Ivan Tchakarov of Nomura -
In "Candide", Voltaire satirized naive optimism via the character of Dr Pangloss, who preserved his optimism even in the direst of circumstances, to the point of irrationality. Set against the more subdued forecasts of Commonwealth of Independent States policymakers, our above-consensus view may at first seem tinged with the ingenuousness of Voltaire's fictional creation. But we argue that it reflects a cautiously optimistic reading of the economic data, recognition of the authorities' pro-active policy response and Nomura's improving forecasts for energy prices in 2010-2011.
Policymakers in the CIS seem to have learned a good lesson from the crisis. The sense of euphoria that presided during the boom years - which were characterized by blistering growth rates, soaring commodity prices, a steady stream of capital inflows, an uninterrupted rise in household incomes, higher standards of living and a reduction in poverty - has been taken over by a much more conservative assessment of economic prospects in the years to come. In our view, official government forecasts, particularly in Russia and Kazakhstan, although suggestive of an improving economic backdrop, may now be suffering from the opposite drawback: failing to anticipate the strength of the recovery just as they tended to overestimate the length and breadth of the upswing.
In Russia, the government upgraded its macroeconomic framework on September 1, projecting stronger GDP growth rates in 2010 (1.6% from 1%), 2011 (3% from 2.6%) and 2012 (4.3% from 3.8%). This was based on Urals oil price assumptions of $58, $59 and $60 per barrel for 2010, 2011 and 2012, respectively. In Kazakhstan, government forecasts are based on an average oil price of $50 per barrel in 2010 and $60 per barrel in 2011-2014, leading to GDP projections of 2.3% in 2010 and 2011, 2.7% in 2012, 2.8% in 2013 and 3% in 2014. In Ukraine, government forecasts have not been fully spelled out, although the Ministry of the Economy recently projected 2010 growth at 3.7%.
Our forecasts are more sanguine. In Russia, we see GDP growth at 3.5% in 2010 and 4.4% in 2011. In Kazakhstan, we project 2010 and 2011 growth rates at 3.5% and 5.0%, and in Ukraine at 3.6% and 4.0%. These views are based on a number of considerations:
--End of technical recessions: In our view, governments in the region have been slow to recognize the turn in economic activity. We have long argued that the current preoccupation with year-on-year growth rates in the CIS countries yields a very distorted picture of the true state of the economies. Part of the reason is that central banks and statistical authorities do not report seasonally adjusted quarter-on-quarter growth rates, which are much more representative of trend developments in GDP. Our own calculations suggest that all three economies grew in the second quarter of the year, marking the end of recession.
--Improving economic indicators: Incoming economic data have also been supportive of the recovery. Manufacturing PMI in Russia bounced off its low to come close to the 50 mark in August, and industrial production and manufacturing have been increasing on a seasonally adjusted annual basis. On the consumption side, real wages and real retail sales, while still decreasing on a year-on-year basis, have either stopped falling or are posting positive growth rates on a month-on-month basis.
--Recovering confidence indices: Consumer confidence indices suggest that rising numbers of consumers perceive an improvement in the economic environment. In Russia, 32% of consumers said in the second quarter that they expected the economic situation to worsen, versus 35% who held this opinion at the start of the year. In Ukraine, the business outlook survey conducted by the central bank registered an improvement in the outlook for general macroeconomic conditions. Measured as the difference between those reporting positive and those reporting negative responses, the index rises from -80% in the first quarter of 2009 to -42% in the second.
--Better oil price forecasts: Government forecasts have tried to err on the side of caution, projecting oil prices hovering in the high 50s over the next couple of years. Nomura, on the other hand, projects a more cheerful oil price backdrop, forecasting $72 in 2010 and $75 in 2011. If we are correct, oil should provide a key support, given its importance to these economies, and point to potential upside to the official growth figures.
--Pro-active policy actions: Fiscal policy has taken a very proactive role, particularly in Russia and Kazakhstan, where prudent policy in the upswing, leading to an accumulation of significant surpluses in the stabilization funds, has allowed aggressive counter-cyclical spending in the downswing without endangering the sustainability of public debt. Decelerating inflation has also allowed central banks in Russia and Kazakhstan to lower the policy rate by 300 bps in recent months. In Ukraine, fiscal and monetary policies have been limited by the severity of the crisis and lack of confidence in the economy, although the IMF Programme has been able to relax these constraints to some extent.
Although all countries should benefit from these factors, we think Kazakhstan will emerge strongest from the crisis. This view is predicated on the following factors:
--The early onset the global crisis has been a blessing in disguise: The government got an early warning of the double-edged sword of accelerated global integration and started working on an Anti-Crisis Program back in 2007, well in advance of other EM economies. This helped deliver a much smoother downward trajectory for growth, thus avoiding the outright collapse in GDP growth registered in most other EEMEA economies. In Ukraine and Russia, we forecast growth to contract by 7.2% and 14% in 2009, respectively, but in Kazakhstan output should fall by a more modest 1.5%.
--More investment spending: Unlike Russia, where the bulk of additional spending is being directed at increasing public sector wages, in Kazakhstan a significant portion of the Anti-Crisis Program is being spent on SMEs, agriculture and infrastructure, which should provide a more sustainable basis for economic growth.
--More pro-active approach to stabilizing the financial sector: Although banking sector woes are still severe, the government has been very pro-active in recapitalizing ailing banks and restructuring procedures for defaulted banks proceed apace. The FSA has taken a much more hands-on approach to safeguarding financial stability, introducing a number of measures to strengthen the resilience of the banking system, including: 1) increasing minimum capital requirements from 1 July; 2) limiting the ability of banks to borrow in foreign currency; 3) increasing loan-loss provisions to no less than 20% of the amount of the loan from 1 September; and 4) encouraging countercyclical lending policies.
--Larger oil share in GDP should provide a disproportionate impulse to growth: Kazakhstan should gain more than Russian from the better prospects that we see for oil prices. Although dependence on the energy sector should eventually decrease as a first-best solution, the marginal benefit of a given increase in oil prices should provide a larger boost to output, at least in the short run.
Therefore, although the economy will still likely undergo a painful adjustment, powerful disinflationary forces, coupled with opening the purse of the Oil Fund and loosening the grip on the tenge, should cushion the blow from the global financial crisis. In particular, strong government support for the economy, including the ailing banking and construction sectors, combined with recovering energy prices and still very robust FDI inflows, should ensure that the Kazakh economy weathers the crisis better than Russia, Ukraine, and most other EEMEA countries. Medium-term prospects remain very encouraging, in our view and, although a return to the double-digit growth rates of 2000-2007 seems unrealistic, we expect growth to average 5-6% in 2011-2014.
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