Price Wars and Ruble Hoarders Raise Deflation Fears in Russia

  • Russians increasingly look for savings, driving prices lower
  • Two-year economic contraction has led to a collapse in demand

It’s a case of not keeping up with the Ivanovs.

Russia’s longest recession in two decades has obliterated consumer demand. Price growth has slowed for a seventh month, enough for Bank of America Corp. to warn that the country faces a “sharply rising” risk of deflation. Sberbank CIB’s latest survey of the “the Ivanovs,” using a common last name to describe the typical shopper, found a record 76 percent of respondents describing themselves as price-sensitive and 60 percent trying to save on staples by using promotional offers.

“Price wars are now being waged in retail, but they aren’t like before,” said Alexander Malis, the head of Russia’s largest handset retailer Euroset Holding NV. “This will be the case not for months but years, until the Russian economy recovers.”

For a country that’s struggled to keep prices in check for decades, such attitudes are reshaping a consumer landscape parched by the oil shock and international sanctions. They provide a glimpse into what may be in store after domestic demand withered at a pace unprecedented under President Vladimir Putin, and another piece of the data jigsaw now confronting Bank of Russia Governor Elvira Nabiullina.

Unemployment, Savings

The question is if and when demand can be put back together, with forces such as an increase in youth unemployment adding to the erosion. As price growth slows, households may also opt to save rather than spend, according to Morgan Stanley.

Savings already soared to 14.1 percent of disposable income last year, the highest since 2010 and up from 5.4 percent in 2008, according to the Federal Statistics Service in Moscow. As millions sink into poverty and wages fail to recover, food purchases accounted for more than half of all retail sales in February, the highest proportion in more than eight years, a study found.

Price growth, the bane of many Russians’ existence since the early 1990s -- when inflation peaked at more than 2,500 percent -- now barely registers as a problem. Just 5 percent of respondents said its was the biggest challenge facing the country in March, ranking it ninth behind issues ranging from health care to foreign policy, according to a poll by the state-run All-Russia Center for the Study of Public Opinion.

Worn Out

A pillar of growth in Russia for more than a decade, the consumer is now the sick man of the economy enduring its second year of contraction. With the central bank still predicting a pickup in inflation in mid-year after a bout of ruble weakness at the start of 2016, the resilience of households may have worn so thin that it could throw off the outlook guiding monetary policy.

Data released this week showed consumer grief becoming a force of its own. Everything was in place to get demand back on track last month: the slowest inflation in almost two years was accompanied by the ruble posting the world’s biggest rally for one of its best months on record, a gain of more than 12 percent against the dollar.

Consumer Blues

It made no difference whatsoever. Retail sales plummeted more than forecast by economists, while unemployment and real wages fared worse than the median estimates compiled by Bloomberg.

For Eldar Vakhitov at BNP Paribas SA that suggests the downturn is “structural.” Factors that range from high borrowing costs to repayments of the large debts accumulated in earlier years are souring the outlook for households, according to the London-based economist. “A consumption recovery will be likely postponed to 2017,” he said.

Poor demographics add another wrinkle. The working-age population will continue to contract after shrinking by 5 million since its peak in 2006, cutting Russia’s potential economic growth near zero in 2016-2017, according to BofA economists Vladimir Osakovskiy and Gabriele Foa. With total employment stagnating in recent years, the labor-force participation exceeded 69 percent in 2015, the highest level in the post-Soviet period, BofA estimates.

“The steady reduction of the working-age population in Russia is an important factor behind the current long-term disinflation trend,” the economists said. “The lack of labor force and employment growth is also an integral part of the general weakness of consumer demand, which we expect to persist well into 2016-2017. All of this, we think, should keep broader inflationary pressures constrained in the next several years at the very least.”

‘Sharp Spike’

Using the latest data, BofA’s indicator of deflation risk showed a “sharp spike” to high from minimal.

It’s still an outlier view and the central bank disagrees -- to a point. At least over the short to medium term, First Deputy Governor Ksenia Yudaeva sees no risk of deflation.

Looking around the region shows, however, countries that recently struggled with inflation can succumb to price declines. Romania, which in the early 1990s had inflation above 300 percent, has been in deflation for 10 months. Poland’s annual index has been below zero since July 2014 and the central bank there now predicts prices will continue to fall in the longest run since the mid-1950s.

Budget, Oil

Preoccupying policy makers in Russia are more immediate risks posed by the budget, the ruble and volatility in oil. That’s not surprising after the central bank overshot its target for price growth in 2015 for a fourth year and has conceded it’s at risk of missing its goal in 2017. Its benchmark rate has remained unchanged at 11 percent since July.

A stronger ruble is also taming price growth by making imports cheaper. The Russian currency has appreciated almost 11 percent this year after a 20 percent loss in 2015. It was 0.4 percent stronger at 66.6060 against the dollar as of 7:07 p.m. in Moscow.

Assuming the ruble appreciates to 65 by end-2016, Goldman Sachs Group Inc. predicts annual inflation will slip below 6 percent in the third quarter and finish this year at 4.5 percent. It’s now running at 7.2 percent, according to the central bank.

The consumer gloom may contain any inflation risks that do emerge. Companies like Nestle SA are treading a fine line as they compete for buyers.

“We try not to pass the entire price increase to the consumer in order not to depress sales volumes further,” said Maurizio Patarnello, head of Nestle’s business in Russia and Eurasia. “We try to be efficient and to absorb part of this inflation through savings in our costs.”

Before it's here, it's on the Bloomberg Terminal.