The slowdown of China's economy is poised to overtake Russia as having the most significant impact on the fate of the Commonwealth of Independent States (CIS) region's growth, the EBRD said in its latest annual Regional Economic Prospects outlook released on May 11.
Russia has long been the dominant force in the CIS and if it sneezes then the rest of the region catches a cold. Surprisingly Russia's fate also still impacts many countries outside the CIS such as EU members, the Baltic states and Turkey. However, after a decade of heavy investment that is only accelerating, the health of the Chinese economy already has a bigger impact on the Central Asian states than Russia. And all the countries in the region are watching the two giants closely as both countries are sick and could get worse.
"A one percentage point (pp) decline in Russia's growth translates, over a period of a year, into a 0.55 pp deceleration in the Baltic States and a 0.2 pp lower growth in Central Asia and EEC. The effects are strongest in the case of Armenia and weakest in the case of Azerbaijan and Mongolia," acting European Bank for Reconstruction and Development (EBRD) chief economist Hans Peter Lankes wrote in the lastest annual Regional Economic Prospects outlook released on May 11. "A similar deceleration in China is estimated to translate into a decline in growth of 0.2 pp in the Baltic States and 0.4 pp in Central Asia excluding Kazakhstan. The effect is strongest for Mongolia and weakest for Azerbaijan, Belarus and Kazakhstan."
Russia's woes still have the biggest direct impact on most of the countries in the former Soviet block thanks to a combination of its investment in the "near abroad", trade and especially remittances by guest workers home.
Russia's economy decupled in size between 2000 and 2013, expanding from $200bn to just over $2 trillion, while most of the other CIS countries remain mired in poverty. In the last four years, Russia's economy has dropped back to about $1.2bn in dollar terms, which has hurt everyone.
But the legacy of the USSR was the free movement of labour inside the CIS and guest workers have flocked to Russia, where wages could be ten times higher than at home. However, the devaluation of the ruble, which has lost about 30% of its value since December 2014, has hurt these immigrants, many of whom have lost their jobs.
Remittances from Russia to the rest of the CIS – and remittances made up about 50% of Tajikistan's GDP before devaluation – have fallen by 40% in dollar terms and 20% in local currency terms, but only 3% in ruble terms, says the EBRD.
Falls in trade and investment have also been painful. Russia has been a net exporter of capital since 2000 as any serious Russian concern quickly set up in markets like Kazakhstan and Ukraine where the operating environment was similar but those countries had populations and per capita incomes large enough to make business interesting for the Russian parent companies. Conversely, Russia's 146mn strong population with per capita incomes on the order of the poorer EU countries made Russia a top export destination for most of the former Warsaw pact states.
"The considerable terms-of-trade shock related to Russia's recession drives a broadly negative credit outlook for the nine rated sovereigns in the CIS region over the next two years," Moody's Investors Service said in a report titled "Sovereigns - Commonwealth of Independent States: Broadly negative outlook based on low oil price and spillover from Russia's recession," published on May 10.
Five of the nine Moody's-rated countries in the CIS region have negative outlooks. The exception is Kazakhstan, the only CIS country that still has an investment-grade rating, thanks to its own oil production and sovereign wealth fund.
"The economies, financial sectors and fiscal positions of CIS countries will continue to suffer from depressed oil prices. This will constrain sovereign ratings over the next two years," says Kristin Lindow, a Senior Vice President in Moody's Sovereign Risk Group.
Moody's expects that the Russian economy will contract by 1.5% on average in 2016, which is more than the EBRD’s estimate of 1.2%, but everyone agrees that it should return to growth in 2017 and could return to quarterly growth earlier.
"Spillover from Russia's recession, including weak import demand, lower remittance and FDI outflows, is contributing to slower growth in all CIS countries," Moody's said.
The shock caused by Russia's collapse has already lead to other countries actively diversifying their trade relations, with Ukraine and Georgia leading the way. But their target has been the EU and increasingly China – both of which have problems of their own.
China's economy has been "rebalancing" towards new growth model based on consumption and services and away from cheap exports. That has changed the equation as following the devaluation Russian wages are now less than Chinese, which has raised the prospect of Russian firms exporting to the rest of Europe – something that has yet to happen with a few very small exceptions (mainly motorbikes and software).
But in the region the changes to trade will also be significant. Trade links with Russia are strong for most economies in Eurasia Economic Union (EEU), Central Asia as well as the Baltic countries. In addition, several EEU and Central Asian economies receive large flows of remittances from Russia, while Armenia, Belarus and Moldova also receive significant Russian FDI.
And the jury is still out on how big the changes will be. The EBRD said in is outlook that the "spillovers from China may in fact be larger than the model suggests. First, the estimates are backward looking while economic linkages with China have been growing rapidly. Second, they do not take into account the second-order effects of deceleration in China via its impact on commodity prices or global growth."