slide 1 | october 2010 | russia: poised for growth, but constrained by policy october 2010 evgeny...

| October 2010 | Russia: Poised for Growth, but Constrained by Policy

October 2010Evgeny Gavrilenkov, Chief Economist

Russia: Poised for Growth, but Constrained by Policy


Russia’s growth model should undergo uneasy transformation amid institutional constraints

In the aftermath of last year’s correction, Russia’s growth is moderating after a period of overheating and excessive borrowing. Nonetheless, growth is expected to be rather strong this year – Russia’s GDP can expand around 4-5% and our outlook has not changed since mid-2009, however recent changes in budgetary policy reduce optimism.

The State Statistics Service is now transitioning to a new base year (2008 instead of 2003). This means that data for 2010 and preceding years are often incompatible and thus should be treated cautiously. Statistical errors were already too high last year, which means that even last year’s numbers are suspicious.

Last year’s economic performance may have been better than the State Statistics Service reported. This is because monetary and financial indicators, which indirectly point to where the economy is heading, look very encouraging since 2Q09 (including 1H10).

Russia did not face any serious budgetary constraints, but rather institutional constraints.


-20%

-15%

-10%

-5%

0%

5%

10%

15%

1Q09 2Q09 3Q09 4Q09 1Q10 Apr ’10 May ’10

Old numbers Revised numbers

Statistical revisions were significant in the case of industrial output and are yet to come for GDP

Source: State Statistics Service

Revised industrial output figures, y-o-y GDP growth breakdown, 1H10, y-o-y


GDP 4.2%Agriculture 1.8%Fishing 8.0%

Raw materials extraction 8.4%Manufacturing 14.4%

Supply and redistribution of electricity, gas and water 6.8%Construction -3.9%Retail 1.7%

Hotels and restaurants -1.4%Transport and communication 9.5%

Finance -4.3%Real estate -1.0%

State administration, military, social services 1.9%Education 0.4%Health care -0.3%

Housing and social services -19.0%Net taxes on products 7.7%


Russia’s economy will expand around 4-5% in 2010

* State Statistics Service (first estimate)** State Statistics Service (second estimate)*** Troika estimatesSource: State Statistics Service; Troika estimates

2008 2009* 2009*** 2010

GDP 5.6% - 7.9% -7.0% 5.0%Consumption 8.6% - 5.4% -3.2% 3.1%Household consumption 10.8% -8.1% -5.0% 5.0%Public sector consumption 2.9% 1.9% 2.0% 1.0%Consumption of other sectors -1.4% -1.8% 0.0% -1.0%Gross investments 10.5% -37.6% -30.0% 18.0%Fixed capital investments 10.4% -18.2% -17.0% 3.0%Changes in stocks 11.5% – – –

Net export of goods and services -35.5% 58.0% 34.0% -2.0%

2009**

-7.9% -5.1% -7.7%2.0%-1.4%

-37.4% -15.7%

–56.6%


“But actually, he thought as he re-adjusted the Ministry of Plenty’s figures, it was not even forgery. It was merely the substitution of one piece of nonsense for another.” (George Orwell, Nineteen Eighty-Four)


Retail Services Householdconsumption

Real disposableincomes

Realwages

1Q08 17.2% 7.4% 14.6% 7.5% 13.4%2Q08 14.9% 5.4% 12.1% 5.7% 12.5%3Q09 15.0% 5.1% 11.2% 4.5% 12.2%4Q08 8.7% 1.8% 6.2% -6.9% 5.0%2008 13.5% 4.8% 10.7% 1.9% 11.5%

1Q09 -0.1% -0.9% -2.6% 0.7% -0.8%2Q09 -5.6% -4.7% -7.5% 3.4% -3.9%3Q09 -9.2% -6.4% -10.8% -3.4% -5.2%4Q09 -6.1% -4.4% -9.4% 8.2% -0.7%2009 -5.5% -4.3% -7.7% 2.3% -2.8%


Following the crisis, the Russian economy looks healthier, but risks of derailment cannot be ruled out

Last year, Russia was able to deflate not only the financial bubble, but the consumption bubble as well. Monthly growth, which resumed from 2Q09, moderated but looked healthier and more balanced.

Since April-May 2010, almost all y-o-y indicators have turned positive. Even though y-o-y and m-o-m growth numbers are still incompatible for some economic indicators, the growth this year looks robust. According to official statistics, investment was up 10.9% in August (2.8% in 8m10 and 1.3% in 7m10) and retail up 6.5% (4.3% in 8m10 and 3.9% in 7m10). According to revised figures, industry grew 9.2% y-o-y in 8m10. There is an acceleration of growth on the demand side and a deceleration of supply, implying more imports.

Annual nominal wage growth fluctuated around 10% in 1H10 and also moderated relative to the pre-crisis overheated years, which resulted in disinflation in 1H10 and July (5.5% y-o-y). Wage growth accelerated in recent months, which, combined with drought and some negative shifts in monetary and fiscal policy, triggered acceleration of inflation in August-September. Nonetheless, y-o-y inflation will be a bit lower in 2010 compared with 2009.


Industrial output has been recovering m-o-m since February 2009, Jan ’06 = 100%


90%

100%

110%

120%

130%

2006 2007 2008 2009 2010

Industrial output Seasonally adjusted


Russia’s nominal GDP (in dollar terms) correlates with the oil price

Source: State Statistics Service, Troika estimates

0

500

1,000

1,500

2,000

0 20 40 60 80 100

Urals, $/bbl

GD

P,

$ b

ln

1999

2007

2008

2003

2004 2005

2006

0

500

1,000

1,500

2,000

2009

2010



-9%

-6%

-3%

0%

3%

6%

9%

12%

0 20 40 60 80 100

$/ bbl Urals

GD

P gro

wth

, y-o

-y 1999

2007

2009


Rising oil price and expanding foreign borrowing failed to accelerate Russia’s growth: in principle Russia can grow at any oil price

0

100

200

300

400

500

600

1Q02

3Q02

1Q03

3Q03

1Q04

3Q04

1Q05

3Q05

1Q06

3Q06

1Q07

3Q07

1Q08

3Q08

1Q09

3Q09

1Q10

0%

6%

12%

18%

24%

30%

36%

Public debt Private debt Private debt/GDP (rhs)


Retail was booming due to foreign borrowing, which stimulated imports

Source: State Statistics Service, Central Bank, Troika estimates

100%

120%

140%

160%

180%

200%

220%

2003 2004 2005 2006 2007 2008 2009 2010 201150

130

210

290

370

450

530

Retail, Jan '03 = 100% Foreign debt, $ bln (rhs)

Acceleration due to borrowing


After a short correction a year ago, consumption is rising steadily, while household debt shrank

Source: State Statistics Service, Central Bank, Troika estimates

Growth accelerated amid excessively rapid expansion of credit

90%

100%

110%

120%

130%

140%

150%

Jan ’08 Jul ’08 Jan ’09 Jul ’09 Jan ’10 Jul ’102,600

2,800

3,000

3,200

3,400

3,600

3,800

Retail, Jan'08 = 100%Retail, seasonally adjustedCredits, R bln (rhs)


Bonds were replacing loans in banks’ portfolios

Source: Central Bank

Bonds and loans in banks’ portfolios

1,500

2,000

2,500

3,000

3,500

4,000

4,500

Jan'09

Mar'09

May'09

Jul'09

Sep'09

Nov'09

Jan'10

Mar'10

May'10

Jul'10

15,500

16,000

16,500

17,000

17,500

18,000

18,500

Bonds, R bln Loans to economy, R bln (rhs)


Russia is returning to a more balanced model of economic development after several years of overheating


1961

2010

2009

2007

2005

2002

2000

1998

1997

1994

1993

1992

1990

19881986

1970

1972

1973

19751980

19691963

-15%

-10%

-5%

0%

5%

10%

15%

10% 15% 20% 25% 30% 35% 40%

Investments/ GDP

GD

P, y

-o-y


New equilibrium: Since 1999, South Korea’s growth has moderated after decades of unbalanced investment-led growth

Source: National statistics, Troika estimates

1989

1984

1972

2009

1998

1976

1978

1980

1983

1997

1995

1992

1991

1999

200120032005

-10%

-5%

0%

5%

10%

15%

20% 22% 24% 26% 28% 30% 32% 34% 36% 38% 40%

Investments/ GDP

GD

P, y

-o-y


China: a balance is yet to be found…

Source: National statistics, Troika estimates

2008 2009est

2006

2003

1999

1996

19931992

1990

1987

1980

1984

1986

1981

1978

-5%

0%

5%

10%

15%

20%

25% 30% 35% 40% 45% 50% 55%

Investments/GDP

GD

P,

y-o

-y

?


0

3,000

6,000

9,000

12,000

15,000

Arm

enia

Aze

rbai

jan

Bela

rus

Esto

nia

Geo

rgia

Kaz

akhs

tan

Kyr

gyzs

tan

Latv

ia

Lith

uani

a

Mol

dova

Russ

ia

Tajik

ista

n

Turk

men

ista

n

Ukr

aine

Uzb

ekis

tan

1991 2009

GDP per capita in the former Soviet republicsin 1991 and 2009, $

Source: IMF


GDP per capita in the former Soviet republicsin 2009 and external borrowing

Estonia

LatviaLithuania

Russia

Kazakhstan

Ukraine

MoldovaKyrgyzstan

Armenia

TajikistanUzbekistan

GeorgiaTurkmenistan

Belarus

Azerbaijan

0

2

4

6

8

10

12

14

16

0% 20% 40% 60% 80% 100% 120% 140% 160%

External debt/ GDP

GD

P pe

r cap

ita, $

’00

0

Source: IMF, CIA, national banks


In uncertain times, economic performance is affected by government policy more than before

In addition to monetary policy, which has improved since the Central Bank abandoned exchange rate targeting in February 2009, fiscal policy looked less generous in 1H10, which was extremely positive. For the first time ever, expenditures were not expected to rise in 2010 and beyond – a major disinflationary factor. Recent decisions to inflate budgetary expenditures accompanied by sporadic intervention by the Central Bank on the forex market are dangerous.

On the back of rapidly rising budget expenditures, inflation remained high in preceding years, while the former did not encourage economic growth. Russia needs to balance the budget in the years to come in order to secure growth. As the breakeven oil price reached $95/bbl last year, the budget’s dependence on the oil price should be reduced, but the government has no plans to do so.

Apart from external risks, Russia’s major internal risk is excessive dependence of the budget on the oil price. Budgetary spending was raised this year amid an improved external environment and better performance of the domestic economy. The risk of further increases in 2011 and beyond still exists. The proposed budgets for 2011-12 look excessively generous while borrowing plans seem unrealistic.


Budget revenues fell in 2009, but not as much as the government expected, R bln...

Note: The government initially forecast revenues in 2009 at R6,713.8 bln. In 7m10, revenues reached R4,659.2 bln, while the deficit was R538.8 bln.Source: Finance Ministry

2005 2006 2007 2008 2009 2010E

Total revenues 5,127 6,276 7,779 9,274 7,338 7,784

Profit tax 378 510 641 761 195 –

Social tax 268 316 405 507 510 –

VAT 1,472 1,511 2,262 2,132 2,050 –

Raw materials extraction tax 855 1,094 1,123 1,605 982 –

Export duties 1,352 1,896 1,835 2,859 2,042 –

Import duties 271 342 488 626 467 –

Other 533 608 1,026 784 1,092 –


… but expenditures increased massively, R bln

Note: The government initially planned expenditures in 2009 at R9,845.2 bln.Source: Finance Ministry

2005 2006 2007 2008 2009 2010E

Total expenditures 3,514 4,281 5,983 7,567 9,660 10,212

State administration 501 530 812 835 829 839

National defense 581 682 832 1,041 1,188 1,264

National security 450 550 667 836 1,005 1,096

National economy 249 345 693 1,025 1,651 1,583

Housing sector 7 53 295 130 152 198

Education 162 212 295 355 418 433

Medical care, sport 88 148 197 278 352 341

Social policy 178 201 214 294 324 329

Transfers 1,246 1,499 1,900 2,675 3,594 3,633

Other 52 62 79 99 147 496


A larger government and a budget deficit in Russia usually mean worse economic performance

Source: State Statistics Service, Finance Ministry, Troika estimates

-16%

-12%

-8%

-4%

0%

4%

8%

12%

30% 33% 36% 39% 42% 45% 48%

Public expenditures/ GDP

GD

P, y

-o-y

19921994

1997

1998

2000

2002

2006 2007

2009

-15%

-10%

-5%

0%

5%

10%

15%

-15% -10% -5% 0% 5% 10%

Budget balance, % of GDP

GD

P gr

owth

, y-o

-y

1993

1997

2009

2010

2005

2000

Source: State Statistics Service, Finance Ministry, Troika estimates


Government interventions were inflationary: public consumption shrank in real terms


Deflator for public consumption remainedhigher than for other elements of GDP

%

10%

20%

30%

40%

50%

60%

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009

Household consumption Public consumptionInvestment in production capacity


Public consumption to GDP ratio shrank in real terms, its contribution to economic

growth diminished

12%

14%

16%

18%

20%

22%

1999 2001 2003 2005 2007 2009

Fixed 2003 prices Current prices


Due to increased expenditures, the breakeven oil price climbed close to $100/bbl Urals

Source: Finance Ministry, Troika estimates

Breakeven oil price, $/bbl Urals

-10%

0%

10%

20%

30%

2000 2002 2004 2006 2008 2010E 2012E

% o

f G

DP

Revenues Expenditures Balance

Federal budget expenditures exceedpre-crisis level

Source: Finance Ministry, Troika estimates

0

20

40

60

80

100

120

2003 2004 2005 2006 2007 2008 2009 2010E 2011E

$/bb

l Ura

ls


Finance Ministry has become too generous: planned expenditures tend to grow

November 2009, R bln

Source: Finance Ministry

2009 2010E 2011E 2012E 2013E

Revenues 7,336.0 7,783.8 8,843.8 9,502.7 10,378.9

Expenditures 9,662.2 10,212.4 10,658.0 11,237.3 12,174.9

Deficit of the federal budget -2,326.2 -2,428.6 -1,814.2 -1,734.6 -1,796.0

% of GDP -5.9% -5.4% -3.6% -3.1% -2.9%

2009 2010E 2011E 2012E 2013E

Revenues 7,336.0 7,783.8 8,617.8 9,131.7 9,983.9

Expenditures 9,662.2 10,212.4 10,385.1 10,844.6 11,749.1

Deficit of the federal budget -2,326.2 -2,428.6 -1,767.3 -1,712.9 -1,765.2

% of GDP -5.9% -5.4% -3.6% -3.1% -2.9%

August 2010, R bln

September 2010, R bln

2009 2010E 2011E 2012E 2013E

Revenues 7,336.0 6,950.0 8,077.0 8,549.0 9,147.6

Expenditures 9,662.2 9,886.9 9,857.4 9,895.6 10,078.7

Deficit of the federal budget -2,326.2 -2,936.9 -1,780.4 -1,346.6 -931.1

% of GDP -5.9% -6.8% -3.6% -2.4% -1.5%


Sources of deficit financing, R bln

2011 2012 2013

Budget deficit financing 1,814.0 1,734.5 1,795.7(3.6% GDP) (3.1% GDP) (2.9% GDP)

Reserve Fund 284.4 0.0 0.0

National Wealth Fund 5.0 7.5 10.0

Net foreign borrowing 45.7 82.9 83.5($1.5 bln) ($2.7 bln) ($2.7 bln)

Net domestic borrowing 1,180.9 1,368.0 1,392.8

Privatization receipts 298.0 276.1 309.4


Source: Central Bank, Troika estimates Source: Central Bank

Voluntary reserves have increasedsharply in 1H10

Central Bank deposit and bond rates

Voluntary reserves increased as the Central Bank offered an attractive risk-free rate

0%

2%

4%

6%

8%

10%

12%

Jan’08

Apr’08

Jul’08

Oct’08

Jan’09

Apr’09

Jul’09

Oct’09

Jan’10

Apr’10

Jul’10

Central Bank bonds Deposit rate


Banks’ voluntary reserves are not inflationary if real rate on household deposits is positive


Growth in real deposit rate stimulatesincrease in deposits

Money supply and bank reserves,R bln

70%

71%

72%

73%

74%

75%

76%

Sep’08

Dec’08

Mar’09

Jun’09

Sep’09

Dec’09

Mar’10

Jun’10

Sep’10

-10%

-8%

-6%

-4%

-2%

0%

2%

Deposits/M2 Real deposit rate (rhs)


Central Bank absorbed previously extended loans, R mln


0

1

2

3

Jan ’08 Jul ’08 Jan ’09 Jul ’09 Jan ’10 Jul ’10 Jan ’110

250

500

750

Total loans to banks, R trln Repo loans, R ’000 (rhs)


M2 declined in nominal terms, but started to rise in February 2009, a sign that the economy is recovering (R bln); a sort of “currency board” regime is seemingly over: money is becoming endogenous ($ bln)

Source: Central Bank, Troika estimates Source: Central Bank, Troika estimates

5,0007,0009,000

11,00013,00015,00017,00019,000

J an ’06 J an ’07 J an ’08 J an ’09 J an ’10 J an ’11

64%66%68%70%72%74%76%78%

M2 Deposits/M2 (rhs)

0

200

400

600

800

Jan’05

Jul’05

Jan’06

Jul’06

Jan’07

Jul’07

Jan’08

Jul’08

Jan’09

Jul’09

Jan’10

Jul’10

Jan’11

Gross international reserves, $ bln M2, $ bln


The ruble has appreciated since February 2009 after the Central Bank stopped targeting the exchange rate, which became more volatile; the Central Bank’s role as lender of last resort grew in importance


0%

8%

16%

24%

32%

2006 2007 2008 2009 20100

200

400

600

800

Repo operations, R bln (rhs) 1-day MIACR Repo rate

27

30

33

36

39

42

01/08 07/08 01/09 07/09 01/10 07/10

RUB/USD-EUR The bottom for the devaluation


Historical exchange rate and oil price: new regime emerges as the Central Bank reduces interventions

Source: Central Bank, Bloomberg, Troika estimates

20

23

26

29

32

35

38

20 40 60 80 100 120 140

$/bbl Urals

R/$

Exchange rate regime since February 2009


29

31

33

35

37

39

41

01/2007 07/2007 01/2008 07/2008 01/2009 07/2009 01/2010 07/2010 01/2011

0%

5%

10%

15%

20%

25%

30%

RUB/EUR-USD 1 1d MIACR (rhs)

Two regimes of targeting: currency first, money market second


Volatility high on the money market, low on the forex market

Volatility high on the forex market, low on the money market


Nominal interest rates declined, but may go up again

Source: Central Bank, State Statistics Service

0%

5%

10%

15%

20%

25%

2003 2004 2005 2006 2007 2008 2009 2010

1-day MIACR Deposit rateCredit rate Refinancing rate


Real rates have grown due to decelerating inflation, but will go down as inflation accelerates


Based on y-o-y inflation

-15%

-10%

-5%

0%

5%

10%

2003 2004 2005 2006 2007 2008 2009 2010

1-day MIACR Deposit rateCredit rate Refinancing rate


Annual inflation has been slowing more rapidly, but started to accelerate in August

Source: State Statistics Service, Central Bank

Annual inflation versus refinancing rate

Source: State Statistics Service, Central Bank, Troika

Monthly inflation



No obvious correlation between inflation and money supply

No stable correlation between inflation and the exchange rate

The direct impact of monetary factors on inflation is not obvious, irrespective to whatever lags are used

0%

5%

10%

15%

20%

-20% 0% 20% 40% 60% 80%M2, y-o-y

CP

I, y-

o-y

0%

5%

10%

15%

20%

-20% -10% 0% 10% 20% 30%

Effective ruble, y-o-y

CP

I, y-

o-y



There has been a sort of inverse correlation between money supply growth and inflation

-20%

0%

20%

40%

60%

80%

2003 2004 2005 2006 2007 2008 2009 2010 20110%

4%

8%

12%

16%

20%

M2 y-o-y Inflation (rhs) y-o-y



The correlation existed before 2009… …but increased in 2009-10, whenreal interest rates became positive

Money supply dynamics affect changes in inflation (acceleration or deceleration)

-1.0%

-0.5%

0.0%

0.5%

1.0%

1.5%

-4% -2% 0% 2% 4% 6% 8% 10% 12%

M2 (-1), m-o-m

Cha

nges

in in

flatio

n

-2.0%

-1.0%

0.0%

1.0%

2.0%

-15% -10% -5% 0% 5% 10% 15%M2 (-1), m-o-m

Cha

nges

in in

flatio

n


Mcap and the money supply drift together

0

300

600

900

1,200

1,500

1,800

2005 2006 2007 2008 2009 2010

Russia Mcap, $ bln M2X

Source: Central Bank, State Statistics Service, Bloomberg


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Chairman of Board of Directors and CEO, Troika Dialog Ruben Vardanian

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Chief Economist, Managing Director Evgeny Gavrilenkov

slide 1 | october 2010 | russia: poised for growth, but constrained by policy october 2010 evgeny...

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