It's long overdue. With Russia in deep recession, it appears that companies, shorn of their ability to grow, may be refocusing their efforts on using this crisis to improve their productivity. That's the impression data releases from the state statistics agency Rosstat in October give, according to Alfa Bank.

Consumer spending looks still deep in the doldrums, but industry is beginning to climb out of the pit, and the current round of cost-cutting should put it in good stead when the rest of the economy finally shakes off the recession.

As real incomes began to fall last December this has had an obvious knock-on effect on retail turnover, but in September economists thought the worst would be passed: yet in October retail turnover fell again, down by 11.7% y/y, despite the consensus for a recovery.

In the boom years incomes were rising by about 10% a year, with the incomes of state workers (almost half the population is connected to the federal budget) rising even faster. But with the economy in recession and the government running a deficit, wage rises have been cut to below the level of inflation and those of the state worker are even lower than in the private sector.

Real wages fell 9.3% y/y in September after shrinking 9% y/y in August after nominal wage growth was up a mere 3% - the lowest level this year. Inflation was running at 15.6% in October, a very slight improvement on the previous three months.

With less money in their pockets, Russians have put off big ticket purchases and cancelled their devaluation-inflated luxuries such as foreign holidays. According to VTB Capital, the share of income spent on food has increased from a 2007 low of 25% to 50%-55% now.

 

 

 

Retail lending

The collapse in real income and consumption have been compounded by the collapse in retail borrowing. Consumer credit was easy to get since 2001 – too easy – and since about 2008 it has been pretty much the only economic driver. But afraid of a consumer credit bubble, the Central Bank of Russia (CBR) clamped down on consumer lending at the start of 2014 and popped the nascent bubble. Since then, consumer lending has tanked as consumers began to deleverage.

This process accelerated in December after the cost of borrowing soared following an emergency decision to hike interest rates to 17% by the CBR to halt the rapid devaluation of the ruble after oil prices collapsed. The upshot is that even if they wanted to, most Russians can't refinance their consumer loans with more borrowing.

 

But that process could be coming to an end. The state statistics agency Rosstat found that Russians owe less than they did a year ago and this has led some, like Sberbank's chief economist Evgeny Gavrilenkov, to speculate that starting next year consumers will start to borrow again, which might fuel a faster than expected recovery. In the meantime, the process of deleveraging continues: retail loans fell 0.4% in nominal terms in October bring the overall fall in retail lending this year in FX-adjusted terms to 5.7%.

Batten down the hatches

All this suggests the Russian economy is unlikely to recover any time soon. But in this light, the relatively good performance of industrial production and fixed investment comes as a surprise.

"We have been focusing on company systems, cutting costs and improving efficiencies to get ready for the next boom," Chris van Riet, the CEO of warehouse developer Radius, told bne IntelliNews in a recent interview. It is a refrain that has been repeated by interviewees in recent months.

It appears that companies are cutting salaries, investing in profitable production lines and sacking superfluous workers: another surprise in October's numbers was an uptick in unemployment, albeit from very low levels, from 5.2% to 5.5% in October - the first increase since March.

The fall in industrial production has clearly passed bottom. The numbers are still negative, but the trend suggest they will turn positive at the start of next years. Output dropped only 3.6% y/y in October compared to falls of 3.7%, 4.3% and 4.7% in the three preceding months.

The same thing happened with fixed investment, which also contracted only 5.2% y/y compared with the 5.6%, 6.8% and 8.5% y/y declines over the same period.

 

 

Of course, these numbers are still in the red, but the rate of the contraction of the economy is clearly slowing. The same thing is going on at the top level: the overall GDP decline in October moderated from 4.6% y/y in 2Q15 to 4.1% y/y in 3Q15, while month-on-month the economy is even showing a very mild 0.1% seasonally adjusted increase.

Alfa Bank's chief economist Natalia Orlova asks in a recent note if Russian companies had taken "a step to increase productivity".

"As the deceleration of nominal wage growth and increase in unemployment was combined with a recovery of industrial figures, companies might be moving toward higher productivity, which would improve resource allocation in the economy," Orlova said.

In the boom years the game was to capture as much revenue growth as possible. Retailers opened stores in their droves, service providers added products and gimmicks higgledy-piggledy. Everyone was enjoying fat margins and nobody worried about costs or efficiency. That is the bane of working in an environment flush with petrodollars. Moscow became a boomtown.

Following the Lehman Brothers moment in 2008 companies have pulled in their horns as the easy growth disappeared. Largely unremarked, Russia's productivity was already beginning to grow despite the pell mell pursuit of growth simply as companies became larger and competition increased, probably spurred by the 2008 crunch.

Russian productivity is currently at an all-time high of 229, on the index scale used by the Vienna Institute for International Economic Studies (wiiw), up from an all time low of 68.43 in 1994.

Productivity has been gaining steadily since the early 1990s and surpassed the Soviet-era peak of 111 in 2003, according to the wiiw methodology. Even the 2008 crisis didn't have much of an effect on productivity gains which paused for about a year before starting to grow again at the same pace as in the boom years. Again there was a slight pause in 2013, but it appears that by next year the fast growth will resume.

 

 

Russia has already made a surprising amount of progress in improving its productivity but despite rapid gains since the depression of the early 1990s, Russia remains one of least productive countries in Europe. But there is a lot of catching up to do and even the current fast pace of improvement is not fast enough as productivity gains in the rest of the world are still outpacing those in Russia.

A World Bank study issued a decade ago said that bringing Russia's productivity up from a third of the level of the US to two thirds would double the size of the economy without having to invest a penny.  More recently, another study by McKinsey found that not much progress has been made: Russian productivity is 26% of the US and concluded that if only 10% of Russian workers were as efficient as their US counterparts the Russian economy would expand one and a half-fold.

President Vladimir Putin called to improve Russia's ranking on the World Bank's Doing Business from 120 to 20 by 2018. But while the country has moved up to 51 place already, many people have criticized this index for being superficial and meaningless. Certainly this progress has had no visible impact on productivity: Russian workers were named Europe's least productive by the Organisation for Economic Cooperation and Development (OECD) earlier this year.

Russia's level of labour productivity stood at 25.9 index points on the OECD scale in 2014, the lowest rate among all the European countries, and worse even than even crisis-hit Greece, where the productivity rate stood at 36.2. Russia's productivity is just over half the average European rate of 50 and well behind the US level of 64, according to the OECD estimates.

All this suggests the Kremlin is focusing on the wrong areas. A 2014 poll by Gallup found that simple things like improving the quality of management, promoting a culture of trust and giving more opportunity to older employees would all vastly improve the levels of productivity, and these things cost next to nothing to do.

Putin launched his World Bank Doing Business top-down initiative in 2012 when it looked like the Russian economy was about to emerge from the 2008 crisis. But this time Orlova is arguing that as this crisis is turning out to be worst than that eight years ago, the effort to improve productivity is being driven by bottom-up forces; by companies struggling to make profits in a deep and prolonged recession. That could make all the difference, but it is still too early to tell.