Category Archives: Russian investment

28/10/15: Russian Economy Update: Consumption and Debt

Updating Russian stats: September consumption and deleveraging: bigger clouds, brighter silver lining. 

In basic terms, as reported by BOFIT, per Rosstat, Russian seasonally-adjusted retail sales (by volume) fell more than 10% y/y in September, with non-food sales driving the figure deeper into the red. On the ‘upside’, services sales to households fell less than overall retail sales. This accelerates the rate of decline in household consumption expenditure - over 1H 2015, expenditure fell just under 9% y/y. Small silver lining to this cloud is that household debt continued to decline as Russian households withdrew from the credit markets and focused on increased savings (most likely precautionary savings).

Russian households are not the only ones that are saving. Overall external debt of the Russian Federation fell, again, in 3Q 2015, with preliminary data from the Central Bank of Russia figures putting total foreign debt at USD522bn as of end-September, down just over USD30bn compared to 2Q 2015. Per official estimates, ca 50 percent of the overall reduction q/q in external debt came from repayment of credit due, while the other 50 percent was down to devaluation of the ruble (ca 20 percent of Russian external debt was issued in Rubles).

Overall, 3Q 2015 saw some USD40 billion of external debt maturing, which means that over 1/4 of that debt was rolled over by the non-bank corporations. Per CBR estimates, ca 40% of the external debt owed by the Russian non-bank corporations relates to intragroup loans - basically debt owed across subsidiaries of the same percent entity. And over recent quarters, this type of debt has been increasing as the proportion of total debt, most likely reflecting two sub-trends:
1) increasing refinancing of inter-group loans using intra-group funds; and
2) increasing conversion of intra-group investments/equity into intragroup debt (and/or some conversion of FDI equity into intra-group debt).

Over the next 12 months (from the start of 4Q 2015), Russian foreign debt maturity profile covers USD87 billion in maturing obligations against country currency reserves of USD370 billion-odd. As noted by BOFIT, “A common rule-of-thumb suggests that a country’s reserves need to be sufficient to cover at least 100% of its short-term foreign debt to avoid liquidity problems.” Russia’s current cover is closer to 430%. And that is absent further ruble devaluations.

A chart via BOFIT:

16/6/15: Russian FDI Flows in 2014

Per data reported by BOFIT, FDI inflows into Russia fell below 2009 crisis period in 2014. Average 2007-20013 inflows stood at USD55 billion, falling to USD37 billion in 2009. In 2014, FDI inflows totalled only USD21 billion. As expected, net FDI inflows became negative in 2H 2014.

FDI outflows totalled USD56 billion in 2014, in line with the average for 2007-2013 period and relatively steady over all four quarters of 2014.

In a reversal to pre-2013 period, Cyprus was once again the largest destination for outflows of FDI from Russia and (alongside the Bahamas) the largest source for inflows of FDI into Russia - reflective of ongoing flows of funds within Russian enterprises that use off-shore centres for reinvestment of domestic earnings and debt financing. Surprisingly, as BOFIT reports, "Russian FDI flows doubled to the United States and quadrupled to Switzerland". The surprising bit, of course, was not Switzerland…

15/6/15: CBR Cuts Rates to 11.5% in Hope of Lifting Sagging Investment

Central Bank of Russia cut policy rate to 11.5% today from 12.5%, undershooting markets expectation for a 150bps cut to 11.0%. The move was expected and relatively modest cut this time around suggests more heavy cuts in 2H 2015. In part, this reflects relatively sharp decline in growth in April: having contracted modest 1.9% in 1Q 2015, Russian GDP fell at an annual rate of 4.2% in April. Another incentive for CBR to lower rates is the Ruble, which posted surprising comeback in early 2015, putting new pressure on the federal budget. CBR bough USD3.6 billion in May, in an attempt to keep Ruble lower.

Rate cut is a welcome move, but in current environment it also shows just how little room for manoeuvre the monetary policy has. Russian banks are deleveraging. Loans outstanding in the corporate and household sectors have fallen in 1Q 2015. The trend continued in April: SME loans share of total corporate loans fell from 22% in April 2014 to 18% in April 2015. In January-April 2015, corporate lending outstanding was up nominally 17% in ruble terms compared to the same period 2014. Inflation run at around 15.8%, which means that in real terms, corporate loans remained basically flat. Household loans grew by 4% y/y in ruble terms. Which means in real term, level of outstanding loans to households fell. As usual, roughly 1/3 of all corporate loans were denominated in foreign currency.

The rate cut will also help with non-performing loans. Stock of NPLs in the corporate sector rose by roughly 30% y/y in the first four months of 2015 to 6% of the total stock of corporate loans. Household credit NPLs stood at 7%. Both rates of NPLs are relatively benign, by Western standards, but the growth rate in NPLs is worrying. Lower cost of carrying these loans will help alleviate some of the pressures.

Overall, Russian investment remains a major bottleneck for the economy. Chart below shows Russian Investment as percentage of GDP, compared to both the Emerging Asia economies and Emerging Europe economies. This clearly highlights the dire state of Russian investment over 2000-2013, and a significant decline in investment from 2014 on, including the IMF forecasts for 2015-2020 period.

21/5/15: IMF to Russia: Do What You’ve Been Doing, Because We Say So

So the IMF released the summary statement on its Article IV 'consultations' for Russia. The stuff reads like something generated by a pre-historic algo with insight of a first order non-stochastic linear equation.

"The Russian economy is in a recession due to lower oil prices and sanctions. In addition, long-term growth remains low given structural bottlenecks." You have to laugh. IMF knows that sanctions are tertiary to Russian recession. Oil prices are primary and structural slowdown that started in late 2012 is secondary.

"The authorities’ macroeconomic policies have helped stabilize the situation, but there remain significant uncertainties regarding oil prices and geopolitical risks. Given these risks, the macroeconomic policy stance must be prudent." In IMF-speak this means that the Russian authorities did an excellent job so far managing the crisis, but they have done it without using IMF 'advice' or 'tool kit'. Which means that, to IMF, they haven't done it as well as the IMF could have done it. Obviously. Really.

So the bad Russkies better deploy the fabled IMF's 'structural reforms' pack:

  • Stay low budget deficits (on which they really have no choice and are so far planning to do the same without the IMF 'advice'); 
  • Lower central bank rates (which they are already doing without the IMF 'advice'), 
  • Provide "limited stimulus" from the fiscal policy side (which, again, they are doing as much as they can). On Central Bank rates: to remind you, on 30 April, the CBR cut its key rate by 150bp to 12.5%. Without IMF's 'help'. I suspect the CBR will move rates below 10% by the end of 2015, unless there is a major reversal in ruble position, or if inflation reverses its (for now very fragile) moderating dynamics (inflation declined from16.9% y/y in March to 16.4% in April)... and… hold it… 
  • "Finally, re-invigorating the structural reform agenda and avoiding de-integration from the world economy remain crucial to lift potential growth." Ah, there, IMF said it… 'structural reforms'. 

In other words, IMF is clamouring for some credit in the above. Ex-post the start of Russian adjustments, IMF recommends exactly the same adjustments, so when anyone asks what did IMF do when Russia was clawing its way out of the crisis, the IMF can say: we recommended them.

Of course, another bit that fills one with wonder in the IMF statement is how can Russia 'avoid de-integration from the world economy' any differently than it has been doing to-date?

To recap last 12 months or even last 12 years: Russia initiated a huge whirlwind of 'global integration' projects and activities in Asia Pacific, the Central Asia, India and Latin America. May be these are not quite 'global' enough for the IMF? Or should Russia somehow magic up 're-integration' with the EU? Actually it is trying to do so on a bilateral basis (proposing trade sanctions relaxation with a handful of countries) and tried - unsuccessfully so far - with the EU itself. Did Russia 'de-integrate' itself out of South Stream? Did Russia de-integrate itself from joint energy projects in the Arctic? Did Russia 'de-integrate' itself from the debt and investment markets in Europe? Nope, not them - that was the EU de-integrating Russia. But Russia did continue to de-de-integrate itself in nuclear energy sector, for example, in Hungary and Finland and Turkey and elsewhere...

IMF's generalities aside, the Fund updates some of its point estimates for the Russian economy.

A month ago in its April World Economic Outlook update, IMF forecast Russian economy to shrink 3.83% y/y in 2015 and 1.096% in 2016. Now, one month later, the forecast is for the economy to shrink 3.4% in 2015 (a 0.4 percentage points improvement in one month) and post a "mild recovery" (as in positive growth) in 2016. The Fund 2015-2020 projection in April was for an average rate of growth of 0.096% and 2016-2020 average of 0.9%. This time around, the Fund is expecting a medium-term growth to be 1.5% per annum. Seems like at least someone in the Fund is starting to look at the real dynamics in the economy.

Here's more of what the Fund does get right: "Persistently low oil prices or an increase in geopolitical tensions could further weaken the economic outlook... However, in the near-term, sizeable buffers, including high international reserves, low public debt, and a positive net international investment position should help safeguard external sustainability." Yes, the risks are there. But, the idea that Russia is just going to run out of reserves by the end of this year - often repeated by numerous analysts, including some who should know better - is bonkers, unless something really massively negative happens. Which may happen. Or may not. IMF is of little help on this point estimate.

One interesting bit: "The re-pricing of the FX liquidity facilities was adequate. The central bank could consider limiting further the FX allotments to ensure that the facilities remain sufficient for emergency purposes. The announced program of FX purchases to build precautionary buffers is welcome."

Did you hear that? Yes, Russia is again building up its forex reserves. Not the stuff you normally read in the Western press. Things are short-term, for now, but Russian FX reserves bottomed out in the week of April 17th at USD350.5 billion. Last week, they were at USD362.3 billion. Again, things might change and these increases can be reversed, but when was the last time that you read in the mainstream media that the CBR is now buying dollars and euros rather than selling them?

Russia will need higher reserves. Its economy is being held back by the severe impairment to its companies access to capital markets - reaching well beyond the intended targets of the sanctions. The West, which imposed these sanctions under the explicit stipulation that they were not supposed to hurt ordinary businesses and households, is doing absolutely nothing to rectify the problem.

Meanwhile, gross fixed investment continues contracting: in March down for the 15th consecutive month at -5.3% y/y. Net capital inflows in the non-banking sector totalled USD18 billion in 1Q 2015, second weakest in 12 months period, while total net capital inflows were USD32.6 billion - second highest year-to-date. The IMF is forecasting Russian aggregate investment to drop from 21.6% of GDP in 2013 and 19.9% of GDP in 2014 to 17.6% in 2015, before recovering slightly to 17.9% in 2016. This clearly puts strong emphasis on the need to support investment activity in the economy.

The IMF does note the serious drag on medium term growth exerted by the structural weaknesses in the economy. In line with what many, including myself, have argued before, the IMF puts forward a set of very general 'directional' reforms needed:

  • "Less regulation and a reduction of the government’s role in the economy remain crucial to foster efficiency, confidence and investment". It worth noting that the Fund does suggest more and better regulation in the banking sector.
  • "…improving protection of property rights" - a perennial problem that can only be resolved over the long run
  • "…enhancing customs administration and reducing trade barriers" - a problem that is unlikely to be sorted because the Russian Government is pursuing medium-term growth strategy based on imports substitution - a strategy that, if executed correctly (a big 'if') can be quite productive
  • "…empowering the Federal Antimonopoly Service (FAS) to eliminate entry barriers to several sectors/markets" - really a pipe dream at this stage, unfortunately.
  • "…to improve labor force dynamics in the face of negative demographic trends, pension reform should be a priority" - which is something that was well underway prior to 2014 crisis, but got derailed by the extreme demand for dollar liquidity in the system triggered by the 2014 crisis.
Can't wait to see the 70-pages-plus full report. At least it promises colourful charts, if not an incisive insight...