearly Inflation In Russia Since 2008
Part of the problem is the high interest rate for loans in general. Although they are now being reduced, the present rate of 12.5% is still far in excess from the 7.5% that existed just a year ago. Application rates for borrowing money are down in excess of 30%, in many markets and are unlikely to recover any time soon. This in the end translates into reduced economic activity overall for the entire market.
Inflation is an increasingly pressing issue for many average Russians. The drop in value of the ruble and the ill considered government ban on Western agricultural products have not only exacerbated ever higher prices, but have begun to create shortages in various regions of the country. Most Russians are now expecting to spend close to 50% if not higher of their salaries on food alone.
As of last month food prices had increased 23.3% from the year before. Consumer priced inflation overall was already at 15% in January of this year. In February it accelerated to 16.7% and in March to 16.90%. Last year in contrast, it remained below 10% with the only exception being in December when it had spiked to 11.4% from the previous month.
Annual Percentage Growth Rate Of GDP Of Russia, 2008-2014
Meanwhile Russian unemployment is at a 2 year high and rising. GDP in Russia contracted an additional 2%, in the first quarter of 2015. This is a continuation of the poor economic growth for 2014 which registered a mere 0.6%, down much further from the 1.3% recorded in 2013. According to the present Bank of Russia estimates, the domestic economy will contract an addtional 3.5 – 4% for all of 2015.
The temporary stabilization of the currency in Russia, has relieved some of the pressure for now. The Russian Central Bank no longer has to spend enormous sums of money to simply prevent the ruble from collapse, as was the case 6 months ago. The return of some international investors to the bond markets, is a welcoming reprieve as well. Although these two changes alone will not see any real recovery for the Russian economy (5th largest in the world) this year nor for the foreseeable future.