Russia Frees Itself From Oil's Curse
Signs are multiplying that the Russian economy will not die a painful death, but is just taking some long-overdue strong medicine. The country posted unexpected growth in the fourth quarter of 2014, and it can now look beyond oil for drivers of recovery.
Today, the Federal Statistics Service said the Russian economy expanded 0.4 percent in the final three months of last year, while economists expected zero growth. This could be what traders call a dead cat bounce: At the end of last year, as the ruble took a plunge in line with the sinking oil price, Russians were hoarding imported electronics and buying expensive cars they didn't need, expecting a price hike.
Another reason growth continued in that dark, panicky quarter was that "the Russian government and Central Bank were able to respond swiftly with policy responses that successfully stabilized the economy," says Birgit Hansl, the World Bank's lead economist for Russia.
In her latest Russia Economic Report, presented in Moscow today, Hansl is bearish on further growth prospects. The baseline scenario is a 3.8 percent contraction this year and a further 0.3 percent drop in 2016. Hansl and her team believe that Russia hasn't yet fully absorbed the impact from lower oil prices, and they expect drops in incomes and consumption because of high inflation (16.5 percent on average this year) and decreased availability of consumer credit.
Investment demand will also fall off sharply, according to the World Bank, though Hansl and her colleagues concede that "the weaker ruble could create incentives for small-scale expansions in some tradable industries, financed by profits."
Skeptics, however, are likely to be wrong about the scale of the non-oil-based expansion. In a research note circulated today, Ivan Tchakarov, chief economist at the Moscow branch of Citigroup, said it might herald a recovery "similar in nature, but not in magnitude, to the one after 1998."
That year, Russia defaulted on its domestic debt, sharply devalued the ruble and introduced capital controls -- to disastrous effect. Imports became even less accessible than they are now. Gross domestic product dropped 5.3 percent. The following year, it rebounded by 6.4 percent -- mainly because local producers and foreign investors saw the opportunity of filling the lacunas left by ebbing imports in the domestic Russian market.
Tchakarov describes this in more technical terms. In 1999, he explains, the ruble's real effective exchange rate aligned itself with the difference in labor productivity between Russia and its trading partners, making Russian-produced goods more competitive. That growth was not hydrocarbon-driven, and it fueled the emergence of successful Russian companies, especially in the food industry and agriculture.
In the years that followed, rising oil prices made the ruble appreciate faster than the productivity differential improved:
That was Russia's "Dutch disease." It became more profitable to import than to produce locally again. "Russia should have been about 30 percent more productive relative to its trading partners to keep its external competitiveness at the same level as that in 1999," Tchakarov wrote.
Russia's current account surplus shrank from 20 percent of GDP in 2000 to 3 percent now. The country approached the new oil slump relatively unprepared. It does, however, still have the built-in spring that uncoiled in 1999. The chart above shows that the ruble's real effective rate is again in line with Russia's relative productivity. Tchakarov argues Russia will probably also have enough free capacity, in terms of both industrial equipment and labor, to start filling the consumption gap left by imports -- in part because of the beginning slump, which has been driving capacity utilization down:
The only reason Tchakarov doesn't think growth will be as fast as after the 1998 crisis is that he expects low oil prices, which will take the edge off the recovery and put the upper boundary of expansion at about 3.5 percent next year.
Both the relative pessimists, such as Hansl, and the relative optimists, such as Tchakarov, see the same data and expect the same phenomena. They differ only on how much weight to give to various factors. That's a matter of economic modeling, but I side with the optimists for empirical reasons. Russia is a country with a large domestic market that has just seen a sharp decline in imports. Last time that happened, in the late 1990s, corporate Russia, still young and inexperienced, rose to the challenge. Today, economic conditions inside Russia are just as oppressive as they were then, but entrepreneurs are more experienced and have more resources: The hundreds of billions of dollars that capital flight has taken out of Russia can be reinvested, and given current interest rates in Europe, Asia and the U.S., Russia may well be the best place for it (bond investors appear to be already aware of that).
The last time I wrote about Russia escaping its nightmare economic scenario, my post was selectively translated by Russian propaganda outlets. They left out all the parts critical of Russian President Vladimir Putin and made the rest sound more optimistic than I could have been. Just to give an idea, in this pick-up and in this one, the headline, "Putin's Economic Team Plays Houdini," was translated as "Putin's Economic Team Works Miracles." Different propaganda outlets must have received the same orders, down to the wording. So I'm compelled to make it clear this time that my optimism about Russia's economic resilience doesn't come with admiration for Putin, or even for his highly competent economic team, which has been forced to deal reactively with the consequences of the dictator's military adventures and increasingly hawkish statements.
These people did little for the Russian economy while the country enjoyed high oil prices. They accumulated enough foreign reserves to carry the country through a second economic crisis, but they didn't improve the investment climate, stifle corruption or deregulate the economy. These difficult tasks will be left to tackle after Putin is gone. I strongly believe that the current potential for a Russian rebound exists despite the president's actions and leanings. It's the normal resilience of a rather open economy in a highly sophisticated country. It's the power of capitalism, not the Putin regime.
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