Time Expiring for Russian Regions to Fix Budgets, Fitch Says

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  • Local budgets at risk when 2018 campaign kicks off, Fitch says
  • Regional governments under pressure from high social spending

Time is running out for Russian regions to put their fiscal houses in order, according to Fitch Ratings.

Less than one year remains before preparations for presidential elections in 2018 place their budgets under renewed stress and threaten to push deficits back to record highs, Vladimir Redkin, senior director of international public finances at Fitch, said in an interview in Moscow. About 80 percent of local budgets are “unbalanced,” he said.

Financial strains may deepen across the world’s biggest nation by territory if authorities look to mobilize support before the vote with spending increases as the economy struggles to break out of its longest recession in two decades. Regional governments have grown reliant on federal financing after President Vladimir Putin forced them to raise social outlays three years ago. At the same time, changes in taxation undercut their revenue, a blow from which local administrations have yet to recover.

“This year is the last one when regions can continue to restrain spending growth and reduce their budget deficits,” Redkin said. “Already in 2017, the forthcoming presidential election may lead to risks of a spending increase and a repetition of 2013, when the deficit of regional budgets reached the highest in 10 years.”

Budget Shock

Fallout from Putin’s decisions in the run-up to presidential elections four years ago inflicted greater damage on local budgets than the economic crisis in 2009. An overhaul of how businesses are taxed put them into even deeper financial straits.

Until 2013, most income-tax payments by companies ended up in regions where they are based. Under the new rules in effect since then, local units and their parent companies pay taxes as a consolidated group, leading to a decline in regional revenue.

The government in Moscow has moved to ease the fiscal crisis by helping regions replace commercial loans with subsidized credit from the federal budget, offered at an annual rate of 0.1 percent, giving a total of about 570 billion rubles ($8.7 billion) in 2014 and 2015. That was in addition to 3.8 trillion rubles of federal transfers to regions for grants and subsidies in the last two years.

Easing Pressure

The funding has helped bring the gap in consolidated regional budgets down to 172 billion rubles last year from 448 billion rubles in 2014 and 642 billion rubles in 2013. The median deficit of 85 Russian regions dropped to 6.6 percent of revenue last year from 8.7 percent in 2014, according to Fitch.

Even so, it may be too early for optimism as there’s a risk of political forces turning the trend around. By 2017, spending on public employee wages will rise in all regions because of a 2012 Putin decree, according to Moscow Region Finance Minister Anton Kotyakov.

“We all understand that we’re are in a pre-election period,” Kotyakov said at a conference in Moscow on Thursday. “In 2016, 2017 and 2018, there will be decisions aimed at making authorities more popular.”

Deep Divide

The economic division between the haves and the have-nots runs deep. Almost half the regions posted a deficit in excess of the median level, according to Fitch. The gauge topped 15 percent of revenue in six of them, including Kaliningrad, an exclave between Poland and Lithuania on the Baltic Sea, and Magadan in the Far East, the data show.

Only nine local governments ran a budget surplus last year, including Moscow and the Tyumen region, a major oil-producing area in western Siberia.

“A short-term risk that may pressure regional ratings is the risk of refinancing due to the short debt-redemption profile,” Redkin said. “A long-term risk is the structural imbalance between revenue sources and authority over spending, and a weak institutional environment. That results in a lack of long-term planning in regions.”