Russia Country Report Jul18 - July , 2018

July 3, 2018

Russia’s recovery remains delicate. The GDP growth forecast for this year was recently revised down to 1.9%, while the outlook for industry has dipped back into the red after the manufacturing PMI turned red again in May and June. This has had an adverse affect on incomes and retail turnover, both of which fell in June.

However, overall the economy is recovering and companies are growing again. Likewise, the rising oil prices has put the budget back into profit and considerably eased the pressure on the state’s purse. This has been helped along by the government decision to raise both VAT rates and the age of retirement – both unpopular measures but long overdue.

According to the Ministry of Economy Russia’s economy will be left to muddle through over the next two years before the beneficial effects of a massive RUB8 trillion spending extravaganza starts to kick in and life growth. President Vladimir Putin has called on the government to bring growth levels to above the global average over the next six years, in his state of the nation speech, and that target will certainly be missed this year and probably next as well.

But the commitment to making at least some of the painful changes needed is there and the hyped state spending will impact the growth out look positively for sure.

Russia's Economics Ministry revised its 2018 GDP growth forecast down to 1.9% from the previous 2.2% outlook, while in 2019 economic growth in expected to slow down to 1.4%, Vedomosti daily reported on June 28 citing an unpublished internal outlook revision draft by the ministry. Putin’s new May Decrees is expected to push the economy above the structural ceiling of 1.5-2%, with GDP growth expected to accelerate to 3% by 2022, according to the ministry’s estimates.

Previously the Central Bank of Russia on June 15 kept interest rate unchanged at 7.25% only days after government's decision to increase the VAT rate to 20%, citing the tax hike as the main reason to postpone the monetary easing. The bank had been cutting rates but will probably go more slowly now even thought inflation remains well below its 4% target rate. (Inflation was 2.1% at the end of June). Reportedly, the VAT hike is expected to increase inflation by up to 4.3% in 2019, which will slash real income growth from 6.3% to 1%, according to the ministry.

Investment growth, in the meantime, is seen at only a modest 3.1% in 2019, before leaping in 2020 to 6% y/y growth. The Minister of Economic Development Maxim Oreshkin previously argued that such investment growth pace is achievable with domestic factors exclusively.

Along with establishing a RUB3.5 trillion Growth Fund for infrastructure investment, the investment leap could be helped with more corporate crediting, stimulating savings, and corporate investment, Oreshkin believes.

The outlook has become somewhat confused after the Ministry of Economy dramatically revised Russia’s economic statistics, after taking account of military industrial production that now paints the economy in a much rosier light, but unsettled analysts.

The ministry revisions take gross domestic product performance closer to levels promised by Economy Minister Maxim Oreshkin last year before the federal statistics service said GDP grew by only 1.5% in 2017, missing expectations. The Russian economy has likely expanded by about 2.0% in 2017, above the previously reported growth of 1.5%, the ministry said.

For example, Russia's industrial output rose 3.7% in May, compared to the same period of the last year, while analysts polled by Reuters had expected a 0.8% increase. The statistics agency has also revised and increased its growth estimate for previous months.

The sharp upward revision of industrial production series that surprised analysts was coupled with an unexpected dive in real income in May that caught analysts off guard. Retail trade expanded by 2.4%, indicating stable consumer demand that remains Russia's principal growth engine. Unemployment also fell to a new post-Soviet record-low of 4.7%.

But that made the stumble of real income, which dropped by 9% month-on-month in May and remained almost flat year-on-year inching up by 0.3%, an unexpected sharp decline from 4.4-5.7% y/y growth rate seen in previous months. Some analysts put the result down to a high base effect and say the fall is temporary.

The consensus is that the Russian economy will expand at around 1.7% a year, according to Russia’s the Higher School of Economics Development Centre latest Consensus Forecast, which aggregates projections for Russia’s economy from 22 professional forecasting organisations in Russia and abroad.

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